At some point in a securities fraud case, the plaintiffs are going to have to prove “loss causation” – proof that the alleged misrepresentation caused the drop in the price of the relevant security. They often do this through an expert’s “event study.” (And after the Supreme Court issues its decision in Halliburton v. Erica P. John Fund, Inc., it’s entirely possible that investors will also have to rely on event studies to show reliance on a class-wide basis to obtain class-certification. See our earlier discussion of the Halliburton oral argument here).
But event studies can be tricky business. After an expert has submitted an event study that links market disclosures to drops in pricing and damages, the judge as “gatekeeper” determines whether the methodology employed by the expert is reliable under Daubert v. Merrell Dow Pharmaceuticals, 509 U.S. 579 (1993). (For example, last month in Bricklayers and Trowel Trades Int’l Pension Fund, et al. v. Credit Suisse Securities (USA) LLC, et al., Case No. 12-1750, the First Circuit affirmed a district court’s decision to preclude an event study in a securities class-action against Credit Suisse and, in turn, grant summary judgment dismissing the class-action, because the event study was unreliable under Daubert.)
Even after a report survives Daubert review, the judge can make a determination that certain of the market disclosures contained in the subject event study cannot be properly considered in determining causation and damages as a matter of law. That would be a problem for plaintiffs. And that’s what eventually happened in In re Pfizer Inc. Securities Litigation, Case No. 04-CV-09866 (LTS) (HBP).
At first, the Pfizer plaintiffs managed this tricky business quite well. They sued Pfizer in 2004 based on alleged misrepresentations related to the drugs Celebrex and Bextra, and the plaintiffs survived multiple motions to dismiss and multiple days of Daubert hearings scrutinizing their expert and their event study.
But then it all changed. In a May 21 ruling, Judge Swain (Southern District of New York) granted Pfizer’s motion in limine precluding the testimony and event study of Plaintiffs’ loss causation expert, University of Chicago Law School Professor Daniel R. Fischel. In other words, plaintiffs lost their ability to show damages. So what happened?
After Fischel had already submitted his event study, Judge Swain granted partial summary judgment for Pfizer, holding that Pfizer could not be held responsible for certain representations, including statements by Pharmacia (the former owner of Celebrex and Bextra), corrective disclosures contained in a Canadian news story that was later debunked, and a news report on Pfizer’s quarterly earnings that merely reflected prior corrective disclosures. This was a problem for plaintiffs whose expert had already included all of these statements in his causation analysis.
Professor Fischel tried to fix the problem, but in doing so made some significant errors. He submitted a supplemental expert report in which he claimed to have removed losses attributable to these now excluded representations. But, critically, without explanation he did not adjust the estimate for the excluded Pharmacia statements. He also added what he called a “parallel adjustment” by which he was able to ignore, without explanation, price increases in Pfizer’s stock that occurred as the result of false information. This “parallel adjustment” mitigated the reduction in plaintiffs’ losses that would have otherwise resulted from Judge Swain’s summary judgment decision. It also did not help that Fischel had previously testified that, if certain corrective disclosures were deemed irrelevant, he would simply reduce the amount of the estimated losses attributable to those disclosures, an admission Pfizer was happy to emphasize.
Fischel’s admission, his failure to follow it when he wrote his supplemental report, and his inability to explain what the “parallel adjustment” was all about, doomed the event study. Judge Swain concluded that his report and testimony would no longer be helpful to the jury—a virtual death knell for plaintiffs.
But plaintiffs may still save themselves. At a follow up conference, Judge Swain gave plaintiffs another chance, granting the parties until this past Friday to file motions regarding proposed expert reports. Plaintiffs filed a motion seeking leave to file an amended supplemental expert report from Professor Fischel that attempts to explain the “parallel adjustment” and why the Pharmacia statements did not impact the analysis of loss causation. Interestingly, Professor Fischel included in the amended supplemental study an alternative analysis in which the “parallel adjustment” is jettisoned completely—a contingency plan if the court is unconvinced by Professor Fischel’s explanation. Pfizer, for its part, submitted a motion to end the case on account of there being no evidence of loss causation and no good reason to allow plaintiffs to amend their event study. We will see what the court decides and update you.
Judge Swain also noted at the May 23 conference that Halliburton may present additional problems for the plaintiffs. As we discussed recently here, in Halliburton, the Supreme Court will soon decide a rare frontal assault on one of its prior decisions, Basic v. Levinson, which ensconced the efficient market theory in our securities fraud jurisprudence. Judge Swain is right: if Basic is overturned completely, the Pfizer plaintiffs (indeed, all investors) will likely have to show individualized reliance on particular misrepresentations by each investor, since they would no longer be able to rely on the presumption created by the efficient market theory that underlies most event studies and, indeed, securities fraud class-actions. Not only would such a ruling create an incredibly difficult obstacle to continuing the Pfizer suit, it would likely spell the end to 10b-5 class-actions.
On the other hand, as we explained earlier, it’s very possible that there is a majority of the Court in favor of a “third-way,” requiring class-action plaintiffs to produce at the class-certification stage an event study similar to what is normally produced before summary judgment motions. If the court adopts this third-way, then we will continue to see event studies and the type of jockeying we are seeing in Pfizer, but much earlier in the proceeding – not 10 years after the case was filed.