This Document Relates To: ALL ACTIONS
REVISED MEMORANDUM OPINION AND ORDER
Defendants Vivendi, S.A. ("Vivendi"), Jean-Marie Messier, Guillaume Hannezo, and Universal Studios, Inc. move for summary judgment against all plaintiffs based on a failure to prove loss causation. Loss causation is a necessary element of plaintiffs' claims under Sections 11 and 12(a)(2) of the Securities Act of 1933, 15 U.S.C. §§ 77k(a), 77l(a)(2) (2006), Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78j(b), 78t(a), and Rule 10b-5 promulgated thereunder, as well as certain plaintiffs' common law claims for fraud and negligent misrepresentation. Defendants make a variety of arguments as to why plaintiffs have failed to carry their burden on this element but focus largely on plaintiffs' theory that revelations concerning Vivendi's liquidity problems caused plaintiffs' losses. In addition to claiming that plaintiffs' theory of "liquidity" is impermissibly broad, defendants argue that plaintiffs have failed to establish a sufficient connection between Vivendi's allegedly false or misleading statements and these revelations, or between the revelations and declines in Vivendi's stock price. Defendants also move the Court to rule on whether certain allegations and statements are actionable against them, as well as on the form of, and method for calculating, damages. For the reasons that follow, defendants' motions are denied
The Court here summarizes the plaintiffs'*fn1 case as set forth in the class plaintiffs' Counterstatement of Material Facts*fn2 and the expert report of Dr. Blaine Nye.*fn3 In these motions, defendants challenge only the sufficiency of plaintiffs' evidence of loss causation, focusing primarily on Dr. Nye's report and testimony. For the sake of context, however, the Court first describes plaintiffs' allegations concerning the substance of defendants' alleged fraud. Because defendants were not required to dispute the facts set forth in class plaintiffs' Counterstatement, nothing in this opinion should be construed as deeming admitted or undisputed the facts asserted in that Counterstatement. In brief, plaintiffs claim that defendants Messier and Hannezo saddled Vivendi with massive amounts of debt and concealed the risk to Vivendi's liquidity through various false and misleading public statements. When that risk began to materialize in the first half of 2002, Vivendi's stock price declined as a result, causing plaintiffs' losses.
Defendants' Alleged Fraud
Vivendi is a publicly-traded French corporation that was known as Compagnie Générale des Eaux prior to 1998. (Class Pl. Counterstatement ¶ 1; Def. 56.1 Statement ¶ 1.) For the newly-minted CEO, defendant Messier, the name change was part of a grand strategy to transform the company from a simple water utility into an international media and telecommunications conglomerate. (Class Pl. Counterstatement ¶¶ 3-5.) Central to that strategy was a series of acquisitions that peaked with a three-way merger with The Seagram Company, Ltd.-a U.S. company that owned both Universal Pictures and Universal Music Group-and Canal Plus S.A.-one of Europe's largest cable television operators. (Id. ¶¶ 5-7.) The acquisitions increased Vivendi's media and telecommunications debt from approximately €3 billion in early 2000 to over €21 billion in 2002. (Id. ¶ 32.)
Plaintiffs allege that defendants first began to mislead the public when they were promoting the merger to Vivendi's extant shareholders. At a shareholder meeting in anticipation of the merger vote, for example, Messier told shareholders that "[t]hanks to our free net cash flow and the opportunities to dispose of some holdings . . . we will have an additional war chest of 10 billion euros for 2001-2002 before the first euro of debt." (Id. ¶ 13.) Plaintiffs allege that Messier knew this statement was false, citing a memo from Hannezo stating that "I believe it is wrong to reason in terms of . . . free cash flow (there won't be any this year) . . . ." (Id. ¶ 14.) Nevertheless, Messier continued to tout the "Strength of [Vivendi's] Cash Flow" to shareholders throughout 2001. (Id. ¶ 49 (Letter to Shareholders dated June 26, 2001).)
Plaintiffs allege that a large part of defendants' fraud appeared in Vivendi's financial statements, with detailed numbers backing up Messier's rosy descriptions of the company's liquidity position. In particular, plaintiffs allege that defendants used purchase accounting to ensure that Messier's promises that Vivendi's EBITDA*fn4 would grow at 35% annually. (Id. ¶¶ 15-16.) Purchase accounting is typically used at the time of a merger and "allows the acquiring company to provide for cash business expenses by reducing allowances and reserves on the balance sheet." (Id. ¶ 18.) Because expenses accounted for in this way reduced allowances and reserves rather than net earnings, Vivendi's net earnings were correspondingly higher. (Id.) Plaintiffs allege that Vivendi knew its use of purchase accounting beyond the merger was misleading, citing an e-mail from Hannezo declaring that defendants "will benefit from a maximal flexibility in making the opening balance sheet adjustments, and the analysts will not have it easy to track the purchase accounting benefits." (Id. ¶ 23.) Internally, Vivendi employees referred to purchase accounting or PA as their "profit adder". (Id. ¶ 20.) Indeed, plaintiffs claim that 50% of Vivendi's reported EBITDA growth in the media and communications group was achieved through purchase accounting. (Id. ¶ 30.)
In 2001, plaintiffs allege, Messier continued to push forward with multiple acquisitions, including a minority stake in Maroc Telecom and a secret deal for an additional stake in 2002. (Id. ¶ 31; Nye Report ¶ 61.) These acquisitions translated to debt levels that began to severely test the company's liquidity. Moreover, Vivendi's need for cash prompted it to take out large loans on unfavorable terms, including the €608 million loan from Cegetel, the French telecom in which Vivendi owned a large stake, which was repayable on demand. (Nye Report ¶ 91.) Other sources of debt included draw-downs on its commercial paper backstops-actions that in themselves potentially put Vivendi in default according to the prudential rules set by the rating agencies. (Nye Report ¶ 8(f).) Internally, Vivendi's treasury department stressed that this debt meant that the company did not have the capacity for further acquisitions. (Class Pl. Counterstatement ¶ 35.) By June 2001, there was talk of bankruptcy if Vivendi continued on its course. (Id. ¶¶ 50-52.) At the time, Hannezo warned that "the risk of [a credit rating] downgrade is significant." (Id. ¶ 53.) After narrowly avoiding just such a downgrade in December 2001, Hannezo wrote the following to Messier:
I told you that I would talk to you about the personal consequences that I'm drawing from my painful and humiliating meetings with the ratings agencies . . . .
For the first time, I felt the wind pass by from the cannonball of something that, from a personal point of view, I do not want to put up with: a downgrade, which would have led to a liquidity crisis; the jeers of all those who have waited for us at the pivotal occasion, desperate for such a long time to see us stumble . . . . and the unpleasant feeling of being in a car whose driver is accelerating in a sharp turn while I'm the one in the death seat. . . . The only thing that I am asking is that it doesn't all end in shame. (Id. ¶¶ 81-82.) Nevertheless, throughout the fall of 2001, Messier continued to boast of "strong third quarter results" with "Year-to-date . . . EBITA increased 46%." (Id. ¶ 62.) Just days after Hannezo sent his "death seat" memo, defendants reported on a conference call that "We have a strong balance sheet and such a strong basis of earnings, which we intend to grow, that we're confident that we will be able to keep our credit rating and to grow the business." (Id. ¶ 86.)
While plaintiffs allege that Vivendi continued to make false and misleading statements to the public in 2002, those statements were made as other events allegedly began to reveal Vivendi's true liquidity position. Plaintiffs' analysis of these events is the heart of their case for loss causation.
Plaintiffs' Evidence of Loss Causation
The report of Dr. Blaine F. Nye purports to "provide expert opinion on the issues of causation, materiality, market efficiency, and [damages]." (Nye Report ¶ 3.) Dr. Nye has an M.B.A. and Ph. D. in finance from Stanford University and has frequently served as an expert in securities actions. (Nye Report ¶ 1; Nye Report Exs. 1, 2.) Defendants do not here challenge Dr. Nye's reliability as an expert, but rather the sufficiency of his findings to establish loss causation.
Before reaching his causal analysis, Dr. Nye makes several assumptions in his report. He first assumes that "Vivendi Universal had progressively worsening and undisclosed liquidity risks throughout the relevant time period, which ultimately led to a liquidity crisis in the summer of 2002." (Nye Report at 9.) He defines liquidity as "the ability or ease with which Vivendi/Vivendi Universal could timely meet its financial obligations and fund its operations with cash on hand, assets readily convertible to cash on hand, cash from operations, or readily accessible sources of debt." (Id.) He also assumed that defendants concealed the risk of a liquidity crisis by misrepresenting or omitting the truth about the following facts, among others:
(1) Vivendi's free cash flow and EBITDA; (2) the terms of Vivendi's debt to its subsidiary Cegetel; (3) Vivendi's draw on its commercial paper backups; and (4) Vivendi's obligation to purchase an additional 16% interest in Maroc Telecom by February 28, 2002. (See id. ¶ 8; see also id. ¶ 93.)
In his section entitled "Causation: Class Action," Dr. Nye proceeds to explain the causal connection between Vivendi's concealment of liquidity risk and stock declines on eleven days in 2002. Dr. Nye begins a summary of the events surrounding the fraud and identifies some of defendants' allegedly false or misleading statements, including those just summarized above. (Id. ¶ 33.) The core of Dr. Nye's report, however, is his regression analysis and event study. The purpose of a regression analysis is to disaggregate market and industry declines from residual, company-specific share price declines. (Id. ¶ 254-60.) Regression analysis is a common mathematical tool for determining whether and to what extent a correlation exists between two variables. (Id. ¶ 254.) In this case, Dr. Nye compared the day-to-day percentage increases and decreases of Vivendi's share price to the same increases and decreases for a market-wide index and an industry-wide index. (Id.) The market-wide index is derived from a collection of different stocks that reflect the "average" behavior of the entire market-as, for example, the Dow Jones Industrial Average does. (Id.) The industry-wide index is derived from a similar collection of, in this case, media and telecommunications stocks during the class period. (Id.) In this way, Dr. Nye could predict rises and declines in Vivendi's stock price based on the rises and declines of these indexes. Where Vivendi's stock declined in excess of the market and industry by a statistically significant margin, Dr. Nye could identify days where Vivendi's share price fell for reasons independent of market or industry forces-Vivendi-specific residual declines. (Id.) From his regression analysis, Dr. Nye identified eleven days on which there were Vivendi-specific residual declines: January 7, May 3, June 21, June 24, July 2-3, July 10, July 15, and August 14-16, 2002. (Id. ¶¶ 127, 171, 192, 195, 213, 216, 222, 225, 239, 242, 244.)
On these days, Dr. Nye conducted his event study. Dr. Nye describes "event study methodology" as used "to disentangle the effects of company-specific information from market and industry information" by associating "day-to-day information releases from sources including Vivendi/Vivendi Universal's press releases, conference calls, news reports, securities analysts' reports, and SEC filings with the daily residual returns on Vivendi/Vivendi Universal stock during the Damage Period." (Id. ¶ 261.) While regression analysis identifies days in which a company's value decreases net of market and industry, it does not explain why. Those declines could be due to Vivendi-specific news that is unrelated to the fraud. Dr. Nye's event study undertook to determine the extent to which the events reported to the public on these eleven days revealed Vivendi's true liquidity condition. A summary of his study follows:
* January 7, 2002: Vivendi sells certain of its treasury shares into the market, reversing its earlier-stated intention to cancel them. (Id. ¶ 126.) Dr. Nye opines that Vivendi's share price declined, even though Vivendi got a good deal for the shares, because the public had started to doubt Vivendi's prospects. (Id. ¶¶ 127-28.) Dr. Nye does not, however, point to any evidence suggesting that this negative view of Vivendi was in any way related to liquidity and the risk that Vivendi might not be able to pay down its debt. He does distinguish the concurrent AOL-Time Warner write-down announcement as not a significant cause of the decline because the news was long expected. (Id. ¶¶ 131-32.)
* May 3, 2002: Moody's downgrades Vivendi, noting that its "continuing concerns that Vivendi Universal might not be able to reduce debt as quickly and comprehensively as planned by the company . . . ." (Id. ¶ 166.) Moody's also noted that Vivendi's weak share price had triggered its put obligations requiring major cash outlays, and that meaningful cash flow was a problem. (Id.) Dr. Nye opines that the downgrade revealed that Vivendi's liquidity position that was much worse than the public had thought. (Id. ¶¶ 167-70.)
* June 21, 2002: The market learns of a quick private sale of Vivendi Environment ("VE") shares to Deutsche Bank. (Id. ¶ 189.) The sale was in advance of an announced sale of VE stock. (Id. ¶ 186.) Dr. Nye opines that quick sales of assets suggest the need for immediate cash inflows, and hence weakened liquidity, because companies often get lower prices when they need to sell quickly. (Id. ¶ 20.) This was such a sale and the market reacted by punishing Vivendi's share price. (Id. ¶ 189.)
* June 24, 2002: Vivendi announces the pending sale of a 15.6% stake in VE. (Id. ¶ 193.) Dr. Nye opines that the market again interpreted the sudden announcement as a sign of needing a quick infusion of cash and therefore of weakened liquidity, pointing to commentators reaching the same conclusion. (Id.) Dr. Nye also distinguishes two competing causes for the same stock declines: (1) rumors that News Corp. would back out of a deal with Vivendi were based on the same concerns as the sale of the VE stake, and therefore cannot be seen as an independent ...