Damages Shortcut Causes Reversal Of Enormous Award

April 2007

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Because the plaintiff failed to elicit the proper expert damages testimony at trial, a Florida appellate court threw out one of the largest verdicts in U.S. history. This result could have been avoided with the proper analysis, and with the vast majority of the original award retained. However, a combination of plaintiff greed and/or laziness made the entire case worthless. At this point, the plaintiff must rely on further appeals, since the Florida appellate court specifically forbade the plaintiff a second chance at the trial level.

The case previously garnered national attention because of an adverse inference ruling against the defendant as a result of electronic discovery abuse (see After a $1.45 Billion Adverse Inference Ruling, Morgan Stanley Wished It Complained Less and Worked More.) Although the Appellate Court had these electronic discovery issues before it, the Court focused exclusively on plaintiff’s damage analysis. The Appellate Court stated that the other issues became moot, and so did not rule on the other interesting questions.

The case involves a stock exchange merger between the privately held Coleman Company (“CPH” - a well-known manufacturer of camping gear) and Sunbeam (a manufacturer of household products). Shortly after the merger, reports of accounting irregularities allowed the former CPH CEO and other CPH executives to take management control of the combined enterprise.

At trial, CPH claimed (and was awarded) damages based on a comparison of the trading price of Sunbeam shares before the merger closing to the zero amount that was obtained in a bankruptcy process that started approximately 3 years later. During much of this three-year period, the CPH shareholders could not have sold their stock because of a combination of lock-up limitations that arose out of the merger and challenges with registering the Sunbeam stock. Nevertheless, there was an approximate 15-month period before the bankruptcy when the CPH shareholders could have sold their Sunbeam stock, yet elected not to do so.

Established law for fraud damages requires a comparison of the value of what was given up (the CPH stock), and the real value of the Sunbeam stock that was received as of the date of the fraud-induced merger. As noted above, the damage analysis used at trial assumed a zero value in the bankruptcy that occurred three years later, and ignored the value that could have been achieved earlier.

Here is how the Appellate Court described the damages problems:

Morgan Stanley objected to the admission of Dr. Nye’s opinion on damages. It argued that Dr. Nye’s testimony was incompetent, because he did not factor a valuation date into his analysis. Contrary to the requirements set by settled law on fraud damages, his opinion was not based on the value of the stock on the March 30, 1998 date of the transaction. The court overruled the objection. During cross-examination of Dr. Nye, Morgan Stanley established that Dr. Nye did not calculate the actual value of Sunbeam shares at any point in time. Departing from his practice in other securities cases, he did not determine the ‘fraud-free’ price of Sunbeam stock on the date of the closing. He simply assumed that CPH could not have recovered any value, as he was instructed to do by CPH. He did not consider whether other factors affected the stock price, such as business decisions by the new management team or the stock market crash of 2000. He did not analyze whether Sunbeam’s acquisition of other small companies during this time created problems. He did not look at Sunbeam’s expenses while it was being operated by the new management….

As a general rule, plaintiffs alleging securities fraud rely on expert proof to establish both the fact of damage and the appropriate method of calculation. … CPH’s expert testified as to the bargained for value of the Sunbeam stock, but he did not testify as to the actual value of the Sunbeam stock at the time of the purchase – a necessary element of proof. He testified that although he had done such calculations in other cases, in this case he did not isolate the fraud-free price and perform the standard securities analysis to determine what would have been the stock’s value on the date of the transaction.

After throwing out the fraud damages, the Appellate Court concluded that the related punitive damages could also not stand because of the lack of fraud or other compensatory damages.

The Appellate Court ordered the trial court to enter judgment for the defendant. The Appellate Court specifically rejected plaintiff’s request that it be given a new trial to prove damages, as follows:

CPH cannot complain about rulings that it urges the court to make in accordance with its damages theory. Furthermore … a plaintiff is not entitled to a ‘second bite at the apple’ when there has been no proof at trial concerning the correct measure of damages.

The moral of this story is obvious, but deserves repeating.

1. Do not take short cuts on your damages case.
2. Do not hire a damages witness who will let you push him around when you are attempting to squeeze that last dollar out of your case.
3. Do not instruct your damages witness to take an approach that is inconsistent with what he normally does.
4. A slightly smaller but credible damages number is better than nothing at all.

Fulcrum Inquiry performs business valuation analyses required in this situation. Our personnel regularly provide expert testimony on damages matters.