david topol
David Topol
jennifer williams
Jennifer Williams

In the following guest post, David Topol and Jennifer Williams of the Wiley Rein law firm  take a look at the Second Circuit’s September 27, 2016 decision in the Vivendi case and in particular at the appellate court’s analysis of two critical issues affecting damages in securities litigation – the price maintenance theory and loss causation. I would like to thank David and Jen for their willingness to publish their article as a guest post on this site. I welcome guest post submissions from responsible authors on topics of interest to this blog’s readers. Please contact me directly if you would like to submit a guest post. Here is David and Jen’s guest post.


Last week, the Second Circuit affirmed the district court’s ruling in In re Vivendi Universal, S.A. Securities Litigation, No. 15-180, 2016 WL 5389288 (2d Cir. Sept. 27, 2016), holding Vivendi liable for violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder.  The court’s opinion addresses two major recurring issues impacting damages in securities litigation—the price maintenance theory and loss causation—in addition to touching on a number of smaller issues.  The Second Circuit accepted the price maintenance theory advocated by plaintiffs, holding that the theory is viable and that plaintiffs do not need to prove a specific increase in stock price as a result of a particular misrepresentation by a defendant.  The court also weighed in on materialization of the risk as a means of proving loss causation, adopting a broad view of the required relationship between the defendant’s misstatements and the plaintiffs’ losses.

In the late 1990s and early 2000s, Vivendi transformed itself from a French utilities company into a global media conglomerate, with dealings in film, music, telecommunications, publishing, and the Internet in the United States and around the world.  By 2002, Vivendi was running low on funds and in danger of not being able to meet all of its payment obligations, potentially months away from bankruptcy or insolvency.  However, until July 2002, Vivendi made numerous representations to the market indicating everything was fine.  Then, after a series of credit downgrades and revelations that the company was strapped for cash, Vivendi’s stock price plummeted, and plaintiffs initiated a class-action suit.  The plaintiffs’ theory of liability was that Vivendi (and two of its officers) made a series of 57 misstatements regarding Vivendi’s liquidity risk and that those misstatements maintained Vivendi’s stock price at an artificially high level.

Following a three-month jury trial in 2009, resulting in a verdict finding Vivendi liable for securities fraud under Section 10(b) and Rule 10b-5, the U.S. District Court for the Southern District of New York entered partial final judgment on December 22, 2014.  Vivendi appealed that judgment to the Second Circuit.

Price Maintenance Theory

One of the key issues the court addressed in its opinion is the viability of the so-called price maintenance theory of Section 10(b) liability.  Under the price maintenance theory, alleged misstatements can cause loss by maintaining existing price inflation, even if the misstatements did not cause the price inflation in the first place.  That is, if the stock price remains steady when it otherwise would have declined, there is inflation present even though the plaintiffs cannot tie the misstatement to an increase in stock price.  The Second Circuit’s consideration of this issue arose in addressing Vivendi’s challenge to the admission of the testimony of the plaintiffs’ expert, Dr. Blaine Nye.

As summarized by the court, Nye performed an event study to determine whether and the extent to which Vivendi’s stock price was artificially high during the class period due to the market’s misapprehension of Vivendi’s true liquidity risk.  Nye isolated nine days on which Vivendi’s stock had a negative return attributable to information related to the company’s liquidity and one day on which the stock had a positive return attributable to the company’s liquidity.  Nye concluded that the maximum loss investors suffered due to the market’s lack of information about Vivendi’s true liquidity risk was €22.52.  He determined that Vivendi’s stock inflation reached its highest point in December 2001, when Vivendi had doubled down on statements about its growth projections but, inside the company, viewed the liquidity situation as dangerous.  Thus, according to Nye, the defendants maintained an artificially high share price for Vivendi by preventing the market from learning of the company’s liquidity challenges.

The Second Circuit emphasized that Nye’s calculations did not measure the inflation actually caused by Vivendi’s alleged fraud, nor did the calculations assume that the share price was in fact inflated due to the company’s alleged misrepresentations.  Rather, it was the jury’s province to determine how much of the artificial inflation identified by Nye was caused by Vivendi’s alleged fraud.  Thus, there is a relevant distinction between actual inflation—the inflation due to investors not knowing the truth—and fraud-induced inflation—inflation caused by the defendants’ misstatements, which must be determined by the jury using the plaintiffs’ damages model and their own findings regarding the alleged false statements.

Vivendi argued to the court that 42 of the 57 alleged misstatements cited by the plaintiffs did not directly correlate with specific increases in inflation under Nye’s model.  According to Vivendi, this fact not only made Nye’s testimony unreliable but also showed that no price impact existed with respect to those statements.  Vivendi argued that the price maintenance theory adopted by the district court contravenes the Supreme Court’s requirement that there must be a direct causal connection between the misrepresentation and the loss, citing Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336, 341-42 (2005), and that alleged misstatement must “actually affect” stock price, citing Halliburton Co. v. Erica P. John Fund, Inc., 134 S. Ct. 2398, 2405 (2014) (Halliburton II).

The Second Circuit rejected these objections to the price maintenance theory.  Quoting FindWhat Investor Grp. v. FindWhat.com, 658 F.3d 1282, 1317 (11th Cir. 2011), the court stated that “[i]t is far more coherent to conclude that such a misstatement does not simply maintain the inflation, but indeed ‘prevents the preexisting inflation in a stock price from dissipating.’”  Op. at 71.  According to the court, “Were this not the case, companies could eschew securities-fraud liability whenever they actively perpetuate (i.e., through affirmative misstatements) inflation that is already extant in their stock price, as long as they cannot be found liable for whatever originally introduced the inflation.”  Op. at 73.

As we discussed in our previous guest post, published here on September 16, 2016, regarding the Vivendi case and several other pending appellate decisions, the price maintenance theory has faced renewed scrutiny by courts following the Supreme Court’s reaffirmation in Halliburton II that the presumption of reliance first set forth in Basic Inc. v. Levinson, 485 U.S. 224 (1988), may be rebutted by defendants through evidence that severs the link between the alleged misrepresentation and the price of the stock.  In IBEW Local 98 Pension Fund v. Best Buy Co., 818 F.3d 775 (8th Cir. 2016), the Eighth Circuit rejected the price maintenance theory, over the objections of the dissent, which pointed out the circuit split on the issue.

In Vivendi, the Second Circuit has now adopted the Seventh and Eleventh Circuits’ conclusion that a securities-fraud defendant cannot avoid liability for an alleged misstatement merely because the misstatement is not associated with an increase in inflation.  See FindWhat, 658 F.3d 1282; Schleicher v. Wendt, 618 F.3d 679 (7th Cir. 2010).  The impact of this holding is to lessen the burden on securities plaintiffs in pleading price inflation.  Plaintiffs need not tie specific misrepresentations to specific increases in a defendant corporation’s stock price, which likely broadens the pool of defendants’ statements on which a Section  10(b) claim can be based.

Loss Causation

The Second Circuit also rejected Vivendi’s challenges to the sufficiency of the plaintiffs’ evidence to support loss causation.  Loss causation is a necessary element of a Section 10(b) claim, establishing that the defendant’s alleged misrepresentation, once corrected, was the cause of the stock price’s decline.  As such, proof of loss causation separates out losses that are attributable to other intervening market forces, such as fluctuations in the economy as a whole or in a particular industry.  Together, loss causation and reliance (i.e., that the defendant’s alleged misrepresentation caused the plaintiffs to buy or retain the company’s stock) establish the required nexus between the defendant’s alleged misrepresentation and the economic harm suffered by the plaintiff.  Without one or the other, Section 10(b) would simply be “a scheme of investor’s insurance.”  Dura, 544 U.S. at 345.

The Second Circuit has previously held that to establish loss causation, a plaintiff must show that the loss was a “foreseeable” result of the defendant’s conduct “and that the loss [was] caused by the materialization of the … risk” concealed by the defendant’s misstatement.  Lentell v. Merrill Lynch & Co., 396 F.3d 161, 173 (2d Cir. 2005).  Vivendi argued that the loss the plaintiffs sought to establish here was not a materialization of the risk concealed by its alleged misstatements—the risk of a liquidity crisis—because no such liquidity crisis, such as bankruptcy, default, or insolvency, actually materialized.

The court held that it is enough that the loss caused by the alleged fraud result from the relevant truth leaking out—that is, a defendant becomes liable for the loss the plaintiff sustains when the facts misrepresented become generally known and share value declines.  According to the court:  “Whether the truth comes out by way of a corrective disclosure describing the precise fraud inherent in the alleged misstatements, or through events constructively disclosing the fraud, does not alter the basic loss-causation calculus.”  Op. at 82.

The court concluded there was ample evidence to support the jury’s finding of a sufficiently direct relationship between the loss the plaintiffs suffered on the nine days identified by their expert on which Vivendi’s stock price decreased and the information misstated or concealed by Vivendi regarding the company’s liquidity.  For example, Nye and one of Vivendi’s own witnesses, its credit-rating liaison at the time, both testified that the news on January 7, 2002 that Vivendi sold 55 million treasury shares signaled to the market that Vivendi needed cash, i.e., a revelation of the truth about Vivendi’s liquidity risk.  The drop in the price of Vivendi’s stock as a result of that news was a loss caused by the revelation that Vivendi’s prior misstatements that its financial condition was good were not accurate.

The concept of materialization of the risk allows plaintiffs to prove causation even in the absence of a disclosure specifically correcting a specific prior misstatement—that is, where the subject of the defendant’s misrepresentation in fact comes to pass, that in itself reveals that the misrepresentation was false.  Under the Vivendi plaintiffs’ theory, the subject of Vivendi’s misrepresentations was the magnitude of the risk of a liquidity crisis.  The risk that ultimately materialized was not a liquidity crisis but a greater risk of such a liquidity crisis than what Vivendi had led the market to believe.  In agreeing with the district court that loss causation has been established, the Second Circuit has seemingly recognized the concept of materialization of the risk of risk.  The court’s ruling on this issue, like its holding with respect to price maintenance theory, will make it easier on plaintiffs to draw the necessary connections between a defendant’s alleged misstatements and the losses the plaintiffs have suffered.

Other Issues Addressed by the Opinion

The court also disposed of other issues Vivendi raised.  Vivendi argued that the plaintiffs improperly presented their case at trial solely on the theory that Vivendi remained silent about its liquidity, i.e., a theory of omission, because they did not identify for the jury the specific statements upon which they were basing their case until after the close of evidence.  A pure omission is actionable only where the corporation is subject to a duty to disclose the omitted facts, and it was undisputed that Vivendi had no legal duty to disclose its liquidity risk.  The court rejected this contention, finding the plaintiffs had proved their case and the jury had been charged to decide whether Vivendi committed fraud through affirmative misstatements.

Vivendi also argued that certain of the statements on which the jury’s verdict was based were non-actionable puffery or forward-looking statements.  (It also argued certain statements were non-actionable opinions, but the court found Vivendi had not preserved that issue for appeal.)  With respect to the purported puffery, the court found there was sufficient evidence for the jury to conclude the statements to which Vivendi pointed were not too general to cause a reasonable investor to rely upon them.  For example, the court held that Vivendi’s statements on June 26, 2001 that it “posted RECORD-HIGH NET INCOME, and ha[d] cash available for investing,” and on July 23, 2001 that “[t]he results produced by Vivendi Universal in the second quarter are well ahead of market consensus,” were specific enough to be actionable.

With respect to the Private Securities Litigation Reform Act safe harbor for “forward-looking statements,” the court observed that at least some of the statements to which Vivendi pointed were mixed, containing both forward-looking and present representations, and it was the non-forward-looking elements that the plaintiffs alleged were false or misleading.  For example, on February 14, 2001, Vivendi stated, “Vivendi Universal enters its first full year of operations with strong growth prospects and a very strong balance sheet.  This new company is off to a fast start and we are very confident that we will meet the very aggressive growth targets we have set for ourselves both at the revenue and EBITDA levels.”  Although recognizing that parts of the statement could be characterized as forward-looking, the court emphasized that the statement that Vivendi entered 2001 with a “very strong balance sheet” was not prospective, and that was the portion of the statement the plaintiffs had argued at trial made the whole statement misleading.

For those statements that were purely forward-looking, the court found sufficient evidence for a reasonable jury to conclude that none of the prongs of the safe harbor provision were met:  (1) the forward-looking statement was identified and accompanied by meaningful cautionary language, (2) the forward-looking statement was immaterial, or (3) the plaintiff failed to prove the forward-looking statement was made with actual knowledge that it was false or misleading.  See Slayton v. Am. Express Co., 604 F.3d 758, 766 (2d Cir. 2010).  The court ruled that the cautionary disclaimers highlighted by Vivendi were irrelevant to the alleged misstatements at issue.  For example, the court found that disclaimers regarding success with new products and services, relationships with competitors and third parties, and marketing and advertising efforts were not sufficient to constitute meaningful warnings regarding statements about Vivendi’s liquidity risk.  The plaintiffs also presented evidence that Vivendi knew that certain of its forward-looking statements conflicted with internal forecasts.




David is a partner and Jennifer an associate in the Insurance Practice at Wiley Rein LLP.  They represent professional liability insurance companies, including under D&O, E&O, and financial services policies.