You have surely heard by now that Rajat Gupta was convicted on four of six counts in his insider trading trial last Friday. Amid a number of recent high-profile flops, Gupta’s conviction is a bright spot for the Justice Department, and in particular for prosecutors in the Southern District of New York and the SEC. Gupta’s sentencing will follow on October 18. I have some thoughts about Gupta’s conviction and, partly, what it might mean for future insider trading cases.
Circumstantial Evidence Counts
Unlike many of the cases in the recent wave of insider trading matters, the government did not have wiretap evidence that showed Gupta passing information to his former friend Raj Rajaratnam. Such evidence was the undoing of Rajaratnam himself, as well as others in his network and elsewhere. Prosecutors did have Gupta speaking to Rajaratnam on tape, but the conversation was not especially incriminating, and was played for jurors to show the relationship between the two men. What the government did have was a lot of circumstantial evidence that (1) Gupta repeatedly learned material, nonpublic information about Goldman Sachs from his position on Goldman’s board, (2) very shortly after Gupta learned the information, a call from his phone number to Rajaratnam’s phone number followed, and (3) shortly after the call, Rajaratnam traded and profited. After a trial that bored a number of observers, including the judge, prosecutors wisely introduced charts summarizing this evidence. Now, direct evidence is not legally necessary in an insider trading case. United States v. Smith, 155 F.3d 1051, 1069 (9th Cir. 1998) (thanks for the cite to ProfessorBainbridge.com). And the SEC brings insider trading cases with circumstantial evidence like this all the time, but it brings only civil cases and has a much lower burden of proof. Here, prosecutors had to take this evidence and ride it beyond the jury’s reasonable doubt.
I suspect the Gupta verdict will embolden both the Justice Department and the SEC in bringing similar cases where wiretap or other direct evidence just isn’t available. Circumstantial evidence still might not be enough for hedge fund managers who are making hundreds of trades a day and could be able to attribute individual trades to patterns that can be made up after the fact. But Gupta will encourage the prosecution of other similar matters.
For a defendant to be liable for tipping material, nonpublic information, he needs to have received some sort of benefit for his efforts. It does not have to be money or really anything tangible. After Dirks v. SEC, 463 U.S. 646, 663-64 (1983), the benefit can be merely the “warm glow” from helping a friend. Gupta’s lawyers fought valiantly against this pretty standard interpretation of insider trading law and tried to link any benefit Gupta might have received to Rajaratnam’s use of the insider information. But the law just is not very stringent on the personal benefit test, and Gupta suffered for it in the end.
Finally, we have heard a lot of talk over the last few years about the government’s failure to bring criminal cases arising out of the financial crisis against the highest levels of Wall Street players. While the SEC has brought crisis-related cases against 104 entities and individuals, it is true that corporate boardrooms have escaped criminal charges so far, and probably will continue to do so. To the extent commentators suggest this lack of prosecutions is due to a lack of political will rather than a lack of C-suite knowledge about the structured deals leading to the crisis, it seems to me that the Gupta case is a pretty strong counterargument to that. His was obviously not a financial crisis-related matter. While some of the events related to it tangentially, it could have happened at any point in history. But Gupta was on the board of Goldman Sachs and was the chief executive at McKinsey & Company. It doesn’t get much higher than that. I think the government has the will to follow these cases where the evidence goes, and prosecutors just showed their willingness to go there.