Estimating Damages in Securities Litigation
Challenges in Proving (and Disproving) Damages
from the Plaintiff’s and Defendant’s Perspectives
Jeffrey W. Golan, Esquire[1] Michael J. Moscato, Esquire[2]
Barrack Rodos & Bacine Curtis, Mallet-Prevost, Colt & Mosle LLP
3300 Two Commerce Square 101 Park Avenue
2001 Market Street New York, NY 10178
Philadelphia, PA 19103 212-696-6000 (tel)
215-963-0600 (tel) 212-697-1559 (fax)
215-963-0838 (fax) (email)
(email)
· Determining whether plaintiffs’ losses were caused by the defendant.
· Calculating damages during the class period, either by creating a metric for inflation or by determining the amount the security declined as a result of the curative disclosure(s).
· Identifying potential curative disclosure(s) and determining whether they “reveal” the alleged fraud.
· From the defendant’s perspective, determining whether plaintiffs’ losses can be offset by gains resulting from plaintiffs’ sales at prices inflated by the alleged fraud.
· Admitting or precluding evidence of aggregate damages.
· Whether a class may be certified.
Determining Whether Plaintiffs’
Losses Were Caused By The Defendant
· Distinguish between trading losses and damages.
· Identify and isolate factors other than the alleged fraud that caused either inflation in the market price of the security or the security’s decline in value:
- general stock market decline
- industry decline
- company-specific events not connected to the fraud
· Explain the concept of damages and, as appropriate, whether and why damages in the case at hand are either equivalent to or a fraction of trading losses.
· Developments in asserting loss causation since Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336, 125 S. Ct. 1627 (2005). Examples:
- Cases finding adequate pleading of loss causation: In re Bradley Pharmaceuticals, Inc. Sec. Litig., 421 F.Supp.2d 822, 828 (D.N.J. 2006); In re Enron Corp. Sec. Litig., 465 F.Supp. 2d 687, 724 n.47 (S.D. Tex. 2006); In re Immucor Inc. Sec. Litig., 2006 U.S. Dist. LEXIS 72335, *56-60 (N.D. Ga. Oct. 4, 2006); see also In re Motorola Sec. Litig., 2007 WL 487738, *24-48 (N.D. Ill. Feb. 8, 2007) (includes extensive discussion of loss causation on motion for summary judgment).
- Cases finding loss causation not adequately pled: Teachers’ Retirement System of Louisiana v. Hunter, 477 F.3d 162, 187-88 (4th Cir. 2007); Tricontinental Industries, Limited v. PricewaterhouseCoopers, LLP, 475 F.3d 824, 843 (7th Cir. 2007); Lattanzio v. Deloitte & Touche LLP, 476 F.3d 147, 157 (2d Cir. 2007); see also In re Coca-Cola Enterprises Inc. Sec. Litig., 2007 WL 472943, *10-13 (N.D. Ga. Feb. 7, 2007) (adopting flexible standard but finding plaintiffs failed to adequately allege loss causation).
Calculating Damages During The Class Period, Either By Creating A Metric For Inflation Or By Determining The Amount The Security The Security Declined As A Result Of The Curative Disclosure(s)
· How the plaintiff and defendant deal with sales of securities prior to the (first alleged) curative disclosure.
· How the plaintiff and defendant deal with any decline in the price of the security that occurs prior to disclosure of the fraud.
· How the plaintiff and defendant deal with the measurement of damages in relation to the decline in the value of the security following the disclosure of the fraud. See, for instance, attached stock price charts.
· Should damages caused by disclosure of the fraud be measured in terms of the dollar amount of the post-disclosure decline in the security or the percentage decline?
- Example: assume on January 1 the stock is trading at $50 per share; by June 24 it has declined to $20 per share; then it falls by 50% to $10 per share after the fraud is disclosed on June 25.
· Are the damages $10 per share ($20 minus $10) or $25 per share (i.e., 50% of $50)?
· How the plaintiff and defendant deal with and/or utilize an announcement that discloses both the fraud and another negative (but non-fraud-related) event with respect to computation of damages.
Identifying Potential Curative Disclosure(s) And
Determining Whether They Reveal The Alleged Fraud
· Distinguish curative disclosures from non-fraud disclosures.
· One of the most important uses of expert testimony is to analyze each announcement that causes the security to decline and explain to the jury why certain announcements either do or do not constitute disclosures of the alleged fraud. See, for instance, attached plaintiff’s and defendant’s analyses of disclosures.
· What is a curative disclosure?
- See extensive discussion of case law developed since Dura and four alleged “corrective disclosures” in In re Motorola Sec. Litig., 2007 WL 487738, *24-48 (N.D. Ill. Feb. 8, 2007).
- Possible approaches:
· The announcement has to reveal with some specificity the existence of prior misrepresentations or fraud in order to constitute a curative disclosure.
· To constitute a curative disclosure it is sufficient for an announcement merely to deflate the market’s expectations about the company.
· To constitute a curative disclosure, the announcement can be said to touch upon the ultimate disclosure of the fraud and have some impact on the value the market places on the company.
From The Defendant’s Perspective, Determining Whether Plaintiffs’ Losses Can Be Offset By Gains From Sales At Prices Inflated By The Alleged Fraud
Defendant may seek to establish the following:
· Many plaintiffs engage in multiple purchases and sales during the period the security is allegedly inflated by fraud.
· When a plaintiff purchases securities prior to commencement of the alleged fraud and sells them at fraud-inflated prices, that plaintiff profits from the fraud.
· Similarly, when a plaintiff purchases securities at a price inflated by fraud but sells when the price is even more inflated by the fraud, that plaintiff also profits from the fraud.
· When calculating damages, plaintiffs’ profits from sales at fraud-inflated prices should be offset from their losses from purchases at fraud-inflated prices?
· Aggregate damages models cannot capture this phenomenon. If not, this provides a reason for precluding evidence of aggregate damages models.
Plaintiff may present various responses:
· The aggregate damages model takes into account “in-and-out” trading patterns, and thus, aggregate damages models adequately estimate overall damages.
· Whether a particular plaintiff purchased securities prior to commencement of the alleged fraud and sold them at fraud-inflated prices is irrelevant, since such shares are outside the class.
· Trading models already take into account shares of institutional investors (filers of SEC schedules) owned at the outset of the class period, at regular reporting periods, and at the end of the class period.
Admitting Or Precluding Evidence Of Aggregate Damages Models
· Aggregate damages models have been challenged on a number of grounds.
· Defendants contend:
- The only way to determine the precise amount of class-wide damages is through an individualized post-trial claims process where defendants have access to plaintiffs’ trading records.
- A claims process can account for plaintiffs’ profits from sales at fraud-inflated prices, while aggregate models do not.
- In cases where plaintiffs allege multiple curative disclosures, damages cannot be calculated without actual data as to when plaintiffs purchased and sold their securities.
- Because an individual claims process will be required in any event to distribute any aggregate recovery, there is no reason to engage in an aggregate estimation process which is certain to be imprecise and will in most instances over-estimate the class damages.
· A number of courts have precluded the use of aggregate damages models, holding such models (both proportional trader and multi-trader models) lack sufficient indicia of reliability to pass muster under Daubert v. Merrell Dow Pharmaceuticals, 509 U.S. 579(1993) and Kumho Tire Co. v. Carmichael, 526 U.S. 137(1999).
Kaufman v. Motorola, No. 95-C1069, 2000 U.S. Dist. LEXIS 14627 (N.D. Ill. Sept. 21, 2000)
In re Clarent Corp. Secs. Litig., No. C-01-3361 (N.D. Cal. 2005)
In re Raytheon Secs. Litig., No. 99-12142 (D. Mass. 2004)
Arenson v. Broadcom Corp. (In re Broadcom Corp. Secs. Litig.), No. SA-CV-01-275, 2005 U.S. Dist. LEXIS 12118 (C.D. Cal. June 3, 2005)
· Plaintiffs contend:
- An event study based on market volume and price data and an appropriate trader model, when performed by a qualified expert, fully satisfies the requirements of Daubert and Kimbo, as found by numerous courts. Such an analysis sufficiently accounts for shares held at the outset of the class period, so-called “in-and-out” purchasers, and shares retained at the end of the class period.
- An event study similarly can adequately take into account multiple curative disclosures, and estimate damages on a class-wide basis based on reported market transactional data and information of other experts (e.g., plaintiff’s accounting expert in a case involving false financial statements).
- In particular cases, plaintiff may be willing to present the case to a jury on the basis of daily inflation calculations which, if accepted by the jury, would be utilized as the basis for molding a verdict based on individual class member claim forms. However, as a general matter, estimating damages based on an event study with an appropriate trader model is a sufficient and reasonable basis for a jury verdict.
· Many courts have admitted the use of aggregate damages models, including the following:
§ In re Oxford Health Plans, Inc. Sec. Litig., 244 F. Supp.2d 247, 251 (S.D.N.Y. 2003)
§ In re WorldCom, Inc. Sec. Litig., No. 02-3288, 2005 WL 375313 (S.D.N.Y. Feb. 17, 2005) (allowing aggregate damages to be presented for Section 10(b) claim); and 2005 WL 491397 (S.D.N.Y. March 3, 2005) (allowing aggregate damages to be presented for Section 11 claim)
§ Oxford and WorldCom further appear to provide defendants with a remedy if an aggregate damages award exceeds the amount ultimately assessed in the individual claims process, such that defendants would be entitled to refund of the excess amount.
Whether a class may be certified
· Within the past year, there have been some notable decisions with respect to whether class certification is appropriate. While not directly related to proof of aggregate damages, these decisions will certainly impact how plaintiffs must present damages on a class, i.e., aggregate, basis, and defenses that can be raised along these lines in securities class actions.
· The two most notable decisions were: In re IPO Sec. Litig., 471 F.3d 24 (2d Cir. 2006); and In re Enron Corp. Sec. Litig., 2007 WL 816518 (5th Cir. March 19, 2007).
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WorldCom – A Case Example
Plaintiff’s Analysis of WorldCom Disclosures
Plaintiffs asserted that the financial statements of WorldCom were inflated by false and misleading statements beginning with the issuance of the first quarter 1999 financial statement on April 29, 1999, and continuing through June 25, 2002. Plaintiffs further asserted that the truth about the false financial statements began to be disclosed on January 29, 2002, and that almost all of the subsequent drop in the prices of WorldCom securities were tied to these disclosures.[3]