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Unaffected by bankruptcy, banks that acted as underwriters for bonds issued by WorldCom Inc. suffered a significant legal setback last week when a federal judge ruled that a pension fund can pursue its $5 million suit against the banks in the Philadelphia Court of Common Pleas since the case is unrelated to WorldCom’s bankruptcy proceeding. “The plaintiff is not suing WorldCom and the resolution of this lawsuit will not increase or decrease the size of World-Com’s bankruptcy estate,” U.S. District Judge Timothy J. Savage wrote in his 12-page opinion in Steel Workers Pension Trust v. Citigroup Inc. As a result, Savage ruled that the pension fund’s suit — filed against Citigroup, J.P. Morgan Chase & Co., Lehman Brothers Holdings Inc., Credit Suisse Group and NationsBanc Montgomery Securities — will not affect the administration of the WorldCom bankruptcy, and that the case should therefore be remanded to state court. Lawyers for the banks had removed the case to federal court and filed a motion with the Judicial Panel on Multidistrict Litigation requesting transfer to the Southern District of New York for consolidation with a multitude of securities actions involving WorldCom’s bankruptcy. The banks urged Savage not to remand the case, arguing that it is related to the bankruptcy because the banks have indemnification claims against WorldCom. In the alternative, they asked for a stay until MDL rules on the transfer motion. On May 30 of this year, the MDL panel entered a “conditional transfer order” transferring the case to the Southern District of New York. But despite the conditional transfer order, Savage found that under the MDL panel’s rules, he still retained jurisdiction to decide the plaintiff’s motion for remand. Savage has now granted the remand motion, saying he rejected the banks’ arguments that their indemnification agreements with WorldCom established bankruptcy court jurisdiction. “Any indemnification claim asserted by the underwriter defendants against WorldCom has not yet accrued and would require another lawsuit before it could have an impact on WorldCom’s bankruptcy,” Savage wrote. Citing the 2002 decision by the 3rd U.S. Circuit Court of Appeals in In re Federal-Mogul Global Inc., Savage found that “an indemnification agreement between a defendant and a non-party bankrupt debtor does not automatically supply the nexus necessary for the exercise of ‘related to’ jurisdiction.” Instead, Savage found, “only when the right to indemnification is clearly established and accrues upon the filing of the civil action is the proceeding related to the bankruptcy case. “Where the right to indemnification is contingent on a factual finding in the action not involving the bankruptcy debtor and requires the commencement of another lawsuit to establish that right, there is no effect on the bankrupt estate.” The ruling is a victory for attorneys William S. Lerach, Spencer A. Burkholz and Thomas E. Egler of the San Diego office of Milberg Weiss Bershad Hynes & Lerach who filed the suit along with attorney Peter V. Marks Sr. of Philadelphia. According to the suit, the Steel Workers Pension Trust purchased $5 million of WorldCom bonds in early 2001. The bonds became worthless in July 2002 when WorldCom declared bankruptcy amid revelations that it had manipulated its financial statements. The pension fund’s suit, filed under the Securities Act of 1933, alleges that the underwriting banks were negligent for failing to conduct an adequate due diligence investigation of WorldCom’s financial statements and condition before underwriting and offering WorldCom’s bonds and securities for sale. The pension fund also sued defendant Arthur Andersen, the accounting firm that certified WorldCom’s financial documents. Savage found that the plaintiff is “master of the complaint,” and that the complaint “states a cause of action under the 1933 Securities Act because it permits individual actions against the underwriters and provides for concurrent federal and state jurisdiction.” In a footnote, Savage said that Congress amended the Securities Act in 1998 to place class actions within the exclusive jurisdiction of the federal courts, but that “individual actions can still be brought in either federal or state court.” The pension fund, Savage said, wanted to avoid the inevitable delay in prosecuting a claim against WorldCom in the bankruptcy court, and therefore “deliberately chose not to sue WorldCom.” Instead, Savage found, “the plaintiff elected to pursue claims in the state court for negligence and strict liability directly against the underwriters who have the ability to pay an award of damages.” ‘RELATED TO’ JURISDICTION Lawyers for the banks argued that the pension funds suit is identical to a slew of securities suits already pending before the WorldCom bankruptcy court which has held that they are “related to” the WorldCom bankruptcy case. But Savage said he was required to apply 3rd Circuit law, beginning with the 1984 decision in Pacor Inc. v. Higgins, the seminal case on “related to” jurisdiction. Under Pacor, Savage found, “factual issues common to a civil action and a bankruptcy controversy do not necessarily invoke ‘related to’ jurisdiction. There must be a connection between the purported related case and the bankruptcy case.” Such a connection is made, Savage said, when the outcome of the case “could conceivably have any effect on the estate being administered in bankruptcy.” In Pacor, the plaintiffs had filed suit against Pacor Inc. in the state court seeking damages for asbestos exposure. Pacor then filed a third party complaint against the manufacturer of the asbestos, Johns-Manville Corp., which was in bankruptcy. Invoking the bankruptcy removal statute, Pacor removed the case to federal court for consolidation with the other pending claims against Manville. But the 3rd Circuit rejected Pacor’s argument that the underlying suit would impact the Manville bankruptcy estate. Instead, the court said, “without a judgment for plaintiff Higgins in that action, there could never be a third party indemnification claim against Manville” and Pacor would “still be obligated to bring an entirely separate proceeding to receive indemnification” in the event the plaintiffs secured a judgment against Pacor. Savage found that Pacor “has been widely accepted as establishing the test for ‘related to’ jurisdiction. Although some circuits have “professed reliance” on Pacor while nonetheless finding “related to” jurisdiction even where a separate proceeding was required to establish rights under an indemnity agreement, Savage found that the 3rd Circuit has never strayed from its original holding. “If there was any doubt about the application of the Pacor test, it was dispelled in Federal-Mogul when the 3rd Court rejected the implication that indemnification agreements a fortiori established ‘related to’ jurisdiction,” Savage wrote. In Federal-Mogul, Savage said, the 3rd Circuit rejected the argument that a possible indemnification or contribution claim was “conceivable” as contemplated by Pacor. In doing so, Savage said, the Federal-Mogul court offered a “clear endorsement” of the Pacor holding, and clarified what the Pacor court had meant with its use of the word “conceivable.” The Federal-Mogul court wrote: “The test articulated in Pacor for whether a lawsuit could ‘conceivably’ have an effect on the bankruptcy proceeding inquires whether the allegedly related lawsuit would affect the bankruptcy proceeding without the intervention of another lawsuit.” Lawyers for the underwriting banks argued that the 3rd Circuit’s discussion of Pacor in Federal-Mogul was meaningless dicta, and that the more recent 3rd Circuit decision in Belcufine v. Aloe supports their argument that the 3rd Circuit has explicitly held that written indemnification agreements provide the basis for “related to” jurisdiction. Savage disagreed, saying “Belcufine did not hold or suggest that whenever an indemnification agreement exists, there is a basis for ‘related to’ jurisdiction.” Instead, Savage said, Belcufine “reiterated Pacor‘s premise that a contractual indemnification provision could, but not necessarily, impact the bankruptcy estate, providing the basis for ‘related to’ jurisdiction.” The banks were represented by attorneys Cyrus Amir-Mokri and Jay B. Kasner of Skadden Arps Slate Meagher & Flom in New York; attorney Jason D. Russell of the Skadden Arps office in Los Angeles; and attorneys John G. Harkins Jr. and David W. Engstrom of Harkins Cunningham in Philadelphia. Arthur Andersen was represented by attorney Eliot Lauer of Curtis Mallett-Prevost Colt & Mosle in New York.

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