Saturday, February 3, 2018
All circuits agree that loss causation can be shown via “corrective disclosures” – some kind of explicit communication to the market that prior statements were false, followed by a drop in stock price.
However … there has been an alternative theory that plaintiffs can use to show loss causation, even without an explicit corrective disclosure. The theory is usually described as “materialization of the risk.” It requires the plaintiff to show that the fraud concealed some condition or problem that, when revealed to the market, caused the stock price to drop, even if the market was not made aware that the losses were due to fraud. For example, a company may report a slowdown in sales, causing its stock price to fall, while concealing the fact that the slowdown was due to an earlier period of channel stuffing. By the time the channel stuffing is revealed, it may communicate no new information about the company’s prospects, so the stock price remains unmoved. Under a materialization of the risk theory, the price drop upon disclosure of the fall in sales would be sufficient to allege loss causation.
To be sure, very often cases fall along something more akin to a spectrum, with district courts demanding more or less of a connection between the disclosure and the underlying fraud before permitting plaintiffs to proceed; nonetheless, the broad guidance offered at the circuit level influences those determinations. Thus it was significant that, for a time, three circuits – the Fifth, Sixth, and Ninth – were reluctant to recognize “materialization of the risk” theory, and required plaintiffs to clear the more restrictive “corrective disclosure” hurdle.
In July 2016, as I previously described, the Sixth Circuit joined the majority of circuits and endorsed “materialization of the risk” theory. That left just the Fifth and the Ninth Circuit on the side of corrective-disclosure-only, with a case then-pending before the Ninth Circuit that directly presented the question.
That decision has just been released. In Mineworkers’ Pension Scheme, et al v. First Solar Incorporated, et al, the Ninth Circuit, as well, held that “A plaintiff may also prove loss causation by showing that the stock price fell upon the revelation of an earnings miss, even if the market was unaware at the time that fraud had concealed the miss…. This rule makes sense because it is the underlying facts concealed by fraud that affect the stock price. Fraud simply causes a delay in the revelation of those facts.”
The per curiam opinion stated that the matter had already been resolved by an earlier Ninth Circuit case, which … I, ahem … dispute, but regardless, it’s apparently settled now.
By my count, that leaves the Fifth Circuit standing alone. Your move, Fifth Circuit.