More On Loss Causation and Securities Class Actions

In an earlier post, I discussed my recent discussion paper on loss causation in Rule 10b-5 actions. (The paper is coming out in the November issue of The Business Lawyer.) One of the issues discussed in the paper is the “true financial condition” theory of loss causation.

According to this theory (which we reject), if a negative disclosure by the firm reveals the “true financial condition” of the company that was concealed by an earlier misrepresentation then loss causation, as discussed in the Supreme Court’s decision in Dura Pharmaceuticals, has been satisfied. Our paper points out that, without a concrete link establishing that the negative firm disclosure (such as a downwards earnings projection) revealed to the market the fact that there was a prior misrepresentation, the “true financial condition” theory of loss causation largely vitiates Dura Pharmaceuticals and the loss causation requirement.

In a recent Memorandum Order in Ryan v. Flowserve Corp., the United States District Court for the Northern District of Texas has just denied class certification in a Rule 10b-5 action and dismissed plaintiffs’ claims for failure to establish loss causation. The plaintiffs relied on the “true financial condition” theory to demonstrate loss causation, and the court rejected this argument, citing our paper. (In the interests of full disclosure, I was also an expert on that case).

The Court’s Memorandum Order is available here. Our paper, The Loss Causation Requirement for Rule 10b-5 Causes-of-Action: The Implications of Dura Pharmaceuticals v. Broudo, can be downloaded here.