Studies Confirm Public Pension Securities Fraud Lawsuits Are Driven By Fraud, Not Pay-For-Play

Kevin LaCroix at The D&O Diary reports,

On March 24, 2010, Cornerstone Research released its annual study of securities class action lawsuit settlements. The most recent study, which is entitled "Securities Class Action Settlements: 2009 Review and Analysis" and is written by Ellen M. Ryan and Laura E. Simmons, can be found here. Cornerstone’s March 24, 2010 press release concerning the study can be found here.

The study reflects a number of interesting observations about median and average securities class action lawsuit settlements that were approved during 2009. The study also includes a useful analysis of the factors that affect settlement size, and concludes with some commentary about likely future settlement trends.

The WSJ Law Blog has more links here.

Though the overall settlement numbers get the headlines — Bloomberg titles their report, "Securities Class-Action Settlements Rose 39% to $3.8 Billion" — those numbers are always skewed by the two or three biggest cases of the year, which generally comprise one-third to one-half of the total, and so don’t tell us much about the industry as a whole.

More interesting to me are the factors correlated with a successful settlement, including:

Institutional Investors Plaintiffs: Cases involving institutional investors as lead plaintiffs are associated with significantly higher settlements. The higher settlements are associated with cases involving public pension plans as lead plaintiffs as opposed to union funds or other institutional investors. These larger settlements may be due to the fact that the sophisticated investors get involved in the stronger cases and the larger cases. However, even when controlling for case size and other factors the presence of a public pension plan as lead plaintiff is still associated with a statistically significant increase in settlement size.

That’s important, given the never-ending chorus complaining that "pay-for-play" drives public pension plan securities fraud class actions. The Cornerstone Research study confirms that public pension plans don’t file frivolous lawsuits because some trial lawyer contributed to a politician’s campaign; the public pension plans file and join the strongest cases. 

Coincidentally, a recent analysis of public pension plans’ securities litigation from 2003 through 2006 — when most of the suits settled in 2009 were originally filed — concluded:

“[P]ay-to-play” is, at most, a marginal factor in the funds’ participation in securities class actions.

[...]

(1) politicians and political control of pension fund boards negatively correlate with lead plaintiff appointments;

(2) beneficiary board members—and outright beneficiary control of the board—positively correlate with such appointments; and

(3) the degree of a pension fund’s underfunding positively correlates with lead plaintiff appointments, particularly when the fund is controlled by beneficiaries.

This evidence suggests that beneficiary board members, not politicians, drive these cases for reasons having to do with the financial soundness of the fund.

Fact is, it doesn’t matter how much "pay-for-play" is going on among the public pension plans: to get a securities fraud settlement out of a major corporation, you still need a viable lawsuit. No amount of campaign contributions or fancy dinners can buy a trial lawyer that.

The Cornerstone Research study confirms, once again, that the primary drivers of securities fraud class actions are the merits of the cases, which is why SEC Enforcement — as good a proxy as any for the merit of the case — was also positively correlated with higher settlements.

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