Over the past two days, plaintiffs’ attorneys have launched a couple of new securities lawsuits. Nothing particularly noteworthy about that, in and of itself. But upon closer review, there are some rather interesting things about these new lawsuits. I note my observations below after briefly describing each of the two new lawsuits.

 

The first of these lawsuits was filed on August 5, 2008 in the Southern District of Indiana against medical device manufacturer Zimmer Holdings, its CEO, and its CFO. A copy of the plaintiffs’ August 5 press release can be found here, and the complaint can be found here.

 

According to the press release, the Zimmer complaint alleges that:

defendants failed to disclose material flaws in the quality systems at Zimmer’s Dover, Ohio facility, which manufactured Zimmer Orthopedic Surgical Products. In addition, defendants failed to disclose that patients receiving the Company’s Durom Acetabular Component, used in total hip replacement procedures, disproportionately experienced cup loosening requiring additional corrective surgery after implantation. As a result of defendants’ materially false and misleading statements, Zimmer’s common stock traded at artificially inflated prices during the Class Period. When the true condition of the Company, its facilities, and its products began to come to light, the price of Zimmer stock declined, falling from $70.88 to $66.01 per share in one day.

The second of the two lawsuits was filed on August 6, 2008 in the Eastern District of Virginia against automobile retailer CarMax and certain of its directors and officers. A copy of the plaintiffs’ August 6 press release can be found here and the complaint can be found here.

 

According to the press release, the CarMax complaint alleges that:

during the Class Period, CarMax was not meeting internal sales targets and was facing a 55% shortfall in its net income for first quarter of fiscal year 2009, later prompting the Company to suspend its financial guidance for the rest of fiscal 2009. According to the complaint, CarMax publicly issued materially false and misleading statements and failed to disclose: (i) that CarMax was not positioned to meet its sales targets or earnings objectives for fiscal 2009; (ii) that the Company had completed a refinancing of its warehouse facility which had materially increased the Company’s funding costs; and (iii) as a result of the foregoing, defendants had no reasonable basis for their revenues and earnings guidance for fiscal 2009.

On June 18, 2008, the Company issued a press release announcing its financial results for the first quarter of fiscal 2009, the period ended May 31, 2008. The Company also announced that it was suspending its financial guidance for the rest of fiscal 2009. Upon this news, shares of the Company’s stock fell $2 per share, or approximately 11%, to close at $16.34 per share, on heavy trading volume.

The first noteworthy thing about these two lawsuits is the relative modesty of the stock price drops they allege. In general, plaintiffs’ lawyers’ try to rely on allegations of dramatic stock price drops to try to show that the marketplace was shocked by the unexpected revelation of previously withheld information. Stock price drops of 11% in CarMax’s case, and less than 7% in the case of Zimmer, are not really the type of dramatic share price declines that you might expect to attract plaintiffs’ lawyers’ attention.

 

In CarMax’s case, it clearly was not just the stock price decline that caught the plaintiffs’ attorneys’ eyes. CarMax was also the subject of a June 25, 2008 Wall Street Journal article entitled “CarMax Executives Sold Before Shortfall” (here), noting that CarMax insiders had sold $4.3 million in company stock in April and May 2008, ahead of the company’s June announcement of disappointing revenue.

 

The Journal article stated that the “had the insiders waited and conducted their transactions after the earnings report, their proceeds would have been just $2.7 million, a drop of nearly 40%.” As might be expected, the CarMax complaint quotes the Journal article extensively.

 

The Zimmer lawsuit is little harder to fathom. Not only does the complaint allege only a 7% stock price drop, but unlike the CarMax complaint, it contains no insider trading allegations. Perhaps even more significantly, not only was Zimmer’s stock price drop modest, but it has been completely erased in the eleven trading days following the company’s July 22, 2008 second quarter earnings release. Indeed, Zimmer’s stock closed today at 70.89, which is basically unchanged from the company’s share price of 70.88 preceding the stock drop.

 

To be sure, these are both large companies and even modest share price declines represent significant amounts in dollar terms. The two dollar share price drop alleged in the CarMax complaint represents a market capitalization loss of roughly $440 million. The $4.87 share price drop alleged in the Zimmer complaint represents a slightly more than $1 billion drop in Zimmer’s market cap – although all of that has been recovered in the eleven trading days since the decline. While these dollar figures represent undeniably impressive sums, as a percentage matter they make less of an impression.

 

The other interesting thing about these two lawsuits is what they do not involve. That is, they do not involve subprime or credit crisis-related allegations. As I discussed in recent posts (here and here), two recent studies confirmed that securities activity in the first half of 2008 was largely driven by subprime and credit crisis-related litigation. These two new lawsuits suggest that plaintiffs’ lawyers still have time to indulge in other pursuits.

 

But while these cases do not involve subprime or credit crisis-related allegations (at least not directly), the CarMax case does suggest that the more general economic decline is starting to burden companies and, in CarMax’s case at least, attract the unwanted attention of plaintiffs’ lawyers.

 

CarMax’s June 18, 2008 press release (here) that triggered its stock price drop quotes its CEO as saying that “the slowdown in the economy, the dramatic rise in gasoline and food costs and the related impact on consumer spending adversely affected our first quarter performance.” The release also states that “for the first time in more than two years, we experienced a modest decline in customer traffic in our stores. Additionally, credit availability from our third-party nonprime lenders declined slightly in the quarter.”

 

CarMax is far from the only company that in the weeks and months ahead will be reporting disappointing earnings as a result of the slowdown in the economy and declining consumer spending. Not all of the companies that report disappointing earnings will get sued. But if a stock price drop of 11%, or even just 7%, is enough to attract a lawsuit, there could be a period of heightened litigation activity ahead. Based on these two lawsuits, the plaintiffs’ securities bar seems primed for action – regardless of whether or not subprime or credit crisis-related issues are involved.

 

Politics on a New Plane?: A July 31, 2008 article in The Economist (here) reports the following about recent political events in India:

India’s coalition government went to outlandish lengths to win a vote of confidence in Parliament on July 22nd, a victory it hopes will prolong its life until early next year. To appease one politician, it even renamed the airport in Lucknow, a state capital, after his father. (The ingrate still voted the other way.) Asked to justify this ploy, India’s finance minister dryly remarked, “It will facilitate better take-offs and landings.”