Class Actions

Securities class actions and shareholder derivative suits get lumped together constantly, including by people who should know the difference, but they're procedurally distinct claims with different pleading requirements and different plaintiffs. TencerSherman LLP handles both: representing investors bringing securities class actions, representing corporations and individuals defending against them, and representing shareholders and corporations on the derivative side as well.

Securities class actions

A securities class action is typically brought directly by investors alleging that a company or its officers made material misrepresentations or omissions in connection with a securities transaction, most often under Section 10(b) of the Securities Exchange Act and SEC Rule 10b-5. Because these claims are federal and heavily litigated, they're governed by two statutes specifically designed to filter out weak claims before they reach expensive discovery.

The Private Securities Litigation Reform Act (PSLRA), enacted in 1995, imposes pleading requirements well beyond an ordinary federal complaint. A plaintiff has to specify each statement alleged to be false or misleading and explain why, and separately has to plead facts giving rise to a "strong inference" that the defendant acted with scienter, the required fraudulent state of mind. The U.S. Supreme Court's decision in Tellabs, Inc. v. Makor Issues & Rights, Ltd. clarified that the inference has to be cogent and at least as compelling as any opposing, innocent explanation for the defendant's conduct, which is a genuinely difficult standard for a plaintiff to meet at the pleading stage. The PSLRA also stays discovery automatically while a motion to dismiss is pending, provides a safe harbor for certain forward-looking statements accompanied by meaningful cautionary language, and creates a rebuttable presumption that the plaintiff with the largest financial stake in the case is the "most adequate plaintiff" entitled to serve as lead plaintiff, a provision meant to put institutional investors in control of these cases rather than the lawyers.

The Securities Litigation Uniform Standards Act (SLUSA), enacted in 1998, closed a gap plaintiffs were using to avoid the PSLRA: state-law class actions alleging the same kind of fraud. SLUSA generally preempts state-law-based class actions alleging misrepresentation or omission in connection with the purchase or sale of a "covered security," meaning a nationally traded security, forcing those claims into federal court under federal law instead. SLUSA explicitly carves out shareholder derivative actions from that preemption, which is one of the clearest procedural lines between the two types of claims.

Shareholder derivative suits

A derivative suit is brought by a shareholder, but on behalf of the corporation, alleging that officers or directors harmed the company itself, through a breach of fiduciary duty, corporate waste, or similar misconduct. Because the claim technically belongs to the corporation, California law requires the shareholder to make a demand on the board to pursue the claim before filing suit, or to plead with particularity why that demand would have been futile, under California Corporations Code section 800(b)(2). This demand requirement exists to let the board decide, in the first instance, whether litigation is actually in the corporation's best interest, and it's frequently the first thing litigated in a derivative case, well before the merits of the underlying misconduct.

Because a derivative suit is legally about harm to the corporation rather than to individual investors, it isn't a "covered class action" under SLUSA and isn't preempted the way a state-law securities class action would be. That distinction matters for where a case can be filed and what law applies to it, and it's often the first strategic question in a matter that could plausibly be framed either way.

What this means in practice

Whether a dispute is framed as a direct securities class action, a derivative suit, or both simultaneously often depends on who was actually harmed and by what: a misrepresentation to the market that dropped the stock price harms investors directly and supports a class action; a self-dealing transaction that primarily harmed the corporation's own balance sheet is closer to a derivative claim. Cases involving both a public misstatement and an underlying governance failure sometimes generate both types of claims at once, filed separately or consolidated depending on the jurisdiction and the parties involved.

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