3COM AGREES TO PAY $259M IN SECOND-LARGEST SECURITIES FRAUD SUIT PACT
In re 3Com Corp.
Copyright © 2001 Andrews Publications
In the second-largest securities class action settlement in history, computer communications company 3Com Corp. has agreed to pay $259 million in cash to shareholders who claimed that its officers and directors used deceptive accounting to hide a $160 million loss at 3Com's newly acquired modem maker, U.S. Robotics Corp. In re 3Com Corp. et al., No. 97-21083, settlement announced (N.D. Cal., Nov. 3, 2000).
Although a stipulation of settlement has not yet been presented to the federal judge in San Francisco who is overseeing the consolidated action, the parties formally announced the agreement as the suit was about to enter an intensive period of discovery. The case had survived a motion to dismiss under the heightened pleading standards of the Private Securities Litigation Reform Act of 1995 (PSLRA).
The plaintiffs, led by several state and municipal pension funds, had the advantage of using ammunition gained from discovery in a related securities suit in California state court to amend their federal complaint after many of the individual defendants were initially dismissed.
In 1997, after an investigation by the Securities and Exchange Commission, 3Com restated its financial statements to include $160 million in losses at U.S. Robotics that had been shoehorned into the two months immediately preceding their merger. The company's stock price plunged.
Numerous shareholders charged in their suit that 3Com's directors and officers hid the U.S. Robotics loss and the dramatic drop in new orders for its own modems, and also recognized revenue improperly. They claimed that just before the bad news came out, certain executives unloaded large amounts of their stock at inflated prices, for a total profit of more than $200 million.
Even though discovery in the federal suit was stayed until all motions for dismissal had been resolved, as provided under the PSLRA, the plaintiffs were able to take discovery in the state action, which was used to support the allegations of the federal suit. As a result, an amended complaint against all the defendants in federal court later survived a motion to dismiss.
The above state court suit was filed before the enactment of the Securities Litigation Uniform Standards Act in 1998. This statute required all nationwide class actions alleging securities fraud to be brought in federal court, where the heightened pleading standards and discovery stays of the PSLRA would govern.
Plaintiffs' attorney Robert Kaplan, a partner of co-lead firm Kaplan, Kilsheimer & Fox in New York, noted, "In repleading in federal court, plaintiffs were able to use the discovery obtained in the state court action to include more specific allegations in the final complaint in federal court."
Once the federal complaint survived the threshold motion to dismiss as to all the defendants, the door was opened to discovery of nearly 500,000 pages of documents - and to settlement talks and mediation efforts last summer.
"The action had risks for both sides; the 'hidden period' issue with the $160 million 'hidden loss,' the alleged improper revenue recognition and the huge insider selling were issues that plaintiffs believed would have resonated with a court and jury," Kaplan said in explaining what kept the two sides at the bargaining table. "Defendants faced a huge risk of adverse rulings and a verdict, although defendants made arguments that SEC rules permitted them to combine 3Com's and [U.S. Robotics'] financials in a fashion which excluded USR's April and May 1997 results."
The defendants might also have convinced a jury that it was not the alleged misrepresentations that made 3Com's stock price go up and/or that the drop was not because of the litigation, he added.
"This settlement represents a substantial recovery for persons who bought 3Com stock during the class period," Kaplan said.
Beside the Kaplan firm, plaintiffs are represented by Alan Schulman, William Lerach and Spencer Burkholtz of Milberg Weiss Bershad Hynes & Lerach in San Diego, and Reed Kathrein of that firm's San Francisco office.