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In an unusual twist to a securities class action settlement, investors in Resource America Inc. would be paid more than $7.4 million to resolve their claims but would have to give back $1 million if the company doesn’t win a future lawsuit against an insurer that refused to contribute to the settlement fund. Senior U.S. District Judge Jan E. DuBois of the Eastern District of Pennsylvania on Tuesday granted preliminary approval of the settlement, clearing the way for notification of a class of investors who purchased Resource America stock between December 1997 and February 1999. In the order, DuBois said he would hold a fairness hearing March 31 to hear any objections to the settlement and consider final approval. In the suit, In re Resource America Securities Litigation, investors claim that Resource America made false and misleading financial statements that exaggerated its revenues and net income. Resource America, a Philadelphia-based finance company that specializes in mortgage loan acquisition, was accused of improperly recognizing gains from the sale of senior liens on its loan portfolio and improperly employing the accretion-of-discount method of recognizing revenue on distressed loans that it purchased at discounts. The suit also says Resource America failed to properly discount cash flows on subordinated loan interests that it had refinanced with other lenders. When an analyst raised questions about the company’s accounting practices in August 1998, the suit alleges, stock prices dropped nearly 30 percent. But investors claim that Resource America continued the alleged fraud by publicly denouncing the analyst’s reports and insisting that its earnings would continue as expected. The stock price rose 26 percent, the suit says, after independent auditors from Grant Thornton LLP issued a report in September 1998 that vouched for the correctness of Resource America’s accounting practices. In February 1999, plaintiffs’ lawyers filed an amended version of the suit that accused accountants at Grant Thornton of playing a key role in continuing the alleged fraud by ignoring “numerous red flags” that, the suit says, should have led to a more thorough investigation of Resource America’s “deceptive accounting practices.” In August 2001, DuBois certified the suit as a class action that included investors who purchased stock as late as Feb. 22, 1999. In doing so, DuBois rejected arguments by defense lawyers who insisted that investors were on notice of the alleged fraud as soon as the analyst reports were made public. According to court papers, Resource America had three “directors and officers” insurance policies — a primary policy through Admiral Insurance Co. with a limit of $3 million, a first-level excess policy through National Union Fire Insurance Co. with a limit of $3 million, and a $4 million second-level excess policy with Lloyd’s of London. In a non-binding mediation, Robert P. Zampano, a retired federal judge from Connecticut, recommended that Resource America pay $7 million, court papers show. Admiral and National Union later agreed to contribute $5 million, but Lloyd’s refused to pay anything, according to court papers. In the settlement, Resource America said it agreed to make a $2 million contribution to the settlement that “should have been made by Lloyd’s.” But under the terms of the settlement, plaintiffs’ lawyers agreed that the investors would give back $1 million if Resource America is not successful in its bad-faith suit against Lloyd’s. Grant Thornton denied any wrongdoing in the case but agreed to pay $425,000 to settle all claims against it. Lead plaintiffs’ attorneys Kevin J. Yourman, Matthew J. Zevin and Vahn Alexander of Weiss & Yourman in Los Angeles said the plaintiffs’ team would be asking that up to one-third of the settlement fund be awarded as attorney fees. Resource America was represented by attorneys Alan J. Davis, William A. Slaughter and Douglas L. Flitter of Ballard Spahr Andrews & Ingersoll in Philadelphia. Grant Thornton was represented by attorneys Richard R. Nelson II, Thomas J. Madigan, Kerrin M. Kowach and Barry G. Cohen of Cohen & Grigsby in Pittsburgh. According to the final version of the lawsuit, the details of Resource America’s alleged fraud scheme involved purchasing distressed loans on income-producing properties, obtaining artificially inflated appraisals on the properties securing the loans, and then selling certain senior loan interests to a related party or others. By relying on alleged artificially inflated appraisals, and recognizing significant non-cash “gain on sale” and “accretion of discount” income, the suit alleges, Resource America was able to overstate its current and historical revenues, earnings and assets. The alleged scheme resulted in inflation of the price of the company’s common stock and allowed the completion of a 1.75 million-share public offering, raising approximately $112 million prior to the payment of underwriters’ fees, the suit says. According to plaintiffs, the alleged scheme began to unravel in August 1998 when rumors circulated that Resource America engaged in fraudulent accounting practices, causing the stock price to drop by more than $5.65, to close at just over $29. Just days later, plaintiffs said, analyst Mark Roberts, the director of research for Off Wall Street Reports, issued a report that said he did not believe Resource America’s accounting “reflects the true economics of business” or “compliance with Generally Accepted Accounting Principals.” On that news, stock prices dropped to just above $19 and continued to decline to a low of $7.25 per share, the suit says. But the suit says prices significantly rebounded after accountants at Grant Thornton issued a series of “false and misleading opinion letters” supporting Resource America’s alleged use of improper accounting methods “despite the fact that Grant Thornton knew or recklessly disregarded the fact that throughout the proposed class period, Resource America Inc.’s method of accounting artificially inflated its reported revenues and earnings in violation of GAAP.”

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