"Of all the forms of tyranny, the least attractive and the most vulgar is the tyranny of wealth," Theodore Roosevelt famously said.

The decline in the number of securities class-action lawsuits filed in the federal courts is well documented. Similarly well documented is that investor losses in these cases, measured by the fall in the stock prices, have also declined since the boom market of the late 1990s.

A number of theories have been suggested by legal and economic observers for the decline in litigation activity. Some have suggested that the law should be changed so investors could no longer seek recovery of losses, even where fraud has occurred. Instead, these columnists suggest that the Securities and Exchange Commission alone be permitted to determine when, if at all, to challenge corporate misconduct. Wall Street would like nothing better.

Rising stock prices of the bull market can conceal many sins. When increasing price of securities is coupled with the U.S. Supreme Court's decision in Dura Pharmaceuticals, requiring plaintiffs to describe in their pleading the economic theory of loss, and the uniquely restrictive pleading requirement of the 1995 amendments to the securities laws (passed over the veto of President Bill Clinton, and being interpreted restrictively by a business friendly judiciary), one would expect to find fewer cases and lessened amounts recovered than immediately following the collapse of the "tech bubble years." Lawyers representing investors, impaired in their ability to collect for investor overpayments of securities caused by corporate malfeasance, would naturally seek other outlets for their time and talents.

Other hypotheses, including that there is "less fraud," seem highly problematic. According to this hypothesis, the government has supposedly been more aggressive in pursuing criminal and civil enforcement. Therefore, management has seen the light; natural human greed has been suppressed, and mankind has been improved. From this nearly theological statement of faith, there also arises the revealed command that the entire area of enforcement be left to the SEC, an agency nearly in thrall to Wall Street and corporate America. Neither of the hypotheses nor the perceived benefits of reserving to the SEC a monopoly of investor protection has real world justification.

Corporate malfeasance is based upon human nature: the acquisitive instinct and the desire for social status that accompanies riches regardless of how earned. Corporate greed exhibits the incentives of the free market without moral restraint. As water finds it own level and leaks out, so does money. No matter what reforms are then passed, the presence of large sums of money find a way of inducing some managers, directors, and Wall Street to take more than is properly theirs to take. Sooner or later, these managers and directors begin to think that corporate assets are their own, regardless of their lack of entrepreneurial risk in developing the business, and that the shareholders (and employees) are just in their way.

The lack of control by shareholders over the management of public corporations has been widely documented. Hiding troubling developments in a business and creating false pictures of success are natural. Self-congratulation is far preferable to embarrassing truth. Whether it is engaging in self enrichment through Wall Street manipulations, or the backdating of stock options, or otherwise enhancing already enormous compensation and benefit packages, or concealing their own embarrassment in making poor decisions that impact the business negatively, management will not be self-restrained. The money to be made is too big.

Limits of Government Action
Of course, there are some recent notorious prosecutions. Two things must be noted: First, those prosecutions were only in the most egregious of the misdoings of unrestrained greed. Even a Bush administration sympathetic to large business interests could not ignore them. The losses were monumental, the media attention intense, and the corporate moguls both unsympathetic and caught red-handed. Yet, the SEC still delayed action, and the first efforts to obtain funds for employees and investors came from the private bar. These famous acts of government action were, however, few compared to the multiplicity of companies where management took advantage of "prosperity." Second, in almost no instance--in fact perhaps no instance--has the government acted alone to return to investors the losses caused by management misdoing.

Whatever the plusses or minuses of private litigation, it is indisputable that private litigation returns to investors a significant portion of their losses. To be sure, the lawyers for these investors get paid. Those who write about the SEC seem to forget that government trial lawyers get paid and the costs and inefficiencies of the government bureaucracy are well documented. The difference is that in private litigation the costs and any inefficiencies are paid by the clients--the investors who receive the money. When the government acts, of course, the costs and inefficiencies are paid by taxpayers. Private attorneys' fees and expenses are disclosed and transparent. The government costs are never disclosed. What is more, the SEC is undermanned and underfunded, and, accordingly, lacks the resources to do all that should be done.

There is no evidence whatsoever that the elimination of private litigation would result in a greater investor return of losses from stock fraud. Nor is there any evidence that the elimination of private litigation would do anything but embolden big business executives to enrich themselves further.

The current effort of American business to centralize all corporate financial regulation within the SEC bureaucracy implies strongly that corporate management knows exactly where and from whom it can receive a friendly and sympathetic reception. The SEC has lost its moorings and, under its current chair, has been steered in a direction opposite to its historic mission.

No longer the protector of American investors and the capital markets, the SEC has become a captive of the industry itself. Not only is the agency retreating from those "reforms" it was forced to accept in the wake of the scandals that broke in the early part of the Bush administration, it is also intervening in investor litigation asking courts to change the standards in the law permanently to make it more difficult for investors to protect themselves and for any future administration to intercede on behalf of investors.

No Crisis in the Capital Markets
Nor is there any crisis in the capital markets that justifies such a radical change of public policy (and a radical change through administrative fiat as distinguished from legislative action by Congress). Capital is available in abundance for American business.

The American economy has weakened compared to European and Asian economies. As the economy and dollar has softened, investment opportunities in Europe and Asia have become more attractive. As a consequence, capital for major initiatives and projects is being raised abroad often through the same Wall Street firms that stand to gain from reduced investor protection. The phenomenon of international capital flow is only a pretext to seek further reduction in regulation.

There is simply no reason for departure from the historic American policy of market transparency and management accountability on the flawed--and unproven--assumption that the American capital markets have raised less money for American businesses. That there were fewer initial public offerings does not mean that private capital is not available for American business projects. That there is capital raised in Europe and Asia for European and Asian (and American) businesses is evidence of the strength of those economies, not a fear of American litigation or regulation.

It is the outsourcing of American business opportunities, and American's trade and budget deficits, which make investments in Europe and Asia attractive. The weakness of the dollar and higher transactions costs--the fact that a company raising capital in America for foreign projects pays more to Wall Street investment bankers and lawyers than it pays for the same services in Europe or Asia--militates against raising money in dollars and converting dollars back into local currency.

A report issued by Goldman Sachs on Feb. 14 contradicted the rationalizations of the SEC, the Bush administration, Republican New York Mayor Michael Bloomberg, and U.S. Senator Charles Schumer (D-N.Y.). Goldman Sachs' economists concluded that competition is a bigger threat to U.S. financial supremacy than regulation.

Meanwhile, the gap has grown between a financially pressured middle class and an obscenely wealthy corporate management. The real wages of many of our citizens have decreased and living conditions have become more difficult. More of our citizens are unable to pay directly for medical care or for the insurance that would cover it. At same time, Wall Street is having record years. According to data compiled by Bloomberg News, five major Wall Street firms made more than $60 billion in net income in 2006.

Instead of protecting American workers and pensioners and seeking ways to strengthen the American economy, the Bush administration has pursued policies to protect its strongest financial supporters from their own wrongdoing and to protect them against the severe economic competition this administration’s policies have inflicted on the American public.

The solution to America's economic problems does not lie in making it even less attractive to invest in America by increasing company-specific risk through less disclosure and enforcement. American business must forego obscene executive salaries and, instead, spend its money on education, repairing our infrastructure, and on serious research and development. American workers must not be forced by American business to compete with exploited non-American workers.

A giveaway to corporate giants and creating a SEC monopoly on matters touching the financial industry is just the last payoff. These are the same people who refuse to pay their fair share of taxes and welcome opportunities to underpay workers, send their own assets abroad through private equity funds, and are responsible for the implementation of some of the most disastrous policies in American history.

Fred T. Isquith is a partner with Wolf Haldenstein Adler Freeman & Herz in New York. The firm represents investors in securities class action cases.

March 6, 2007

The SCAS 50 for 2006
Submitted by: Adam Savett, Vice President of Securities Class Action Services

For the fourth year, my company (ISS' Securities Class Action Services) has issued its "SCAS 50" report. Based on data from the SCAS database, the SCAS 50 lists the top 50 plaintiffs' law firms ranked by the total dollar amount of final securities class action settlements occurring in 2006 in which the law firm served as lead or co-lead counsel.

The full report is available here.

Permalink | Comments (0) | TrackBacks (0) | Print Article

Back To Top

March 2, 2007

Novartis Investor Challenges Exit Pay and Combined Chair-CEO
Submitted by: Roland Escher, International Research Analyst

At the March 6 annual meeting of Swiss pharmaceutical giant Novartis, chairman and CEO Daniel Vasella and Hans-Joerg Rudloff, chair of the compensation committee, are up for reelection.

Last week, the Ethos Foundation said it would vote against Rudloff, asserting that he presided over the approval of excessive "golden parachute" severance packages for five top executives, including Vasella. Ethos, which was created by Swiss pension funds, has been at the forefront of shareholder engagement in Switzerland.

Ethos estimates that Vasella received CHF 44 million ($36 million) in total compensation in fiscal 2006. Severance for Vasella and four other senior executives is three times annual pay, and five times annual pay in case of a change in control. However, the company has not disclosed what would constitute "annual pay" for purposes of applying the multiple. Yola Biedermann, head of corporate governance at Ethos, told Governance Weekly that "it is clearly not just base compensation. In a worse case scenario, the golden parachute would amount to five times CHF 44 million, i.e., CHF 220 million."

To help investors raise these concerns at other firms, Ethos has called for an annual investor vote on executive pay in Switzerland. Ethos made this request in November as part of a study on the compensation of executive and non-executive directors at the 100 largest Swiss companies. Investor votes on compensation are a common practice in the United Kingdom, Australia, Sweden, and the Netherlands. In the United States, shareholders have filed more than 50 proposals this proxy season that request an advisory vote on pay practices.

Ethos also plans to abstain from reelecting Vasella, because the foundation contends there is no justification for continuing to concentrate the roles of chairman and CEO in one person. In 2005, Ethos filed a resolution at Nestlé to separate the chairman and CEO roles, which received 36 percent support from shareholders.

At Novartis, Vasella became CEO in 1996 and has held the chairman position since 1999. At the time, the company justified the combination of the chairman and CEO roles as a temporary measure, following Novartis' creation by the 1996 merger of Sandoz and Ciba-Geigy.

While the combination of the chairman and CEO positions is losing favor in Europe, the practice is still common in the United States. In Switzerland, according to Ethos data, only 17 of the largest 100 companies combine the positions, and three of