The 'indispensable tool' of shareholder suits: private securities litigation is as important as ever as a remedy for failed governance.

• Author: Savett, Sherrie R.
• Position: Guest Column

BOARDS OF DIRECTORS are not fulfilling their role as the shareholders' representatives--the check on the power and abuses of management--in the corporate governance scheme.

First, even "independent" directors are often not truly independent. They are frequently friends or relatives of management who are unable or unwilling to challenge management. "Soft money" contributions to the favorite universities, charities, and political campaigns of the director further debunk the myth of independence. In spite of these apparent conflicts, it remains very difficult under the current law to prove a director is not independent and prevent him or her from serving on the board.

There is also very little accountability of board members to shareholders. The proxy election process insulates board members from such accountability. Many directors don't understand accounting issues. The Wall Street Journal reported that at a recent governance seminar, 70% of about 500 participants failed a test of basic accounting principles. Many were top executives serving on audit committees. Moreover, board members are insulated from responsibility by D & O insurance. The result of these board weaknesses is continuing acts of securities fraud.

There have been many recent changes in the laws and regulations affecting corporate governance in an attempt to revitalize it and to correct the above-noted problems. All of these changes are a step in the right direction, but laws, rules, and regulations will always be broken by some.

When corporate governance fails, private securities litigation remains an important remedy.

As Congress noted when it passed the Private Securities Litigation Reform Act (PSLRA) in 1995, "Private securities litigation is an indispensable tool with which defrauded investors can recover their losses.... [Private lawsuits] promote public and global confidence in our capital markets and help to deter wrongdoing and to guarantee that corporate officers, directors, lawyers, and others properly perform their jobs."

Here's the problem: Since the passage of the PSLRA, the presumptive lead plaintiff in major securities fraud cases is the investor who has suffered the greatest financial loss. But these major investors--particularly private institutional investors as opposed to public pension funds--are not coming forward.

Many of them believe that these actions are a legal commodity and that their leadership makes no difference in the ultimate recovery...