The SEC has lost three insider trading cases in the opening weeks of 2014. The inability to establish the source of the claimed inside information – the tipper or that it was misappropriated – is a common thread in the losses. In SEC v. Schavacho, Civil Action No. 1:12-cv-0022557 (N.D. Ga. Decided Jan 7, 2014) the Commission’s effort to imply tipping by an insider from a series of telephone calls, contacts and trades was rejected in a bench trial. In SEC v. Yang, Case No. 12-cv-02473 (N.D. Ill. Verdict Jan 13, 2014) a jury rejected Commission arguments that the defendant’s possession of inside information could be inferred from timely placed trades and other circumstances where the source of the information could not be identified. There the Commission did, however, prevail on a front running charge added to the complaint during discovery. And, in SEC v. Steffes, Case No. 1:10-cv-06266 (N.D. Ill. Verdict Jan 27, 2014) a jury rejected the SEC’s claim that two men had inside information based on inferences from their trades, those of their family members, knowledge about property tours, questions from other employees concerned about losing their jobs and other, similar facts.
Despite these set-backs the agency continues to aggressively charge insider trading. In SEC v. He, Civil Action No. 1:14-cv-00344 (N.D. Ga. Filed February 6, 2014) the Commission filed an action alleging insider trading where it was unable to identify the source of the claimed inside information in the same court where it lost Schavacho.
The action centered on negative earnings guidance issued by Sino Corporation on November 15, 2012. It was brought against Hao He, known as Johnny He. Mr. He is the sole owner and officer of Torin Drive International LLC. The company, based in Memphis, Tennessee, has suppliers in China.
From October 10, 2012 through November 5, 2012 Mr. He traveled to Shanghai, China. Following his return he purchased options on two days. Those purchases were based on inside information which was either i) furnished to him in breach of a duty or ii) that was misappropriated, according to the Commission. The allegation is based on phone calls, option purchases, the location of the company and the nature of the guidance issued by the firm:
Telephone calls: After his return Mr. He had several telephone conversations with an unknown “person or persons” in China. The location of the person is not stated. The dates of the telephone calls and their duration are not specified other than to state that they occurred “shortly” after Mr. He’s return from China on November 5, 2012.
Trades: On November 13, 2012 Mr. He purchased 50 November put options contracts for Sina Corporation. The options, which cost $17,548.13, were due to expire on November 17, 2012. The next day he purchased an additional 200 Sina November put option contracts, expiring on the same date. The purchase, funded by a transfer of funds from his company, cost $144,163.19. To profit from the options, the share price of Sina stock would have to decline in value, according to the complaint.
The company: Sina is a foreign private issuer headquartered in Shanghai, China. The firm is an online media company “targeted towards Chinese communities around the world. There is no indication that Mr. He’s company engaged in business with Sina. There is no suggestion that Mr. He knows anyone employed by Sina.
The guidance: After the close of the markets on November 15, 2012, Sina released earnings which exceeded the expectations of analysts for the third quarter of the year. At the same time the firm “unexpectedly gave weak fourth quarter guidance, well short of analyst expectation.”
When the markets opened the next day Sina’s share priced dropped 8.5%, opening at $48.60 compared to the close one day earlier of $53.10. Mr. He sold his options the same day for $331,530.83, resulting in profits of $169,819.10. The complaint alleges violations of Exchange Act Section 10(b).
Unlike Schavacho, Yang and Steffes the Commission did not have to prove its claims in He. Rather, the defendant settled the action, consenting to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b). He also agreed to pay disgorgement of $169,819.10, prejudgment interest and a penalty equal to the amount of the disgorgement. See Lit. Rel. No. 22921 (Feb. 7, 2014).