Monday, September 17, 2007

NERA Releases Mid-Year 2007 Securities Class Action Study

In an earlier post (here), I noted Cornerstone Research’s release of its mid-year 2007 of securities class action lawsuits filings and settlements. On September 13, 2007, NERA Economic Consulting released its own mid-year 2007 study, entitled "Recent Trends in Shareholder Class Action Litigation: Filings Stay Low and Average Settlements Stay High – But Are These Trends Reversing?" (here). The NERA study differs in some of its numeric specifics from the Cornerstone study, but the two studies are directionally consistent. The NERA study also has some interesting additional observations, particularly with respect to possible future directions of current trends.

The NERA study, like the Cornerstone study, finds that the class action filing rates in the first half of 2007 were well below historical norms. The NERA study, extrapolating from first half filings, projects 153 full year 2007 filings, compared with a 1998 through 2005 annual average of 284. However, NERA also notes that the filings in the first half of 2007 increased 47% from the second half of 2006, "indicating that the trend in filings may be changing directions."

The NERA study also notes in particular that while there were only 28 new cases filed in the Ninth Circuit in 2006, there were already 20 new Ninth Circuit filings in the first half of 2007, suggesting that the "Ninth Circuit is on pace to return to 2005 levels." NERA also added that "to the extent this Circuits is ahead of the curve on filing trends, this may be a signal that other jurisdictions could also experience a rebound in filings in the months to come."

The NERA study also reviews the recent increases in the average securities class action settlement values, driven by the increase in the number of mega-settlements (over $100 million). NERA notes, the proliferation of mega-cases notwithstanding, that the majority of cases are still resolved for under $10 million, and during the 2005-2007 period "37% of the cases have resolved for less than $5 million, and 57% for less than $10 million." But the median settlement has risen along with the average. In the first half of 2007, the median settlement reached $9 million, compared to $7 million in 2006 and about $5 million in 2004.

The NERA study emphasizes, however, that these settlement value increases are largely being drive by the magnitude of investor losses; NERA notes that "we found no statistically significant change in settlement values since the passage of Sarbanes-Oxley once we control for other factors, including investor losses." The NERA study concludes that "higher investor losses for more recently resolved cases explain the rise in settlements." By the same token, the study also notes that because the cases filed in the first half of 2007 involve relatively lower median investor losses, future settlements may involve lower settlement values.

Other factors that the NERA study notes are correlated with settlement values include: the inclusion in the plaintiff class of the holders of additional classes of securities; the size of the defendant corporation’s market capitalization; the involvement of professional firms as co-defendants; the inclusion of allegations of accounting improprieties; the accompaniment of any kind of official investigation, consent decree or penalty; the service of an institutional investor as lead plaintiff; and the involvement of an IPO. In addition, a company's involvement in the health services sector also appears to positively correlate with settlement values.

When Cornerstone previously released its mid-year study, it created a stir by its inclusion of a statement by Stanford Law Professor Joseph Grundfest in which Grundfest speculated (refer here) that the lower levels of class action filings over the last two years may be the result of a "permanent shift" to reduced levels of class action filings. NERA’s contribution to this assessment of recent filing levels consists of its observation that filing levels in the first half of 2007 represented an uptick from the second half of 2006. In addition, the NERA study concludes with the observation that the stock market has performed well in recent years; the NERA study notes that "should the market have a substantial downturn, average investor losses are likely to increase and filing levels could begin to rise." The NERA study also notes that the subprime lending mess led to seven claims through mid-year 2007, and "may be the source of a significant number of filings in the near future."

In releasing its study several weeks after Cornerstone, NERA had the benefit of watching a couple of months of third quarter filing activities in making its observations. Ordinarily, a few weeks might not make that much of a difference, but so far in the second half of 2007, there has been an increased level of filing activity, including but not limited to a number of new subprime-related securities class action lawsuits (a running count of which can be found here). By my count, there have already been 36 companies sued for the first time during the third quarter of 2007, compared to the 66 filings that NERA counted for all of the first half of 2007. At least for the first weeks of the second-half of 2007, filing levels appear to have returned closer to historical norms. At this point, Professor Grundfest’s declaration that we have moved to a permanently lower level of class action activity appears to have been premature at best.

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