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Professor Coffee and Judge Rakoff Comment on Securities Class Actions

Since its inception, the concept of class action litigation – in a securities context or otherwise – has been met with arguments for and against it.  To be sure, a class action suit is often the only way to properly compensate those whose recovery would be outweighed by the cost of attaining said recovery if they were forced to bring suit alone.  On the other hand, class action litigation can be abused.  And some argue, in a securities context, that private class action litigation may not have a deterrent effect on executives who engage in corporate wrongdoing, since any damages will arguably be paid by innocent shareholders.  While securities class action litigation can be necessary and valuable, it could also be reformed to some extent.

John C. Coffee, Jr., a respected Columbia Law professor, recently published a book, Entrepreneurial Litigation: Its Rise, Fall, and Future, in which he thoroughly discusses the nature and history of class action litigation, probes its myriad benefits and faults, and proposes several ideas to improve its implementation in a securities context.

One virtue of private class actions in particular identified by Professor Coffee is the sometimes enormous disparity between the settlements recovered in actions by regulatory bodies and in those recovered in private class actions.  In a piece for the November 19, 2015 issue of The New York Review of Books, entitled The Cure for Corporate Wrongdoing: Class Actions vs. Individual Prosecutions, The Honorable Jed S. Rakoff (S.D.N.Y.) discusses this issue further in the context of commenting on Professor Coffee’s book.  Judge Rakoff cites several cases – all of which are listed in table 9.1 of Professor Coffee’s book – illustrating Professor Coffee’s point.  For example, he notes that in litigation connected with the Enron scandal, the SEC recovered $450 million in damages.  The parallel private class action settled for $7.2 billion.  He also cites the credit crisis cases involving Citigroup, where the SEC settled its case for $75 million and the parallel class action settled for $1.3 billion.

Professor Coffee offers several explanations for this disparity.  He notes that “the SEC is underfunded, resource-constrained, and cannot afford to litigate the complex case.”  He also states that the SEC’s attorneys, while undoubtedly skilled, generally lack trial experience when compared with private attorneys.  He also puts forth the simple notion that “the nature of litigation has changed and the complex case has simply become too large and costly for the SEC to handle.”

Professor Coffee proposes a potential solution to the problem of disparate recoveries in Chapter 9 of his book (Public Enforcement and the Private Attorney General) in which he questions whether “the entrepreneurial energy of the plaintiff’s bar [could] be harnessed instead to public enforcement.”  Professor Coffee proposes that regulatory bodies should employ experienced private attorneys – sometimes on a contingent fee basis – to bring class action lawsuits, supervised by the regulatory body, for the benefit of the victims.  Coffee argues that this would allow the agencies to bring more cases than their limited resources would typically allow.   Further, because the regulatory body would supervise the lawsuit, the agencies could direct that more attention be paid to pursuing the actual wrongdoers individually, in order to further deter corporate wrongdoing.  Essentially, private attorneys, who already arguably act as “private attorney generals,” would take on a more official role to that effect.

Judge Rakoff, in his review, states that Professor Coffee’s idea is “a sound proposal.”  However, Judge Rakoff also echoed an inherent problem – first identified by Professor Coffee himself – that may stand in the way of its adoption; namely, the notion that regulatory bodies are unlikely to rely on private attorneys to bring what are essentially regulatory actions.  Professor Coffee observed that turning to outside counsel for major cases might demoralize the SEC attorneys, and acknowledged that “[v]ery likely, this sense of being downgraded undergirds the SEC’s adamant refusal to consider use of private counsel.”  Judge Rakoff agreed, noting that “[f]or these and other reasons, I am not optimistic that Coffee’s idea, good as though it may be, will be widely adopted in anything like the near future.”

Whether or not Professor Coffee’s idea gains any traction, the point he makes still stands.  Securities class action litigation can be a useful and necessary tool in compensating victims of corporate wrongdoing and deterring said wrongdoing in the future.  However, it does – and likely always will – have its issues and critics.  Professor Coffee’s proposal, and his book as a whole, serves as a reminder that we should continue to strive to alleviate these criticisms.

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