The surprise $5 billion bid by Rupert Murdoch’s News Corp. for Dow Jones & Co. may not have been quite as surprising to some who bought call options on the publisher of the Wall Street Journal before the announcement. In a continuing refrain when large offers are made for companies, trading in the options spiked in the days before the information became public, netting some "lucky" traders outsized profits. In this case, a Bloomberg story (here) notes that the average volume in Dow Jones call options in the month before the bid was a bit more than 300 per day, but on April 25, four trading days before the announcement, the volume was over 3,000 contracts; on April 30, the day before the bid emerged, the volume was over 4,300 contracts. The article notes that all the 3,464 September 45 call options, which were well out of the money, that traded on April 30 were purchased in the last eleven minutes before the market closed at 4:00 p.m. EDT. The price on these calls jumped from less than $.50 to a $12 close the next day, which is at least a 2,400% return in one day — I won’t even try to annualize it. Timing in life is everything, but that’s just way too much to not draw a lot of attention from the SEC and the U.S. Attorney’s Office. (ph)
Category: Insider Trading
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Former Qwest CEO Joseph Nacchio was convicted on 19 counts of insider trading and acquitted on 23 other counts by a jury in Denver, Colorado. According to a report from the Rocky Mountain News (here), the acquittals came on the counts during the earlier part of the five-month period charged in the indictment, and the convictions were for the later transactions, totaling $52 million in sales. Under the Federal Sentencing Guidelines in effect for 2001, that amount of gain would result in a sentence of 57-71 months, but it could increase if the district court were to add any enhancements for abuse of a position of trust or more than minimal planning, which could take the range up to 8-10 years. Of course, the Sentencing Guidelines are no longer mandatory, but judges frequently use them as the starting point for the determination of an appropriate sentence, and they give a good idea of the general range for a likely prison sentence.
In light of the defense’s decision to go with a scaled-down presentation and not deal with the whole "national security" information that was only available to Nacchio, a natural question will be whether the defense was over-confident that the government had not established its case. Of course, the decision not to call Nacchio to testify will be second-guessed, but it is always difficult to say whether that would have made a difference, and if he had come across poorly, he could well have been convicted on all 42 counts and even faced an obstuction of justice enhancement to the sentence. (ph)
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The SEC filed a civil enforcement action accusing Kevin J. Heron of selling shares in Amkor Technology, Inc., while he served as the company’s general counsel, ahead of corporate announcements. Making it unlikely that he can offer an ignorance defense, Heron’s responsibilities included serving as the chief insider trading compliance officer at the Arizona semiconductor packaging and testing company. The SEC Litigation Release (here) states:
[F]rom October 2003 through June 2004, Heron engaged in a pattern of insider trading by trading in Amkor securities prior to five Amkor public announcements relating to financial results and company business transactions. During this period, Heron executed more than fifty illegal trades in Amkor stock and options on the basis of material, nonpublic information that Heron had learned as a result of his position as general counsel. Heron executed nearly all of these illegal trades while he and other company employees were subject to company blackout periods that prohibited them from trading in Amkor stock. Even though Heron was the person at Amkor who was responsible for administering these blackout periods, Heron routinely violated Amkor’s blackout periods by trading on inside information. Heron’s trading yielded profits, and losses avoided, totaling approximately $290,000.
Amkor terminated Heron, who worked out of the company’s West Chester, Pennsylvania office, from his position in September 2005. Heron was indicted in December 2005 on four counts of securities fraud (indictment here) in the Eastern District of Pennsylvania. (ph)
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The prosecution of former Qwest CEO Joseph Nacchio heads into its final phase, at least for the guilt portion of the proceedings, as the jury will receive the case and begin its deliberations on the 42 counts of insider trading. The defense put on only three witness, adjuring having Nacchio testify or presenting any evidence of the secret national security contracts that had been touted before trial as a basis for his positive outlook on the company before its stock collapsed. The Race to the Bottom blog (here) , sponsored by the University of Denver Sturm College of Law, has by far the best coverage of the trial, with outstanding summaries and analysis of the closing arguments. The posts are especially good at providing perspective on how the lawyers for each side framed their cases that, in the end, revolve around a determination of what exactly was in Nacchio’s mind in 2001 when he sold shares valued at over $100 million.
Like any prosecution, the outcome will cause one side or the other to be second-guessed. If the jury convicts, then the decision not to put Nacchio on the witness stand will be the first strategic decision questioned. Some will also ask whether a guilty verdict is more a judgment on a CEO who made an almost obscene amount of money while ordinary investors lost 98% of their stock value (measured from the peak, of course) and numerous employees lost jobs when Qwest had to make layoffs due to financial problems exacerbated by accounting problems. Nacchio sought a change of venue before trial because he claimed that he was the most vilified man in Denver — something former Broncos QB Jake Plummer might argue. If the jury returns a not guilty verdict, then the government’s strategy of charging a narrow insider trading case without any "smoking gun" evidence of what was in Nacchio’s mind will call into question whether the government was motivated by a desire to bring another high-profile CEO prosecution based on shaky evidence for the sake of the headlines. The whole "criminalization of agency costs" discussion will be resurrected — although that’s not dependent on a not guilty verdict — to question whether the decisions of executives should be the subject of criminal cases. If the jury deadlocks and a mistrial is declared . . . well, maybe it’s better not to think about that one right now. An AP story (here) discusses the case as it heads to the jury. (ph)
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The government rested its case-in-chief in the prosecution of former Qwest CEO Joseph Nacchio on insider trading charges related to his sales of over $100 million in stock in 2001, right before the shares went into a tailspin. The defense now starts presenting its case, and there is a substantial controversy already about whether law professor and former University of Chicago Law School dean Daniel Fischel will be allowed to testify as an expert regarding whether the sales were based on material nonpublic information. The government filed a motion to exclude him from testifying, and if the size of the brief is a measure of the potential importance of the witness, then the sixty-page filing (available below) means Fischel could be quite helpful to Nacchio. The government argues that the defense did not comply with the expert disclosure rules under Federal Rule of Criminal Procedure 16, and more importantly that Fischel’s opinions do not qualify as permissible testimony from an expert because he will simply be restating facts that are ultimately up to the jury to decide, giving only his interpretation. The defense report on Fischel’s opinions (available below) states he will testify that "the economic evidence is not consistent with the Government’s allegation that Mr.Nacchio’s stock sales during the first two quarters of 2001 . . . were made on the basis of material nonpublic information." Instead, according to Fischel, the transactions were consistent with Nacchio’s stock sales in other periods.
Exclusion of a defense expert can be dangerous because this is the type of issue that can lead to a reversal of a conviction if an appellate court determines that the testimony was admissible. To this point, the judge has kept the parties on a short leash, prohibiting the government from questioning a witness about Nacchio’s transactions in 2002 because it was outside the time frame of the indictment. While Fischel is well pedigreed in the law and economics field, the judge may well keep his testimony very close to economic principles and away from broad conclusions about Nacchio’s intent. If Fischel is allowed to testify, look for lots of objections from the prosecutors.
The other issue facing the defense is whether it will call Nacchio as a witness. One aspect of the defense is that Nacchio knew about top-secret national security contracts that others in Qwest’s management were not privy to, so he did not sell the shares because he anticipated a decline in the stock price but rather only wanted to diversify his finances while believing good things were on the horizon. To establish that defense, it may well be that Nacchio will have to testify because it puts his state of mind at the time of the sales directly at issue, and he’s the only one who can say what he knew. The defense could opt not to call Nacchio, but as happened in the trial of I. Lewis Libby, it risks not having any of the evidence of the secret contracts admitted to bolster the claim that he sold for reasons other than the problems with Qwest’s deteriorating business — problems that came to light the following year, leading to a collapse of the stock price. Like most white collar crime cases, the decision to put the defendant on the witness stand depends on a number of factors, many unknowable to the defense lawyers, and whether the decision was a good or bad one ultimately awaits the jury’s verdict. (ph)
Download government_motion_fischel_testimony_april_3_2007.pdf
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The SEC is unleashing its insider trading cases with near abandon, filing and settling a case against the former CFO of a company who was working there as a consultant when he got wind of an impending takeover. Melvyn C. Goldstein was CFO of Del Laboratories, Inc. until he retired in 1997, and he returned at the end of the quarters to help out the finance department (see SEC complaint here). In 2004, he figured out that Del was in the process of being acquired by another company, and he bought shares a week before the announcement, realizing a $38,000 profit. As part of the settlement, he will disgorge his profits and pay a one-time penalty plus interest, totaling $81,498.31, according to the Litigation Release (here). The SEC Enforcement Division’s current push on insider trading cases means that they will pursue even the small ones. (ph)
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Two former CEOs will be headed to court in March to face charges related to their tenure at the top of large, publicly-traded companies. First, Lord Conrad Black, former CEO and controlling shareholder of newspaper publisher Hollinger International, Inc. — now the Sun-Times Media Group — faces charges along with three former company executives related to looting the company. The indictment (here) alleges mail and wire fraud, money laundering, and perhaps most ominously for Lord Black, RICO related to a series of deals in which he received substantial payments that the government alleges essentially stolen from the company. The trial is set to start on March 14 in U.S. District Court in Chicago, and may last up to three months. A Bloomberg story (here) provides a good overview of the case.
Out in Denver, former Qwest CEO Joseph Nacchio faces 42 counts of insider trading related to his sales of company stock that netted him over $100 million shortly before the share price collapsed. While Qwest had significant accounting problems, federal prosecutors brought an insider trading case rather than a broader securities fraud case of the type seen in the Enron and WorldCom prosecutions. The allegations against Nacchio focus on his knowledge that Qwest’s financials were deteriorating over the five months of 2001 when he sold the shares. Insider trading charges will avoid much of the accounting minutiae that has bogged down other trials. One aspect of the defense has been the claim that Nacchio was privy to secret intelligence contracts that could bolster Qwest’s revenue, and there has been an ongoing issue with discovery under the Classified Information Procedures Act, as discussed in a Denver Post story (here). Like most securities fraud cases, including insider trading prosecutions, the issues in the trial set to start March 19 in the U.S. District Court in Denver revolve around Nacchio’s intent, whether his trading was motivated by knowledge of impending financial problems at Qwest, so that he sold to avoid substantial losses. (ph)
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Able Laboratories, Inc., which made generic drugs, collapsed in 2005 due to improper manufacturing procedures at its New Jersey facility, and now a former vice president and three former chemists at the company have been charged. The three chemists agreed to plead guilty to conspiracy to distribute adulterated and misbranded drugs, while Shashikant C Shah, who was Vice President of Quality Control, Quality Assurance and Regulatory Affairs, entered his plea to conspiracy to commit insider trading and selling the adulterated/misbranded drugs. The SEC also filed a civil insider trading case against Shah, and its Litigation Release (here) describes his trading:
The Commission’s complaint alleges that on eight separate occasions from August 2003 through December 2004, Shah acquired an aggregate of 58,000 shares of Able’s common stock by exercising employee stock options, and in each case sold the securities either immediately thereafter or within a few days. According to the complaint, at the time he engaged in these transactions, Shah was aware that Able was concealing from the U.S. Food and Drug Administration (FDA) problems with the quality control testing of Able products that resulted in the public release of drugs failing to meet established quality control standards. Shah reaped $909,000 in ill-gotten gains as a result of his unlawful trading. In May 2005, Able’s common stock price fell more than $18 per share, or 75%, in one trading day, after Able discovered faulty testing practices of the type Shah had known about, and the company suspended all product shipments. Able’s stock price continued to fall in the ensuing months, and the company eventually declared bankruptcy in July 2005, selling substantially all of its assets five months later.
Prior to its collapse, Able Laboratories employed 500 people and manufactured generic drugs to treat cardiac and psychiatric problems. (ph)
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Having been roundly criticized on Capitol Hill for perceived softness on insider trading, the SEC and U.S. Attorney’s Office for the Southern District of New York announced a set of indictments and civil fraud charges related to two insider trading schemes, involving a total of thirteen defendants, that allegedly netted over $8 million in total profits. The trading involved tipping from insiders at securities firms, including information from an attorney at Morgan Stanley’s compliance office — the very place at the firm charged with preventing the misuse of confidential information. The Morgan Stanley trading involved information about pending corporate deals in 2004 and 2005, and the lawyer, Randi Collotta, was charged along with her husband, Christopher, who is also a lawyer. The other set of trading involved tipping by Mitchel Guttenberg, an executive in the institutional client department at UBS, who sold information about stock analyst upgrades and downgrades before their announcement. A press release (here) from the Southern District of New York prosecutors provides a handy table listing the various conspiracy and securities fraud charges, and four defendants have pleaded guilty. Nothing quite gets the attention of Wall Street — and Congress — like a good insider trading saga, and this one will certainly draw notice with two major investment firms involved. (ph)
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The SEC brought an emergency action against a Hong Kong company, Blue Bottle Ltd., and its named owner, Matthew C. Stokes, for alleged insider trading. The SEC’s complaint (here) asserts that Stokes (or others) obtained advanced information about company announcements by hacking into computer networks to view press releases and other documents shortly before the information was released into the market. They are accused of trading in advance of the information by buying or shorting the securities of twelve companies to take advantage of the effect of the news on the stock prices, reaping profits of approximately $2.7 million. The trading took place in January and February 2007, and it appears that Stokes is only a front name on the account. The SEC Litigation Release (here) describes the most lucrative trading before the release of negative earnings news:
[W]ith respect to the defendants’ trading in Symantec, the complaint alleges that on January 12, 2007 at approximately 1:03 p.m. EST, the defendants began buying 10,000 SYMC Jan07 20 put contracts, which represented 20 percent of the total trading in that security for the day. Those contracts were out-of-the money when purchased. Later that same day, at approximately 1:37 p.m. EST, the defendants began buying 500 SYMC Jan07 22.5 put contracts, which represented 41 percent of the total trading in that security for the day. All of the put contracts were to expire on January 20, 2007. Essentially, buying the put options was a bet by the defendants that the price of Symantec stock would decrease. The Commission further alleges that on the next trading day, January 16, 2007, at 7:48 a.m. EST, Symantec issued a downward revision of its third quarter 2007 earnings and revenue forecast. Shortly following Symantec’s announcement, the defendants began selling the put contracts, amassing a profit of $1,030,471.
Not a bad profit on an investment made for only a couple days, at most. From the SEC complaint, it appears that approximately $1.6 million is still in the U.S., while about $1 million has joined Elvis in leaving the building. The Commission likely moved now to keep the money here, and will have to continue its investigation of the source of the well-timed trades through civil discovery. This kind of trading is sure to draw the interest of the Department of Justice. The U.S. District Court for the Southern District of New York froze Blue Bottle’s assets and ordered a hearing for March 7, although any individuals who might want to claim the money are unlikely to show up and risk an immediate arrest on criminal charges. (ph)
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