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From Obi on the FNMA Board

Court Grants Fairholme’s Discovery Motion in Fannie, Freddie Suit

By NICK TIMIRAOS

http://blogs.wsj.com/moneybeat/2014/02/26/court-grants-fairholmes-discovery-motion-in-fannie-freddie-suit/

A federal judge on Wednesday granted Bruce Berkowitz’s Fairholme Funds Inc. a motion to conduct discovery in its lawsuit against the U.S. government that challenges changes that the Treasury Department made to its bailout of Fannie MaeFNMA +10.64% and Freddie MacFMCC +10.51%.

The ruling marked an initial victory for shareholders in what figures to be a long-running battle with the U.S. government over its 2012 decision to require Fannie and Freddie to send all of their profits to the government as part of the mortgage companies’ 2008 bailouts.

Judge Margaret M. Sweeney of the U.S. Court of Federal Claims said she would hear the government’s motion to dismiss the lawsuit only after lawyers representing Fairholme had the opportunity to seek evidence that could undermine arguments the government has made in seeking to dismiss the case.

A growing class of shareholders has sued the Treasury to challenge the changes to Fannie and Freddie’s bailout terms. They say the new terms amount to an unconstitutional expropriation of assets and illegal self-dealing between Treasury and the firms’ regulator, the Federal Housing Finance Agency, which is charged with running the companies during their federal conservatorship.

The U.S. had argued that the case should be dismissed and that shareholders’ claims weren’t ripe for review because Fannie and Freddie’s future profitability is unknown and because the firms are still in a government-run conservatorship. Those claims, the government had said, meant plaintiffs couldn’t assert that they had sustained losses resulting from the government’s actions.

Fairholme had said that discovery would allow them to resolve the dispute over the potential to forecast future profitability at the companies, and Judge Sweeney sided with the plaintiffs. “Discovery will enable plaintiffs to confirm that such evidence exists with regard to profitability and additional answer the question as to when, and how, the conservatorship will end,” Judge Sweeney wrote.

The government has also argued that the case should be dismissed because the FHFA acted as the conservator for Fannie and Freddie and not as an arm of the U.S. government. The court granted Fairholme’s request to seek evidence that the FHFA acted “an agent and arm of the Treasury,” which could determine whether the case is allowed to proceed.

“Today’s decision by Judge Sweeney is a positive development for taxpayers, homeowners, and investors. We hope this accelerates exploration of a consensual solution,” said Mr. Berkowitz.

A representative for the Department of Justice, which is handling the case, wasn’t immediately available for comment.

Next month, both Fannie and Freddie will have paid more the U.S. Treasury in dividends than the $187.5 billion in taxpayer infusions they received between 2008 and 2011. Those dividends aren’t allowed to pay down the government’s stake in the companies, which prevents them from exiting government control.

Fannie and Freddie aren’t listed on a major U.S. exchange, following a 2010 delisting. On Wednesday, Fannie shares gained 10.6%, or $0.43, to $4.47. Freddie gained 10.5%, or $0.41, to $4.31.