Plumbers v. ZIMMER HOLDINGS, INC.; DAVID C. DVORAK; and JAMES T. CRINES

In the
United States Court of Appeals
For the Seventh Circuit
No. 11-1471
PLUMBERS AND PIPEFITTERS LOCAL UNION 719
PENSION FUND and CARPENTERS PENSION FUND
OF WEST VIRGINIA, on behalf of a class,
Plaintiffs-Appellants,
v.
ZIMMER HOLDINGS, INC.; DAVID C. DVORAK; and
JAMES T. CRINES,
Defendants-Appellees.
Appeal from the United States District Court
for the Southern District of Indiana, Indianapolis Division.
No. 1:08-cv-01041-SEB-DML—Sarah Evans Barker, Judge.
ARGUED OCTOBER 18, 2011—DECIDED MAY 21, 2012
Before EASTERBROOK, Chief Judge, and RIPPLE and
KANNE, Circuit Judges.
EASTERBROOK, Chief Judge. Two pension funds that
own shares of Zimmer Holdings, Inc., charge it with
defrauding its investors by downplaying the significance

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2 No. 11-1471
of difficulties it was having manufacturing some of its
products and the high failure rate one surgeon reported
for another of its products.
Zimmer designs and makes orthopaedic reconstruc-
tive devices (and related products) that it sells throughout
the world. One of its products is the Durom Acetabular®
Component (the Durom Cup), which is used to replace
the socket in a hip joint. One side of the Durom Cup is
a porous ceramic designed to bond with the hip bone;
the other is forged titanium designed to allow a leg bone
(or a titanium replacement for one) to move freely.
The Wikipedia article “Hip replacement” provides an
overview of the components and procedures.
One well-known surgeon, Lawrence Dorr, reported
unacceptably high failure rates after using the Durom
Cup in his patients. See William T. Long, Manish
Dastane, Michael J. Harris, Zhinian Wan & Lawrence D.
Dorr, Failure of the Durom Metasul Acetabular Component,®
468 Clinical Orthopaedics & Related Research 400 (2010).
Zimmer announced Dr. Dorr’s preliminary findings
in 2008 and promised to investigate. Later Zimmer attrib-
uted his failure rate—which it said was substantially
higher than that experienced by other surgeons—to
improper surgical technique. It stopped selling the
Durom Cup in the United States while preparing new
instructions for implantation; Zimmer continued to sell
the Durom Cup with the original instructions in other
nations. About a month later, Zimmer returned the
Durom Cup to sale in this country; it remains available.
This suit contends that Zimmer’s statements were false:

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No. 11-1471 3
that the problem stemmed from poor design or quality
control in the manufacture of its product rather than
Dr. Dorr’s technique, and that Zimmer pretended other-
wise in order to avoid a decline in the price of its stock.
Plaintiffs also contend that Zimmer delayed revealing
quality-control problems at its plant in Dover, Ohio.
According to plaintiffs, Zimmer learned of problems
in late 2007 but did not reveal them in its January
2008 quarterly report and earnings call. On April 3,
2008, Zimmer announced that production of some ortho-
paedic products at Dover would be suspended until
improvements could be made and that a few products
would be recalled. Zimmer estimated that recalls plus
sales foregone before production resumed would cost
the company about $70 to $80 million. (Zimmer did not
close the Dover plant; the decision affected only some
of its production lines.) Plaintiffs contend that events
at Dover reveal that the quarterly reports and
earnings guidance Zimmer released in January and
April were materially false. The Dover plant returned to
full production, and plaintiffs do not contend that
the estimated cost of the suspension and recall was sub-
stantially off the mark. In January Zimmer had
projected 10% to 11% revenue growth for the year and
net earnings of $4.20 to $4.25 per share; in July it cut
this projection to 8.5% to 9% growth and net earnings of
$4.05 to $4.10 per share. Plaintiffs maintain that Zimmer
committed fraud by not using these lower estimates
in January.
The district court dismissed the complaint, finding
that it flunks the pleading standards of the Private Securi-

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4 No. 11-1471
ties Litigation Reform Act of 1995 (PSLRA), 15 U.S.C. §78u-
4. See 673 F. Supp. 2d 718 (S.D. Ind. 2009), relying
on Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308
(2007). The judge wrote that the complaint satisfies
neither the materiality requirement nor the need to
show scienter (that is, the defendants’ knowledge that
they were lying) under the Tellabs standard: “an
inference of scienter must be more than merely
plausible or reasonable—it must be cogent and at least as
compelling as any opposing inference of nonfraudulent
intent.” 551 U.S. at 314. Plaintiffs proposed to amend
the complaint to satisfy the judge’s concerns. In a com-
prehensive opinion, 2011 U.S. Dist. LEXIS 9253 (S.D. Ind.
Jan. 28, 2011), the district court held that the proposed
amendment would be futile. The judge did, however,
withdraw the ruling that Zimmer’s statements were
not material, anticipating that the Supreme Court’s deci-
sion in Matrixx Initiatives, Inc. v. Siracusano, 131 S. Ct.
1309 (2011), then under advisement, might undercut
this aspect of the earlier ruling. That left the scienter
holding as the basis of the district court’s judgment.
The Durom Cup was failing in the United States at
an unacceptably high rate. Plaintiffs say that this must
have been caused by design or manufacturing problems,
because Dr. Dorr believed that surgeons had used
proper methods. Zimmer announced, however, that it
thought the problem one of technique and that it was
taking the device off the market, in the United States
only, for a brief period (which turned out to be one
month) in order to revise the instructions for use and
provide additional education to surgeons. Given the

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No. 11-1471 5
conflict between Dr. Dorr and Zimmer, plaintiffs
contend, a jury could infer that Zimmer was lying and
knew it. We agree with the district court that this
approach is unavailing.
Zimmer did not try to hide the failures Dr. Dorr had
encountered. Dorr made a public announcement, and
so did Zimmer, which added (what was anyway evi-
dent) that lower sales and more products-liability litiga-
tion might ensue. Three months before Dorr made his
public statement in April 2008, Zimmer had announced
that the Durom Cup was challenging to implant and
that changes in labeling or training might be required.
No one could predict how serious the problem would
turn out to be, so Zimmer’s decision not to try to
quantify the effect in January can’t be treated as a
fraud. Zimmer knew that results in Europe had been
better. While Dorr was reporting failure rates of 20% or
so, a group in Europe was reporting failure rates of less
than 1%. The Durom Cup had been used in Europe
since 2003 but had not been introduced in the United
States until mid-2006; perhaps European surgeons had
confronted and overcome challenges that colleagues in
the United States were facing. The different success rates
can’t have been caused by design or manufacture: all
Durom Cups have one design and are made in the
same plant.
Corporate executives who know that one group of
surgeons experiences success, and another group
failure, with the very same medical device could believe
that the different outcomes had been caused by dif-

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6 No. 11-1471
ferences in the way the surgeons had implanted the
device. That’s what Zimmer’s executives said they had
concluded. The complaint does not establish an infer-
ence of scienter that is “at least as compelling as any
opposing inference of nonfraudulent intent.” Indeed,
even today plaintiffs have not supplied a cogent reason
to think that Zimmer’s statements were false, let alone
knowingly false. The Food and Drug Administration
has never concluded that the Durom Cup was defec-
tively designed or made, indeed never even issued
a warning or caution concerning the Durom Cup.
As for the Dover facility and its products: plaintiffs
say that Zimmer’s management knew of the quality-
control problems and should have announced them
earlier. Yet quality control is an issue at all medical com-
panies. Knowing of “problems,” which are common,
differs from knowing that a facility must be closed
and some of its products recalled. In the proposed
amended complaint, plaintiffs offered examples of events
that, in their view, show that Zimmer must have
known that the income and earnings projections made
in January 2008 were bound to be embarrassed by
looming problems at Dover:
• David C. Dvorak, Zimmer’s CEO, decided not
to invest in quality systems that might have
avoided problems at the Dover facility.
• Before the FDA inspection, Dvorak and other
executives attended meetings at which
quality issues were discussed.
• Dvorak hired a specialist to help the com-
pany avoid FDA warning letters.

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No. 11-1471 7
• Zimmer coached a team of employees on what
to say to an FDA inspector.
The district judge replied: “In terms of their relevance
to scienter, these allegations miss the mark. It is irrele-
vant that Defendant Dvorak or anyone else at Zimmer
knew that an FDA inspection occurred, took actions to
mitigate any consequences of that inspection, or that
the company was concerned with the quality of its [ortho-
paedic surgical products]. These facts are not incon-
sistent with the statements at issue.” 2010 U.S. Dist. LEXIS
9253 at *55-56. That is to say, once again the com-
plaint lacks cogent support for a contention that
Zimmer’s statements were false, let alone fraudulent.
We asked plaintiffs’ counsel at oral argument for the
best evidence that anything Zimmer said throughout the
first six months of 2008 was false. Counsel pointed to
this exchange during a conference call between financial
analysts and Dvorak on January 29, 2008.
Q: All right, and you mentioned you talked about
investing in compliance and systems. Do you
currently have any issues with the FDA, any
warning letters, that usually takes a few months
for those to be posted, that they may have been
issued or 483’ed?
A: We don’t have any warning letters at this point.
This statement is true. FDA inspectors had not issued a
warning letter at any of Zimmer’s plants. Plaintiffs call
the answer fraudulent because of what they describe as
a materially misleading omission: the question asked

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8 No. 11-1471
about warning letters or “483”s, and the answer con-
cerned only warning letters.
In industry jargon, a “483” is an observation by an
inspector, providing information about “significant
objectionable conditions” (not serious enough to merit a
warning or any formal action by the agency) that the
inspector believes will be useful to the company.
The shorthand “483” derives from the fact that these
observations are recorded on the FDA’s Form 483. As
the questioner remarked, it might take time for any
warning or Form 483 to be prepared and transmitted
after an inspection. But inspectors often make observa-
tions verbally with written follow-up, and the questioner
was interested in this possibility. The complaint alleges
that an inspector at Dover made eight verbal 483 observa-
tions to the plant’s managers during a nine-day visit
that ended on January 29, 2008, the day of the conference
call (which began at 8 A.M.). It is not clear how quickly
these 483 observations reached Zimmer’s CEO. Only one
of the eight concerned quality control; others dealt with
recordkeeping and a recall that occurred in 2006. At all
events, it is hard to call a truthful answer to a com-
pound question “fraud.”
Oral exchanges are less precise than written ones.
Dvorak did not know what question was coming, had to
answer off the cuff, and did not have an opportunity
to review the question and edit his answer before
the next question was posed. This question mentioned
warnings first, and Dvorak said that Zimmer had not
received any. The questioner could have followed up

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No. 11-1471 9
about 483 observations, but didn’t. In the language of
Tellabs, nothing here supports an inference of scienter
that is “cogent and at least as compelling as any
opposing inference of nonfraudulent intent.” The worst
one could say about Zimmer’s answer is that it was
evasive, which is short of fraudulent. Cf. Bronston v.
United States, 409 U.S. 352 (1972) (evasive answer cannot
be basis of a perjury conviction).
Plaintiffs contend that we should infer scienter
because Dvorak and other top managers had an incen-
tive to make Zimmer look good in order to keep their
jobs, improve their bonuses, and increase the value of
their stock options. This is too generic to satisfy Tellabs.
A similar assertion could be made about every firm in
the world, but the fact that managers benefit from
higher stock prices does not imply that any particular
manager committed fraud. Quite the contrary. Managers
usually do best when a firm has long-term success. Those
who boost prices fraudulently for six months or so—as
plaintiffs say Dvorak and Zimmer’s other top managers
did—and then see market capitalization decline, may
find themselves on the street, and their stock options
won’t vest. If, as plaintiffs maintain, Dvorak and other
managers told a series of lies during the first half of
2008 about one plant and one product that together
produced less than 10% of the firm’s income (Zimmer
says that it was only 2% of global revenue and 3.6% of
the year’s profit), and affected earnings by only 15¢ a
share, they were putting their fortunes and careers at
stake in exchange for very little return. This aspect of

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10 No. 11-1471
plaintiffs’ arguments thus undermines, rather than
strengthens, the inference of scienter.
At any given time, one or another product of a drug
or medical-device producer with a portfolio of thousands
(Zimmer has more than 130,000 unique product codes)
is harder to make or less successful than hoped. Quality-
control issues at pharmaceutical and medical-device
producers are endemic, as customers and regulators
always want higher quality even though investors want
only “enough” quality. Investing beyond the point of
diminishing returns injures rather than helps investors;
competent managers will do just what Zimmer’s were
alleged to have done and take a beady-eyed view of
proposals to invest tens of millions in new capital equip-
ment at every plant encountering problems that might
be solved more cheaply. The allegations of this com-
plaint concern the problems Zimmer faced in 2008; in
a different year the headaches would have come from
a different plant or a different product, but the fact
that these particular problems occurred—and that infor-
mation came out over time, as more news accumu-
lated—does not imply that any manager was lying to
investors.
Plaintiffs point to many other supposedly false state-
ments and a host of detail that supposedly shows that
one or another statement was knowingly false. The
district court’s two lengthy opinions address all of these
other statements. We have covered only the high-
lights—but, because these highlights are plaintiffs’ stron-
gest arguments, there is no need to fill the Federal

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No. 11-1471 11
Reporter with the rest. We agree with the way the dis-
trict court addressed them, and its judgment is
AFFIRMED.
5-21-12

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