Mapping the American Shareholder Litigation Experience: A Survey of Empirical Studies of the Enforcement of the U.S. Securities Law

In this paper, we provide an overview of the most significant empirical research that has been conducted in recent years on the public and private enforcement of the federal securities laws. The existing studies of the U.S. enforcement system provide a rich tapestry for assessing the value of enforcement, both private and public, as well as market penalties for fraudulent financial reporting practices. The relevance of the U.S. experience is made broader by the introduction through the PSLRA in late 1995 of new procedures for the conduct of private suits and the numerous efforts to evaluate the effects of those provisions. We believe that the evidence reviewed here shows that the PSLRA\u27s provisions have largely achieved their intended purposes. For example, many more private suits are headed by an institutional lead plaintiff, such plaintiffs appear to fulfill the desired role of monitoring the suit\u27s prosecution and their presence is associated with suits yielding better settlements and lower attorneys\u27 fees awards. SEC enforcement efforts, while significant, have tended to focus on weaker targets, suggesting that the big fish get away. Equally importantly, markets impose their own discipline on companies whose managers release false financial reports and, in turn, firms discipline the managers who are responsible for false misleading reporting, perhaps because of the presence of, or potential for, private enforcement actions

Public and Private Enforcement of the Securities Laws: Have Things Changed Since Enron?

In this paper, we examine how those corporations that have been the targets of SEC enforcement efforts compare in terms of their size and financial health vis-a-vis firms that are targeted only by the private securities class action. We also ask whether the SEC or the private bar systematically proceeds against violators that cause the greatest loss to investors. In this regard, we are intrigued by the most basic question posed by private suits, whether settlements bear any relationship to the losses suffered by the class and whether those losses bear any relationship to the size of either the firm itself or the duration of the class action. Our data set consists of 389 securities class action settlements that occurred between 1990 and 2003. Using multivariate regression analysis to examine the determinants of government litigation, we find a sharp change in the pattern of SEC enforcement actions after the end of 2001. We find that the SEC seems to have shifted its enforcement focus away from targeting frauds at firms in financial distress to seeking out frauds at companies where investors may have suffered larger losses, especially if they are smaller firms. Again applying multivariate regression analysis, we look at settlement sizes in private class actions. We find that provable losses, total assets, class period and the presence of an SEC enforcement action, are all positively and significantly related to the dollar amount of the settlement obtained in a private action. These effects do not change over the time period of our sample. The fact that provable losses are such an important determinant of the size of actual recoveries supports the view that the merits do matter

Measuring Securities Market Efficiency in the Regulatory Setting

In Nov 1998, the SEC proposed a modification to the federal securities law disclosure requirements to facilitate the process of issuing new securities. Thomas and Cotter discuss how to determine when companies should be able to issue simplified disclosure documents

Mapping the American Shareholder Litigation Experience: A Survey of Empirical Studies of the Enforcement of the U.S. Securities Law

In this paper, we provide an overview of the most significant empirical research that has been conducted in recent years on the public and private enforcement of the federal securities laws. The existing studies of the U.S. enforcement system provide a rich tapestry for assessing the value of enforcement, both private and public, as well as market penalties for fraudulent financial reporting practices. The relevance of the U.S. experience is made broader by the introduction through the PSLRA in late 1995 of new procedures for the conduct of private suits and the numerous efforts to evaluate the effects of those provisions. We believe that the evidence reviewed here shows that the PSLRA\u27s provisions have largely achieved their intended purposes. For example, many more private suits are headed by an institutional lead plaintiff, such plaintiffs appear to fulfill the desired role of monitoring the suit\u27s prosecution and their presence is associated with suits yielding better settlements and lower attorneys\u27 fees awards. SEC enforcement efforts, while significant, have tended to focus on weaker targets, suggesting that the big fish get away. Equally importantly, markets impose their own discipline on companies whose managers release false financial reports and, in turn, firms discipline the managers who are responsible for false misleading reporting, perhaps because of the presence of, or potential for, private enforcement actions

Addressing Agency Costs through Private Litigation in the U.S: Tensions, Disappointments, and Substitutes

Many scholars argue that over the past seventy years, shareholder representative litigation has acted as an important policing mechanism of managerial abuses at U.S. public companies. Different types of representative litigation have had their moment in the sun – derivative suits early on, followed by federal securities class actions, and most recently merger litigation – often producing benefits for shareholders, but posing difficult challenges as well. In particular, the benefits are qualified by another concern, the litigation agency costs that surround shareholder suits. This form of agency costs arises since the suits are invariably representative with no requirement that the named plaintiffs have a substantial ownership interest in the corporation, so that their prosecution could be easily seen as lawyer-driven. And that perception is further underscored in the U.S. where the “American Rule,” in contrast to the “Loser Pays Rule,” provides no governor on the suit’s initiation and prosecution. In this article, we assess the interactions of shareholder suits and governance mechanisms. Our thesis is straightforward: we claim that the recent rise of some important governance developments is a natural consequence of both the ineffectiveness and inefficiency of private suits to address certain genre of managerial agency costs. That is, just as one part of a balloon expands when another part contracts, we find that governance responses evolve to fill voids caused by the decompression of shareholder monitoring once supplied by private suits. In other words, as representative shareholder litigation comes under increasing attack, greater attention needs to be devoted to governance and market mechanisms as alternative means to address managerial agency costs

Does Political Ambiguity Pay? Corporate Campaign Contributions and the Rewards to Legislator Reputation

Do politicians tend to follow a strategy of ambiguity in their policy positions or a strategy of reputational development to reduce uncertainty about where they stand? Ambiguity could allow a legislator to avoid alienating constituents and to play rival interests off against each other to maximize campaign contributions. Alternatively, reputational clarity could help to reduce uncertainty about a candidate and lead to high campaign contributions from favored interests. We outline a theory that considers conditions under which a politician would and would not prefer reputational development and policy-stance clarity in the context of repeat dealing with special interests. Our proxy for reputational development is the percent of repeat givers to a legislator. Using data on corporate political action committee contributions (PACs) to members of the U.S. House during the seven electoral cycles from 1983/84 to 1995/96, we find that legislators do not appear to follow a strategy of ambiguity and that high reputational development is rewarded with high PAC contributions.

Does the Plaintiff Matter?: An Empirical Analysis of Lead Plaintiffs in Securities Class Actions

With the enactment of the Private Securities Litigation Reform Act of 1995 (PSLR) the U.S. Congress introduced sweeping substantive and procedural reforms for securities class actions. A central provision of the Act is the lead plaintiff provision, which creates a rebuttable presumption that the investor with the largest financial interest in a securities fraud class action should be appointed the lead plaintiff for the suit. The lead plaintiff provision was adopted to encourage a class member with a large financial stake to become the class representative. Congress expected that such a plaintiff would actively monitor the conduct of a securities fraud class action so as to reduce the litigation agency costs that may arise when class counsel\u27s interests diverge from those of the shareholder class. Now, more than ten years after the enactment of the lead plaintiff provision, the claim that the lead plaintiff, and particularly the lead plaintiff that is an institutional investor, is a more effective monitor of class counsel in securities fraud class actions continues to be intuitively appealing, but remains unproven. In this study, Professors Cox and Thomas inquire anecdotally and empirically whether the lead plaintiff provision has performed as projected. The anecdotal evidence they uncover is mixed: in some instances demonstrating the virtues of the lead plaintiff provision, while in others showing that the provision has encountered difficulties, including hesitance among institutional lead plaintiffs to take on the burden of serving as lead plaintiff (though recently more institutional investors are taking on the role of lead plaintiff) and allegations of pay-to-play schemes between plaintiffs\u27 law firms and potential lead plaintiffs. Professors Cox and Thomas then conduct a series of statistical analyses of the lead plaintiff provision\u27s costs and benefits. Surprisingly, their results indicate that the ratio of settlement amounts to estimated provable losses in securities class actions---the most important indicator of whether investors have been compensated for their damages---has been lower since the passage of the PSLRA and that settlement size has not increased since the passage of PSLRA. However, they also find that the presence of an institutional investor increases the dollar amount of settlements in those cases in which they appear, suggesting that the current trend for institutional investors to be lead plaintiffs in securities class actions will positively affect average settlement size in such actions in the future. Their analysis also sheds new light on the relative impacts other types of lead plaintiffs, such as individuals versus an aggregation of individuals, have on the outcome of settlements. They conclude with a discussion of the policy implications of their findings

SEC Enforcement Heuristics: An Empirical Inquiry

This Article examines the overlap between SEC securities enforcement actions and private securities fraud class actions. We begin with an overview of data concerning all SEC enforcement actions from 1997 to 2002. We find that the volume of SEC enforcement proceedings is relatively modest. We next examine the scope of the recently enacted Fair Fund provision that authorizes the SEC to designate civil penalties it recovers from defendants to benefit defrauded private investors. We conclude that this provision offers only limited potential relief for private investors. We complete this Part of the Article with an analysis of the serious resource limitations faced by the SEC. The second portion of the Article contains an empirical analysis of the determinants of SEC enforcement actions and the overlap of private fraud suits and SEC enforcement proceedings. Using bivariate analysis, we find that (1) private suits with parallel SEC actions settle for significantly more than private suits without such proceedings; (2) SEC enforcement actions target significantly smaller companies than private actions alone; (3) private cases with parallel SEC actions take substantially less time to settle than other private cases; and (4) private cases with parallel SEC actions have significantly longer class periods than other private actions. Finally, we create a model for estimating damages to compare settlement ratios in cases with parallel SEC actions to those in private actions. We find that one-fourth of all the private class action settlements occurring in suits that yield less than 10 percent of provable losses are settled for less than 2 percent of provable losses, but that there are no private actions with parallel SEC suits with such small settlements. In the final Part of the Article, we conduct a multivariate regression analysis of the determinants of when SEC enforcement actions are filed. We find that the most highly significant determinant of SEC actions is financial distress. Estimated losses do not appear to be a statistically significant factor in the SEC\u27s decision to file these suits