Thank you Mr. Chairman for scheduling today's hearing.
Passage of the Securities Litigation Reform Act was one of the most important acts of the 104th Congress and I was very pleased to have played a role in making that happen.
The law was at the center of a fair amount of controversy and I am very pleased that we have this opportunity to assess whether the law has achieved either its lofty expectations or plummeted into the depths of its harshest critics.
In point of fact, Mr. Chairman, I suspect that the truth lies, somewhere in the middle, proving out those of us who said from the beginning that we were trying to pass a moderate and balanced bill to address the worst of the litigation abuses that were rampant at the time.
I think that it is critical to restate just how important the private litigation system has been in maintaining integrity of our capital markets. It is highly questionable whether our markets would be as deep, as liquid, as strong, as transparent, were it not for our system of maintaining private rights of action against those who commit fraud.
But it is precisely because of the vital importance of the private litigation system, that the depths to which it had sunk by 1995 was so damaging.
The system was no longer an avenue for aggrieved investors to seek justice and restitution,
But was instead a pathway for a few enterprising attorneys to manipulate its procedures for their own considerable profit and to the detriment of legitimate companies and investors across the nation.
I could easily spend all of my time here this morning recounting the cases of abusive and frivolous litigation that were hindering our growth industries.
There were the numerous instances of computer generated filings making humorous errors, such as suing a toy manufacturer for non-disclosure in the cigarette business; there were the instances of companies being sued within hours, even minutes of making an announcement; there were the many examples of companies being sued when their stocks went up; there was the case of the accounting firm that spent $7 million to defend itself - and win - in a case where it had been paid only $17,000.
These stories would be funny if the impact of this kind of predatory lawsuit -- practiced by only a small percentage of the trial bar -- weren't so serious.
Companies that should have been going public weren't; companies that wanted to go public couldn't find major accounting firms to become their auditor; and, for companies that were already publicly traded, valuable resources were being devoted to litigation defense, rather than shareholder return, research & development, or job creation.
Lastly, investors across the nation were being hurt as companies offered as little forward-looking information as possible.
Mr. Chairman, we could probably devote a hearing to each of the major changes enacted as part of the reform law. There are some things that seem to be working quite well - the stay of discovery, the implementation of limited proportional liability, the heightened pleading standards, have all contributed to either a reduction of abusive lawsuits at the federal level, or in the ability of defendants to have the frivolous lawsuits dismissed at a minimum of litigation expense.
I know that there are those who look at some of the numbers for Federal class action filings in 1997 and draw the conclusion that the law isn't effective, because the number of filings is climbing back to pre-reform act levels.
But I think those number prove the effectiveness of the Reform Act. It was never our intent in drafting the act to close the courthouse door to shareholders who felt they were legitimately aggrieved. The preliminary 1997 numbers clearly indicate that the courthouse door remains wide open; what the Reform Act hopefully has done is either to weed out those filings that were clearly abusive, or to allow for the defendants to quickly dismiss those filings that are frivolous.
But while the number of Federal filings doesn't greatly concern me, I am deeply concerned over the increase in state court filings.
My fear is that the state court filings represent those suits that aren't strong enough to stand up in Federal court. Securities class actions were almost unheard of in State court prior to 1995; it is reasonable then to attribute the increase in both 1996 and 1997 to weaker, and frequently abusive, claims finding a more comfortable home in state court than in Federal court.
In fact, the fear of differing standards in State courts, or the potential for differing standards on the state level also concerns the president.
In a letter President Clinton sent to me last night, he stated:
In April, the Securities and Exchange Commission conducted a study for the president on the effect of the reform act; one of their observations was that:
This migration of frivolous class action lawsuits to State court threatens the effectiveness of the reform act.
Not only is it reasonable to assume that more and more companies will become hostage to increased State litigation costs, but the prospect of State litigation, where there is no safe harbor, is also having a chilling effect upon corporate disclosure of forward-looking information.
As I mentioned a moment ago, reasonable people may disagree about the magnitude of the problem as it exists today there are differing viewpoints about the extent of the State litigation problem. But whether you believe that it is a small, medium or large problem today, is a less important question than whether you believe it is a problem that is destined to get worse.
Again, the SEC report is instructive on this point:
The plain english translation of that is that any plaintiffs' lawyer worth his salt is going to file in State court if he feels it advantageous for his case; and since we've established that many state courts do not provide the stay of discovery or a safe harbor, we're confronted with a likelihood of continued state court class actions.
The increase of State court litigation, and the prospect that State court litigation is something that is here to stay, leads me to agree with the conclusions of SEC Commissioner Steve Wallman:
The remedy most frequently proposed to address the State court problem is to create uniform national standards for liability under the securities laws.
This approach is consistent with the recent trend in securities legislation, where a process has been going in Congress, the SEC, and the states, to redefine the relationship between the states and Federal government on securities issues.
Our first witness, SEC Chairman Arthur Levitt, put it very well when he testified before the Senate Banking Committee last June:
the statement of managers accompanying the "National Securities Markets Improvement Act" is also instructive on this point:
Mr. Chairman the principle of national treatment for national issuers trading on national exchanges is as solid for legislation on securities litigation as it was for legislation on securities regulation.
I believe that we have an excellent opportunity today to address this state litigation problem before it gets completely out of control.
It is my intention to work on drafting balanced and thoughtful uniform standards legislation that will both prevent circumvention of the Securities Litigation Reform Act and that will also build upon the work begun last year in the National Securities Markets Improvement Act.
I know that our witnesses have a lot of ground to cover today, but I hope that each will devote some time to expressing their view as to how a uniform standards bill might be written.
Again, thank you Chairman Gramm for convening these hearings
and for your continued interest in this issue.
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