Overall levels of corporate and securities litigation during the second quarter and first half of 2011 remained at elevated levels despite a decline in regulatory and enforcement activity during the quarter, according to the latest Advisen quarterly litigation report. A copy of the report can be found here. My own survey of the second quarter and first half securities class action litigation activity can be found here.
It is critically important to recognize that the Advisen report uses its own unique vocabulary to describe certain of the corporate and securities litigation categories.
The “securities litigation” and “securities suits” analyzed in the Advisen report include not only securities class action lawsuits, but a broad collection of other types of suits as well, including regulatory and enforcement actions, individual actions, derivative actions, collective actions filed outside the U.S. and allegations of breach of fiduciary duty. All of these various kinds of lawsuits, whether or not involving alleged violations of the securities laws, are referred to in the aggregate in the Advisen report as "securities suits."
One subset of the overall collection of "securities suits" is a category denominated as "securities fraud" lawsuits, which includes a combination of both regulatory and enforcement actions, on the one hand, and private securities lawsuits brought as individual actions, on the other hand. However, the category of "securities fraud" lawsuits does NOT include private securities class action lawsuits, which are in their own separate category ("SCAS").
Due to these unfamiliar usages and the confusing similarity of category names, considerable care is required in reading the Advisen report.
The Report’s Findings
According to the report, the annualized level of all corporate and securities litigation activity during the first half of 2011 remained “on par with the record-setting year of 2010,” notwithstanding a decline in the number of new regulatory actions against financial services firms, as enforcement activity in the wake of the global financial crisis waned.
Advisen tracked a total of 332 new actions across all categories of corporate and securities lawsuits during the second quarter, compared to 398 during 1Q11. Despite the falloff, the second quarter activity remained as a “high level” and the first half activity annualizes to a record level of corporate and securities litigation activity.
One category of litigation activity driving these numbers is the group of lawsuits alleging breach of fiduciary duties. Many of these breach of fiduciary duty lawsuits are merger objection lawsuits, the filing of which has been “mushrooming” in recent years. The number of merger objection suits has grown from only 21 in 2001 to 353 in 2010, and with 176 merger objection suits in the first half of 2011, the pace of merger objection litigation remains in line with 2010 levels. The report includes a chart on page 6 illustrating the dramatic growth in merger objection litigation activity.
According to the Advisen report, there were 63 new securities class action lawsuit filings during the second quarter, which is flat with the previous quarter, but above the 2010 quarterly average of 48 per quarter and in line with the 60 suits per quarter during 2009. Securities class action lawsuit filings as a percentage of all corporate and securities lawsuit filings remains down from historical levels although up slightly from 2010 levels. Class action securities lawsuits represented as much as a third of all corporate and securities litigation activity as recently as 2006, but during the second quarter, securities class action lawsuits represented only 19 percent of all corporate and securities lawsuits, which while below historical levels is up slightly from the 14 percent such suits represented in 2010. Three industrial sectors accounted for over 60 percent of all securities class action lawsuit during the first half: information technology, consumer discretionary, and industrial.
Actions involving companies in the financial services industry accounted for a smaller percentage of all corporate and securities litigation activity during the second quarter compared to recent periods. Financial firms counted for 45 percent of all corporate and securities litigation in 2008 and 45 percent in 2009. The number fell to 34 percent in 2010 and during the second quarter of 2011, the number fell to 25 percent. Despite the decline, the financial services industry still remains the “leading sector” for attracting corporate and securities litigation activity.
One prominent trend has been the growth in corporate and securities litigation activity involving non-U.S. companies. A certain amount of this litigation involving non-U.S. companies involves proceedings outside the U.S. The Advisen study reports that during the first half of 2011, there were 38 corporate and securities lawsuits filed outside the U.S., 18 of which were filed during the second quarter. Corporate and securities lawsuits involving non-U.S. companies, whether filed in the U.S. or elsewhere, have accounted for about ten percent of all corporate and securities litigation activity since 2005. But in the first half of 2011, corporate and securities lawsuit activity against non-U.S. companies accounted for 17 percent of all corporate and securities litigation activity, and during the second quarter of 2011, the figure for non-U.S. companies was up to 20 percent.
A substantial part of this rise in activity involving non-U.S. companies has been the rise in the number of corporate and securities lawsuits involving Chinese companies, of which there were 44 during the first half of 2011.
Advisen’s report takes a broader view of corporate and securities litigation, because its scope reaches beyond just securities class action lawsuits to include all corporate and securities litigation, and not just in the U.S, but outside the U.S. as well. But even with this broader scope, it is apparent that a couple of identifiable factors are currently driving corporate and securities litigation activity, as is also the case with securities class action litigation – that is, the high levels of litigation largely is a factor of the suits connected to merger and acquisition activity and by lawsuits involving Chinese companies.
The table in the report depicting merger objection litigation filings dramatically illustrates the growth in this type of litigation activity in recent years. This development has a number of implications, including for the D&O insurance carriers that often wind up picking a significant part of the defense expenses and settlement amounts associated with these kinds of lawsuits. Even though these cases taken individually do not present a significant severity risk, taken collectively that represent a significant claims loss burden for the carriers, particularly those that are the most active in the primary layers.
As the mix of litigation has shifted away from higher severity claims such as securities class action lawsuits and toward higher frequency claims such as merger objection suits, the D&O carriers’ claims experience has shifted as well. As I noted in my own report on second quarter litigation activity, this is an under-discussed issue.
The burden these costs represent may be all the more painful for the carriers because the exposures involved with these kinds of suits likely are not priced into the risk premium. In addition, it is tough to underwrite the likelihood that any one company will be acquired. But because the discussion of carriers’ loss exposures tends to focus on the higher severity risk of securities class action litigation, there is relatively little consideration given to the higher frequency exposure that these merger objection lawsuits represent. This is one of those issues that just doesn’t get the airtime it deserves – at least not so far.
One interesting development involving these kinds of merger objection lawsuits is that the judges in the Delaware Chancery Court have started to show some resistence to the fee awards to plantiffs’ counsel in cases that do not produce a material benefit for shareholders. The Wall Street Journal has a July 19, 2011 article (here) discussing these developments. The flip side of this judicial resistence is that in some instances the Delaware courts have proven more willing to approve larger fee awards where the court concludes the plaintiffs have produced substantial benefit for shareholders.
The surge in litigation involving U.S.-listed Chinese companies also has important D&O insurance implications, as noted in a recent Client Advisory I co-authored with Pillsbury Winthrop’s Peter Gillon, about which refer here. Alison Frankel has a July 18, 2011 post on the same topic on her Thomson Reuters News & Insight blog, here.
Second Quarter Litigation Update Webinar: And speaking of first half 2011 litigation filing trends, on Tuesday July 19, 2011 at 11 a.m. EDT, I will be participating in the Advisen’s "Q2 Securities Litigation Webinar." My fellow panelists will include Anderson Kill’s Bill Passanante, Navigators’ Scott Misson, and Willis’ John Connolly. The panel will be moderated by Advisen’s Jim Blinn. Information about this event, which is free, can be found here.
Outside Directors and SEC Enforcement Actions: A July 16, 2011 post on the Harvard Law School Forum on Corporate Governance and Financial Regulation entitled “SEC Enforcement Actions Against Outside Directors Offer Reminder for Boards” (here) takes a look at recent SEC Enforcement actions targeting outside directors. The article concludes with respect to the recent SEC enforcement actions that “when taken together, the cases signal the commission’s continued interest in bringing enforcement actions against directors of publicly traded companies who personally violate securities laws or egregiously disregard their duties.”
Among other implications, the article notes the importance for board members of considering the coverage available through their company’s D&O insurance program for regulatory investigations and enforcement actions.
Cordray for Consumers? : Many readers may have seen the news that President Obama has nominated former Ohio Attorney General Richard Cordray to head the new Consumer Financial Protection Bureau. Cordray will be a familiar figure to readers of this blog, as I have commented in the past on Corday’s actions while Ohio Attorney General in pursuing securities class action lawsuits on behalf of Ohio’s pension funds.
Reactions to Cordray’s nomination to head the new consumer agency include concerns regarding Cordray’s connections to the securities class action bar. In a July 18, 2011 post on his Full Disclosure blog on the Forbes website, Daniel Fisher takes a look at the campaign contributions Cordray received in the past from prominent members of the securities class action litigation bar and comments that Cordray’s “record of taking money from lawyers who profit from private litigation that often follows closely on the heels of government investigations could provide fodder for his enemies.”
Ross Todd has a July 18, 2011 post on the Am Law Litigation Daily on the same questions about Cordray.