Rulings Issued in IAI Fund Directors Case
October 18, 1999
Five independent fund trustees have won a small victory in a lawsuit originally filed against them as well as Investment Adviser's, Inc., the mutual fund adviser in Minneapolis, Minn., and the IAI Value Fund. Investment Adviser's is a subsidiary of Lloyds TSB of London.
On Oct. 7, Minnesota U.S. District Court Judge Donovan W. Frank dismissed one count of the lawsuit filed this past December against the trustees of the IAI Value Fund. The suit, originally filed by David S. Lo and Lih-Lih C. Lo and former IAI shareholders, charged the fund adviser with securities fraud and the fund's independent trustees with breaching their fiduciary obligation (MFMN, 2/22/99.)
The suit alleged that the fund adviser and its board of directors provided inadequate disclosure regarding the restricted securities held by the fund and misrepresented the method the fund employed to price those securities. It also charged that the fund adviser artificially depressed the price of the IAI Value Fund by not properly valuing a particular portfolio security.
The suit held the fund trustees and one former fund executive liable for producing fund documents that allegedly misled investors as to the nature of privately-held securities purchased for the IAI Value Fund. But Judge Frank dismissed that charge against the trustees and the executive, ruling that the plaintiffs failed to provide a direct link between statements offered in the fund's prospectus and individual statements made by the fund's trustees or executive.
In another small victory for IAI Ventures, Judge Frank dismissed the venture capital arm of IAI entirely as a defendant in the lawsuit.
But the judge dealt a blow to the fund adviser as well as the fund's trustees regarding several other charges alleging misdeeds and securities fraud by allowing the lawsuit to progress.
"...the plaintiff's complaint gives rise to a strong inference that IAI and IAI Funds acted with, at a minimum, inadvertent recklessness," said Judge Frank in the Oct. 7th ruling on the defendants' motions to dismiss the case.
According to Jeff Lewin, a partner with the law firm of Sullivan, Hill, Lewin, Rez & Engel of San Diego, Calif. and attorney for the Los, the intention is to turn the case into a class-action lawsuit. Judge Frank will decide whether to allow the suit to be elevated to class-action status.
The lawsuit, which was amended this past May to include additional shareholders as plaintiffs, arose out of IAI's purchase of Pathnet, a privately-held company engaged in developing a national digital telecommunications network in Washington, D.C. Between 1995 and 1996, IAI purchased several thousand shares of Pathnet for the IAI Value Fund as well as another IAI-sponsored mutual fund, according to the suit. When Pathnet formally announced its intention to file for an initial public offering in early May, 1998, it took several days for the IAI Value Fund's net asset value to reflect that news, the suit said. Subsequently, the fund's net asset value increased 28 percent in one day, the suit charged.
But the Los, who redeemed their shares of the IAI Value Fund on two occasions prior to the fund's share price spike, charged that the fund and its board did not adhere to the daily fair market value securities pricing methodology described in several of the fund's documents. If they had, charged the lawsuit, the fund's share price would have risen more gradually based on frequently updated information, the suit charged.
The lawsuit charges that the Los did not gain the economic benefit of the fund's higher net asset value when they liquidated their shares despite the existence of a special pricing committee, a subset of the full board of directors, specifically charged with valuing illiquid securities such as Pathnet.