In SEC v. Durant, S.D.N.Y., 1:14-cv-04644, Brief Feb. 23, 2015, ECF No. 29, the defendants, Benjamin Durant III and Daryl M. Payton (the “Defendants”) submitted a memorandum to the court arguing the SEC’s complaint (“Complaint”) failed to satisfy the basic pleading requirements for an insider trading scheme based upon the misappropriation theory, in violation of Section 10(b) of the Securities Exchange Act of 1934, against remote tippees. The Defendants argued that the Complaint failed to allege the existence of a personal benefit to the tipper and the Defendants’ knowledge of that personal benefit. They relied extensively on the Second Circuit’s opinion in US v. Newman [United States v. Newman, 773 F.3d 438 (2d Cir. 2014)].
According to the SEC’s allegations in the Complaint (as described in the Defendant's Memorandum): A junior associate at Cravath, Swaine & Moore LLP (“Cravath”) in the firm’s mergers and acquisitions group learned material, non-public information about IBM’s acquisition of SPSS, Inc., including the anticipated per share purchase price and the identities of the parties to the transaction (the “Information”). In May 2009, the associate, seeking "moral support" on the assignment, disclosed the Information to Martin.
Martin allegedly misappropriated the Information, made trades on it, and disclosed some of the Information to his roommate and nonparty, Thomas Conradt, a registered broker-dealer who worked with the Defendants. Conradt allegedly passed on this information to Payton. With respect to the receipt of the Information by Durant, the Defendants describe the SEC's allegations as "entirely contradictory". On July 28, 2009, when IBM’s acquisition of SPSS was announced, Durant and Payton allegedly netted profits of $53,000 and $243,000, respectively.
To prove tippee liability, the SEC must prove: (1) the corporate insider had a fiduciary duty; (2) the corporate insider breached his fiduciary duty by disclosing confidential information to a tippee in exchange for a personal benefit; (3) the tippee knew of the tipper’s breach; and (4) the tippee used that information to trade or tip another for personal benefit.
In their first argument for dismissal, the Defendants asserted that the SEC’s only possible alleged source of a personal benefit arose out of Conradt's friendship with Martin. The Second Circuit, however, held in Newman that a personal benefit may not be proved based solely on the mere fact of friendship. Thus, the allegations in the Complaint were insufficient to establish personal benefit.
Second, the Defendants argued the Complaint was devoid of any allegation that they knew Martin was receiving a benefit or that the allegations in the Complaint were too speculative. According to the Defendants, the Complaint alleged their knowledge in a conclusory fashion by asserting that when Conradt disclosed the Information to Defendants, he also told them that Martin, his roommate, had disclosed the Information to him.
Third, the Defendants argue the Complaint failed to show they knew or had reason to know the Information was obtained and disclosed in breach of a fiduciary duty. Rule 10b-5 requires that to be found liable for insider trading, a defendant must inherently believe the information received was acquired in breach of a fiduciary duty. The Complaint only asserted that Conradt told the Defendants the source of the information was his roommate and friend.
Finally, the Defendants contended that the Complaint failed to allege Durant was involved in a misappropriation scheme at all. The Complaint presented contradictory positions on a critical issue, the identity of the person who tipped Durant. The Complaint stated in paragraph 3 that Conradt tipped “several other representatives associated with the broker-dealer . . . including Defendants Payton and Durant,” but paragraph 63 contended that Conradt “learned that the information had also been communicated to Durant . . . .” If the Court accepts these allegations as true, it must assume that Conradt learned Durant was tipped, and also that Conradt tipped Durant. The Complaint simply alleged that Conradt was aware Durant knew the same information, but not how.
For the reasons discussed above, the Defendants argued the SEC’s complaint failed to satisfy the elements of insider trading and tippee liability and their motion to dismiss should be granted.
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