The U.S. District Court for the Northern District of Texas (Dallas) has ruled against Mark Cuban’s motion for summary judgment, allowing a high-profile insider-trading action to continue.
I feel for Cuban: nobody needs the aggravation of fighting charges like this. But … the case has already helped mark some important boundaries, so other participants in the markets today ought to be in some sense satisfied that it will continue.
The Securities and Exchange Commission has contended since the first filing of civil charges in November 2008 that Cuban received a tip from the chief executive of internet company Mamma.com in 2004 with regard to an upcoming PIPE. [Mamma.com later adopted the name of a subsidiary, Copernic, but for purposes of this litigation (and this blog entry) the company’s name remains Momma.com.]
The SEC says that the day after receiving his tip, Cuban sold all of his shares in the company. It seems intuitively plausible that such news would motivate such a sale: after all, the textbook consequence of a new issuance of equity is a dilution of the value of the existing shares.
To the Fifth Circuit …
In July 2009, the district court in Dallas dismissed the case, because the judge concluded that the SEC had neglected to plead a critical element of liability; that is, that Mark Cuban had agreed not to sell his shares. This, it also said, is necessary for lawsuits brought under a particular theory of insider status, the “misappropriation” theory. The SEC complaint, the court said at that time, “asserts no facts that reasonably suggest that the CEO, Guy Fauré, intended to obtain from Cuban an agreement to refrain from trading on information as opposed to an agreement merely to keep it confidential.”
The Court of Appeals, though, disagreed with the trial court’s view of the adequacy of the SEC’s complaint, holding that its allegations “taken in their entirety” provide a plausible basis for a finding that there was an understanding that Cuban would not trade. The Fifth Circuit, in September 2010, remanded the matter for further proceedings.
And Back
There have been further discovery proceedings since then, and Cuban has moved for summary judgment. That means that he has asked the district court to rule that the factual questions are not sufficiently open to require a trial. The difference between a motion to dismiss and a motion for summary judgment is that in the latter case, the party opposing the motion (here of course the SEC) must “go beyond its pleadings and designate specific facts showing that there is a genuine issue for trial,” in order to avoid an adverse pre-trial judgment.
The district court has now, in March 2013, ruled that the SEC has met its burden of showing there is a genuine issue of fact, and can bring this matter to trial.
In our times, when both criminal and civil enforcement proceedings on insider-trading theories have become a growth industry, the progress of this case is worth noting. Judge Sidney Fitzwater’s decision is a very thoughtful discussion of the sort of facts that might lead to such an inference. If you are a chief counsel or a compliance officer at a buy-side firm you should read this decision and instruct your client/employer accordingly.
Fitzwater says that since the appeals court didn’t find any error in the 2009 district court decision except in its interpretation of the SEC’s complaint, all other aspects of that earlier decision remain the law of the case for this proceeding. The substantive legal theory, that Cuban can only be found to have been guilty of insider trading if he has broken an express or implied promise not to trade upon receiving the news on the PIPE, stands. The critical question of fact is whether Cuban had ever entered into an express or implicit agreement to that effect. The court has now said that a reasonable jury could answer yes to that question.
Hearsay or Not
Evidence indicates that after Fauré’s conversation with Cuban, Fauré spoke to the chairman of the board of Momma.com, David Goldman, and related the substance of the conversation to him. Goldman then sent an email to the other directors telling them that Cuban “initially ‘flew off the handle’ and said he would sell his shares (recognizing that he was not able to do anything until we announce the equity) but then asked to see the terms and conditions which we have arranged for him to receive….”
If Cuban in the course of that conversation recognized “that he was not able to do anything” [that is, to sell] until the public announcement of the PIPE, and if he then requested more information from Mamma.com about the transaction, then he may well have implicitly agreed not to “do anything.”
Goldman’s knowledge of what Fauré told him that Cuban had told him can’t be offered into evidence on the question of whether Cuban actually said such things under the hearsay rule. It can be entered into evidence, though, as evidence of why Momma.com took subsequent actions that they did.
For what actually transpired in the course of the relatively brief phone call involved, a jury may simply have to listen to what each of the two participants in that call have to say and, if their accounts differ, decide whose testimony they find most credible.