Transcript Class Action Trends - Energy Insurance Mutual

Energy Insurance Mutual’s
2008 Risk Managers’ Information Meeting
February 25, 2008
Omni Orlando Resort
Orlando, FL
Kevin M. LaCroix, Esq.

Partner, OakBridge Insurance Services, LLC, Beachwood Ohio
– OakBridge is an insurance intermediary specializing in management liability
insurance placements for public and private companies, as well as private equity
and venture capital funds and other alternative investment vehicles.

1995 to 2005: President, Genesis Professional Liability Managers, Inc.
(a Berkshire Hathaway company)

Previously, Partner, Ross, Dixon & Bell, Washington, D.C.

Professional Liability Underwriting Society (PLUS):
– President (2004)
– Board Member (1999-2005)
– Foundation Board Member (current)

Co-Chair, PLUS D & O Symposium, 2007 and 2008

Author, The D & O Diary (Internet weblog)
Current Issues in D & O
 Global Climate Change
 Emerging Frequency Issues
– Subprime-Related Litigation
– Other Frequency Trends
 Options Backdating Update
 Important Legal Developments
– Tellabs, Stoneridge
– Class Action Trials: JDS Uniphase, Apollo Group
 Emerging Issues
– Class Action Opt-Outs, FCPA
Global Climate Change
 Scientific Issue
 Political Issue
 Economic Issue
 Legal Issue
– Property Damage, Bodily Injury Liability Issues
– Investor Liability Issue
Important Context for D & O Liability Issues
 Supreme Court’s April 2007 Decision in Mass. v. EPA
 Existing SEC Disclosure Requirements
 Growing Sentiment for Additional Disclosure Requirements
 Shareholder Expectations
Massachusetts v. EPA (U.S. Supreme Court,
April 2, 2007)
 Holding: EPA violated Clean Air Act (CAA) by improperly
declining to regulate new vehicle emissions standards to
control for carbon dioxide emissions.
 Court did not rule:
– CAA or EPA should regulate mobile source emission
– Auto companies should be liable for emissions
 Two Particularly Significant Elements of Court’s Holding:
– Harm from climate change can confer standing to sue EPA for
failure to comply with CAA requirements
– Greenhouse Gas Emissions (GGE) are “pollutants” under the
CAA.
Existing SEC Disclosure Requirements
 Regulation S-K, Item 101(c)(1)
– Companies must disclose “material effects” of compliance with
environmental regulations
– As new regulations and expectations accumulate, Item 101
Environmental Disclosure will become more significant
 Regulation S-K, Item 303
– Companies required to disclose “material risks, trends and
uncertainties” that could impact revenue or income.
Recent SEC Environmental Disclosure Actions
 ConAgra Foods (June 29, 2007)
– Company reversed $35 million of legal and environmental
expenses to income
– Company allegedly misleadingly failed to disclose that at least
$23.8 million of the reserves were “excess” in prior periods
– One of several allegedly improper practices that misstated
company’s financial performance
– CFO paid $425,000 disgorgement
 Safety-Kleen (Sept. 12, 2002)
– Company allegedly created fictitious income by “reducing
several environmental reserve accounts”
– CFO later plead guilty to criminal securities fraud
SEC Enforcement (cont’d)
 Ashland, Inc. (November 28, 2006)
– Director of Environmental Remediation allegedly improperly
reduced environmental remediation estimates by approximately
$160 million
– Materially understated reserves, understated income
– Company agreed to internal control changes
July 26, 2007 Jenner & Block Legal Memo
 “The SEC has turned its attention on environmental financial
disclosures.”
 “Corporations and corporate executives should certainly be
cognizant of the increased number of civil and criminal actions
being brought by the SEC against corporations and officials
who fail to observe existing environmental reporting
requirements.”
Disclosure: Recent Developments
 September 14, 2007: NY AG Andrew Cuomo Subpoenas Five
Major Energy Companies
– AES Corporation, Dominion Resources, XCEL Energy, Dynegy,
Peabody Energy
– Demanded Information Regarding Their Analysis of Climate
Change related “financial, regulatory and litigation” Risks
– Strongly suggested the need for greater disclosure
 September 18, 2007: CERES SEC Disclosure Petition
– CERES, Environmental Defense Fund, 22 other petitioners
(including public pension funds, etc.)
– Asks SEC to issue interpretive guidance clarifying obligations to
disclose climate change financial impacts
Recent Developments (Continued)
 January 10, 2008: CERES and Risk Metrics Report
– Assessment of 40 largest global banks
– Measured how banks are “addressing climate change through board
oversight, management execution, public disclosure, greenhouse gas
emissions accounting and strategic planning”
 February 11, 2008: Institutional Investors Group on Climate Change
and CERES: Electric Utility “Disclosure Framework”
– “will make it easier for investors to assess and compare risks and
opportunities posed by climate change”
– “captures those climate change issues that are relevant specifically for
electric utilities
– “a unique format for presenting quantitative and qualitative issues in a
coherent way”
Recent Developments (cont’d)
 Oct. 18, 2007: Senators Lieberman and Warner introduce
America’s Climate Security Act of 2007
– Introduces Carbon Emissions Cap and Trade System
– Directs the SEC to confirm Under Items 101 and 303 of Reg. S-K
that “global warming constitutes a known trend”
– Bill still before the Committee on the Environment and Public
Works
Implications
 Mounting Pressure by Investors, Shareholders, Regulators to
evaluate financial impacts from climate change
 Investor Groups Are Focused on Disclosure Issues
– In 2007, more than 43 shareholder disclosure responses were filed with
U.S. Corporations
– Average shareholder support was 21%
 Heightened Expectations Could Create “Disruptive
Disclosures” or Allegations of “Omissions”
Implications
 BOTTOM LINE: In this environment, it is prudent to assume
that investor claims and other D & O claims will arise
 BETTING LINE: Securities Litigation Watch Over/Under Date
of May 31, 2008
Insurance Implications
 Most Policies Do Not Explicitly Address Climate Change or
Global Warming Issues
 “Standard” Pollution Exclusion in Many D & O Policies
– Tailored to Specific Existing Environmental Statues
– AEGIS Policy Omits Pollution Exclusion
– Most Insurers Will Amend to Carve Back Coverage for
Securities and Derivative Claims
– “pollutants”: Does not necessarily include GGE?
 Concerns
– Carve back language should avoid presumption that the claims
will arise in the U.S.
Insurance Implications (cont’d)
 Bodily Injury/Property Damage Exclusion (BIPD)
– Avoid having the BIPD exclusion taking away carve back
coverage grant
– “For” wording preferable rather than “based upon, arising out of,
etc.”
 Rescission Issues
– Some carriers are starting to introduce climate change issues in
renewal applications
– Increased Significance of “Full Severability” and limited
“Imputation”
Insurance Implications (cont’d)
 Side A/Difference in Condition (DIC)
– Increasingly standard part of D & O insurance program
– Many Side A/DIC policies omit the pollution exclusion
– Potential drop down coverage if traditional D & O policy is
unavailable due to coverage preclusion or otherwise
Class Action Frequency Trends: Overview
 Two-Year Lull Between July 2005 and July 2008
 Second Half of 2007: SCA Filings Returned to Historical
Levels
 Number of Filings During November 2007 Highest since
January 2004
 Subprime Litigation was Most Important Factor, but NOT the
only factor
 Over 80 SIC Code Categories
 Significant other groups include Pharmaceuticals (14);
Semiconductors (7); Radio & Telephone Equipment (6)
Class Action Trends: Subprime
 Subprime-related Shareholder Suits
– 43 Securities Class Actions
– 9 ERISA/401(k) Lawsuits
Source: The D & O Diary (as of 2/12/08)
 Many Types of Defendants
– Loan Originators; Securitizers; Residential Home Builders; Bond
Insurers; Credit Rating Agencies
 Spreading Wave:
– Defendants outside Financial Sectors
– Defendants Outside NY, CA, FL
– Other Professional Defendants (Accountants, Offering Underwriters)
Class Action Trends: Subprime (cont’d)
 Likely to Continue to Emerge Well Into 2009
– Plaintiffs’ Lawyers’ Estimate: More SCAs in 2008 than any year
since PSLRA (1995)
 Significant Challenge for Professional Liability Insurance
Industry
– Estimated Losses Range: $3 bb to $8-9 bb
 Underwriting Response?
– Limited to Financial Institutions (so far)
– Has not affected Capacity, Pricing (so far)
Options Backdating Update
 Lawsuit Scoreboard
– 36 Securities Class Action Lawsuits (including 2 in 2008)
– 166 Shareholder’ Derivative Lawsuits
– 4 ERISA/401(k) Lawsuits
 Class Action Resolution Scoreboard
– 3 Dismissals, 7 Settlements Totaling $244 mm
– 26 SCAs Remain Pending
 Derivative Lawsuits Resolution Scoreboard
– 21 Dismissals, 17 Settlements Totaling $60 mm
– (Not Counting $900 mm UnitedHealth Group Settlement)
– 128 Cases Remain Pending
Source: The D & O Diary (February 12, 2008)
Options Backdating Update (cont’d)
 Known settlements total over $300 mm (not including
UnitedHeath Group)
 Many more settlements to go, substantial defense fees
continue to accrue
 Bottom Line: Backdating Will Prove to Have Been a Big Deal
for D & O Insurers
Supreme Court Case Developments
 Tellabs, Inc. v. Makor Issues & Rights, Ltd. (June 2007)
– Courts must weigh “competing inferences” in order to determine
whether allegations raise a “strong inference of scienter
– Inferences must be “cogent and at least as compelling” to
survive motion to dismiss
– Portrayed as defense victory, but in reality: neutral
– On remand to the 7th Circuit, applying Supreme Court standard,
once again reversed district court’s dismissal
– BOTTOM LINE: Balanced approach unlikely to have significant
impact on many cases
Supreme Court Case Developments (cont’d)
 Stoneridge Investment Partners LLC v. Scientific Atlanta
(January 2008)
– Court rejected “scheme liability” claims against secondary actors
(vendors) alleged to have aided primary violators
misrepresentations
– IF case had gone the other way, would have been a plaintiffs’
victory and significant increase in exposure, BUT
– BOTTOM LINE: Actual outcome essentially a Status Quo
Decision
• Unsurprising outcome given prior Central Bank decision
• Third parties can still be held liable as primary violators
• SEC still has statutory “scheme liability” enforcement authority
A Rare Spectacle: Two Class Action Trials
 November 27, 2007: JDS Uniphase Trial
– Defense Jury Verdict
 January 16, 2008: Apollo Group Trial
– Plaintiffs verdict, Damage Award up to $277 million
 Both Cases Still Pending, Likely to Appeal
 Significance?
– Are cases more or less likely to go to trial?
– Will magnitude of Apollo verdict embolden plaintiffs?
– Potential threat to insurance coverage?
Emerging Issues
 Class Action Opt-Outs
– Unprecedented Settlements
• AOL Time Warner: Opt out settlements $795 million
• Qwest: $410 mm Opt Out > $400 million opt outs
– Just an vestige of Corporate Scandals or Lasting Effect?
– Challenge for Insurers and for Policyholders
• Loss Estimates, Reserving
• Claims Settlement
• Limits Adequacy
Emerging Issues (Cont’d)
 Foreign Corrupt Practices Act (FCPA)
– Record Number of 2007 Enforcement Actions
– Record Fines and Penalties
– Increasing Trend toward Follow on Shareholder Lawsuits
• Derivative Lawsuits: Baker Hughes, Siemens, BAE Systems
• Class Action Lawsuits: Willbros Group ($10 mm); Immucor ($2 mm)
The D & O Diary
The D & O Diary
http://www.dandodiary.com
Contact Information
Kevin M. LaCroix
OakBridge Insurance Services
2000 Auburn Drive, Suite 200
Beachwood, Ohio 44122
(216) 378-7817
[email protected]