Legal system hinders class action suits

Korea Herald Feb. 26, 2007

Experts say the burden of proof limits room for shareholders to maneuver

Class action suits have mostly been cumbersome, costly and highly risky for shareholders filing complaints in the United States, but their gains clearly deserved such a demanding process.

American firms had paid a total of $26 billion to settle collective legal complaints from 1997 to 2005, and each case cost $35 million on average.

The record was rewritten as Enron Corp. and WorldCom Inc., which collapsed due to huge accounting frauds, were forced to pay over $13 billion to shareholders in 2005 alone.

The whopping figures have raised concerns that Korean firms may soon face similar legal challenges as the government allowed shareholders to file class action suits against all companies this year.

But many experts point out shareholders will find it hard to wield their new legal power because the local legal system largely puts plaintiffs at a disadvantage.

“Shareholders should find evidence and substantiate their alleged damages in more limited ways here than in America,” Kim Hwa-jin, a law professor of Seoul National University, told The Korea Herald.

“There will be much fewer class suits here, and plaintiffs are less likely to win.”

The crucial difference is the “Discovery” system, which allows shareholders to request copies of documents and materials relevant to the case from accused firms.

Since the Korean courts have not yet adopted the rule, accusers can only obtain information and evidence through judges or neutral watchdogs such as the Financial Supervisory Service.

Critics argue that in many suits shareholders may lack evidence to prove corporate wrongdoings, due to the obstacle.

They point out that the legal bridle would disturb plaintiff’s efforts to clarify any fraud committed by corporate management, which are mostly surreptitious – meaning that a huge amount of proof is needed.

The plaintiffs, usually shareholders, need to prove that the defendant, the company or its officials, intentionally made material misstatements and defrauded people.

A recent court record partly showed the heavy burden on the accusing side.

Class action lawsuits were legalized here in 2004 as part of efforts to improve the nation’s shady corporate governance structures and further protect minority shareholders.

Accounting fraud and insider trading have been widespread in the local bourse, which has frequently caused losses to investors and hurt the market’s credibility over the past few decades.

But there has been no single class action from shareholders since 2005, when the regulation was first applied to public firms with more than 2 trillion won ($2.13 billion) in assets.

“Stockholders should bear the entire burden of proving wrongdoing,” said Jeon Hong-ryul, Deputy Governor of the FSS.

Mammoth lawyer fees also discourage minority shareholders from bringing class action suits.

If suitors lose the case, they will be charged full legal costs, which usually employ a large regiment of expensive counselors and jurists.

This clearly contrasts with the U.S. system that exempts losers from financial liabilities.

“The local rules on class action suits are not attractive to shareholders,” Kim said.

“I think the system aims to improve corporate transparencies rather than preventing damages of minority stakeholders.”

Some observers, however, say the less lenient rules will help forbid shareholders and corporate raiders abuse class actions.

The collective action has clearly encouraged listed companies to plug management loopholes and reduce fraud in the United States.

But mounting corporate costs has caused a backlash.

The U.S. Supreme Court has ruled against plaintiff shareholders in a series of landmark class action cases in recent years, reflecting the tightening mood about such collective suits in courts.

“There are concerns that the suits are handicapping American industries,” said Chun Sam-hyun, a professor of Soongsil University.

He stressed the Korean regulations are less stringent on plaintiffs than U.S. counterparts in some part.

The local rules disallow defendants from demanding reparations for damages from “malignant” accusations, which is not the case in U.S. courts, according to Chun.

This means some ill-grounded charges can be recklessly made against companies.

“This could even promote class action suits,” he warned.

(kkt@heraldm.com)

By Ko Kyoung-tae

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SeanHayes@ipglegal.com