More securities class action lawsuits were filed in 2017 than in any year since 2001, in significant part because of the substantial number of federal court merger objection lawsuit filings during the year. But even disregarding the merger suits and looking only at the traditional securities lawsuits, the number of lawsuit filings was at the highest level since at least 2004. While the elevated numbers of lawsuit filings is noteworthy, it is the litigation rate – that is, the number of securities suits relative to the number of public companies – that is most significant. According to my estimate, the litigation rate during 2017 was at all-time record levels.
Numbers of Securities Lawsuit Filings: There were 415 securities class action lawsuits filed in 2017, the highest annual number of securities suit filings since 2001, when there were 498 filings. (Because the 2001 figures were inflated by the wave of IPO laddering lawsuits that year, the 2001 figures often are disregarded for comparison purposes.) The 415 lawsuit filing total for 2017 is about 120% higher than the 1996-2015 annual average number of filings of 188. The 415 filing total in 2017 is about 53% higher than the 271 filings in 2016.
The 2017 securities lawsuit filings were not evenly distributed throughout the year. There were significantly more securities suits filed in the first six months of the year than during the year’s second half. Of the 415 securities suits filed during the year, 224 were filed in the first half of the year, and 191 were filed in the second half. In addition, there were fewer suits filed in the third, second, and fourth quarters (101, 102, and 89 respectively) compared to the first quarter (123), and fewer in the fourth quarter than in any of the three prior quarters. The inference is that while the annual figures for 2017 were elevated compared to historical norms, the declining number of filings as the year progressed may suggest a longer-term trend back toward lower levels.
Federal Court Merger Objection Lawsuit Filings: The elevated level of securities suit filings in 2017 is in part a reflection of the high numbers of federal court merger objection lawsuit filings during the year. Of the 2017’s 415 securities lawsuit filings, 193 (or about 46%) were merger objection lawsuits.
As I have noted elsewhere, due to the Delaware courts’ hostility to merger objection suits and the disclosure only settlements by which these cases often are resolved, cases that in the past that would have been filed in state court (particularly in Delaware) are now being filed in federal court. To the extent that the rise in the number of federal court merger objection lawsuit filings simply reflects a shift of lawsuits from state to federal court, the significant numbers of federal court merger objection lawsuit filings in 2017 does not mean that litigation overall has increased.
Nevertheless, it is important to note how significantly the number of federal court merger objection lawsuits increased in 2017. In 2016, there were only 80 federal court merger objection lawsuit filings, meaning that the number of federal court merger objection lawsuit filings increased 140% from 2016 to 2017. The increasing amount of federal court merger objection litigation arguably is a significant phenomenon in its own right.
The Number of Traditional Securities Lawsuit Filings: Even if the merger objection lawsuit filings are disregarded, the number of securities lawsuit filings in 2017 was at its highest level in years. There were 222 traditional securities lawsuit filing in 2017, which by itself represents the highest annual number of securities suit filings since 2004 (when there were 239 securities suit filings). The total of 222 traditional suits in 2017 was 18% higher than the 1996-2015 annual average number of securities suits of 188. 2017’s total of 222 traditional lawsuits also was about 18% higher than the 189 traditional lawsuits filed in 2016.
There is one important footnote on the number of traditional securities class action lawsuit filings in 2017. The total of 222 traditional lawsuit filings includes five securities class action lawsuits that were filed against ICO companies. The basic allegation in these lawsuits is that the ICO company and its senior officials are liable to investors for failing to register the offered coins or tokens as required under the federal securities laws. These lawsuits are definitely class action lawsuits filed under the federal securities laws, but some might question whether or not they qualify as “traditional” securities lawsuits or whether perhaps they represent their own unique category of securities-related litigation.
The Rate of Litigation: While the number of lawsuit filings is interesting and important, it is the litigation rate that is most significant. The litigation rate looks at the number of lawsuits relative to the number of public companies. The litigation rate has been increasing at least since 2011, largely because the number of publicly traded companies has been shrinking while the number of lawsuits has been increasing. With the significant increase in the number of lawsuits in 2017, the litigation rate during the year also increased, to its highest levels ever.
Because I do not yet have an official number for the number of U.S. listed companies as of the end of 2017, my calculation of the litigation rate is an estimate only, using the 2016 year-end number of listed companies for the calculation. I estimate that the 2017 litigation rate was approximately 9% if all securities suit filings are taken into account, or about 4.8% if only the traditional securities suit filings are considered. These figures are significantly higher than the equivalent 2016 figures of 5.6% for all filings and 3.9% for traditional securities suits filings.
By either measure, the 2017 litigation rates are far above the 1997-2015 average annual litigation rate of 2.8%. According to my estimate, the chances of a U.S.-listed company being hit with a traditional securities lawsuit was about 71% higher during 2017 than the long-term historical average would otherwise suggest. (Again, these figures may be affected to a limited extent by the five ICO-related lawsuits filed during 2017.)
Place of Filing: The 2017 securities class action suits were filed in 55 different federal courts. While the 2017 suits were distributed in a significant number of federal courts, there was a concentration of filings in certain federal districts.
The federal district court with the highest number of securities suit filing in 2017 was the Southern District of New York, which had 64 filings, or 15.5% of all filings. There were also another 21 lawsuits filed in the Eastern District of New York, meaning that these two federal district courts in New York alone accounted for more than one out of five of all 2017 securities suit filings.
There were also a significant number of securities suit filings in the federal district courts in California. There were 41 securities suits filing during 2017 in the Northern District of California, with another 29 securities suits filed in the Central District of California, and another four in the Southern District of California. Together, the 2017 filings in these three California federal district courts accounted for about 18% of all securities suit filings during the year.
The two New York federal district courts and the three California federal district courts together accounted for about 38.5% of all securities suit filings during 2017.
The significant numbers of federal court merger objection lawsuit filings during the year meant that a number of other federal district courts saw significant numbers of securities suit filing in 2017. For example the federal district court in Delaware had 28 securities suit filings during 2017, all of them merger objection lawsuit filings. The federal district court in Minnesota had eight securities suit filings during the year, all of them merger objection lawsuits.
Industries of Companies Sued: The 2017 securities lawsuit filings were spread across companies in a wide variety of industries. The 2017 securities suits hit companies in 151 different Standard Industrial Classification (SIC) Code categories.
The SIC code category with the most securities suit filings in 2017 was the 2834 SIC code category (Pharmaceutical Preparations), which had 53 securities suit filings during the year. The 283 SIC code group (Drugs) taken collectively had 66 securities suit filings, or 15.9% of all securities suit filings during the year. The 384 SIC Code group (Medical, Surgical and Dental Instruments and Supplies) also had another 16 securities suit filings, meaning that life sciences companies generally (including pharmaceutical and medical device companies) accounted for nearly 20% of all 2017 securities suit filings.
Another industrial category with significant numbers of securities suit filings in 2017 was the 737 SIC Code Group (Computer Programming, Data Processing, and Other Computer Services), which had 32 securities suit filings, or about 7.7% of the securities suit filings during the year.
Companies in the 602 SIC Code Group (Commercial Banks) and 603 SIC Code Group (Savings Institutions) accounted for another 26 of the securities suit filings, or about 6%.
Together, companies in the life sciences, high tech, and banking industries accounted for about 34% of all 2017 securities suit filings.
Foreign Companies: Lawsuits against non-U.S. companies listed on U.S. exchanges were a significant factor in the elevated numbers of securities lawsuit filings. There were 59 securities class action lawsuits filed against non-U.S. companies in 2017, representing 14.2% of all securities suits during the year.
However, only six of these suits against non-U.S. companies were merger related. The 53 traditional securities lawsuits filed against foreign companies during 2017 represented about 24% of all traditional securities suits filed during the year. This rate of traditional litigation is significantly higher than the presence of foreign companies on the U.S. exchanges would otherwise suggest; non-U.S. companies represent only about 16% of companies listed on the U.S. exchanges, yet these companies were hit with nearly a quarter of all traditional securities suits during the year.
The foreign companies hit with securities suits during the year were based in or have their principal place of business in 18 different countries. The countries with the most companies hit were China (with 10 lawsuits, or 12 if the Hong Kong based companies are included); Israel (8); Canada (7); and Ireland (6).
Though foreign companies appear to have a higher securities litigation rate, there may be some double counting going on. The more important factor explaining the volume of litigation against these companies may be industry, rather than location. For example, all 6 of the companies from Ireland that were sued are in the 2834 SIC Code category (which as I noted above had more securities suits in 2017 than any other SIC code category). Many of the Chinese and Israeli companies sued in 2017 are technology companies, which is another industrial category with an elevated litigation rate.
IPO Companies: During 2017, 15 companies were sued in securities suits in which the allegations were based at least in part on or in relation to the companies’ IPOs. All 15 of these securities suits were traditional securities suits. These IPO-related lawsuits represented about 7% of all traditional securities suits during the year. Of the 15 companies involved, three had completed their IPOs in 2014; two had completed their IPOs in 2015; four had completed their IPOs in 2016; and six had completed their IPOs in 2017.
Other Factors Contributing to the Increase in Securities Suit Filings: In addition to factors noted above, a number of other factors contributed to the increase in the numbers of securities suit filings. These other factors include the rise in the number of event-driven lawsuits (also discussed below); the rash of cryptocurrency-related lawsuits at the end of the year (mentioned above); and the number of data breach related securities lawsuits. I will detail these and other factors contributing to the 2017 securities suit filing increase further in my annual Top Ten Stories in the World D&O post, which I will publish tomorrow.
The flood of merger objection lawsuits clearly was a significant factor in the volume of securities litigation filed during 2017. From an analytic perspective, it is hard to know what to do with these merger objection lawsuits. The inclusion of the merger suits in the overall figures has the effect of inflating the numbers, arguably in a distorting way. Another problem with the merger objection suits is that their sheer volume could obscure some other very important securities litigation trends.
First and foremost, because of all of the merger-related litigation, it might be possible to miss that even without the merger suits, securities lawsuit filings are still at elevated levels. The overall number of federal court securities lawsuits as well as the number of traditional lawsuits has increased every year since at least 2011. And it is not just that more securities lawsuits are being filed. The key point, which I stressed above, is that the rate of litigation is going up as well – a publicly traded company is much likelier to get hit with a securities suit today than was the case even in the recent past.
This increases in the numbers of lawsuits and of the litigation rate are taking place against a backdrop in which there are fewer financial restatements. As I noted in a prior post (here), during 2016 (the latest year from which full-year information is available), the share of U.S. companies restating their prior financial statements hit their lowest level since 2010 and the number of companies restating their financials during 2016 was at the lowest level since at least 2002. With fewer restatements, fewer securities suits involve financial misrepresentation allegations.
Instead of allegations of financial misrepresentations, securities suits these days often are based on event-driven allegations. Here, think for example of the securities lawsuit filed in July against Arconic, after media reports that the company had manufactured the exterior cladding used on the Grenfell Tower building in London that tragically burned this past summer.
In these kinds of event-driven lawsuits, filed after the company experiences some type of operational setback, the plaintiffs allege that the company failed to disclose that it was vulnerable to a significant risk that, when it occurred, would result in a significant decline in the company’s share price. Obviously, over time, many companies hit setbacks in the course of their operations. The idea that a frequently-occurring event such as a business reverse alone justifies a securities suit means that there are increased numbers of circumstances from which a securities suit might result.
In many instances, these event-based lawsuits are being filed by what has been described as “emerging” law firms; that is, law firms that were not responsible for significant amounts of securities lawsuit filings in the past but that have a significant share of securities lawsuits now. At the annual PLUS International Conference in November, a partner from one of these emerging law firms expressly acknowledged that their firm had expanded its consideration of what constitutes fraud sufficient to support a securities lawsuit. As discussed here, the attorney said at the conference that, in pursuing their litigation strategy in a world where there are fewer restatements, their firm was taking a more expansive approach to what is sufficiently material to require disclosure.
These same “emerging” law firms are also concentrating their efforts on smaller companies, because the smaller cases are less likely to attract the involvement of the larger, more traditional plaintiffs’ securities class action law firms, in the smaller law firm’s hope that it will keep control of the case.
The combined results of all of these factors is that there are more securities lawsuits being filed, often against smaller companies, and often based on operationally-related developments rather than based on allegations of financial misrepresentations. Together these factors explain why the number of securities lawsuit filings has increased every year since 2011 and why public companies face a significantly increased risk of getting hit with a securities class action lawsuit.
All of that said, the progressive decline in the number of securities lawsuit filings during the course of the year noted above could suggest that the elevated filing trends may not continue into the New Year, and that the filing levels during 2018 could move directionally toward lower levels.
A Final Note About Data Sources and Methodology: The data used in the analysis above were compiled from a variety of sources, including media outlets (such as Bloomberg and Yahoo Finance), online legal news services (including Law 360 and Advisen), and other online data services (including Justia, and the Stanford Law School Securities Class Action Clearinghouse).
In tallying the number of securities class action lawsuits, I count each company sued for the same basic set of allegations only once, regardless of the number of complaints filed, which is different from the methodology used by other prominent securities litigation monitoring sources. At least some of these services count each complaint separately (at least if the complaint is filed in a separate judicial district), unless and until the separate lawsuits are consolidated.
With respect to the merger objection lawsuits, I counted a lawsuit in my tally only if the suit was filed as a class action lawsuit, and only if it alleged a violation of the federal securities laws. I did not count lawsuits in my tally if they were not filed as class action lawsuits. I also did not count a lawsuit in my tally if the complaint did not allege a violation of the federal securities laws. This is an important consideration in comparing my tally to other published tallies, as at least some of the other public sources include federal court merger objection lawsuits in their tallies even if the complaints allege only breaches of fiduciary duty and do not allege a violation of the federal securities laws.
The different methodologies used will not only result in different litigation counts, but it could also result in differing analytical conclusions. It is very important to understand the methodologies used by the different prominent securities litigation monitoring services and to understand how the methodologies used will affect analyses of the data.
Upcoming PLUS Webinar: On January 4, 2018, I will be moderating a Professional Liability Underwriting Society (PLUS) webinar with the title of “D&O Roundtable: Disruption and the Potential Effects on Organizations.” The free hour-long webinar, which will take place at 11:00 am EST, will include a panel of distinguished speakers: Sara Brody, Partner at Sidley Austin LLP, Jessica Corley, Partner at Alston & Bird LLP, and Bryan Kocon, Business Unit Leader – Public Company Liability at Travelers Insurance. A brief description of the webinar and registration information can be found here.