Goldman Tries 'Foreign-Cubed' Defence Against Hedge Fund

by Glen Shapiro, LawAndTax-News.com, New York

31 August 2010

The investment bank, Goldman Sachs, is attempting to use a US Supreme Court’s previous ruling on so-called ‘foreign-cubed’ securities cases to have an Australian hedge fund’s USD1bn claim thrown out of the American courts.

The Supreme Court, in Morrison v National Australia Bank earlier this year, changed the ruling on ‘foreign-cubed’ securities cases – those where foreign plaintiffs sue foreign and American defendants for misconduct in connection with securities traded on foreign exchanges – so that they cannot be heard in US courts.

A problem had arisen in the past because of the US Exchange Act’s silence on its extraterritorial application. The Supreme Court held that it “is a longstanding principle of American law that legislation of Congress, unless a contrary intent appears, is meant to apply only within the territorial jurisdiction of the United States. When a statute gives no clear indication of an extraterritorial application, it has none.”

In addition, although there was US activity in Morrison v. National Australia Bank (the alleged deceptive conduct and misleading public statements occurred in Florida), the Supreme Court restated that “the Exchange Act’s focus is not on the place where the deception originated, but on purchases and sales of securities in the US.” The Court’s clear opinion was that the Exchange Act “applies only to transactions in securities listed on domestic exchanges and domestic transactions in other securities.”

Since the Supreme’s Court’s decision, while some have said that it would bring more certainty to the law and would put a brake on “jurisdiction shopping”, others have suggested that it will overly restrict the ability of the Securities and Exchange Commission to remedy frauds originally arising in the US.

Goldman Sachs is now trying to cite the precedent of Morrison v. National Australia so that an Australian hedge fund, Basis Capital, should not be allowed to proceed with its USD1bn claim for compensatory and punitive damages in relation to what it believes were Goldman Sachs’ misleading statements when one of Basis Capital's funds invested around USD80m in credit default swaps linked to tranches of “Timberwolf”, a mortgage-linked collateralized debt obligation (CDO), in 2007.

Basis Capital has alleged that Goldman Sachs did not provide certain key facts on Timberwolf, particularly its cash flows, when its fund invested in Timberwolf, an extremely complex transaction which itself invested in tranches of other CDOs and performance-driven derivatives. When Timberwolf dropped sharply in value soon after its issue, Basis Capital’s fund went into liquidation.

In that regard, Goldman Sachs is expected to assert that Basis Capital, as a professional investor, should have been aware of the risks it was taking. However, Goldman Sachs is also now saying that Basis Capital’s claim is extraterritorial, and should be dismissed, because its fund was Cayman-based, the deal between the two parties was signed in Australia by Goldman Sachs International (a UK company), and the securities involved were not listed on American exchanges.

With regard to that claim of extraterritoriality, Basis Capital has asserted that Timberwolf was structured and marketed by Goldman Sachs in New York, that it was invested in US-based assets and transactions, and that Goldman Sachs International’s executives were merely acting as agents for Goldman Sachs in the US.

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