Charles Schwab 2010 Annual Report Download - page 87

THE CHARLES SCHWAB CORPORATION
Notes to Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Option Price Amounts, Ratios, or as Noted)
marketing. These cases were consolidated in a single action in June and July 2008, in the U.S. District Court for the Northern District
of California. Specific allegations include changes to the investment policy of the fund regarding limits on positions in mortgage-
backed securities without obtaining a shareholder vote; inadequate disclosure of the risks associated with fund investments in
mortgage-backed securities and fund risk management; inaccurate reporting of the fund’s weighted-average duration; and failure to
disclose redemptions of positions in YieldPlus by other Schwab investment funds. The lawsuit seeks unspecified compensatory and
rescission damages, unspecified equitable and injunctive relief, and costs and attorneys’ fees. Defendants named in the lawsuit
include the Company, Schwab, CSIM, the fund itself, Schwab Investments (registrant and issuer of the fund’s shares), Charles R.
Schwab, Randall W. Merk (formerly president of the fund), and current and former trustees and officers of the fund and/or Schwab.
On August 21, 2009, the court certified two classes of plaintiffs for purposes of the federal law claims and a single class of plaintiffs
for purposes of the remaining California state law claim.
On April 23, 2010, and May 14, 2010, the Company entered into separate settlement agreements with plaintiffs in which the
Company, without admitting liability, agreed to a total of $200 million to resolve plaintiffs’ federal law claims and $35 million to
resolve plaintiffs’ California state law claim, respectively. On November 24, 2010, the court preliminarily approved an amendment to
the settlement agreements which resolved a dispute regarding the scope of the original settlements and provided certain class
members an opportunity to opt out of the settlements and pursue separate claims. On January 19, 2011, a single class member filed a
motion to intervene in order to bring a new, alternative class action under California law on behalf of a broader class of plaintiffs than
was certified by the court in 2009. On February 11, 2011, the court denied the motion and confirmed fairness and adequacy of the
settlement agreements, subject to a final fairness determination scheduled for March 10, 2011. For the year ended December 31,
2010, the Company has accrued a reserve of $199 million for the settlements, net of insurance proceeds of $39 million under
applicable policies. In addition, the Company remains the subject of 20 individual arbitration claims seeking $3 million in damages
relating to investments in the Bond Fund, for which the Company has been accruing reserves.
On January 11, 2011, Schwab, CSIM and Schwab Investments, without admitting or denying liability, entered into a settlement with
the SEC of a civil enforcement action for alleged violations of securities laws in connection with the Bond Fund’s investment policy,
disclosures, marketing and internal controls. Monetary relief under the settlement was approved by the U.S. District Court for the
Northern District of California on February 16, 2011. On January 11, 2011, Schwab entered into a separate settlement with FINRA
relating to the fund, and together with CSIM, entered into settlements with Illinois and Connecticut state securities regulators on
January 11, 2011, and January 31, 2011, respectively. The Company has accrued a total of $121 million relating to these settlements.
Total Bond Market Fund Litigation: On August 28, 2008, a class action lawsuit was filed in the U.S. District Court for the Northern
District of California on behalf of investors in the Schwab Total Bond Market Fund™ (“Northstar” lawsuit). The lawsuit, which
alleges violations of state law and federal securities law in connection with the fund’s investment policy, names Schwab Investments
(registrant and issuer of the fund’s shares) and CSIM as defendants. Allegations include that the fund improperly deviated from its
stated investment objectives by investing in collateralized mortgage obligations (CMOs) and investing more than 25% of fund assets
in CMOs and mortgage-backed securities without obtaining a shareholder vote. Plaintiffs seek unspecified compensatory and
rescission damages, unspecified equitable and injunctive relief, and costs and attorneys’ fees. On February 19, 2009, the court denied
defendants’ motion to dismiss plaintiffs’ federal securities law claim, and dismissed certain state law claims with leave to amend. On
April 27, 2009, the court issued a stay of proceedings while defendants appealed the court’s February 19, 2009 decision refusing to
dismiss plaintiffs’ federal securities law claim. On August 12, 2010, the Ninth Circuit Court of Appeals ruled in favor of the
defendants and dismissed plaintiffs’ federal securities law claim. On September 28, 2010, plaintiffs filed a second amended class
action complaint dropping the federal securities law claim and certain of its state law claims. On September 3, 2010, a second class
action lawsuit by a different law firm was filed in the U.S. District Court for the Northern District of California on behalf of investors
in the fund (“Smit” lawsuit). The Smit lawsuit, which also names Schwab Investments and CSIM as defendants, alleges violations of
state law in connection with the fund’s deviation from the performance of its benchmark index and concentration in mortgage-backed
securities, and seeks restitution and disgorgement of management or other fees. The Northstar and Smit lawsuits were related and
assigned to the same judge on October 6, 2010, and on October 11, 2010, defendants filed a motion to consolidate the two cases. On
November 10, 2010, defendants filed motions to dismiss in both cases; the Smit plaintiffs responded to defendants’ motion to dismiss
by filing an amended complaint on December 2, 2010. Defendants moved to dismiss the amended complaint on January 5, 2011. A
decision on defendants’ motion to consolidate and motions to dismiss remain pending with the court.
-68 -