Pritchard on Stoneridge and fixing securities class actions

Adam Pritchard analyzes the Supreme Court's recent decision in Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc.. He argues, in a nutshell, that the opinion is just the latest in a series beginning with Basic that wrongly broadens the concept of reliance.  As Pritchard says in his abstract:

Compensation should only be available in cases alleging actual reliance. Changing the damages measure to disgorgement in Rule 10b-5 actions based on Basic's fraud on the market presumption would substantially diminish the "pocket shifting" aspect of securities fraud class actions while maintaining their deterrent value. I analyze the institutions that might effect this needed change in the damages measure - the Court, Congress, the SEC, or shareholders. The available evidence suggests that the three governmental actors in this list are largely paralyzed from overhauling securities class actions in a meaningful way. I argue that shareholders, the parties who bear the costs of the current regime, must take matters into their own hands by amending the corporation's articles. The amendment proposed here would effect a limited waiver of compensatory damages in lawsuits relying on the fraud on the market presumption.

I share with Pritchard his criticism of the Court's reliance on reliance.  As I said at the time Stoneridge came down:

[Reliance] is a weak theory once you accept, as the Court does, that 10b-5 liability can be based on conduct rather than misstatements. Given the fraud-on-the-market presumption of reliance, it's far from clear why reliance was missing here, as the dissent pointed out.

Pritchard explains the Court's use of reliance on the ground that the most logical candidate for denying liability in the case, the "in connection with" requirement, would have barred the SEC as well as private plaintiffs.

Pritchard argues that his proposed charter amendments limiting liability to disgorgement would not violate the anti-waiver provisions in the securities laws because, as with arbitration clauses, it only limits the remedy rather than waiving “compliance with any provision” of the Exchange Act under Section 29(a).

I agree, but I'm frankly skeptical that shareholders really will have the gumption to make the amendments Pritchard suggests. We'd have to look to institutional investors, and they've tended to be either passive or to push non-shareholder agendas.

But if not the shareholders, who else?  Pritchard doesn't think Congress or the SEC will do it. So does this mean that there’s no hope for securities reform? Not exactly.

As discussed, e.g., here, I tend to put my eggs in the jurisdictional competition basket. If the US legal regime gets too costly, firms can migrate, which puts pressure on Congress and the SEC to reform the law. Indeed, a broad spectrum of politicians and regulators already have picked up on this problem. This includes the Supreme Court in Stoneridge (though as argued in my post linked above, the Court is the wrong institution in government for effectuating it).  As the Court said:

Overseas firms with no other exposure to our securities laws could be deterred from doing business here. . . . This, in turn, may raise the cost of being a publicly traded company under our law and shift securities offerings away from domestic capital markets.

The bottom line is that Pritchard may have been too quick to dismiss the political route to reform, given the pressure provided by jurisdictional competition in an increasingly global market.  Because this pressure affects the entire economy, the shareholders Pritchard seeks to rely on do not internalize the cost.  A fix requires action by public institutions which can be pressed by private actors -- in other words, a combination of "voice" and "exit."

By the way, the broader version of this argument applied to a variety of contexts in addition to securities regulation is in my and Erin O'Hara's The Law Market, forthcoming from Oxford University Press.