Securities Class Actions Compared to Derivative Lawsuits: Evidence from the Stock Option Backdating Litigation on Their Relative Disciplining of Fraudster Executives
Journal Of Forensic And Investigative Accounting. Volume 8, Issue 2.
33 Pages Posted: 27 Jan 2016
Date Written: January 25, 2016
This is the first comprehensive examination of the stock option backdating litigation. One reason why it is important to study the stock option backdating litigation is that it was a blend of financial reporting fraud and executive misappropriation of assets. Sometimes the executive misappropriation of assets did not result in materially misstated financial statements under the federal securities laws, even if they did under accounting or auditing standards. This scenario is unique and thus provides a unique research opportunity, since typical financial reporting litigation usually results in materially misstated financial statements under the federal securities laws.
A second reason why it is important to study the stock option backdating litigation is that about 35% of it included securities class actions, while the remainder was comprised solely of derivative lawsuits. This provides another unique research opportunity, as most litigation is comprised almost entirely of only securities class actions or only derivative lawsuits. Thus, it is possible to compare and contrast securities class actions with derivative lawsuits. This is particularly useful because some question the value of securities class actions. This part of the research is in a sense an extension of the work of Choi and Pritchard (2014), who found evidence that securities class actions are more effective than SEC enforcement actions at forcing out fraudster executives.
Using the empirical archival research method, the comparison of stock option backdating litigation to typical financial reporting litigation revealed that the stock option backdating litigation is negatively associated with auditor defendants, bankruptcy, and the amount of the settlement with the stockholders. It is positively associated with US companies, companies in the computer industry sectors, and restatements for stock option backdating.
Also using the empirical archival research method, the examination within the stock option backdating litigation indicated that the derivative lawsuits are negatively associated with auditor defendants, fraud, revenue restatements, and the forced departure of stock option backdating fraudster executives. Thus, securities class actions have value beyond derivative lawsuits. They are a stronger ex post disciplining mechanism, providing stronger deterrence against future executive fraud.
Keywords: Stock option backdating; Accountability; Fraud deterrence; Securities class actions; Derivative lawsuits
JEL Classification: K22, K41, M41, M52
Suggested Citation: Suggested Citation