Congressional reform of securities laws has not reduced the amount of securities class-action litigation but has shifted it to different courts, a study has found.

The recent study examined the number of class-action securities fraud defendants since the law, known as the Private Securities Litigation Reform Act of 1995, took effect Dec. 22, 1995 (BI, Jan. 8, 1996). Its results show the amount of litigation decreased in 1996 but not below levels seen in recent years. It is still too early to evaluate any long-term effects of the reform, the authors warn.

The law, which passed when Congress overrode President Clinton's veto of the measure, is designed to reduce frivolous securities litigation by narrowing the grounds for such suits and giving companies new protection for public statements while also reducing damages for successful suits.

According to the study, conducted by Joseph Grundfest and Michael Perino, professors at Stanford University Law School in Palo Alto, Calif., between 148 and 163 securities suits would have been filed in 1996 if the law had been well-publicized in the first quarter. The actual number of class actions filed in 1996 was 109, but the professors used the extrapolated range of 148 to 163 as the basis of study, because they perceived that the figure for the first quarter of 1996 was artificially depressed due to the initial lack of knowledge about the law.

Between 1991 and the enactment of the law, an average of 176 suits were filed each year, with 162 filed in 1995.

"The total volume of litigation activity in 1996 is thus down by about 7% to 16% but is not very different from the level of activity observed in 1991, 1993 and 1995," the study says. Falling stock prices in 1996 also may have limited suits. Thus, it is too soon to draw firm conclusions on whether reform "has had any material effect on the aggregate securities class-action litigation rate."

But, of the total filed in 1996, 39 were filed solely in state courts, whereas prior to 1996 that number had been near zero. That increase is in direct response to the new law, the study's authors say.

"This increase in state court litigation is likely the result of a 'substitution effect' whereby plaintiffs' counsel file state court complaints when the underlying facts appear not to be sufficient to satisfy new, more stringent federal pleading requirements, or otherwise seek to avoid the substantive or procedural provisions of the act," the study states.

Such state actions do not indicate increased litigation activity but are evidence of a new litigation strategy, the study adds.

Since the reform, smaller companies have been sued, the researchers found. The market capitalization of defendant companies dropped to $529 million on average after the reform from an average of $2 billion before.

What has caused this drop is the nature of the post-reform suits. In complying with the more stringent pleading requirements, more suits allege accounting violations and insider trading, which are more likely to occur in smaller companies, the study reports. "Larger, more established firms are less likely sources for material accounting irregularities or statistically significant trading by insiders," the study states. "Larger firms are therefore less likely to be named as defendants."

Two aspects of securities litigation have not changed because of the law: the industries of the defendants and location of the suits. Before and after the law's passage, high-tech firms were the most likely targets of suits. Since the new law, 34% of suits in federal court are against high-tech firms, essentially unchanged from before the reform.

In addition, two federal district courts dominate the filing of the suits. Both the U.S. District Court for the Northern District of California, which encompasses the Silicon Valley, and U.S. District Court for the Southern District of New York, which includes Manhattan, had 15 suits each between Dec. 22, 1995 and the end of 1996. Combined, more than 25% of securities class-action were filed in these two districts since the reform law became effective.

For a free copy of the study, contact James Malernee at Cornerstone Research, 212-551-3671.