Guest Post: Tower Snow Comments on the Ninth Circuit's Apollo Group Opinion
As I discussed in a recent post, on June 23, 2010, the Ninth Circuit issued an opinion reinstating the $277.5 million jury verdict in the Apollo Group securities class action lawsuit. In my post discussing the opinion, I included some observations about the Ninth Circuit’s ruling and the likely future course of the Apollo Group case, as well as about the current state of play on post-PSLRA jury trials in securities class action lawsuits in general.
Over the weekend, Tower Snow of the Howard Rice law firm sent me a note commenting on my observations. Because I think Tower makes a number of interesting points, I asked his permission to reproduce his observations on this blog. Tower very graciously gave me permission, and the text of his email is reproduced in indented text below.
Although I rarely disagree with what you post on the blog, I do disagree with the conclusions you draw re where the Apollo case is heading.
The Ninth Circuit reversed based on the concept that the market may have failed to appreciate the significance of earlier disclosures and that any earlier disclosures may not have been of sufficient intensity and credibility for the market to understand them. Thus, according to the Ninth Circuit, the jury could properly conclude that the disclosure at issue was "corrective." These are alien concepts to economists and the efficient market theory.
There is a vast universe of economic studies and literature which incontrovertibly shows that the financial markets are incredibly efficient (and sophisticated) and absorb and properly evaluate new information entering the markets in a matter of minutes. There is no respected economic literature which supports the idea that markets sometimes "fail to appreciate the significance" of negative information or that markets may be misled by disclosures because they are not of sufficient "intensity or credibility" to be fully understood. To the contrary, all the studies conclude the opposite.
The courts can't rely on the efficient market theory for purposes of creating a rebuttable presumption of reliance for purposes of class certification and then ignore its underpinnings for purposes of evaluating loss causation. Either one embraces the theory or one does not. If one embraces it, then once it is established that the prior disclosures revealed the truth about the allegedly misstated or omitted information, there is nothing left for the jury to decide. The later disclosure, by definition, cannot be corrective, as the market already had absorbed the information. Here, the "corrective" disclosure came out seven days after the information had been previously released. Seven days is an eternity in the financial markets.
The district court denied the defendants' motion for summary judgment on this issue because it had not heard the evidence. When it did, the court properly concluded that the "corrective" disclosure was old news. It was, and it could not under well established economic doctrine have caused plaintiffs' losses. The district court got it right.
This case has a good chance of eventually making its way to the Supreme Court. If it does so, the defendants will win. Loss causation is too important an issue, and the lower courts are all over the map in applying the efficient market doctrine in different contexts. Either the efficient market theory has to be embraced and applied consistently, as economists apply it, or it should be thrown out.
For what it is worth, I also come to a different conclusion re Post-PSLRA trial results. Although your win/loss numbers are correct, when one takes into account post plaintiff-verdict settlements and plaintiff verdicts in the context of the damages sought, plaintiffs have done very poorly. What the trials show is that juries view investing as a high risk game, they hold investors accountable for their actions and losses, and they are not inclined when seeing individual officers and directors-- absent very compelling evidence -- to easily conclude that they engaged in fraud. Couple these dynamics with plaintiffs' fear of post-trial adverse rulings, the dangers of appeals, the time delays, and a host of other factors, and it becomes apparent that even a plaintiff "win" often turns into a loss. I personally doubt whether either the Apollo or Vivendi verdict will survive.
I would like to express my thanks to Tower for taking the time to send a detailed commentary and for his willingness to allow me to reproduce it here. I welcome submissions from responsible persons who are interested in proposing guest posts for publication on this blog. I am in any event always interested in hearing what readers think.
Excellent posts, Tower and Kevin. If I can add just two observations on Tower's comments, they are as follows.
I would not be as confident as he on a conclusion that "defendants will win" if Appollo Group winds up before the Supreme Court. We will have at least one, if not more, new members of the Court by then and, notwithstanding Dura and other applicable precedent, one can never be certain as to how that Court may decide.
Second, on the deeper analysis of post_PSLRA verdicts, one must also consider later settlements of defense verdicts. If anything, the near even split between plaintiff and defense verdicts, suggests that trying these cases to a conclusion is often (but certainly not always) somewhat of a crap shoot.
Economists do not uniformly agree with the efficient market doctrine. There is support for chaos theory, as well.
Mr. Snow is correct in his statement of efficient-market theory, but he misconstrues the plaintiff's theory in the Apollo case and the Ninth Circuit's opinion. The theory is not that the market incorrectly responded to a piece of news and then later realized how wrong it was about that same piece of news. Rather, the theory is that the defendants misinformed the market about a bad event and that two weeks later investors were given full and accurate information about that event, at which point investors drove the stock price down. This theory is fully consistent with the efficient market hypothesis and with Dura's loss causation requirement.
Specifically, the plaintiff' argued that Apollo's disclosures about the DOE report were false and misleading, leading the market to conclude that there was no significant risk to Apollo going forward; the stock price did not significantly move. 12 days later, an analyst report fully disclosed the facts about the DOE Report and its effect on the riskiness of Apollo's stock. (The specific newly-disclosed facts in the analyst report are discussed in detail in the plaintiff's appeal brief.) It was therefore a corrective disclosure. The stock price dropped significantly following the analyst report. Although defendants reasonably argued that the analyst report contained no new corrective facts, as opposed to the analysts' opinion about those facts, the jury agreed with the plaintiff. Thus, in my view, the Ninth Circuit's reversal of the district court's order is correct, unremarkable, and unsuitable for Supreme Court review.
Tower Snows conviction that, "There is no respected economic literature which supports the idea that markets sometimes "fail to appreciate the significance" of negative information" is inaccurate. Behavioral finance is a very popular theory supported in many studies and contradicts the efficient market hypothesis.
It should come as no surprise that Tower Snow arrogantly brushes aside all of the recent wins by the plaintiffs' bar and condescendingly claims that they are losses. Laughable. Only an extremely jaded securities defense lawyer would react this way to a clear pattern of major losses for the securities defense bar. It's astonishing to me not only how arrogant his analysis is, but how intellectually dishonest it is. The efficient market concept and the fraud-on-the-market presumption has to do with RELIANCE, not loss causation. The two are distinct elements of 10(b) and have been treated as such by the Supreme Court for decades. Defense lawyers have been trying conflate the two elements for years and have been repeatedly smacked down by every circuit in the country except the hyper-conservative 5th Circuit.
The efficient market theory simply says that all public information is quickly incorporated into stock prices--thus, allowing plaintiffs to rely on the market price instead of proving individual reliance on any one statement made by defendants. That theory does NOT mean that every piece of public information is a "corrective" disclosure for loss causation purposes. In fact, nearly every court in the country has held that the truth can be partially revealed or "leaked" out through multiple disclosures of adverse facts. It's called walking down the stock---and corporate fraudsters have been doing it since the beginning of time. They will reveal a tiny tidbit of adverse information (like the existence of a DOE investigation) while trying to mask the full extent of the problem and releasing positive news at the same time to counteract the negative information. They will downplay the information, assure investors that it's not as bad as it sounds and mislead investors about the full impact of the problem. Then, after the FULL AND COMPLETE story is revealed at a later date (by analysts, media, etc...) and the full extent (and financial impact) of the misconduct is revealed, investors realize defendant were not telling the full truth in prior disclosures, they rapidly absorb that inforamtion, and thus the stock price get crushed, causing loss that is directly connected to the fraud. That scenario is perfectly consistent with an efficient market theory. The market absorbs a half-truth and misleading disclosure downplaying a negative fact or risk and does not sell off the stock, then the market later learns that fact was much worse than defendants' previously disclosed and punishes the stock. Thus, contrary to Tower Snow's fantasy land theories, not every disclosure is a "corrective" event for loss causation purposes. Every Court in the country has said that, including the Supreme Court in Dura. Tower just doesn't want to accept reality when he's on the losing end. See Brobeck.
I would beg to differ with Tower Snow's statement that because (according to him) "the lower courts are all over the map in applying the efficient market doctrine in different contexts," "[e]ither the efficient market theory has to be embraced and applied consistently, as economists apply it, or it should be thrown out."
Without debating what brand of the efficient market theory courts have actually adopted "all over the map," i.e. weak, semi-strong or strong, Tower's assumptions rely on the faulty premise that the analyst knew/said nothing the market did not already know and that the market was not entitled to weight the analysts' views heavily in light of her extensive coverage of this company and its industry. In addition to reading issuer press releases and attending company calls, analysts often have private access to company executives, they often conduct their own market checks as to what is happening at a company's supplier and vendor levels, and they often interact directly with regulators to determine whether violations of law will be enforced and if so what the probability and extent of penalties may be. There is a multitude of other primary research they can and often do perform (i.e. how would a regulatory enforcement action affect their financial relationships with suppliers and vendors?). Analysts also know what impact their research and findings will have on their own stock recommendations, which can be a material fact in and of itself. All of this is reflected in the analysts' research report and reflects non-public information. That is why the investment community buys these reports rather than simply relying on the free stock blogs and financial media. Even if this analyst did not quote (or use) anything but the company's public comments in her report, the market obviously credited her analysis as providing meaningful analysis as demonstrated by the movement in the stock price following the issuance of her report. As such, the jury was entitled to find the analyst added some level of disclosure of the fraud and it was improper to find the jury was not entitled to find this fact as a matter of law.
Bottom-line: companies and executives of publicly-traded companies cannot spend tens of millions of dollars of shareholder-owned funds to obtain public stock listings and ensure the they get the very positive analyst coverage (and stock ratings) they expressly concede they seek and facilitate (in order to increase stock prices) and then claim foul when those very analysts provide negative coverage that reveals their fraud. The communication channel is a two-way street.