The realm of securities litigation and enforcement is shifting. Federal enforcement investigations are on the rise, prompting the need for more robust compliance and training programs for businesses, says John Cannon, a securities litigation and enforcement defense attorney with Stradling Yocca Carlson & Rauth.
“When I first started practicing, it was often the rule that securities litigation would be something that would occur first, and following that, maybe an enforcement action, which didn’t always have teeth,” Cannon says. “That’s changed; it’s actually flipped. The risk associated to a company’s bottom line could be much more material today with the government taking a more focused look at these issues.”
Smart Business spoke to Cannon about the changing landscape and how businesses can prepare and protect themselves.
What trends should companies pay attention to?
Nowadays, the real threat to companies — public companies, in particular — is the potential for an enforcement action by an agency or department of the government. That could range from a Foreign Corrupt Practices Act issue, an Exchange Act issue, a False Claims Act issue and an FDA issue, as well as other agencies and departments.
The government is taking a much more active role, and the risks and the penalties associated with that process are very different than in typical securities litigation.
Enforcement defense raises different issues relating to insurance coverage. Often, private securities litigation tended to be covered by a directors’ and officers’ insurance policy. But coverage for a government investigation might be much more limited — in fact, it’s nearly nonexistent under some policies.
What types of securities fraud class action filings should be of concern?
Taking the place of the classic ‘stock-drop’ lawsuit in terms of the volume of cases that a company should be worried about are cases related to the mergers. If you’re involved in a public company merger or going private transaction, the chances of being sued in your home state and Delaware are fairly high. Those cases tend to be manageable, and they tend to be dealt with in a way that preserves the transaction.
The other issue that you’re seeing is ‘circumstance cases,’ where you’ll have an event happen, like the Gulf explosion, or a matter such as options backdating, which will then trigger a whole series of cases. Or you’ll have the financial downturn, which will trigger a series of cases involving the institutions that are most affected. What you get is a kind of localized action surrounding a particular event, as opposed to an across-the-board risk.
What can businesses expect going forward in regard to enforcement?
Any enterprise that is in one way or another connected to or regulated by the federal government should be looking at itself immediately to determine whether or not it has appropriate compliance policies and procedures in place to prevent violations of law. And they should also anticipate that it’s as likely to get a knock on the door from the FBI as it is to get served with a lawsuit.
The reality is that the federal government in particular is looking toward the various statutory mechanisms it has in place on the enforcement side to mold, form and direct business as it’s done in the United States. It’s also a revenue source for the government. If you start totaling up these numbers in terms of fines and penalties that companies have to pay, they’re not small.
Who is impacted the most by the current environment?
Prime examples of entities that are particularly at risk on a regular basis:
- Small and medium-sized public companies
- State and local agencies
- Private equity/hedge funds/investors/investment advisors
- Direct and indirect payees of funds from federal programs and contracts
- Pharmaceutical and medical device companies
- Companies doing business internationally
How can businesses prepare?
Fortune 100 companies, and some Fortune 500 companies, have been somewhat proactive in establishing programs that ensure that they are in compliance. That can range from everything from an insider trading policy to a policy regarding anti-trust laws to a policy regarding the False Claims Act.
For mid-size, emerging public and private companies, I don’t think they have been as effective or have prioritized compliance as much as their larger brethren. Because larger companies have focused more on compliance, there is an expectation in the enforcement process that policies should be in place to protect against violations. Emerging companies tend to focus on revenue and the bottom line.
Quite frankly, that needs to change, because they are as susceptible to a knock on the door by the FBI today as larger companies, and the expectations about what should be in place are fairly high from a government standpoint.
John Cannon is a securities litigation and enforcement defense attorney with Stradling Yocca Carlson & Rauth. Reach him at [email protected]
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