Securities Fraud Claims
I cannot begin to capture the entirety of the world of securities fraud claims in a single blog post. But I’d like to sketch out a very high level overview of a type of lawsuit that plaintiffs frequently file and that companies frequently anticipate and defend. And while many people may tune out to any discussion of securities fraud, thinking it has nothing to do with them if they are not a Wall Street type, the truth is that securities fraud claims are a major mechanism that exists to ensure that companies that affect everyone’s lives operate honestly.
Why should you read this post about preparing to take depositions?
You read my previous post about fraud and you wanted to learn more about the a major subset of the subject.
You think that the word “securities” has to do with guards and locks and you want to find out that it doesn’t really.
You’re bored and want to get more bored.
Image credit: https://en.wikipedia.org/wiki/Enron_scandal#/media/File:Enron_Complex.jpg
What is a Security?
So what is a security? This is actually a frequently debated subject. A traditional security is something like a stock, an investment that constitutes a fraction of some enterprise and something you can buy and sell.
But stocks are not the only things that are securities. In a famous 1946 lawsuit, SEC v. W.J. Howey Co., the Supreme Court held that units of a citrus grove were securities because, among other reasons, they were marketed as an investment. Because the laws around cryptocurrency are currently not firmly settled, lawyers often apply the same rules that the Supreme Court set forth in 1946 in Howey to cryptocurrencies.
With that in mind, many things that people promote as an investment could possibly be a security.
Rule 10b-5 Prohibits Fraud
The basis for many securities fraud claims is a Securities and Exchange Commission rule called Rule 10b-5. That rule essentially prohibits anyone from lying in connection with securities. Often this is in connection with the sale and promotion of securities, but the rule also applies to statements made by a publicly traded company to the marketplace in general.
But what is fraud? Fraud is usually a materially false statement upon which people rely to their detriment. And so any time a company releases statements about their activities or financial performance, an investor could sue and say the statement was false and, because of the falsity, lost money on an investment. The company could defend itself by saying the statement wasn't false, or that it was an opinion that could not be false, or that the falsity was not serious and thus not “material.”
The Business Model for Securities Fraud Class Actions
When a company or a promoter of an investment makes a false statement, that may not just affect one investor. Often, the entire marketplace relies on the information when deciding what the right price of the investment should be. Accordingly, there are many possible plaintiffs.
As a result, there is a whole industry of securities class action lawyers. Instead of seeking corporate plaintiffs as clients to defend, they look for false statements made in the securities marketplace. And, when they find them, they then find plaintiffs on whose behalf they sue the defendants on a contingency basis, seeking class action status. This makes sense because many investors may have overpaid for an investment because of the exact same false statement, and so the potential recovery from the lawsuit could be many millions of dollars. And if the class action lawyers get to keep a percentage of the recovery at the end of the case, then it may be worth it for the lawyers to work for free at first.
This business model involves sophisticated lawyers who understand complex financial regulations and corporate disclosures. But it also does not require the same relationship building and client development as defense work. It can be dry and technical, but for many people it can be profitable work. The biggest cases involve billions of dollars.