SIPC was created by the Securities Investor Protection Act of 1970 (SIPA)(15 USC § 78aaa-lll) to protect customers of broker-dealers and maintain confidence in the United States securities markets. These goals are accomplished in two principal ways. First, when a broker is in or approaching financial difficulty, SIPC has the authority to petition the courts for protection of the broker's customers in a "protective proceeding." Such protection can include the court-ordered appointment of a trustee to liquidate the firm and satisfy customer claims from the proceeds of the liquidation (15 USC § 78fff). Second, SIPC is endowed with funds raised by assessments on its members, who are all the brokers registered under Exchange Act section 15(b). From these funds, SIPC can advance monies to the trustee to settle claims (15 USC § 78fff-3). As a result of BDO's alleged misstatements, SIPC claims it was required to spend over $2.5 million settling the claims of Baron's customers and $5.5 million in administrative fees associated with Baron's liquidation.

While SIPC is not an agency of the government, the SEC exercises extensive control over its business affairs (see, 15 USC § 78ccc). SIPC does not have independent investigatory powers to certify the financial health of its members. It does not receive financial statements from its members, much less audit them. No statute or rule requires brokers to submit their audited financial statements to SIPC as they are required to do for the SEC or the designated self-regulatory organization, here the NASD.

In order to commence a "protective" proceeding, SIPC must first be aware that a broker is in financial difficulty. Notice to SIPC is contemplated in section 78eee of SIPA. Under that section, the SEC or one of the self-regulating organizations, such as the NASD, is required to notify SIPC when it becomes "aware of facts which lead it to believe that any broker or dealer subject to its regulation is in or is approaching financial difficulty" (15 USC § 78eee[a][1]). In the present case the pleadings do not state how SIPC ultimately became aware of Baron's financial difficulties in 1996; however, a protective proceeding followed and James Giddens was appointed trustee for the liquidation of Baron.

Both Giddens and SIPC commenced the present action in the United States District Court for the Southern District of New York. Giddens asserted claims against BDO for negligence, fraud and breach of contract. SIPC asserted claims for negligence and fraud, both as subrogee to the claims of Baron's customers and on its own behalf for the administrative costs associated with the liquidation. On BDO's motion, the District Court dismissed the complaint as to SIPC, concluding that SIPC did not have standing to sue on its own behalf and that the allegations on behalf of Baron's customers failed to state claims for fraudulent or negligent misrepresentation under New York law. The trustee's claims were also dismissed. The United States Court of Appeals for the Second Circuit concluded that SIPC lacked standing to sue on behalf of Baron's customers but that it could sue on its own behalf. The court certified to us two questions of New York law in order to determine whether SIPC's allegations stated causes of action for negligent and fraudulent misrepresentation:

"1. May a plaintiff recover against an accountant for fraudulent misrepresentations made to a third party where the third party did not communicate those misrepresentations to the plaintiff, but where defendant knew that the third party was required to communicate any negative information to the plaintiff and plaintiff relied to his detriment on the absence of any such communication?

"2. May a plaintiff recover against an accountant for negligent misrepresentation where the plaintiff had only minimal direct contact with the accountant, but where the transmittal to the plaintiff of any negative information the accountant reported was the 'end and aim' of the accountant's performance?"

The gravamen of SIPC's state law claims is that, had BDO accurately informed the regulatory authorities in its audit reports about Baron's precarious financial condition, SIPC could have intervened earlier, thereby avoiding expenditures associated with the liquidation. SIPC concedes that at no relevant time prior to the liquidation did it actually receive BDO's audit reports. Rather, SIPC claims it relied on a reporting system created by federal securities law for delivery of negative information about Baron's financial condition. The question thus becomes whether, under the undisputed facts and circumstances presented, SIPC can state a cause of action for either fraudulent or negligent misrepresentation. That question we answer in the negative.

Fraudulent Misrepresentation

While conceding that none of BDO's statements concerning Baron's financial health ever reached it, SIPC claims that, under the regulatory scheme, it understood silence to mean that BDO had given Baron a clean bill of health. We conclude, however, that "no news is good news" is an insufficient basis for SIPC's fraud claim here.

The principle we reaffirm today is well rooted in New York law. Plaintiff cannot sustain a cause of action for fraud if defendant's misrepresentation did not form the basis of reliance (Brackett v Griswold, 112 NY 454; Warren v Forest Lawn Cemetery and Mausoleum, 222 AD2d 1059). As conceded in the complaint, SIPC relied to its detriment on the implication of the NASD's silence, not on representations from BDO.

Beyond the general and unremarkable principle that liability for fraud can be imposed through communication by a third party, the differences between Tindle v Birkett (171 NY 520) and the instant case are clear. In Tindle, plaintiff received defendant's misrepresentations in the form of a positive credit report upon which it relied. In this case, although the complaint alleges BDO made a variety of misrepresentations, it also alleges that SIPC did not specifically know of any of them. SIPC cannot claim reliance on alleged misrepresentations of which it was unaware even by implication.

This is not to say that a misrepresentation cannot be communicated through silence. There are situations where a material omission can induce detrimental reliance as effectively as a false statement (see, Gaidon v Guardian Life Ins. Co. of America, , 94 NY2d 330, 348; New York Univ. v Continental Ins. Co., , 87 NY2d 308, 318 ). The omission on which SIPC claims reliance, however, did not come from BDO, it came from the NASD. As a result, the role of the NASD cannot be ignored. The inescapable conclusion from the complaint's reference to the reporting rules and the regulatory "early warning system" is that the NASD had a significant role in choosing what information it wanted to receive and, in addition, what it deemed worthy of communicating. In such a situation SIPC's reliance on silence from the NASD cannot be equated with its reliance on any affirmative misrepresentation or concealment of material fact by BDO.

This is so because the reporting system on which SIPC relied put too much discretion in the hands of the NASD for SIPC to be able to claim any significant direct reliance on BDO. SEC filing requirements, including those regarding independently audited statements, collectively enable the relevant regulatory authorities to perform their oversight functions (see generally, Touche Ross & Co. v Reddington, 422 US 560, 569). The "reports and records provide the regulatory authorities with the necessary information to oversee compliance with and enforce the various statutes and regulations with which they are concerned" (id.). The SEC and the NASD then use such information and their regulatory expertise to evaluate a brokerage firm's financial status, looking at the firm's compliance with the net capital rule and other indicators of financial health (see, id.; 17 CFR § 240.17a-5). The instant case illustrates the evaluative regulatory role played by the SEC and the NASD with relation to communications to SIPC. Here, the considerable negative information of Baron's financial distress in the BDO Audit Reports was not communicated to SIPC. The regulators' evaluative role makes SIPC's claim of reliance on silence from the NASD as an indicator of "good news" untenable.

SIPC's complaint assumes that silence from the regulators can mean only one thing. In this case, however, the absence of communication from the NASD to SIPC could have meant any number of things, among them that the regulators were not carefully reading defendant's audits. The vagaries inherent in SIPC's theory of liability convince us that no information at all is simply too little information on which to base a claim for fraudulent misrepresentation here. Where BDO's reports were filtered through the NASD's own process of evaluation, SIPC cannot claim justifiable reliance on the filtered statements, or the absence thereof, as representing either the sum or substance of BDO's representations. The regulatory framework involved in this case thus creates an insurmountable disconnect between BDO's representations and SIPC's purported reliance on those representations.

Negligent Misrepresentation

The elements of a cause of action for negligent misrepresentation are likewise not present here. BDO did not engage in conduct linking it to SIPC in such a way as to create a relationship between the two that sufficiently approached privity (Credit Alliance Corp. v Arthur Anderson & Co., , 65 NY2d 536).

A number of recent cases have called upon this Court to apply the professional liability rule of Credit Alliance (see e.g., Parrot v Coopers & Lybrand, 2000 NY LEXIS 3836, ___ NY2d ___; State of California Pub. Employees' Retirement Sys. v Shearman & Sterling, 2000 NY LEXIS 3501, ___ NY2d ___; Prudential Ins. Co. v Dewey, Ballantine, Bushby, Palmer & Wood, , 80 NY2d 377). As we have made clear, "end and aim" is not the only focus of the negligent misrepresentation analysis. While we explicitly adhered to the principles set forth in Ultramares Corp. v Touche (255 NY 170) for imposing negligence liability on accountants, in applying those principles we identified three critical criteria for imposing liability. In deciding whether liability can be imposed by a non-privy third party, we ask whether the accountant was aware that the reports were to be used for a particular purpose, whether in furtherance of such purpose a known party was intended to rely and, finally, whether there was some linking conduct which evinced the accountant's understanding of that party's reliance (Credit Alliance Corp. v Anderson & Co., supra, 65 NY2d, at 551).

Applying those criteria here, there was no "linking conduct" that put SIPC and BDO in a relationship approaching privity. BDO's audits were not prepared for the specific benefit of SIPC, were not sent to SIPC, were not read by SIPC and, as a result, did not place SIPC in a relationship significantly different from anyone else in the regulatory community or the investing public at large. Hence, the third prong of the Credit Alliance test is not met. Absent allegations tending to show linking conduct, SIPC's complaint cannot state a cause of action for negligent misrepresentation.

Accordingly, both certified questions, in the context of the facts and circumstances presented, should be answered in the negative.