US Competitiveness and Securities Class Actions: The Need for a New Explanation

Securities class actions fraud suits have been subject to a number of restrictions and limitations designed to reduce their frequency. 

Some seek to make the cases more difficult to bring, irrespective of whether fraud actually occurred.  The PSLRA and the need for a "strong inference of scienter" is the best example of reducing fraud suits not by reducing fraud but by imposing higher pleading standards.  Similarly, the Supreme Court's decision in Stoneridge and now Janus have gone a long way to eliminating fraud actions against tertiary players, even when they commit a deceptive act.

Another sent of changes has been designed to reduce the incidents of fraud.  Changes in Sarbanes-Oxley strengthened the role of the audit committee in the oversight of financial disclosure.  CEOs and CFOs had to certify the accuracy of the financial statements in periodic reports, something that no doubt caused greater focus on their contents.

All of this has impacted the number of securities class action fraud suits.  The most recent report from the Standford Clearinghouse on securities fraud actions shows that, for the first half of 2011, the numbers are down.  For the six month period, 94 actions were filed, a decline of 9.6% from the prior year.  Moreover, 2010 itself had a relatively low level of activity.  Of the 14 years of data on the Stanford site, it was the fourth lowest in total number of securities class action fraud suits (176 actions). 

The data also shows that size matters.  Of the 96 suits filed in the first half of 2011, twenty four arose out of Chinese reverse mergers.  These are on the whole smaller companies.  Only 8.5% of the cases brought were against companies in the S&P 500, down from 15.4% the year before.  So the data shows that there were fewer suits brought against smaller companies.

The reduction in fraud suits for 2011, while only a six month period, looks to be part of a broader trend.  With the exception of a spike in 2008, the number of securities class action lawsuits has remained significantly below levels seen from 1998 to 2004.  In other words, whether explained by SOX or the PSLRA, the actions have become less common. 

There was a time when securities litigation was routinely blamed for the perceived decline in US competitiveness in the global market place.  The Supreme Court used it as a justification for narrowing the reach of Rule 10b-5 in Stoneridge.  Yet as the number of fraud actions continues to decline, perhaps it is time to look for other sources that really may explain the perceived decline in competitiveness.