OPINION OF THE COURT
FISHER, Circuit Judge.
In May 1996, Appellant Douglas Colkitt, M.D., entered into an "Offshore Convertible Securities Purchase Agreement" (the "Agreement") with Appellee Berckeley Investment Group, Ltd., an offshore financing entity based in the Bahamas. The Agreement provided that Colkitt would receive $2,000,000 from Berckeley in exchange for 40 convertible debentures, which Berckeley could convert after a specified time period into unregistered shares of stock held by Colkitt. The number of shares to be converted was controlled by a formula based on the current market value of the shares less a 17% discount for Berckeley.
The relationship between the parties quickly deteriorated, as Colkitt accused Berckeley of "short selling" in order to deflate the market price of the stock and thereby obtain more shares upon conversion. When the time came for Colkitt to convert the unregistered shares to repay his debt to Berckeley, he balked and ended up converting only a small percentage of the shares that Berckeley requested. Thereafter, each party filed suit against the other. There is no dispute that Colkitt breached his end of the bargain. Colkitt, however, asserts that he was justified in
Following seven years of protracted litigation, including a previous appeal to this Court, Berckeley Inv. Group, Ltd. v. Colkitt, 259 F.3d 135, 137 (3d Cir.2001) ("Berckeley I"), the District Court found in favor of Berckeley on the parties' cross-motions for summary judgment. The District Court awarded damages to Berckeley in the amount of $2,611,075.52. Colkitt appeals that decision on a number of grounds, primarily relating to the District Court's analysis of federal securities laws. For the reasons set forth herein, we will affirm in part, reverse in part, and remand the case to the District Court for further proceedings.
Douglas Colkitt, M.D., is the Chairman of the Board and principal shareholder of National Medical Financial Services Corporation ("NMFS"), a corporation whose shares were traded on the NASDAQ stock exchange. Looking to obtain financing for an unrelated business venture, Colkitt sought out lenders who would be willing to lend him money in exchange for the right to convert his unregistered shares of NMFS stock. See, e.g., GFL Advantage Fund, Ltd. v. Colkitt, 272 F.3d 189, 194-95 (3d Cir.2001).
In the spring of 1996, Colkitt entered into negotiations with Berckeley Investment Group, Ltd., a Bahamian corporation headquartered in Nassau, Bahamas. On May 30, 1996, the negotiations culminated in the Agreement between the parties.
Several of the contractual provisions in the Agreement are key to an understanding
Berckeley further represented that it was aware that Colkitt was relying upon the accuracy of its representations regarding federal and state securities laws, and that its "purchase of the Debenture or the Shares pursuant to this Agreement is not part of a plan or scheme to evade the registration provisions of the Securities Act." For his part, Colkitt represented that he would "take no action, including but not limited to the further sale of securities pursuant to Regulation S of [NMFS] that are held by [Colkitt], that will affect in any way the running of the Restricted Period or the ability of Buyer to freely resell the debentures or the Shares in accordance with applicable securities laws and this Agreement." In addition, Colkitt agreed to place 300,000 shares of NMFS stock in escrow to cover the $2,000,000 aggregate amount of the debentures. He further agreed that "[i]f the price has decreased so that the shares in escrow are insufficient for the conversion of all outstanding Debentures, [Colkitt] agrees to place in escrow additional shares representing that number of shares necessary for the conversion of all outstanding Debentures plus an additional 100,000 shares."
Berckeley upheld its end of the Agreement when it wired $2 million via Shoreline to Colkitt. Colkitt, however, did not. Following the expiration of the one hundred day period, Berckeley began making demands on Colkitt to convert the debentures into NMFS stock. Berckeley made five such demands on Colkitt during September 1996 to convert $300,000 worth of the debentures into 40,133 shares of stock.
II. PROCEDURAL HISTORY
Berckeley filed suit in the District Court on August 13, 1997, alleging that Colkitt breached the Agreement by failing to convert the debentures.
Berckeley and Shoreline suggested that Berckeley be permitted to file a motion for entry of final judgment against Colkitt, thus staying proceedings involving Shoreline for one year, because satisfaction of Berckeley's judgment against Colkitt would dispose of any remaining claims by or against Shoreline. In contrast, Colkitt stated his intention to seek leave for immediate appeal of the District Court's summary judgment decision pursuant to Fed. R.Civ.P. 54(b) and/or 28 U.S.C. § 1292(b). The District Court sided with Berckeley, which subsequently filed a motion for entry of final judgment against Colkitt. Berckeley and Shoreline then moved to stay Berckeley's claims against Shoreline and Shoreline's claims against Colkitt. On March 30, 2000, the District Court granted Berckeley's and Shoreline's motions and entered judgment in the amount of $2,611,075.52 against Colkitt.
Colkitt appealed the decision of the District Court. On appeal, however, Colkitt argued that we lacked appellate jurisdiction because the District Court had failed to comply with Rule 54(b) and indicate expressly that there was no "just reason" for delaying Colkitt's appellate rights. On July 26, 2001, we issued an opinion agreeing with Colkitt that we lacked appellate jurisdiction, and we remanded the matter back to the District Court. See Berckeley I, 259 F.3d at 146. On August 23, 2001, Berckeley filed with the District Court a motion to amend the judgment so that it comported with the requirements of Rule
III. STANDARD OF REVIEW
We have jurisdiction over Colkitt's appeal from the order of the District Court pursuant to 28 U.S.C. § 1291. We exercise plenary review over the District Court's entry of summary judgment in favor of Berckeley. Morton Int'l, Inc. v. A.E. Staley Mfg. Co., 343 F.3d 669, 679 (3d Cir.2003). We therefore apply the summary judgment standard set forth in Federal Rule of Civil Procedure 56(c). Under that standard, we will affirm the judgment of the District Court "if the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to a judgment as a matter of law." Fed. R.Civ.P. 56(c).
In deciding the motion for summary judgment, our job is to ascertain solely whether there is a dispute of material fact:
The threshold issue confronting the Court is whether the District Court abused its discretion in certifying the order against Colkitt as a partial final judgment pursuant to Rule 54(b). Rule 54(b), which governs the certification of final decisions in multiple-claim actions, provides:
Fed.R.Civ.P. 54(b) (emphasis added). We have explained that the rule was designed in an attempt "to strike a balance between the undesirability of piecemeal appeals and the need for making review available at a time that best serves the needs of the parties." Allis-Chalmers Corp. v. Philadelphia Elec. Co., 521 F.2d 360, 363 (3d Cir. 1975) (citations omitted).
A decision to certify a final decision under Rule 54(b) involves two separate findings: (1) there has been a final judgment on the merits, i.e., an ultimate disposition on a cognizable claim for relief; and (2) there is "no just reason for delay." Curtiss-Wright Corp. v. General Elec. Co., 446 U.S. 1, 7-8, 100 S.Ct. 1460, 64 L.Ed.2d 1 (1980). The parties do not dispute that the District Court's decision entering summary judgment in favor of Berckeley on all claims against Colkitt constituted a final judgment. The dispute lies over whether the District Court abused its discretion in certifying that judgment for immediate appeal under Rule 54(b) on the basis that there was "no just reason for delay."
The Supreme Court has analogized the function of district courts under Rule 54(b) as akin to a "dispatcher": district courts are to consider judicial administrative interests, as well as the equities involved in the case, in order to determine whether discrete final decisions in multiple-claim actions are ready for appeal. Curtiss-Wright Corp., 446 U.S. at 8, 100 S.Ct. 1460. Recognizing that the District Court is "most likely to be familiar with the case and with any justifiable reason for delay," we apply an abuse of discretion standard of review to the District Court's determination that there is no just cause for delay. Berckeley I, 259 F.3d at 140 n. 4, 145.
Our decision in Berckeley I is illustrative of this general principle. In Berckeley I, we determined that there were three principal defects in the District Court's original order entering judgment in favor of Berckeley. First, contrary to the explicit requirement of Rule 54(b), the District Court's opinion did not contain an express determination that there was "no just reason for delay." Berckeley I, 259 F.3d at 141. We concluded that such an express determination was a jurisdictional prerequisite required by Rule 54(b), and thus declined to adopt Berckeley's position that "general references to the necessity of
Second, the District Court's original order stated only that it was granting "final judgment" with respect to the claims between Berckeley and Colkitt; it did not cite, or even discuss, Rule 54(b). Thus, it was unclear whether the District Court intended to enter a partial final judgment in accordance with Rule 54(b). Although stopping short of holding that citing to Rule 54(b) is a jurisdictional prerequisite, we concluded that "where there is a concurrent failure to make an express determination of no just cause for delay, we cannot reasonably conclude that the District Court intended to enter a partial final judgment pursuant to that Rule." Id. at 144.
Finally, we noted that the District Court did not discuss in its opinion any factors relevant to whether there was a just reason for delay. We have set forth several factors that courts should consider when assessing that there is a "just reason for delay" under Rule 54(b):
Allis-Chalmers Corp., 521 F.2d at 364. Although the factors set forth in Allis-Chalmers are not jurisdictional prerequisites — but instead constitute "a prophylactic means of enabling the appellate court to ensure that immediate appeal will advance the purpose of the rule," Carter v. City of Philadelphia, 181 F.3d 339, 345 (3d Cir.1999) — the District Court's original order did not contain any statement of reasons as to why there was no just cause for delay. Berckeley I, 259 F.3d at 145. We held that this omission, when combined with the other two omissions in the order and our inability to ascertain the propriety of the certification from the record, precluded us from exercising appellate jurisdiction over the merits of Colkitt's appeal. We thus dismissed the appeal for lack of jurisdiction and remanded the case to the District Court. Id. at 146.
On remand, the District Court addressed each of the Allis-Chalmer Corp. factors to determine whether to enter a final judgment with respect to all claims between Berckeley and Colkitt. First, the District Court concluded that the adjudicated claims between Berckeley and Colkitt and the outstanding unadjudicated claims did not conflict because "the other pending claims may easily be resolved upon execution of the order of final judgment against Colkitt." (App. VI at 5.) Second, the court stressed that the procedural posture of this case presented the possibility that immediate appellate review might actually moot the remaining proceedings in front of the District Court, which were wholly derivative of the claims on appeal. (Id.) Whether Shoreline will owe damages to Berckeley and whether Colkitt will be required to indemnify Shoreline depends upon Colkitt's underlying liability to Berckeley and Colkitt's ability, if applicable, to satisfy the judgment. Third, the District Court stated that it was unlikely that the remaining claims between Berckeley and Colkitt could be revisited a second time on appellate review because the remaining claims did not involve
Colkitt has once again appealed the District Court's certification decision on the basis that we lack appellate jurisdiction. Colkitt's primary argument is that the District Court abused its discretion in certifying the judgment under Rule 54(b) because the adjudicated claims are factually and legally intertwined with the non-adjudicated claims. A close review of the District Court's September 2004 order, however, reveals that all of the defects in the original order certifying judgment have been remedied. The District Court's decision rested upon pragmatic considerations, particularly the fact that a final appellate determination could moot the remaining derivative claims existing between the parties. Although the Allis-Chalmers Corp. analysis was framed by the converse scenario, i.e., in which appellate review might be mooted by further developments in the district court, the District Court's evaluation of the procedural posture of this case was reasonable. The remaining claims in this case are wholly derivative of the claims between Berckeley and Colkitt, arising from separate agreements entered into between each of those parties and Shoreline. Practically, however, if the summary judgment decision of the District Court is upheld and Berckeley is able to execute on the full amount of the judgment, Shoreline's indemnity claim against Colkitt would become moot and Berckeley would no longer be compelled to continue its claims against Shoreline.
These considerations are amplified when we take into account the miscellaneous factors addressed by the District Court. This case has been litigated by the parties for nearly ten years, and it has been approximately six years since the District Court entered its summary judgment order. In addition, Colkitt's shares of NMFS stock have experienced a steep decline over the past decade, to the point that they are practically worthless. Under these circumstances, it was reasonable for the District Court to take into consideration the possibility that any further delays might impact Berckeley's ability to execute on the judgment. See Curtiss-Wright Corp., 446 U.S. at 11-12, 100 S.Ct. 1460 (finding that the difference between statutory and market interest rates, combined with the reality that the prevailing party would not be able to execute the judgment for many years due to the complexity of the litigation and the other party's declining financial position, was an appropriate basis to certify the judgment under Rule 54(b)); see also Allis-Chalmers Corp., 521 F.2d at 367 (Gibbons, J., dissenting) (referencing as a factor the "ingenuity of debtors in devising reasons for not paying liquidated indebtedness").
Taking all of these factors into consideration — the possibility that our determination on appeal might moot the remaining claims, the derivative nature of the remaining claims, the length of the litigation, and the possibility that further delays might impair Berckeley's ability to execute the judgment — we find that the decision of the District Court to certify the order as a partial final judgment was not "clearly unreasonable." Curtiss-Wright Corp., 446 U.S. at 10, 100 S.Ct. 1460. As a result, we conclude that we have appellate jurisdiction over the present appeal and proceed to address the merits of the dispute.
Colkitt contends that he is entitled to rescind the Agreement under Section 29(b) of the Securities Exchange Act of 1934 (the "Exchange Act"). Section 29(b) provides in pertinent part that:
15 U.S.C. § 78cc(b). Section 29(b) itself does not define a substantive violation of the securities laws; rather, it is the vehicle through which private parties may rescind contracts that were made or performed in violation of other substantive provisions. See National Union Fire Ins. Co. v. Turtur, 892 F.2d 199, 206 n. 4 (2d Cir.1989). Although the word "void" is contained in the statute, the Supreme Court has read Section 29(b) to be "merely voidable at the option of the innocent party." Mills v. Elec. Auto-Lite Co., 396 U.S. 375, 387-88, 90 S.Ct. 616, 24 L.Ed.2d 593 (1970).
In order to void the Agreement under Section 29(b), Colkitt must establish that: (1) the contract involved a prohibited transaction; (2) he is in contractual privity with Berckeley; and (3) Colkitt is in the class of persons that the securities acts were designed to protect. Regional Properties, Inc. v. Financial and Real Estate Consulting Co., 678 F.2d 552, 559 (5th Cir.1982). See also Pompano-Windy City Partners, Ltd. v. Bear Stearns & Co., Inc., 794 F.Supp. 1265, 1288 (S.D.N.Y.1992). Colkitt must demonstrate a direct relationship between the violation at issue and the performance of the contract; i.e., the violation must be "inseparable from the performance of the contract" rather than "collateral or tangential to the contract." GFL Advantage Fund, Ltd., 272 F.3d at 201.
In this case, Colkitt asserts that the Agreement was made "in violation of" Section 10(b) and Rule 10b-5 of the Exchange Act, and that the "performance" of the contract violated Section 10(b), Rule 10b-5, and Section 5 of the Securities Act of 1933 (the "Securities Act") because Berckeley perpetuated securities fraud in violation of the statutes. We consider each of these arguments below.
Colkitt asserts that he is entitled to rescind the Agreement under Section 29(b) of the Exchange Act based upon a violation of Section 5 of the Securities Act. The District Court determined that Colkitt could not rescind the Agreement under Section 29(b) because the contract did not involve a prohibited transaction. According to the District Court, Colkitt's Section 5 claim asserted that a subsequent transaction was unlawful, and "Section 29(b) does not reach into the future to void a subsequent contract."
We recently addressed the scope of Section 29(b) regarding downstream securities transactions in GFL Advantage Fund, Ltd. v. Colkitt, 272 F.3d 189 (3d Cir.2001). In that case, we considered a virtually identical financing transaction that Colkitt entered into with GFL. Colkitt argued that he was entitled to rescind the agreement between the parties because subsequent short sales made by GFL following the agreement violated Section 10(b). Before concluding that the short sales did not constitute market manipulation in violation of Section 10(b), we addressed first whether Colkitt could even maintain a Section
Two cases we discussed in GFL Advantage Fund and relied upon by Colkitt in the instant appeal confirm that Colkitt's Section 5 claim cannot proceed under Section 29(b). In Grove v. First National Bank of Herminie, 489 F.2d 512 (3d Cir. 1974), a debtor obtained a series of loans from a bank to purchase registered securities. Regulation U, promulgated under the Exchange Act, provided that such loans were limited to set percentages of the value of the stock to be purchased. The bank, however, failed to inform Grove of the Regulation U margin requirements and loaned him the money. We held that Section 29(b) precluded the bank from recovering a loan deficiency because the loans were made in direct violation of Regulation U. Similarly, in Regional Properties, Inc. v. Financial and Real Estate Consulting Co., a securities broker entered into an agreement with the principals of several limited partnerships to market the limited partnerships for a fee. 678 F.2d 552 (5th Cir.1982). It turned out that the broker, a former New York lawyer who had been disbarred, failed to register as a broker dealer as required by Section 15(a)(1) of the Exchange Act. The Fifth Circuit determined that the broker's performance of the agreement was a prohibited transaction under Section 29(b) because the agreement, although lawful on its face, could not have been performed by the unregistered broker without violating the securities laws.
As we explained in GFL Advantage Fund, the key in both of those cases was that neither agreement could be performed without violating the securities laws. 272 F.3d at 202. In contrast, in GFL Advantage Fund the downstream short sales were neither connected to nor "inseparable" from the agreement between the parties. Thus, we determined that the transactions at issue in that case could not support a claim under Section 29(b), regardless of whether they violated Section 10(b). Id.
In this case, although the Agreement contains references to Section 5 that allegedly induced Colkitt to enter into the Agreement, Berckeley's downstream sales were tangential to the parties' basic obligations under the Agreement: Berckeley's
For these reasons, we will uphold the District Court's decision to grant summary judgment in favor of Berckeley as to Colkitt's Section 29(b) claim premised on a violation of Section 5 of the Securities Act.
Section 10(b) of the Exchange Act, 15 U.S.C. § 77(b), makes it unlawful for any person to employ "manipulative or deceptive" conduct "in connection with the purchase or sale of any security." In re Phillips Petroleum Sec. Lit., 881 F.2d 1236, 1243 (3d Cir.1989). When the Exchange Act was passed in 1934, Congress granted the Securities and Exchange Commission the authority in Section 10(b) to develop rules and regulations to prevent such conduct "as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors." 15 U.S.C. § 77(b). The Commission responded in 1948 by promulgating Rule 10b-5, which establishes that manipulative or deceptive conduct includes, inter alia, making an untrue statement of material fact or omitting to state a material fact in connection with the purchase or sale of securities.
Colkitt's case does not present the "typical" fact pattern seen in securities violations brought under Section 10(b). As we have noted, the customary Section 10(b) claim concerns "fraudulent material misrepresentation[s] or omission[s] that affect a security's value." Newton v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 259 F.3d 154, 173 (3d Cir.2001) ("Newton II") (collecting cases). In this case, Colkitt's theory of liability is not based upon an alleged material misrepresentation relating to the value of NMFS stock, but rather a misrepresentation regarding Berckeley's intent to comply downstream with the registration requirements contained in the Securities Act. Colkitt's argument in favor of establishing Berckeley's liability proceeds as follows:
There is no dispute between the parties that the Agreement was made "in connection" with the purchase or sale of a security, and Berckeley's argument that Colkitt suffered no reliance damages essentially addresses whether Colkitt's reliance was the proximate cause of his injury. Thus, the misrepresentation, scienter, and causation prongs of the Rule 10b-5 case are in dispute between the parties.
At the outset, we examine whether there is sufficient evidence in the record to create a material issue of fact that Berckeley made a misrepresentation in paragraph 2.5 of the Agreement. Colkitt bases his Section 10(b) claim on the argument that Berckeley intentionally misrepresented in Paragraph 2.5 of the Agreement that all subsequent sales of converted shares would be made in accordance with the registration requirements of the Securities Act of 1933.
We first examine whether there is evidence in the record that Berckeley intended at the time it entered into the Agreement with Colkitt to resell unregistered NMSF shares back into the United States. On the basis of three affidavits, two judicial admissions, and the structure of the deal itself, we conclude that there is sufficient evidence to create a material issue of fact that Berckeley intended to resell NMSF shares back into the United States without registering them.
The first affidavit was submitted by Martin Douglas Ho, Berckeley's Connecticut-based investment advisor. Ho participated in negotiating and closing the transaction between Berckeley and Colkitt, and he also was involved in the delayed conversion and attempted conversions of the debentures. (App. at 1173.) Ho stated in his supplemental affidavit that he sought legal advice and provided investment advice in connection with the transaction. Regarding the advice he provided to Berckeley, Ho stated the following:
(App. at 1175 (emphasis added).) Specifically referencing Paragraph 2.5 of the Agreement, which is at the crux of the dispute between the parties, Ho stated the following:
(App. at 1176-77 (emphasis added).)
Berckeley directors Milton Morales and Carlos Mijares also submitted supplemental affidavits. Those affidavits, which were identical, provided the following pertinent averments:
(App. at 1181-83; 1187-89 (emphasis added).)
In addition to these affidavits, Berckeley made two binding judicial admissions in its complaint and in its brief on appeal.
Finally, the structure of the deal, as well as a lack of evidence of any viable offshore market for the shares, see infra, raises an inference that Berckeley intended to resell the converted shares back into the United States. The deal provided Berckeley with the unilateral option to convert one-half of the debentures into NMFS shares 100 days from closing and the remaining debentures 120 days from closing. In addition, the Agreement provided
For these reasons, we find that there is sufficient evidence at this stage of the proceedings to create a material issue of fact that Berckeley intended, at the time of the Agreement, to resell the converted shares back into the United States following the Restricted Period set forth in the Agreement.
In order to establish a Section 5 violation, Colkitt must point to evidence that: (1) no registration statement was in effect as to the securities; (2) Berckeley sold or offered to sell the securities; and (3) the sale or offer was made through interstate commerce. See Hill York Corp. v. American Int'l Franchises, Inc., 448 F.2d 680, 686 (5th Cir.1971), distinguished on other grounds by Pinter v. Dahl, 486 U.S. 622, 108 S.Ct. 2063, 100 L.Ed.2d 658 (1988). It is undisputed that there are sufficient facts in the record for Colkitt to establish the first two elements, and our finding above that there is a factual dispute as to whether Berckeley intended at the time of the Agreement to resell the securities back into the United States is sufficient at this stage to satisfy the third element. As a result, our next step is to determine whether there are facts in dispute as to whether Berckeley was aware it was not entitled to an exemption from the registration requirement under Section 4(1) of the Securities Act.
The burden of proving entitlement to an exemption rests with the party claiming the entitlement. SEC v. Ralston Purina Co., 346 U.S. 119, 126, 73 S.Ct. 981, 97 L.Ed. 1494 (1953). The District Court did not address whether Berckeley satisfied the definition of a "statutory underwriter," and there is no indication that the parties or the District Court were aware that the burden of demonstrating an entitlement to the exemption rested with Berckeley. Instead, the District Court determined that Berckeley did not make a misrepresentation because, based upon uncertainties in the securities industry as to the applicability of the exemption in 1996, "the illegality of the transaction simply was not apparent." (App. at 43.)
Section 4(1) exempts from the registration requirements under Section 5 "transactions by any person other than issuer, underwriter, or dealer." 15 U.S.C. § 77d(1). At issue here is whether Berckeley was an "underwriter," as there is no dispute that Colkitt was an "issuer" and that Berckeley purchased unregistered
Whether Berckeley's acquisition of the unregistered shares was made "with a view to" distribution focuses on Berckeley's investment intent at the time of the conversion. See 1 Thomas Lee Hazen, The Law of Securities Regulation 482 (5th ed.2005) (collecting cases). Because it is difficult to discern a party's intent at the time of purchase with respect to downstream sales of unregistered shares, courts and commentators have typically focused on the amount of time a security holder holds on to shares prior to reselling them. Id.; see Ackerberg, 892 F.2d at 1336 (stating that "the courts look to whether the security holder has held the securities long enough to negate any inference that his intention at the time of acquisition was to distribute them to the public"). Over time, courts have developed the general presumption that a two-year holding period is sufficient to negate the inference that the security holder did not take the securities with a "view to distribute." Ackerberg, 892 F.2d at 1336.
Seizing upon the difficulty of determining a party's subjective intent at the time of purchase, the SEC adopted Rule 144, which creates an objective safe harbor to allow non-affiliate sellers to comply with the Section 4(1) exemption. A non-affiliate seller may fall within the Rule 144 safe harbor, and not be deemed an "underwriter," under two sets of circumstances. First, the SEC has generally removed all restrictions from the sale of securities by a non-affiliate who has held onto the securities for a period of at least two years from the date the securities were acquired from the issuer or an affiliate of the issuer. 17 C.F.R. § 230.144(k). If the non-affiliate seller has not held the securities for a period of at least two years, the seller may fall within the Rule 144 safe harbor if it complies with the following five criteria:
Each safe harbor set forth under Rule 144 requires the seller to have held on to the unregistered shares for a specified time period, either one or two years. Because it is undisputed that Berckeley sold the unregistered shares in this case before even one year had elapsed, Berckeley cannot take advantage of the Rule 144 safe harbor. In addition, Berckeley's quick turnaround sale of the converted shares at least creates an issue of fact as to whether Berckeley acquired the shares with a "view to distribution" under the statutory exemption as well. See Gilligan, Will & Co. v. Securities and Exchange Comm'n, 267 F.2d 461, 467-68 (2d Cir.1959) (finding that ten-month holding period was sufficient to support SEC finding that security holder bought shares "with a view to distribution").
Berckeley, however, can still demonstrate that it did not act as an "underwriter" if the sale of the 18,320 shares was not made in connection with a "distribution." The registration requirements of the 1933 Securities Act are "design[ed] . . . to protect investors by promoting full disclosure of information thought necessary to [make] informed investment decisions." Ralston Purina, 346 U.S. at 124, 73 S.Ct. 981. The legislative history of the term "underwriter" reveals "that the congressional intent was to include as underwriters all persons who might operate as conduits for securities being placed into the hands of the investing public." 1 Hazen, The Law of Securities Regulation 476; see Van Dyke v. Coburn Enter., Inc., 873 F.2d 1094, 1097 (8th Cir.1989) (stating
Although we have not yet had the occasion to interpret the Section 4(1) statutory exemption, those courts interpreting the exemption have uniformly concluded that the term "distribution" is synonymous with "public offering" as set forth under Section 4(2). See Geiger v. SEC, 363 F.3d 481, 484 (D.C.Cir.2004); Ackerberg, 892 F.2d at 1337; SEC v. Dolnick, 501 F.2d 1279, 1282 (7th Cir.1974); Quinn & Co. v. SEC, 452 F.2d 943, 946 (10th Cir.1971); Gilligan, Will & Co., 267 F.2d at 466; Neuwirth Inv. Fund, Ltd. v. Swanton, 422 F.Supp. 1187, 1194-96 (S.D.N.Y.1975); see also II Louis Loss and Joel Seligman, Securities Regulation 1138.47 n. 580 (2d ed.1999) (collecting authorities). We agree with the rationale of those courts and similarly hold that the term "distribution" in § 2(a)(11) is synonymous with "public offering."
In the landmark decision of SEC v. Ralston Purina, the United States Supreme Court explained that whether an issuance of stock is a "public offering" turns on the need of the offerees for the protections of the securities laws:
346 U.S. at 125, 73 S.Ct. 981 (internal punctuation omitted). See also Van Dyke, 873 F.2d at 1098; Sorrell v. SEC, 679 F.2d 1323, 1326 (9th Cir.1982) (stating that the "offeree's access to financial information about the investment, similar to what would be found in a registration statement, is crucial"); Neuwirth Inv. Fund, 422 F.Supp. at 1198. The percentage of outstanding shares distributed to the public is not determinative, as the application of the Section 4(1) exemption does not turn on the percentage of the shares sold, even where the resales constitute extremely small percentages of the outstanding stock. Geiger, 363 F.3d at 484. Rather, the key inquiry for the court is whether the security holder can demonstrate that the sales were made to individuals or entities that did not require the registration protections of the Securities Act. Id.
For example, in Geiger the United States Court of Appeals for the District of Columbia determined that the resale of unregistered shares comprising only 0.50% of all outstanding shares constituted a "distribution" because the shares made their way into the hands of the investing public. 363 F.3d at 484. There, the D.C. Circuit was guided by an earlier decision of the Ninth Circuit which upheld the SEC's finding that the sale of 0.25% of shares of unregistered stock violated Section 5 of the Securities Act. See Pennaluna & Co. v. SEC, 410 F.2d 861, 865 (9th Cir.1969). In contrast, in Ackerberg the Eighth Circuit determined that the sale of 12,500 shares of unregistered stock did not constitute a "distribution" because the shares were sold to a single sophisticated investor who had received detailed information about the company prior to purchasing the securities. Ackerberg, 892 F.2d at 1329, 1336-37. Similarly, the United States District Court for the District of New York concluded in Neuwirth Inv. Fund, Ltd. that the sale of 18,000 unregistered shares was not a "distribution" because the unregistered stock was sold to
On the basis of the record we have before us, Berckeley has not adduced any evidence to meet its burden that it is entitled to an exemption under § 4(1). The record is clear that Berckeley intended to resell a quantity of the shares within two years. As stated in Berckeley's complaint, "[i]t was always Berckeley's intent to exercise its conversion rights as to all of the debentures as quickly as possible, selling the National Medical stock in the market as quickly as possible." Berckeley has not advanced any evidence that there was any "market" for NMFS shares outside the United States, particularly considering that Berckeley placed the 18,320 shares for sale with a United States broker. Inferring from these facts that the only market for NMFS shares was in the United States, Berckeley did not bring forward any evidence that the NMFS shares would be sold solely to sophisticated investors who do not need the protections of the registration requirements of the securities laws. To the contrary, placing the 18,320 shares with a broker suggests that those shares would be sold to the highest bidder without regard to the bidder's level of investing acumen. See Loss and Seligman, Fundamentals of Securities Regulation 327 (noting that "a sell order given to a stock exchange broker results in an offer to the highest bidder in the world, which is certainly a `public offering'"). For these reasons, we find that Berckeley failed to meet its burden to show it was entitled to an exemption under Section 4(1).
Accordingly, we conclude that the record contains sufficient evidence that Berckeley made a misrepresentation of material fact regarding its intent to resell and its status as an underwriter in a resale.
Because that there is a factual dispute regarding whether Berckeley intended at the time of the agreement to resell illegally the converted shares back into the United States, we must next determine whether Colkitt can point to sufficient evidence that Berckeley had the requisite scienter to violate the Section 5 registration requirement at the time it entered into the Agreement.
A plaintiff can "plead scienter by alleging facts `establishing a motive and an opportunity to commit fraud, or by setting forth facts that constitute circumstantial evidence of either reckless or conscious behavior.'" In re Advanta Corp. Sec. Litig., 180 F.3d 525, 534-35 (3d Cir.1999) (quoting Weiner v. Quaker Oats Co., 129 F.3d 310, 318 n. 8 (3d Cir.1997)) (additional citation omitted). Recklessness can be shown by a statement or action "`involving not merely simple, or even inexcusable negligence, but an extreme departure from the standards of ordinary care, and which presents a danger of misleading buyers or sellers that is either known to the defendant or is so obvious that the actor must have been aware of it.'" Id. at 535 (quoting McLean v. Alexander, 599 F.2d 1190, 1197 (3d Cir.1979)).
In concluding that Colkitt failed to produce sufficient evidence to demonstrate Berckeley's scienter, the District Court relied upon an affidavit from Nancy Van Sant, a former SEC lawyer reputed to have experience with offshore transactions and the availability of exemptions in connection with those transactions as of May
(App. at 1436-37.) The District Court explained that the above paragraph (paragraph 18) was the "operative portion" of the affidavit, and that the "remainder of the affidavit simply explain[ed] the development of the law and why it was reasonable to rely on the exemption under § 4(1)." (App. at 43.)
The District Court has discretion to determine whether expert testimony will help the trier of fact. United States v. Agnes, 753 F.2d 293, 303 (3d Cir.1985), abrogated on other grounds by Smith v. Borough of Wilkinsburg, 147 F.3d 272 (3d Cir.1998).
Similarly in Leo, we held that the district court did not abuse its discretion in permitting an expert in the field of governmental contracting to testify as to the custom and practices of the defense industry regarding the Armed Services Procurement Act in a criminal fraud prosecution. 941 F.2d at 196-97. We stated that the expert's testimony was admissible because it was limited to an explanation of business custom, i.e., that defense contractors generally provided updated cost and pricing data to the government during contract negotiations. Id. Key to our determination was that the expert did not give his opinion as to what was required under the law, or whether the defendant complied with the Act. Rather, the testimony was permissible because the expert "testified, based upon his experience in the defense industry, as to how firms such as [the defendant's] operated when performing contracts governed by the Act." Id. at 197.
This is a case in which we find that Van Sant's background testimony could be helpful to the jury. She is an experienced former counsel for the SEC with expertise in offshore securities transactions. The customs and business practices in the securities industry at the time the parties entered into the Agreement provides an important context which will aid the jury in determining whether Berckeley had the requisite scienter at the time to evade the registration requirements.
In accordance with First National State Bank and Leo, however, Van Sant cannot testify as to whether Berckeley complied with legal duties that arose under the federal securities laws. Thus, Van Sant's testimony that Berckeley's sales of NMFS stock were exempt from registration requirements, and any testimony as to the legal effect of the various SEC pronouncements regarding Rule 144 and Regulation S, are inadmissible as improper legal opinions. Similarly, the portion of paragraph 18 of the affidavit, opining that in light of the apparent routine industry practice it was reasonable for Berckeley to have believed that it was entitled to the Section 4(1) exemption, is inadmissible because it concerns Berckeley's legal duties resulting from the various SEC pronouncements. Leo, 941 F.2d at 197. As to the remainder of the testimony considered by the District Court, we conclude that the District Court did not abuse its discretion in admitting Van Sant's testimony regarding securities industry custom with respect to the Section 4(1) exemption.
Based solely on Van Sant's opinion regarding industry practices, the District Court concluded that, given the state of affairs in the securities industry in May
The touchstone of our decision in Newton I was that universal industry practices are not "outcome determinative." Id. at 273. In the present case, we read the District Court's opinion as finding that the Van Sant affidavit on industry custom was "outcome determinative" as to Berckeley's state of mind regarding its qualification for the Section 4(1) exemption. Under Newton I, that conclusion cannot stand. Our decision in Newton I, however, did not preclude the defendants from introducing the proffered evidence of industry custom and practice to demonstrate that they had not acted with the requisite scienter. See id. (stating that "any evidence, derived from knowledge of industry practice or elsewhere, that the plaintiffs were generally aware of the defendants' exclusive reliance on the [allegedly fraudulent practices] would, of course, be quite probative of whether the plaintiffs had the expectations they claim"). Similarly in this case, Van Sant's testimony regarding securities industry practices in May 1996 will be probative of Berckeley's scienter at the time of the Agreement, but not determinative.
Because the Van Sant affidavit, standing alone, is insufficient to establish that Berckeley did not have the requisite scienter, we must examine the record to determine whether there is any other evidence regarding Berckeley's state of mind concerning its qualification for the Section 4(1) exemption at the time it entered into the Agreement. In order to defeat summary judgment, Colkitt must point to evidence in the record creating an issue of fact regarding whether Berckeley was reckless in its belief that it would be entitled to an exemption under Section 4(1) of the Securities Act of 1933. Colkitt relies on several Rules, Regulations, and Interpretive Guidances issued by the SEC to argue that the law in 1996 was clear that no exception to the Section 5 registration requirement existed under Section 4(1) for unregistered securities acquired in offshore transactions. (Appellant's Br. at 42.) We agree that the authorities cited by Colkitt create an issue of fact as to whether Berckeley's belief that it could freely resell the securities after the holding period in the Agreement without otherwise complying with Section 4(1) was reckless.
Important to our conclusion is an understanding of the interrelationship among Rule 144, which gives guidance on "underwriter" status under Section 4(1); Regulation S, which was adopted in 1990 to clarify the extraterritorial application of the 1933 Act; and an interpretive release issued by the SEC on June 10, 1995, entitled "Problematic Practices Under Regulation S." We examined the Rule 144 safe harbor in
Regulation S was enacted in 1990 to provide generally that an offer or sale of a security that occurs outside the United States is not subject to the registration requirements under Section 5 of the Securities Act. See 17 C.F.R. §§ 230.901-.05. Under that regulation, "[s]ecurities acquired overseas, whether or not pursuant to Regulation S, may be resold in the United States only if they are registered under the Act or an exemption from registration is available." Offshore Offers and Sales, 55 Fed.Reg. 18306, 18322 (May 2, 1990). 17 C.F.R. § 230.904, preliminary note 6. Regulation S contains two non-exclusive safe harbor provisions, Rule 903 and Rule 904. Under Rules 903 and 904, an offer or sale of securities is deemed to occur outside the United States if: (1) the offer or sale is made in an offshore transaction; (2) no directed selling efforts are made in the United States; and (3) additional considerations listed in Rule 903(b) and/or 904(b) are satisfied. See 17 C.F.R. §§ 230.903-.04. Both safe-harbor rules contain a 40-day "distribution compliance period" under which resales of unregistered shares may not be made in any event. See id. The SEC interpretive release issued in connection with Regulation S explained that Regulation S did not alter the availability of the Section 4(1) exemption for the resale of securities. Notice of Adoption of Rule 144, SEC. Release No. 5223, 55 Fed.Reg. 18319 (January 11, 1972). The interpretive release further stated that Regulation S did not apply to "any transaction or series of transactions that, although in technical compliance with the rules, is part of a plan or scheme to evade the registration provisions of the Securities Act." 55 Fed.Reg. at 18320.
In June 1995, in response to "a number of problematic practices [that] . . . developed involving unregistered sales of equity securities of domestic reporting companies purportedly in reliance upon Regulation S," the SEC published an interpretive release entitled "Problematic Practices Under Regulation S." See Problematic Practices Under Regulation S, SEC Release No. 33-7190, 60 Fed.Reg. 35663 (July 10, 1995). That publication stated that the safe harbors under Rules 903 and 904 were not available "for a transaction or series of transactions that, although in technical compliance with the regulation, is part of a plan or scheme to evade the registration requirements of the Securities Act." Id. The publication was concerned primarily with so-called "parking transactions," under which domestic issuers or distributors sold securities to offshore shell entities to hold for the forty-day restricted period, after which such securities were sold back into the United States. In the end, proceeds from the sales would make their way, directly or indirectly, back to the domestic issuer or distributer. Id. at 35664. The SEC made clear in the release that the forty-day restricted period could not be used for this purpose, i.e., to "wash off" resale restrictions such as the 2-year holding requirement under Rule 144. The release concluded by stating that "any distributions by a statutory `underwriter' must be registered pursuant to Section 5" unless subject to a statutory exemption. Id.
The net effect of all of these Rules and interpretive releases is to create an issue of fact as to whether it would have been reckless for Berckeley to rely solely on the forty-day restricted period to foreclose any possibility that it was an "underwriter" at the time it entered into the Agreement
Based upon all the information available to Berckeley at the time it entered into the Agreement, we conclude that there is an issue of fact as to whether Berckeley was reckless in its belief that the resale of securities back into the United States would not violate Section 5 of the Securities Act.
As we explained, supra, a party proceeding under a Section 29(b) rescission claim has a lesser burden because it is not necessary in that context to establish reliance and causation. See GFL Advantage Fund, 272 F.3d at 206 n. 6. In this case, however, Colkitt has also alleged a stand-alone claim under Section 10(b). The remaining issue for our consideration under that claim is whether Colkitt has produced sufficient evidence to create an issue of fact that Berckeley's alleged misrepresentation caused his injury.
Causation in the securities context is strikingly similar to the familiar standard in the torts context, but with different labels. In the securities realm, "but for" causation is referred to as "reliance, or transaction causation," and "proximate cause" is known as "loss causation." See Newton II, 259 F.3d at 172-73; see also Bastian v. Petren Resources Corp., 892 F.2d 680, 683 (7th Cir.1990) (stating that "what securities lawyers call `loss causation' is the standard common law fraud rule . . . merely borrowed for use in federal securities law cases") (emphasis in original); 3 Hazen, The Law of Securities Regulation, § 12.11.
In order to establish reliance, or transaction causation, a Section 10(b) plaintiff must prove that "but for the fraudulent misrepresentation, the investor would not have purchased or sold the security." Newton II, 259 F.3d at 172. Stated differently, the plaintiff must prove that "but for the wrongful conduct, the transaction would not have gone through, at least in the form that it eventually took." 3 Thomas Lee Hazen, The Law of Securities Regulation, § 12.11 (5th ed.2005); see also Suez Equity Investors, L.P., Sei Assocs. v. Toronto-Dominion Bank, 250 F.3d 87, 95-96 (2d Cir.2001) ("Transaction causation is based upon the plaintiff's reliance upon the defendant's deceptive statements or omissions; that is, but for such conduct by the defendant, the plaintiff would not have acted to his detriment.").
Loss causation is a more exacting standard for a Section 10(b) plaintiff to meet. To prove loss causation, the plaintiff must demonstrate "that the fraudulent misrepresentation actually caused the loss suffered." Newton II, 259 F.3d at 173. 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. Suez Equity Investors, 250 F.3d at 96. Thus, "[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. The United States Court of Appeals for the Seventh Circuit has succinctly explained that the loss causation element requires the plaintiff to prove "that it was the very facts about which the defendant lied which caused its injuries." Caremark, Inc. v. Coram Healthcare Corp., 113 F.3d 645, 648 (7th Cir.1997) (citing LHLC Corp. v. Cluett, Peabody & Co., 842 F.2d 928, 931 (7th Cir.1988)). In the typical Section 10(b) case, a party can meet this burden by showing that the price of a security was inflated due to a fraudulent misrepresentation. Semerenko v. Cendant Corp., 223 F.3d 165, 184 (3d Cir.2000); Hayes v. Gross, 982 F.2d 104, 107 (3d Cir.1992); Scattergood v. Perelman, 945 F.2d 618, 624
Colkitt's complaint asserts that his NMFS share holdings lost value as a proximate cause of Berckeley's alleged misrepresentation.
(App. at 1018-19 (emphasis added).)
Once we strip away the short selling allegations, the alleged misrepresentations in this case have no connection to the decrease in the value of NMFS shares in the open market. That misrepresentation simply did not affect the value of NMFS stock. Accordingly, Colkitt cannot recover damages for the decrease in value of his stock that was held in escrow because that decrease was not proximately caused by Berckeley's alleged misrepresentation.
In summary, we will reverse the decision of the District Court with respect to Colkitt's Section 10(b) claim on limited grounds. 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, and we will affirm the decision of the District Court relating to this category of damages.
Having determined that Colkitt has adduced sufficient facts to survive summary judgment on his Section 29 rescission
Based upon the foregoing reasons, we will affirm in part, reverse in part, and remand the case to the District Court for further proceedings consistent with this opinion.
The 17% discount received by Berckeley represented, in part, the fact that "the National Medical shares held by Colkitt for the transaction were not registered with the Securities and Exchange Commission, as would be required for sales of those shares within the United States by Section 5 of the Securities Act of 1933." See Berckeley I, 259 F.3d at 137 (internal citation omitted).
Conversion Shares Due Date Face Value Price (truncated)9/13/96 $80,000 7.6152 10,505 9/16/96 $60,000 7.6775 7,815 9/19/96 $90,000 7.5115 11,981 9/26/96 $20,000 7.1795 2,786 9/26/96 $50,000 7.0965 7,046 ________ ______ $300,000 40,133
It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,
(a) To employ any device, scheme, or artifice to defraud,
(b) To make any untrue statements of 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, or
(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.
17 C.F.R. § 240.10b-5.
We note that our recent decision in GFL Advantage Fund, 272 F.3d at 202, addressed the effect of short sales in a nearly identical financing transaction that Colkitt entered into with GFL. We held that GFL's short selling did not support Colkitt's Section 10(b) claim. In rejecting Colkitt's argument that the short selling constituted market manipulation, we stated that "[t]he fact that these short sales may have contributed to a decline in the stocks' prices is not evidence of deceptive or manipulative conduct, for there is no reason to believe these prices were depressed artificially." Id. at 207. We concluded that "short selling, even in large volumes, is not in and of itself unlawful and therefore cannot be regarded as evidence of market manipulation." Id. at 209. We further explained: "That short selling may depress share prices, which in turn may enable traders to acquire more shares for less cash (or in this case, for less debt), is not evidence of unlawful market manipulation, for they simply are natural consequences of a lawful and carefully regulated trading practice." Id. at 209-10. Rather, short selling could only form a basis for a Section 10(b) claim if done "in conjunction with some other deceptive practice that either injected inaccurate information into the market or otherwise artificially affected the price of the stock." Id. at 207.
Although the SEC has taken the position that the "change in circumstances" exception is no longer applicable after the passage of Rule 144, commentators have expressed doubt that the exception can be read out of the definition of an "underwriter" under § 2(a)(11). See 1 Hazen, The Law of Securities Regulation 485 ("To the extent that the change in circumstances defense is a valid interpretation in terms of the section 2(a)(11) statutory definition of one who purchases with an intent to redistribute, the SEC cannot by administrative fiat change the meaning of the statute."); Louis Loss & Joel Seligman, Fundamentals of Securities Regulation 325 n. 241 (5th ed.2004) (noting that, although the "law largely has made a transition from the subjectivity of the statutory standard to more objective rule enforcement, . . . the statutes still exist and it still can be argued . . . that the wording of § 2(a)(11) compels some sort of change in circumstances doctrine."). In addition, Rule 144 is generally considered to be non-exclusive, and sellers such as Berckeley may still seek to invoke the statutory Section 4(1) exemption. See 1 Hazen, The Law of Securities Regulation 490; Loss and Seligman, Fundamentals of Securities Regulation 325 n. 241; Marc I. Steinberg, Understanding Securities Law 139 (3d ed 2001); II Louis Loss and Joel Seligman, Securities Regulation 1138.47 n. 580 (2d ed.1999).
Because the parties have not addressed the application of the "change in circumstances" exception to this case, however, we need not decide whether that exception remains a viable method of refuting "underwriter" status under § 2(a)(11).
Berckeley has evidence at its disposal to counter the interpretive releases, including the Van Sant testimony and evidence that it sought out the advice of counsel prior to entering into the Agreement. On the latter piece of evidence, we realize that the record is sparse as to the nature of the advice Berckeley received from its counsel. (App. at 1175-77, 1187-89.) For purposes of the remand to the District Court, we remind the parties that the attorney-client privilege cannot be used as both a "shield" and a "sword": Berckeley cannot rely upon the legal advice it received for the purpose of negating its scienter without permitting Colkitt the opportunity to probe the surrounding circumstances and substance of that advice. See Livingstone v. North Belle Vernon Borough, 91 F.3d 515, 537 (3d Cir. 1996) ("The attorney client privilege is waived for any relevant communication if the client asserts as a material issue in a proceeding that: (a) the client acted upon the advice of a lawyer or that the advice was otherwise relevant to the legal significance of the client's conduct.") (quoting Restatement of the Law Governing Lawyers § 130(1) (Final Draft No. 1, 1996)).