Mayberry v. KKR Plaintiffs File Amended Complaint, Refuting Standing Issues in Recent Kentucky Supreme Court Decision

Remember when I said last week that a little birdie told me there was a secret plan to bring the path-breaking fiduciary duty lawsuit, Mayberry v. KKR, back from the dead? Recall this effort to claw back fees and win punitive damages from hedge fund operators KKR/Prisma, Blackstone, and PAAMCO along with other defendants including Henry Kravis and Steve Schwarzman personally, on behalf of the beneficiaries of the just about bankrupt Kentucky Retirement System seemed to have been dispatched by a Kentucky Supreme Court ruling that found the defendants lacked standing because they hadn’t suffered actual losses.

We has assumed the secret plan was revealed with the stunning development of the new Kentucky Attorney General Daniel Cameron intervening in the case, joining the plaintiffs.

But maybe the secret plan was the filing made yesterday on behalf of the original plaintiffs addressing as in refuting the Supreme Court standing issues, or to put it in legal nomenclature, curing the standing defects identified in the Supreme Court ruling. While this is a dramatic development, unlike the Attorney General intervention, it’s not radical.

As the filing embedded at the end of the post explains, the Supreme Court ruling instructed the trial court to dismiss the case, which by implication was without prejudice. The loss on standing issues was based entirely on court decisions made after the initial complaint was filed and amended.

Parties to litigation are permitted to re-file their cases; as the filing below notes, for instance, “….ample federal authority exists for the proposition that a plaintiff is entitled to amend his complaint to comply with intervening change in the law.”

The specific issue was so-called Article III standing, which is a Federal law principle which only some states have incorporated into their laws. Kentucky is one of them. In simplified terms, for a plaintiff to have Article III standing, he must have suffered an “injury in fact”. The very recent US Supreme Court ruling. Thole v. US Bank, on which the Kentucky Supreme Court relied heavily, found that pension fund plaintiffs had not suffered a loss since they had not had their pension benefits reduced; mark to market losses are irrelevant.1 The Kentucky Supreme Court noted that not only were Kentucky Retirement System beneficiaries still getting their payments as promised, but that Kentucky had also made an “inviolate contract” to provide the pension benefits, so the state would step in if Kentucky Retirement System went bust.

The Supreme Court did not hear new arguments from the plaintiffs; it made its ruling based on their so-called First Amended Complaint. It didn’t consider supplemental filings and evidence submitted at the trial court even though those were part of the record. The filing stays just short of grumbling that an argument presented in supplemental filings cited by the trial court judge, Philip Shepherd in his favorable ruling on standing, were not considered by the Kentucky Supreme Court by virtue of considering only the First Amended Complaint

The filing below describes how the plaintiffs were harmed in tangible ways. It also differentiates between the initial plaintiffs, all hired before 2014, who were “Tier 1” or “Tier 2” beneficiaries and together represent roughly 80% of all KRS beneficiaries and later “Tier 3” beneficiaries.

Tier 1 and Tier 2 beneficiaries were stripped of their Cost of Living Adjustments (COLAs) in 2013 which were never part of the state’s “inviolate contract” yet were a benefit the employees were supposed to receive when they had 5% to 9% deducted from their pay. The filing contends that theses individual plaintiffs each lost between $2,000 and $40,000 and collectively, the Tier 1 and Tier 2 beneficiaries, using conservative estimates, have lost over $200 million.

The new filing also removed some of the original plaintiffs (only five of the original Mayberry eight remain) and added three, all of whom are “Tier 3 beneficiaries” hired after January 1, 2014. They do not have a defined benefit pension and their pensions are not backed by the state (they are a hybrid “cash balance” plan where individuals make contributions as in a defined contribution plan, but eventual payouts are based on how the pooled monies perform). The Second Amended Complaint contends they were harmed because even though the plan did show positive returns from 2014 to present, they were diminished due to the high fees and misrepresented performance of the defendant’s products and that more specifically, KRS added to rather than exited hedge funds, as most of its peers did, due to self-serving actions of a KKR staffer who was tasked to work at KRS and deliberately not supervised (juicy new details include an “earn out” contract).

Finally, all beneficiaries were damaged by the fact that their annual deductions also fund health and life insurance plans that are not state backed, are deeply underfunded, and were invested in part in the dodgy hedge fund vehicles.

The filing also points out that the plaintiffs have standing to pursue a derivative case against the defendants. Due to the hour, I don’t have time to review the Kentucky Supreme Court decision, but my dim recollection is they utterly ignored this argument.

The new complaint drops the claims regarding harm to the plaintiffs as taxpayers, as well the KRS trustees and officers to simplify pursing the litigation. However, the Introduction cheerily notes that the Attorney General might take up the taxpayer claim against them and makes clear that the plaintiffs are happy to help.

The complaint adds a new defendant, KKR/Prima’s Michael Rudzik, who is accused with another defendant, Prisma’s then senior executive William Cook, of scheming with KRS Chief Investment Officer David Penden for KKR/Prisma to achieve control of KRS’ entire $1.6 billion hedge fund investments. One reason for adding Rudzik is as a Kentucky resident, he will be unable to escape personal jurisdiction. The filing also adds KKR “John Doe” entities to curtail KKR arguments that whatever Bad Stuff it was up to was outside a legal vehicle included in the pleading.

Other tidbits: the case is going back to the original trial judge Phillip Shepherd. As we pointed out, Shepherd is Kentucky’s analogue to Judge Jed Rakoff: progressive but also seen as careful and well-reasoned. The filing pumps as politely as it can for consolidating discovery with the Attorney General’s effort, which the Attorney General and judge ought to prefer.

Finally note that Michelle Lerach is the lead attorney on this filing with Jeffrey M. Walson as local co-counsel. Anne Oldfather, who had been lead on the original case, with Lerach as her co-counsel, is now one of the many parties who received this document via electronic service, as “Counsel for Certain Plaintiffs”. Maybe another little birdie will tell me what happened here.

In any event, the plaintiffs are seeking an August 17 hearing. After so much delay and so many twists and turns, we’ll see how quickly they can move forward. The defendants are sure to try to put up lots of procedural roadblocks. Assuming the plaintiffs beat those challenges back, the defendants will be highly motivated to settle, since the dirty laundry in this case is not only very damaging but could serve as useful grist for legal action in other venues. That means that the plaintiffs would be best served, in terms of maximizing their recovery, to inflict some pain by proceeding with discovery as well as seeing how damaging the evidence is.

Pass the popcorn. This ought to be fun.

____

1 For those who take interest in pension rulings, the filing has a long discussion of how Thole in many ways is not apposite to Mayberry v. KKR.

00 Mayberry v. KKR Second Amended Complaint
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6 comments

  1. Schmoe

    Note that Blackstone (and presumably the other defendants) have indemnity agreements:

    “The first lawsuit in response to the earlier suit, filed Monday by Blackstone, alleges that KRS’ public declarations of support for the lawsuit is a “blatant breach of its representations,” according to the court filing. While KRS is not a plaintiff in the 2017 lawsuit, Blackstone said that lawsuit is a “rejection of KRS’ contractual representations to BAAM, and because KRS continues to be actively engaged in the prosecution of the Mayberry Action, KRS should be required to reimburse BAAM for its costs in defending this meritless lawsuit, and in the unlikely event of an adverse judgment, for that judgment.” The lawsuit alleges that KRS said in plain language in its contract with Blackstone for an investment in BAAM’s Blackstone Henry Clay Fund that the investment was “suitable” and that the retirement system fully understood the methods of compensation and the nature of and risks associated with the fees involved.”

    https://www.pionline.com/article/20190410/ONLINE/190419988/2-hedge-fund-firms-sue-kentucky-retirement-systems

    That is a little awkward.

    Reply
    1. Yves Smith Post author

      We have pointed out that PE firms have indemnification agreements that amount to waivers of fiduciary duty. If you read the filing. Kentucky has extremely strong statutory fiduciary duties. You can’t contract out of them.

      At least with respect to Kentucky, this provision is not enforceable. It’s no different than a trick some landlords in NYC play, of providing rental agreements that require the tenant not to bring in a roommate. The city’s housing statutes explicitly allow tenants to take in roommates (subject to legal occupancy restrictions, not a landlord say so) and those “no roommate” provisions have never survived a legal challenge.

      Reply
  2. David in Santa Cruz

    This is all about getting to Discovery. The contract terms will doubtless full of fraudulent representations and void-for-violating-Public-policy heads-I-win/tails-you-lose clauses. Then maybe we can start using terms like “theft” and “fraud” that aren’t so easily to make go away with cash payments.

    Interesting that Judge Shepherd, the excellent trial court judge, is still assigned to the case. In a good way…

    Many thanks for the dogged updates about this important litigation.

    Reply
    1. Stupendous Man - Defender of Liberty, Foe of Tyranny

      Shepherd continuing to preside is … perhaps subject to change. Chief Justice Minton has previously disqualified Shepherd in other litigation, and on comparatively minor grounds. See the September 27, 2019, “Order of Disqualification and Appointment” in Commonwealth v. Dickerson, Franklin Circuit Case No. 19-CI-00425, at the link below:

      https://www.documentcloud.org/documents/6432570-26AFranklinCoBeshearDickersonSept2019.html

      See particularly the language in the first ¶ of page 8:

      “But the standard for disqualification under KRS 26A.015 and Rule 2.11 does
      not require actual proof of bias. Rather, the standard simply requires disqualification
      in circumstances where the judge’s impartiality might reasonably be questioned.”

      I consider the grounds to be “comparatively minor” when compared with the grounds presented in an affidavit submitted to the Chief Justice in my own litigation. I indisputably showed judicial conduct that exceeded a mere “appearance of impropriety,” and rose to the level of “actual improprieties.” The Chief Justice ruled:

      “Upon review, it is ORDERED Respondent has failed to demonstrate any disqualifying circumstance that would require the appointment of a special judge under Kentucky Revised Statutes (KRS) 26A.020.”

      The ruling was in spite of the 44 page affidavit, spread over 218 averments, and 360 pages of supporting exhibits. Clearly there was no actual review.

      Reply

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