Before the U.S. Supreme Court issued its ruling in Dura Pharmaceuticals vs. Broudo back in 2005, experts hoped it would offer the final word on defining “loss causation.”

The decision instead seems to have given three final words: No such luck.

The Dura ruling did raise the bar for plaintiffs in securities class-action lawsuits, by requiring them to plead loss causation in their complaint adequately. At the same time, it also clarified that if a company reveals it had committed fraud at the time an investor bought his shares, the investor can recover damages if he can prove the fraudulent behavior caused the stock to drop below the purchase price.

Still, many lawyers believed the ruling was still limited and did not really change securities class-action law. Sure enough, since that ruling three years ago, much confusion has ensued in subsequent case law.

In many instances, there is still strong debate over loss causation and the proper measure of damages. A number of lower courts have issued decisions over the board—including several cases, legal observers say, that imposed much higher burdens of proof of damages than what the Supreme Court originally intended.


“The Dura decision itself does not say very much, so lower courts are reading more into Dura than is there,” says Columbia University law professor Jill Fisch. They especially focus on the decline of a stock and its link to corrective disclosures to establish damages; artificial price inflation is not enough, Fisch says. “In Dura the court said you need something more, but it was not going to say what.”

Some say that lack of clarity and consensus has resulted in certain courts reading more into Dura than was said in the Supreme Court’s ruling. The result is a series of conflicting decisions about what constitutes loss causation from one district court to the next, sometimes within the same circuit.

“Some courts are raising the bar as to what plaintiffs have to plead regarding causation … that is likely far above the level necessary to survive summary judgment,” says Scott Hakala, a director at CBIZ Valuation Group, which provides litigation support services. “Different courts have taken different directions and the circuits seem to be adopting disparate approaches.”


In a number of cases, plaintiffs can have difficulty achieving class certification, says Frederick Dunbar, a senior vice president at NERA Economic Consulting. That may sound pleasant to corporate legal departments in theory, but it still leaves confusion about how potent a threat a class-action lawsuit is, depending on where the suit is filed.

Hakala explains that some courts define loss causation as a corrective disclosure (often a restatement of financial results) followed by a statistically significant stock price drop, and then interpret the concept of a corrective disclosure narrowly to imply notice of the fraud itself, rather than merely revealing the “relevant truths” concealed by the fraud.

He says the most troublesome decision came in 2007 from the New Orleans-based Fifth Circuit Court of Appeals. In Oscar v. Allegiance, investors sued Allegiance Telecom and two of its executives alleging the company overstated the number of telecommunications lines that it had installed.


The following excerpt from the U.S. Supreme Court reverses the opinion made by the Ninth Circuit in regard to Dura Pharms., Inc. v. Broudo.

In our view, the Ninth Circuit is wrong, both in respect to what a plaintiff must prove and in respect to what the plaintiffs’ complaint here must allege.

We begin with the Ninth Circuit’s basic reason for finding the complaint adequate, namely, that at the end of the day plaintiffs need only “establish,” i.e., prove, that “the price on the date of purchase was inflated because of the misrepresentation.” In our view, this statement of the law is wrong. Normally, in cases such as this one (i.e., fraud-on-

the-market cases), an inflated purchase price will not itself constitute or proximately cause the relevant economic loss.

For one thing, as a matter of pure logic, at the moment

the transaction takes place, the plaintiff has suffered no

loss; the inflated purchase payment is offset by ownership

of a share that at that instant possesses equivalent value.

Moreover, the logical link between the inflated share

purchase price and any later economic loss is not invariably strong. Shares are normally purchased with an eye

toward a later sale. But if, say, the purchaser sells the

shares quickly before the relevant truth begins to leak out,

the misrepresentation will not have led to any loss. If the

purchaser sells later after the truth makes its way into the

market place, an initially inflated purchase price might

mean a later loss. But that is far from inevitably so.

When the purchaser subsequently resells such shares,

even at a lower price, that lower price may reflect, not the

earlier misrepresentation, but changed economic circumstances, changed investor expectations, new industry-

specific or firm-specific facts, conditions, or other events,

which taken separately or together account for some or all

of that lower price. (The same is true in respect to a claim

that a share’s higher price is lower than it would otherwise have been—a claim we do not consider here.) Other

things being equal, the longer the time between purchase

and sale, the more likely that this is so, i.e., the more

likely that other factors caused the loss.

Given the tangle of factors affecting price, the most logic

alone permits us to say is that the higher purchase price

will sometimes play a role in bringing about a future loss.

It may prove to be a necessary condition of any such loss,

and in that sense one might say that the inflated purchase

price suggests that the misrepresentation (using language

the Ninth Circuit used) “touches upon” a later economic

loss. But, even if that is so, it is insufficient. To

“touch upon” a loss is not to cause a loss, and it is the

latter that the law requires.


Supreme Court: Dura v. Broudo (April 19, 2005).

The Fifth Circuit reversed the district court’s decision certifying a class action, saying a class-action lawsuit was justified only where loss causation is established “by a preponderance of all admissible evidence,” Hakala says. In other words, the appeals court raised the bar for certifying class actions beyond the usual standard required for surviving summary judgment.

Once the Oscar v. Allegiance decision came down at the appeals level, two district court cases in Texas followed suit. In April, a federal judge denied class certification against Belo Corp., publishers of the Dallas Morning News, which was accused of inflating circulation figures. And last November, another federal judge in Texas denied class certification and granted summary judgment in favor of the defendant in Ryan v. Flowserve Corp.

According to a legal bulletin at the time from the law firm Haynes and Boone, the judge ruled in favor of Flowserve because the company adequately demonstrated “negative causation.”

“In denying class certification, [the judge] agreed with Flowserve’s argument, raised prior to Oscar Private Equity and further strengthened by that decision, that a class could not be certified because plaintiffs’ alleged losses were not caused by the alleged fraud,” the bulletin said.

In Flowserve, the plaintiffs argued they should receive in damages the value of the decline in Flowserve’s stock price after the company cut its future earnings guidance several times in 2002. After Flowserve restated its financials in 2004, the plaintiffs argued that the alleged “truth” regarding the restated financial statements (and other allegedly false statements) was revealed in 2002 when Flowserve lowered its earnings guidance, the law firm explained. “Flowserve is inconsistent with Dura,” Hakala insists.

On the other hand, Hakala argues that a number of cases apply Dura more correctly. He cites Daou Systems in the California-based 9th Circuit as one example. It was originally decided before the Dura decision, but substantially rewritten after Dura, according to a legal bulletin on the case from the firm Pillsbury Winthrop Shaw Pittman.

Daou manufactured computer networking systems for the healthcare field and went public in 1997. For nearly two years following, the company reported record revenues and repeatedly said earnings per share would exceed market expectations. Eventually, the earnings warnings and financial restatements started coming, and Daou’s stock price plunged from $18.50 to $3.25.

The plaintiffs contended that Daou fraudulently inflated the price of its stock by reporting revenues before they were earned, in violation of Generally Accepted Accounting Principles. Noting that that stock dropped after corrective disclosures began, the court held that the allegations sufficed “to provide a defendant with some indication of the loss and the causal connection that the plaintiff has in mind.”

However, the court also held that the loss between the high of $34.375 and the $18.50 price was not pleaded in the complaint as caused by the fraud, and therefore the court didn’t allow damages for shares sold prior to the corrective disclosures named in the plaintiffs’ lawsuit.

In any case, clearly these are not the last words on loss causation. What happens next? Dunbar says the discrepancies will either sort themselves out at the appeals court level or create a split between the circuits. “Then it will have to go to the Supreme Court again,” he adds. “This court seems to take one of these cases every couple of years.”