FILE PHOTO: The seal of the U.S. Securities and Exchange Commission (SEC) is seen at their headquarters in Washington, D.C., U.S., May 12, 2021. Picture taken May 12, 2021. REUTERS/Andrew Kelly/File Photo

By Douglas Gillison

WASHINGTON (Reuters) - The U.S. securities regulator on Wednesday said it would allow companies seeking to go public to require that investors resolve claims of fraud or other false statements through arbitration rather than court litigation, handing a victory to companies and weakening investor rights.

The Securities and Exchange Commission voted 3-1 along party lines to reverse a long-standing but unwritten SEC policy in which the agency blocked the Wall Street debuts of companies that want to ban shareholder class action lawsuits in their charters and bylaws.

"The commission is not a merit regulator that decides whether a company's particular method of resolving disputes with its shareholders is good or bad," SEC Chair Paul Atkins said at a public meeting.

The SEC issued a policy statement, rather than a formal rule, meaning it is not subject to public notice and comment.

Caroline Crenshaw, the commission's lone remaining Democrat, lambasted the new policy, saying it would "open the floodgates" to mandatory arbitration, denying many shareholders their rights while allowing companies to keep their alleged misconduct in the shadows. If harmed investors cannot band together in a class action, thereby sharing their legal costs, many simply won't sue at all, she added.

Corporate interest groups and Republicans have long complained about what they see as the frivolous filing of shareholder class action suits, saying companies should be able to protect themselves. During President Donald Trump's previous administration, the agency considered such a change but ultimately took no action.

Consumer advocates and plaintiffs' lawyers say court action helps hold companies to account, gives small investors the chance to recover damages they otherwise couldn't, and gives the public access to evidence and legal reasoning that helps build case law and inform public policy.

EFFECT OF CLASS ACTIONS

In a Tuesday letter to the SEC, CalPERS, the California public pension fund, said forced arbitration would also "diminish the deterrent effect" of class actions.

Ann Lipton, a former class action litigator now at the University of Colorado law school, said the change would be damaging to the public interest, noting lawsuits can expose corporate misconduct among other things.

"From a public policy perspective, this is horrific," said Lipton, adding that law suits can expose corporate misconduct among other things. "It halts all development of the law and it halts all insight into what companies are really doing."

The issue first gained prominence in 2012 when the SEC signaled it would oppose an IPO planned by the private equity fund Carlyle Group, which sought to require future shareholders to resolve disputes in arbitration.

Erik Gerding, former director of the SEC's division of corporation finance now in private practice at Freshfields, said he expected a "sudden upsurge" in companies seeking to benefit from the change.

"Today’s action most immediately impacts IPOs but established public companies will also be interested in reducing litigation exposure," he said.

In a separate matter on Wednesday, the SEC also extended for a second time the deadline for private investment funds to comply with Biden-era regulations requiring enhanced disclosures.

(Reporting by Douglas Gillison in Washington; Editing by Chizu Nomiyama, David Gregorio and Nick Zieminski)