In the wake of United States v. Newman (PDF: 357 KB), there were many opinions about the future of insider trading prosecutions. Some decried the decision as giving a pass to Wall Street insiders. Others considered it a rebalancing of the scales of justice to hold the government to a burden set out some 30 years ago in Dirks v. SEC (PDF: 16.3 MB). Regardless of which side one finds oneself on, I am reminded of the adage: the more things change, the more they stay the same. Why? Because what was old is new again.
How can it be, with so many legal experts taking the position that things have changed one way or the other, that things are actually “the same”? Easy: Newman relies on Dirks, and Dirks, as we all know, is not new. Dirks set out the law, and the Second Circuit used that exact language to decide Newman. Therefore, what was old is new again.
Dirks introduced the notion of personal benefit to insider trading law. The Supreme Court wrote that whether there exists a personal benefit sufficient to find insider trading liability can turn on whether there is “a relationship between the insider and the recipient that suggests a quid pro quo from the latter, or an intention to benefit the particular recipient.” Newman uses virtually identical language, citing to United States v. Jiau, which, of course, cites to Dirks.
Who is this “particular recipient” in Dirks? A careful reading of the sentence reveals it is the recipient of the information, i.e., the tippee. Thus, these seven little words espoused in Dirks/Jiau/Newman, words that have gotten little if any attention over the years, have the biggest potential to impact the greatest number of cases. Dirks, Jiau, and Newman all unequivocally say that one can find personal benefit sufficient for insider trading liability where the tipper intends to benefit the tippee.
This seems to reverse the direction we are used to seeing personal benefit flow, from the tippee to the tipper. Does this directional flow of personal benefit turn insider trading on its head? Perhaps so. This Dirks language suggests that the insider can seek to benefit the recipient of the information without any return benefit from the recipient. In other words, the tippee gets but does not give anything to the tipper. It is clear that the mere act of the insider seeking to improperly benefit someone outside the company’s circle of confidentiality can give rise to insider trading liability if the tippee trades on that information. But who is liable: the tipper, the tippee(s), or all?
Logic dictates that the tipper should be subject to insider trading liability here because the tipper knows her true intention in disclosing confidential corporate information. Judge Jed S. Rakoff held as much in United States v. Gupta (PDF: 118 KB) where he wrote: “As the use of the word ‘or’ … indicates, a tipper’s intention to benefit the tippee is sufficient to satisfy the benefit requirement so far as the tipper is concerned….” The opinion, however, can be read to suggest that intent to benefit would not be sufficient for tippee liability.
And yet, at least two remote tippees, one of whom my firm and I represent, may have been found liable for insider trading based on the intent to benefit theory. In SEC v Payton (PDF: 664 KB), Judge Rakoff, despite the way Gupta can be read, charged the jury using language directly lifted from Newman, although somewhat reordered: “the SEC may not prove the receipt of a personal benefit by the mere fact of a friendship, particularly of a casual or social nature. Instead, the SEC must prove a relationship between [tipper] and [tippee] that supports the conclusion that the information was given in return for [the tipper]’s receiving something from [the tippee] or that [the tipper], in giving the information, had an intention to benefit [the tippee].
The jury convicted both defendants. Afterwards, one juror told a reporter that the jury did not believe the government’s quid pro quo or close personal friendship theories. This leaves the only path to personal benefit that the tipper intended to benefit the tippee. How the jury reconciled the remote tippee’s knowledge of the intention of a tipper neither remote tippee knew is anyone’s guess at this point, but that is not the point of this post.
The point is that what was old is new again. Those who thought that a CEO tipping his golfing buddy on the back nine were untouchable because of some perceived change in the personal benefit standard need look no further than something that has been hiding in plain sight for 30-plus years – the tipper’s intent to improperly benefit the tippee. Dirks, Jiau, and Newman make it clear that pathways to insider trading liability still abound. If the Payton case is any indication this 30 year old sentence may just enjoy a rebirth … making what was old new again.
Gregory Morvillo is a partner in the New York office of Morvillo LLP. He specializes in insider trading and securities fraud cases.
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