Securities Litigation Landscape Poses Continuing Challenges for D&O Insurers

The securities litigation landscape remains challenging for all involved in the directors and officers market, executives attending the recent 2004 PLUS D&O Liability & Insurance Issues Symposium were told.

Introducing the session titled “An Overview of the Securities Litigation Landscape,” moderator Tower Snow, partner, Clifford Chance US LLP, described the current environment as “grim.” Snow noted that in 2003 some 210 securities class action cases were filed, excluding analyst and mutual fund cases, which was pretty consistent with prior years. Cases against high-technology companies and NASDAQ-listed companies are dropping, while cases against NYSE and Fortune 500 companies are rising.

There are currently over 1,000 unresolved cases and not a single mega case, including Enron, MCI, Adelphia, Global Crossing and Tyco, has been settled. “Some commentators have estimated that it will cost over $75 billion to settle the 1,000 outstanding cases, the mega-cases, the IPO laddering cases, the analyst cases and the mutual fund cases. There is no indication that the filings are going to slow down, much less stop. So this is a challenging environment for all of us,” he said.

The number of settlements each year continues to drop, and the average settlement in 2003 declined to $19.8 million, from $23.3 million in 2002. Despite this decline, Snow said the numbers are actually going up. “What this suggests is that the less meritorious cases are getting settled earlier, and the big money cases have yet to be settled.”

From his viewpoint as plaintiff’s attorney, William Lerach, partner, Milberg Weiss Bershad Hynes & Lerach LLP, cautioned that the number of cases filed annually may be a deceptive number in terms of trying to forecast ultimate financial exposure.

“One clear mega trend which has taken hold is the willingness of large institutional investors to now pursue individual non-class action claims.” He warned that there are billions of dollars of private claims being brought in the case of WorldCom, as well as Enron, Adelphia, Quest, Vivendi, and AOL Time Warner.

“These are not small claims. Many of these private claims standing on their own four or five years ago would have been considered a significant class action in terms of the amount of money involved,” he said.

Arthur Abbey, senior partner, Abbey, Gardy & Squitieri LLP, said the reason why individual cases are being brought by institutions is obvious. “When there is a desire to settle the case, those individual cases expect that they will get more dollars for their losses than by staying in the class. I have seen some statistics that suggest the pay-off by bringing an individual case is as much as three times greater than what you would get by staying in the class.”

Joseph Tabacco, managing partner, Berman DeValerio Pease Tabacco Burt & Pucillo, warned that the opt-out trend could lead to a spiraling up of the ultimate payout. “All the shareholders are impacted by this, but how it impacts the D&O market remains to be seen,” he said.

Speaking from the defense attorney’s perspective, Jeffrey Rudman, senior partner & chair, Hale & Dorr, said the enactment of the Sarbanes-Oxley Act had changed the way boards look at the issue of corporate governance.

“The fact is boards are working harder than ever. In my experience, boards are working hard, audit committees are working hard. They take their responsibilities seriously. They have learned about indemnification and insurance in a way they never knew before,” Rudman said.

According to Shirli Weiss, partner, Gray Cary Ware & Freidenrich LLP, the development that has affected securities litigation the greatest in recent years is electronic document discovery. “An unintended consequence of the computer age is really the massive proliferation, pervasiveness and even immortality of communication by email.”

Side-agreements, understandings and communications that used to be gone after a few months are now rendered immortal. “E-discovery is the DNA of litigation now, not the fingerprints, the DNA. E-discovery now answers the question who was there, what did they know and when did they know it,” she added.

Thomas Newkirk, associate director at the Securities and Exchange Commission (SEC)/Division of Enforcement, gave an overview of enforcement activity at the SEC.

In the fiscal year ending September 30, 2003, the SEC brought 679 enforcement actions, versus 598 cases in 2002. Of those cases, 29 percent were in the financial fraud area, 16 percent were offering fraud cases, 20 percent broker dealer cases, 7 percent insider trading, and 9 percent involved investment advisers.

Newkirk said the percentage of cases involving investment advisers is likely to rise in the coming year, due to the mutual fund scandals the SEC is now working on. “It is fair to say that nobody in the Commission had the slightest idea this type of conduct was going on and at the scale it was taking place. Some of it just doesn’t make any sense at all that the principal owner of a huge billion dollar company throws it away to make a few thousand bucks to cheat his shareholders,” he said.