Loss Causation In The S.D.N.Y.

What is necessary to adequately plead loss causation in a securities fraud case continues to be the subject of contention in the S.D.N.Y., with a number of decisions addressing the issue over the past year. The New York Law Journal has an article (via law.com – free regist. req’d) on yet another loss causation decision in DeMarco v. Robertson Stephens, Inc., 2004 WL 512232 (S.D.N.Y. Jan. 9, 2004), the securities class action against Robertson Stephens over its Corvis Corp. stock recommendations.

The suit alleges that Robertson Stephens’ analysts made buy recommendations for Corvis stock to prop up the price until the firm and some of its executives could sell off their pre-IPO shares in the company (i.e., a variation on a “pump-and-dump” stock manipulation). The alleged scheme was revealed to the market when a May 2001 article in the New York Times reported the discrepancy between Robertson Stephens’ public recommendations and the sales by its executives. In his opinion, District Judge Lynch notes that the price of Corvis stock dropped 16% within a few days of the article.

On the issue of loss causation, the defendants argued that the plaintiffs’ loss was due to the general market downturn in telecommunications stock, not any alleged misrepresentations. The court agreed that the plaintiffs could not merely allege that the price of Corvis shares had been inflated to establish loss causation (there is a circuit split on this issue), holding that “it is unlikely that loss causation could be adequately alleged in every fraud-on-the-market case that successfully pleads transaction causation because in cases where an unforseeable intervening event causes the plaintiffs’ loss, there is no causal nexus between the loss and the misrepresentation.” In the instant case, however, the court found that “the bursting of the Corvis stock bubble could reasonable be construed, at least in part, as the market’s correction of an inflated stock price, pumped up in part by defendants’ false statements about its opinions.”

The court took pains to distinguish the case from the facially similar cases against Merrill Lynch that have been dismissed by Judge Pollack. On the issue of loss causation, Judge Lynch noted that, in contrast to the Merrill Lynch cases, “in this case there is evidence that disclosure of defendants’ scheme caused a further decline in the price of Corvis stock, even after the overall bubble had burst.”

Holding: Motion to dismiss Rule 10b-5 claim denied. A motion to dismiss the insider trading claim against a Robertson Stephens executive, however, was granted.

Quote of note: “On the facts in this case, the Court must conclude that plaintiffs have adequately alleged loss causation because the decline in stock price was a forseeable consequence of defendants’ fraudulent statements that allegedly inflated the price, because in an efficient market, revelation of the misrepresentations will lead inexorably to a price correction.”

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