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Federal Circuit Rules that Starr International Lacks Standing to Pursue Class Claims Stemming from the U.S. Government’s Acquisition of AIG Equity

On May 9, 2017, the U.S. Court of Appeals for the Federal Circuit (“Federal Circuit”) affirmed in part and reversed in part an earlier decision from the U.S. Court of Federal Claims, which had held that aspects of the Government’s bailout of AIG constituted an illegal exaction. This case stems from two steps the Government took as part of its bailout of AIG. First, the Government issued a loan to AIG in exchange for preferred shares that were convertible to common shares representing an 80% equity interest in AIG. Second, AIG executed a 1:20 reverse stock split that enabled AIG to have enough unissued and authorized common shares to enable the Government to convert its preferred shares, without the need for AIG shareholder to vote in favor of authorizing enough common shares to allow for the Government’s conversion.  This case proceeded as an “opt-in” class action, and many institutional investors opted in to the class.

Briefly stated, AIG’s largest shareholder, Starr International Co. (“Starr”) asserted claims based on the Government’s acquisition AIG equity (the “Equity Claims”) and claims based on the reverse stock split (the “Stock Split Claims”). With respect to the Equity Claims, Starr alleged that the Government’s acquisition of AIG equity was an illegal exaction because Section 13 of the Federal Reserve Act did not authorize the Government to take equity as consideration for its bailout loan. Additionally, through the Stock Split Claims, Starr maintained that the Government engineered a reverse stock split to enable it to convert the preferred shares it obtained as consideration for the bailout loan into common shares without a shareholder vote, depriving Starr of its ability to block the resulting dilution. In sum, the Federal Circuit (a) reversed the Court of Federal Claims decision that Starr had standing to pursue its Equity Claims, holding those claims were solely derivative; and (b) affirmed the Court of Federal Claims decision that denied relief for the Stock Split Claims, holding the court did not clearly err in finding that the primary purpose of the stock split was to prevent delisting by the NYSE, not to avoid a shareholder vote.

Back in July of 2012, the Court of Federal Claims first addressed the standing issue in its ruling on the Government’s motion to dismiss. The Court of Federal Claims noted that “corporate overpayment” claims, such as Starr’s Equity Claims, are “normally regarded as exclusively derivative.” However, according to the Court of Federal Claims, the Delaware Supreme Court had recognized a “species of corporate overpayment claims that is both derivative and direct in character,” where (a) a stockholder having majority or effective control causes the corporation to issue excessive shares of its stock in exchange for assets of the controlling shareholder that have lesser value, and (b) the exchange causes a decrease to the value or voting power of the public shareholders. The Court of Federal Claims held that the first aspect was met when the Government allegedly forced AIG to overpay for the bailout loan, even though the Government was not a controlling stockholder and had no “fiduciary duty” to AIG’s shareholders at the time it made the bailout loan. Key to the Court of Federal Claims reasoning was that the Government had a “duty” under the Fifth Amendment to avoid taking property without compensation that was analogous to the fiduciary duty owed by a controlling stockholder to minority holders. The court next determined that the second aspect was met because the Government allegedly “extracted from the shareholders, and redistributed to itself, a portion of the economic value and voting power embodied in the minority interest.”

Starr ultimately scored a pyrrhic victory at trial with the Court of Federal Claims ruling in its favor on liability but holding that it had suffered no economic loss because absent the Government’s conduct, AIG would have gone bankrupt.  The court did not substantively address the standing issue again in its post-trial decision, even though it had intimated in early decisions that it could revisit the standing issue once the factual record was more fully developed.

Both sides appealed.  Starr argued, among other things, that the Court of Federal claims erred by applying an economic loss calculation to determine Starr’s loss – or lack thereof.  Rather, Starr argued, the measure of damages on its  illegal exaction claim was equal to the market value of the property exacted at the time of the exaction, which Starr claims was between $24.5 and $35.4 billion, or, at a minimum that $18.3 billion in proceeds the Government eventually made in selling its stake in AIG.  The Government argued, among other things, that the Court of Federal Claims improperly held that Starr’s claims were direct rather than derivative.

On appeal, the Federal Circuit sided with the Government, holding that Starr lacked standing to bring its Equity Claims because those claims were exclusively derivative. First, the Federal Circuit rejected Starr’s argument that it should view the Government’s taking of unissued shares as the physical seizure of shares AIG shareholders. The Federal Circuit then rejected the reasoning of the Court of Federal Claims that, at the time of the bailout, the Government had a duty to protect minority shareholders akin to the fiduciary duty owed by a majority shareholder. The Federal Circuit held that, to the extent the Fifth Amended created a duty, the duty flowed to AIG, not to AIG’s shareholders individually. It further held that a breach of fiduciary duty was an essential element to bringing corporate overpayment claims outside of the general rule that such claims are always derivative. Thus, it held that the Equity Claims were derivativ and Starr lacked standing to assert them.  It did not address Starr’s damages argument.

With respect to the Stock Split Claims, the Court of Federal Claims had ruled that the reverse stock split was not a vehicle designed by the Government to obtain AIG common stock. Rather, the evidence showed that the reverse stock split was necessary in order to raise the price of AIG common shares high enough to avoid delisting on the NYSE. On appeal, Starr argued that this ruling was clearly erroneous. The Federal Circuit disagreed, holding that “[e]ven if the evidence could have led a trier of fact to a different conclusion, Starr has not persuaded us that the trial court clearly erred.” In so holding, the Federal Circuit noted the evidence showed that the Government waited over a year after the reverse stock split to covert its shares, “a gap in time that makes it less likely that the reverse stock split was planned to take away shareholder interests,” as opposed to being aimed at avoiding NYSE delisting.

We expect Starr will file a motion for rehearing en banc and/or a petition for certiorari at the Supreme Court.

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About this Author

Joel Rothman Securities Attorney Mintz Levin

Joel’s practice encompasses a range of complex commercial, securities, insurance, and employment litigation matters, including advising institutional investors with respect to the monitoring and evaluation of both foreign and domestic securities class actions, representing shareholders in post-closing merger disputes, counseling insurance companies in coverage disputes, representing attorneys and insurance brokers against claims of professional negligence, and advising employers on all facets of the employment relationship. He also focuses his practice on representing and advising...

Peter Saparoff Securities Attorney Mintz Law Firm

Peter is an experienced securities litigator both on the plaintiff and defense side. He has defended over 100 cases and investigations. In addition, he chairs the Institutional Investor Class Action Recovery practice which has recovered nearly $7 billion for thousands of mutual funds and other institutional clients. The practice evaluates virtually every securities investor settlement in the world. The practice not only files claims for clients but also assists them in opting out and filing separate cases, both in the US and in international jurisdictions.

Peter is one of the nation’s leading securities litigators and he has represented clients in well over 100 cases, investigations, and proceedings throughout the country. He has successfully defended SEC investigations, class actions, derivative suits, stock exchange proceedings, and state securities investigations, and has handled numerous FINRA arbitrations, among other matters.

Peter, through the Institutional Investor Class Action Recovery Practice, also represents hundreds of institutional investors with respect to the monitoring and evaluation of securities class action settlements. Peter has recovered over $7 billion for institutional clients. He has represented various clients in opting out of or objecting to proposed class settlements and has represented institutions as plaintiffs in various actions. In this role he participates in virtually every securities action that is filed and thus has a unique perspective when representing clients in said cases.

He has succeeded in preventing the vast majority of the dozens of clients he has represented in SEC investigations from being named as defendants or respondents. In matters where the SEC has taken action, Peter has frequently negotiated bars or suspensions, which have enabled the clients to return to their businesses or professions without undue delay.

Peter has represented many clients in FINRA arbitrations and has tried FINRA cases to successful conclusions. He also serves as an FINRA arbitrator.

He is a frequent lecturer and author on securities matters, having written hundreds of articles and papers, including co-authoring the Securities Litigation chapter in the definitive Massachusetts Continuing Legal Education publication, Business Torts in Massachusetts (2016). He has been an Adjunct Professor of Securities Litigation at the Maine Law School. He speaks at many institutional investor and securities industry forums, and is frequently quoted in the press.