A Legal-Fee Firecracker in the Cendant Case
New York Times - Business - 07.14.98
By Diana B. Henriques
Since 1995, Federal securities laws have been clear about who should be in
charge of a securities class-action case: the plaintiffs with the biggest financial
stake. But what if those plaintiffs are public entities whose officials have
received campaign contributions from the lawyers who represent them in such
cases? How, then, can investors be assured of getting the lowest legal fees?
Those questions have unexpectedly popped up in the huge class-action case against
the Cendant Corporation, the corporate owner of such well-known brands as Avis
car rentals, Howard Johnson hotels and Century 21 real estate offices.
Given the concern about legal fees and campaign contributions, more is at stake
than just the vast sum that vanished in the blink of an eye for Cendant investors.
The cases were born on April 16, when Cendant's high-flying stock plummeted
46 percent, to $19.0625 from $35.625 the night before, wiping out what lawyers
call an unprecedented $14 billion in market value. The plunge came after Cendant
reported accounting irregularities at CUC, a discount shopping club business
that had merged with HFS, Inc. to form Cendant.
Cendant's shares have remained moribund since then, falling $3.125 yesterday
to close at $18.875 on continuing concern about revised financial statements.
More than 50 shareholder lawsuits were filed against Cendant in the weeks after
its stock's swan dive. Since class-action lawyers typically seek about 30 percent
of the amount they recover for investors, it looked like a juicy plum in the
legal basket.
But who would get the biggest slice of it? Thanks to amendments to the Federal
securities laws, adopted in 1995, the likely answer is whoever represents the
three giant public pension funds that claim the biggest losses. All else being
equal, the "lead plaintiffs," who will oversee the case for all affected
shareholders, are to be those with the biggest financial interests at stake,
according to the 1995 amendments.
The California Public Employees Retirement System, known as Calpers, the New
York State Common Retirement Fund and the New York City Pension Funds together
claim to have paper losses of more than $89 million on their Cendant investments.
No other group of plaintiffs even comes close. And those funds have banded together
and selected Bernstein, Litowitz, Berger & Grossman of New York and Barrack,
Rodos & Bacine of Philadelphia to represent them.
That would be the end of this story but for feisty New York class-action lawyer
named Howard Sirota. Mr. Sirota negotiated a $93 million settlement for investors
hurt in the collapse of the Crazy Eddie electronics store chain in the late
1980's.
He tossed a firecracker into the Cendant case Friday by filling a motion in
United States District Court in Newark arguing that the three pension funds
should not be allowed to run the case because they can not assure the lowest
possible legal fees and may be influenced by campaign contributions that have
been made by one of the law firms representing them. Judge William H. Walls
is scheduled to hear arguments on the motion on Aug 4.
Mr. Sirota is urging the judge to conduct a sort of auction, awarding "lead
plaintiff" status to the plaintiff whose lawyers will work for the smallest
percentage of the ultimate recovery, a process pioneered by Judge Vaughn Walker
of United States District Court in San Francisco in the early 1990's.
Max W. Berger, senior partner at Bernstein Litowitz, argued in response to
Mr. Sirota that the 1995 amendments to Federal securities laws "preclude
competitive bidding" as a way of determining who should be lead plaintiff.
"The belief and hope by Congress was that institutional investors would
become more proactive in securities class-action cases - and that seems to be
the case - and that would have a positive effect on the negotiation of fees,"
he argued.
Indeed, he added. "We have agreed to accept fees substantially below the
level that are normally awarded in these cases." But both he and his partners
declined to describe the fee structure. (Mr. Sirota, by contrast, said his team
was willing to handle the case for 15 percent of any recovery up to $100 million
and 10 percent of any additional amount.)
Joseph A. Grundfest, a former member of the securities and Exchange Commission
and now a law professor at Stanford University, flatly disagreed with Mr. Berger
about the 1995 securities law amendments.
"There is nothing in the law preventing a judge from adopting a process
that could only be satisfied by something very much like an auction," he
said. "In a case of this magnitude, you could see that even a 1 percent
reduction in the normal fee would represent millions of dollars that would go
into investors' pockets, not into lawyers' pockets. I could be disbarred for
saying this, but I think that's a better place for the money to go."
While calling for a competitive auction to determine the lead plaintiffs, Mr.
Sirota notes that Berstein Litowitz and its partners contributed more than $40,000
to the election campaign of New York State Comptroller, H. Carl McCall, who
is the sole trustee of the New York State pension fund involved in the case.
"The members of the class have a legitimate interest in considering whether
Carl McCall is going to be principally concerned about the recovery by the investors,
or the potential campaign contributions from the legal community," Mr.
Sirota said. "It raises the 'pay to play' issue in a new context,"
he added, referring to the S.E.C.'s nickname for the genteel influence-peddling
that it fears has tainted the municipal bond market. In response to the commission's
concerns, underwriters of municipal bonds have been barred for several years
from contributing to the campaigns of public officials who award local government
bond business.
Steven A. Greenberg, a spokesman for Mr. McCall, said Mr. Sirota's allegations
were "preposterous." He added, "There is absolutely no truth
to it, and it is offensive." He noted that all three pension funds had
to agree on the choice of counsel, selected from a pool of firms that were qualified
through a competitive review process.
Mr. Berger confirmed that he and his partners had contributed to Mr. McCall's
past campaign, but he said that the donations reflected gratitude for his "courageous"
challenge to Texaco, Inc. when Mr. Berger represented Texaco employees in a
suit over hiring and promotion practices and the the donation had absolutely
no effect on the selection process in the Cendant case.
Still, Mr. Sirota has touched a nerve. With Congress encouraging public pension
funds to get more active on the class-action front, the public officials who
oversee those funds find themselves with a new basket of patronage plums to
distribute - the legal work from such complicated and protracted cases. The
temptation to award those plums to campaign contributors is understandable,
if worrisome, said Mr. Grundfest, who has been monitoring the effects of the
1995 amendments.
"To my knowledge, this is the first time this question has arisen,"
he said. "I think the courts should and will look at it very carefully,
although the remedy would be to look at the selection process for the law firm,
not to change the lead plaintiffs."
He added, "Because of the magnitude of the potential fees, and the relative
clarity of the facts in this case, this might be the ideal circumstance to raise
those issues."
Mr. Sirota could not agree more.
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