(Reuters) - If you’re a regular reader of my column, you won’t be surprised by the central finding in a newly-posted draft law review article by law professors Matthew Cain and Steven Solomon of Berkeley, Jill Fisch of Penn and Randall Thomas of Vanderbilt. In “Mootness Fees,” which will eventually be published in the Vanderbilt Law Review, the professors document a phenomenon I’ve been covering for a couple of years: Corporations paying mootness fees to plaintiffs’ lawyers who file and quickly dismiss shareholder class actions challenging M&A deals in federal court. But the professors, some of whom have been tracking the swerving course of shareholder M&A class actions for years, have done the invaluable work of quantifying the rise of mootness fees – and proposing solutions to what they call the “risk of blackmail litigation.”
Mootness fees have come into vogue in the few years since Delaware Chancery Court judges clamped down on fees in M&A class actions, driving the litigation into federal court. Federal court M&A challenges in 2017 and 2018 nearly all concluded with plaintiffs dismissing their claims. Class action settlements – which were the preferred resolution when these cases were litigated in Delaware – are now as rare as Mets championships. Not a single M&A case in federal court resulted in a settlement in 2018, according to paper.
Instead, as the paper reports, plaintiffs’ lawyers simply dismiss the alleged shareholders’ class actions they’ve filed, typically after the corporation has agreed to make an additional disclosure in proxy materials. And typically, those dismissals are accompanied by a payment to plaintiffs’ lawyers, purportedly for obtaining the benefit of additional disclosure.
These mootness fees, which usually fall into the range of $50,000 to $300,000, are not disclosed in every case in which they are paid, the paper said. But the law professors concluded that in 2017, plaintiffs’ lawyers received mootness fees in at least 65% of the M&A cases litigated in federal court. In 2018, the figure was at least 63%. The law professors estimated that in the aggregate, mootness fees to plaintiffs’ lawyers totaled more than $23 million in 2017.
The big problem with mootness fees, according to the paper, is that they’re not subject to court review. When M&A challenges were litigated mostly in Delaware, Chancery Court judges signed off on attorneys’ fees. If the cases in federal court were settled as class actions, they would also be subject to court review and judges would award fees. But under the Federal Rules of Civil Procedure, federal judges need not sign off on mootness fees paid in cases that are voluntarily dismissed by individual plaintiffs at preliminary stages.
The standard for deciding whether shareholders’ lawyers deserve compensation for prompting additional proxy disclosures is already insufficiently demanding, according to the law professors. But when the fees are paid early and the plaintiff dismisses the case, there’s often no scrutiny at all – an oversight gap that some plaintiffs’ firms seem to be exploiting.
As a result, the professors said, mootness fees amount to “an inappropriate tax on the judicial system. Mootness fees and the accompanying litigation not only impose costs on parties to the judicial sphere, they also do not appear to provide appreciable benefits to shareholders.”
The paper names names. A handful of plaintiffs’ firms account for the vast majority of M&A challenges in federal court: Rigrodsky & Long; RM Law; Levi & Korsinsky; Faruqi & Faruqi and Monteverde & Associates. These firms reach actual settlements in less than 5% of their M&A cases in federal court. Almost all of their suits are instead dismissed, most often with the payment of a mootness fee, according to the paper. Monteverde obtained mootness fees in 80% of its cases; the other firms received fees in between 65% and 76% of their M&A suits in federal court.
The law professors said their data indicated that these firms “appear to be more interested in collecting mootness fees than in actively litigating the cases that they file.” Plaintiffs’ firms that specialize in big-ticket securities fraud class actions, the paper said, have generally shied away from the business of filing masses of M&A challenges in federal court. That absence, the professors theorized, suggests the possibility that these cases “are not being filed with the expectation of obtaining a meaningful recovery for the plaintiff class but rather in order to obtain a quick disclosure and mootness fee.”
I emailed name or managing partners at Rigrodsky, RM, Levi & Korsinsky, Faruqi and Monteverde, asking for a response to several critical passages from the law professors’ paper. None of the lawyers got back to me.
So what can be done to curb mootness fees? First, I should point out that the law professors acknowledge that their $23 million estimate for the aggregate total of mootness fees paid in M&A cases is small in comparison to the billions of dollars at stake in the M&A deals that prompted the shareholders’ suits. Nevertheless, the paper argues, courts should not be used as a tool for litigation intended only to gin up fees for plaintiffs’ lawyers. Paying mootness fees for additional disclosures, they argued, poses a “risk of blackmail litigation.”
The solution, they hypothesized, is more judicial scrutiny of mootness fees in federal court. In Delaware, the professors pointed out, Chancery Court judges review proposed mootness fees, but at the moment, there’s no mechanism in federal court procedures to mandate review. Many courts do not even require parties to disclose the existence of a mootness fee, let alone its size.
Transparency is the first step toward curing the problem, according to the law professors. They cite a case I told you about last September, in which U.S. District Judge Thomas Durkin of Chicago determined (2018 WL 457978) that he had inherent power to review a $322,500 mootness fee paid to shareholder firms, including Monteverde & Associates, in a shareholder class action challenging Akorn Corporation’s M&A deal with Fresenius Kabi AG. But as the law professors noted, the court only invoked its power because the mootness fee was disclosed and one shareholder raised a fuss about it.
Federal judges can require disclosure of mootness fees when there is a voluntary dismissal of a class action, the paper said, following the example set by Delaware Chancery Court. Disclosure might prompt more shareholders to take a look at the fees corporations are paying plaintiffs’ lawyers, the paper said, especially if the corporations are also required to reveal the fees in filings at the Securities and Exchange Commission.
But the professors also proposed formalizing judicial review of mootness fees by amending the Federal Rules of Civil Procedure. In particular, they recommended a change to the class action rules that would preclude payment in connection with the voluntary dismissal of a class action unless the payment is approved by the court.
“By providing notice and requiring judicial approval, the court would be able to hear from objectors to the payment, and determine if the payments were justified,” the paper said. “Given the dubious nature of the benefits to defendants of mootness fee payments, and the likelihood that shareholders would object to the practice, we anticipate that disclosure would substantially reduce defendants’ willingness to pay mootness fees.”
Such a rule change, of course, would take years if it were to happen at all. But I’m glad Professors Cain, Solomon, Fisch and Thomas have taken up the cause of transparency for mootness fees. If plaintiffs’ lawyers who use the power of prospective class actions to obtain mootness fees truly deserve a reward when they obtain additional disclosures, they have nothing to fear from judicial review of the payments. If, conversely, they’re abusing the class action process to squeeze defendants for nuisance payouts, judges should put an end to the practice. Either way, as the paper said, it’s time for courts to step up.
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