Opinion ID: 152880
Heading Depth: 2
Heading Rank: 4

Heading: Was The Loss Calculation Clearly Erroneous?

Text: Next, the defendants argue that the district court's determination that their fraudulent conduct resulted in financial losses greater than $400 million was clearly erroneous and, as a result, improperly enhanced their Guidelines level by thirty points. The government responds that there was ample support for the district court's calculation based on the testimony of the government's expert at the Fatico hearing. We agree with the government and affirm the district court's loss calculation. A sentencing court is not required to compute the loss resulting from a fraud offense with precision. United States v. Jacobs, 117 F.3d 82, 95 (2d Cir. 1997). Instead, [t]he court need only make a reasonable estimate of the loss. U.S.S.G. § 2B1.1, cmt. n.3 (1998). Moreover, because the district court occupies a unique position to assess the evidence and estimate the loss based upon that evidence, the court's loss determination is entitled to appropriate deference. See United States v. Bennett, 252 F.3d 559, 565 (2d Cir.2001); United States v. Germosen, 139 F.3d 120, 129 (2d Cir.1998); cf. United States v. Rostoff, 53 F.3d 398, 407 (1st Cir.1995) (Calculating the amount of loss for purposes of the sentencing guidelines is more an art than a science. Courts can, and frequently do, deal with rough estimates.). While [l]osses from causes other than the fraud must be excluded from the loss calculation, United States v. Ebbers, 458 F.3d 110, 128 (2d Cir.2006), courts frequently calculate loss in securities fraud cases by relying on the change of market capitalization as a result of the disclosure of the fraud, Gov't Br. 52, in order to prevent perpetrators of [the] fraud from get[ting] a windfall, Ebbers, 458 F.3d at 127. The loss calculation in this case was sharply disputed. The most significant area of disagreement centered on how to properly frame the economic impact of the 35-day month practice. The government's expert, Dr. Mukesh Bajaj, framed the loss resulting from the 35-day month practice as an earnings miss, which caused an estimated 10.68% decline in CA's stock price that translated into a loss of $330 million for one quarter of fiscal year 2000 alone. Conversely, the defendants' expert, Professor Daniel Fischel, denied that the 35-day month practice caused an earnings miss, whereby the earnings CA reported were completely fabricate[d], but instead testified that the practice only caused an earnings shift, whereby earnings that were properly attributable to a future quarter were reported in the previous quarter. Kumar Br. 29-30 (internal quotation marks omitted). Fischel did not submit his own loss calculation, but focused only on refuting Bajaj's analysis. [18] The district court held a Fatico hearing in order to untangle this web. During the hearing, the district court questioned both Bajaj and Fischel on their respective analyses. Specifically, the district court challenged Bajaj's analysis as based on only one quarter's losses, which Fischel argued resulted in an artificially inflated loss calculation. In turn, the district court questioned Fischel's analysis insofar as seeming to imply that the fraudulent conduct caused no economic loss whatsoever. Fischel conceded, however, that, even if Bajaj's earnings miss nomenclature was inaccurate, there was still an investor loss to be ascertained based not only on the market impact of the 35-day month practice on earnings, but also on the real effect on cash flows resulting from th[e] disclosure of the practice, which led to a drop in confidence in CA's management and market speculation about the extent of the fraudulent activity. See Fatico Hr'g Tr. 416:13-14, Oct. 25, 2006. Ultimately, the district court accepted Bajaj's calculation. The court found that [a]lthough[the] precise dollar amount of the loss ... is difficult if not impossible to fix, the testimony of Dr. Bajaj [was convincing] that the loss was in the hundreds of millions of dollars. Kumar Sentencing Tr. 64:17-20. In rejecting Fischel's analysis, the court noted that Fischel was unable to explain why CA executives would engage in the 35-day month practice if it did not, in fact, positively affect CA's stock price. See Kumar Sentencing Tr. 64:1 (characterizing Fischel's testimony during the Fatico hearing as not enlightening). Consequently, the defendants' Guidelines calculation was enhanced thirty levels (under the 2005 Guidelines) for the financial loss. On appeal, Kumar and Richards claim that the district court's reliance on Bajaj's earnings miss analysis was clearly erroneous, because Fischel showed that the 35-day month practice did not result in earnings misses but instead in earnings shifts whereby any earnings lost in one quarter were made up in the subsequent one. As an initial matter, the record reveals that Fischel's objection to the term earnings miss was partly semantic. As the defendants now concede, Bajaj did not analyze the 35-day month practice as resulting in an earnings miss, but instead his analysis simply removed the earnings associated with each contract from the quarter in which it had been improperly booked and `re-booked' it in the proper quarter. Kumar Br. 27. However, despite this concession, the defendants argue that Bajaj's calculation was nevertheless erroneous because he only calculated the miss part of the shift, and did not take into account that, had CA reported ... its earnings correctly, ... it would have reported higher earnings in the third and fourth quarters of fiscal year 2000 than the earnings it actually reported. Kumar Br. 30 (emphasis in original, internal quotation marks omitted). Thus, the defendants argue that Bajaj's calculation should have accounted for these higher earnings, which would have significantlyor completelyoffset the earnings miss in the prior quarters. We are not persuaded. Taken to its logical conclusion, the defendants' argument would also compel the conclusion that CA's investors did not suffer any loss due to the 35-day month practice, since under Fischel's hypothesis, the false gains and the false losses should have effectively canceled each other out. Fischel himself undermined this conclusion during the Fatico hearing when he conceded that the 35-day month practice obviously had a real negative monetary effect on CA's investors, not only by affecting CA's cash flow[], but by injecting speculation into the market and harming investor confidence in CA's management. Fatico Hr'g Tr. 416:13-14, 23, 419:8, 18. Accepting Fischel's testimony would cast doubt on the entire basis for the Generally Accepted Accounting Principles rule that earnings earned in one quarter must be reported in the same quarter; if merely shifting earnings between quarters had no negative effect on investors, there would be no need for the rule in the first place. As Bajaj noted in his report, [m]any firms that missed earnings in a given quarter could also have avoided announcing the miss if they could `borrow' sufficient earnings from the next quarter to cover their shortfall. Supplemental Report of Dr. Mukesh Bajaj, at 12, Oct. 9, 2006. Thus, the government properly characterizes Fischel's analysis as stretch[ing] credulity. Gov't Br. 53. In addition, during the Fatico hearing, the government not only provided reasons why Fischel's analysis was wrong, but also provided reasons why Bajaj's analysis was sound. Specifically, the government showed that re-booked false earnings in one quarter could indeed have caused CA's stock price to decline, by, inter alia, causing loss to investors who purchased CA stock at inflated prices because of fraudulent disclosures and omissions flowing from the 35-day month, then sold after such inflation had seeped out of the stock, as well as losses to investors who sold at deflated prices, where the 35-day month caused CA to understate results. See Fatico Hr'g Tr. 234-236, Oct. 25, 2006. In other words, individual sales and purchases of CA stock were singular events thus, even assuming CA came out even in the end (a dubious contention, at best), CA's individual investors did not go unharmed. Instead, claims filed by individual investors with CA's claims administrator for their losses resulting from the 35-day month practice reveal that those losses not only existed, but were significantly underestimated by Bajaj, who calculated damages only to an artificially narrow subset of victims: namely, those victims who filled out and submitted claims for restitution, which is often substantially fewer than all eligible victims. Gov't Br. 55 n.22. This potential disconnect between the financial health of a corporation and that of individual investors is precisely why the type of event study undertaken by Bajaj conforms to the most widely accepted practices of economists. Id. at 55. The defendants also claim that Bajaj's loss calculation was erroneous because the sample of earnings misses he used in his study involved firms that had experienced genuine adverse developments... such that a stock price decline would be expected. Kumar Br. 30. Thus, the defendants argue that the sample firms Bajaj used in his study were not appropriate comparators to CA. Again, the defendants' argument is unpersuasive. In estimating a loss calculation, a sentencing court should not analyze the impact of fraud in a vacuum, but instead should recognize that [m]any factors may cause a decline in share price between the time of the fraud and the revelation of the fraud, not all of which will be attributable to fraudulent activity. United States v. Rutkoske, 506 F.3d 170, 179 (2d Cir.2007). In this case, the district court properly focused on loss attributable to the defendants' fraud. As previously established, the 35-day month practice did indeed cause a genuine adverse development to CA's financial health. Moreover, Bajaj's study took other causes for CA's stock decline into account by comparing the earnings misses of CA to those of thirty other similarly situated companies, and perform[ing] a comprehensive regression analysis in an effort to isolate the event-specific impact of the given firm's earnings-miss disclosure on its stock price, while controlling for market-wide or industry-wide factors. Gov't Br. 56. The district court was fully entitled to credit Bajaj's assessment of the impact of external causes on CA's stock and reject Fischel's, particularly in light of Fischel's inherently contradictory analysis. Finally, in reviewing the district court's loss calculation, we find it particularly telling that CA's stock closed $5.85 below what would have been expected on October 10, 2003, two days after CA's public disclosure of the 35-day month practice. Multiplying that undisputed figure by the 200.2 million affected shares would have brought the estimated loss to investors to more than $1 billion, alone. Even assuming that the losses of October 9 and 10, 2003 were tied, not to the actual operation of the fraudulent 35-day month practice, but to the possibility of an open-ended criminal and regulatory investigation that could ... [have] disastrous effects for the company, Kumar Br. 37 (alteration in the original), financial loss caused by speculation that stems from the fraudulent practice and a loss of confidence in management is properly included in the loss calculation, see Ebbers, 458 F.3d at 127. Thus, we affirm the district court's loss calculation of greater than $400 million as not clearly erroneous.