A Tale of Three Experts: Expert Admissibility in the Xerox Securities Litigation

A Tale of Three Experts: Expert Admissibility in the Xerox Securities Litigation

March 01, 2011

The opinions of financial experts are facing ongoing scrutiny under the watchful and educated eye of the courts. As the court has continued to define its role as “gatekeeper” in cases involving claims for financial damages, the qualifications and methodology of financial experts are being questioned with much greater frequency. The precedent established by Daubert, Kumho, and Joiner, among other cases, is constantly evolving as courts become more sophisticated in their consideration of opinions offered by financial and economic experts.

Recently, the Connecticut Bankruptcy Court’s ruling in the Xerox Corporation (“Xerox”) Securities Litigation1 offered a unique discussion of the admissibility of three financial and economic experts. Each expert offered opinions on various financial issues in relation to Xerox and the alleged artificial inflation of its common stock price after its alleged misrepresentation of the impact of a reorganization of its Customer Business Organization (the “CBO reorganization”).

The court’s ruling in this case (in response to the Plaintiff’s motion to exclude the Defendant’s expert testimony from the three experts) is unique in that it offers a comprehensive discussion seldom seen from any court on the factors considered in reaching its decision. Further, the case is rare in that it involves the examination of three separate financial experts against the same admissibility criteria as employed by the same court. The different rulings on each of the three experts provide further insight into the thought process and primary factors considered by the court in admitting or excluding the testimony of financial and economic experts.

With the recent adoption of the revised Federal Rules of Evidence regarding discovery from expert witnesses,2 it seems the courts are intent on focusing on the merit of an expert’s opinions and not the substance of draft reports and other items not necessarily pertinent to the expert’s opinions. In this piece, we discuss the “gatekeeper” role established by Daubert and Kumho Tire, as well as the ruling in the Xerox case as an example of the courts current interpretation of this role.

A Brief History of Daubert and Related Rulings

Daubert v. Merrell Dow Pharmaceuticals3 (“Daubert”) was a groundbreaking case for expert witnesses of all disciplines. The legal standard first adopted in Daubert is still widely referenced when the admissibility of an expert is questioned. Daubert established that “Expert testimony is not admissible unless it is first determined by the trial judge that the expert is qualified and that the opinions of that expert are scientifically reliable.”4 The factors considered in reaching this determination (often called the Daubert criteria) include “1) whether the methods upon which the testimony is based are centered upon a testable hypothesis; 2) the known or potential rate of error associated with the method; 3) whether the method has been subject to peer review; and 4) whether the method is generally accepted in the relevant scientific community.”5

The Federal Rule of Evidence Rule 702 (“FRE 702”) later adopted the guidelines set forth in Daubert, and expanded on the factors to be considered by courts in evaluating the admissibility of opinions offered. FRE 702 states that if “scientific, technical, or other specialized knowledge will assist the trier of fact to understand the evidence or to determine a fact in issue, a witness qualified as an expert by knowledge, skill, experience, training, or education, may testify thereto in the form of an opinion or otherwise.” However, there are certain criteria which must be met by that expert including “1) the testimony is based on sufficient facts or data, 2) the testimony is the product of reliable principles and methods, and 3) the witness has applied the principles and methods reliably to the facts of the case.”6

Since Daubert and the enactment of FRE 702, several other decisions have addressed the issues of expert admissibility and expanded on the court’s ruling in Daubert. In General Electric Co. v. Joiner7 (“Joiner”) the court held “1) that the “gatekeeper” function allows the courts itself to investigate the expert’s reasoning process as well as the expert’s general methodology (frequently analyzed under the rubric of reliability”), and 2) that the standard of review for an appellate court of such a trial court’s decision is “abuse of discretion.’”8 Finally, Kumho Tire Co. v. Carmichael9 (“Kumho Tire”) “extended a trial judge’s gatekeeping obligation to “technical” and ‘other specialized knowledge’” and effectively “brought Daubert into the realm of financial damages.”10

Different states have varied in their adoption of Daubert, Kumho and Joiner11. However, these cases, along with FRE 702, are widely viewed as the cornerstone for expert witness admissibility within federal courts. “When an expert opinion is based on data, a methodology, or studies that are simply inadequate to support the conclusions reached, Daubert and Rule 702 mandate the exclusion of that unreliable opinion testimony.”12

Subsequent to the rulings in these cases, different authoritative sources have weighed in on the primary factors to be considered in relation to expert admissibility. The Federal Judicial Center has recognized additional factors beyond the Daubert Criteria that may be relevant in making reliability determinations for expert witnesses, including but not limited to:

  • “Whether the expert has engaged in improper extrapolation (i.e. drawing an unsupported conclusion from an accepted premise)
  • Whether the expert took into account possible alternate explanations…
  • Whether the expert is being as careful as he or she would in regular professional work, outside of paid litigation consulting
  • Whether the field of expertise claimed by the expert is known to reach reliable results for the type of opinion the expert would give”13

While these cases and authoritative literature have formed the foundation in matters involving motions to exclude the testimony of the opposing expert (often referred to as Daubert motions), the Daubert landscape is constantly evolving as courts and experts alike become more educated. The Xerox ruling provides recent evidence of this evolution.

Xerox: A Closer Look

The three experts engaged by Plaintiff were asked to opine on several aspects of the price inflation that was allegedly
due to Xerox’s misrepresentations. Below is a description
of the involvement of each expert and the court’s conclusion relating to each.

Expert 1

Expert 1, a professor from New York University’s Stern School of Business, was asked to “quantify any ‘artificial inflation’ in the stock price caused by the allegedly false and misleading statements made by Xerox.”14 To do so, Expert 1 employed several statistical analyses including an event study for the period from October 23, 1997 through the three months after the Class Period (January 7, 2000) to quantify the effects of the statements made. Based on an in-depth statistical analysis, Expert 1 “estimated that from the beginning of the Class Period until September 15, 1999, the price of Xerox common stock was inflated by $8.72 per share ($4.84 plus $3.88).” He estimated that, from the period of September 16, 1999 through October 7, 1999, the price was inflated by $4.84 per share.”15

Expert 2

Expert 2, an investment banker and financial advisor, was asked to determine whether Xerox’s restructuring had material impacts on Xerox’s operations and, if so, whether these effects were known or should have been known by the Defendants. In formulating his conclusions, Expert 2 reviewed press releases, internal correspondence, and other documentation. Expert 2 then provided a narrative description of the surrounding events and ultimately concluded that “the CBO reorganization had material negative impacts on Xerox’s operations during the class period,” and that the statements made by Xerox were “misleading in terms of the nature of the information presented as well as the information regarding the adverse effects of the CBO reorganization which was omitted.”16

Expert 3

Expert 3 was asked to opine as to whether “Xerox’s Class Period public statements regarding the impact of the 1998 restructuring fairly described the effects of such restructuring, and, if not, whether Xerox failed to report adverse restructuring efforts which resulted in false and misleading Class Period public statements.” Expert 3 was also asked to opine as to whether Xerox’s management “knew of or recklessly disregarded any discrepancies”17 Expert 3 pointed to several inappropriate accounting practices and misstatements in concluding that Xerox “continuously concealed significant adverse restructuring effects in its Class Period public statements. As a result, such public statements were unreliable and deceptive because they deprived investors of vital information.”18

Court’s Findings

The Defendants attacked each of the three experts on several grounds and made a number of assertions regarding the inadmissibility of their opinions due to their alleged failures to utilize appropriate methodologies, employ non-subjective approaches, and base opinions on sufficient facts and data. In filing their Motion to Exclude, the Defendants outlined their positions relating to each of the three experts. The court took the motion under advisement and responded for each individual expert separately.

In response to Defendants’ claim that Expert 1’s methodology was overly subjective, the court importantly noted that “even a statistical event study involves subjective elements. A researcher performing an event study must identify which company-specific events to study, and in the process, categorize those events as fraud or non-fraud related.” Further, the court found that Expert 1 did review all relevant documents and news releases necessary to formulate a reasonable event study, as indicated by his comprehensive list of documents considered contained with his report.

Relating to the opinions offered by Expert 2, Plaintiff contended that as an investment banker and financial advisor, Expert 2 had often “reviewed and commented on business documents including prospectuses, registration statements, SEC filings and disclosure statements” and therefore met the requirements for “accurately describing a company or transactions.” However the court noted that Expert 2 had never been employed in an operational role at any company and he had never worked in a position where he had been required to make a public disclosure. Further, he had never made a determination of materiality, accuracy, or completeness of disclosed information until his involvement in this case. As such the court found that Expert 2 “is not qualified as an expert by knowledge, skill, or experience. Nor has he proffered testimony based on sufficient facts or data or the product of reliable principles and methods.19 (emphasis added)

While Defendants argued that Expert 3 should be excluded because his report did not contain a discussion of academic literature, standards, or accounting provisions, the court noted that the record indicated that Expert 3 had in fact “employed his professional experience and methodology routinely relied upon by professionals in his field of expertise when investigating possible fraudulent financial reporting and disclosures.” Defendants further claimed that Expert 3 relied on incomplete and unreliable data, however the court importantly noted that to the extent the expert fails to consider a particularly important item in evidence, “that is proper subject for cross examination, as opposed to a ground for excluding [his] testimony.”20 As such, to the extent the Defendants’ concerns regarding Expert 3 had any merit, the court concluded that these concerns went more to weight than admissibility.

Ultimately, the court granted Defendants’ motion to exclude the testimony of Expert 2 but denied its motion for exclusion of Experts 1 and 3.21


The court’s ruling in Xerox reinforces the foundation established by earlier decisions regarding expert admissibility. The first hurdle for any financial or economic expert is often to offer proof that he or she has the appropriate level of demonstrated experience and expertise in the relevant field. As evidenced by the exclusion of Expert 2, this is an important factor considered by courts in determining whether to admit an expert’s testimony. When an expert offers opinions based on inadequate experience and inappropriate methodologies, the court may exclude that expert from offering testimony.

Further, experts must demonstrate they have applied principles and methodologies consistent with generally accepted methodologies in their field of expertise. The expert should also demonstrate that the methodologies employed and assumptions utilized are consistent with his or her own prior experience. Further, the expert must offer evidence that he or she has performed a comprehensive review of the available information and appropriately considered all relevant facts in forming his or her conclusions. While there may be subjective elements inherent in a financial or statistical analysis (such as in the analysis employed by Expert 1), the expert must show that subjective assumptions or conclusions were made in a reliable and reasonable manner.

Further, Xerox reaffirms that a difference in factual interpretation is not always grounds for exclusion. While the parties may disagree on the interpretation or weight of certain data in evidence, this is more appropriately a matter of cross examination as opposed to expert exclusion.

Also a contributing author:

Jacob M. Reed



1 165 F. Supp 2s 208 (D. Conn. 2001), Ruling on Motion to Exclude the Proffered expert testimony of [Expert 1], [Expert 2], and [Expert 3](“Ruling on Motion to Exclude”)

2 Federal Rules of Evidence, Published by the Legal Information Institute, Cornell Law School, December 2009.

3 509 U.S. 579, 113 S.Ct. 2786 (1993).

4 Ellen Keefe-Garner. “Gatekeepers in Michigan Courts.” Michigan Bar Journal, February 2009.

5 “The Impact of Daubert v. Merrell Dow Pharmaceuticals, Inc. on Expert Testimony: With Applications to Securities Litigation,” Stephen Mahle, April 1999, www.daubertexpert.com.

6 Federal Rules of Evidence Rule 702, Published by the Legal Information Institute, Cornell Law School, December 2009.

7 522 U.S. 136 (1997).

8 Schaeffer, Ogulnick, and Schaeffer. 2008. “Challenges to the Admissibility of Expert Financial Testimony: 2005-2008.”

9 526 U.S. 137, 119 S.Ct. 1167 (1999).

10 Nancy Fannon and Jonathon Dunitz. “Keeping Your Financial Damages Expert in the Case.” For the Defense, March 2010.

11 As stated in “Challenges to the Admissibility of Expert Financial Testimony: 2005-2008,” (see above) “only nine states have adopted the full Daubert trilogy… Six states have adopted Daubert and Kumho Tire but have not adopted Joiner. Eight States have adopted Daubert (at least in part) but have not adopted Kumho Tire and/or parts of Joiner. Six states, while not adopting Daubert, have utilized part of its holding to develop their own tests.”

12 Amorgianos v. Nat’l R.R. Passenger Corp., 303 F.3d 256, 267 (2d Cir. 2002).

13 Federal Judicial Center, Manual for Complex Litigation Fourth Edition (2004), in reference to the committee note to amended Rule 702.

14 165 F. Supp 2s 208 (D. Conn. 2001), Ruling on Motion to Exclude.

15 ibid.

16 ibid.

17 ibid.

18 ibid.

19 ibid.

20 ibid.

21 Note that the court did exclude Experts 1 and 3 from offering opinions as to scienter (the defendants thoughts, motives or states of mind)