You're not safe yet.

• Author: Feldman, Boris
• Position: Financial statement lawsuits

The Private Securities Litigation Reform Act's safe harbor doesn't shield corporations from financial-statement lawsuits. Read on for six ways to protect your company.

Around the United States, a collective sigh of relief could be heard from corporate executives on December 22, 1995. As either a belated Hanukkah gift or an early stocking stuffer, the United States Congress gave public-company executives what they'd sought for years: reform of the shareholder class-action system. In overriding President Clinton's veto of the Private Securities Litigation Reform Act of 1995, Congress established strong protection for honest companies that run into hard times. But a year later, companies are finding that they're still being bombarded by lawsuits. And as we go to press, the state of California is preparing to vote on Proposition 211, a proposal on the ballot that would allow a suit against a company with a single California shareholder to be considered a nationwide class-action lawsuit.

What gives? First, commentary on the new law has emphasized its safe-harbor provision. The safe harbor will go far toward eliminating the classic fraud-by-hindsight suit filed when a company fails to satisfy quarterly earnings expectations. One of the carveouts from the new safe harbor, however, may lead plaintiffs to shift their attention from missed forecasts to cooked books. Proactive CFOs should take steps now to ensure that financial-fraud lawsuits against their companies can be thrown out early.

In pre-Reform Act days, plaintiffs always preferred an accounting-fraud case to a forecasting case. Plaintiffs recognized that, to a judge or jury, forecasting is like reading a crystal ball, while financial fraud is fraud. Plaintiffs routinely alleged accounting improprieties, hoping to gain access to auditors' workpapers in search of a debatable entry. Over the years, courts caught on to the tactic and tended to dismiss accounting allegations, absent a high level of detail.

But the Reform Act will make plaintiffs even more eager to uncover a financial-fraud claim for two reasons. First, judges read newspapers. They know Congress sought to turn the class-action bar into an endangered species. Plaintiffs will face a skeptical audience when they file new cases. One way to regain credibility with the courts is by focusing on cooked-books cases - cases so egregious a judge will view them as different from the now-disfavored forecasting claims.

Second, plaintiffs will focus on financial fraud because it's not subject to the same safe-harbor protections as are forecasts. The new safe harbor provides extremely strong protections, both substantive and procedural, for forward-looking information disclosed by a company...