On June 22, 2011, a settlement was announced between state and federal regulators and certain Morgan Keegan affiliates. Under the terms of the settlement, Morgan Keegan will pay $200 million through fair funds set up by the regulators for customers who invested in seven affiliated open-end and closed-end bond funds. The $200 million settlement only resolves claims of these regulatory entities.
Parallel Shareholder Actions: Shareholders and former shareholders in Morgan Keegan open-end funds have also asserted claims against Morgan Keegan in a securities fraud class action. (In re Regions Morgan Keegan Open-End Mutual Fund Litigation, No. 2:07-cv-02784-SMH-dkv). Their case, filed on December 6, 2007 in the federal district court for the Western District of Tennessee, was the first lawsuit filed against Morgan Keegan and certain Morgan Keegan affiliates. This case is ongoing. The shareholders in this lawsuit held investments in the Select High Income Fund, the RMK Select Intermediate Bond Fund, and the RMK Select Short-Term Bond Fund (renamed the Helios Select Funds).
A derivative action was also filed in March 2008 on behalf of the Open-End Funds against the Morgan Keegan Defendants (Landers v. Morgan Asset Management, Inc., No. 2:08-cv-02260-SMH-dkv). This case is also now pending in the federal district court for the Western District of Tennessee.
Effects of the Settlements on the Shareholders’ Litigation: The $200 million settlement, (which also includes losses of shareholders of the closed-end funds), will not fully compensate shareholders of both the open-end funds and the closed-end funds for their losses.
Shareholders in the open-end fund securities fraud class action estimate that their damages alone will significantly exceed $200 million. The wrongful conduct alleged in the class action covers a longer period of time and a broader range of conduct than was the subject of the regulators’ Consent Orders and asserts claims against a larger number of persons and entities. Shareholders in the open-end funds derivative action have estimated that the funds’ potential damages exceed $900 million.
The orders issued by the regulatory agencies specifically provide that the amounts distributed to shareholders from the fair funds cannot be used as an offset against any damages that may be recovered in any private litigation. As a result, to the extent that the shareholders’ securities fraud class action and the derivative action may be successful in recovering damages for shareholders, those recoveries will not be reduced by amounts paid to shareholders under the fair funds distributions.
In addition, the factual findings made by the regulatory authorities in their opinions provide important factual support for some of the allegations of the shareholders’ complaints, although these findings by the regulatory authorities cannot be used directly in the private litigation. For example, FINRA's settlement included findings that:
- Morgan Keegan failed to establish, maintain and enforce an adequate supervisory system, including written supervisory procedures reasonably designed to achieve compliance with NASD rules.
- Morgan Keegan's supervisory system and written procedures were not reasonably designed to ensure that its sales literature disclosed certain information as to risk and did not contain exaggerated claims.
- Morgan Keegan failed to adequately describe the nature, holdings and certain risks of the Intermediate Fund.
- Beginning in 2007 when the particular risks associated with the Intermediate Fund's holdings began to impact negatively the holdings in the fund, Morgan Keegan failed to take steps reasonably designed to revise its advertising materials to inform customers of the specific risks of investing in the fund under the current market conditions.
BACKGROUND ON THE REGULATORS’ SETTLEMENT
Securities and Exchange Commission. The SEC’s proceeding and settlement order covered a relatively short period of time: January 2007 through July 2007. The proceeding and order focused on the issue of the respondents’ falsification of the Funds’ portfolio values that fraudulently prevented appropriate reductions in the net asset values per shares of the Funds during 2007. The proceeding also focused on the nearly complete failure to employ fair valuation procedures that had been adopted by the Funds’ board of directors to value securities that did not trade regularly. The settlement in the SEC case included all of the named respondents. Under the terms of the settlement, Portfolio Manager, James Kelsoe is required to pay a fine of $500,000 and is permanently barred from employment in the securities industry.
State Regulators. Regulators from five states (Alabama, Mississippi, South Carolina, Kentucky, and Tennessee) participated in a joint proceeding against Morgan Asset Management, Morgan Keegan, and four individual officers of these entities, including Kelsoe. The States’ action focused on omissions and misrepresentations in marketing materials and regulatory filings such as prospectuses, preferential treatment of certain favored customers in redeeming their shares early, unsuitable recommendations by financial advisers to customers, and failure of supervision and obstruction of the due diligence process by Morgan Keegan’s Wealth Management Division. The settlement included the corporate respondents and Mr. Kelsoe, but did not include the other three individual respondents, who may be subject to hearings in the near future if they have not settled before those proceedings begin.
Financial Industry Regulatory Authority. FINRA, which oversees the activities of member brokerage firms, brought a proceeding solely against Morgan Keegan, which is a FINRA member, charging the use of misleading sales and marketing materials and the failure to file for review all of such materials as required, and with failing to maintain and enforce an adequate supervisory system. The FINRA settlement accordingly applies only to Morgan Keegan & Co., Inc., the brokerage firm. In addition, the FINRA settlement applies only to activities involving the RMK Select Intermediate Bond Fund, but none of the other open-end or closed end bond funds.