March 06, 2014
Halliburton II - Third Time's the Charm
Posted by Ann Lipton

Well, with that slightly intimidating intro....

I wasn't at oral argument, but I read the transcript and I concur with Jill Fisch - the Court seemed very interested in the suggestion that plaintiffs should bear the burden of proving price impact, and David Boies did not counter the argument particularly effectively; the big surprise came when the SG agreed with the idea, and I think that pretty much makes the outcome of Halliburton II overdetermined.

The thing is, when this same issue came before the Court twice before in different guises - Halliburton I and Amgen - the plaintiff-side briefing (including amici) made a more robust case for why a price impact approach wouldn't work.  This time around, there was almost nothing from the plaintiff-side about it; the most vigorous opposition came, surprisingly, from the defense-side, in the amicus brief of SIFMA.

The problem with a price impact approach is simple:  In most securities cases, the lie isn't "we're doing great!"  The lie is, "we're having no problems; nothing is wrong, nothing to see here."  A lie that merely confirms expectations, while concealing problems, does not visibly move the market - it has an impact in keeping prices level, but there's nothing measurable; there's nothing that an event study can detect.  Or a corporation might disclose some problems, while concealing others - in that case, the price actually goes down, it just doesn't go down far enough.  There's no way to demonstrate at the front end that the lie affected stock prices.

The suggestion is then made that price impact can be proved at the end - if the price goes down in response to a corrective disclosure, that shows that the stock price was inflated all along.  Leaving aside that this is indistinguishable from loss causation, which would seem to run afoul of Halliburton I, the problem is that it's very difficult to tell from a market reaction at Time 2 what the market reaction was at Time 1.

For example, imagine a company commits accounting fraud to make it appear that it has met analyst expectations.  There won't be much, if any, price movement in response to its earnings reports.  When the company suddenly declares bankruptcy, the price will plunge to zero.  But does that provide any proof that the market price was affected by the earlier false earnings reports?  We'd expect the price to plunge to zero upon a declaration of bankruptcy even if the market was entirely ignoring the earnings reports; it doesn't add anything to the inquiry, unless you assume that at the time of the false earnings reports, the company was actually worthless - which is unlikely.

That's basically what happened in Halliburton.  One of the alleged lies was that the company's reserves were sufficient to handle expected asbestos liability.  Eventually, Halliburton admitted its reserves were too low, and enlarged them, prompting a price drop.  Does that prove that the market was affected by earlier statements that the reserves were sufficient?  Or was it just reacting to a bad business development?  This is the issue that the plaintiffs lost on in the Fifth Circuit the first time around.

When the lie is actually an accounting lie, the plaintiffs still might have tools at their disposal to show the effect - they might look at analyst reports, show how analysts were analyzing earnings reports and reaching target share prices, etc.  But "qualitative" lies will present a much harder - if not impossible - case.  How do you demonstrate the impact of BP's claims to operate its wells safely?  The "truth" only came out when Deepwater Horizon exploded - which hardly tells you anything about the impact of the initial statements.

It does raise interesting questions about other securities doctrines, though.  For example, it's common now for courts to dismiss at least some claims on the pleadings for lack of materiality.  If it's the plaintiffs' burden to show market movement, there's a strong argument to be made that this is improper; the plaintiffs should have the opportunity to make that showing rather than have a judge assume away real investors' reactions.

Additionally, courts have been relatively willing to assume that if the "truth" behind the lie is publicly known, that truth may be presumed to have affected stock prices in the same way as the initial lie, and therefore, plaintiffs cannot demonstrate materiality/reliance.  The doctrine is incredibly inconsistent on this, but some courts have been relatively free with assuming that even fairly obscure bits of nominally "public" information are sufficient to offset corporate misstatements.  If the Supreme Court requires plaintiffs to prove price impact, presumably defendants must do so for any offsetting truths, which might allow some claims to survive the pleading stage that would not have before.



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