SEC v. Mark Cuban: Dismissed
J. Robert Brown | Friday, July 17, 2009 at 12:20PM The district court dismissed the SEC's case against Mark Cuban today. A copy of the opinion is posted on the DU Corporate Governance web site.
The case involved allegations that Cuban violated the prohibitions on insider trading when he received material non-public information from the CEO of Mamma.com Inc. According to the SEC's complaint, the CEO asked and Cuban agreed to keep the information confidential. Shortly after receiving the information, however, Cuban liquidated his position in Mamma.com, selling 600,000 shares.
Based upon the allegations in the complaint (many of which were disputed), there was little question that Cuban received material information before it was disclosed to the public. As the trial court described (relying on the complaint), once the Company disclosed the news, "[t]rading in the company’s stock opened substantially lower the next day and continued to decline in the days following." Moreover, the complaint likewise set out facts indicating that Cuban benefited from the information. As the complaint noted in para. 24: "By selling his Mamma.com shares prior to the public announcement of the PIPE, Cuban avoided losses in excess of $750,000."
In short, if the complaint is to be believed, Cuban was given information in advance of the market that made the downward movement in the Company's share prices clear. In other words, the loss avoided was not (again according to the complaint) a result of acumen but a result of a tip from a corporate insider. To anyone without an understanding of the law, this represents quintessential insider trading. Unfortunately, the law in this area interferes with common sense.
The issue in the case was the nature of the relationship that Cuban had with the Company. Insider trading does not arise from an unfair informational advantage. It arises from a violation of a fiduciary duty or duty of trust and confidence. Cuban argued that a duty of trust and confidence was fiduciary like and could not arise solely because he agreed to keep the material information confidential. As the trial judge described:
- Specifically, Cuban contends that the SEC has alleged merely that he entered into a confidentiality agreement, which is of itself insufficient to establish misappropriation theory liability because the agreement must arise in the context of a preexisting fiduciary or fiduciary-like relationship, or create a relationship that bears all the hallmarks of a traditional fiduciary relationship;
As we shall set out, the court essentially found for the SEC on all major legal issues. The relationship did not have to be a fiduciary one. It was not controlled by state law. The requisite duty of trust and confidence could arise from an agreement. Yet the case was dismissed. We'll explain the basis, an unusual one, in the next post.
Reader Comments (1)
Even if Mark said, “I’m screwed. Now, I can’t sell,” that was merely an impulsive post hoc reaction to what he correctly perceived to be a proposed dilutive stock offering, not a legally binding informed promise not to trade as a quid pro quo for getting non-public information. Without an allegation that he agreed not to trade in the stock sell as a condition of receiving the inside information, there is no reason he must be a captive investor for even one minute in a company whose management was, unbeknownst to him before he found out, intending to screw him and all shareholders. Once he learned the truth about management’s plans, he has no duty to sit by helplessly until management decides to make the news public (at some time which he cannot control). Essentially, the SEC’s argument is that he should be bound to forego trading indefinitely.
The CEO could have asked Mark to agree in writing not to trade until the confidential information was made public. The normal procedure would be to ask Mark to sign an NDA. Then he would be able to know what he could and could not do before agreeing to get the information. (We have signed some NDA’s and refused to sign others if we felt they unduly constricted us.) Since the CEO didn’t do that, the SEC should go after him for negligence by disclosing non-public information selectively without first obtaining assurance from the recipient that he would not trade on it. But that is not Mark’s problem.
In short, the complaint pointedly did not allege that Mark agreed to be an insider who would be restricted from trading. He agreed to keep the non-public information confidential and there is no allegation he broke his promise. He has no other duty to the company or to anyone else.
The SEC’s priorities seem all wrong to me. They allow boards and managers to screw shareholders with impunity and punish shareholders that want to avoid get screwed by precluding them from selling their shares when they learn about the screw job. Talk about blaming the victim! It is very sad.