Cendant, Funds OK Record Settlement for Securities Fraud Suit
A group of big pension funds, including the California Public Employees’ Retirement System, announced a preliminary settlement Tuesday in a securities fraud lawsuit against Cendant Corp. It would bring plaintiffs a record-breaking $2.83 billion.
The pact, which awaits review by a federal judge and smaller plaintiffs, would close the class-action case brought by CalPERS and more than 50 others. The litigation was prompted by last year’s disclosure of accounting irregularities at Cendant, a New York-based franchising and direct-marketing behemoth. Its many brands include the Century 21 real estate brokerage, the Avis car-rental system and the Ramada and Days Inn hotel chains.
Some securities law experts said the cash settlement could add momentum to federal regulatory action against companies’ using financial chicanery to pump up their stock prices.
“This is one of the worst cases of false financial statements that we’ve seen in many years, and it underscores what [Securities and Exchange Commission] Chairman [Arthur] Levitt has been saying about how accounting has become very sloppy, and that the financial statements we’re seeing very often aren’t reliable,” said Alan Bromberg, a securities law professor at Southern Methodist University in Dallas.
Cendant was created in 1997 through the merger of HFS Inc. and CUC International. Officials of the merged company said the accounting irregularities, discovered after the merger, involved efforts by former CUC management to inflate that company’s reported earnings.
Bromberg said the situation points out “the sorts of risks that occur with companies acquiring each other as rapidly as they are these days . . . . One of the striking things about the Cendant case is that it was a good company [HFS] acquiring what turned out to be a bad company.”
The $2.83-billion settlement, if it stands, would be by far the largest payout ever in an investor lawsuit. The current high is the $1.5-billion settlement in 1994 recovered by investors in energy partnerships sponsored by the Prudential Insurance Co. unit once known as Prudential-Bache Securities.
CalPERS, which manages $155 billion in assets, lost a relatively skimpy $24 million when Cendant’s stock plummeted after the accounting scandal broke. CalPERS officials estimate that the fund, and other investors, will recover about half that amount through the settlement.
Officials at CalPERS nevertheless trumpeted the settlement agreement as a major victory against irresponsible corporate management.
Charles P. Valdes, chairman of CalPERS’ investment committee, said the settlement “demonstrates the important role that pension funds play as lead plaintiffs in securities actions. Not only have we recovered a substantial portion of the losses incurred by all class members, but the company is emerging stronger and worthy of greater confidence by the financial markets.”
Cendant also agreed to overhaul corporate governance arrangements to meet “a strict definition of independence” for a majority of its directors, an unusual requirement in such legal settlements. Among other things, Cendant agreed to maintain a compensation committee consisting solely of independent directors and would require shareholder approval for any re-pricing of employee stock options.
The other lead plaintiffs that teamed with CalPERS in negotiating the settlement were the New York State Common Retirement Fund and a group of five New York City employee pension funds. Together, they owned 11.7 million Cendant shares, just a little more than 1% of the company’s outstanding stock.
Both the plaintiffs and Cendant expressed confidence in the company’s ability to pay as much as a $2.83 billion settlement, but how that will be accomplished was left unanswered.
Cendant spokesman Elliot Bloom said tax deductions stemming from the settlement would cover $1 billion of the sum and that insurance would cover “a small amount.” The company also has filed suit to recover damages from former CUC auditors Ernst & Young.
As a result of the settlement, Cendant said it will take an after-tax charge of $1.8 billion, or $2.39 per share, for the fourth quarter of this year. The company said it anticipates another earnings reduction of 12 cents to 16 cents a share for next year as a result of the settlement.
For its third quarter ended Sept. 30, Cendant reported net income of $201.7 million, or 26 cents a share, on revenue of $1.4 billion. In a news release, Cendant Chairman and Chief Executive Henry R. Silverman said that “by eliminating what was by far our largest remaining uncertainty, the settlement effectively brings closure to this most unfortunate event.”
Silverman, in a reference to possible legal action by regulators against former CUC executives, said “further action lies in the hands of the U.S. attorney and the SEC, each of which we believe is aggressively pursuing the responsible parties. While we will continue to actively cooperate, we expect that these matters will not affect the company or its current officers and directors.”
Among Cendant’s other major franchise brands are Resort Condominiums International, Jackson Hewitt, Coldwell Banker and Howard Johnson.
Cendant stock rose $1.31 to close at $18.50 a share on Tuesday in heavy trading on the New York Stock Exchange, apparently a sign of relief among investors that the case is drawing to an end. However, the stock remains about 60% below its level before the scandal broke in the spring of 1998.
“It takes time to rebuild credibility on Wall Street,” said Glenn S. Curtis, an analyst who follows Cendant at Insidertrader.com, a subscription Web site for investors. “In this market, investors have very little patience with companies that have burned them.”
The amount of the settlement to be paid in fees to lawyers representing the plaintiffs has yet to be decided, but is expected to be half or less of the customary 30% to 33% in class-action suits.
