In Sun River Energy, Inc. v. McMillan, 2015 BL 84085 (N.D. Tex. Mar. 25, 2015), the United States District Court for the Northern District of Texas determined the amount of short swing profits owed by Harry McMillan (“McMillan”) and Cicerone Corporate Development, LLC (“Cicerone”) on transactions involving shares in Sun River Energy, Inc. (“Sun River”).
In an earlier decision, the court had found that McMillan and Cicerone (collectively “Defendants”) “beneficially owned more than 10% of the outstanding shares of Sun River common stock at all relevant times and were thus insiders subject to § 16(b).” Sun River sued under Section 16(b) of the Securities Exchange Act of 1934, 15 U.S.C 78p(b), to reclaim short-swing profits of $949,104.12 from McMillan, and $1,015,212.30 from Cicerone, with jointly and severally liability imposed for $697,807.90.
Defendants conceded the sum sought from Cicerone in full and further conceded McMillan’s liability for $501,104.32. The Defendants asserted, however that: (a) McMillan was liable for only $168,000 more than ($669,104.32), and (b) that joint and several liability was less than $697,807.90.
First, Defendants argued that McMillan should only be accountable for half of the 350,000 shares of Sun River sold by Cicerone since he only held a 50% ownership interest in the company at the time of the transaction. Second, Defendants argued that the number of shares should be reduced by 70,000 to avoid counting shares twice.
Sun River asserted that all 350,000 shares were attributable to McMillan, because, he had a pecuniary interest in those shares. As the sole remaining investor in Cicerone, he would have enjoyed the risks and rewards of owning those shares had Cicerone not sold them. It also contended the 50% ownership interest not held by McMillan did not count because the owner of those shares had no opportunity to profit from the sale.
Sun River pointed to language in Rule 16(a)(2)(i) defining a pecuniary interest as “the opportunity, directly or indirectly, to profit or share in any profit derived from a transaction". The court concluded that the definition identified a pecuniary interest but did not define the extent of the interest.
Instead, the court pointed to language in the rule providing that a general partner’s indirect pecuniary interest in the portfolio securities is the general partner’s proportionate interest. 17 C.F.R. 240.16a-1(a)(2)(ii)(B) Therefore, the court held McMillan’s pecuniary interest in Cicerone at the time of the transaction was 50%. Finally, the court reduced the number of shares attributable to McMillan to 105,000, since Sun River had already attributed 70,000 of those shares to McMillan as a result of other transaction.
The court therefore, calculated the award of short-swing profits by multiplying 105,000 shares by $1.60 per share (the difference between the initial January 14, 2011 market share price and the April 8, 2011 market share price) resulting in a “short swing” profit of $168,000. The court added this to the conceded amount and held McMillan liable for $669,104.32. Because Cicerone did not have a pecuniary interest in the initial January 2011 transaction, the court found McMillan jointly and severally liable along with Cicerone in the amount of $501,104.32.
The primary materials for this post can be found on the DU Corporate Governance website.