[ by Melanie Gretchen ] Goldman Sachs's 2007 litigation over the sales of various collateralized debt obligation securities tied to subprime mortgages is still living on in 2012.  Last week Judge Paul Crotty of Federal District Court in Manhattan refused to dismiss an investor lawsuit accusing Goldman of making misleading statements about its ethical standards – giving plaintiffs' lawyers the green light to delve into the firm for evidence of misconduct. [See What Went Wrong story, "Goldman Hit with CDO Investor Lawsuit"] . The Case. At stake is the sales of 4 CDO's in which Goldman has been accused of having a conflict of interest.  While the firm sold the securities to its investors, it failed to disclose that it was taking short positions against them. In one deal, called "Abacus," the firm did not disclose that its client, the hedge fund Paulson & Company, had engaged in selecting the underlying mortgage-backed securities in order to take a bearish position.  The firm settled an SEC lawsuit by paying a $550 million penalty and admitted it made a "mistake" in not disclosing that "that Paulson's economic interests were adverse to CDO investors." Charges of Fraud. In the investor lawsuit, the plaintiffs, who bought Goldman stock from 2007 through 2010, have alleged that the firm and CEO Lloyd Blankfein committed fraud by making misleading disclosures about how Goldman sought to avoid conflicts of interest like those found in the CDO transactions and not providing notification about the SEC's intention to sue the firm over its conduct.  As such, they were in violation of Rule 10b-5. Goldman's Motion to Dismiss. The firm filed a motion to dismiss the case before any discovery occurred.  In his decision, Judge Crotty was required to accept everything in the investors' complaint as true. Arguments. In the complaint, the investors criticized the firm's statements as misleading, including "Our reputation is one of our most important assets, we have extensive procedures and controls that are designed to ... address conflicts of interest," and "Integrity and honesty are at the heart of our business." In its defense, Goldman provided 2 reasons as to why statements of this type could not be the basis for a securities fraud claim.  First, they were only opinions, it said, and, at worst, constituted statements investors would not take seriously. This argument was not well received by Judge Crotty.  In a footnote in the opinion, he said, "If Goldman's claim of 'honesty' and 'integrity' are simply puffery, the world of finance may be in more trouble than we recognize." The second argument contended that the statements were not "material" because reasonable investors would not consider them important.  However, the standard for materiality is so broad that it is almost impossible to dismiss a case on this ground  The judge found the statements could be of enough importance to investors to allow the case to move forward. Chance of Acquittal. Facing Goldman and Mr. Blankfein are Judge Crotty's consideration of Goldman's admission in the settlement with the SEC that it made a "mistake" in the marketing materials for the Abacus CDO --  as evidence that its statements about ethical standards might have been misleading.  Although the firm neither admitted nor denied liability in concluding the case, the admission did play a part in Judge Crotty's decision,

"Given Goldman's fraudulent acts, it could not have genuinely believed that its statements about complying with the letter and spirit of the law -- and that its continued success depends upon it, valuing its reputation, and its ability to address 'potential' conflict of interests -- were accurate and complete."

What's Next. Going forward, the plaintiffs' lawyers will request a slew of corporate documents and depositions from Mr. Blankfein and the 2 other Goldman executives named as defendants, the firm's president, Gary Cohn, and CFO David Viniar.  To limit damage control, the firm can seek permission from Judge Crotty to file an interlocutory appeal. Under a federal statute, 28 U.S.C. § 1292(b), the judge must conclude that the decision allowing the case to proceed "involves a controlling question of law as to which there is substantial ground for difference of opinion and that an immediate appeal from the order may materially advance the ultimate termination of the litigation." However, judges tend to be reluctant to authorize appeals at an early stage of a case, or reach a quick settlement to minimize scrutiny of its C.D.O. sales.  [CI Note: After all, what's to stop investors from continuing to sue?] For further details, go to [Dealbook, 6/25/12].