COLUMN-Why VW was smart to fold in emissions cheating case: Frankel

(The opinions expressed here are those of Alison Frankel, a columnist for Reuters.)

By Alison Frankel

New York June 28 - A few years back, the German automaker Porsche hired Robert Giuffra of Sullivan & Cromwell to defend the company against fraud suits by hedge funds that alleged they lost more than $3 billion shorting Volkswagen (LSE: 0P6N.L - news) shares.

The hedge funds accused Porsche of lying about its 2008 accumulation of VW shares and options, squeezing short-sellers when Porsche revealed that it controlled virtually all of VW's publicly sold stock. Porsche denied the claims and litigated the cases aggressively in both state and federal court - a strategy that looked very smart after appellate judges in both jurisdictions tossed the hedge funds' suits.

Porsche's tactics in the hedge fund litigation contrast sharply with its decision-making in the litigation over Volkswagen's emissions cheating scandal. (Porsche is VW's majority shareholder.)

On Tuesday, as you know, VW announced a settlement worth about $15 billion to resolve civil claims by U.S (Other OTC: UBGXF - news) . government agencies; the attorneys general of 44 states; and owners and leasers of cars equipped with devices designed to defeat emissions tests.

As much as $10.03 billion is earmarked for 475,000 VW owners, who can choose to sell their defective cars back to VW for their pre-scandal resale value or have VW fix their cars to comply with state and federal emissions standards. (So far, VW hasn't come up with a fix acceptable to regulators; if the company can't repair the cars, consumers will have a second chance to sell their vehicles back to VW at the same resale price.)

Either way, VW will also pay car owners and leasers who participate in the class action settlement between $5,100 and $10,000 in cash.

VW didn't put up much of a fight before capitulating in the class action. U.S. District Judge Charles Breyer of San Francisco took over the consolidated consumer litigation last December, about a month before the U.S. government brought its own civil suit against the company.

By mid-April, Volkswagen had reached an agreement in principle to settle with the plaintiffs steering committee, headed by Elizabeth Cabraser of Lieff Cabraser Heimann & Bernstein, and with government regulators. The deal announced Tuesday codifies the terms of the agreement disclosed in April.

In a conference call with reporters on Tuesday, Cabraser said the proposed settlement gives consumers just what their lead lawyers were hoping for.

There will undoubtedly be VW owners who don't like the deal - Virginia plaintiffs lawyer James Feinman, for instance, told me he will object to the settlement and advise his 655 clients not to accept the offer because, in his view, Virginia law requires VW to pay back the full purchase price of the cars, not just the resale value - but for most owners and leasers the agreement will be a relatively fast and happy ending to the emissions scandal.

DECK STACKED AGAINST VW

But what about for Volkswagen? The company's lead counsel in the emissions cheating case is Sullivan & Cromwell, the same firm that litigated so fiercely and successfully in the hedge fund fraud cases against VW's majority shareholder. Why did VW cave so quickly in the emissions case? And can a $15 billion surrender be considered a good outcome for the company?

Giuffra told me in an email statement Tuesday that it can. "We didn't follow a multi-year, grind-it-out litigation strategy, which would have been counterproductive for Volkswagen," his statement said. "The company was committed to making things right for consumers and the environment as fast as we could."

Let's consider the almost uniquely bad facts VW faced. The company's emissions cheating software was detected by California and federal regulators last fall, leading to a rare corporate mea culpa in January. Though VW could have contested the scope of its liability to car owners - and continues to insist that its 3.0-liter engine vehicles are untainted - Judge Breyer has made it abundantly clear from the moment he assumed control of the case that VW was going to have to compensate car owners.

Before Judge Breyer was appointed, VW floated the idea of resolving car owners' claims outside of court, in a company-directed process designed by renowned victims' compensation expert Kenneth Feinberg.

But after a panel of federal judges picked Judge Breyer, the judge said any settlement would have to go through him. And unlike many judges appointed to lead big, complicated cases like this one, Breyer refused to allow the litigation to bog down. He appointed former FBI director Robert Mueller, now a partner at Wilmer Cutler Pickering Hale and Dorr, to mediate settlement talks and informed VW in March that if it didn't come up with an agreement by the following month, he would hold a bench trial this summer to determine the company's liability.

Breyer mused in open court about the environmental damage from VW cars spewing noxious emissions, so the company had good reason to worry about the outcome of a bench trial in a case in which plaintiffs lawyers claimed damages of as much as $30, $40 or $50 billion dollars - before punitive damages or trebling under the racketeering laws. VW's exposure just to state and federal regulators theoretically ran to almost $100 billion.

Against numbers like that, the $10 billion VW has set aside for the class action buyback program looks almost like a bargain - especially because the $10 billion is a ceiling. If owners and leasers of affected cars do not claim all of the money in the fund, whatever is left goes back to Volkswagen, according to the settlement agreement.

AVOIDS COSTLY LITIGATION

VW is probably also hoping that its quick civil settlements with consumers and state and federal regulators will play well with the Justice Department as it contemplates criminal charges against the company. Typically, prosecutors look favorably upon defendants' efforts to compensate victims.

The company also avoided the not inconsiderable cost of litigation. It (Other OTC: ITGL - news) will still have to pay millions of dollars in fees to private lawyers for car owners who decide to accept VW's settlement offer.

The plaintiffs steering committee did not disclose its fee request in Tuesday's filings, and whatever Judge Breyer eventually awards to plaintiffs lawyers will be in addition to the $15 billion VW has already put up.

But by settling so early in the case, the company can credibly argue that plaintiffs lawyers aren't entitled to high fees because they just didn't put in as many hours as these cases usually demand.

And finally, the settlement allows VW to begin repairing relationships with its customers, starting with the marketing of the deal itself. Instead of fighting with people who have bought its cars, the company can try to win back their trust and their business.

Plaintiffs lawyer Elizabeth Cabraser said during Tuesday's call with reporters that VW "really had no choice" but to negotiate in good faith with car owners and regulators because their combined leverage made an agreement "essential to survival" for Volkswagen.

But lots of defendants facing similar pressure have insisted on testing the strength of their case through dismissal motions, discovery battles and opposition to class certification.

VW caved - which was the right move. (Reporting by Alison Frankel. Editing by Anthony Lin.)