Expanded Subprime Litigation Wave Hits Sallie Mae

To view this page on The D & O Diary's new website, click here. To see the home page of The D & O Diary's new website, click here.

In a prior post (here), I noted that the subprime meltdown story is no longer just about subprime, and that the crisis spreading to other types of credit could stretch the subprime litigation wave to areas outside of subprime. The lawsuit filed today against SLM Corporation (better known as "Sallie Mae") officially brought the subprime litigation wave to the student lending arena.

According to their January 31, 2008 press release (here) the plaintiffs’ lawyers have filed a securities class action lawsuit in the United States District Court for the Southern District of New York against Sallie Mae and certain of its directors and officers. Even though Sallie Mae is in the student lending business, the complaint (here) refers to "subprime" loans, although in this case the reference is to loans made to students at so-called "non-traditional schools."

According to the press release, the complaint alleges that the defendants concealed from the investing public that:

(a) the Company failed to engage in proper due diligence in originating student loans to subprime borrowers, particularly those attending nontraditional institutions; (b)the Company was not adequately reserving for uncollectible loans in its non-traditional portfolio in violation of generally accepted accounting principles, causing its financial results to be materially misstated; (c) the Company had far greater exposure to anticipated losses and defaults related to its non-traditional loan portfolio than it had previously disclosed; and (d) given the deterioration and the increased volatility in the subprime market and reductions in federal subsidies, the Company would be forced to tighten its lending standards on both its federal loans and private education loans which would have a direct material negative impact on its loan originations going forward.

As I have noted in connection with the running tally I have been maintaining (here) of the subprime lawsuits, as the subprime litigation wave has evolved, it has gotten increasingly more difficult to maintain absolute definitional specificity about what constitutes a subprime lawsuit. The fact that this case uses the word "subprime" is clearly not alone sufficient to answer the question whether or not the case belongs on my tally. I have decided that it does belong on the tally, though, because for some time the evolving subprime litigation wave has really been more about the fallout from the larger credit crisis rather than just about subprime lending in and of itself.

So the addition of the Sallie Mae lawsuit brings the current tally of subprime related securities lawsuits (including lawsuits against the credit rating agencies and against residential construction companies) to 42. The Sallie Mae lawsuit is also the fifth subprime related lawsuit filed so far in 2008.

The Sallie Mae lawsuit also represents another important trend that is driving securities litigation, that is, it is also a lawsuit arising out of a failed merger. I noted recently that the new lawsuit against Levitt Corp. fell into this same category of lawsuits the involve both subprime allegations and allegations relating to a failed attempted merger. The earlier lawsuit against Radian Group also falls into this category. My prior discussion of the failed merger securities litigation trend can be found here. My prior discussion of the attempted Sallie Mae merger deal can be found here.

Another State Street Lawsuit: In an earlier post (here), in which I discussed the $618 million reserve for litigation expenses that State Street posted, I detailed and analyzed five lawsuits that had been filed in connection with investments two of its funds had made in subprime related assets. On January 30, 2007, the Houston Police Officers’ Pension Fund filed yet another lawsuit against State Street (here), this one in the United States District Court for the Southern District of Texas. The lawsuit alleges breach of fiduciary duty, breach of contract, fraud, negligent misrepresentation, and violation of the Texas state securities laws.

This lawsuit is the first of the State Street lawsuits to raise a claim for breach of the securities laws. In my prior post, I noted that, among other things, because the other lawsuits named no individual defendants and raised no securities laws violations (the allegation of a securities law violation being a prerequisite to trigger so-called "entity"coverage), the lawsuits would not seem to implicate the typical D & O policy. But the inclusion of the securities claim in the latest lawsuit raises the possibility that the new lawsuit at least implicates the D & O policy. However, the absence of individual defendants and the involvement of a host of claims that typically would not be covered under a D & O policy could set up a potentially complicated allocation problem. (I reiterate that I have no direct knowledge of State Street's insurance program, and I am expressing no definitive coverage opinions, I am merely making observations based on the publicly available information. The actual circumstances may be quite different than I have assumed).

The Subprime ERISA Lawsuits: In my running tally of the subprime lawsuits (which, again, is here) I have been tracking, in addition to the subprime-related securities class action lawsuits, subprime-related lawsuits raised under ERISA, typically brought on behalf of employees in connection with the company stock held in their defined contribution plan accounts. A January 2008 memorandum by the Greenberg Traurig firm entitled "Suprime Mortgage Crisis Impacts ERISA Plan Investment in Employer Stock" (here) provides an overview of the subprime-related ERISA lawsuits, including the legal issues that are likely to be involved.