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The Supreme Court on Tuesday made it easier for companies to resist class actions by shareholders who seek compensation for stock market losses. The Court ruled unanimously in Dura Pharmaceuticals Inc. v. Broudo that shareholders must prove a clear connection between a company’s misrepresentations and subsequent loss in stock value before they can recover damages in fraud-on-the-market litigation. Justice Stephen Breyer, writing for the Court, rejected a looser standard adopted by the U.S. Court of Appeals for the 9th Circuit that would have allowed lawsuits to proceed simply by showing that the price of a stock was inflated at the time it was bought because of company misrepresentations. Because a “tangle of factors” can cause stocks to go down in price, Breyer said that more than an inflated purchase price is needed to prove a connection between a company’s misrepresentation and the stockholder’s later losses when the stock is sold 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,” Breyer wrote. The long-awaited decision was a relief to companies facing stockholder lawsuits, including some lingering from the collapse of Internet stocks, in which defendant companies claim that general economic conditions, not company misrepresentations, caused stock prices to fall. “There will be a fair number of motions to dismiss or motions for summary judgment after today,” said William Sullivan of Paul, Hastings, Janofsky & Walker in San Diego, who argued the case for Dura. “It’s a powerful opinion that gives a common-sense definition of what loss causation is.” But the lawyer for the Dura investors also claimed victory on Tuesday, based on a secondary part of the opinion. Patrick Coughlin of Lerach Coughlin Stoia Geller Rudman & Robbins said Breyer had articulated a “pleading rule” that will make it relatively easy for investors to file suits in the first place without detailing the specific link between the company’s misrepresentations and stock price decline. The case was a key test of the Private Securities Litigation Reform Act of 1995, aimed at making it harder for shareholders to sue companies. The law codified the long-standing “loss causation” principle that requires plaintiffs to prove that the harm they are seeking damages for was actually caused by the defendant. In a suit brought by Dura stockholders — including Michael Broudo — following dips in the company’s stock price in 1998, the 9th Circuit interpreted the requirement broadly, to allow damages if a company misrepresentation merely “touches upon” the reasons for the losses suffered. Dura allegedly had boosted the price of its stock to $53 a share in 1997 with inflated claims about the success of its business. When it later announced that the Food and Drug Administration had not approved one of its devices, the stock price fell to $9.75 a share. Dura said the price decrease was the result of an expected revenue shortfall that it had announced, not any misrepresentations. Dura, joined by the Bush administration, argued that if upheld, the 9th Circuit’s standard would legitimize far too many lawsuits against companies whose stock prices fall for reasons unrelated to any wrongdoing�reasons such as the collapse of Internet stocks or the post-9/11 economic slump. A hypothetical offered by Sullivan at an earlier stage of the case illustrates the point: A long-ago buggy whip company owner who misstated company earnings and then saw his stock values plummet to zero — not because of the misrepresentation, but because the automobile wiped out the demand for buggy whips. “The loss was caused by Henry Ford, not by the company’s statements,” said Sullivan. But under the 9th Circuit’s theory, Sullivan says, stockholders would have been able to recover damages for their losses merely by claiming that the misrepresentation inflated the price of the stock when they first purchased it. Consumer and stockholder groups countered that overturning the 9th Circuit would make it much harder for the stockholder victims of recent corporate scandals to get compensated. “We’re not saying that every time a stock goes down there should be a lawsuit,” says Deborah Zuckerman, an attorney for AARP, which filed a brief in the case against Dura. But, she said, when misrepresentations inflate the price of stocks and then the price goes down, investors are entitled to be compensated. Said Zuckerman: “We’re concerned that older people who rely on stock investments for their retirement will now have less ability to recoup those losses.” Tony Mauro can be contacted at [email protected].

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