Adam C. Pritchard

What Counts as Fraud? An Empirical Study of Motions to Dismiss Under the Private Securities Litigation Reform Act

Abstract: This article presents the findings of a study of the resolution of motions to dismiss securities fraud lawsuits since the passage of the Private Securities Litigation Reform Act in 1995. Our sample consists of decisions on motions to dismiss in securities class actions by district and appellate courts in the Second and Ninth Circuits for cases filed after the passage of the Reform Act to the end of 2001. These circuits are the leading circuits for the filing of securities class actions and are generally recognized as representing two ends of the securities class action spectrum. Post-PSLRA, the Second Circuit applies the least restrictive pleading standard to securities claims and the Ninth Circuit applies the most restrictive. The Ninth Circuit’s post-PSLRA reputation as being a tougher venue in which to win securities fraud class actions is born out by a significantly higher dismissal rate. The differences between the two circuits are also reflected in factors that correlate with dismissal. For example, allegations of violations of accounting principles other than revenue recognition correlate negatively with dismissal in the Second Circuit. This coefficient, however, is insignificant in our regressions for the Ninth Circuit. Allegations of revenue recognition violations are insignificant in both circuits, whether or not the issuer has been forced to restate those revenues. The circuits part ways on other factors as well: the Second Circuit is significantly less likely to dismiss cases with allegations of false forward-looking statements, a surprising result given the stringent standards for such statements imposed by the PSLRA. The Ninth Circuit is significantly less likely to dismiss complaints with allegations of ’33 Act violations and the Second Circuit is more likely to dismiss cases brought by the Milberg Weiss firm. When it comes to insider trading, however, the two circuits are both skeptical and the allegations correlate with dismissal in both circuits.

Tender Offers by Controlling Shareholders: The Specter of Coercion and Fair Price

The Delaware Supreme Court has recently cleared a path for controlling shareholders to freeze out minority shareholders through a combination of a tender offer and a short-form merger. This article defends that doctrinal development against recent attacks from a number of commentators. I conclude that the risks of coercion are slight in this context and that minority shareholders are unlikely to benefit from more intrusive judicial scrutiny.

Scandal Enforcement at the SEC: The Arc of the Option Backdating Investigations

We study the Securities and Exchange Commissions (SEC) enforcement decisions in the context of the highly salient back-dating scandal. We find that (1) the SEC shifted its mix of investigations significantly toward backdating and away from other accounting issues; (2) event studies of stock market reactions to the initial disclosure of backdating investigations shows that those reactions declined over our sample period; (3) later backdating investigations are less likely to target individuals and be accompanied by a parallel criminal investigation; (4) later investigations were more likely to be terminated or produce no monetary penalties; and (5) the magnitude of the option backdating accounting errors diminished over time relative to other accounting errors that drew SEC scrutiny. Although we cannot directly test whether the SEC substituted toward lower-stake (but more salient) cases, the evidence presented here strongly suggests that the agency did so. Copyright 2013, Oxford University Press.

The Price of Pay to Play in Securities Class Actions

This paper studies the effect of campaign contributions to lead plaintiffs — “pay to play’’— on the level of attorneys’ fees in securities class actions. We find that state pension funds generally pay lower attorneys’ fees when they serve as lead plaintiffs in securities class actions than do individual investors serving in that capacity, and larger funds negotiate for lower fees. This differential disappears, however, when we control for campaign contributions made to officials with influence over state pension funds. This effect is most pronounced when we focus on state pension funds that receive the largest campaign contributions and that associate repeatedly as lead plaintiff with a single plaintiffs’ attorney firm. Thus, pay to play appears to increase agency costs borne by shareholders in securities class actions, undermining one of Congress’s principal goals in adopting the Private Securities Litigation Reform Act.

SEC Investigations and Securities Class Actions: An Empirical Comparison: SEC Investigations and Securities Class Actions

Using actions with both an SEC investigation and a class action as our baseline, we compare the targeting of SEC�?only investigations with class�?action�?only lawsuits. Looking at measures of information asymmetry, we find that investors in the market perceive greater information asymmetry following the public announcement of the underlying violation for class�?action�?only lawsuits compared with SEC�?only investigations. Turning to sanctions, we find that the incidence of top officer resignation is greater for class�?action�?only lawsuits relative to SEC�?only investigations. Our findings are consistent with the private enforcement targeting disclosure violations at least as precisely as (if not more so than) SEC enforcement.

Monitoring of Corporate Groups by Independent Directors

Both the United States and Korea have reformed their corporate governance in recent years to put increasing responsibilities on independent directors. Independent directors have been found to be an important force protecting the interests of shareholders when it comes time to make certain highly salient decisions, such as firing a CEO or selling the company. This article compares the role of independent directors in the US and Korean systems. I argue that the US may have placed regulatory burdens on independent directors that they are unlikely to be able to satisfy, given their part-time status. By contrast, in the chaebol system of Korea, independent directors may have a critical role to play in limiting self dealing by controlling shareholders. Given the dominance of these controlling shareholders in the Korean economy, independent directors will need strong backing to be effective in protecting the interests of public shareholders. Independent directors have become a popular “cure-all” in the United States for whatever the latest malady ailing the modern corporation happens to be. Whenever a corporation has found its way into the headlines as the subject of the scandal du jour, it is overwhelmingly the case that it is the managers who are caught with their fingers in the till, having manipulated the numbers, rolling the dice with the shareholders’ money, or otherwise abusing the trust of shareholders and other corporate constituencies. They are, after all, the ones in charge of the day-to-day operations of the company. All too frequently the managers, who have charged some outrageous perk to the corporation’s bill, or who have relabeled an expense as a capital expenditure, are at the very top levels of the corporate hierarchy, perhaps even serving on Journal of Korean Law | Vol. 9, 1-25, December 2009 * Frances and George Skestos Professor of Law, University of Michigan. I would like to thank the Korea Development Institute for financial support and participants at the Korea Development Institute Conference on the Corporate Governance of Group Companies, in particular Joon Park, for helpful comments on an earlier draft of this article. Wonjin Choi provided very helpful research assistance. Any remaining mistakes are mine alone. the board. Immunity from greed, fear, and other weaknesses of character are apparently not required to advance to the top of the corporate hierarchy. It is the venality at the very top that most offends. Given the lofty levels of compensation that CEOs in the United States typically receive, it is hard for the average person (or more importantly, the average politician) to understand the desire for further aggrandizement and reluctance to accept responsibility for poor performance. One suspects that sense of outrage at the abuse of trust is mirrored, and perhaps magnified, inside the boardrooms of the corporations caught up in the wrongdoing. The directors who have placed their confidence, and to some extent their reputations, in the hands of the CEO (who generally will also serve as chairman of the board) are likely to feel a sense of betrayal as well as outrage. The outside directors are probably not the last to know, but they may take the most personal offense at the abuse. How natural, then, is the instinct of policymakers confronted by corporate wrongdoing to want to harness that sense of betrayal and outrage inside the boardroom to make better citizens out of corporations and their officers. If only we could shift power from the inside directors to the outside directors, all would be well. The insiders, most offensively the CEO/Chair, may have been complicit in the wrongdoing. But as for the outside directors, generally the worst that can be said is that they did not know of the accounting shenanigans or outsized bet. Perhaps shifting power to the latter, relatively innocent group, we could thwart the wrongdoing before it even gets started, or at least root it out before it begins to snowball into a major scandal. Conflict of interest is the problem, goes the story, so shifting authority to individuals whose judgment is unclouded by conflict will greatly reduce the embarrassing problems that keep appearing in the headlines. Agency costs will be kept in check by recruiting faithful agents as independent directors to monitor the insiders; politicians and bureaucrats will avoid the awkward questions that inevitably arise out of corporate scandal: “Why didn’t you catch this sooner? Why wasn’t there a law to prevent this? What are you going to do to help these investors who have lost all this money?” The American faith in independent directors appears to have attracted adherents globally — the long-term trend has been toward greater director independence around the world. I will focus here, however, on two countries: Korea and the United States. Both countries have turned to corporate governance reform in the wake of crises. For Korea, the impetus was an 2 | Journal of Korean Law Vol. 9: 1

The SEC's Shift to Administrative Proceedings: An Empirical Assessment

Congress has repeatedly expanded the authority of the SEC to pursue violations of the securities laws in proceedings decided by its own administrative law judges, most recently in the Dodd Frank Act. We report the results from an empirical study of SEC enforcement actions against non-financial public companies to assess the impact of the Dodd Frank Act on the balance between SEC civil court and administrative enforcement actions. We show a general decline in the number of court actions against public companies post Dodd Frank. At the same time, we show an increase in average civil penalties post-Dodd Frank for both court actions and administrative proceedings involving non-financial companies as well as a greater willingness of such companies to cooperate with the SEC, consistent with an increase in the SEC’s leverage in administrative proceedings. We also provide evidence that the mix of cases the SEC brings in administrative proceedings has changed post-Dodd Frank. We show an increase in two proxies for the complexity of the alleged underlying securities law violation, the disgorgement amount and the number of years during which the violation allegedly took place. Despite the increase in the complexity of the securities law violations, we report evidence that the significance of enforcement actions decreased for administrative proceedings after the enactment of Dodd-Frank. Although we cannot measure the deterrent impact of the additional cases that the shift to administrative proceedings has allowed the SEC to bring, it does appear that the SEC is using administrative proceedings to expand its enforcement efforts against public companies. Post-Dodd Frank, the SEC has shifted toward costlier-to-prosecute actions that may reflect weaker and/or less salient cases relative to pre-Dodd Frank administrative proceedings.