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Abstract
In this paper, we analyze the German Capital Markets Model Case Law (KapMuG) enacted to reduce transaction costs in securities mass litigation. The KapMuG is often seen as a European role model trying to enhance investor rights without running the risk of frivolous claims known from the US class actions. We show that the current legislation is insufficient due to two main obstacles: first, shareholders need to file individual lawsuits before being eligible for participation in the model case, which leads to a rational ignorance of small shareholders. Second, for wrong and omitted capital market information beyond prospectus liability, it is unclear if shareholders need to prove the causal link between the wrong information and the investment decision, which is hardly possible. We suggest two major changes for the reform due in November 2012: a simplified opt-in mechanism without the prerequisite of individual lawsuits and extension of the reversal of the burden of proof for causation from prospectus liability to wrong or omitted ad hoc information. Besides, we argue that gross negligence is the appropriate liability rule in the substantive law underlying the KapMuG.
Notes
1. For a discussion of current legislative proposals in Germany, see, for example, Rotter Citation(2011).
2. For a general discussion on the economic aspects of collective procedures, see, for example, van den Bergh and Keske Citation(2009).
3. In the literature, a similar view was already held by Ehricke Citation(2005) and Mülbert and Steup Citation(2005).
4. See Sethe Citation(2009) for a more comprehensive discussion of this view.
5. See, for example, Meier-Reimer and Paschos (Citation2008, 636). This may be different under US securities law since Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336 (2005); on the practical consequences of this decision, see Hill Citation(2010).
6. Musterverfahren in German.
7. See the papers discussed in Section 1.
8. Class actions are available in different areas of law, but security fraud cases amount to almost 50% of all class actions (Coffee Citation2006).
9. On such ‘blackmail settlements’, see Wagner (Citation2011, 72).
10. To avoid misunderstandings, it needs to be mentioned that the usual way of agreeing on contingency fees cannot be adopted in class actions. Usually, contingent fees are negotiated between a lawyer and his or her clients, but this is not possible due to the fact that there is just one lead plaintiff, whereas damages are divided between all class members. Therefore, the attorney in class actions gets a percentage fee fixed by the court. The attorney's salary is then subtracted from the total damages before these are divided between the class members. Still, the attorney's incentives are identical to those with the negotiated contingency fees; only the mechanism leading to a specific percentage is different.
11. This helps explaining why countries such as Australia and Canada which have adopted opt-out provisions implemented the loser pays rule to avoid lawyers’ interest in filing unmeritorious claims.
12. Consequently, the Private Securities Litigation Reform Act of 1995 was designed to reduce the risk of frivolous claims and inappropriately high damages. The most important steps in this direction are that the threshold to trigger pre-trial discovery is increased, that the decision about the lead plaintiff is now made by the court and that punitive damages have been limited with respect to both the possibility and the amount and that (most important in our view) the defendant's litigation costs are imposed on losing plaintiffs when the court considers a case as frivolous. These measures seem to reduce the risk of frivolous claims considerably, although it needs to be mentioned that empirical papers do not provide clear-cut results yet; see the overview in Hellgardt Citation(2008).
13. This is strikingly different form consumers’ protection area, where EU Directive 98/27/EC has induced that various types of collective redress mechanisms be introduced in national legislations.
14. In Great Britain, a ‘Group Litigation Order’ (GLO) is possible since 2000, which is an ‘opt-in’ procedure since it requires a registration by the group members and the judgment will be binding only on these registered members. There are broad discretionary possibilities for the judge with regard to the details of the procedure. However, the GLO is not yet important in the securities area; see Hodges Citation(2009) for an overview. In 2009, the British government proposed to strengthen and reform collective procedures specifically in the securities area as part of the ‘Financial Services Bill’ that was proposed as a reaction to the financial crisis, see http://www.publications.parliament.uk/pa/cm200910/cmbills/049/10049.20-26.html. Under this proposal, a ‘collective proceedings order’ could also be made on an opt-out basis. The proposal never became law and was not taken up again after the UK elections in 2010.
15. See the information at http://www.shell.com/home/content/investor/reserves_settlement/non_us/non_us_reserves_settlement.html.
16. In re Royal Dutch/Shell Transport Securities Litigation, 522 F.Supp. 2d 712 (D.N.J. 2007).
17. For a further recent example, see the decision of the Amsterdam Court of Appeals of 17 January 2012 in the Converium case, see www.converiumsettlement.com.
18. See Čulinović-Herc and Braut (Citation2009) for an overview.
19. Dari-Mattiacci and Schäfer Citation(2007) provide an illuminating taxonomy of different cases.
20. More precisely, § 44 et seq. BörsG also apply to situations where securities are bought on the secondary market, but in view of the prospectus and within the six-month time frame mentioned in § 44 par. 1 BörsG.
21. In Germany, some authors argue that ordinary negligence should trigger liability in primary markets, while other legal scholars conclude from the doctrine on pure economic losses that liability should, both on primary markets and on secondary markets, be restricted to willful fraud. The dominant position, however, agrees that gross negligence should be adopted both for primary markets and for secondary markets; see Hellgardt (Citation2008, 458) with many cross-references.
22. Schweizer Citation(2009) developed a more comprehensive model that contains Shavell's model as the special case where accident probabilities are additively separable.
23. Famous examples include Mesothelioma cases decided by the House of Lords in the UK (Fairchild v Glenhaven Funeral Services Ltd, 2003, 1 AC 32) and the Dutch Supreme Court (LJN AU6093; see www.rechtspraak.nl for the full text of the decision) or the rule established by Massachusetts’ highest court established a specific formula for juries to award damages proportionate to the reduced survival rate caused by the doctor's negligence in July 2008.
24. The problem is lower for large shareholders as litigation costs are increasing at a decreasing rate in the amount at stake.