Second Circuit Broadens 'Personal Benefits' Triggering Insider Trading Liability

by Miller Canfield
Contact

Miller Canfield

Who Needs Family or Friends?
An Inside Tipper’s Gift of Inside Information to a Consulting Client is Now a Sufficient “Personal Benefit” to the Tipper to Trigger Insider Trading Liability

As noted in our December 9, 2016, Client Alert, the Supreme Court in Salman v. U.S. ruled that the required “personal benefit” to the person disclosing inside information (the tipper) does not need to be “pecuniary” or something of a “similarly valuable nature.” Instead, the Supreme Court relied on its prior opinion in Dirks v. SEC, and found that a “gift” of inside information provided to the tipper’s family member or friend can be inferred by a jury as intent by the tipper to “provide the equivalent of a cash gift,” which is the personal benefit to the tipper. Salman, 137 S. Ct. 420, 427-28 (2016). “In such situations, the tipper benefits personally because giving a gift of trading information is the same thing as trading by the tipper followed by a gift of the proceeds.”  Id. at 428. The Supreme Court in Salman overruled as “inconsistent with Dirks” the Second Circuit’s 2014 holding in U.S. v. Newman that “the tipper must also receive something of a ‘pecuniary or similarly valuable nature’ in exchange for a gift to family or friends.”  Id. at 428. The Supreme Court did not directly address the other requirement in Newman that a non-pecuniary, non-monetary “personal benefit” can only be established with “proof of a meaningfully close personal relationship that generates an exchange that is objective, consequential, and represents at least a potential gain of a pecuniary or similarly valuable nature.”  U.S. v. Newman, 773 F.3d 438, 452 (2nd Cir. 2014) (emphasis added).

After Salman, our Alert and other commentators wondered how prosecutors and plaintiffs would prove the “close nature” of the familial or friendly relationship between the tipper and tippee sufficient to establish a “personal benefit” to the tipper that did not involve money or something else of similar value.

On August 23, 2017, the Second Circuit panel in U.S. v. Martoma completely overruled the Second Circuit panel in Newman and found that a tipper can be found to personally benefit by providing inside information as a “gift” to someone with whom the tipper does not share a “meaningfully close personal relationship.”  ___ F.3d ___, 2017 WL 3611518, *8 (2nd Cir. 2017). Now, prosecutors and plaintiffs have even more leeway (and can be more creative) in arguing that non-pecuniary benefits to tippers who share inside information with anyone provides sufficient “personal benefit” to the tipper to trigger insider trading liability.

Martoma was the largest insider trading scheme ever successfully prosecuted by the federal government. The evidence in the case established that acclaimed neurologist Dr. Sidney Gilman was chairman of the safety monitoring committee for the clinical trial of bapineuzumab, a drug to treat Alzheimer’s disease. The drug was jointly developed by two pharmaceutical companies. Defendant Martoma was a portfolio manager at SAC Capital Advisors, LLC, a hedge fund owned and managed by Steven A. Cohen. Martoma had acquired shares of the two pharma companies in his portfolio. After purchasing the shares in the pharma companies, Martoma hired Dr. Gilman to consult with him about the bapineuzumab drug and Alzheimer’s disease. Dr. Gilman participated in 43 consultations with Martoma at a rate of $1,000 per hour. The consulting contract required Dr. Gilman to keep results of the clinical trial confidential. Despite this, Dr. Gilman provided Martoma with confidential updates on the drug’s safety that he received during meetings of the safety monitoring committee.

On July 17, 2008, the pharma companies issued a press release reporting “encouraging” results from the clinical trial, and that the results of the trials would be released on July 29, 2008 by Dr. Gilman. On July 17, 2008, Dr. Gilman spoke with Martoma on the phone for 90 minutes about “two major weaknesses in the data” of the drug trials. On July 19, 2008, Martoma flew to Ann Arbor, Michigan where Dr. Gilman showed Martoma a PowerPoint presentation containing the drug trial results and explained the data to Martoma. Important to the case, Dr. Gilman did not bill Martoma for the July 17 and July 19 meetings. On July 21, 2008, Martoma and SAC reduced their positions in the pharma company stock and entered into short-sale options that would profit Martoma if the stock fell in value. When Dr. Gilman announced the drug trial results on July 29, 2008, the stock price declined over 40%, resulting in Martoma gaining $80.3 million and averting $194.6 million in losses on the pharma company stock. Martoma was convicted at trial of insider trading.

Martoma argued on appeal that his conviction should be reversed because Dr. Gilman did not receive any pecuniary gain or other value for the inside information he gave Martoma in the July 17 and 19 meetings, and that he and Dr. Gilman did not have a “meaningfully close personal relationship,” which Martoma argued was required by Newman even after the Supreme Court’s decision in Salman. Rejecting the first claim of error, the Martoma court found that Dr. Gilman being paid $1,000 an hour for 43 consulting sessions was a “relationship of quid pro quo” that gave rise to the opportunity for future pecuniary gain to Dr. Gilman, especially in light of the consistent past pecuniary gain resulting from Dr. Gilman’s provision of inside information.

Second, even assuming Dr. Gilman had not received any pecuniary benefit from the disclosures to Martoma, the Martoma court rejected the requirement from Newman that Dr. Gilman (the tipper) must enjoy a “meaningfully close personal relationship” with Martoma (the tippee) to be liable for gifting inside information. The Martoma court found nothing from the Dirks opinion to support a “categorical rule that an insider can never benefit personally from gifting inside information to people other than ‘meaningfully close’ friends or family members.”  Martoma, supra at *7. The Martoma court found that the Supreme Court’s Salman decision “fundamentally altered the analysis underlying Newman’s ‘meaningfully close personal relationship’ requirement such that the ‘meaningfully close personal relationship’ requirement is no longer good law.”  Id. In so ruling, the Martoma court focused on the Supreme Court’s point in Salman that gifting inside information to a tippee with the expectation that the tippee will trade on the information is the “functional equivalent” of the tipper trading on the information himself and giving the cash to the tippee. “Nothing in Salman’s reaffirmation of this logic supports a distinction between gifts to people with whom a tipper shares a meaningfully close personal relationship . . . and gifts to those with whom a tipper does not share such a relationship.”  Id. at *8.        

The Martoma Dissent Argues that a “Friends and Family” Requirement Avoids Making the “Personal Benefit” Standard Entirely Meaningless

The dissent in Martoma argues that requiring gifted inside information be presented to family or friends will help provide guidance on when a gift is actually a gift that provides a “personal benefit” to the giver — resulting in securities fraud liability — and a gift that provides no such “personal benefit” — and thus no securities fraud liability:

“Gifts to family and friends are more likely to confer a benefit upon the gift-giver because, as noted above, ‘to help a close family member or friend is like helping yourself.’ . . . . When gifts pass to relatives or friends, there is thus far greater reason than usual to believe that the gift-giver has benefited personally, as the same benefits rarely accompany a gift to a casual acquaintance or a stranger. . . . [I]nsiders typically have no legitimate commercial reason to share business secrets with friends and family.” Martoma, __ F.3d ___ (2017), at *21 (Pooler, J., dissenting).   

Not limiting insider trading liability to gifted information to family or friends risks, according to the dissent, permitting liability to “extend[] much too far” such that “the term ‘gift’ could cover nearly any disclosure, and thus eliminate the personal benefit rule entirely.”  Id. at *22.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Miller Canfield | Attorney Advertising

Written by:

Miller Canfield
Contact
more
less

Miller Canfield on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.