Materiality and Magnitude: Event Studies in the Courtroom

01 April 1999
Dr. David Tabak with former NERA Senior Vice President Dr. Fred Dunbar

Since the Supreme Court's Daubert ruling, there has been an increased scrutiny of expert testimony in the courtroom. This has given rise to the need for analyses that, to the extent possible, are testable, supported by published literature, have a known or potential rate of error, and follow procedures that derive from objective standards rather than from an expert's own potentially subjective opinions or beliefs.

The authors argue that a properly conducted event study is an underutilized tool in litigation outside the field of securities law, and that event studies are often applied in an inexact or unscientific manner within securities litigation. To examine the usefulness of event studies, this paper discusses how they can be used to measure the impact of two different types of events. First, the authors look at revelations of securities fraud, where event studies are already commonly employed, though often using non-rigorous analysis. Second, they examine the measurement of the effect of offending actions on plaintiff's future profits, an area in which the use of event studies is less common.

The paper also compares the event study to other methodologies for determining the importance and size of an outside event on a company, and examine the conditions under which properly conducted event studies provide more objective and accurate measurements of the effects of these events on the company. It begins by briefly describing the event study technique and the two items that stock price changes let us measure, materiality and magnitude, and their relevance to the determinations of liability and damages in a litigation context.