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Some observers predict that the sharp 38% drop in securities class action filings in 2006 is not a permanent trend and warn companies not to expect matching declines in directors and officers insurance premiums. “Whatever is causing the decline it does not appear to be inherent in the system,” said Dan A. Bailey, who specializes in directors and officers insurance, with Bailey Cavalieri in Columbus, Ohio. Corporate defense specialist Neil Lang in the Washington office of Sutherland Asbill & Brennan agreed. He called last year’s drop cyclical. “If you go back years, you would see waves of scandal followed by relative calm. The [stock] market’s upward trend is probably the biggest contributing factor,” Lang said. “Market volatility makes for more claims.” They were responding to last week’s report that investor class action filings dropped to the lowest level since Congress passed the Private Securities Litigation Reform Act of 1995. The report by Stanford Law School and Cornerstone Research, an economic consulting firm, found not only the drop in individual filings from 178 in 2005 to 110 as of mid-December 2006, but also that the cases are getting smaller. The report notes a 19% drop in the claimed losses, from $362 million in 2005 to $294 million in 2006. It offers three potential explanations for the declines: more vigorous enforcement by the Securities and Exchange Commission, rising stock prices coupled with lower market volatility, and greater corporate care in financial reporting in the wake of the Sarbanes-Oxley Act of 2002. Bailey said that no one reason explains the particularly sharp drop in 2006, and he attributes it to the cumulative effects of several factors. He included not only enhanced corporate governance, which began after the 2002 act, but also the U.S. Supreme Court’s 2005 decision in Dura Pharmaceuticals Inc. v. Broudo, 544 U.S. 336 (2005), which requires plaintiffs in securities fraud cases to prove a causal connection between alleged misrepresentation and subsequent stock-price drops. Indictments discounted The report discounted the effect on filings of the highly publicized indictment in May 2006 of the Milberg Weiss & Bershad law firm, which filed numerous securities class actions in the 1990s. The ease of entry by other law firms in the securities class action market makes it unlikely that the indictment explains the decline, according to the report. Lang did suggest that the Milberg Weiss indictment “can’t be positive for firms seeking to go into the business” of financing class litigation, and may cause some law firms to shy away. Bailey predicts that defendant companies are not likely to see big savings in the cost of insuring against such claims. He said that there has been a price reduction in recent months to reflect fewer filings, but nothing like a near 40% drop seen in lawsuit filings. “Insurers are likely to see it as I do; until they see a longer-term sustained experience, you will not see a dramatic lower premium level,” he said. Bailey said that a number of factors enter into the rise or fall of insurance pricing, including competition among insurers and playing catch-up with past losses from the payment of significant claims. “Insurers are, to some extent, still catching up to the losses in 2000 and 2001,” he said, a reference to claims stemming from the financial reporting scandals at Enron Corp., WorldCom Inc. and others. The effect of the stock-options backdating scandals is not expected to alter securities filings greatly, according to the report, which suggests that they are one-time events, unlikely to recur. The report cites 22 options backdating cases, (two filed in 2005 and 20 filed in 2006). Excluding those cases produced an even more dramatic decline in filings-cut nearly in half-with 90 companies sued in 2006. The drop in claimed investor losses in 2006 was a drop in the size of large dollar-value claims, or megacases, according to the report. There was one filing of $5 billion or more in 2006, compared with five such cases in 2005.

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