In 1995, Congress enacted the Private Securities Litigation Reform Act (PSLRA), which sought to encourage institutional investors to serve as lead plaintiffs in securities class action lawsuits. More than ten years later, it appears that many labor and public pension funds have answered that call.
Of the 108 settlements announced last year, union and public pension funds served as lead plaintiffs in a record 35 settlements, according to the recently released "2005 Securities Litigation Study" by PricewaterhouseCoopers (PwC). To download the study, please click here.
This participation by labor and public pension funds significantly exceeds the 26 settlements in 2004, the 19 accords in 2003, and 13 settlements in 2002, where those institutions served as lead plaintiffs. In addition, the PwC study projects that union and pension funds will serve as lead plaintiffs in 68 of the 168 new lawsuits filed in 2005. That total would be less than the all-time high of 71 cases in 2004, but it would surpass the 49 cases in 2003 and 59 in 2002 where those institutions served as lead plaintiffs.
These findings are consistent with other research. A recent study by NERA Economic Consulting found that 38 percent of the settled cases in 2005 had an institution serving as a lead plaintiff, up from 14 percent in 2000.
According to the PwC study, the more prominent role of institutions was one of the factors that contributed to a significant increase in settlement dollars last year. Excluding the Enron and WorldCom multibillion-dollar accords, the average settlement in 2005 was $71.1 million, up from $27.8 million in 2004. The median settlement was $9.25 million in 2005, up from $6.75 million the year before. Other factors that fueled this increase include enormous investor losses, the "Fair Funds" provisions of the Sarbanes-Oxley Act, and the growing role of state and federal regulators in seeking fines and recoveries for investors, the authors concluded.
Like other researchers, the PwC study found that the total number of new cases declined in 2005. The study reported 168 new federal securities class action lawsuits, down from 203 in 2004. While the 2005 total is a nine-year low, the authors cautioned that this drop might not mean a long-term trend. They noted that the number of new suits has tended to fluctuate in a "seesaw pattern" (with increases in 2002 and 2004 and decreases in 2001 and 2003) in recent years.
As in 2004 and 2003, high technology companies continue to face the most investor lawsuits, accounting for 29 percent of the new cases in 2005, the study found. Next was the pharmaceutical/healthcare industry (19 percent of cases), followed by banking/financial services industry (13 percent).
Fewer Accounting Lawsuits
Another noteworthy finding from the PwC study is that the number of new lawsuits with accounting fraud claims fell to 46 percent, the lowest percentage in 10 years. By contrast, 61 percent of the initial complaints in 2004 including accounting allegations and 81 percent of the 2002 lawsuits had such claims.
The study theorizes that this decline in accounting cases may be due to "improved internal accounting and financial reporting and increased anti-fraud auditing" by outside auditors. However, the authors also note that these numbers may reflect the higher number of "product efficacy" cases against healthcare, pharmaceutical, and other companies, where investors allege that the firms made misleading statements about the effectiveness of a new drug or other product. Those cases accounted for 10 percent of all new cases in 2005.
Traditionally, a majority of the accounting-related lawsuits have included allegations that the defendant company failed to recognize revenue properly. In 2005, only 39 percent of the accounting cases had such recognition claims. This was the first time since 1996 since that this percentage fell below 50 percent, the PwC study noted. At the same time, 55 percent of new accounting lawsuits in 2005 included internal control allegations. This apparent shift in claims may stem from the increased focus on internal controls after large companies started complying with Section 404 of the Sarbanes-Oxley Act last year.
The study also reaffirmed the PwC authors' observation last year that restatements do not automatically trigger securities lawsuits. In 2004, 83 percent of the restatements did not lead to securities litigation. While there was a record number of restatements (almost 1,300) in 2005, only 37 of the 168 new cases filed last year involved a company that filed a restatement of earnings, the PwC study found. The authors explain this finding by noting that many restatements are issued for "benign" reasons (such as a change in accounting principles) and most do not lead to significant stock price drops.
Lawsuits Against Foreign Firms Decline
The number of securities class actions in U.S. courts against foreign issuers declined to 19 in 2005, down from an all-time high of 29 in 2004. However, the PwC authors note that this year's total is the third-highest in the past 10 years. Among the foreign issuers sued in 2005 were Tyco International, GlaxoSmithKline, Elan, Helen of Troy, and AstraZeneca. The lawsuits were directed against companies from 11 nations; Canada and Bermuda each were home to four of the companies sued.
Foreign issuers reached 12 class action settlements in 2005, up from 10 in 2004. Among the notable accords were Royal Ahold ($1.1 billion), Deutsche Telekom ($120 million), Asia Pulp & Paper ($46 million), Vodafone Group ($24.5 million), and Ashanti Goldfields ($15 million). Excluding the Ahold accord, the average foreign issuer settlement was $23 million, down from the 2004 average of $63.4 million, according to the PwC study.