March 12, 1995 in Business

Reforms Could Disarm Investors

Knight-Ridder
 

As part of their Contract With America, Republicans are moving aggressively to approve litigation reform that they say shouldn’t offend anyone - other than ambulance-chasing lawyers, who attempt to extort money from honest businesses, that is.

One key provision would force the loser of a securities lawsuit to pay the winner’s attorney fees and other costs. Others would make it harder for investors to prove they have been defrauded in cases when, for example, company managers make misleading statements about profits or other matters that affect stock prices.

The proposal, approved 33-10 on Feb. 16 by the House Commerce Committee, has come under intense attack from groups representing lawyers, the elderly, people with pension plans, unions, and academics. The House is expected to vote on the bill next month.

Critics complain that in trying to solve what is, they say, a very small problem - groundless class-action lawsuits - the measure will leave investors with little defense against stock fraud.

In a class-action suit, a number of plaintiffs, such as investors in a stock, band together. Typically, lawyers in such cases work on contingency, making class actions an inexpensive way for small investors to go after rich corporations.

Securities and Exchange Commission Chairman Arthur Levitt warned that the “Securities Litigation Reform Act” would undermine investors’ confidence in the stock market and make it harder for firms to persuade investors to buy new issues of stock.

The loser-pays provision, Levitt said, would eliminate legitimate lawsuits as well as frivolous ones.

“Imagine you’re a small investor whose nest egg of $10,000 loses its value overnight, due to the sudden disclosure that a company has withheld its true earnings,” he said. “You’re weighing the possibility of paying legal fees that are dozens of times larger than your whole investment.

“That strikes me as a powerful deterrent (to joining a class-action suit), no matter how legitimate your claim.”

The author of the securities proposal, Rep. Christopher Cox (R.,Calif.), cited studies showing the average company that is a defendant in a security fraud class-action spends nearly $700,000 in legal fees, pays a settlement of $8.6 million and uses more than 1,000 hours of management time defending itself.

Cox doesn’t offer a breakdown showing how many suits were legitimate and how many frivolous, and the two sides are wide apart on views about how serious the problem is.

“There is a whole group of classaction lawyers, which some might even call highwaymen,” says Stuart Kaswell, general counsel for the Securities Industry Association, which strongly supports the Cox measure.

Citing statistics from the federal court system, he says there were 268 class-action securities suits in 1992, compared with 86 in 1981.

Kaswell did not know how many had been won by plaintiffs or defendants or what it cost companies to defend themselves against lawsuits they won. When asked how many cases he would term frivolous, he said he had no breakdown.

“I don’t have hard numbers, and I wish I did,” he said. “But we hear over and over again from our members anecdotal stories - ‘I had to pull my CEO off making deals and he had to (give testimony) for three days, and I had to pay $500 an hour for legal fees.”’

Jim Schweitzer, counsel for the National Association of Securities and Commercial Law Attorneys, uses the numbers cited by Kaswell to argue there’s no need for sweeping reform.

Frequently, a company accused of securities fraud faces a number of class-actions that are merged into one case, Schweitzer said. In 1992, 268 class-actions were filed against 113 companies. That means fewer than 1 percent of the approximately 13,900 public companies were sued that year.

In many cases, investors succeed in recovering damages, suggesting these are not all frivolous lawsuits, he said, although he did not have a breakdown of the number of suits won by plaintiffs.

“I would never tell you that there has never been a frivolous securities fraud case filed,” he said. “The question is whether you should throw the baby out with the bath.”

Get stories like this in a free daily email


Please keep it civil. Don't post comments that are obscene, defamatory, threatening, off-topic, an infringement of copyright or an invasion of privacy. Read our forum standards and community guidelines.

You must be logged in to post comments. Please log in here or click the comment box below for options.

comments powered by Disqus