Securities litigation exposes public companies to significant risks, and recent trends confirm that these types of cases are on the rise. Indeed, a report by National Economics Research Associates (NERA) found that the average settlement amount for federal securities class actions in 2013 was $68 million, which included approval of one "mega" $2.4 billion settlement (see NERA, Recent Trends in Securities Class Action Litigation: 2013 Full-Year Review, at 27) (NERA Report)). To effectively manage risk, counsel and companies involved in these cases must stay informed of the relevant rules and regulations as well evolving jurisprudence.

The primary sources of civil liability under the federal securities laws are two New Deal-era statutes: the Securities Act of 1933 (Securities Act) and its close cousin the Securities Exchange Act of 1934 (Exchange Act). While the Securities Act applies to misstatements or omissions in the initial registration and offering of securities, the Exchange Act creates liability for any misstatements or omissions relating to the purchase or sale of securities. For example, the Exchange Act renders any allegedly materially misleading public statement a potential source of liability, including statements made in Securities and Exchange Commission (SEC) filings, on earnings calls or in press releases.

The best known and most often invoked Exchange Act provision is Section 10(b). This catch-all antifraud provision makes it unlawful to "use or employ, in connection with the purchase or sale of any security" a "manipulative or deceptive device or contrivance in contravention of such rules and regulations as the [SEC] may prescribe" (15 U.S.C. § 78j(b)). The SEC's implementing regulation, Rule 10b-5, further defines the scope of the statutory language. The rule renders it unlawful, in connection with the purchase or sale of any security, to either:

(17 C.F.R. § 240.10b-5.)

Not surprisingly, given the broad applicability, shareholders in public companies often rely on Section 10(b) and Rule 10b-5 to bring class actions against companies in which they have invested. The filing of these cases may be triggered by nothing more than a drop in the company's stock price, after which shareholder plaintiffs allege that the decrease in price reflects newly public information that the company previously and improperly concealed. A company's changing economic realities may make it vulnerable to these types of allegations, with a potential for very large monetary exposure. This may be true even when the change in stock price results from circumstances beyond the company's control and the underlying misrepresentation claims ultimately are meritless (see Dura Pharms., Inc. v. Broudo, 544 U.S. 336, 342-43 (2005)).

Over time, Congress and the courts have tried to balance the need for honest public disclosure against deterring frivolous lawsuits. As a result, Congress has twice amended the securities laws to address the proliferation of questionable shareholder suits, and the Supreme Court has opined numerous times in this area.

Nonetheless, securities class actions remain a potential minefield for public companies. The NERA Report examined trends in securities class action litigation for 2013, and, among other things, noted that:

Practical Law has a variety of resources to help companies and counsel manage risk by staying informed about the nuances and changing landscape of securities litigation, including: