Risk Management

Double Whammy: Sued More, Settling Less

Subprime-fueled rise in class-action suits, after years-long lull, noted again in separate PwC and Cornerstone/Stanford studies. But PwC also sees ...
Stephen Taub and Roy HarrisJuly 29, 2008

For the second straight half, the number of class-action securities lawsuits nearly doubled year-earlier levels, with many of the cases driven by the subprime mortgage issues and the credit crunch, according to a new study from Cornerstone Research in cooperation with Stanford Law School’s Securities Class Action Clearinghouse.

A second study, from PricewaterhouseCoopers, using a slightly different data base of class-action cases, calculated that settlements of such suits fell 16 percent in the first half — to 54 from 64. The PwC study said the average settlement value climbed sharply, however, to $34.2 million from $23.9 — excluding an “outlier” settlement of $3.2 billion in a case involving Tyco International.

Both studies noted the reversal in mid-2007 of a period of several years in which there were far fewer class-action suits.

There were 110 filings in the 2008 first half, as calculated in the report from Cornerstone/Stanford. Researchers in that study noticed a sharp jump from the 66 suits filed in last year’s first half, to 107 in the second half, after several years of declining filings. Thus, for the trailing 12 months ended this past June, 217 cases were filed, compared with 119 in the previous 12-month period. And the 220 suits projected for all of 2008 thus would compare with 173 in all of 2007.

“The recent high level of filings coincided with a marked increase in stock market volatility,” the Cornerstone/Stanford report said, noting that about half of the 2008 first-half filings — 58 in all — reflected subprime or credit issues. Of those, 17 involved auction rate securities.

In addition, the median market-capitalization loss for defendant firms in the first half of 2008 was $243 million, the report said, more than twice the historical average. Not since the period of heightened filing activity from 2000 through 2002 have market-cap losses been of that size, it added.

“We continue to witness the dramatic effects of the subprime market meltdown, with half of the filings so far this year linked to the subprime/credit crunch disaster,” said Professor Joseph Grundfest, co-director of the Rock Center on Corporate Governance and former Commissioner of the Securities and Exchange Commission.

The PwC study on class-action lawsuit trends, meanwhile — its PwC Securities Litigation Mid-Year Update — included a somewhat more conservative projection for suits to be filed the rest of the year. (The PwC numbers for the 2008 first half excluded the 17 auction-rate-securities cases and 13 mutual-fund-related cases, among other litigation that Cornerstone/Stanford counted. PwC showed 70 overall securities class actions, rather than Cornerstone/Stanford’s 110.)

Based on PwC’s own projection of a doubling of its 2008 first-half filings, it expects that the number of new cases “will equal or fall short of last year,” PwC partner Grace Lamont told CFO.com. (PwC used 165 as the number of 2007 cases in its data base, compared to Cornerstone/Stanford’s 173.) While the credit crisis has been a major factor in litigation recently, Lamont said, “there was a spike last year in the second half, and some of that was spurred on by the credit crisis. We don’t expect another credit crisis, so that’s why we’re a little more conservative” about full-year 2008 projections.

In reporting for an earlier Cornerstone/Stanford study, Professor Grundfest had proclaimed 18 months ago — before the subprime woes hit — that the nation had reached the end of the high-litigation era. At that earlier time, he noted that the number of securities fraud class actions filed in 2006 had plunged by 38 percent. “My bet is that the private securities fraud litigation market is shrinking because corporations are engaging in less activity that gives plaintiffs an excuse to file a complaint alleging fraud,” he said at the time.

Credit issues have changed all that, however. And the financial sector was hit with the most securities class action filings for the third straight six-month period, according to the latest report, with 63 filings in the first half of 2008 — up from 30 in the second half of 2007 and 19 in the first half of 2007. The sector, in fact, registered more filings than all other sectors combined, with subprime/credit-crunch fallout driving the spike. Almost all the financial sector filings involving related allegations, according to Cornerstone/Stanford’s report.

In 2007 and the first half of 2008, 87 of the 97 subprime/credit crunch-related filings were in the financial sector.