Court Opinion

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Opinions of the United
2007 Decisions                                                                                                             States Court of Appeals
                                                                                                                              for the Third Circuit

7-23-2007

McCabe v. Ernst Young
Precedential or Non-Precedential: Precedential

Docket No. 06-1318

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                             PRECEDENTIAL

    UNITED STATES COURT OF APPEALS
         FOR THE THIRD CIRCUIT

               No. 06-1318

             DANIEL McCABE;
 RUSSELL E. McCABE; DAVID MOTOVIDLAK,
                                 Appellants

                   v.

           ERNST & YOUNG, LLP;
     NICHOLAS R. TOMS, a/k/a Nic Toms;
   HUGO BIERMANN; GREGORY THOMAS;
     EDWARDSTONE & COMPANY, INC;
  WAYNE CLEVINGER; JOSEPH ROBINSON;
  MIDMARK CAPITAL, LP; OTTO LEISTNER;
    BUNTER B.V.I. LTD.; GEORGE POWCH;
  STEPHEN M. DUFF; CLARK ESTATES, INC.;
   RAYMOND BROEK; DONALD ROWLEY;
DOUGLAS L. DAVIS; BARBARA H. MARTORANO;
             JACQUI GERRARD
      On Appeal from the United States District Court
             for the District of New Jersey
           D.C. Civil Action No. 01-cv-5747
             (Honorable William H. Walls)

                 Argued January 31, 2007

        Before: SCIRICA, Chief Judge, FUENTES
            and CHAGARES, Circuit Judges

                   (Filed July 23, 2007)

STEVEN M. KAPLAN, ESQUIRE (ARGUED)
Kaplan & Levenson
630 Third Avenue
New York, New York 10017
      Attorney for Appellants

BRUCE M. CORMIER, ESQUIRE (ARGUED)
Ernst & Young
1l01 New York Avenue, N.W.
Washington, D.C. 20005
       Attorney for Appellee Ernst & Young

                            2
                 OPINION OF THE COURT

SCIRICA, Chief Judge.

       The principal issue in this securities fraud action against
auditors Ernst & Young, LLP is whether plaintiffs presented
sufficient evidence of loss causation to survive a summary
judgment motion. We will affirm the grant of summary
judgment.

                                I.

                               A.

       Plaintiffs Daniel McCabe, Russell McCabe, and David
Motovidlak (“the ATS Plaintiffs”) had been shareholders and
officers of Applied Tactical Systems, Inc., a closely-held supply
chain management company that was acquired by Vertex
Interactive, Inc., a publicly-traded supply chain management
company. The Merger Agreement was negotiated between
October and December 2000, during which period Vertex’s
stock price fluctuated between $7.66 and $18.50 per share. The
Merger Agreement provided the ATS Plaintiffs would exchange
all their shares of ATS stock for three million unregistered
shares of Vertex common stock, as well as stock options.
Vertex promised to obtain an effective registration of the three
million shares and the shares underlying the options “within
fifteen (15) days of such time as financial results covering at

                                3
least thirty (30) days of combined operations of Vertex and ATS
have been published by Vertex . . . but in any event no later than
May 14, 2001.” The unregistered shares were restricted from
resale until either (1) their registration or (2) expiration of a one-
year “lockup” period established by SEC regulations, 17 C.F.R.
§ 230.144(d)(1) (2000), whichever occurred first.

       The Merger Agreement was signed on December 11,
2000. On that date Vertex’s closing stock price was $8.69 per
share. The merger was scheduled to close on December 29,
2000. In the Merger Agreement, Vertex made several
representations, including that: (1) there were no pending or
threatened legal claims against it that could reasonably be
expected to have a material adverse effect on Vertex’s financial
performance or the merger; (2) all of its SEC filings contained
no untrue statements and omitted no material fact necessary to
make the filings not misleading; (3) the financial statements
included in its SEC filings were prepared in accordance with
Generally Accepted Accounting Principles (“GAAP”) and fairly
presented Vertex’s financial position; and (4) since the date of
its SEC filings, Vertex’s financial position had undergone no
material change.

      Between the merger’s signing and closing dates, Vertex
informed the ATS Plaintiffs that Ernst & Young was auditing
Vertex’s financial statements for the year ending September 30,
2000. The audited financial statements and Ernst & Young’s
unqualified opinion were scheduled to be published in Vertex’s
annual report (to be filed with its SEC Form 10-K), before the

                                  4
December 29 closing date. Ernst & Young knew the ATS
Plaintiffs would be reading and relying on the audit results
before deciding whether to close the merger. On December 19,
Ernst & Young issued an unqualified audit opinion on Vertex’s
financial statements for the year ending September 30, 2000.
The audit opinion certified that Vertex’s financial statements
were prepared in accordance with GAAP, audited in accordance
with Generally Accepted Auditing Standards (“GAAS”), and
fairly presented Vertex’s financial position in all material
respects.

        The merger closed as scheduled on December 29, 2000.
On that date Vertex’s stock price had dropped to $6.25 per
share. Subsequently, Vertex failed to meet its earnings and
revenue targets by a wide margin, and had difficulty integrating
ATS and other acquired companies. Vertex failed to register the
ATS Plaintiffs’ shares by the promised deadline of May 14,
2001 (by which time Vertex’s stock price had declined to $2.48
per share). The parties disputed the cause of Vertex’s financial
problems. Vertex contended that “as a result of the dramatic
downturn in high tech stocks and the generally weak economy,
[it] found itself in a ‘no growth’ market.” McCabe v. Ernst &
Young, No. 01-5747, 2006 WL 42371, at *2 (D.N.J. Jan. 6,
2006). The ATS Plaintiffs blamed a variety of factors,
specifically “Vertex’s (a) failure to pay its vendors resulting in
the inability to fulfill customer orders; (b) failure to properly
manage its expenses; (c) breach of its various agreements to
make payments and to register the shares of stock used as

                                5
consideration in various acquisitions; and (d) failure to properly
manage its business.” Id.

       Because of Vertex’s registration default, the ATS
Plaintiffs were unable to begin selling their Vertex shares until
early 2002, after the one-year SEC lockup period had expired.
By June 28, 2002, they had sold all their Vertex shares (which
were never registered) in private transactions, realizing gross
proceeds of approximately $940,000. Vertex’s final stock price,
immediately before its de-listing, was $0.07 per share.

        The ATS Plaintiffs alleged it was only after the merger
closed that they discovered Vertex had defaulted on similar
registration obligations in the past; specifically, Vertex had
failed timely to register with the SEC: (1) 1.3 million Vertex
shares used as consideration for its acquisition of
Communication Services International, Inc.; (2) 400,000 Vertex
shares used as consideration for its acquisition of Positive
Development, Inc.; and (3) 3 million shares in a private
placement. The ATS Plaintiffs also alleged it was only after
closing that they learned that former shareholders of
Communication Services International and Positive
Development had threatened to sue both Vertex and Ernst &
Young over the registration defaults.1 Additionally, the ATS

        1
          Former shareholders of Communication Services
International and Positive Development had threatened Vertex
with litigation over its registration defaults at least as early as
November 2000. Former shareholders of Communication

                                6
Plaintiffs allegedly only then discovered that the nearly five
million shares involved in Vertex’s prior registration defaults
were first exposed to market sales only when they were
eventually registered in February 2001 (five months after
negotiation of the price Vertex would pay for ATS) rather than
in September 2000 (before the negotiations). The ATS
Plaintiffs alleged this meant Vertex was “exposed to over $25
million in related contingent liabilities” that they were unaware
of when they agreed to the merger. ATS Br. 10.

Services International filed suit against Vertex in United States
District Court for the District of New Jersey on September 7,
2001, alleging breach of contract, fraud, and negligent
misrepresentation. Compl., Henley et al. v. Vertex Interactive
et al., No. 01-4275 (D.N.J. Sept. 7, 2001). Communication
Services International’s former president stated in a deposition
that the plaintiffs reached a settlement with Vertex “[t]owards
the end of January . . . 2002 . . . .” (J.A. 558.) Former
shareholders of Positive Development filed suit against Vertex
in California Superior Court for the County of Los Angeles on
November 20, 2001, alleging fraud, promissory fraud, breach of
fiduciary duty, and negligent misrepresentation. Am. Compl. ¶
123, McCabe, No. 01-5747 (D.N.J. Mar. 21, 2002). Vertex
disclosed the Positive Development lawsuit in a January 25,
2002, Form 10-K filing with the SEC. Positive Development’s
former president stated in a deposition that the plaintiffs reached
a settlement agreement with Vertex at some point, but its terms
were confidential.

                                7
       Neither Vertex’s financial statements nor Ernst &
Young’s audit opinion (nor any of Vertex’s prior SEC filings)
disclosed that Vertex had defaulted on prior registration
obligations or had been threatened with litigation as a result.
The ATS Plaintiffs alleged Ernst & Young had known of these
prior registration defaults and threatened lawsuits, but
consciously decided not to disclose them “in plain violation of
GAAP and GAAS.” Id. at 11. The ATS Plaintiffs also alleged
that, had they known of the prior registration defaults and
associated threats of litigation, they would not have closed the
merger. In a deposition, the Ernst & Young partner in charge of
the Vertex audit conceded that if he had been in the ATS
Plaintiffs’ position, he, too, would have wanted to have that
information before deciding whether to close the merger.

                              B.

       After unsuccessful arbitration with Vertex, the ATS
Plaintiffs sued both Vertex and Ernst & Young in December
2001. After negotiating a $4 million settlement with Vertex in
November 2002, the ATS Plaintiffs proceeded with the three
causes of action against Ernst & Young in their Amended
Complaint: violation of § 10(b) of the Securities Exchange Act
of 1934; common law fraud; and negligent misrepresentation.
All three claims were based on the same alleged omissions by
Ernst & Young—that Vertex had previously failed to register
stock and had been threatened with lawsuits as a result. The
ATS Plaintiffs contended this information should have been
disclosed in Vertex’s 2000 financial statements, and that they

                               8
would not have closed the merger had they known it. Both
parties presented expert testimony on whether the alleged
omissions had actually caused the ATS Plaintiffs’ economic
loss.

        Ernst & Young submitted deposition testimony and an
expert report from University of Pittsburgh economics professor
Kenneth Lehn that disclosure of Vertex’s prior registration
defaults had no material effect on the price of Vertex stock, and
so the ATS Plaintiffs had incurred no damages as a result of the
omissions. Lehn stated that the market did not become aware of
any prior registration defaults by Vertex (or associated threats of
litigation) until January 2002, when Vertex publicly disclosed
that an action had been commenced against it by former
shareholders of Positive Development. He opined that, even
then, the price of Vertex stock did not change by a statistically
significant amount, demonstrating investors did not consider the
information material. “In other words,” the District Court
summarized Lehn’s view, the ATS Plaintiffs “suffered zero
damages as a result of the alleged fraud.” McCabe, 2006 WL
42371, at *3. Lehn also stated the ATS Plaintiffs could have
realized between $4.9 and $5.7 million had they been able to sell
their Vertex shares by the May 14, 2001, registration deadline.
The ATS Plaintiffs contended this was tantamount to an
admission that they suffered an economic loss of at least $4.76
million (the estimated May 14, 2001, sale price minus the
$940,000 the ATS Plaintiffs were eventually able to obtain from
the sale of their Vertex shares) because of Ernst & Young’s

                                9
omission. But the District Court concluded Lehn had done
nothing more than calculate what may have occurred by a date
certain, rather than attribute any responsibility to Ernst &
Young.

       The ATS Plaintiffs’ expert, Fordham University finance
professor John Finnerty, approached the question of loss
causation in a different manner: using two common valuation
methodologies, he estimated that ATS had an intrinsic value of
between $34.49 million and $47.78 million at the time of the
merger’s closing. In his expert report, Finnerty noted the
transaction with Vertex could be assigned an implied value of
$26 million (because the ATS Plaintiffs were to receive three
million shares of Vertex common stock, which was trading at
$8.69 per share on the date the Merger Agreement was signed).
But in his subsequent deposition he stated: “I was asked to value
ATS, and that’s what I valued. Nothing in my report implies
anything about the value of the Vertex shares. There’s an
implied value which I cite. I valued ATS.” Finnerty stated he
had no opinion on the value of either the shares or stock options
the ATS Plaintiffs received, but that “the McCabes sold the
company too cheaply. I think it was worth more than the price
they received.” But he added: “I think that if I were to value all
of those components [of the consideration the ATS Plaintiffs
received] and add them up, I believe I would get a value within
the [$34.49–$47.78 million] range I’ve estimated. I didn’t try to
do that, but I believe that to be the case.”

       Following discovery, Ernst & Young moved for summary

                               10
judgment on all three causes of action. The District Court
granted the motion, finding the ATS Plaintiffs had failed to
create a genuine issue of material fact as to loss causation. It
stated the facts alleged by the ATS Plaintiffs “suggest
transaction causation, not loss causation.” McCabe, 2006 WL
42371, at *8. The ATS Plaintiffs timely appealed.

                               II.

                               A.

       The District Court had federal question jurisdiction under
28 U.S.C. § 1331 over the ATS Plaintiffs’ Securities Exchange
Act § 10(b) claim and supplemental jurisdiction under 28 U.S.C.
§ 1367 over their related fraud and negligent misrepresentation
claims. We have jurisdiction under 28 U.S.C. § 1291.

                               B.

        We exercise de novo review of the District Court’s grant
of summary judgment. See, e.g., Slagle v. County of Clarion,
435 F.3d 262, 263 (3d Cir. 2006). Summary judgment is proper
where the moving party has established “there is no genuine
issue as to any material fact” and “the moving party is entitled
to judgment as a matter of law.” Fed. R. Civ. P. 56(c). To
demonstrate that no issue is in dispute as to any material fact,
the moving party must show that the non-moving party has
failed to establish one or more essential elements of its case on
which the non-moving party has the burden of proof at trial.
Celotex Corp. v. Catrett, 477 U.S. 317, 322–23 (1986). To

                               11
survive the motion, the non-moving party must show specific
facts such that a reasonable jury could find in its favor. See Fed.
R. Civ. P. 56(e). “While the evidence that the non-moving party
presents may be either direct or circumstantial, and need not be
as great as a preponderance, the evidence must be more than a
scintilla.” Hugh v. Butler County Family YMCA, 418 F.3d 265,
267 (3d Cir. 2005) (citing Anderson v. Liberty Lobby, Inc., 477
U.S. 242, 251 (1986)). A court should view the facts in the light
most favorable to the non-moving party and draw all reasonable
inferences in that party’s favor. Id.

       In interpreting state law in the absence of a controlling
decision from a state’s highest court, “it is the duty of the
[federal court] to ascertain from all the available data what state
law is and apply it.” West v. AT&T Co., 311 U.S. 223, 237
(1940).

                                III.

        Section 10(b) of the Securities Exchange Act forbids (1)
the “use or employ[ment of] . . . any manipulative or deceptive
device or contrivance,” (2) “in connection with the purchase or
sale of any security,” and (3) “in contravention of [SEC] rules
and regulations.” 15 U.S.C. § 78j(b) (2006). SEC regulations,
in turn, make it unlawful “[t]o make any untrue statement of a
material fact or to omit to state a material fact necessary in order
to make the statements made, in the light of the circumstances
under which they were made, not misleading” in connection
with the purchase or sale of any security. 17 C.F.R. § 240.10b-

                                12
5(b) (2006) (“Rule 10b-5”).

        The Supreme Court has identified the six required
elements of a Securities Exchange Act § 10(b) private damages
action:

       (1) a material misrepresentation (or omission);
       (2) scienter, i.e., a wrongful state of mind;
       (3) a connection with the purchase or sale of a
       security;
       (4) reliance, often referred to in cases involving
       public securities markets (fraud-on-the-market
       cases) as “transaction causation”;
       (5) economic loss; and
       (6) “loss causation,” i.e., a causal connection
       between the material misrepresentation and the
       loss.

Dura Pharms., Inc. v. Broudo, 544 U.S. 336, 341–42 (2005)
(citations omitted). See also In re Suprema Specialties, Inc. Sec.
Litig., 438 F.3d 256, 275 (3d Cir. 2006). The common law loss
causation element is codified as a requirement in the Private
Securities Litigation Reform Act (“PSLRA”): “the plaintiff shall
have the burden of proving that the act or omission of the
defendant . . . caused the loss for which the plaintiff seeks to
recover damages.” 15 U.S.C. § 78u-4(b)(4) (2006). See also
Berckeley Inv. Group, Ltd. v. Colkitt, 455 F.3d 195, 208 n.15 (3d
Cir. 2006).

                               A.

                               13
       We have stated that “[u]nder Rule 10b-5 causation is
two-pronged.” Newton v. Merrill Lynch, Pierce, Fenner &
Smith, Inc., 259 F.3d 154, 172 (3d Cir. 2001). A plaintiff must
show both: (1) “transaction causation” (or “reliance”), i.e., that
but for the fraudulent misrepresentation or omission, the
investor would not have purchased or sold the security; and (2)
“loss causation,” i.e., that the fraudulent misrepresentation or
omission actually caused the economic loss suffered. Id. at
172–73. In addressing § 10(b) claims, and especially their loss
causation element, we have distinguished between “typical” and
“non-typical” claims. See, e.g., EP MedSystems, Inc. v.
EchoCath, Inc., 235 F.3d 865, 884 (3d Cir. 2000) (“In
considering loss causation, it is important to recognize . . . how
this case differs from the usual securities action.”).2 But we
have consistently required that both transaction causation and
loss causation must be established in § 10(b) cases, and have

   2
    We noted in EP MedSystems, 235 F.3d at 871, that § 10(b)
claims are typically brought in securities actions in which a
plaintiff claims a defendant made material public
misrepresentations or omissions in order to affect the price of its
publicly-traded stock, i.e., to perpetrate “fraud on the market.”
But EP MedSystems and Berckeley involved § 10(b) claims
alleging misrepresentations or omissions that induced another
party into entering a private transaction.          Nevertheless,
Berckeley reaffirms that, fundamentally, the same loss causation
analysis occurs in both typical and non-typical § 10(b) cases.
See infra, Part III.A.

                                14
never allowed the elements to merge.

        “Similar to the concept of proximate cause in the tort
context, loss causation focuses on whether the defendant should
be held responsible as a matter of public policy for the losses
suffered by the plaintiff.” Berckeley, 455 F.3d at 222.3 A §
10(b) plaintiff must show both that (1) the plaintiff entered the
transaction at issue in reliance on the claimed misrepresentation
or omission (transaction causation) and (2) the defendant
misrepresented or omitted the very facts that were a substantial
factor in causing the plaintiff’s economic loss (loss causation).

                                1.

       It is more difficult to categorize the required loss
causation showing in non-typical § 10(b) actions such as this
one than it is in typical § 10(b) actions. In a typical “fraud-on-

   3
    The loss causation requirement limits the circumstances in
which an investor can sue over a failed investment, so that the
individual allegedly responsible for the misrepresentation or
omission does not become an insurer against all the risks
associated with that investment. “Otherwise, for example, a
seller who fraudulently induced a purchase of securities in early
October 1987 would have become an insurer against the
precipitous price decline caused in large part by the market crash
on October 19.” 3 Thomas Lee Hazen, Treatise on the Law of
Securities Regulation § 12.11[3] (5th ed. 2005) [hereinafter
Hazen, Securities Regulation].

                               15
the-market” § 10(b) action, the plaintiff shareholder alleges that
a fraudulent misrepresentation or omission has artificially
inflated the price of a publicly-traded security, with the plaintiff
investing in reliance on the misrepresentation or omission; to
satisfy the loss causation requirement, the plaintiff must show
that the revelation of that misrepresentation or omission was a
substantial factor in causing a decline in the security’s price,
thus creating an actual economic loss for the plaintiff.
Semerenko v. Cendant Corp., 223 F.3d 165, 184–85 (3d Cir.
2000). See also EP MedSystems, 235 F.3d at 884 (collecting
typical § 10(b) cases).

       But in a non-typical § 10(b) action, where the plaintiff
does not simply allege that the price of a publicly-traded security
has been affected, the factual predicates of loss causation fall
into less of a rigid pattern. For example, the plaintiff
corporation in EP Medsystems alleged the defendant corporation
had violated § 10(b) by inducing plaintiff to buy shares in
defendant through misrepresentations about “imminent”
business opportunities that were actually non-existent. 235 F.3d
at 869. We held the plaintiff’s argument it had been “induced
to make an investment of $1.4 million which turned out to be
worthless” was a sufficient allegation of loss causation to
survive a motion to dismiss. Id. at 884. And in Newton, a
putative class of investors sued defendant broker for violating §
10(b) by executing trades at stock prices established by an
industry-wide system rather than on the reasonably available
terms most favorable to plaintiffs. 259 F.3d at 162. We stated

                                16
that the difference between (1) the price at which a trade had
been executed and (2) the price at which it could reasonably
have been executed could be a sufficient showing of loss
causation. Id. at 181 n.24. The ATS Plaintiffs’ § 10(b) claim is
clearly a non-typical one. In return for selling their ATS shares
in a private transaction, they received consideration that
included unregistered shares of and options for Vertex stock.
That the ATS Plaintiffs could not re-sell those shares for a year
unless Vertex registered them further distinguished the ATS
Plaintiffs from the typical purchaser of publicly-traded securities
who claims to have been misled into making the purchase by
fraud on the market.

        In order to satisfy the loss causation requirement in both
typical and non-typical § 10(b) actions, the plaintiff must show
that the defendant misrepresented or omitted the very facts that
were a substantial factor in causing the plaintiff’s economic loss.

                                2.

       The loss causation inquiry asks whether the
misrepresentation or omission proximately caused the economic
loss. See Semerenko, 223 F.3d at 185, 187 (stating “an investor
must . . . establish that the alleged misrepresentations
proximately caused the decline in the security’s value to satisfy
the element of loss causation” and clarifying the loss causation
requirement would not be met where “the misrepresentations
were not a substantial factor”). In EP MedSystems, we
characterized Semerenko’s as “a practical approach, in effect

                                17
applying general causation principles.” 235 F.3d at 884.
Adopting this “practical approach,” we considered the following
loss causation allegations in EP MedSystems: the defendant
medical research and development company had told the
corporate investor plaintiff that contracts between the company
and four prominent corporations to market the company’s new
women’s health products were “imminent,” when in fact the
company had never been on the verge of entering any such
marketing contract; the company had provided the investor with
sales projections (necessarily based on consummation of the
aforementioned contracts) that showed the company would
enjoy liquidity for two years; the statements and sales
projections had induced the investor to purchase 280,000 shares
of the company’s preferred stock for $1.4 million, in the
expectation of profiting from the “imminent” contracts; and the
investor subsequently discovered that, because the “imminent”
contracts were actually non-existent, the company would run out
of operating funds within six months of the investment, which
thus turned out to be worthless. We held the plaintiff’s
allegation of loss causation was sufficient to survive a motion to
dismiss.4

   4
     We emphasized that loss causation “becomes most critical
at the proof stage,” EP MedSystems, 235 F.3d at 884, and also
stated: “Although . . . the allegation that [plaintiff] ‘sustained
substantial financial losses as a direct result of the
aforementioned misrepresentations and omissions on the part of
[defendant]’ could have more specifically connected the

                               18
        In Berckeley, 455 F.3d at 223, another non-typical §
10(b) case, we held the loss causation requirement had not been
satisfied because plaintiff had failed to establish a “direct causal
nexus between the misrepresentation and the plaintiff’s
economic loss.” Plaintiff Colkitt, the chairman and principal
shareholder of a corporation, entered a private agreement to sell
convertible debentures to defendant, an offshore financing
entity: Colkitt would receive $2 million in exchange for forty

misrepresentation to the alleged loss, i.e., investment in a
company with little prospects, when we draw all inferences in
plaintiff’s favor, we conclude that MedSystems has adequately
alleged loss causation,” id. at 885. The procedural posture of
EP MedSystems necessitated a different approach to the loss
causation requirement than here on summary judgment, where
discovery has taken place. See 3 Hazen, Securities Regulation
§ 12.11[3] (“Loss causation issues can be highly factual, thus
frequently precluding judgment on the pleadings.”); see also
Dura, 544 U.S. at 346–47 (holding the plaintiff had not
adequately alleged loss causation and noting that, in the context
of a motion to dismiss, a plaintiff is only required to give a
“‘short and plain statement’ . . . describing the loss caused by
the defendants’ . . . misrepresentations”); Louis Loss & Joel
Seligman, Fundamentals of Securities Regulation 276 (Supp.
2007) (“At its core, Dura is largely a case about pleading. The
Court concluded its analysis by highlighting how little would
have been necessary by the plaintiffs to have effectively pled
this cause of action.”).

                                19
convertible debentures; and in lieu of repayment, the offshore
entity was entitled to convert up to 50% of its debentures into
unregistered shares in the corporation, to be issued by Colkitt.
The number of shares the offshore entity was entitled to obtain
depended on the market price of the corporation’s stock. In the
agreement, the offshore entity warranted that all subsequent
sales of its debentures or shares would be undertaken in
accordance with federal securities law registration requirements.

        Soon after the agreement closed, Colkitt accused the
offshore entity of short-selling in order to deflate the market
price of the corporation’s stock, so that it could obtain more
shares from him upon conversion of its debentures. In
retaliation, when the time came for Colkitt to convert the
unregistered shares and thereby repay his debt, he converted
only a small percentage of the shares the offshore entity
requested, breaching the agreement. Both parties filed suit. One
of Colkitt’s arguments on summary judgment was that he was
justified in not complying with the agreement because the
offshore entity made material misrepresentations in the
agreement to induce Colkitt into entering it, in violation of §
10(b). Specifically, Colkitt contended: securities laws required
the offshore entity to file a registration statement before it could
sell the shares it had purchased from him; the offshore entity
warranted it would comply with securities laws in subsequent
sales of the shares; the offshore entity later sold the still-
unregistered shares; and therefore, because the offshore entity
had intended to do this all along, its representations in the

                                20
agreement that it would comply with applicable securities laws
were misrepresentations.

       In order to establish the loss causation element of his §
10(b) claim, Colkitt contended his shares in the corporation lost
value as a direct and proximate result of the offshore entity’s
misrepresentations. We rejected this argument, noting Colkitt
had (1) himself alleged that the corporation’s stock price had
decreased because of short-selling by the offshore entity, and (2)
presented no evidence connecting the stock price to the
misrepresentations.

       Colkitt’s complaint asserts that his NMFS share
       holdings lost value because of Berckeley’s alleged
       misrepresentation. We disagree. Based on the
       record before us, there is absolutely no connection
       between the price decrease in NMFS shares and
       Berckeley’s unrelated alleged misrepresentation
       as to its intent to comply with offshore
       registration requirements. . . . We hold that
       Colkitt failed to set forth sufficient facts that the
       precipitous loss in value in his NMFS share
       holdings was proximately caused by Berckeley’s
       alleged misrepresentation. There is no evidence
       in the record that the decline in the price per share
       of NMFS stock was connected in any manner to
       alleged misrepresentations regarding Berckeley’s
       intent to evade Section 5 registration requirements
       ....

                                21
Berckeley, 455 F.3d at 223–24.5

                               3.

       The Court of Appeals for the Fifth Circuit has offered a
concise statement of what is required to show that a
misrepresentation or omission proximately caused an economic
loss:

       The plaintiff must prove . . . that the untruth was
       in some reasonably direct, or proximate, way
       responsible for his loss. The [loss] causation
       requirement is satisfied in a Rule 10b-5 case only
       if the misrepresentation touches upon the reasons
       for the investment’s decline in value. If the
       investment decision is induced by misstatements

  5
   Colkitt made two additional § 10(b) claims, contending that,
as a direct and proximate result of the offshore entity’s
misrepresentations, he suffered damages in the form of (1) the
sale of shares in the corporation to the offshore entity at a 17%
discount from their market value and (2) the possible
requirement to pay interest and penalties on the outstanding
debentures under the agreement. We remanded these claims
because record evidence on loss causation was “unclear” as to
them. Berckeley, 455 F.3d at 223 n.25. But we noted the
remand was “only a Pyrrhic victory for Colkitt, who will not be
able to recover his largest category of damages from Berckeley,
which is the drop in stock prices . . . .” Id. at 224 n.27.

                               22
       or omissions that are material and that were relied
       on by the claimant, but are not the proximate
       reason for his pecuniary loss, recovery under the
       Rule is not permitted.

Huddleston v. Herman & MacLean, 640 F.2d 534, 549 (5th Cir.
1981), aff’d in part and rev’d in part on other grounds, 459 U.S.
375 (1983). See also Berckeley, 455 F.3d at 222 (“[T]he loss
causation element requires the plaintiff to prove ‘that it was the
very facts about which the defendant lied which caused its
injuries.’”) (quoting Caremark, Inc. v. Coram Healthcare Corp.,
113 F.3d 645, 648 (7th Cir. 1997)). This approach has been
advocated by some scholars, as well:

       [I]f false statements are made in connection with
       the sale of corporate stock, losses due to a
       subsequent decline in the market, or insolvency of
       the corporation brought about by business
       conditions or other factors in no way relate[d] to
       the representations will not afford any basis for
       recovery. It was only where the fact misstated
       was of a nature calculated to bring about such a
       result that damages for it can be recovered.

W. Page Keeton et al., Prosser & Keeton on the Law of Torts §
110 (5th ed. 1984). See also Dane A. Holbrook, Measuring and
Limiting Recovery Under Rule 10b-5: Optimizing Loss
Causation and Damages in Securities Fraud Litigation, 39 Tex.
J. Bus. L. 215, 260–62 (2003) (“The materialization of risk

                               23
approach requires plaintiffs to prove that the materialization of
an undisclosed risk caused the alleged loss. . . . [C]ourts
utilizing this approach will not compensate a plaintiff who
assumes the risk of an intervening factor. . . . [This] approach
most appropriately balances the interests of plaintiffs and
defendants.”).

        We believe this approach is consistent with our loss
causation jurisprudence in Berckeley, Newton, and EP
Medsystems. Therefore, to make the requisite loss causation
showing, the ATS Plaintiffs must show that Vertex’s prior
registration defaults and consequent litigation risks (the very
facts Ernst & Young allegedly omitted) were a substantial factor
in causing the ATS Plaintiffs’ economic loss.6

  6
    This standard is consistent with the district court cases cited
in the ATS Plaintiffs’ brief. In Rosen v. Communication
Services Group, Inc., 155 F. Supp. 2d 310 (E.D. Pa. 2001),
plaintiffs claimed they were induced to purchase convertible
debentures from defendant in reliance on defendant’s repeated
promises that its company would go public (a “liquidity event”
that would have converted the debentures into common stock);
plaintiffs attributed their damages to defendant’s failure to go
public (the very fact misrepresented), and the court, relying on
EP MedSystems, found this a sufficient allegation of loss
causation to overcome a motion to dismiss, id. at 321. See also
In re DaimlerChrysler AG Sec. Litig., 294 F. Supp. 2d 616,
629–30 (D. Del. 2003) (denying summary judgment because

                                24
                                B.

       Before addressing the adequacy of the ATS Plaintiffs’
loss causation showing here, we address two points of their
argument that warrant further discussion.

                                1.

        First, the ATS Plaintiffs rely on EP MedSystems to
contend that “plaintiffs must prove . . . that [Ernst & Young’s]
misstatements and omissions . . . were causally linked to . . . the
loss of ownership of ATS.” ATS Br. 22. Their argument is that
they can satisfy the loss causation requirement by showing a
causal nexus between (1) Ernst & Young’s alleged omissions
and (2) the ATS Plaintiffs’ decision to close the merger (which
is when they gave up their ATS shares). But by focusing only
on whether the ATS Plaintiffs were induced into the transaction
by Ernst & Young’s alleged omissions, this argument
impermissibly conflates loss causation with transaction
causation, rendering the loss causation requirement meaningless.
The ATS Plaintiffs essentially admit this is the approach they
advocate: “Courts have acknowledged that where the omission
of collateral facts fraudulently induces a transaction that would

evidence created a genuine issue as to whether defendant’s
mischaracterization of a transaction as being a merger of equals
rather than an acquisition prevented plaintiff from obtaining
control premium it would have received had the transaction been
properly characterized).

                                25
not have otherwise taken place, as in this case, loss causation
and transaction causation ‘effectively merge.’” Id. at 20 n.7.

        The Supreme Court recently reiterated that a § 10(b)
plaintiff must show both loss causation and transaction
causation. Dura, 544 U.S. at 341–42. And even in non-typical
§ 10(b) cases, where we have called for a practical approach to
loss causation, this Court has consistently distinguished loss
causation from transaction causation: we have required both loss
causation and transaction causation to be established, and have
analyzed them separately. See, e.g., Newton, 259 F.3d at 174–77
(analyzing transaction causation separately from loss causation);
EP MedSystems, 235 F.3d at 882–83 (same).7 This is because

   7
    The Courts of Appeals for the Second and Ninth Circuits
have held that, in the limited circumstance of a defendant broker
fraudulently inducing a plaintiff investor to purchase securities
in order to “churn” plaintiff’s portfolio and generate
commissions, plaintiff need not show loss causation to make a
§ 10(b) claim, as long as the transaction causation requirement
is met: “The plaintiff . . . should not have to prove loss causation
where the evil is not the price the investor paid for a security,
but the broker’s fraudulent inducement of the investor to
purchase the security.” Hatrock v. Edward D. Jones & Co., 750
F.2d 767, 773 (9th Cir. 1984). In Hatrock, a stock broker
repeatedly made misrepresentations about upcoming corporate
takeovers, encouraging clients to engage in repeated sale and re-
acquisition of certain stocks (whose value steadily declined)

                                26
the two prongs of causation in § 10(b) cases are rooted in
traditional common law principles, and serve different purposes:

purely so that the broker could generate commissions. The court
stated: “the customer may hold the broker liable for churning
without proving loss causation.” Id. See also Chasins v. Smith,
Barney & Co., 438 F.2d 1167, 1173 (2d Cir. 1970) (“The issue
is not whether Smith, Barney was actually manipulating the
price on Chasins or whether he paid a fair price, but rather the
possible effect of disclosure of Smith, Barney’s market-making
role on Chasins’ decision to purchase at all on Smith, Barney’s
recommendation. It is the latter inducement to purchase by
Smith, Barney without disclosure of its interest that is the basis
of this violation . . . .”). The Ninth Circuit has emphasized the
narrowness of this exception. See Levine v. Diamanthuset, Inc.,
950 F.2d 1478, 1486 n.7 (9th Cir. 1991) (“We decline to [apply
the Hatrock exception here] because the exception appears
capable of swallowing the rule. We therefore view the Hatrock
exception as limited to the facts of that case, which involved
churning of trading accounts by brokers.”); see also Bastian v.
Petren Res. Corp., 681 F. Supp. 530, 535 (N.D. Ill. 1988) (citing
Hatrock and Chasins and stating that “the courts which have
rejected a ‘loss causation’ requirement have done so in cases
involving a particular and special form of § 10(b)
violation—stock broker ‘churning’ of client accounts”). We
cited Hatrock in dicta in Berckeley, but this Court has never
found such an exception applicable.

                               27
       It must be remembered that, as in other areas of
       the law, causation embodies two distinct
       concepts: (1) cause in fact and (2) legal cause.
       Legal cause is frequently dealt with in terms of
       proximate cause. Cause-in-fact questions are
       frequently stated in terms of the sine qua non rule:
       but for the act or acts complained of, the injury
       would not have occurred. Legal cause represents
       the law’s doctrinal basis for limiting liability even
       though cause in fact may be proven. . . .
       Causation in securities law involves the same
       analysis of cause in fact and legal cause that was
       developed under the common law.

3 Thomas Lee Hazen, Treatise on the Law of Securities
Regulation § 12.11[1] (5th ed. 2005). See also Louis Loss &
Joel Seligman, Fundamentals of Securities Regulation 276
(Supp. 2007) (“The Supreme Court decision in Dura was
notable for its close reliance on common law concepts . . . .”).

        We have never suggested that the loss causation inquiry
may “effectively merge” with the transaction causation inquiry.
In Berckeley (a non-typical § 10(b) decision) we stated that
“[l]oss causation is a more exacting standard” than transaction
causation. 455 F.3d at 222. That is because “‘[t]he loss
causation inquiry typically examines how directly the subject of
the fraudulent statement caused the loss, and whether the
resulting loss was a foreseeable outcome of the fraudulent
statement.’” Id. (quoting Suez Equity Investors, L.P. v. Toronto-

                                28
Dominion Bank, 250 F.3d 87, 96 (2d Cir. 2001)) (alteration in
Berckeley). “[T]he loss causation element requires the plaintiff
to prove ‘that it was the very facts about which the defendant
lied which caused its injuries.’” Id. (quoting Caremark, 113
F.3d at 648).

       The ATS Plaintiffs rely on Marbury Management, Inc. v.
Kohn, 629 F.2d 705 (2d Cir. 1980), in which investors sued a
brokerage house for violating § 10(b) after they had purchased
and retained securities (whose value subsequently declined) on
the advice of a trainee who misrepresented himself as a licensed
broker and portfolio management specialist. The value of the
securities did not decline because of the trainee’s
misrepresentation, but the Court of Appeals for the Second
Circuit nevertheless held that the plaintiffs had satisfied the loss
causation requirement. The majority wrote that, though the case
was “not one in which a material misrepresentation of an
element of value intrinsic to the worth of the security is shown
to be false,” the misrepresentation nevertheless proximately
caused plaintiffs’ economic loss, because it was foreseeable that
the trainee’s false credentials would have induced them to
purchase and retain the stocks he recommended despite
“misgivings prompted by the market . . . .” Id. at 708. The
dissent, however, wrote that the loss causation requirement had
not been met:

              In straining to reach a sympathetic result,
       the majority overlooks a fundamental principle of
       causation which has long prevailed under the

                                29
       common law of fraud and which has been applied
       to comparable claims brought under the federal
       securities acts. This is, quite simply, that the
       injury averred must proceed directly from the
       wrong alleged and must not be attributable to
       some supervening cause. This elementary rule
       precludes recovery in the case at bar since Kohn’s
       misrepresentations as to his qualifications as a
       broker in no way caused the decline in the market
       value of the stocks he promoted.

Id. at 716–17 (Meskill, J., dissenting). District courts within this
Circuit have identified the majority opinion in Marbury
Management as an outlier inconsistent with our precedents, and
have instead followed Judge Meskill’s dissent.8

  8
    See Edward J. DeBartolo Corp. v. Coopers & Lybrand, 928
F. Supp. 557, 562 (W.D. Pa. 1996) (citing Marbury
Management for the minority view that no showing of loss
causation is required where a showing of transaction causation
has been made and citing Judge Meskill’s dissent as providing
the “rationale for requiring loss causation”); Hartman v. Blinder,
687 F. Supp. 938, 943 n.5 (D.N.J. 1987) (stating Marbury
Management “found loss causation in a case where the facts
would seem to support only a finding of transaction causation”
and that “[t]he ‘vehement dissent’ of Judge Meskill has been
lionized”); In re Catanella and E.F. Hutton & Co. Sec. Litig.,
583 F. Supp. 1388, 1417 (E.D. Pa. 1984) (“I find the view

                                30
        To the extent Marbury Management conflates the loss
causation and transaction causation requirements in § 10(b)
cases, it is contrary to our jurisprudence and, more importantly,
to the Supreme Court’s recent decision in Dura. See Dura, 544
U.S. at 341–42 (stating a § 10(b) claim’s “basic elements”
include both transaction causation and loss causation). We also
note the Court of Appeals for the Second Circuit has apparently
disavowed this aspect of Marbury Management. In Lentell v.
Merrill Lynch & Co., 396 F.3d 161, 172 (2d Cir. 2005), the
court began its discussion of loss causation by stating: “[i]t is
long settled that a securities-fraud plaintiff must prove both
transaction and loss causation.” In order to establish loss
causation, it said, “‘a plaintiff must allege . . . that the subject of
the fraudulent statement or omission was the cause of the actual
loss suffered,’ i.e., that the misstatement or omission concealed
something from the market that, when disclosed, negatively
affected the value of the security.” Id. at 173 (quoting Suez
Equity, 205 F.3d at 95) (alteration in Lentell). The court stated
that its cases “require both that the loss be foreseeable and that
the loss be caused by the materialization of the concealed risk,”
id., and cited Marbury Management for the contrary proposition
that an “allegation that fraud induced [an] investor to make an

articulated by Judge Meskill . . . to be logical and consistent
with the definition of loss causation. A contrary view would
render meaningless the distinction between transaction and loss
causation, thereby writing the proximate cause requirement out
of a section 10(b) cause of action.”).

                                  31
investment and to persevere with that investment [was]
sufficient to establish loss causation,” id. at 174. As two
commentators noted, the Second Circuit thus “appeared
implicitly to overrule the long-controversial opinion in Marbury
Management[,] dismissing it with a ‘but see’ citation at the end
of its analysis, and pointedly noting that ‘[w]e follow the
holdings of Emergent Capital, Castellano, and Suez
Equity’—conspicuously omitting Marbury.”                   M artin
Flumenbaum & Brad S. Karp, Loss Causation in the Research
Analyst Cases (and Beyond), N.Y.L.J., Jan. 26, 2005, at 3, 7
(quoting Lentell, 396 F.3d at 174) (second alteration in
Flumenbaum & Karp). Even before Lentell, the Second Circuit
had maintained that transaction causation and loss causation
were to be considered separately. See AUSA Life Ins. Co. v.
Ernst & Young, 206 F.3d 202, 216 (2d Cir. 2000) (concluding,
after discussing Marbury Management and case law in the
Circuit subsequent to it, that “[l]oss causation is a separate
element from transaction causation, and, in situations such as the
instant one, loss causation cannot be collapsed with transaction
causation”); see also ATSI Commc’ns, Inc. v. Shaar Fund, Ltd.,
Nos. 05-5132 & 05-2593, 2007 WL 1989336, at *13 (2d Cir.
July 11, 2007) (stating “[a] plaintiff is required to prove both
transaction causation . . . and loss causation” and concluding the
allegation that a seller misrepresented that a fund was an
accredited investor, in order to induce a buyer to enter a
transaction, “might support transaction causation; it fails,
however, to show how the fact that the Shaar Fund was not an
accredited investor caused any loss”). Under Dura, as well as

                               32
under our own jurisprudence, a § 10(b) plaintiff is required to
establish both loss causation and transaction causation.

                                2.

        Second, the ATS Plaintiffs contend “they were damaged
at the moment the ATS Merger closed,” ATS Br. 20, when they
sold a company worth up to almost $48 million in exchange for
consideration whose “quality and value [were] far inferior to
that which was represented to them,” id. at 19. They cite cases
from the Court of Appeals for the Second Circuit in support of
the proposition that “in cases like this, plaintiffs do not have to
demonstrate a post-acquisition decline in market price in order
to establish loss causation.” Id. at 15 n.5.9 Their argument is
that, when the plaintiff has been fraudulently induced to make
an investment that is actually worth less than the plaintiff has
been misled into believing, the loss causation requirement is
satisfied at the moment the transaction occurs.

       As an initial matter, it is not clear that this would be a
viable argument for the ATS Plaintiffs, even if it were a valid
one. As discussed, they presented no evidence of the value of
the consideration they received at the time the merger closed:
Dr. Finnerty estimated the value of what the ATS Plaintiffs gave

  9
   The ATS Plaintiffs’ brief cites Lentell; Castellano v. Young
& Rubicam, Inc., 257 F.3d 171 (2d Cir. 2001); Suez Equity; and
Schlick v. Penn-Dixie Cement Corp., 507 F.2d 374 (2d Cir.
1974).

                                33
up, but expressed no opinion on the value of the Vertex shares
and stock options they got back in return. Thus, there was
insufficient evidence to show an economic loss for the ATS
Plaintiffs at the moment the transaction occurred.10

       More importantly, this argument is inconsistent with
controlling precedent. In Dura, the Supreme Court explicitly
rejected the argument that a § 10(b) plaintiff could satisfy the
loss causation requirement simply by showing that “‘the price on
the date of purchase was inflated because of the
misrepresentation.’” 544 U.S. at 342. Reversing the Court of
Appeals for the Ninth Circuit, the Court explained:

       [T]he logical link between the inflated share
       purchase price and any later economic loss is not
       invariably strong. Shares are normally purchased
       with an eye toward a later sale. But if, say, the
       purchaser sells the shares quickly before the
       relevant truth begins to leak out, the
       misrepresentation will not have led to any loss. If
       the purchaser sells later after the truth makes its

  10
    In fact, Dr. Finnerty arguably suggested the ATS Plaintiffs
had suffered no economic loss at all at the moment the
transaction occurred. He stated in his deposition that, although
he had not tried to calculate the value of all the components of
consideration the ATS Plaintiffs received, he believed that, had
he done so, the figure would have been within the
$34.49–$47.78 million range he estimated ATS to be worth.

                               34
       way into the marketplace, an initially inflated
       purchase price might mean a later loss. But that
       is far from inevitably so. When the purchaser
       subsequently resells such shares, even at a lower
       price, that lower price may reflect, not the earlier
       misrepresentation, but changed economic
       circumstances, changed investor expectations,
       new industry-specific or firm-specific facts,
       conditions, or other events, which taken
       separately or together account for some or all of
       that lower price. . . .
               Given the tangle of factors affecting price,
       the most logic alone permits us to say is that the
       higher purchase price will sometimes play a role
       in bringing about a future loss.

Id. at 342–43. As the Supreme Court noted, this Court, too, has
“rejected the Ninth Circuit’s ‘inflated purchase price’ approach
to proving causation and loss.” Id. at 344 (citing Semerenko,
223 F.3d at 185). The District Court rightly noted that Dura
dealt with a typical fraud-on-the-market § 10(b) claim and is
thus not directly controlling here, because the ATS Plaintiffs
could not simply turn around and re-sell the unregistered Vertex
shares they had received. McCabe, 2006 WL 42371, at *7.11

  11
   See also Livid Holdings Ltd. v. Salomon Smith Barney, Inc.,
416 F.3d 940, 944 n.1 (9th Cir. 2005) (“Although the Supreme
Court’s decision in [Dura] makes clear that in

                               35
Nevertheless, we believe the logic of Dura is persuasive.

        The ATS Plaintiffs also cite a 2001 non-typical § 10(b)
case from the Court of Appeals for the Second Circuit. In Suez
Equity, 250 F.3d at 87, plaintiffs purchased $3 million in
securities in a financing entity on the recommendation of
defendant bank, which was already invested in the financing
entity. Plaintiffs had asked the bank for a background report on
the financing entity’s controlling shareholder, Mallick, but the
bank’s report consciously omitted several negative events in
Mallick’s business career and financial history; instead, the bank
claimed its investigation of Mallick had yielded a positive
picture of his management skills. Within seven weeks of
plaintiffs’ investment, the financing entity suffered a cash flow
crisis from which it never recovered, rendering their investment
worthless. In their complaint, plaintiffs alleged the financing
entity’s collapse (and their consequent loss of the value of their

fraud-on-the-market cases involving publicly traded stocks,
plaintiffs cannot plead loss causation simply by asserting that
they purchased the security at issue at an artificially inflated
price, the Court refused to consider ‘other proximate cause or
loss-related questions.’ Here, at issue is a private sale of
privately traded stock and Livid not only asserted that it
purchased the security at issue at an artificially inflated price,
but pled that the Defendants’ misrepresentation was causally
related to the loss it sustained. Under these circumstances, Dura
is not controlling.”) (quoting Dura, 544 U.S. at 346).

                               36
investment) were attributable to Mallick’s lack of management
skills, the very facts omitted from the background report that
induced plaintiffs to make their investment. The Second Circuit
held that this allegation of loss causation was sufficient to
survive a motion to dismiss:

       The complaint thus alleges that plaintiffs suffered
       a loss at the time of purchase since the value of
       the securities was less than that represented by
       defendants. Plaintiffs have also adequately
       a lle g e d a s e c o n d , re la te d lo s s — th a t
       Mallick’sconcealed lack of managerial ability
       induced SAM Group’s failure.

Id. at 98.

       The ATS Plaintiffs cite Suez Equity to support the
proposition that “in cases like this, plaintiffs do not have to
demonstrate a post-acquisition decline in market price in order
to establish loss causation.” ATS Br. 15 n.5. But the Court of
Appeals for the Second Circuit has clarified Suez Equity,
undercutting the ATS Plaintiffs’ argument:

       Plaintiff’s allegation of a purchase-time value
       disparity, standing alone, cannot satisfy the loss
       causation pleading requirement. . . .
              In its misplaced reliance on Suez Equity,
       appellant overlooks a crucial aspect of that
       decision. . . .
              . . . Plaintiffs [in Suez Equity] claimed that

                                37
       the concealed events reflected the executive’s
       inability to manage debt and maintain adequate
       liquidity.    Plaintiffs also alleged that their
       investment ultimately became worthless because
       of the company’s liquidity crisis and expressly
       attributed that crisis to the executive’s inability to
       manage the company’s finances.
               Thus, the Suez Equity plaintiffs did not
       merely allege a disparity between the price they
       had paid for the company’s securities and the
       securities’ “true” value at the time of the
       purchase. Rather, they specifically asserted a
       causal connection between the concealed
       information—i.e., the executive’s history—and
       the ultimate failure of the venture.
               . . . We did not mean to suggest in Suez
       Equity that a purchase-time loss allegation alone
       could satisfy the loss causation pleading
       requirement. To the contrary, we emphasized that
       the plaintiffs had “also adequately alleged a
       second, related, loss—that [Mallick’s] concealed
       lack of managerial ability induced [the
       company’s] failure.”

Emergent Capital Inv. Mgmt., LLC v. Stonepath Group, Inc.,
343 F.3d 189, 198 (2d Cir. 2003) (quoting Suez Equity, 250 F.3d
38
at 98) (last alteration in Emergent Capital).12

       In EP MedSystems, we used language similar to that of
Suez Equity in describing plaintiffs’ investment as “worthless,”
but we characterized the loss as occurring subsequent to the
transaction rather than contemporaneously with it. Compare

  12
    In clarifying Suez Equity, Emergent Capital apparently also
clarified two earlier Second Circuit case cited by the ATS
Plaintiffs for the proposition that “plaintiffs do not have to
demonstrate a post-acquisition decline in market price in order
to establish loss causation.” ATS Br. 15 n.5. See Castellano,
257 F.3d at 187 (“The rule affirmed in Suez Equity . . . is that
‘plaintiffs may allege transaction and loss causation by averring
both that they would not have entered the transaction but for the
misrepresentations and that the defendants’ misrepresentations
induced a disparity between the transaction price and the true
investment quality of the securities at the time of the
transaction.’”); Schlick, 507 F.2d at 380 (“[Loss causation] is
demonstrated rather easily by proof of some form of economic
damage, here the unfair exchange ratio, which arguably would
have been fairer had the basis for valuation been disclosed.”).
The fourth case cited by the ATS Plaintiffs, Lentell, simply does
not support their argument. See 396 F.3d at 174 (citing
Emergent Capital and stating that “[i]t is not enough to allege
that a defendant’s misrepresentations and omissions induced a
‘purchase-time value disparity’ between the price paid for a
security and its ‘true investment quality.’”).

                               39
Suez Equity, 250 F.3d at 94 (“As a result, plaintiffs’ SAM Group
securities were at the time of acquisition—and are
today—worthless.”) with EP MedSystems, 235 F.3d at 884 (“In
this case, MedSystems claims that as a result of fraudulent
misrepresentations made in personal communications by
EchoCath executives, it was induced to make an investment of
$1.4 million which turned out to be worthless.”) (emphasis
added). Moreover, our discussion in EP MedSystems shows that
the very facts which defendant misrepresented were allegedly a
substantial factor in causing the subsequent loss of plaintiff’s
investment. First, we described the misrepresented future
business opportunities: “DeBernardis represented that EchoCath
had engaged in lengthy negotiations to license its products and
was on the verge of signing contracts with a number of
prominent medical companies . . . to develop and market
EchoCath’s women’s health products.” EP MedSystems, 235
F.3d at 868. Then we connected the subsequent economic loss
to the failure of those future business opportunities to
materialize:

       In the fifteen months after MedSystems made its
       investment, EchoCath failed to enter into a single
       contract or to receive any income in connection
       with the marketing and development of the
       women’s health products. It also did not receive
       the expected payments from license fees. In
       September 1997, EchoCath advised MedSystems
       that EchoCath would run out of operating funds in

                              40
       90 days if new investment in the company was not
       forthcoming.

Id. at 869. This is consistent with the Court of Appeals for the
Second Circuit’s clarification of Suez Equity. See Emergent
Capital, 343 F.3d at 198 (“[T]he Suez Equity plaintiffs did not
merely allege a disparity between the price they had paid for the
company’s securities and the securities’ ‘true’ value at the time
of the purchase. Rather, they specifically asserted a causal
connection between the concealed information . . . and the
ultimate failure of the venture.”).

        The ATS Plaintiffs presented no evidence that the value
of the consideration they received, at the time the merger closed,
was actually lower than they had been misled into believing.
Even if they had presented such evidence, it alone would have
been insufficient to satisfy the loss causation requirement. It is
not enough for § 10(b) plaintiffs to show that a misstatement or
omission induced them to buy or sell securities at a price less
favorable to them than they had been misled into believing.
Rather, they must show that the misstated or omitted facts were
a substantial factor in causing an economic loss actually
incurred by the plaintiffs.

                                C.

        In order to survive summary judgment, then, the ATS
Plaintiffs had to create a genuine issue as to whether Vertex’s
registration defaults and the threats of litigation associated with
them (the very facts omitted by Ernst & Young) were a

                                41
substantial factor in causing the ATS Plaintiffs’ economic loss.
That economic loss was embodied in Vertex’s failure to meet its
earnings and revenues targets following the merger, which
resulted in a swift decline in the price of Vertex stock from
$6.25 when the merger closed (on December 29, 2000) to $0.95
when the ATS Plaintiffs were finally able to begin selling off
their shares (on December 31, 2001). The ATS Plaintiffs were
able to realize only $940,000 on the eventual sale of three
million unregistered shares of Vertex stock.

        To restate the previous discussion, as well as rely on
“general causation principles,” EP MedSystems, 235 F.3d at
884, whether Ernst & Young’s omission was a substantial factor
in causing the ATS Plaintiffs’ economic loss includes
considerations of materiality, directness, foreseeability, and
intervening causes. See Berckeley, 455 F.3d at 222 (“[T]he loss
causation inquiry typically examines how directly the subject of
the fraudulent statement caused the loss, and whether the
resulting loss was a foreseeable outcome . . . . [It] requires the
plaintiff to prove that it was the very facts about which the
defendant lied which caused its injuries.”); Egervary v. Young,
366 F.3d 238, 246 (3d Cir. 2004) (“[A]n intervening act of a
third party, which actively operates to produce harm after the
first person’s wrongful act has been committed, is a superseding
cause which prevents the first person from being liable for the
harm which his antecedent wrongful act was a substantial factor
in bringing about.”) (citing Restatement (Second) of Torts §§

                               42
440–41 (1965)).13

       We agree with the District Court that the factual record
is devoid of sufficient evidence to create a genuine issue as to
loss causation. The ATS Plaintiffs asserted in their counter-
statement of material facts that “[a]mong the reasons for
Vertex’s failure to meet earnings and revenue targets was
Vertex’s . . . breach of its various agreements to make payments
and to register the shares of stock used as consideration for
various acquisitions.” McCabe, 2006 WL 42371, at *9. This
might have been a sufficient allegation of loss causation to
survive a motion to dismiss, as in EP MedSystems. See supra

   13
       It is particularly important for the ATS Plaintiffs to show
that the very facts omitted by Ernst & Young were a substantial
factor in causing the decline in Vertex’s financial fortunes,
because both parties placed Vertex’s performance in the context
of a “general downturn in the economy,” particularly for high-
tech stocks. (J.A. 318.) See Louis Loss & Joel Seligman,
Fundamentals of Securities Regulation 1283–84 (5th ed. 2004)
(“[W]hen the market declines after the published rectification of
a false earning statement that was used in the sale of an
electronics stock, the misrepresentation is not the ‘legal cause’
of the buyer’s loss, or at any rate not the sole legal cause, to the
extent that a subsequent event that had no connection with or the
relation to the misrepresentation caused a market drop—for
example . . . a softening of the market for all electronic stocks .
. . .”) (second emphasis added).

                                43
note 4. But “[t]o survive summary judgment, a party must
present more than just ‘bare assertions, conclusory allegations
or suspicions’ to show the existence of a genuine issue.”
Podobnik v. U.S. Postal Serv., 409 F.3d 584, 594 (3d Cir. 2005)
(quoting Celotex 477 U.S. at 325).

         Whereas Vertex’s expert witness, Dr. Lehn, attempted to
show that the price of Vertex’s stock had not been affected by
the disclosure of Vertex’s registration defaults, the report of Dr.
Finnerty, the ATS Plaintiffs’ expert witness, focused solely on
the value of ATS at the time of the merger. His rebuttal report
challenged Dr. Lehn’s damages-calculation methodology, but
still focused on ATS’s value, contending it was the best measure
of the ATS Plaintiffs’ damages. In Dr. Finnerty’s deposition, he
stated that he was never asked to value Vertex stock, and that he
had no opinion on “whether the alleged misrepresentations of
Ernst & Young proximately caused the decline of values in the
Vertex shares after the merger.”

       The ATS Plaintiffs also specify in their brief that, “[a]s
a result of the Registration Defaults, Vertex was experiencing
substantial problems integrating its former merger partners . . .
into the company’s operations.” ATS Br. 23. In support, they
point to the depositions of the former presidents of
Communication Services International and Positive
Development, respectively Roger Henley and Walter Reichman.
Henley and Reichman each received unregistered shares of
Vertex stock that Vertex failed to register in a timely manner.
Both stated that, because the price of Vertex stock was dropping

                                44
steadily, they wanted to sell off their shares, and were unable to
do so as soon as they would have liked because of Vertex’s
registration defaults. The registration defaults thus prevented
Henley and Reichman from selling at as high a price as they
would have been able to obtain had Vertex complied with its
obligations, creating an economic loss. But neither attributed
Vertex’s falling stock price or declining financial performance
to the registration defaults. Evidence of that connection is what
was required from the ATS Plaintiffs to create a genuine issue
as to loss causation.

        Henley did say that, at the time Communication Services
International agreed to a settlement with Vertex over Vertex’s
registration default, “Vertex was having a lot of difficulties[,]
they had cash problems and . . . there wasn’t going to be a lot of
dollars for taking care of settlements or judgments. So from our
perspective we were competing with [the ATS Plaintiffs] for a
limited dollar pool . . . .” He also said that Vertex was having
“a lot of operational issues” at the time, issues “about things
getting paid, vendor problems, customer problems.” These two
statements suggest that settlement payouts were putting a strain
on Vertex’s already-struggling finances, thus potentially
contributing to the ATS Plaintiffs’ economic loss. But, even
taken together, they are insufficient to create a genuine issue as
to loss causation.

       Finally, the ATS Plaintiffs contend Ernst & Young’s own
expert, Dr. Lehn, gave evidence of loss causation. In his report,
Dr. Lehn theorized that, had the ATS Plaintiffs been able to

                               45
begin selling off their Vertex stock on May 14, 2001 (by which
date Vertex had promised to register the shares), they could have
realized between $4.9 and $5.7 million. The ATS Plaintiffs
characterize this as “an admission that Vertex’s failure to
register plaintiffs’ shares caused plaintiffs to lose at least $4.76
million (i.e., the $5.7 million that would have been realized had
the shares been timely registered, less the $940,000 actually
received).” ATS Br. 25. But we agree with the District Court
that this alone is insufficient evidence of loss causation: the
$4.76 million figure may be a measure of the ATS Plaintiffs’
economic loss, and but for Ernst & Young’s omissions the ATS
Plaintiffs might not have been “locked into” that economic loss;
but Dr. Lehn’s report does not show that the omission
proximately caused the economic loss. That is, it was not
evidence that the falling price of Vertex stock was attributable
to registration defaults and associated threats of litigation (the
very facts omitted by Ernst & Young).

        Because the ATS Plaintiffs cannot point to sufficient
record evidence to show that the very facts misrepresented or
omitted by Ernst & Young were a substantial factor in causing
the ATS Plaintiffs’ economic loss, we agree with the District
Court that the ATS Plaintiffs failed to create a genuine issue as
to loss causation.

                                IV.

       The District Court held that “[b]ecause [the ATS]
Plaintiffs have failed to create a genuine issue as to loss

                                46
causation, it follows that [the ATS] Plaintiffs’ common law
fraud and negligent misrepresentation claims must fail as a
matter of law.” McCabe, 2006 WL 42371, at *14. We will
affirm this holding, because the ATS Plaintiffs’ failure to create
a genuine issue as to loss causation also constitutes a fatal
failure to create a genuine issue as to the proximate causation
required for their claims under New Jersey law. See, e.g.,
Berckeley, 455 F.3d at 224 n.28 (“[T]o the extent we have
determined that Colkitt has stated a claim under Section 10(b),
we will also reinstate Colkitt’s claim that Berckeley’s conduct
[constituted] common law fraud under New York law.”).

        As the District Court noted, there is no New Jersey
decision that addresses the precise issue raised here. McCabe,
2006 WL 42731, at *12. But proximate causation is a required
element of both common law fraud and negligent
misrepresentation under New Jersey law. See Kaufman v. i-Stat
Corp., 754 A.2d 1188, 1196 (N.J. 2000) (negligent
misrepresentation); Gennari v. Weichert Co. Realtors, 691 A.2d
350, 366–67 (N.J. 1997) (fraud). Under New Jersey tort law,
“[t]he test of proximate cause is satisfied where . . . conduct is
a substantial contributing factor in causing [a] loss.” 2175
Lemoine Ave. Corp. v. Finco, Inc., 640 A.2d 346, 351–52 (N.J.
Super. Ct. 1994) (citing State v. Jersey Cent. Power & Light
Co., 351 A.2d 337, 341–42 (N.J. 1976); Ettin v. Ava Truck
Leasing, Inc., 251 A.2d 278, 289 (N.J. 1969)).

       Like other courts of appeals, we “apply[] general
causation principles” to § 10(b) claims. EP MedSystems, 235
47
F.3d at 884. See also Berckeley, 455 F.3d at 222 (stating loss
causation is “[s]imilar to the concept of proximate cause in the
tort context,” and citing Suez Equity, 250 F.3d at 96, and
Caremark, 113 F.3d at 648 ). This approach was recently
endorsed by the Supreme Court:

       Judicially implied private securities fraud actions
       resemble in many (but not all) respects
       common-law deceit and misrepresentation
       actions. The common law of deceit subjects a
       p e r s o n w h o “ f r a u d u l e n t ly” m a k e s a
       “misrepresentation” to liability “for pecuniary loss
       caused” to one who justifiably relies upon that
       misrepresentation. And the common law has long
       insisted that a plaintiff in such a case show not
       only that had he known the truth he would not
       have acted but also that he suffered actual
       economic loss.
                  ....
                  . . . [Section 10(b)] expressly imposes on
       plaintiffs ‘the burden of proving’ that the
       defendant’s misrepresentations ‘caused the loss
       for which the plaintiff seeks to recover.’ The
       statute makes clear Congress’ intent to permit
       private securities fraud actions for recovery
       where, but only where, plaintiffs adequately
       allege and prove the traditional elements of
       causation and loss.

                                 48
Dura, 544 U.S. at 343–44, 345–46 (citations omitted). The §
10(b) loss causation standard we have reiterated here is similar
to the “substantial contributing factor” test of proximate
causation under New Jersey law. 2175 Lemoine Ave., 640 A.2d
at 351–52. Accordingly, for the same reasons that the ATS
Plaintiffs failed to create a genuine issue as to loss causation (as
required for their § 10(b) claim), they also failed to create a
genuine issue as to proximate causation (as required for their
common law fraud and negligent misrepresentation claims).

                                V.

       We will affirm the grant of summary judgment.

                                49