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Corporate & Securities Law

: Jim Hamilton's World of Securities Regulation

Fifth Circuit Reinstates SEC Insider Trading PIPE-Related Enforcement Action

By Jim Hamilton

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In an SEC enforcement action alleging insider trading in a PIPE-related case, a Fifth Circuit panel said that it was plausible that the company's largest shareholder agreed not to trade on inside information about the PIPE offering when he agreed to keep the information confidential. the district judge ruled that the agreement required to invoke the misappropriation theory of insider trading liability must include both an obligation to maintain the confidentiality of the inside information and not to trade on or otherwise use the information. Thus, the appeals court vacated the district court's dismissal of the enforcement action and allowed the SEC to go forward. (SEC v. Cuban, No. 09-10996, Sept 21, 2010).

In this action, the SEC alleged that, after the shareholder agreed to maintain the confidentiality of inside information concerning the offering, he sold his stock in the company without first disclosing to the company that he intended to trade on this information, thereby avoiding substantial losses when the stock price declined after the PIPE was publicly announced. As the PIPE offering progressed toward closing, the company decided to inform the shareholder of the offering and to invite him to participate.

The CEO prefaced the call by informing the shareholder that he had confidential information to convey to him, and the shareholder agreed that he would keep whatever information the CEO intended to share with him confidential. The CEO, in reliance on this agreement, told the shareholder about the PIPE offering. The shareholder reacted angrily to this news, stating that he did not like PIPE offerings because they dilute the existing shareholders.

Several hours after they spoke by telephone, the CEO sent the shareholder a follow-up email in which he provided contact information for the investment bank conducting the offering. The shareholder then contacted the sales representative, who supplied him with additional confidential details about the PIPE. One minute after ending this call, the shareholder telephoned his broker and directed the broker to sell all 600,000 of his shares, thereby avoiding losses in excess of $750,000 by selling prior to the public announcement of the PIPE.

THe district court found that the complaint asserts no facts that reasonably suggest that the CEO intended to obtain from the shareholder an agreement to refrain from trading on the information as opposed to an agreement merely to keep it confidential. But the appeals panel found that the SEC allegations, taken in their entirety, provide more than a plausible basis to find that the understanding between the CEO and the sharfeholder was that he was not to trade, that it was more than a simple confidentiality agreement. The panel said that it was at least plausible that each of the parties understood, if only implicitly, that the companny would only provide the terms and conditions of the PIPE offering tothe shareholder for the purpose of evaluating whether he would participate in the offering, and that the shareholder could not use the information for his own personal benefit.

Full post as published by Jim Hamilton's World of Securities Regulation on September 28, 2010 (boomark / email).