February 20, 2011
A Tale of Two Plea Agreements
Thursday's Wall Street Journal has a fascinating piece here by Steve Eder, Michael Rothfeld, and Jenny Strasburg on the friendship, between Donald Longueuil and Noah Freeman, that was shattered by the SDNY's insider trading probe. As the white collar world now knows, Freeman secretly recorded Longueuil. Longueuil's damaging admissions were captured, quoted in the criminal complaint against Longueuil and Samir Barai, and splashed across the headlines. Freeman has pled guilty and his plea agreement is publicly available.
I thought it might be interesting to compare Freeman's plea agreement to that of Danielle Chiesi, who recently pled guilty in the Raj Rajaratnam case. Chiesi has not agreed to cooperate against Rajaratnam as part of her deal, but Freeman has agreed to cooperate with the government against Longueuil. The Noah Freeman Plea Agreement is a classic, bare bones, SDNY white collar plea deal. Unlike the vast majority of federal criminal plea agreements in other jurisdictions, the Freeman agreement contains no Sentencing Guidelines calculations or stipulations. Freeman agrees to plead to two felony counts--securities fraud and conspiracy to commit wire and securities fraud. The maximum statutory term for those two counts combined is 25 years. Freeman agrees to pay restitution and to forfeit proceeds traceable to the charged offenses. The government agrees not to prosecute him further, except for tax crimes, and to recommend a Section 5K1.1 downward departure if he continues to truthfully cooperate. And that's about it.
Why is the agreement structured this way? Because SDNY prosecutors do not want want to put anything into the agreement which would indicate to a jury what actual sentence Freeman might get. If hard Guidelines numbers were put into the agreement, even as non-binding stipulations, Longueuil's attorney could compare those numbers, during Freeman's cross-examination, to the stratospherically higher Guidelines sentence Freeman would have received sans cooperation. Now, when Freeman takes the stand against his former friend, he can truthfully tell the jury that he has no idea what sentence he will ultimately receive. Sure, he wants a light sentence or probation, but all he knows is that he is looking at a statutory max of 25 years and some kind of 5K1.1 motion if he tells the truth.
And what is Freeman's attorney told by the prosecutors, or what does the attorney already know without being told if he or she has practiced long enough in the SDNY? "Trust us. We are not going to promise your guy anything other than a 5K1.1, but if you look at what past white collar targets have received when they came in early and cooperated, you will see that we treated them fairly. Many of them received probation or light sentences. By the way--if you come in on the eve of trial, don't expect to be treated as well." The defense attorney relays this information in some form or another to the client and tells the client that there is no guarantee. He also tells the client that the people who came in early and cut plea deals in the World Com case got probation or light sentences. That fellow who came in right before trial got five years. The guy who went to trial and lost got hit with 25. The client ususally takes the deal. (Who wants to roll the dice with those odds?) It all makes for a much cleaner trial and cross-examination in the government's view.
Contrast this with Chiesi whom the government does not need and who litigated her case like crazy almost until the eve of trial. The Danielle Chiesi Plea Agreement is highly structured and much more like those you will see in other parts of the country. Chiesi pled to three conspiracy counts, each carrying a five year max. The government and Chiesi stipulated as to the appropriate version of the Guidelines, the Guidelines section applicable to her conduct, the base offense level, the adjusted offense level based on an agreed-upon amount of gain, and Chiesi's acceptance of responsibility. The parties stipulated that Chiesi's Guidelines offense level is 21, her criminal history category is I, and her Guidelines sentencing range is 37-46 months. Either side is free to argue for a Booker downward variance, but neither side can argue for an upward or downward Guidelines departure or adjustment unless it is specifically called for in the agreement. Because the prosecutors do not particularly need Chiesi, they are not worried about how her 37-46 month range compares to what her range would have been sans cooperation.
In one of those delightful traditions peculiar to the SDNY, neither of these plea agreements has been publicly filed with the appropriate district court, although neither agreement is under seal. This is insane. Jason Pflaum's plea agreement is virtually identical to Freeman's. Pflaum consensually monitored the conversations/messages of Sam Barai and is expected to testify against Barai and others.
January 07, 2011
Bill Black Sounds The Toscin: Whatever Happened To Prosecuting Real Fraud?
Okay, let me take off my white collar defense attorney hat and put on my former prosecutor hat for a minute. Call it my citizenship hat. Don't most of us want real, unadulterated big-time crooks to be investigated and, where appropriate, charged? Where are all the investigations and prosecutions of the accounting control fraud that caused one of the greatest recessions in U.S. history? You know, the current recession.
Back in the late 1980s, when the S&L Crisis hit and the Dallas-based S&L Task Force was formed, federal law enforcement officials quickly realized that, in many instances, colossal fraud had been committed by the very players who controlled the S&Ls. The S&L fraud was overwhelmingly based on sham transactions and sham accounting for those transactions. Massive resources were committed to investigating and prosecuting the S&L fraud. It was understood that the crooked players had hijacked their S&Ls and defrauded depositors and/or the FSLIC. This rather elementary distinction between the savings and loan as an institution and the fraudsters who controlled it was grasped by AUSAs and effectively conveyed to juries across the land.
Nothing like this is happening today with respect to the federal government’s investigation of the housing bubble, liars’ loans, and Wall Street's subprime lending scandal. The overwhelming number of investigations and prosecutions seem to be focused on piker fraudsters—corrupt individual borrowers or mortgage brokers. These cases are easy pickings, but do not get to the massive fraud that clearly permeated the entire financial system.
Professor William Black, of Keating Five fame, has written a scathing piece all about this for the Huffington Post. Here it is. Among Black's revelations? "During the current crisis the OCC and the OTS - combined - made zero criminal referrals." Astounding. These two agencies accounted for thousands of criminal referrals per year during the S&L Task Force years. More fundamentally, Black argues that today's federal prosecutorial authorities do not comprehend that individuals in control of an institution can have an incentive to engage in short-term fraud that enriches them individually while destroying the long-term prospects of the institution and the larger economy.
Nobody should be charged with a white collar crime unless the crime is serious and the prosecution believes in good faith that a jury will find guilt beyond a reasonable doubt. But how about a substantive investigative effort, including commitment of appropriate resources? Why are such huge resources being spent on dubious endeavors like insider trading and FCPA enforcement, while elite financial control fraud goes largely unaddressed? Professor Black's piece is highly recommended reading.
November 03, 2010
Albuferon Insider Trading Criminal Complaint
Here is the Yves Benhamou Criminal Complaint, out of SDNY, alleging insider trading violations (under Rule 10b-5 and 15 U.S.C. Section 78ff) by a French doctor. Doctor Benhamou purportedly tipped off a hedge fund employee about negative results from the Albuferon clinical trial. The WSJ story, by Jenny Strasburg and Jean Eaglesham, is here. The SEC's civil complaint, via the WSJ, is here
July 10, 2010
Quality Control at the Second Circuit II: United States v. Kaiser and Historical Truth
I wrote here last week about the Second Circuit's opinion in United States v. Kaiser, which overturned a long line of Second Circuit precedent establishing that willfulness in the context of criminal Exchange Act prosecutions requires the government to prove a defendant's awareness of the general unlawfulness of his/her conduct under the securities laws. I pledged to post again and focus a little more on the specifics of the opinion.
The Kaiser Court states that "[m]ore recently, we seemed to endorse a higher standard for willfulness in insider trading cases." This is misleading on several counts.
First, the higher standard for willfulness in criminal cases brought under the Exchange Act was established 40 years ago in United States v. Peltz, 433 F.2d 48 (2nd Cir. 1970). Since when is an opinion from 40 years ago considered recent? Peltz is older that any of the opinions cited by the Court in support of the lower standard of proof.
Second, not one of the higher standard cases cited by the Court explicitly confines the higher standard of proof to insider trading cases. Indeed, Peltz itself was not an insider trading case.
Third, the Court ignored published and unpublished Second Circuit case law that unequivocally applies the higher standard outside of the insider trading context. See United States v. Becker, 502 F.3d 122 (2nd. Cir. 2007); United States v. Schlisser, 168 Fed. Appx. 483 (2nd Cir. 2006) (unpublished).
The Kaiser Court states that "Unlike securities fraud, insider trading does not necessarily involve deception, and it is easy to imagine an insider trader who receives a tip and is unaware that his conduct was illegal and therefore wrongful." (emphasis added).
First, insider trading is quintessentially a species of securities fraud. Most insider trading cases are brought under Section 10(b) of the Exchange Act and SEC Rule 10b-5. These are securities fraud provisions by definition and Rule 10b-5 is well known as the classic catch-all securities fraud regulation. As the Supreme Court stated in Chiarella v. United States, "Section 10(b) is aptly described as a catch-all provision, but what it catches must be fraud." 445 U.S.222, 234-35 (1980).
Second, the essence of insider trading is fraudulent deception through failure to disclose. What Section 10(b) of the Exchange Act outlaws on its face is a "manipulative or deceptive device or contrivance." The Supreme Court in designating insider trading a "manipulative device" has stated that inside traders "deal in deception." See United States v. O'Hagan, 521 U.S. 642, 653 (1997). In fact, all insider trading prohibited by the criminal law involves deception of some party or parties by the inside trader.
The Kaiser Court also at numerous points conflates, deliberately or negligently, case law discussing Exchange Act Section 32(a)'s willfulness requirement with case law discussing Section 32(a)'s provision that "no person shall be subject to imprisonment under this section for the violation of any rule or regulation if he proves that he had no knowledge of such rule or regulation." As noted in my prior post, the Second Circuit precedent does not hold that the government must establish the defendant's knowledge of the particular rule, regulation, or statute that he/she has allegedly violated in order to prove willfulness under Section 32(a) the Exchange Act. But the government must prove the defendant's knowledge that his/her conduct was illegal in general or "wrongful under the securities laws."
As a general proposition in the Second Circuit, one panel cannot overturn another panel's recent precedent. Here, the Kaiser panel appears to have overturned recent and longstanding precedent of myriad other panels. Maybe the higher willfulness standard under Section 32(a) should go. Clearly, the case law on this issue has not always been clear or entirely consistent. But the bench and bar deserved better here.
June 29, 2010
Ouch, That Hurts! Judge Koeltl Pulverizes SEC in Rorech Case
GUEST BLOGGER-SOLOMON L. WISENBERG
Attached is SDNY U.S. District Judge John G. Koeltl's Opinion and Order in SEC v. Jon-Paul Rorech and Renato Negrin, issued last Thursday. With the exception of Koeltl's ruling that the VNU credit default swaps at issue are covered under Section 10(b) of the Exchange Act and Rule 10b-5, the holding was a total defeat for the SEC. For those not wanting to read the entire 122-page opinion, here is the SEC v. Rorech-Introduction and Conclusions of Law portion.
The case centered around Negrin's purchase of VNU credit default swaps from Deutsche Bank's high-yield bond salesman Rorech. Negrin was a portfolio manager for Millennium Partners hedge fund. The case was brought under the misappropriation theory of insider trading. The SEC alleged that Rorech misappropriated confidential information from his employer Deutsche Bank and provided it, during two cell phone calls, to Negrin. The allegedly confidential information was that VNU, a Dutch media holding company, was going to restructure a bond offering and that another Deutsche Bank customer had placed a $100 million indication of interest in such an offering. The restructured bond offering would provide "deliverable instruments" for VNU credit default swaps that were being traded at the time.
Judge Koeltl concluded that:
1. The inside information about the restructured bond offering did not yet exist when Rorech allegedly passed it to Negrin.
2. The information that Rorech did possess at the time of the calls was not material. Rorech's knowledge about a potential restructuring of the bond offering was speculative in nature and already widely shared in the marketplace. Rorech's knowledge regarding another customer's indication of interest was not materially different from information already in the market regarding substantial investor demand for deliverable VNU bonds, through a restructured bond offering.
3. Rorech did not breach any duty of confidentially owed to Deutsche Bank because Deutsche Bank did not consider Rorech's ideas or opinions or, any general information, about a possible VNU bond offer restructuring to be confidential. Rorech was expected by Deutsche Bank to share such information with prospective customers and this was standard practice in the high-yield bond market. The same went for sharing information regarding other customers' indications of interest.
4. Courts cannot infer that inside information was passed from phone calls followed by trading, without something more. Additionally, Negrin's trades were consistent with his past investment practices.
5. There was no evidence of scienter. Rorech and Negrin had no prior personal relationship, there was no quantifiable or direct personal benefit to Rorech from any tip, and there was no deception by Rorech of Deutsche Bank. (This lack of deception is also relevant to the "disclose or refrain from trade" principle of insider trading. Judge Koeltl found that Rorech had in fact disclosed his interactions with Negrin to Deutsche Bank supervisors.) Moreover, Negrin did nothing to hide his dealings with Deutsche Bank.
There is considerably more in the Opinion and Order. The decision is worth reading alone for Judge Koeltl's succinct recapitulation of governing Rule 10b-5 case law, and for his analysis of why the credit default swaps at issue here fall under the purview of Rule 10b-5. Rule 10b-5 often forms the basis of criminal securities fraud charges brought under the Exchange Act (through 15 U.S.C. Section 78ff), and the civil case law, although not identical to the criminal case law, can be highly relevant.
The facts were obviously important here. The SEC didn't have any.
June 24, 2010
NACDL President Comments on Honest Services Trilogy
GUEST BLOGGER-SOLOMON L. WISENBERG
Here is a press release from the National Association of Criminal Defense Lawyers ("NACDL") containing NACDL President Cynthia Orr's comments on today's U.S. Supreme Court honest services opinions. Orr is “heartened that the Court has unambiguously rejected government arguments that the ‘honest services’ fraud statute can be properly used across as broad a range of conduct as the government has sought to do in recent years.” Nonetheless she is"disappointed that the Court has held that there remains a place in our criminal justice system for a statute on whose meaning few can agree.” (In various friend of the court briefs, NACDL has taken the position, now shared by Justices Scalia, Thomas, and Kennedy, that 18 U.S.C. Section 1346 is unconstitutionally vague.)
Orr expects “to see future litigation surrounding efforts by prosecutors to wedge their cases into the ‘bribe or kickback’ paradigm to which the Court has now limited this statute.” Of this we can be sure.
The NACDL press release also bemoans the portion of the Skilling opinion which "shockingly found that pre-trial publicity and community prejudice did not prevent Mr. Skilling from obtaining a fair trial. In fact, though, there has not been a more poisoned jury pool since the notorious first robbery and murder trial of Wilbert Rideau in Louisiana."
October 02, 2009
NACDL's 5th Annual Defending the White Collar Case Seminar - "Financial Fiasco - Prosecutions & Lawsuits Stemming from the Securities Market Meltdown," Friday, October 2, 2009
Guest Blogger: Ashish S. Joshi, Lorandos & Associates (Ann Arbor, MI / Washington, DC)
Moderator: Gerald B. Lefcourt
This was one of the most anticipated panels of the program as the panelists included Hon. Lewis Kaplan who has been roundly applauded by the white-collar defense bar for his insightful and game-changing KPMG decision, Ira Sorkin, the attorney for Bernard Madoff, Susan Brune, who is shortly going to trial to defend Bear Stearns hedge fund managers Cioffi and Tannin, who have been accused of securities fraud, and former SEC Enforcement Director Walter Ricciardi to provide perspective on the major developments taking place at the SEC.
Walter Ricciardi talked about the recent changes in the SEC. With the appointment of Mary Shapiro as the Chair of the Commission, the SEC has sent out a signal that it’s the “tough cop on the beat.” The Commission has strengthened its enforcement division. The new subpoena power given to its enforcement division has also given the SEC more bite. Contrary to its earlier culture where “everybody does everything,” now the SEC has created Specialized Units. These Units – such as the Asset Management Unit – will have a unit head and staff who will focus their attention on the unit’s activities, full time. Ricciardi also mentioned that while the SEC earlier used to go after the entities and left out the individuals who had been accused of wrongdoing, going forward, this will not be the case.
After Ricciardi, it was Ira Sorkin’s turn to speak. Sorkin acknowledged that there has been a major change in white-collar investigation and/or prosecution since his early days at the SEC. Now, the SEC is increasingly reaching out and cooperating with the U.S. Attorneys’ office. The approach appears to be: “Talk to us about case A, we will talk to you about case B.”
Sorkin remarked that in the last 15-20 years, parallel proceedings in a white-collar prosecution have mushroomed. Every regulator, criminal or civil, now wants a piece of these white-collar cases. It’s prestigious, it’s sexy and it garners media attention. As a result, “co-operation agreements” have increased. Agencies and departments are cooperating with each other like never before.
Sorkin also commented on FINRA – a self-regulatory organization. FINRA, during its investigation apparently does not recognize the 5th Amendment privilege against self-incrimination. Your client calls you and tells you that FINRA wants to talk to your client. Basically, you tell your client that you have bad news and worse news in this situation. Bad news: if your client doesn’t testify before FINRA, it can bring a 82(10) proceeding and take your client’s license away. Worse news: if your client does testify, FINRA can then take the transcript and share it with the DOJ or district attorney’s office and your client may end up with a much worse problem.
Sorkin also commented on the SEC and DOJ’s “queen for a day” proffer agreements. These offers are meaningless. They provide nothing to the clients but a lot to the government – and, they are quite dangerous. If you believe that a proffer is necessary, it would be better to go down the road with Rule 410 protections in place.
Sorkin ended his discussion by stating that it was quite alarming that more and more defense lawyers are acting as “junior G-men” for the government to do internal investigations.
After Ira Sorkin, it was the turn of Susan Brune. Brune commented that in this economy, there’s a common perception: why haven’t been people been charged for the collapse of stock market? There is an assumption that just because the stock market went down, there has to be underlying criminality behind this.
Brune also acknowledged that a typical white-collar case is a “resource problem.” It requires tremendous resources. Emails, documents, reports, papers - millions of documents are involved in defending a white-collar criminal case. Just the resources needed to review emails alone are, at times, overwhelming.
Judge Lewis Kaplan stated that maybe the current debate concerning the attorney-client privilege should be re-focused. Judge Kaplan commented that the incessant talk about the Holder-Thompson-McNulty-Filip memorandums might be irrelevant. Instead, the focus should be on the underlying corporate criminal liability. When would a criminal investigation and/or prosecution of a corporate entity be appropriate? If a CFO commits fraud, there should be no issue when the company is made civilly liable for the CFO’s acts. But when the DOJ launches a criminal investigation, it raises other issues. The government often is in a place where it can make the corporations do things to the individual employees that the government otherwise is not in a position to do directly. Be it indemnification, attorney fees, advancement of defense costs… the list is endless.
Judge Kaplan stated that some legal commentators have justified the government’s actions by taking the position that: the society should not be made to expand its finite resources to root out criminal behavior when this burden could easily be shifted to the companies where the alleged criminal behavior has said to have occurred. But, the Judge stated, this was an empirical question.
June 02, 2009
UK Looking at Lawyers
The US may not be the only government entity proceeding against lawyers, as the UK Financial Services Authority seems to also be heading in this direction. See James Lumley and Caroline Binham, Bloomberg, Lawyers at U.S. Firms Face FSA Insider-Trading Case
March 20, 2009
Nacchio Files Petition for Cert
Joseph P. Nacchio, former CEO of Qwest Communications filed a Petition for Certiorari in the U.S. Supreme Court. He argues that the Tenth Circuit decision (en banc) conflicts with other circuits. The decision in the 10th Circuit was split 5-4 (see here and here). The issues presented in this Cert Petition are:
"1. Whether the defendant is entitled to acquittal or a new trial because the Tenth Circuit, in conflict with the standards applied in other circuits, erred by upholding the jury instructions bearing on the materiality of the type of information at issue, and by holding that there was sufficient evidence that the defendant failed to disclose material information and knew it.
2. Whether the judgment must be reversed and remanded for a new trial because the Tenth Circuit approved the use of impermissible procedures for the exclusion of expert testimony under Rule 702 that conflict with decisions of other circuits.
3. Whether the Tenth Circuit’s decision should be summarily reversed because it misapplied decisions of this Court, mischaracterized the district court’s reasoning, failed to resolve all the issues presented, and held that Nacchio failed to address an issue that was a principal focus of his brief."
There are several important issues in this case, such as whether a charge of insider trading is proper when "the allegedly material 'inside' information consisted of internal corporate risk assessments about financial results for future quarters." Another key issue in this case is the failure to admit the testimony of a defense witness. With Daubert and rules related issues to consider, the importance of a defendant to present his or her defense is considered here.
Petition for Certiorari here - Download Nacchio Cert Petition
February 25, 2009
Nacchio Conviction Reinstated
The Tenth Circuit en banc reinstated the convictions of former CEO of Qwest Communications International, Inc. (See opinion) A prior panel had found it improper to exclude defense expert testimony. In a 104 page decision (52 page majority), 5 judges on the Tenth Circuit held that "the district court's exclusion of the testimony was not arbitrary, capricious, whimsical, or manifestly unreasonable: nor are we convinced that the district court made a clear error of judgment or exceeded the bounds of permissible choice in the circumstances."
Four members of the court dissented. The dissent states, "[t]he flaw in the government's argument is that the rules of criminal procedure, unlike the rules of civil procedure, do not require a criminal defendant to establish the foundation for expert testimony through advance written submissions." Circuit Judge Kelly, writing an additional dissent has a classic opening line - "[i]t is indeed unfortunate that the court chooses expediency over due process."
The real question may be whether the Supreme Court grants a request to review, and whether they find that due process requires the defense be given the opportunity to present
their its case. I can't help but remember these words from the case of Washington v. Texas, 388 U.S. 14, 19 (1967):
"The right to offer the testimony of witnesses, and to compel their attendance, if necessary, is in plain terms the right to present a defense, the right to present the defendant’s version of the facts as well as the prosecution’s to the jury so it may decide where the truth lies. Just as an accused has the right to confront the prosecution’s witnesses for the purpose of challenging their testimony, he has the right to present his own witnesses to establish a defense. This right is a fundamental element of due process of law."
See also Dionne Searcey, WSJ Blog, Tenth Circuit Upholds Nacchio's Conviction; Prison Time Likely Awaits ; Andy Vuong, Denver Post, Full Court Upholds Nacchio Insider Trading Conviction
(esp)(w/ a hat tip to Peter Henning)
July 20, 2008
The Latest on Sam Waksal - ImClone's Founder
For cancer patients, any word of the possible release down the road of Sam Waksal is likely to be celebrated. The latest word on his status is seen in an article by Beth Landman in the Intelligencer titled, Sam Waksal's Return to New York.
Waksal was the founder of ImClone, a company that produced a drug called Erbitrux. But the FDA's initial disapproval and his activities following that disapproval led to his conviction for insider trading. He stepped down as President and CEO in 2002 stating:
"Serving as Chief Executive Officer of ImClone Systems has been an honor and a privilege for the past eighteen years. In light of recent events and the distractions they have caused, I am withdrawing myself from the daily operation of the Company in the confidence that ImClone Systems will be able to maintain its focus on the advancement of our clinical development and research programs. I fully believe that our product candidates, the most advanced of which is ERBITUX(TM), will have a profound effect on the way that patients with cancer are treated." (see here)
The sad part of the events is that Waksal was thereafter incarcerated. The FDA finally approved ImClone's drug in 2004 (see here), but Waksal went to prison.
It is good to see that he may be able to return to assisting the development of cancer drugs. Those who go to prison are likely to be changed by the experience, but few are able to leave with little damage to their reputation. Whether Sam Waksal is in this select group remains to be seen.
(esp)(w/ a hat tip to Jack King)
February 28, 2008
Two More Plead Guilty to Insider Trading
Two more defendants, one an officer at UBS, pleaded guilty to insider trading. According to a press release (here) issued by the USAO for the Southern District of New York:
Between December 2001 and August 2006, GUTTENBERG repeatedly sold to TAVDY and another individual material,nonpublic information regarding upcoming upgrades and downgrades in UBS analysts’ securities recommendations. Investors, including institutional investors and professional money managers, regularly relied on UBS analysts’ ratings of public companies’ securities. As a result, changes in UBS analysts’ recommendations regarding a particular company’s securities were material to investors and often had a direct effect on the trading price of that company’s stock.
The two defendants were among thirteen charged with insider trading that included employees from Bank of America, Morgan Stanley, and Bear Stearns in addition to UBS. Only one defendant is still awaiting trial as all the others have now entered guilty pleas. (ph)
February 07, 2008
What's the Difference Between Criminal and Civil Insider Trading Cases?
That's an easy question: with one you pay out money (and take an injunction prohibiting future violations) while the other sends you to jail. But two insider trading cases this week raise the issue of why some go criminal while others remain only as civil enforcement actions. The SEC announced on February 5, 2008, the filing of a settled insider trading complaint against a former director of Dow Jones, David Li, who tipped a close friend about a potential offer by News Corp. for the owner of the Wall Street Journal and other publications. According to the Commission's Litigation Release (here):
On May 8, 2007, the Commission filed an emergency action in the United States District Court for the Southern District of New York against Kan King Wong ("K.K. Wong") and Charlotte Ka On Wong Leung ("Charlotte Wong"), alleging that the husband-wife couple traded Dow Jones securities based on inside information. Specifically, the Wongs purchased approximately $15 million worth of Dow Jones securities in their account at Merrill Lynch and, after the Offer became public, made approximately $8.1 million in trading profits. The court entered a Temporary Restraining Order freezing those assets and imposing other relief. See LR-20106 (May 8, 2007). Today the Commission filed an amended complaint alleging that Dow Jones board member David Li tipped his close friend, Michael Leung Kai Hung ("Michael Leung"), before the Offer's public disclosure, and Michael Leung, with the Wongs' assistance, traded Dow Jones stock in their Merrill Lynch account. The Commission further alleged that K.K. Wong bought 2,000 Dow Jones shares in his TD-Ameritrade account and made approximately $40,000 in profits. Charlotte Wong is Michael Leung's daughter, and K.K. Wong is his son-in-law.
Li is quite prominent in the Hong Kong business community, serving as the CEO of Bank of East Asia and as a member of Hong Kong's Legislative Counsel and Executive Committee. This was not a small case as Mr. Li paid a civil penalty of $8.1 million and Michael Leung, the main trader, disgorged $8.1 million and paid a one-time penalty of the same amount, so that total from the case was over $24 million. There is no indication that any criminal charges will be brought because of the trading, which involved the purchase of over 400,000 Dow Jones shares through a third party's account to hide the identity of the actual purchaser. Of course, there is a chance that a sealed indictment was returned and prosecutors could be seeking to arrest either David Li or Michael Leung if they return to the United States, but it does not sound like that's the case given the civil settlement.
Meanwhile, on February 4, 2008, the U.S. Attorney's Office for the Southern District of New York announced that a jury convicted Hafiz Naseem of twenty-eight counts of insider trading and one count of conspiracy based on tipping a Pakistani banker, Ajaz Rahim, about impending deals that he learned about while working at J.P. Morgan and then Credit Suisse. According to a press release (here):
Credit Suisse was engaged to advise either the target company or the acquiring entity in connection with business combination transactions involving the Issuers (the "Subject Transactions"). NASEEM, who was not assigned to work on any of the Subject Transactions, repeatedly searched Credit Suisse’s internal computer databases for confidential documents relating to the Subject Transactions, opened and read these documents, and passed the material non-public information concerning the Subject Transactions in these documents to RAHIM (the "Credit Suisse Inside Information"). NASEEM also was observed rummaging through papers on the desks of several analysts when the analysts were not present.
Naseem is not a U.S. citizen, and after the conviction the court revoked his bail and he was remanded into custody, most likely because he was a flight risk. The total profits realized from the various tips was $7.9 million, the bulk of it from trading in TXU call options. Under the Federal Sentencing Guidelines, Naseem is looking at a sentencing range of at least 78-97 months based only on the gain before any other enhancements that could easily take him up to a ten-year prison term.
While there are some differences between the two cases, there are many similarities, so it's not clear to me why one is criminal and the other only civil. The loss amount is the roughly the same in each, and the violation of a fiduciary duty is clear for both tippers. Each involved trading overseas, a particular problem that can threaten the integrity of the U.S. securities markets. While Naseem was involved in a systematic course of conduct, Li was a director of a major corporation tipping a close friend. The trading by the tippees was similar in the sense that each tried to hide his true identity, and substantial profits were made.
Could it be that the decision was influenced by the fact that Li and Leung are prominent businessmen while Naseem is a lower-level investment bank employee who tipped a less-prominent Pakistani banker? While it may be a consideration that Li and Leung might not be extraditable to the U.S., the U.S. Attorney's Office did indict Rahim despite the fact that it has not yet been able to get him into this country yet to face charges. It may just have been the timing of the discovery, because Naseem was nabbed around the same time that the U.S. Attorney's Office was cracking down on others on Wall Street engaged in insider trading -- he was in the wrong place at the wrong time. There may also be considerations about the strength of the government's evidence relating to Li and Leung that influenced the decision not to pursue criminal charges. While the SEC complaint (here) presents the case in stark terms that makes it appear to be a straightforward insider trading case, the Commission does not have to test its evidence in court, and may only have a circumstantial case that the defendants were willing to settle so long as no criminal charges were filed. But from the outside, at least, it is difficult to distinguish between them, and raises the question about what the appropriate criteria are for determining whether a criminal prosecution is used in addition to the civil enforcement mechanism. That it could just be who wins or loses the criminal prosecution lottery is not very comforting. (ph)
November 01, 2007
Sell on the Dip
There is an investment adage to "buy on the dip," meaning that when the stock market has one of its periodic one-day plunges that appears to be irrational, buy shares to take advantage of the discounted prices. If you know bad news is coming, you can also position yourself to take advantage of it, and two SEC insider trading cases show once again that investors can profit from impending bad news just as easily as good news. In one case, a former vice president at mortgage lender Countrywide Financial took advantage of information about a quarterly earnings shortfall by selling out his shares, sold short additional shares, and bought put options. The stock dropped 11% on the announcement, netting profits and losses avoided of $35,547.93. According to the SEC Litigation Release (here), in addition to the disgorgement the defendant paid a double-penalty, a steep price for a single set of trades.
In a second case, the Commission alleges that a Ukrainian national made bearish trades in IMS Health Inc. before the announcement that the company missed its quarterly earnings mark. The SEC Litigation Release (here) states:
[J]ust hours before the close of the market on October 17, 2007, Dorozhko, while in possession of material nonpublic information regarding the impending announcement of negative earnings by IMS Health, purchased 300 Oct 25 out-of-the-money and 330 Oct 30 at-the-money put options on the common stock of IMS Health which would expire on October 20, 2007, just three days later. According to the Complaint, after the market closed on October 17, 2007, IMS Health reported third quarter earnings of $0.29 per share, which was 28% below analysts' consensus estimates of $0.40 earnings per share and 15% below the previous year's third quarter earnings of $0.34 per share. The Commission alleges that on October 18, 2007, IMS Health's stock price fell to a low of $21.20 per share or 28% from the previous day's closing price. On the same date, Dorozhko sold all of his IMS Health put options and realized proceeds of $328,000 and profits of $287,346 according to the Commission's Complaint.
Because of the overseas trading, the Commission sought and obtained a freeze order to keep the money in the United States while the Enforcement Division staff completes its investigation. (ph)
October 26, 2007
Former CEO Charged With Insider Trading That Netted Over $185 Million
The former CEO of military armor supplier DHB Industries, now known as Point Blank Solutions, was arrested on a superseding indictment (available below) that charges him with insider trading involving proceeds of over $185 million from the sale of company stock in 2004. Also named as a defendant is the the former chief operating officer of the company, who was indicted initially back in August 2006. In addition to the insider trading, the indictment charges obstruction of justice, lying to company auditors and to the SEC, tax evasion, and accounting fraud involving undisclosed compensation and overstated inventory. According to a Wall Street Journal story (here), the diversion of company resources for personal benefits included:
more than $350,000 in expenses related to Mr. Brooks horse business; more than $36,000 expenses related to his son's Bar Mitvah; $11,420 for acupuncture treatments for his family members; $7,900 for a face lift for his wife; $10,000 for his children's summer camp; $122,000 for the purchase of iPods and digital cameras to give as gifts at his daughter's Bat Mitzvah; and $101,500 for the purchase of an armored vehicle for Mr. Brooks and his family members' personal use.
The party for his daughter was broadcast as part of MTV's "My Sweet Sixteen" series, a favorite in my house. The indictment also alleges that over $1 million of DHB money was used for family vacations, ranging from $100,000 for a trip to St. Johns to $3,200 on meals and merchandise at the Bellagio in Las Vegas. In addition to the criminal charges, the SEC filed a civil enforcement complaint (here) in the U.S. District Court for the Southern District of Florida. (ph)
October 24, 2007
Former General Counsel Convicted of Insider Trading in His Company's Stock
The former general counsel for Amkor Technology, Inc. was convicted on securities fraud charges related to his trading in company stock (indictment here). According to a press release (here) issued by the U.S. Attorney's Office for the Eastern District of Pennsylvania:
Heron traded Amkor securities while in possession of material, non-public information including, among other things, the company’s financial condition, proposed mergers and/or acquisitions, and potential litigation exposure. He generally made his trades via the Internet using his office computer to access his online personal brokerage account. As a result of his illegal trades, Heron realized approximately $290,000 in gains and/or avoided losses.
The trades included buying put options on Amkor's stock as a bearish bet on the stock before the announcement of an earnings decline that caused a 32% drop in the share price. It's not clear whether the former GC tried to hide his trading by using a fictitious name on the account, and he placed the trades from his office computer, so it was easy to trace. This was not exactly the most sophisticated insider trading scheme even launched. The SEC has a pending civil injunctive action (here) alleging the same violations. (ph)
October 18, 2007
Baseball and Inside Information
Nothing goes better with the great American pastime than passing a little inside information to your friend about a pending corporate transaction. The SEC filed a settled civil enforcement action against a former director of of NSD Bancorp who disclosed a pending merger of the company with F.N.B. Corp. that was announced in October 2004. The tippee bought 2,000 shares, and after the announcement NSD's stock price jumped 52%, allowing him to reap over $25,000 in profits. According to the SEC Litigation Release (here), the director provided the information at or before the September 22 Pittsburgh Pirates game. According to Baseball-Reference.Com (here), the Pirates lost to the Chicago Cubs 1-0 that evening -- the type of pitcher's duel that has a lot of down time to discuss a proposed buyout, no doubt. The SEC alleges that "the morning of September 23, 2004, Pitterich, who had no prior history of trading in the securities of NSD Bancorp, purchased 1,000 shares of NSD Bancorp's stock on the basis of the material, nonpublic information provided to him by Lenzner. On October 1, 2004, Pitterich, on the basis of the same information, purchased an additional 1,000 shares." The tippee disgorged his profits plus payed a one-time penalty, and the director/tipper also payed a one-time penalty. Given that the Bucs haven't had a winning season since 1992, when Barry Bonds was on the team -- with a much smaller head -- there's got to be some reason to attend a late-season game. (ph)
October 05, 2007
The Family Grapevine
The SEC filed a settled insider trading enforcement action accusing the defendant of trading on information about the impending takeover of Commercial Federal Corp. According to the Commission's complaint (here), the defendant learned about the transaction from his brother, who received the information from his wife, an administrative assistant to Commercial Federal's CEO at the time who discussed her concerns about job losses from an acquisition of the bank. The SEC asserts that by trading on the information, the defendant breached a fiduciary duty to his brother, based on the fact that they "had a history of sharing and maintaining confidences." The defendant is a self-employed farmer/rancher, and the nature of the confidences the brothers shared is not described in the complaint.
That's not the classic duty of trust and confidence described by the Supreme Court in Chiarella v. United States, 445 U.S. 222 (1980), which discussed legal fiduciaries like trustees and lawyers as examples of those with the duty of confidentiality. But it does fit within the SEC's more expansive definition of such a duty in Rule 10b5-2(b)(3), which covers, inter alia, any person who "receives or obtains material nonpublic information from his or her spouse, parent, child, or sibling." The broader definition of "duty of trust and confidence" in the SEC rule has never been tested in court, and won't be in this case because it is a settled matter. But it's an open question whether a court would find the requisite duty based solely on the familial relationship and the trading of confidences. The defendant settled the matter by disgorging over $39,000 in profits from his trading and a tippee's, and a civil penalty of $31.150 based on his profits.
October 04, 2007
Report of Insider Trading at EADS
A preliminary investigation by the French financial regulator Autorité des marchés financiers (AMF) indicates that a number of senior executives at Franco-German aircraft manufacturer European Aeronautic Defense & Space Co. NV (EADS) sold shares before the announcement of problems with the company's largest development project ever, the A380. The AMF report was discussed in the French newspaper Le Figaro and the trading allegedly occurred between November 2005 and March 2006, before the June 2006 announcement of technical problems with the superjumbo A380 and also the A350 aircraft. The stock dropped over 25% on that announcement, and it is not clear how far in advance the information was known to 21 managers and executives who sold shares. The AMF issued a statement (here) that
it submitted an interim memorandum to the prosecuting authorities in Paris in early September, in accordance with law; it obviously has no comment on the Le Figaro report; it insists that it has not completed its investigations and is unlikely to do so before the beginning of 2008; consequently, the AMF Board, which has sole authority to commence regulatory proceedings against persons suspected of infringing its General Regulation, has not given an opinion on the matters reported in the article and, at this stage, has decided solely to inform the criminal court thereof; at this stage of the procedure, which is still a standard inquiry, the persons concerned have not had the opportunity to exercise their right of defence.
Insider trading cases in the European Union are fairly uncommon, at least as compared to the United States. It will be interesting to see how the investigation develops, especially when it involves a company with the political significance of EADS. A story on CNN.com (here) discusses the report. (ph)
September 28, 2007
An End-of-the-Year Insider Trading Clearance at the SEC
With the end of the fiscal year nearly upon us, the SEC seems to be clearing its docket of insider trading cases, announcing three new ones on the second to the last day of FY 2007. Last year, the Commission was criticized for the decrease in enforcement actions, specifically insider trading cases, and it's unlikely that criticism will be leveled again with the increase in the number of such cases filed. Note when the trading involved in the three cases occurred:
- A father and son were accused of trading in the shares of Aspen Technology, Inc., Regeneration Technologies, Inc., and Triangle Pharmaceuticals, Inc. in 2001 and 2002 based on information the son obtained while working for Banc of America Securities and passed on to his father. The father comes with quite a pedigree, having been "a founding member and Director of the Chicago Board of Options Exchange, Director of the American Stock Exchange, a Board member of the Securities Industry Automation Corporation, and a Director of the New York Institute of Finance." The two defendants settled the matter by agreeing to be jointly and severally liable to disgorge profits of $204,476 plus prejudgment interest of $72,511.48. The son will pay a one-time civil penalty, while the father agreed to a double penalty. The SEC Litigation Release is here.
- A former director and member of the audit committee at NBTY, Inc. is accused of tipping a friend about an impending announcement of an earnings shortfall in the third quarter of 2004. Based on the information, the friend "sold his entire position of NBTY stock, sold the stock short, purchased put contracts, and sold call contracts through the custodial accounts of his three children," realizing $400,000 in gains and losses avoided. The SEC complaint is here.
- A tippee of a vice president of LendingTree, Inc., traded and tipped others before the announcement of a buyout of the company in May 2003. The defendant realized profits of $14,078 himself, and his tippees made $74,516. In settling the matter,the defendant agreed to disgorge his profits and pay a $88,594 penalty, equal to the total profits made through his and his tippees trading. The SEC Litigation Release is here.
Just like the auto companies, the SEC needs to clear the lot for next year's models. (ph)