Securities arbitration claims against broker-dealers who sold shares of Medical Capital Holdings and Provident Royalties were being filed at a break-neck pace after the SEC charged the issuers with fraud in connection with the offerings. At the same time, class actions were filed across the country against the same brokerage firms.
Some of the broker-dealers who sold the securities have been forced to close and others are in danger of closing, as investors in the issuers attempt to argue that the individual brokerage firms are responsible for the fraud of the issuers.
That legal theory is difficult to prove, as the investor would have to prove that the brokerage firm was aware of the fraud, or should have been aware of the fraud. Still, tens of millions of dollars in arbitration claims is enough to force firms to re-think their strategies with dealing with the claims.
On the other side of the coin, securities attorneys will have their clients opt out of the class actions, since the potential recovery in a class action can often be pennies on the dollar. While class actions can be an excellent way of addressing wide-spread wrongs, the costs in bringing and maintaining a class action that has thousands of plaintiffs are significant. An individual investor with a potential claim should do better in his own arbitration, rather than joining the class.
Those costs are a large factor in decision of firms to attempt to avoid class actions, and to deal with investor claims one on one. Arbitration seems to be where everyone wants to be.
The decisions by one Judge in Texas have twisted this interesting alignment of interests. Judge W. Royal Furgeson Jr. of U.S. District Court for the Northern District of Texas has stayed arbitrations relating to the two offerings. The media is reporting that the Judge forced the investors into the class action, which is odd, and probably unconstitutional. However, that is not the case.
What Judge Furgeson did was to stay the three pending arbitrations one of which were scheduled to begin the following week and two others, which were scheduled to begin later.
The decision is interesting for a couple of reasons. First, according to my reading of the order, the claimants in the arbitration "would apparently be members of the proposed settlement class." It seems to me that either they are members of the class, or they are not, and I presume that all three claimants opted out of the class action. To my mind there is a problem with staying a proceeding brought in another forum, by someone over whom the court does not have jurisdiction.
However, Judge Furgeson relies on caselaw and the All Writs Act, to support his decision. I haven't done the research, but the cases quoted certainly do support the court's order. He also points out that all he is doing is temporarily restraining the arbitrations from moving forward, until he has the opportunity to consider the questions of jurisidiction and whether such relief is appropriate. The Court's concern is for the class, and the potential for the individual arbitrations to expend funds that could be used to pay the class action settlement.
All well and good, but noble purposes does not make the decision right.
I am certainly not a constitutional scholar, but this one just doesn't pass the smell test for me. Aside from the socialistic aspect of this (please, no political emails), I cannot fathom how a judge can stay private arbitration proceedings because it will expend the defendant's available pool of resources to settle the class action, and will give some investors more money than others. I understand the concept in bankruptcy court, but to my mind it has no application in civil court.
The decision also points out other decisions that hold that staying an arbitration, in order to preserve assets for a class action is "not a sufficient basis to limit an opted-out class member's contractual right to arbitrate." THAT makes legal sense to me. These claimants opted out of the class, they decided to go on their own, spend their own time and money to pursue their own claims, giving up the "benefits" of being members of the class.
It will be interesting to see what happens down the road. Assuming he stays the arbitrations on a permanent basis, does he have the power to force those arbitration claimants into the class action? Do they then bear the burden of having spend their own time and money (or their attorneys' time and money) to see it all washed away without compensation and without any benefit? What about the arbitrations that have already concluded? Doesn't the same rationale apply to the arbitration claimants who have already collected their awards? Under this theory, don't they have to return the money?
At the same time, this is a significant victory for Securities America. Defending corporations in these mass tort type actions is a challenge, as one has to deal with the legal issues, the factual issues, and the practical considerations that the firm does not have the money to pay the alleged losses. Fighting an unlimited war on multiple fronts is a problem for companies who are defending these types of claims.
Judge Furgeson's decision addresses some of that. Assuming his stay is not overturned, the Class Action Settlement will provide for a fixed pool of money to pay all claims against the firm, and we can assume that the broker-dealer will be able to stay in business after the payment of all claims. The brokerage firm gets to cap its costs, which for it is a good thing, under the circumstances.
The second interesting point is the reaction from the claimants bar - the attorneys who represent investors against brokerage firms. For years those attorneys have been beating the drum about how unfair arbitration is, and how customers are being forced to give up their right to sue in court. I don't agree with the argument, and still believe that despite its flaws securities arbitrations (which are different than consumer arbitrations) are vastly superior in dispute resolution than court proceedings. But I can respect and understand the argument, even though I disagree.
What makes this all very interesting is that now the customer attorneys are claiming that it is unfair for their clients to be in court. Of course, it is the class action they are arguing against, not the court proceedings in general, but I have to chuckle when I see this quote an investor attorney regarding the restraining order - “It strips the rights of the investors to arbitrate claims and have claims heard by arbitration panels." The quote is usually that arbitration agreements strip the rights of investors to be in court and have their claims heard by a jury.
But that is what I love about securities law. The law is never the same, and neither are the arguments.
We put the decision online
here. InvestmentNews.com has a story on the decision as well,
here.
Puerto Rico has roughly $70 billion in outstanding municipal bonds, which hold the lowest investment grade rating from major rating agencies. Its debt has long been held in municipal bond funds because its bonds are exempt from local, state, and federal taxes, but investor concerns have grown.
