Article by: FTI Consulting experts Alok Khare and Dawna Wright
In the last edition of Inside In-house, we discussed in Part One of this article, key learnings from the Myer Decision regarding disclosures and implications. We also touched on the unsolved mysteries that may be resolved in the next Australian judgment.
In this second part, we focus on the learnings from the Myer Decision for assessing loss. Whilst usually a matter for economic and forensic accounting experts, it is nonetheless a critical factor in assessing a company’s financial exposure, should a claim be made against them. In the Myer case, the Court found there was no loss, but helpfully set out a detailed reasoning for the finding. It therefore provides helpful guidance for assessing loss and exposure, as well as in defending such claims, in other cases.
The detailed reasoning set out in the Myer Decision confirms that, generally, the methodologies for assessing causation and loss used in the USA are applicable in Australia. However, of particular interest to in-house counsel, the Myer decision confirms that the methodologies can also be rebutted.
MARKET-BASED CAUSATION IS ACCEPTABLE TO EVALUATE CAUSATION AND POTENTIAL LOSS – BUT IT CAN BE REBUTTED.
In the Myer case, the Court accepted “market-based causation” as a mechanism for examining causation and measuring potential damage. The Court viewed the approach as essentially “a ‘but for’ approach... or a ‘common sense’ approach.”1 The Court confirmed that it is appropriate to assess loss based on the ‘inflation’ in the share price caused by the conduct. The causation approach works as follows:2
- A company fails to disclose material information;
- The listed price of its securities becomes inflated; and
- Investors purchase securities “on market” at the inflated price.
For the market-based causation approach to work, it must be true that impact of material information is promptly reflected in the prices of the securities. In other words, the security at issue should be trading in an efficient market.3
Of particular interest to in-house counsel, the Myer Decision refers to an article that outlines four possible ways to rebut market-based causation by demonstrating that:4
- The security at issue did not trade in an efficient market;
- The alleged misstatement or omission did not affect the market price (if the applicants are claiming losses under an “inflation-based” measure);
- The individual applicant or other group members would have still paid the same price for the security at issue despite knowing the allegedly corrective information; and
- The individual applicant or other group members “actually knew the information that was not disclosed.”
Of these, Myer demonstrated the second, i.e., no inflation.5 One of the reasons that the Court found no loss was because the Court arrived at a different counterfactual scenario than the one pleaded by the applicant.6 The Judge agreed that Myer’s disclosure was incorrect but ruled that the applicants were not using the correct counterfactual disclosure to assess whether any loss was suffered.7 The Court decided that there was no inflation in the Myer share price because information in the correct counterfactual disclosure was publicly available at the time Myer should have made that counterfactual disclosure, and, therefore, already reflected in the Myer share price.8
SEMI-STRONG MARKET EFFICIENCY DEMONSTRATION IS REQUIRED
The Court decided that the applicants must demonstrate that the security at issue trades in a semi-strong efficient (henceforth simply “efficient”) market in which “all publicly available information is quickly and fully reflected in the price of a traded asset.”9
The Court recognised that an efficient market is a rebuttable presumption.10 However, the Court did not discuss how defendants can rebut a market efficiency claim. We summarise below two rebuttal approaches that have been accepted by the U.S. Courts.
- In the PolyMedica Corporation securities litigation, the Court clarified the market efficiency definition and explained that if all publicly available information is fully reflected in prices, it means that the “market price responds so quickly to new information that ordinary investors cannot make trading profits on the basis of such information.”11 The Court accepted violations of put-call parity as evidence of the market not being efficient.12
- In the Freddie Mac securities litigation, the court decided that the security at issue did not trade in an efficient market because lead plaintiff’s expert failed to demonstrate that the price for the security at issue reacted to unexpected news.13
ASSESSING LOSS PER SHARE
In the Myer matter, the applicant only offered an inflation based measure for its loss analysis, and the court accepted that.14 Per the Myer decision, there are three other loss per share measures that the applicant could have offered
- true value; value left in hand, and no transaction.15 The Court did not express a preferred method for assessing loss per share. So that will be one of the issues left for another judgment. But at least now we are dealing with a set of ‘known unknowns’ rather than ‘unknown unknowns’. In our view, the most significant implication of the decision is the confirmation that, for all potential loss per share measures, the loss per share for a shareholder depends on the ‘price paid’ when the shareholder acquired his interests.16
BEYOND THE EVENT STUDY- NO ONE SIZE FITS ALL APPROACH FOR MEASURING INFLATION
The Court agreed that share price inflation is measured as the difference between the observed price and its true value, i.e., the price at which the shares would have traded following the correct counterfactual disclosure.17 The Court endorsed an ‘event study’ approach for assessing inflation.18 However, in our opinion, an event study of alleged disclosures may not always be an appropriate tool for measuring inflation. For example, if information proposed in a counterfactual disclosure is publicly available at the time of those disclosures, there would be no inflation. If the proposed information along with some confounding information came out prior to the alleged corrective disclosures, a mechanical event study of those disclosures will be moot.
The important point for future proceedings in Australia is that in the Myer matter, the Court observed that both constant dollar and constant percentage are acceptable approaches and “whether to adopt the constant dollar approach or constant percentage approach to estimate share price inflation depends upon the nature of the announcement that is being assessed.”19
In our view, the choice of inflation methodology depends on the facts and circumstances of a particular matter and there can be no ‘one size fits all’ approach.
WHAT IS “DURA” AND DOES IT APPLY IN AUSTRALIA
One of the ‘unknown unknowns’ until now had been whether the so-called ‘Dura cap’ applies in Australia. In Dura Pharmaceuticals, Inc. v. Broudo matter, a shareholder is only deemed to suffer a loss if he or she is holding a share when a share price correction occurred. Purchasing at an inflated price alone is not sufficient to establish loss.20 That is, the decision makes a distinction between inflation and loss causation, noting that a plaintiff’s losses are limited to part of inflation removed by the revelation of the allegedly corrective information (“Dura Cap”).
The Dura decision has set the methodology for assessing loss in securities class actions in the U.S., leading to some experts assessing damages based on Dura cap adjustments in Australia.21 Experts in the US typically interpret the Dura decision as an endorsement of the inapplicability of the constant percentage inflation approach and support for the constant dollar method.22 In some Australian cases, experts have put forward opinions stating that the constant dollar method has been endorsed by the US courts as the ‘correct’ method.
The Dura cap was not at issue per se in the Myer matter because in the Myer case, group members were defined to be only those that bought Myer shares at an allegedly inflated price and held those shares on the date of the disclosure.23 However, group members in other Australian shareholder class actions have been defined differently, and therefore this issue is relevant for other cases.
In the Myer matter too, some US cases were cited to argue that “the constant percentage approach has been discredited.”24 His Honour has specifically called this out as a “misconception” in relation to Australian cases. His Honour noted that the estimation of damages under the Dura methodology relates to “the assessment of damages under particular US legal requirements, as distinct from the determination of the appropriate estimate of inflation in the price of a security.”25 This discussion suggests that in the views of His Honour, the Dura cap may not necessarily apply to Australian shareholder actions in assessing loss per share.
We will have to wait for a decision in another matter to see how this principle is ultimately articulated with respect to the mechanics of calculating losses per share.
In summary, the Myer decision confirms that:
- “Semi-strong form efficiency” is the relevant standard for Australian shareholder litigations.
- Market-based causation is a valid mechanism to evaluate causation claims in matters alleging inflation in stock price, and an ‘event study’ approach can be used for market-based causation analysis.
- Both constant dollar and constant percentage can be used as a potential measure of inflation and confirms that particular choice of the inflation measure in a matter will depend on the nature of proposed counterfactual disclosures and facts and circumstances for that matter.
The decision suggests that Dura methodology may not be directly applicable to Australian shareholder actions, and a shareholder might be able to claim a loss even if they have sold a share prior to any corrective disclosure.
About the authors:
Dr. Alok Khare is a Senior Managing Director and co-leader of FTI Consulting’s Securities, Accounting, and Regulatory Enforcement Practice. He is based in San Francisco, USA. Dr. Khare is an economist who provides economic, financial, and statistical analyses to evaluate causation and damages in shareholder claims, antitrust claims, and other litigations. He also specialises in the analysis of transfer pricing. He has been retained as an expert to evaluate loss causation and damages claims.
T: +1 805 259 5797
Dawna Wright is a Senior Managing Director and Leader of the Australian Forensic Accounting and Advisory practice of FTI Consulting. She is based in Melbourne, Australia. Dawna has over 20 years of experience in auditing and forensic accounting, including several years as a Partner leading the Victorian Forensic practice at Deloitte, and five years as a Forensic partner at an independent boutique advisory firm. Dawna has led a wide range of matters as an independent expert witness, a consulting expert and an expert determiner. Her experience includes pre-litigation dispute consulting, expert testimony, class action litigation, corporate investigations, financial statement restatements, post-acquisition disputes, and anti-bribery and corruption reviews.
T: +61 3 9604 0604
Erica Rose is a Senior Director at FTI Consulting and is based in Seattle. She has nearly 20 years of experience applying financial and statistical modeling to assist clients in securities and other litigation settings. Ms. Rose has supported experts in dozens of shareholder litigations. Her work typically includes designing, running, and describing detailed analyses such as stock price event studies and inflation analyses. She also has performed analyses relating to market efficiency and price impact.
T: +1 206 689 4479
FTI Consulting professionals can provide consulting advice and expert testimony in shareholder claims on issues such as market efficiency, causation, materiality, and damages.
The views expressed herein are those of the authors and do not necessarily represent the views of FTI Consulting, Inc., or its other professionals. FTI Consulting, Inc., including its subsidiaries and affiliates, is a consulting firm and is not a certified public accounting firm or a law firm.
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1 TPT Patrol Pty Ltd as trustee for Amies Superannuation Fund v Myer Holdings Limited  FCA 1747, ¶1528 (the “Myer Decision”).
2 Myer Decision, ¶1524. From this description, it seems that applicants can offer the market-based causation for all securities of a firm, not just its stock.
3 Myer Decision, ¶1629 (emphasis in original) also noting “So, if it is not a good assumption in a particular case involving a particular class of securities, factually market-based causation and the “inflation-based measure” of loss in that case may fail.”
4 Myer Decision, ¶1668.
5 Myer Decision, ¶1716.
6 Myer Decision, ¶1711.
7 Myer Decision, ¶925.
8 Myer Decision, ¶1712.
9 Myer Decision, ¶675.
10 Myer Decision, ¶¶676-677.
11 In re Polymedica Corp. Secs. Litig., 432 F.3d 1, 19 (1st Cir. 2005).
12 In re Polymedica Corp. Secs. Litig., 432 F.3d 1, 18-19 (1st Cir. 2005).
13 In re Federal Home Loan Mortgage Corp. (Freddie Mac) Securities Litigation, 281 F.R.D. 174, 182 (S.D.N.Y. 2012)
14 Myer Decision, ¶20.
15 Myer Decision, ¶1500-1505.
16 Myer Decision, ¶1505-1505.
17 Myer Decision, ¶753.
18 Myer Decision, ¶20.
19 Myer Decision, ¶760.
20 Dura Pharmaceuticals., Inc. v. Broudo, 544 U.S. 336, 342 (2005).
21 Dura Pharmaceuticals., Inc. v. Broudo, 544 U.S. 336 (2005).
22 Jeff G. Hammel & B. John Casey, “Sizing Securities Fraud Damages: ‘Constant Percentage’ on Way Out?”, New York Law Journal, Jan. 21, 2009.
23 Myer Statement of Claim, ¶¶2 & 27 available at http://myerclassaction.com.au/ wp-content/uploads/2018/03/VID1494.2016-Statement-of-Claim.pdf accessed 31 October 2020.
24 Myer Decision, ¶769.
25 Myer Decision, ¶¶768-769.