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Two mutual fund companies operated by Morgan Stanley and one of its subsidiaries have agreed to pay $41.5 million to settle two class action suits alleging that the funds defrauded investors by overvaluing assets. The Boca Raton, Fla., office of Lerach Coughlin Stoia Geller Rudman & Robbins, along with Goodkind Labaton Rudoff & Sucharow in New York, represented the plaintiff classes in the two cases. Van Kampen Prime Rate Income Trust, a subsidiary of New York City-based Morgan Stanley, agreed to the larger of the two settlements, for $31.5 million. That came in a class action suit filed by investors in 2001 in U.S. District Court in Chicago, involving the Van Kampen Senior Loan Fund. The other settlement, for $10 million, was reached by Morgan Stanley in December 2004, in a suit filed in U.S. District Court in Manhattan. It involved the Morgan Stanley Senior Loan Fund. Morgan Stanley has denied it defrauded investors and did not admit any wrongdoing as part of the settlements. Each settlement sum represents the difference between what investors paid for their shares and what they would have paid if the shares had been fairly priced, said Paul Geller, a partner at Lerach Coughlin. U.S. District Judge Richard Howell in Manhattan has given preliminary approval to the Morgan Stanley settlement and is expected to give final approval May 25. U.S. District Judge William Hart in Chicago was advised Wednesday of the settlement agreement in the Van Kampen suit. “We believe it’s a tremendous victory for investors,” said Joel Bernstein, a partner at Goodkind Labaton. “It was hard-fought litigation at every turn,” Geller said. Jack Reise, another partner at Lerach Coughlin, also represented the investors in the dispute. Lee Garner, a partner at Skadden, Arps, Slate, Meagher & Flom in Chicago who is one of the attorneys representing Van Kampen, confirmed that the settlements had occurred but said the terms were confidential until the agreement is signed. Lawyers at the New York office of Kirkland & Ellis, which also represented the defendants in the Van Kampen case, did not return calls for comment. NET ASSET VALUE INFLATED Geller said his firm initially was contacted by investors who said they’d lost money and wanted to sue their broker. “We don’t do securities litigation,” Geller said. “But when we began to look at the way the fund said they value things, as opposed to how they really value things, we realized that we had an action against the fund.” He and his colleagues examined the way share price is determined for a specific type of mutual fund called a senior loan fund. Senior loan funds are generally marketed as conservative investments that are similar to money markets or Treasury bills in their low level of risk. The term “net asset value” is often used in describing the value of mutual funds. That value is closely aligned with share price. It’s calculated by estimating the total value of the fund’s portfolio, then dividing that value by the number of shares outstanding. If the people responsible for determining the value of the fund’s loan assets overstate such value, the net asset value becomes inflated. As a result, the price per share becomes bloated and investors pay too much for their shares, Geller said. The total valuation of the fund, he noted, determines the level of compensation received by the mutual fund managers.In investigating the clients’ claims, Geller said, he and his colleagues found that the Securities and Exchange Commission had issued clear instructions on how a fund should value its underlying investments. In both cases, the investors’ lawyers believed that the funds’ value was improperly inflated, and sued. PRESSURE TO SETTLE The suits claimed that the net asset value of the funds were vastly overstated in two ways. First, in violation of SEC rules, the funds allegedly failed to use market data that accurately valued the fund’s senior loans when such data were available. Second, the fund assumed, without a reasonable basis, that the senior loans were worth face value, rather than their current fair value. That’s the amount the loan would sell for in a current sale. In some instances, the funds assumed face value for loans even when the underlying debtor corporation was bankrupt. Bernstein said the decisive factor in the Van Kampen case in Chicago was that the defense lost a number of pretrial motions to avoid having a jury hear the case. In another key ruling in that case, Judge Hart ruled just before jury selection that much of the defense expert witness’s testimony was inadmissible. That put pressure on the defense to settle. The Van Kampen litigation, Geller said, also featured courtroom conflict over document discovery. In what Geller said was the most serious dispute, Kirkland & Ellis refused to provide a report prepared by PricewaterhouseCoopers, which was hired by Morgan Stanley to review Van Kampen’s senior loan valuation procedures. “There could not be a more relevant or material document in a case challenging Van Kampen’s valuation,” Geller said. “Yet, it took months of phone calls, letter writing, legal briefing and arguing to get the report.”

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