The New Look of Shareholder Litigation: Acquisition-Oriented Class Actions

Robert B. Thompson, Randall S. Thomas
2003 Social Science Research Network  
ownership of U.S. public companies was separated from their management resulting in a misalignment of utility curves between owners and managers. Within such systems, shareholders engage in a variety of strategies so as to minimize these costs. 2 For example, shareholders may use shareholder voting, the threat of a change of control transaction, performance based-compensation, and litigation, among other things, to discipline managers should they be poor stewards and fail to create shareholder
more » ... create shareholder value. Over time, the relative value of these different devices for disciplining managers has ebbed and flowed with the changes in patterns of share ownership and constant evolution in legal rules, both substantive and procedural. 3 Against this paradigm, the corporate law class studies how private suits, whether class actions or derivative suits, are potential tools for controlling managerial agency costs. 4 Many scholars argue that over the past seventy years, shareholder representative litigation has acted as 1 Adolf Berle and Gardner M. Means, The Modern Corporation and Private Property (1932)(describing not only that the typical public corporate owners were dispersed so that owners' exercise of oversight was seriously limited by high coordination costs that enabled managers to essential hire capital rather than capital retain managers). an important policing mechanism of managerial abuses at U.S. public companies. 5 Different types of representative litigation have had their moment in the sun -derivative suits early on, followed by federal securities class actions, and most recently merger litigation-often producing benefits for shareholders, but posing difficult challenges as well. In particular, the benefits are qualified by another concern, the litigation agency costs that surround shareholder suits. This form of agency costs arises since the suits are invariably representative with no requirement that the named plaintiffs have a substantial ownership interest in the corporation, so that their prosecution could be easily seen as lawyer-driven. 6 And that perception is further underscored in the U.S. where the "American Rule," in contrast to the "Loser Pays Rule," provides no governor on the suit's initiation and prosecution. In this article, we assess the interactions of shareholder suits and governance mechanisms. Our thesis is straightforward: we claim that the recent rise of some important governance developments is a natural consequence of both the ineffectiveness and inefficiency of private suits to address certain genre of managerial agency costs. That is, just as one part of a balloon expands when another part contracts, we find that governance responses evolve to fill voids caused by the decompression of shareholder monitoring once supplied by private suits. In other words, as representative shareholder litigation comes under increasing attack, greater attention needs to be devoted to governance and market mechanisms as alternative means to address managerial agency costs. 5
doi:10.2139/ssrn.407580 fatcat:aiui4g5jtfc7jozmi47qlsc5au