The top two law firms active in securities class actions took in almost $3 billion in fees between 2005 and 2018 and recently have been averaging almost $100 million a year, a detailed academic study shows, with little correlation between the riskiness of the cases and how much they are paid.
Robbins Geller Rudman & Dowd and Bernstein Litowitz Berger & Grossmann dominate the class-action business, accounting for 44% of total fees collected by plaintiff lawyers, according to the article, “The Business of Securities Class Action Lawyering,” by Stephen Choi of NYU Law, Jessica Erickson of the University of Richmond, and A.C. Pritchard of the University of Michigan.
They studied almost 2,500 class actions involving more than 700 law firms filed between 2005 and 2018 to compile fee awards as well as the size of target companies and indications of how risky each case was.
The study portrays a highly stratified industry, with the 91 firms active in 10 or more cases earning 96% of all fee revenue. The authors also examined how those law firms get those fees, including often-murky relationships with other lawyers who appear to do little work on cases but take a share of fees in exchange for introducing them to pension funds that serve as lead plaintiff.
One such arrangement erupted into scandal when a Boston judge discovered that Labaton Sucharow, another prominent securities class action firm, paid $4.1 million out of a settlement with State Street Bank to a Houston lawyer who did nothing more than introduce the firm to an Arkansas teacher pension fund.
Since each dollar paid to the lawyers is a dollar their clients don’t get to keep for themselves, the study’s authors said judges should more closely scrutinize these deals with outside firms. Now, it’s up to lead plaintiff attorneys to decide whether they disclose such payments and few do.
“We conjecture this is because the firms surmise that courts will be skeptical of requests to directly pass on to the shareholder class the law firm’s own client development costs,” the authors write.
The authors also found judges don’t seem to assess the riskiness of hours law firms spend on class actions when they approve fees. Under the Public Securities Litigation Reform Act, companies have little incentive to settle until a court decides their motion to dismiss. But if plaintiff lawyers win that phase, companies face potentially ruinous discovery costs and cases settle 93% percent of the time.
This dramatically changed risk profile gives law firms a “perverse incentive” to invest more hours in a case after defeating a motion to dismiss, knowing they will receive extra compensation despite the lower risk. This incentive is greatest in cases involving the largest companies, the authors write, where their study found lodestar multipliers are the highest. Judges award multipliers to the reported hours worked, or lodestar, to compensate law firms for taking on riskier cases.
“After the complaint has survived a motion to dismiss, something has to go dramatically wrong with a case for it not to end in a settlement,” the authors write. “But judges do not separately consider hours invested prior to the dismissal motion from those invested afterward.”
The study found 35% of cases featured at least one additional law firm, sometimes with little evidence of what those lawyers did to earn a fee. VanOverbeke, Michaud & Timmony in Detroit was involved in 49 cases, for example, but only filed a fee affidavit in a few of them. The firm’s website says it provides “legal services and administrative support to public employee pension systems,” and Detroit-area public pensions frequently are involved in securities class actions.
Outside counsel arrangements “have the potential to be a cover for finders’ fees that simply compensate additional counsel firms for introducing lead counsel firms to institutional clients,” the authors write. “If the relationship is not disclosed to the court, there is no opportunity for a judge to determine whether an additional counsel firm is providing legitimate legal services that benefit the class or whether it is simply receiving a fee from the settlement fund for introducing lead counsel to institutional clients.”
The authors recommend institutional plaintiffs require plaintiff firms seeking work in securities class actions to provide detailed information about their average settlements as well as amounts by quartile, along with the fees they have obtained. They recommend judges ask potential lead plaintiffs how they selected a law firm as well as to disclose any financial relationships with lawyers working on the case and if those lawyers made campaign contributions to politicians overseeing public pensions.
Judges should also request information on the range of settlements a plaintiff firm has won, not just the biggest settlements and the rate at which they have won settlements. The study showed four law firms had very similar average settlements of around $54 million, but their rate varied from 36% to 73%. The bigger the target company, the lower the likelihood of settling, with the largest 10% of companies settling only 37% of cases.
The top 10% of settlements averaged $288 million with an average fee of $42 million, or 15%. The next decile averaged only $47 million with fees averaging $11 million or 23%. Overall fee awards ranged between 28% and 15%, but the lodestar multiplier rose steadily from 0.73 at the bottom to 1.98 at top.
“Although judges award a lower percentage of the settlement amount in the cases with the largest settlements, these fee awards still compensate the plaintiffs’ firms more for their time than the awards for smaller settlements,” they concluded.