On Tuesday a consortium of technology companies, including IBM (IBM), will launch a new initiative designed to help shield the open-source software community from threats posed by companies or individuals holding dubious software patents and seeking payment for alleged infringements by open-source software products.

The most novel feature of the new program, to be known as Linux Defenders, will be its call to independent open-source software developers all over the world to start submitting their new software inventions to Linux Defenders (Web site due to be operational Tuesday) so that the group’s attorneys and engineers can, for no charge, help shape, structure, and document the invention in the form of a “defensive publication.”

Linux Defenders will then also see to it that the publication, duly attributing authorship of the invention to the developer who submitted it, is filed on the IP.com Web site, a database used by the U.S. Patent and Trademark Office and other patent examiners throughout the world when they are trying to determine whether a proposed patent is truly novel, as any patentable invention is supposed to be.

In effect, the defensive-publications initiative mounts a preemptive attack upon those who would try to patent purported software inventions that are not truly novel — i.e., innovations that are already known and in use, though no one may have ever previously bothered to document them, let alone obtain a patent on them, a process usually requiring the hiring of attorneys as well as payment of significant filing fees.

“The idea is to create a defensive patent shield or no-fly zone around Linux,” says Keith Bergelt, the chief executive officer of Open Invention Network, the consortium launching the site. The core members of that group, formed in 2005, are IBM, NEC, Novell (NOVL), Philips, Red Hat (RHT) and Sony.

OIN’s Linux Defender program is being co-sponsored by two of the most prominent guardians of the free- and open-source software community, the Linux Foundation in San Francisco and the Software Freedom Law Center in New York. In addition, the site is being hosted and “co-developed” by New York Law School, which has, since June 2007, been sponsoring, in coordination with the U.S. Patent and Trademark Office, its own well-received, complementary project, known as the Peer to Patent Community Patent Review site. That site solicits assistance from the open-source community to produce evidence that an invention for which a patent is currently being sought was actually already known or in use prior to the patent applicant’s filing.

So-called free- and open-source software is software that, by its licensing terms, confers certain “freedoms” upon users that are usually forbidden by conventional proprietary software companies, like Microsoft. These freedoms include the right to see the software’s source code, alter it, copy it, and redistribute it. The best known open-source product is Linux, or GNU/Linux, a complete open-source operating system that has become quite popular among Fortune 500 corporations for use on their data-center servers. Patents threaten the whole free-and-open-source eco-system, however, in that none of the key open-source freedoms can be practiced if an outsider can establish that a given piece of software infringes a valid patent he holds.

The Linux Defenders program is largely the brainchild of Bergelt, who took over as Open Invention Network’s CEO this past February. The program also reflects a new, more proactive role Bergelt envisions for OIN than the group has played in the past.

Until now, OIN’s purpose has been one-dimensional: to acquire a defensive portfolio of strategically crucial patents, which OIN makes available, royalty free, to any company that reciprocally agrees not to assert any of its own patents against the Linux community. (About 50 companies have already entered into such formal agreements with OIN, of which the best known are probably Google (GOOG) and Oracle (ORCL).) The implicit threat is that if any outsider — a Microsoft, (MSFT) say, which declared publicly in May 2007 that open-source software then violated 235 of its patents — were to ever bring a patent suit against a player in the Linux community, that outsider would, in turn, risk countersuit by OIN or its member companies asserting infringement of their own patents by the outsider.

While this IP-acquisition program remains a central one for OIN, Bergelt says, OIN will also now seek to “think more creatively” about other ways to protect and foster Linux’s development by means of “relationship-building” and “information-sharing,” including efforts to explain the importance of open-source and open-platform approaches to the media, patent officials, and competition authorities, among others.

Befitting someone who plans to tackle this ambitious range of goals, Bergelt has a background that is more diverse than that of his intellectual-property lawyer predecessor, Jerry Rosenthal, who, prior to heading OIN, had served as IBM’s IP-licensing chief. Though Bergelt is also an IP lawyer, he is, in addition, an entrepreneur and diplomat. Immediately prior to joining OIN, Bergelt was the president and CEO of the intellectual-property focused hedge fund Paradox Capital. Before that, he was a senior advisor to private-equity fund Texas Pacific Group (now TPG); headed the strategic intellectual asset management unit at Motorola; and co-founded the strategic intellectual asset management unit within the electronics and telecommunications group at SRI Consulting in Menlo Park. Earlier still in his career, he spent 12 years as a U.S. foreign service officer, including a posting to the U.S. Embassy in Tokyo, where he negotiated IP rights agreements with certain Asian countries, including China.

The Linux Defenders program will actually have three components. The first will be a peer-to-patent component that, like New York Law School’s existing program, will reach out to the open-source community in search of evidence of “prior art” — proof of preexisting knowledge or use of certain inventions — that can be used to challenge applications for patents that have been filed but not yet granted. The goal here is to persuade patent examiners not to grant the patent being sought because the invention is not truly novel.

The second component will be a natural extension of the first, to be known as “Post-Grant Peer to Patent,” which will enlist similar community assistance in the search for prior art relevant to patents that have already actually issued. In this case, the goal would be — assuming such prior art is found — to initiate an administrative reexamination proceeding before the U.S. PTO to get the patent invalidated. (There have been some earlier post-grant, peer-to-patent efforts — sometimes referred to as peer-to-issue programs — by both nonprofits and private companies, but none with the commitment, and on the scale, that OIN envisions, Bergelt says.)

The third component is the defensive-publications initiative. The phenomenon of defensive publication is also not new, Bergelt acknowledges, although it has primarily been used in the past by private companies protecting proprietary business models. Since at least the 1970s, he says, when the filing of an important patent by one company would often spur rivals to respond by seeking inter-related patents designed to restrict the usefulness of the first company’s filing, proprietary companies began using defensive publication to beef up and buffer their core patents.

“They’d file one patent,” Bergelt explains, “and then the next day they’d file thirty defensive publications that would protect all of the extensions of it they could think of, so the core patent was fenced off by layers of barbed wire, if you will. . . . What I’ve done is turn that idea on its head a little bit.” (Defensive publications are cheaper and easier to prepare than full-fledged patent-applications.)

Although some factions of the free- and open-source community are ideologically opposed to the whole notion of software patents — most notably and passionately Richard Stallman, the founder of the Free Software Foundation (which is a client of Linux-Defenders co-sponsor Software Freedom Law Center, which, in turn,  supports the End Software Patents organization) — neither Bergelt nor OIN fall into that camp.

“We’re not anti-patent by any stretch of the imagination,” says Bergelt. “More patents is fine with me, as long as they’re high quality. Quality is the drum we beat.”

In fact, Bergelt says, if a developer wants to get an actual patent on his invention, and then put defensive publications around it, Linux Defenders will help him do so — so long as the developer will ultimately be contributing the patent to the Linux community.

The Wall Street Journal left out one key nugget in its report over the weekend that Motorola (MOT) and Nortel (NT) are considering a joint venture to operate their combined wireless infrastructure equipment business: They’ve already tried this — and failed. Way back in the early 1990s Motorola and Nortel combined their sales teams in North America to sell wireless gear, the heavy metal that phone companies buy so their customers can use cell phones. It was called Motorola Nortel Communications, and it was a flop. Customers preferred dealing with the original companies, and the two parents fought endless turf battles. The joint venture, which died in 1993, lasted just over a year. (One wonders if anyone at either company even remembers this ancient history. Probably not.)

Joint ventures can work, of course. It’s just hard to think of many that do. And in this case, you’ve already got two companies that have the common experience of failure. Perhaps the biggest difference, though, between 2008 and 1993 is that back then Motorola still wanted to be in this business. Today, the diminished giant just wants out.

UPDATE: A Motorola spokeswoman emailed a “no comment” regarding the Wall Street Journal report. She did, however, offer some thoughts on Motorola’s infrastructure business. They’ll be of interest only to insiders, but here they are:
* While the legacy market is slowing, Motorola is experiencing great momentum in wireless broadband and leads the market in WiMAX globally with 60 engagements with customers in more than 41 countries; this year we will be trialing LTE with key customers to enable greater consumer experiences
• That said, Motorola’s networks business is one of the only profitable companies in this area and has been profitable for the past quarters based on our normal ongoing business excluding any special charges.(we publicly stated this in our earnings calls); recently winning contracts with Zain Group in Saudi Arabia as well as Etisalat and Celtel Nigeria.
• In terms of iDEN we are continuing to see traction. In addition to the US customers we have, for example, there are over 5 million subscribers in Latin America alone.

Ed Zander, Fast Eddie to some of his Silicon Valley pals, is a regular wiseacre. When I caught up with him – and his successor, Greg Brown – Friday morning, right after Motorola (MOT) announced he’ll step down Jan. 1 as chief executive of the venerable cell-phone maker, Zander was on his way out the door to speak at the upcoming World Economic Forum meeting in New Delhi. “I’m out there trying to sell phones,” he cracked, implying that his hastily announced departure doesn’t mean he isn’t still flying the flag on Motorola’s behalf.

Motorola is portraying the “transition” in the CEO suite from Zander to Greg Brown as a long planned and orderly move. Curious, then, that when I asked Brown if he had a contract and what its term was he told me that he didn’t yet have one but that such matters would be decided next week. The Motorola board, which fired Chris Galvin just before the company’s fortunes were about to improve, clearly thinks ahead. (Incidentally, Motorola wants it understood that Zander isn’t receiving severance; He will stay on as chairman until the next annual meeting and then as an advisor to Brown until Jan. 5, 2009 — at his full salary as CEO. Sound like a sweet way to say bye-bye to me.)

For a while it looked like Ed Zander was just what Motorola needed, a fast-paced guy from the technology business, not the cell-phone business, to shake up a sleepy culture. But Zander obviously didn’t get the job done. He dissed Motorola’s customers and oversaw the slippage in mobile phone market share from No. 2 to No. 3.

On Friday, Zander didn’t have a lot of good to say about the former team running Motorola’s cell-phone business. “The management in mobile devices made calls that were dead wrong,” he said, referring not so much to massive price slashing on the popular Razr as to the slow-footed move into so-called 3G (for third-generation) multimedia phones. That particular slam was directed at a young guy named Ron Garriques, who headed that division, which is most of Motorola’s business today, before high-tailing it out of Motorola just before the you-know-what hit the fan. Garriques today is part of the crack team turning around Dell (DELL).

Zander didn’t completely distance himself from the Razr debacle, saying that “we were on a roll there” and that “if we had called some of these things right it would have been a phenomenal story, not just a good one.” I happened to write a story about the hugely successful team of engineers who created the Razr. Care to guess the names of two business guys who were, at best, on the periphery of that project and who craned really, really hard to get into the Fortune photo shoot for that article? Ed Zander and Ron Garriques.

I asked the 60-year-old Zander what he accomplished in his four years at Motorola. He stressed a stronger balance sheet, better financial discipline, a rejuvenated cable-equipment business, 13 acquisitions, a valuable patent portfolio, “thought leadership” on Wimax wireless technology, and a Motorola culture that now values fighting and winning. “It’s hard to see all the success when mobile devices isn’t doing well enough,” he says.

As for Brown, who is 47, I’ve known him since he was a junior executive at Ameritech, where his big brother Dick was vice-chairman. (See Colin Barr’s amusing take on Brown’s big bro.) Brown will be completely different from Zander. He’s equally ambitious but wears his ambition more quietly. (Fortune presciently identified Brown as a rising star nearly two years ago.) When I asked Brown what he’ll do as CEO, he instead focused on what he’s done this year as president of Motorola, primarily changing out senior executives in his biggest units as well as mounting a continued attack on Motorola’s cost-structure. I asked him what advice brother Dick had given him. He said his brother told him being CEO would be the best and worst jobs at the same time.

In contrast with Zander, there was little joviality in Brown’s voice. He’s got a big job ahead of him.

[UPDATE: I originally wrote this post on October 8, but am now updating it on October 9 after attending the oral arguments in the case. The updated portions are indicated below in italics.]

On Tuesday morning the U.S. Supreme Court heard oral arguments in what has been widely described as both the most important business case of the term and the most important securities case of the decade.

Though everyone advises against making predictions based on justices’ questions at oral arguments, everyone does so anyway. For what it’s worth, it seemed to me the Court was tending in the pro-business direction by about a 5-3 margin. (Justice Stephen Breyer did not participate.)

Chief Justice John Roberts stressed that in recent years Congress has been active in defining precisely which sorts of securities fraud actions private parties – as opposed to the Securities and Exchange Commission – should be allowed to bring, and that he felt the plaintiffs were asking the Court to “expand” upon those remedies. “We did that sort of thing in 1971,” the Chief Justice said, “But we haven’t now for some time.”

The case, known as Stoneridge Investment Partners v. Scientific-Atlanta, will determine how easy or difficult it will be for plaintiffs lawyers bringing class actions for alleged securities fraud to sue third-parties in addition to the corporation that issued the stock in question. The third parties most frequently targeted are accounting firms, law firms, investment banks, and vendors who did business with the issuer.

Today, if third parties formally sign documents that are included in an issuer’s SEC filings — the way auditors do when companies file their annual reports — there is no question that they can be held liable as “primary violators” if they make false statements. But if their role is anything less direct than that, they can currently be sued, if at all, only under a controversial theory known as “scheme liability”: I.e., they are accused of having committed acts with the “purpose and effect” of furthering the issuer’s allegedly fraudulent scheme. In the Stoneridge case, the Court will either accept or reject “scheme liability” as a legitimate basis for suing third parties in private class-action suits. (The Court is not expected to rule until several weeks after the oral argument, at a minimum.)

In today’s arguments, Chief Justice Roberts and Justices Anthony Kennedy, Samuel Alito, and Antonin Scalia all asked tough questions of Stanley Grossman of Pomerantz Haudek Block Grossman & Gross, who was representing plaintiff Stoneridge, while generally letting Stephen Shapiro of Mayer Brown Rowe & Maw, who argued for the defendants, off more easily. If Justice Clarence Thomas (who, as is his custom, asked no questions) votes with the other conservatives, that would make a majority. (Deputy Solicitor General Thomas Hungar also argued for the United States, supporting the defendant.) On the steps of the courthouse afterwards, former SEC commissioner Joseph Grundfest, the co-director of Stanford University’s Rock Center on Corporate Governance, said – after stressing the usual provisos about the futility and inadvisability of making such predictions – that his count was at least 5-3, and possibly 8-0. (Grundfest had joined a friend-of-the-court brief opposing the concept of scheme liability.)At a stand-up interview being televised elsewhere on the plaza, Nina Totenberg told Stoneridge’s counsel Grossman that, after watching the argument, she couldn’t see how he could get five votes. Grossman replied, “I wasn’t counting.”

The recurring theme of the conservative justices’ questions was that they could not see a practical difference between “scheme liability” and the older, more familiar theory known as “aiding and abetting” liability, which the U.S. Supreme Court barred private plaintiffs from invoking in securities fraud cases in the 1994 case known as Central Bank v. First Interstate Bank. Even Justice David Souter asked plaintiffs counsel Grossman at one point, “are you making a distinction that in the real world is not a distinction?”

On the other hand, questions from Justices Ruth Bader Ginsburg, John Paul Stevens, and, at times, Souter, too, suggested that they might still see room for a meaningful distinction to be drawn between the two concepts.

Six of the nine justices on the Central Bank court are still sitting. Three were in the majority that disallowed the aiding and abetting theory in that case – Justices Kennedy, Scalia, and Thomas – while three were among the dissenters: Justices Ginsburg, Souter, and Stevens. Justice Kennedy, who is often now seen as the Court’s swing vote – because he is the most moderate member of the five-justice conservative faction – wrote the pro-business majority opinion in Central Bank.

More than 30 interested outside groups have submitted “friend-of-the-court” briefs. Briefs in support of the scheme liability concept have been submitted by several of the nation’s largest pension funds, attorneys general for more than 30 states, major labor unions, AARP, the Consumers Federation of America, and the trial lawyers trade group, now known as the American Association for Justice. Briefs opposing the concept have been filed by the U.S. Chamber of Commerce, the major securities exchanges, the securities industry, accounting industry, banking industry, insurance industry, law firms, and law firm insurers. The Solicitor General of the United States has weighed in on the side of the business community – i.e., opposing the scheme liability concept – though it did so over the objections of the Securities and Exchange Commission, which voted, 3-2, to support the concept. (All key briefs are available here.)

Stoneridge specifically focuses on a fraud committed in 2000 by officials of cable operator Charter Communications (CHTR). (Several Charter officials ultimately pled guilty to criminal charges in connection with these acts.) To inflate its revenue, Charter asked two of its set-top box vendors, Scientific-Atlanta (a unit of Cisco (CSCO)) and Motorola (MOT), to bill it $17 million more than previously agreed upon, and then to use that extra money to buy advertising from Charter, which Charter then improperly booked as revenue. The vendors allegedly assisted in the scheme by backdating contracts and providing phony invoices and correspondence to help Charter deceive its accountants into approving the bogus revenue recognition. Neither vendor misrepresented its own finances to its own shareholders, and Charter’s shareholders never directly saw any of the misleading documents prepared by the vendors.

In April 2006 the U.S. Court of Appeals for the Eighth Circuit (in St. Louis) rejected the scheme liability concept and dismissed Stoneridge’s case against the vendors. Two months later, the U.S. Court of Appeals for the Ninth Circuit (in San Francisco) came out the other way in a case known as Simpson v. AOL Time Warner, approving the scheme liability concept. (Time Warner (TWX) is the parent of Fortune’s publisher.)

The most famous scheme liability case is one that is not directly before the Court, but whose presence will obviously loom large at the argument. After the Enron catastrophe, class-action impresario Bill Lerach filed a scheme liability case on behalf of holders of Enron securities against more than ten banks who had allegedly engaged in dubious transactions with Enron whose only apparent purpose was to help Enron draw up misleading financial statements. Lerach has already recovered $7.3 billion in settlements in the case from such banks as Citibank (C), J.P. Morgan Chase (JPM), and CIBC (CM). But in March 2007, the U.S. Court of Appeals for the Fifth Circuit (in Houston) ruled the same way the Eighth Circuit had, rejecting “scheme liability” and tossing out the case against the banks who had not yet settled, which included Merrill Lynch (MER), Credit Suisse (CS), and Barclays (BCS). (Lerach himself is scheduled to plead guilty on October 29 to conspiring to obstruct justice by bribing plaintiffs and deceiving judges in more than 150 shareholder class actions over more than two decades.)

The Stoneridge case is in one respect a very difficult case to decide but, in another, perhaps, quite easy. The difficult part is that, however the court rules, it will make a decision that works some real injustice to someone. If it rejects scheme liability, investors who have been hurt by mammoth frauds that have led to corporate bankruptcies will be unable to seek reimbursement from deep-pocketed third-parties who really do bear some responsibility for what happened to them. On the other hand, if the Court endorses the scheme liability theory, innocent third-parties will routinely and inevitably be joined as defendants in scores of frivolous cases and — having no way to get those cases dismissed at an early, inexpensive stage (i.e., on a “motion to dismiss”) — will be induced to pay extortionate settlement payments.

The potentially easy part of the case is that it may have already been effectively decided 13 years ago. “Scheme liability” sounds an awful lot like “aiding and abetting liability” — i.e., the notion that plaintiff shareholders should be able to sue third-parties who aided and abetted the issuer’s fraud. The U.S. Supreme Court rejected that theory, however, in its 1994 ruling in Central Bank v. First Interstate Bank. Though that 5-4 ruling was controversial at the time, Congress subsequently made its peace with that ruling — twice! In 1995, it restored by statute the right of federal prosecutors and the Securities and Exchange Commission to prosecute and sue aiders and abettors, but it specifically chose not to restore that right to private plaintiffs. Simply put, Congress decided that private securities actions were so subject to abuse that the costs to society of allowing private parties to sue alleged aiders and abettors were just not worth the benefits.

Congress then made exactly the same cost-benefit determination in 2002, when it passed the Sarbanes-Oxley legislation. Again it was asked to restore the right of private plaintiffs to sue aiders and abettors of securities fraud, and again it said no. Instead, it expanded the SEC’s power to impose fines and disgorgements on aiders and abettors – i.e., forcing them to cough up their profits – and then empowered the SEC to distribute those sums to defrauded investors in partial reimbursement for their losses. (These sums are not, however, as much as private plaintiffs could recover; so far the SEC in the Enron case has recovered about $400 million for shareholders, compared to the $7.3 billion collected by Lerach.)

Obviously, the plaintiffs in Stoneridge (and Enron) claim that scheme liability is distinguishable from aiding and abetting liability; they claim that with scheme liability the third-party has to be shown to have played a slightly more active role in the fraud than had been required to establish aiding and abetting liability, although the precise definition of that magic extra oomph has varied depending on the court and the facts of the case. The defendants and their amici argue, on the other hand, that scheme liability is just a semantic ploy; it’s old wine in new bottles. For what it’s worth, to me scheme liability and aiding and abetting liability sound like one and the same thing.

In an earlier post on these issues, see here, I came down on the liberal side of this dispute, because of the unfairness of depriving shareholders of the right to sue parties who aided and abetted in the frauds that injured them. (There are very few other areas of the law where aiders and abettors are not liable to the same degree as principals.) But after reading many of the briefs from both sides in Stoneridge, I’ve changed my mind. These issues were decided in 1994, and Congress has twice consciously chosen not to overrule the part of that Court decision that barred private suits against aiders and abettors, which is what Scientific-Atlanta and Motorola really were (if anything) here. Congress decided — reasonably — that shareholder litigation is so fraught with abuse, and is such a grotesquely inefficient and ineffective way of reimbursing fraud victims, that it was wiser to leave the deterrence and punishment of aiders and abettors to the SEC and federal prosecutors.

A technology generation ago Sun Microsystems (JAVA) extremely successfully convinced investors that it put the “dot into dot-com.” It was a brilliant marketing campaign. The product hadn’t changed, just the perception of it. (Ed Zander, whose best effort at Motorola (MOT) has been embracing the pre-existing and relatively empty “seamless mobility” label, likes to take credit for the marketing move at Sun, where he was the president.)

Now Sun is playing the perception game again. It will do a reverse 1-for-4 stock split in an effort to convince investors it is not a loser company. Executives acknowledged that reverse splits are meaningless from a valuation perspective. (Ditto for regular splits, by the way.) In fact, a reverse split usually is a sign of desperation. But Sun says it can stop the questions about the company’s staying power if essentially ignorant customers stop seeing a sub-$10 stock price.

Last week Sun also dropped its long-time stock symbol, SUNW, in favor of JAVA, which is the name of pioneering software Sun developed. (Google (GOOG) CEO Eric Schmidt played a key role on Java.) “More than a billion people across the globe, representing nearly every demographic, market and industry, rely upon Java’s security, innovation and value to connect them with opportunity,” CEO Jonathan Schwartz said in a statement. “That awareness positions Sun, and now our investor base, for the future.”

Whatever you call it, the stock was up 11 cents, or 2%, Thursday, to $5.48. Yawn.

Shares of Blackstone (BX), the king of Wall Street’s kingdom, can now fairly be described as being in free fall. At $26, they are off 16% from their $31 offering price. The stock is down 5% today alone. (The Chinese government is under water too. Ouch.) Why? Let’s just say it’s got nothing to do with Google’s (GOOG) earnings miss. No, Blackstone’s hurting for plenty of other reasons, like ongoing fears about the cycle turning in the private-equity business.

There’s a concrete indicator as well. Last night the chip company Freescale Semiconductor reported a horrendous quarter. Sales were down 14% from the year-earlier quarter, primarily because of weakness at Freescale’s largest customer, Motorola (MOT). Operating earnings are way down.

All of this has to be more than a little distressing to Blackstone, which bought Freescale in December after beating out a group led by KKR in a bidding war. As I’ve written before, it’s a near certainty that Freescale is worth far less today than what Blackstone and its partners paid for it eight months ago. Motorola’s shares are off 18% since Blackstone bought Freescale.

The private equity guys aren’t perfect. They were able to do extensive due diligence on Freescale and they still missed that Motorola’s woes were going to hurt it. Ordinarily, Blackstone would have plenty of time to make things right at Freesscale and for its portfolio. But now Blackstone has its own public-market investors to deal with. They get to vote every day, as opposed to institutional investors in Blackstone’s funds, which are committed for years. Retail investors seem to be voting with their feet for now.

[See update at end]  

After class action king Bill Lerach avowed in an affidavit last month that his firm never had an agreement to pay a Florida attorney 10% referral fees, that lawyer responded with a declaration listing names of 15 cases that he says he referred to the firm since 1998 and for which, he claims, Lerach’s firm (or its predecessor) paid him in full. The Florida lawyer, Bruce Murphy, is seeking 10% of a $2.5 million fee Lerach Coughlin and its co-lead counsel received in a 2004 settlement in a class action against Tut Systems, which is now a unit of Motorola (MOT).

(Lerach is under scrutiny in connection with an unrelated criminal probe that has already led to the indictment of the firm he formerly co-ran, Milberg Weiss Bershad & Schulman, and two of that firm’s name partners. All defendants have pleaded not guilty. The probe appears to be at a critical stage, and Lerach, 61, has acknowledged that he is considering retirement. See posts here and here.)

The earlier back-and-forth in the referral fee dispute between sole practitioner Murphy, of Vero Beach, Florida, and the class action powerhouse Lerach Coughlin Stoia Geller Rudman & Robbins, has been described in an earlier posting here. The suit against Tut Systems was filed in 2001. Though Lerach and Murphy are listed in the court docket as co-counsel for the three original named plaintiffs, Murphy claims that in 2001 he was cut off the service list (i.e., the list of attorneys who are to receive court documents as they are filed) and that neither he nor the named plaintiffs were ever notified of the 2004 settlement of the case, which they first found out about in October 2006.

In a declaration filed in federal court in Oakland, California, on May 31, Lerach swore, “In connection with the initiation of this case, I did not agree, nor was there any pre-existing arrangement, that Mr. Murphy would receive a 10% referral fee for filing this lawsuit in association with my firm.” Lerach’s partner, Dave Walton, who oversaw the filing of the original Tut complaint, also submitted an affidavit saying he “did not agree to pay Mr. Murphy any type of referral fee and . . . was not aware of a pre-existing fee arrangement with Mr. Murphy.” In Murphy’s reply, filed yesterday, the Florida solo lists 15 cases in which he says he, in fact, received a full 10% referral fee from either Lerach Coughlin or Milberg Weiss. He says that Lerach personally made the promise to pay him a 10% referral fee in a telephone call in 1998, when Lerach was a name partner at Milberg Weiss, and that the promise was repeated in a 1999 telephone conversation with Milberg Weiss partner Steve Schulman (now indicted) and Sam Rudman (now a name partner and executive committee member of Lerach Coughlin).(Lerach and the rest of Milberg Weiss’s West Coast office broke away from Milberg Weiss in May 2004, forming Lerach Coughlin.) Of the 15 cases in which Murphy claims to have been paid his full 10% referral fee, he says he made one of those referrals directly to Lerach, one directly to Walton, nine others to Rudman, three to Darren Robbins (another name partner and executive committee member at Lerach Coughlin), and the last to different Lerach Coughlin lawyer. (Neither Robbins nor Rudman submitted affidavits in connection with Lerach Coughlin’s May 31 filing.)

I’ve just emailed Lerach, Walton, Robbins, and Rudman seeking comment on Murphy’s filings and this posting. (They have not responded to any of my calls or emails on recent previous posts.) If they respond, I promise to print in full their response so long as it takes up no more words than I have used here.

(There is no discussion of the ethics of referral fee payments in either Murphy’s papers or Lerach Coughlin’s. According to ethics professor Stephen Gillers of New York University School of Law, the usual ABA rule in effect in most states is that an attorney can get a referral fee if he either works on the case or if he accepts responsibility for the other lawyer’s work. The California rule, Gillers writes in an email, is that attorneys from different firms can’t share in a fee unless the client has consented in writing after full disclosure. In a class action, Gillers adds, the court may need to be informed as well.)

My previous post on this dispute left one other open question. In response to Murphy’s original suggestion that the three original named plaintiffs — Carlos Yusty, Andres Jaramillo, and Rodrigo Jaramillo — had missed out on their opportunity to recover from the settlement fund, Lerach Coughlin countered that that fund, though fully distributed, probably still had enough money in it (due to interest payments) to pay off the named plaintiffs’ claim if Murphy would simply file the necessary paperwork. They claim further that Murphy has thus far failed to do so, notwithstanding recent urgings and invitations to do so from Lerach Coughlin and the fund’s claims agent. In his reply papers Murphy suggests that the settlement, “mere pennies on the dollar,” would be fairly meaningless, and he hopes, therefore, to get larger sanctions and damages for the plaintiffs in light of Lerach Coughlin’s conduct. (The plaintiffs’ stock trading losses allegedly came to about $25,800.)

UPDATE ON 6/13/07:

Judge Claudia Wilken ruled on Murphy’s motion today, and turned him down.  “Even if there was a ten percent referral fee agreement in place, which Lerach Coughlin denies, under the Court’s order Mr. Murphy would not be entitled to the $200,000 he seeks,” she wrote.  “No fees were awarded to Mr. Murphy because he did nothing more than contact Mr. Walton, review the complaint drafted by Milberg Weiss and forward the draft complaint to his clients for review and approval. His involvement in the case stopped in December 2001. Then he seemingly forgot about this case until October 2006, when his clients contacted him to inquire about the status of the case. . . . The Court defers to Lerach Coughlin’s decision not to allocate any attorney’s fees to Mr. Murphy.”

As for the other part of Murphy’s motion — his request for damages and sanctions on behalf of the allegedly neglected named plaintiffs — she dismissed the motion without prejudice (i.e., without having any negative binding impact on the plaintiffs) because Murphy, a Florida lawyer, wasn’t admitted to practice in California, and therefore wasn’t qualified to represent those plaintiffs.

Warning: We are about to peek inside the class-action sausage factory; it’s not a sight for the squeamish.

Last October, three clients of the nation’s preeminent class action lawyer, Bill Lerach, got some good news and some bad news. The good news was that Lerach had won a $10 million settlement in the class-action case he’d filed for them back in 2001. The bad news was that he had won it two years earlier, had never told them about it, and that all the money from it had already been doled out, according to a motion the three clients filed in federal court May 4.

Lerach and partner Darren Robbins did not respond to emails sent Thursday seeking comment, nor did Lerach respond to a phone message left Friday. (Lerach is a big deal; he is currently the lead counsel for Enron securities holders who are suing Enron’s banks. He has won $7.3 billion in settlements so far in that case, and is now seeking U.S. Supreme Court review of a court’s dismissal of the remaining defendants: Merrill Lynch (MER), Credit Suisse First Boston (CS), and Barclays (BCS). Lerach is also currently under criminal investigation in connection with matters that have already led to the indictment of his former law firm, Milberg Weiss, and two name partners there. For details on that, see this award-winning feature story by my colleague Peter Elkind.)

The new claims about Lerach arise in a securities class action called Yusty v. Tut Systems, which Lerach filed in July 2001 on behalf of named plaintiffs Carlos Horacio Yusty, Andres Jaramillo, and Rodrigo Jaramillo. The case was brought in federal district court in Oakland, California. (The defendant tech company, Tut Systems, was acquired by Motorola (MOT) in March 2007).

In May 2004, the case was settled for $10 million, with 25% of that — $2.5 million — going for attorneys fees.

About 29 months later, in October 2006, named plaintiff Andres Jaramillo emailed his local lawyer, Bruce Murphy of Vero Beach, Florida, to ask about the status of his case. Murphy, who was the lawyer who had originally referred the case to Lerach’s firm, then forwarded Jaramillo’s email to Dave Walton, an attorney he dealt with there. Walton informed Murphy that the case had ended two years earlier, according to the May 4 filing, which Murphy submitted on behalf of Yusty and the two Jaramillos. (Walton did not respond to an email sent Thursday seeking comment.) Apparently all the settlement money had been distributed by then. (The three named plaintiffs’ stock losses together had come to $24,855, according to Murphy’s filings.)

Obviously, lawyers have an ethical duty to inform clients about a proposed settlement, so that the clients have an opportunity to object to it or, if they’re okay with it, file a claim form and get their share of the money. In an affidavit, Yusty and the Jaramillos claim they never got any notice of any kind. (According to court documents filed in 2004, the plaintiffs lawyers promised to send “individual notice” of the settlement to all class members “who could be identified through reasonable effort.” An outside claims administrator then certified that more than 5,500 class members were sent such notice, and that an announcement of the proposed settlement had also been published in one issue of Investor’s Business Daily.)

There’s a bit more. Murphy also says the Lerach firm stiffed him on a “referral fee” he was owed in the case — 10% of the attorneys fees, or, in this instance, $250,000 plus interest. In 1998, Murphy writes, he made an agreement with Lerach’s then firm, Milberg Weiss Bershad Hynes & Lerach, that he’d refer them shareholder cases in exchange for 10% of the fee. (The west coast office of Milberg Weiss — including all the lawyers handling the Yusty case — split away from that firm in May 2004, forming the firm now known as Lerach Coughlin Stoia Geller Rudman & Robbins.)

Murphy writes that Lerach’s firm paid him referral fees in least 16 cases over the years. (Referral fees are ethical if they are disclosed and the referring lawyer does some actual work on the case.) Murphy’s name appears as co-counsel with Lerach’s on the original complaint in the case, but Murphy alleges in his motion that Lerach’s firm “cut [him] off the service list” at some point, meaning that Murphy stopped receiving copies of the papers filed in the case.

You might think that with a dispute this unseemly, lawyers would try to settle it quietly and far from public view. Well, in an amusingly blunt footnote on the last page of his motion, Murphy offers a theory about why the Lerach firm hasn’t been willing to do so, though the theory may be being offered tongue-in-cheek. In the footnote, Murphy reminds the court that Lerach is currently under criminal investigation and that his former firm is under indictment for allegedly “paying illegal kickbacks to clients in class actions.” In that context, Murphy writes, “Lerach Coughlin needs the cover of an order to pay damages and sanctions” to Yusty and the Jaramillos.

To read the 18-page memorandum accompanying Murphy’s motion, click here.

UPDATE (ADDED 6/3/07)

On Thursday, May 31, Lerach Coughlin filed response papers to Murphy’s motion, which do cast the dispute in a very different light, though they still do not inspire confidence in class action notification procedures. Though Lerach Coughlin was listed as counsel for Yusty and the two Jaramillos in court records, the firm states that it “has never had direct contact with these three individuals and does not have addresses or telephone numbers for them.” It contends that only Murphy, who was originally listed as co-counsel for those three plaintiffs, had their contact information, and it suggests that Murphy did not want to share that information with the Lerach firm. The Lerach firm effectively contends, therefore, that Murphy should have monitored the case more closely — perhaps by looking in the electronic docket sheets online — even if he had been somehow cut off the service list in 2001, as he contends.

More significantly, the firm says that Murphy was told in April 2007, by the claims administrator for the Tut settlement account, that, even though the settlement funds had been fully “distributed,” there was still enough money in the account, due to interest earned, to pay Yusty’s and the Jaramillos’ claims, if Murphy simply filed the necessary paperwork on their behalf with the claims administrator. Inexplicably, the Lerach firm contends, Murphy has still failed to do so. (Murphy has yet not returned email and phone messages I left for him Friday, June 1, seeking comment.)

Accordingly, the Lerach firm contends, the dispute is not really about the plaintiffs’ recovery, but simply about the 10% referral fee Murphy claims to be owed. Lerach Coughlin claims there was never any such agreement. It acknowledges that Murphy referred the Yusty case to the Lerach firm, but says he played no role in litigating it beyond reviewing a copy of the complaint before it was filed. The firm has offered him $15,000 to settle his demand, the Lerach lawyers say, but Murphy refused. It notes that Murphy made a similar demand in a different case in 2004, and did ultimately settle that claim for $15,000.

FOR FOLLOW-UP POST, CLICK HERE.