The Supreme Court considered yesterday the proper standard to prove securities fraud, a key question as investors seek to recoup billions in damages after the collapse of major companies such as Enron Corp.
The high court heard arguments in the case of Dura Pharmaceuticals Inc., which is being sued for fraud following its November 1998 disclosure that its asthma drug dispenser didn't receive federal approval as expected.
Investors say they should recover losses from a precipitous stock drop before that disclosure, arguing that Dura knowingly made false statements about the device's prospects. But justices seemed wary of allowing a lawsuit that doesn't show a clear link between the alleged fraud and the stock drop.
"How could you possibly hook up your loss to the news that comes out later?" asked Justice Ruth Bader Ginsburg.
At issue is a ruling by the San Francisco-based U.S. Court of Appeals for the 9th Circuit, which allowed investors to proceed with their lawsuit under the corporate fraud theory of "loss causation."
The 9th Circuit reasoned that investors need not show the disclosure of fraud caused a stock drop, so long as they can point to share prices that were artificially high at the time of purchase because of misleading statements.
Backing Dura in challenging the 9th Circuit ruling are the Bush administration, the Chamber of Commerce and the Securities Industry Association, which fear a wave of fraud claims from investors who simply bought shares "too high."
But public pension funds, AARP and the University of California -- the lead plaintiff in a class-action suit against Enron -- counter that the 9th Circuit's standard is needed to deter corporate scandals.
The investors' attorney, Patrick Coughlin, told justices that losses should be counted before the company's November disclosure because the stock price had been steadily dropping on market suspicions that something was wrong with the asthma device.
But Justice Sandra Day O'Connor wasn't so sure, saying investors had not clearly articulated how the fraudulent statements led to the market drops.
"The reason why loss-causation is used is because a 'loss' experienced by the plaintiff is 'caused' by the misrepresentation," she said.
The case is Dura Pharmaceuticals v. Broudo, 03-932. A ruling is expected by late June.