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M&A class action spike could raise D&O rates

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An apparently dramatic increase in the number of lawsuits related to mergers and acquisitions, as described in a recent report, could ultimately lead directors and officers liability insurers to consider raising rates, says an expert.

However, the data presented in the Cornerstone Research report, which tracks only federal court filings, may represent merely a shifting of litigation from state to U.S. courts, said Kevin LaCroix, executive vice president of RT ProExec, a division of R-T Specialty L.L.C., in Beachwood, Ohio.

Furthermore, even if claims increase, the amount of capital in the market remains a bigger factor in determining rates, Mr. LaCroix said.

Driven in large part by an increase in suits related to mergers and acquisitions, the number of federal securities class action lawsuits during the first half of this year rose 16.7%, to 119, from the same period last year, according to the report issued by Boston-based Cornerstone Research and the Palo Alto, California-based Stanford Law School Securities Class Action Clearinghouse.

Of those, 24 were related to mergers and acquisitions in this year's first half, the most since 2010, according to the report.

That compares with eight M&A-related filings for the first half of 2015. An annualized number of filings of 238 for 2016 would be 27% more than the 1997-2015 historical average of 188 filings a year, according to the report, “Securities Class Action Filings, 2016 Midyear Assessment.”

“If filings continue at the same pace for the remainder of 2106, this year would be the first since 2008 to have distinctly above-average filings activity and would have the second-highest number of filings in the last 20 years — trailing only 242 in 1986,” according to the report.

Insurers are concerned whenever there is elevated frequency “because pricing and underwriting guidelines and so on are built around generalizations” about the likely rate of frequency, said Mr. LaCroix.

“If they haven't taken into account this increased frequency in pricing of risk, it could mean adverse claims results for insurers, particularly those involved in the primary space,” he said.

However, as the Cornerstone study suggests, the increased number of M&A claims may reflect only a shift from state to federal courts as a result of the January 2016 ruling by the Delaware Court of Chancery in In re Trulia Inc., rather than a real increase in total litigation, Mr. LaCroix said.

In the Trulia decision, the court ruled against “disclosure-only” settlements in M&A deals. A disclosure-only lawsuit is litigation filed by plaintiff attorneys following M&A deals that result in their being awarded legal fees when all they did was force defendants to provide largely immaterial disclosures about the deal without conveying any monetary benefit to shareholders.

Mr. LaCroix said that when it was issued, it was believed the Trulia rulings would reduce the number of lawsuits. But what seems to be happening instead is these lawsuits are being filed in federal courts as class action litigation alleging violation of federal securities law.

However, it may be too early to reach a conclusion on this, and further data may be needed to determine whether M&A litigation has actually increased, Mr. LaCroix said.

“We are talking about just six months of data,” he said. “There's no reason for anybody to hit the panic button until we have a better sense of whether this is a short-term” or long-term phenomenon.

Furthermore, the major factor in determining D&O pricing is the balance between supply and demand, with the abundant supply of capital now driving pricing, he said.

Whether an actual increase in M&A-related litigation “is significant enough to counterbalance the supply remains to be seen,” said Mr. LaCroix.