The heightened pace of securities class action lawsuit filings continued in 2018, as filing levels remained well above historical patterns, even though the total number of suits dipped very slightly compared to 2017. The total number of filings during 2018 was significantly inflated by the number of federal court merger objection lawsuit filings during the year. However, even disregarding the M&A-related lawsuits, the number of traditional lawsuit filings during 2018 was well above long-term averages. Even more significantly, the litigation rate (that is, the number of suits relative to the number of listed companies) arguably was at all-time record high levels in 2018 compared to prior years, as discussed further below.
The Number of Securities Class Action Lawsuit Filings
There were 403 federal court securities class action lawsuits filed in 2018, compared to 412 in 2017, representing a year-over-year decline of about 2%. While the number of federal court class action securities suits declined slightly in 2018 compared to the year prior, the 403 suit filing total in 2018 is about 209% above the 1996-2016 annual average number of filings of 193. The 403 filings total in 2018 is second only to the 412 filings total in 2017 as the highest annual number of filings since the IPO laddering lawsuit-inflated total of 498 in 2001.
Merger Objection Lawsuit Filings
The 2018 total number of filings was significantly elevated by the number of federal court merger objection lawsuit filings during the year. Of the 403 total federal court securities class action lawsuit filings during the year, 185 were merger objection lawsuit filings, representing about 46% of the total. These federal court merger lawsuits in the past likely would have been filed in state court. However, in a series of rulings culminating in the Trulia decision, the Delaware courts have evinced their hostility to these kinds of cases, as a result of which the plaintiffs’ lawyers increasingly are filing M&A lawsuits in federal court, alleging violations of federal securities laws.
Traditional Securities Lawsuit Filings
However, even without regard to the significant numbers of federal court merger objection lawsuit filings during the year, the 2018 filings were at elevated levels compared to long-term averages.
Of the 403 total number of federal court securities class action lawsuit filings during the year, 218 were “traditional” securities class action lawsuits. The total of 218 traditional securities lawsuit filings during 2018 is nearly 13% above the 1996-2016 annual average total number of all filings of 193. The 218 number of traditional filings in 2018 is in fact the highest annual number of traditional filings at least since 2008. In other words, even without the significant numbers of federal court merger objection lawsuit filings, the 2018 securities class action lawsuit filings were at or near historically high levels.
State Court Securities Class Action Litigation
There is a significant additional factor that must be taken into account in assessing the level of securities class action lawsuit filing activity in 2018, and that is the volume of Section 11 class action lawsuits being filed in state court rather than federal court.
As readers will recall, in March 2018, the U.S. Supreme Court held in the Cyan case that state courts retain concurrent jurisdiction for liability actions under the Securities Act of 1933. In the wake of the Cyan decision, plaintiffs have filed a significant number of IPO-related lawsuits in state court. Many of these state court lawsuits have parallel federal court lawsuits; however, in a number of instances, the state court suits have no parallel federal court action. The state court filings are much more difficult to track than the federal court lawsuits.
The bottom line is that, in light of the heightened level of state court securities class action filing activity, the federal court filing data discussed above is no longer a sufficient measure by which to gauge overall securities class action lawsuit filing levels.
Without having the exact state court filing figures to analyze, it may be hard to say, but it seems likely that if the state court filings are taken into account, the overall number of securities class action lawsuit filings in 2018, considering both federal and state filings, was greater than the equivalent figures in 2017; if that were true, that would make the 2018 filing activity the highest since at least 2001.
The Litigation Rate
It is of course significant to compare the number of lawsuits filed in 2018 to the number of lawsuit filings in prior years. However, the more meaningful comparison is to contrast the rate of litigation in 2018 – that is, the number of lawsuits in relation to the number of U.S. listed companies – to the litigation rate in prior years.
The litigation rate has been escalating significantly in recent years, as the number of securities suit filings has continued to increase while the number of publicly traded companies has declined (due to mergers, bankruptcies, going private transactions, etc.). Thus, for example the litigation rate in 2017 was at an all-time high of 8.4% (compared to a 1996-2016 annual average litigation rate of 2.9%).
As high as the litigation rate was in 2017, the litigation rate in 2018 was even higher. Of the defendant companies hit with securities lawsuits in 2018, 385 were listed on U.S. exchanges. Using the 2017 year-end total number of publicly traded companies for calculation purposes (4,411), the 385 securities lawsuits filed against listed companies in 2018 translate to a 2018 litigation rate of 8.7%, which is not only higher than the rate in 2017 but is in fact the highest rate since at least 1996. In other words, the chances of a U.S.-listed company getting hit with a securities suit arguably were higher in 2018 than it has ever been.
The litigation rate comparison stands even if the effect of the merger objection lawsuit filings is disregarded. Of the 218 traditional securities lawsuits filed in 2018, 202 involved companies listed on a U.S. exchange, which implies a litigation rate of 4.6%, compared to an equivalent litigation rate of 4.2% for 2017. That is, even just with respect to traditional securities litigation, the chance of a U.S.-listed company getting hit with a securities suit was at its highest-ever level in 2018.
To put these litigation rates into perspective, the chances of a U.S.-listed company getting hit with a securities suit in 2018 approached one out of ten. The chances of a U.S.-listed company getting hit with a traditional securities suit during 2018 approached one out of twenty. Both of these figures are at all-time high levels.
Factors Contributing to Securities Class Action Filings Activity
A number of significant factors contributed to the elevated 2018 filing totals. In addition to the merger objection lawsuits, another factor driving filing activity in 2018 was the continued emergence of event-driven securities litigation. These event-driven suits are not based on allegations of accounting fraud or financial misrepresentation, but rather are based on the occurrence of an adverse event in the defendant company’s operations. These kind of lawsuit filings included in 2018, for example, the securities suit filed against California utility companies Edison International and PG&E in the wake of the California wildfires; the lawsuit filed against Boeing after the Lion Air Flight 610 plane crash; or the suit filed against Marriott after the company disclosed a significant breach of its Starwood Group customer database.
Another factor contributing to the elevated 2018 activity levels is the number of securities class action lawsuits filed against cryptocurrency companies and other organizations conducting initial coin offerings (ICOs). There were at least nine securities class action lawsuits filed in 2018 involving ICOs or cryptocurrency companies.
The 2018 securities class actions targeted companies in a wide variety of industries. The 2018 federal court securities lawsuits were filed against companies in 161 different Standard Industrial Classification (SIC) Code categories.
As has been the case in prior years, the SIC Code category with the highest number of securities class action lawsuit filings in 2018 was SIC Code category 2834 (Pharmaceutical Preparations) which had 41 lawsuit filings during the year, representing more than 10% of the federal court securities lawsuits filed during the year.
Life sciences companies generally were targeted at elevated levels in 2018. Thus there were a total of 51 lawsuits filed against companies in SIC Industry Group 283 (Drugs), representing nearly 13% of all 2018 securities lawsuit filings, and there were an additional 12 lawsuits against companies in SIC Industry Group 384 (Surgical, Medical, and Dental Instruments). The total of 63 lawsuits filed in 2018 against companies in these two groups together represented over 15% of all federal court securities suit filings during the year.
Another industrial group that experienced significant levels of securities litigation activity in 2018 was the high tech sector. There were a total of 38 lawsuits filed against companies in Industry Group 737 (Computer Programming and Data Processing) and an additional 13 lawsuits against companies in Industry Group 367 (Electrical Components and Accessories), including 11 lawsuits filed against companies in SIC Code category 3674 (Semiconductors). The 50 lawsuits filed against companies in these two industrial groups represented about 12.4% of the federal court securities suit filings in 2018.
Together the securities suit filings against life sciences and high tech companies represented a total of about 28% of all federal court securities suits filed in 2018.
Federal Court Securities Lawsuit Distribution
The 2018 federal court securities class action lawsuit filings were distributed across a wide number of federal court districts. During 2018, federal court securities class action lawsuits were filed in 50 different federal district courts.
The U.S. district court with the highest number of securities class action lawsuits in 2018 was the Southern District of New York. There were a total of 67 securities class action lawsuits filed in the S.D.N.Y. in 2018, representing 16.6% of all 2018 securities class action lawsuit filings. There were an additional 21 lawsuits filed collectively in the Eastern District of New York, the Western District of New York, and the Northern District of New York (19 in the E.D.N.Y. alone), bringing the total of securities suits filed in the New York federal court districts to 88, representing about 22% of all federal court securities suits filed in 2018.
Outside of New York, the federal court district with the highest number of securities suit filings in 2018 was the District of Delaware, where there were 58 securities suit filings in 2018, representing about 14.3% of all 2018 federal court filings. However, of the 58 suits filed in the District of Delaware, 55 were merger objection lawsuits, clearly reflecting the diversion of merger suits from state court to federal court.
Outside New York and Delaware, the federal district with the highest number of securities lawsuit filings was the Northern District of California, which had 54 securities suit filings in 2018, representing 13.4% of all 2018 federal court securities suit filings. There were an additional 29 securities suit filed collectively in the Central District of California, the Eastern District of California, and the Southern District of California (including 24 in the C.D.Cal. alone) bringing the total number of securities suit filings in the California federal courts to 83, representing 20.6% of all 2018 securities suit filings.
Taken together, the New York, Delaware, and California federal court securities suit filings totaled 239, representing 59.3% of all 2018 federal court securities suit filings.
Other federal district courts that had significant number of securities suit filings in 2018 were the District of New Jersey (26), the Northern District of Illinois (14), the District of Massachusetts (12), and the Northern District of Texas (11).
Of the 403 federal court securities lawsuits filed in 2018, 51 (or about 12.65%) involved non-U.S. companies. If the suits involving non-listed companies (such as for example the lawsuits involving ICO companies) are taken out of the equation, the lawsuits against non-U.S. companies represented about 13.24% of the federal court securities suits in 2018. Of the 51 lawsuits against non-U.S. companies, ten were merger-related, and 41 were “traditional” securities lawsuits.
The federal court securities suits against non-U.S. companies in 2018 involved companies from 19 different countries. The countries with the highest number of U.S. federal court securities lawsuits in 2018 were Canada (with 6), Ireland (6), China (5) and the U.K. (4). Of the 51 federal court securities suits filed against non-U.S. companies in 2018, six were bribery or corruption follow-on lawsuits.
Of the 403 federal court securities class action lawsuits filed in 2018, 15 involved IPO companies (that is, the allegations related to the company’s initial public offering transaction). This figure does not of course take into account IPO companies that may have been named as defendants in state court securities class action lawsuits. As noted above, while many of the state court securities suits involve parallel federal court actions, some do not, meaning that the federal court tally of IPO-related lawsuits may (and likely does) undercount the number of IPO companies sued in securities class action lawsuits in 2018.
Of the IPO companies sued in federal court securities class action lawsuits in 2018, one completed its IPO in 2016, ten completed their IPOs in 2017, and four completed their IPO in 2018.
The most important takeaway from the 2018 filing figures is that, contrary to an unfounded belief that seems to be widely circulating in the D&O marketplace, the securities class action lawsuit filing activity has not dropped significantly compared to 2017. The level of federal court securities class action filing activity remains at or near historically high levels. The scuttlebutt circulating in the marketplace that new lawsuit activity is down is completely unfounded. The numbers don’t lie.
Indeed, assessing the 2018 securities suit filing activity arguably requires taking into account some additional considerations not present (or not as significantly present) in prior years; that is, the heightened level of state court securities class action lawsuit activity as a result of the March 2018 Cyan decision must also be taken into account. As noted above, when the additional state court activity in 2018 is taken into account, the number of securities class action lawsuits in 2018 may well be higher than in 2017.
Separate and apart from the raw number of lawsuits filed, the rate of litigation arguably was higher in 2018 compared to prior years, including compared to 2017. As noted above, the likelihood of a U.S.-listed company getting hit with a securities lawsuit arguably was higher in 2018 than in any prior year.
The 2018 filing data should also dispel another myth that has been circulating in the D&O marketplace, which is that the problem of federal court merger objection lawsuits is going away. I have no idea where this idea is coming from, but the data don’t lie – federal court merger objection lawsuits continued to be filed at significant levels, apparently unabated. To be sure, the way these suits are being resolved now may have changed (with plaintiffs’ attorneys now agreeing to dismiss the suits in exchange for the defendants’ agreement to pay a mootness fee), but that is a different issue. The fact is that the plaintiffs’ lawyers are continuing to file federal court merger objection lawsuits.
Another important point from the above analysis is that while the total number of federal court securities lawsuit filings is significantly inflated by the merger objection lawsuit filings, traditional securities class action lawsuits were filed at significantly elevated levels during 2018. Indeed, as the analysis above shows, both the number of traditional securities lawsuits and the rate of filing of traditional lawsuits arguably were at or near all-time high levels in 2018.
The undeniable significance of the state court securities class action lawsuit filings in the wake of the Cyan decision points to both a record-keeping problem and an analytic problem. Because of the difficulty of obtaining reliable and accurate state court litigation data, the process of trying the measure securities class action lawsuit activity is now significantly more complicated. It could be argued that without the state court data taken into account, the securities suit filing analysis is at best incomplete. It may well be that other services tracking securities suit filings activity will be better able to track the state court activity, but at a minimum the process of trying to keep an accurate and complete picture of overall securities lawsuit filing activity is now a lot more complicated.
The significantly elevated level of securities lawsuit filings activity during the last two calendar years is a problem both for publicly traded companies and for their insurers. The increased likelihood for a company to get hit with a securities suit is a significant threat for public companies. For their insurers, the heightened threat of securities litigation represents a significant pricing challenge, particularly at a time of ample insurance capacity and the resulting difficulty in seeking rate increases.
The elevated level of securities lawsuit activity over the last two calendar years represents another kind of problem for the D&O insurers. Even though the dismissal rate has increased recently, the fact is that the D&O insurers now have a massive volume of securities suits in their claims pipelines. This mass of claims not only needs to be processed and administered, but reserves for these claims must be estimated, established, and maintained. The need for appropriate reserving on this mass of claims has significant implications for the insurers’ underwriting results, particularly (but not just) for the primary insurers.
The mass of litigation over the last couple of years has not gone unnoticed. Indeed it has already set off alarm bells in certain quarters. The U.S. Chamber Institute of Legal Reform has already sounded the call for another round of securities class action litigation reform. Clearly, there is some important work for Congress to do to help with this situation. One thing Congress could do for sure is to clean up the mess it made with SLUSA, and clarify that class action lawsuits under the federal securities laws can only be filed in federal court. Another possibility is that Congress could clarify that there is no private right of action under Section 14 of the Securities Exchange Act of 1934 – that would eliminate the curse of federal court merger objection litigation.
In any event, looking ahead, we should all continue to expect to see elevated levels of securities class action activity. Much of the activity in 2017 and 2018 was driven by the hyperactivity of a very small number of so-called “emerging” plaintiffs’ firms, and there is every sign that these law firms will continue to pursue this active approach during 2019. At the same time, we will continue to hear calls for securities litigation reform.
A Preview of Coming Attractions: I will be publishing my annual Top Ten D&O Stories report on the morning of Tuesday, January 8, 2019.
More About Securities Class Action Litigation Reform: Those interested in the topic of Securities Class Action Litigation Reform will want to know about the webinar that the Professional Liability Underwriting Society (PLUS) will be hosting on Wednesday January 16, 2018 at 1 pm EST. The webinar will be moderated by Sara Brody of the Sidley Austin law firm. The other speakers will include Andrew Pincus of the Meyer Brown law firm, who authored the U.S. Chamber Institute of Legal Reform study about securities litigation reform to which I linked above, and Robert Wolfe of Chubb. Information about the webinar, including registration details, can be found here.