As I have noted in prior posts (most recently here), courts have over time evinced a continuing skepticism of securities class action lawsuit allegations based on short-seller reports. The short sellers’ financial incentives and their reliance on anonymous sources have caused courts to be wary of securities suit allegations based on their reports. In a recent Fourth Circuit decision in a case in which the plaintiffs’ allegations were largely relied on a short-seller’s report, the appellate court affirmed the district court’s dismissal of the case, based on the plaintiffs’ failure to adequately allege loss causation. The court’s opinion provides several interesting observations about securities suit allegations based on short sellers’ reports.

The Fourth Circuit’s April 8, 2025, opinion in the IonQ case can be found here. Nessim Mezrahi’s April 9, 2025, LinkedIn post about the appellate court’s decision can be found here.

Background

IonQ develops quantum computers. dMY Technology Group, Inc. III (DTG) was a special purpose acquisition company (SPAC). DTG completed an IPO on November 12, 2020. On September 30, 2021, IonQ became a publicly traded company as a result of its merger with DTG.

On May 3, 2022, IonQ was the subject of a research report by short-seller Scorpion Capital. Among other things, the report asserted that IonQ is “a scam built on phony statements about nearly all key aspects of the technology and business.” The report also stated that the Company reported “fictitious revenue via sham transactions and related-party round-tripping.” According to the subsequently filed securities lawsuit complaint, the IonQ’s share price declined on this news.

In addition to the various factual allegations, the short-seller’s report also contained several disclaimers. First, the report acknowledged the short-seller’s financial incentives. Second, the report disclaimed that it was making any representations about the accuracy of the material and information on which it relied. Third, it acknowledged that the report does not contain all of the information that the confidential sources provided, acknowledged that the sources may have received confidential information (and thus may have had incentives to provide information the short-seller wanted), and acknowledged that the accounts of the confidential sources information may have been “paraphrased, truncated, and/or summarized solely at our discretion, and do not always represent a precise transcript of those conversations.”

The Lawsuit

As discussed here, on May 31, 2022, a plaintiff shareholder filed a securities class action lawsuit in the District of Maryland against IonQ and certain of its officers. The complaint alleges that in connection with the SPAC merger and in subsequent public statements, the defendants misrepresented the company’s product, prospects, and financial performance. The allegations in the complaint were largely reliant on the assertions in the short seller report. The defendants filed motions to dismiss, which the district court granted, among other things, on the grounds that the plaintiffs had failed to adequately alleged loss causation.

Following the dismissal, the plaintiffs sought leave to file a second amended complaint, seeking to try to cure the defects the district court had identified in granting the motion to dismiss. The plaintiffs attached a proposed second amended complaint to their motion. The court denied the plaintiffs’ motion for leave to replead, holding that the proposed second amended complaint failed to remedy the defects, in particular with respect to loss causation. The plaintiffs appealed.

The April 8, 2025, Opinion

In an April 8, 2025, opinion written by Judge Steven Agee on behalf of a unanimous three-judge panel, the Fourth Circuit affirmed the district court’s refusal to allow the plaintiffs leave to replead their allegations, holding that the “proposed second amended complaint fails to state a claim and allowing amendment would thus be futile.”

The crux of the appellate court’s decision has to do with the plaintiffs’ attempts to plead loss causation. The court noted that in order to plead loss causation, a plaintiff must allege with plausibility and sufficient specificity the “revelation of new facts suggesting that the defendant perpetrated a fraud on the market.” The first requisite to adequately plead loss causation is “pointing to the emergence of new facts in the market that reveal the truth behind a company’s fraud.”

The plaintiffs allege, in order to support their theory of loss causation, that the “truth emerged” when the short-seller’s report “disclosed” the alleged shortcomings with the defendant company’s product, representations about its product, and financial performance.

The appellate court noted that “we have not yet had occasion to consider whether a short-seller publication, like the Report, can plausibly expose the truth of a company’s fraud as needed to plead loss causation.” The appellate court did note that the Ninth Circuit has had occasion to consider these questions and has concluded that “similar publications cannot meet the pleading standard, noting further that other courts have appropriately set a “high bar” that plaintiffs must meet in “relying on self-interested and anonymous short-sellers when attempting to plead loss causation.”

Relying on the Ninth Circuit’s standards, the appellate court said that the plaintiffs here “failed to clear the high bar of showing that the Report revealed the truth of IonQ’s alleged fraud on the market.”

The short-seller’s report here “relies on anonymous sources for tis nonpublic information and disclaims its accuracy.” Indeed, the report’s acknowledgement that it edited the confidential statements is “particularly troubling because it gives Scorpion Capital the kind of editorial license that could allow it to say just about anything and cloak it in the imprimatur of truth in order to make a buck.” The short-seller’s disclosures and disclaimers “lead to the conclusion that the character of the Report rendered it inadequate to reveal any alleged truth to the market.”

The plaintiffs tried to oppose this conclusion by arguing that this holding would “prevent defrauded investors from relying on legitimate short-seller reports.” The appellate court said that it holding does “not impose a categorical ban on short-seller reports to plead loss causation,” adding that “in appropriate circumstances a short-seller report’s financial motivation may not disqualify it” from supporting loss causation allegations. However, when a short seller’s report “makes the kind of disclaimers” as here, “its potential evidentiary value evaporates.” The appellate court emphasized the disclaimers set out in this report make it “implausible these statements accompanied by those kinds of disclosures, published by an activist short seller, would reveal some new truth to the market.”

The plaintiffs sought to rely on four news reports that followed the short-seller’s revelations as suggesting that the report’s revelations caused the company’s share price to decline. The court said that the articles “do not credit the Report’s revelation of IonQ’s fraud as contributing to the decline in the share price so much as they credit the allegation of fraud as a contributing factor.” The news articles on which the plaintiffs sought to rely “do no more than suggest a possible correlation between the Report’s publication and IonQ’s stock price,” adding that “as the district court noted, correlation does not equal causation.”

Discussion

The Fourth Circuit’s conclusion here that the short-seller’s report’s allegations are not sufficient to establish loss causation reflects a healthy skepticism, based in large part on the short-seller’s financial motivation, but also based in significant part on the extensive disclaimers the short-seller itself included in its own report.

Interestingly, the appellate court went out of its way to emphasize that it was not saying that the allegations in short-seller’s report could never be sufficient to establish loss causation. It was saying that particularly where the short-seller’s report contains the kind of disclaimers as were included here, there is particular reason to question whether the short-seller’s report is sufficient to establish loss causation.

In my view, securities suit allegations based exclusively on short-seller reports should always be considered with skepticism. As discussed here, in January 2023, when Southern District of New York Paul Englemayer granted the defendants’ motion to dismiss in the DraftKings securities class action lawsuit (which was also based on allegations from a short seller’s report), he noted that given the short seller’s economic incentive, a short seller’s allegations “must be considered with caution.” He also noted that where the short-seller’s report is based on unidentified and unspecified confidential sources,  allegations based on confidential sources must meet certain standards to corroborate their reliability. In the DraftKings case, after reviewing the anonymous sources quoted in the short-seller report at issue in that case, Judge Engelmayer said that the statements “suffer from all the indicia of unreliability that have led courts often not to credit attributions to unnamed sources in short-seller reports.”

That is, whether or not a short-seller’s report contains the kinds of disclaimers that accompanies the report at issue here, courts should consider allegations based on short-seller’s report, as Judge Englemayer said, “with caution.” But where, as here, the report contains extensive disclaimers such that, as the appellate court said here, “potential evidentiary value evaporates,” and the short seller’s report should be, as was the case here, “disregarded as proof of the revelation of new information to the market.”

It was particularly of interest to me that the court did not find that the short-seller’s report did not cause the company’s share price to decline; in fact, the appellate court expressly acknowledged that the company’s share price did decline after the report was published. The appellate court was careful to distinguish between the revelation of fraud (of the kind that could establish loss causation) and the allegation of fraud (which alone are insufficient to establish loss causation), a critical distinction in considering whether the plaintiffs had sufficiently alleged that “new information” had been disclosed to the marketplace for purposes of pleading loss causation.

I also think it is important to note that this case is a SPAC-related lawsuit, a fact that I noted and emphasized at the time this case was first filed. This aspect of the case is important to highlight because quite a number of the SPAC-related suits that have been filed over the last several years are, like this one, based on allegations that first surfaced in short-seller reports. The district and appellate courts’ consideration of the short-seller report allegations here could prove relevant in many of the other SPAC-related lawsuits that have been filed.