An imminent Supreme Court ruling may cause lawsuits to plummet, while a new SEC task force could open more accounting-related cases
One thing that is constant is change, and that applies to securities litigation and enforcement. According to PwC’s recently released study, Are changes on the horizon?, 2014 could witness a shift on the litigation and enforcement front, given developments at the SEC and cases pending before the US Supreme Court.
Last year, 160 federal securities litigation actions were filed, up 11 percent from 2012, but far below the yearly average of 179 cases since passage of the Private Securities Litigation Act of 1995. (The average since 2002, when Sarbanes-Oxley became law, is 175.) The number of accounting-related cases fell to a near-20-year low of 46, less than 30 percent of all cases filed.
For a second consecutive year, 69 of the securities lawsuits filed were settled instead of going to trial. But the average settlement value spiked 32 percent from 2012 to $49.6 million in 2013, 21 percent above the five-year average. This was due mostly to settlements with financial services companies over allegations pertaining to the 2008 financial crisis, says Neil Keenan, securities litigation principal with PwC.
Spikes in accounting-related cases have historically been driven by market events, regulatory investigations, or scrutiny by market observers (academics), or market participants (short-sellers), which were seen less in 2013 than in previous years, Keenan notes.
But changes may be afoot on the securities litigation front. The Supreme Court is hearing arguments on the ‘fraud on the market’ doctrine that stems from a 1988 decision, which, if reversed, could cause lawsuits to decline dramatically. Meanwhile, a new Financial Reporting and Audit Task Force created by the SEC, will likely, through the use of data analytics and the whistleblower office, open more accounting-related investigations. The SEC's Office of the Whistleblower is generating significant leads on potential securities law violations, with approximately 17 percent of the 3,238 referrals in 2013 alleging accounting misconduct. The largest award to date for whistleblower assistance of $14 million was paid last year, which may encourage other whistleblowers to come forward.
The SEC has added more resources to bolster these efforts. According to an SEC spokesperson, the Task Force has six accountants and six staff attorneys. There are two staff attorneys on rotation from other departments, plus two leads, for a total of 16. The Whistleblower Office has grown from one person in February of 2011 to 15, including 11 lawyers and four support staff.
Health companies accounted for nearly one quarter of all securities cases for a second consecutive year. Widespread use of the JOBS Act by biotech firms to list in US markets ensures a continuing flow of lawsuits in this industry, says Keenan.
Keenan urges issuers to be proactive and initiate active compliance monitoring company-wide. CFOs and accounting personnel should take steps to strengthen controls and procedures to ensure that the XBRL tagging is accurate and avoid inadvertently triggering a red flag highlighting their companies as outliers.
‘Understand and monitor how your company compares to its competitors and industry peers, as it relates to accounting estimates, disclosures, performance and alleged compliance breaches,’ says Keenan. ‘Assess business risks, potentially by adopting the revised COSO framework.’
Companies also need to continually reinforce their internal whistleblower programs and encourage employees to first report internally. Cultivating a tone of zero tolerance for misconduct can support this, says Keenan, who further advises companies to reassess their investigative approach in response to allegations, including readiness to respond to regulatory inquiries and engage a specialist to assist them.
Senior financial personnel should also confer with board members, many of whom have extensive knowledge of the company's industry and can assess how the company's compliance practices compare to those of industry peers and the overall market, says Keenan.
It’s critical that board members continue to be educated about new reporting requirements. ‘The board should be kept abreast on the progress being made to assess new risks to the business, improve strategies to mitigate such risks, develop processes to report on new areas of disclosure, and ensure that disclosures are accurate, complete and timely,’ Keenan says.
