Three years into the dissolution of Lehman Brothers, a federal judge ruled that a class-action suit against its former officers and directors can move forward - a decision that's expected to put significant pressure on Lehman's already-strained legal insurance fund.  After all, a $250 million fund pales in comparison to the $31 billion in the class-action claims - which is how much plaintiffs spent on Lehman securities.  As often happens in the courts, legal wranglings become a "game of attrition." 

This particular suit - and there are many others - concerns Lehman's use of Repo 105 transactions.  As you're likely to recall, the firm used this "strategy" to drop liabilities from its balance sheet at the end of each quarter.  This made it appear as if the company wasn't quite so leveraged.  Judge Lewis Kaplan ruled that the allegations in the suit provided enough evidence of Lehman executives' intent to mislead shareholders about the firm's poor financial position pre-bankruptcy - so he let the suit move forward.

Lehman Insured Its Directors and Officers.   Lehman bought $250mn of directors and officers insurance to cover conduct that occured between 2007-2008, and another $250mn to cover 2008-2009.  The insurance cover legal expenses and settlements.  However, once these funds run dry, those Lehman directors and executives named in the suits will be personally on the hook for attorneys fees as well as any adverse judgments or settlements.  

To date, according to Federal Bankruptcy Court records, $70mn to $85mn of insurance coverage has already been used for legal fees, while another $15mn has been earmarked for payment to U.S. Airways - as a result of a settlement.  With its green light, the class action lawsuit will easily deplete the fund at an even faster rate - particularly since legal teams have been assigned individually to each officer prepare for further litigation.

Certain interested parties, like the New Jersey Department of the Treasury, are trying to block the U.S. Airways settlement because a payout would deplete an already-shrinking fund that is being allocated on a "first-come, first-served basis."  If the class-action case proceeds for any significant length of time, legal representation will eat away at the insurance fund, leaving much less available for, say, the plaintiffs to recover their lost investments. 

Lose-Lose Situation.   At this point, it's looking more likely to be a "lose-lose" situation for plaintiffs and defendants alike.  Not exactly what the chieftains at Lehman Brothers anticipated when the company operating on all cylinders.  Ditto for the rank and file employees, who plowed much of their compensation back into the company.    [Dealbook. 8/1/11]