Tim Hoeffner
Paul Ferrillo

The Second Circuit issued its latest decision in the long running Goldman Sachs Group securities class action litigation on April 7, 2020 (here). In the following guest post, Tim Hoeffner and Paul Ferrillo of the McDermott, Will & Emery law firm take a look at the Second Circuit’s decision and analyze its implications. I would like to thank Tim and Paul for allowing me 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 Time and Paul’s article.




On April 7, 2020, the United States Circuit Court of Appeals for the Second Circuit issued its long awaited decision in Arkansas Teachers Retirement System v. Goldman Sachs Group, Inc. (the Defendant). Docket No.: 18-3667 (2nd Cir. Apr. 7, 2020) (the Decision).

The Decision dealt specifically with whether the Second Circuit would continue to side with the 7th and 11th Circuits in adopting the “price maintenance” or “inflation maintenance theory” of class certification. Under this theory, plaintiffs could show or claim that “the [alleged] misstatements themselves did not inflate the stock price, [but] alleged[ly] served to maintain an already inflated stock price.” Id at 15. See In re Vivendi, S.A. Sec. Litig., 838 F.3d 223, 257 (2nd Cir. 2016).

On the facts and under the abuse of discretion standard applied by the Court, the Second Circuit ruled that the price maintenance theory continued to be valid in the Second Circuit and was correctly applied by the lower court. The Circuit Court further ruled that Defendants’ earlier 36 “general” statements prior to the more specific “curative disclosure” identifying the existence of regulatory investigations regarding potential conflicts of interest, did not sever the link between the curative disclosure and the ensuing drop in Defendant’s stock price under Basic v. Levinson and Halliburton II. “Once the Basic presumption has been invoked, however, a defendant may then rebut it “through any showing that severs the link between the alleged misrepresentation and either the price received (or paid) by the plaintiff, or his decision to trade at a fair price.” See Waggoner v. Barclays PLC, 875 F.3d 79, 95 (2d Cir. 2017).

Though a “loss” for the Defendants, the case, decided 2-1, was a close call that pitted earlier statements on potential conflicts concerning the Defendant’s business practices that did not move the price of the stock versus later, “related” alleged curative disclosures on potential conflicts that did move the price of the Defendant’s stock. The decision raises the question of “what about price impact” under the lessons of Halliburton II. Meaning, if an alleged fraudulent statement or omission need only maintain the price of a company’s stock, does that satisfy plaintiffs’ burden on plaintiffs’ motion for class certification.  Here we discuss the decision along with the Court’s view of the evidence.


The Facts of the Goldman Sachs Case

The Decision found its genesis in the financial crisis of 2007-2009. Prior to the crisis, the Defendant issued several public statements concerning how it addressed potential client conflicts of interest. The alleged conflicts in the case concerned how certain collateralized debt obligations were arranged by the Defendant, chiefly the Abacus 2007 transaction. The transaction was marketed as an ordinary asset backed (mortgage) transaction. Behind the scenes, the Defendant allegedly consulted with a noted hedge fund to play an active role in selecting the mortgages found in the transaction. Id. at 6-7. The hedge fund allegedly made $1 billion in the transaction at the expense of the CDO investors.  On July 15, 2010, the defendant was heavily fined by the SEC for failing to disclose the involvement of the hedge fund in its selection of the mortgages.  Id at 8.

In the Second Round of class certification motions, in an effort to rebut the presumption of reliance by the burden of persuasion, the Defendant put forth two expert reports generally submitting that “the market was indifferent to the news of Goldman’s conflicts.”  Id. At 16. The District Court was not persuaded. Though the plaintiff’s expert agreed that the earlier 36 statements by the Defendant did not move the price of the stock, “the absence of price movement…in and of itself, is not sufficient to sever the link between the first corrective disclosure and the subsequent price drop. That was because the “Abacus complaint was the first to expose hard evidence of Goldman’s client conflicts…through emails and memos disclosing the defendant indeed engaged in conflicts to its own advantage.” Id. The Count found that the Defendant’s expert report did not “credibly explain how such hard evidence did not contribute to the price decline following the first curative disclosure.” Id at 17.

The Court found that the Defendant’s second expert report was also insufficient. That report found that the price drop related to the curative disclosure was not due to the alleged conflicts, “but was due to the news of enforcement activities like the Abacus complaint (which caused a 9.2 % stock drop.” The District Court again disagreed stating that the Defendant’s report failed to account for the extent of the allegations of mismanagement/misconduct against the Defendant. Id at 18.

On appeal, the Second Circuit concluded that the price (or inflation) maintenance theory is still good law in the Second Circuit. Here the court noted that, “the actual issue is simply whether Goldman’s share price was inflated. Goldman argues that the district court made no finding to this effect. …. This Court, like every Court of Appeals that has adopted the inflation maintenance theory, has held that if a court finds a disclosure caused a reduction in a Defendant’s share price, it can infer that the price was inflated by the amount of the reduction. The district court found that “[t]he inflation was demonstrated on [the corrective-disclosure] dates, when the falsity of the misstatements was revealed.” See In re Goldman, No. 10 Civ. 3461 (PAC), 2018 WL 3854757, at *2. It also credited Dr. Finnerty’s testimony that “the price declines following these corrective disclosures were caused by the news of Goldman’s conflicts.” Id. “We find no abuse of discretion in the court’s finding that the inflation maintained by Goldman’s statements equaled the price drop caused by the corrective disclosures.” Id. At 24-25.

The last part of the Second Circuit’s decision (and the Sullivan dissent) dealt with a weighing of the evidence presented by both parties. The plaintiffs relied upon the “hard evidence” of Defendant’s client conflicts, which included “direct quotes from damning emails . . . [and] internal memoranda,” as well as details about “the manner in which Goldman . . . hid[] Paulson’s role in asset selection.” Id. at *4–5 (emphasis supplied). The court also noted that because these details were “disclosed by a federal government agency,” they were “obviously . . . more reliable and credible than any of the 36 media reports, especially in the presence of the denials and rebuttals that accompanied some of the reports.” Id at 39. The Defendant’s relied, according to the court on 36 “more generic reports on conflicts.” Id.

The plaintiffs prevailed here, with the court noting, “Moreover, there are good reasons to believe that the corrective disclosures were more significant than Goldman makes them out to be. Because the inflation-maintenance theory asks “what would have happened if [the defendant] had spoken truthfully,” Vivendi, 838 F.3d at 258. Goldman’s burden is to show that the market would not have reacted had Goldman told the truth about its alleged failure to manage its conflicts. It is difficult to imagine that Goldman’s shareholders would have been indifferent had Goldman disclosed its alleged failure to prevent employees from illegally advising clients to buy into CDOs that were built to fail by a hedge fund secretly shorting the investors’ positions. Id at 39 – 40.

Second Circuit and Class Certification Today

No doubt, the decision is probably a loss for the defense bar on this close call of the evidence and the battle of the experts. If indeed a loss of pre-existing inflation, there for even non-fraud reasons, is “loss” on an alleged curative disclosure, the Second Circuit arguably made it easier for a plaintiff to successfully pursue class certification. See Id. At 43 (“the best way to determine the impact of a false statement is to observe what happens when the truth is finally disclosed and use that to work backward, on the assumption that the lie’s positive effect on the share price is equal to the additive inverse of the truth’s negative effect.”).

Note here too that price maintenance theory was already a pre-existing doctrine in Second Circuit class certification case law, which allowed the Court to rely on precedent. Finally, the Defendant apparently made “no persuasive response to the court’s findings that the “hard evidence” first revealed in the corrective disclosures moved the market in a way that the news reports did not.” Id. At 39. Hence plaintiff was able to show price impact upon the filing of the Abacus Complaint.  The lower court credited the testimony and Dr. Finnerty’s findings. The Second Circuit held that the lower court did not clearly err in accepting these findings. Id. At 45.

So what really is price impact and when is it measured for class certification purposes? At the time, the earlier statements regarding disclosures were made during the class period, or only at the time of the alleged curative disclosure at the end of a class period only? Or indeed, some fact patterns could be even more complex where price impact is considered at multiple stages during a lengthy class period.

This probably is the real question for future cases involving, like many do, multiple disclosures during a class period. It is a question for the experts to consider after reviewing the facts of the case (both “general” and “hard” as in the Decision) and an appropriate events study of the class period that looks at all critical disclosure dates. And that is a question for the individual judge or panel reviewing the facts of the case. Class certification decisions are legion in the Circuit Courts and in the Supreme Court. Class certification expert opinions are too. This decision is just another one that should be watched in future cases.