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By Karen Freifeld
NEW YORK (Reuters) - When New York Attorney General Eric Schneiderman gave up a claim for damages against former AIG <AIG.N> chief Hank Greenberg, he also likely neutralized a long-awaited challenge to his office's power.
New York's highest court is scheduled to hear arguments later this month in the case, in which Greenberg is accused of defrauding AIG investors.
A key issue was whether the Martin Act, the state's powerful securities fraud statute, allows the attorney general to recover damages on behalf of shareholders. By withdrawing his claim for damages against Greenberg on April 25, Schneiderman essentially rendered that issue moot.
It is not clear whether Schneiderman factored that threat to his powers into his decision to withdraw the damages claims. But, whatever the reasoning, lawyers who defend clients against the Martin Act said the move has removed an opportunity to weaken the statute.
The Martin Act, enacted in New York in 1921, was resurrected by former Attorney General Eliot Spitzer in the early 2000s to go after everything from late trading to hyped Wall Street research. Under the act, fraud claims do not require proof of intent to deceive, nor proof that anyone was defrauded. And the act allows criminal as well as civil charges.
In the Greenberg case, one question in dispute is whether the Martin Act allows the attorney general to recover damages on behalf of shareholders. Defense lawyers said they were disappointed that the Court of Appeals, the state's highest court, would likely no longer consider the issue.
"It's a damn shame it won't be heard," said Robert McTamaney, a partner at Carter Ledyard & Milburn who defends clients against Martin Act claims and has long been a critic of the law. "Almost every other target has settled because it is such a vicious weapon. Mr. Greenberg is the first significant case, because he's got spine."
Mitchell Lowenthal, a partner at Cleary Gottlieb Steen & Hamilton who has represented banks threatened with the statute, also expressed disappointment.
"It would have been interesting to see what the Court of Appeals thought the proper scope of the Martin Act was," Lowenthal said.
ALLEGATIONS THAT INVESTORS WERE MISLED
Greenberg led AIG for nearly four decades until his ouster in 2005. Shortly afterward, Spitzer, who was attorney general at the time, filed a lawsuit against AIG, Greenberg and former Chief Financial Officer Howard Smith.
The lawsuit accused them of using sham transactions to mislead investors and regulators about the financial condition of AIG, once the world's largest insurer.
AIG settled in 2006, paying $1.64 billion to end federal and state probes into its business practices.
Andrew Cuomo, Spitzer's successor and now New York's governor, continued to litigate the case against Greenberg and Smith, as did Cuomo's successor, Schneiderman.
After an appellate court let Schneiderman pursue the civil fraud claims, Greenberg and Smith appealed to the state's high court.
In a brief to the court, David Boies of Boies Schiller & Flexner, who represents Greenberg, said that the attorney general lacks standing to prosecute claims for money damages on behalf of private entities.
Boies also said the action is pre-empted by federal law. He said the attorney general cannot pursue a de facto securities class action on lower standards of proof when federal laws promote uniformity in regulating securities.
Schneiderman, for his part, has argued in a brief that New York law empowers the office to obtain such damages and that federal securities law preserves state authority to enforce state antifraud laws.
While a spokesman for the Court of Appeals declined to comment on what arguments the court would hear, legal experts said it is now highly unlikely that it would rule on the Martin Act questions.
The state solicitor general, Barbara Underwood, has said the decision to withdraw the damages claims was made after a federal judge approved a $115 million settlement of similar claims brought by investors. She said the state wanted to avoid further delay and expedite a trial seeking to bar Greenberg, 87, and Smith, 68, from working in the securities industry or serving as directors or officers of public companies.
The attorney general's office declined to comment on whether Martin Act considerations affected its decision.
Matthew Gaul, a former chief of the investor protection bureau at the Attorney General's office, said Schneiderman may have decided he had little to gain by opening the matter up to scrutiny.
"This may be a strategic decision by the attorney general's office to not give the court the opportunity to review the extent of the attorney general's powers," said Gaul, who is now an attorney at Steptoe & Johnson.
At the Court of Appeals hearing, scheduled for May 28, Boies is expected to argue that the remaining case against Greenberg should be dismissed.
The case is People v Greenberg et al, New York State Supreme Court, New York County No. 401720-2005.
(Editing by Eddie Evans and Lisa Shumaker)