So far in his administration, President Obama has promulgated 106 major regulations that place a total annual burden of $46 billion on the U.S. economy. This burden is five times as great as what his predecessor, George W. Bush, imposed in his first three years. In that context, it makes sense that Republicans should decry big government and its deleterious effects on business and jobs. But they should also remember that big government is not the only threat to the free conduct of business in America.
Another threat comes through our state courts. Increasingly, publicly traded companies are finding themselves hauled into them by Trojan horse shareholders every single time they try to make a major acquisition. As little sympathy as corporate America gets nowadays — both on the Left and Right — the proliferation of these lawsuits is a very recent trend, and one that will harm the efficiency and business climate of the U.S. economy, to say nothing of ordinary people who hold retirement investments.
A study released by Cornerstone Research in January shows that as recently as 2007, only half of all deals worth more than $500 million drew shareholder lawsuits. By the beginning of this decade, nearly every such business acquisition or merger — 96 percent of them in 2011 — was subject to a shareholder lawsuit. On average, every such deal, whether perceived as controversial or not, attracted 6.1 lawsuits.
Shareholders are well within their rights to sue when corporate management tries to give them a raw deal — say, by selling off their company at a discount, or acquiring another at a price beyond its worth. But for the most part, this new rash of M&A lawsuits is not conferring benefits upon shareholders, but rather enriching the plaintiffs’ attorneys who bring the cases.
When a nuisance lawsuit holds up a multibillion dollar deal, and a potentially damaging discovery process looms in the background, most companies are eager to settle even the least meritorious cases. Cornerstone found that 69 percent of the M&A suits brought in 2010 and 2011 were settled out of court, most of them in under two months. In only 5 percent of such cases was any financial compensation awarded to shareholders. By contrast, 82 percent of these cases were settled in exchange for mere disclosures of additional information, without any change to the deals under litigation.
Only one thing changed in that large subset of cases — the bank balances of plaintiffs’ attorneys who were lucky enough to beat their competitors up the courthouse steps and file suit. Based on its analysis of 81 such recent settlements, Cornerstone found that the median fee awarded to plaintiffs’ lawyers exceeded $500,000. Not bad for six weeks of legal trolling.
In 1995, Congress practically shut down an entire category of frivolous lawsuits when it passed the Private Securities Litigation Reform Act over President Bill Clinton’s veto. That law tightened standards for shareholder class action cases brought under federal securities laws. Both federal and state lawmakers should examine Cornerstone’s report on acquisitions cases and see whether further reform is possible. Surely, our justice system can protect shareholders’ rights without giving rise to a legal protection racket on the side, in which no deal gets done until the plaintiffs’ lawyers get paid.
