Shareholder Lawsuit's Bull's Rebuttal
by Louis Corrigan ([email protected])

I hate to argue with anyone willing to throw around the term "myopic cupidity" in public, but Bill's characterization of the current situation is excessively bleak, especially given that he's mainly concerned with protecting companies from meritless lawsuits. I mean, look at where the game is moving. Pleading standards were raised by the Reform Act of 1995, a law initiated by corporate America, principally the National Investor Relations Institute (NIRI) and technology firms in Silicon Valley. Moreover, Congress is working to close so-called loopholes in that law, ensuring that these greedy lawyers Bill is dissing won't be able to use state courts to get around these tougher federal standards.

Court is literally still out on whether the new standards are too stiff. They might be, though the current move to solidify the "recklessness" standard is a positive development. Still, I'm personally in favor of Congress establishing federal laws that have clear priority here. Although it's certainly another win for corporate America, this reform of the Reform Act will at least clarify the battlefield. It could also create a meaningful context for federalizing corporate governance standards, which now differ wildly according to individual state charters. That means that shareowners of a company incorporated in Nevada, for example, literally have different rights from shareowners of a firm incorporated in Delaware. Many problems facing shareowners could be resolved or prevented by ensuring that owners have more supple and consistent control over public companies.

Bill brings up the ever-controversial William Lerach as the epitome of today's litigation scene. Well, I have no plans to offer unconditional support for this loudmouth, but I see a glass half full where Bill sees merely some dregs at the bottom of the glass. Consider these points:

1) The number of shareholder suits has been roughly constant in recent years. In the five years prior to the Reform Act, about 176 companies were sued each year (range 153 to 220). Adjusting for a rush to court at the end of '95, 163 companies would have been sued in 1996. Last year, suits were running at an annualized total of 194 prior to the late fall market troubles, which pumped the tally to 223 by year-end. That's high, but not too high in light of the unbelievable carnage in the tech sector and the general rise of securities fraud cases brought by the SEC.

2) Early evidence shows that companies have had a fairly easy time defeating weaker lawsuits. As of last August, only 16 of 26 cases clearly survived the initial motion to dismiss.

3) While Bill cites a study showing no correlation between settlement amounts and a case's merits, prominent corporate attorney Boris Feldman disagrees. "Although some scholars believe that the merits have little impact on the settlement amount, that has usually not been my experience," he has written. "In many suits, the merits are a significant factor in determining the gross level, if not the precise amount, of a settlement." Furthermore, early evidence shows recent settlements running 40% higher than before the Reform Act. That is perhaps due to the fact that twice as many lawsuits are now making the more serious and concrete charge of accounting fraud.

Despite Bill's dire examples, then, the above data are consistent with the view that only the strongest cases are surviving the courts and that there actually is a correlation between a case's merits and the settlement amount.

Still, I do agree with Bill that the plaintiffs' attorneys remain too powerful and too richly compensated for the system to work as well as it might. The '95 Act tried to encourage large institutions to become lead plaintiffs to moderate the litigation process. Although activist state pension funds such as CalPERS have led some class action suits, institutions have become lead plaintiffs in only a handful of cases. SEC chair Arthur Levitt is aware of the problem and has hired a special consultant to change this state of affairs. There's no doubt that institutional investors could considerably strengthen the role of shareholders in establishing settlement terms and constrain attorneys from taking an excessive share of the loot. I think we'd both agree that would be a constructive development.

Next: The Bear Responds