In its brief before the Supreme Court in the Salman insider trading case, the U.S. argues for a broad application of the Dirks standard for tipper liability. The Court granted certiorari to resolve a split between the Second Circuit, which held in Newman that the government must show a pecuniary benefit, and the Ninth, which sustained Bassam Salman's conviction on the basis that his gift of inside information to his extended family sufficed for liability. According to the government, the Ninth Circuit has it correct and a gift of information for use in trading violates the securities antifraud laws (Salman v. U.S., August 1, 2016).
Circuit split. Salman was convicted of conspiracy and insider trading on information he received from two individuals, including the brother of his then-fiancée. His appeal argued that under Newman, the government was also required to prove that he disclosed the information in exchange for a personal benefit. The Ninth Circuit declined to follow Newman to the extent it held that evidence of a friendship or familial relationship is insufficient to demonstrate a personal benefit to the tipper. It sustained the conviction under the "clear holding" of Dirks v. SEC (U.S. 1983) that a gift of confidential information to a trading relative or friend constitutes a breach of fiduciary duty. The Supreme Court granted certiorari in light of the split.
SIFMA filed an amicus brief in favor of a Newman-like personal benefit test. The trading in Dirks occurred after the tipper blew the whistle on fraud at his company—there was no "gift" of confidential information "to a trading relative or friend." For this reason, SIFMA urged the Court to reaffirm that the Dirks holding does not turn on "the vagaries of whether and when a business relationship has developed into acquaintance and … acquaintance has developed into friendship."
A gift is enough. The government's brief, however, reasserts its broad reading of Dirks that the personal benefit required for insider trading liability exists "not only when the insider will reap a pecuniary gain," but also when the insider gifts confidential information to a tippee. The reason that such a gift constitutes a breach of fiduciary duty, the government argues, "is that it serves personal, not corporate, purposes." A court does not need to judge the nature or closeness of the relationship between tipper and tippee to make the call that a personal benefit exists; the line between a personal purpose and a corporate one "is readily intelligible to courts."
Indeed, the government argues that a court should infer personal benefit from the absence of a corporate purpose. The Court in Dirks explained that some disclosures of confidential information may actually be to the benefit of shareholders or clients. Alternatively, a disclosure may be made inadvertently during the carrying out of appropriate corporate functions. "The existence of 'personal benefit' is simply the flip side of the absence of a corporate purpose," the brief asserts.
Standard is not vague. The government acknowledges that securities fraud requires more than a simple breach of fiduciary duty—Dirks makes clear that the tipper's understanding that the information will be traded on is critical. Congress' post-Dirks enactments are premised on the existing requirements for antifraud liability under the securities laws, including the personal benefit requirement of Dirks. The brief points out that the Court, in another context, cited Congress' decision to leave Section 10(b) intact as evidence that the legislature ratified a "well-established judicial interpretation" of that Exchange Act provision.
Newman notwithstanding, the government continues courts have applied the rule of Dirks for more than 30 years, demonstrating that the holding is not vague. There is no question in the Salman case about the application of the line between a personal and a business purpose. Salman's arguments to the contrary are based on a misconception of the applicable standard: Dirks does not require an inquiry into the existence of "emotional satisfaction" to show a personal benefit, but instead requires objective evidence relevant to the purpose of the disclosure. Furthermore, Dirks' application to remote tippees is not limited to "a trading relative or friend;" that was only an example of the typical situation. The tipper's purpose, not the tippee's identity, is dispositive.
A narrow reading would harm markets. Although SIFMA had argued that a broad reading of Dirks would harm the markets, the government takes the opposite stance: restricting insider trading liability would undermine the purpose of the securities laws of ensuring honest markets and promoting investor confidence. Under Salman's pecuniary-gain reading, the brief argues, "an insider who provided highly confidential, market-moving corporate information so that his children, his parents, his friends, or his other connections could trade on it would evade the securities-fraud laws so long as he did not receive any pecuniary return," and the tippees could enjoy unlimited profits "unavailable to less privileged investors." This could not have been Congress's intent in enacting the Exchange Act.
The case is No. 15-628.
Attorneys: Alexandra A.E. Shapiro (Shapiro Arato LLP) for Bassam Yacoub Salman. Ian Heath Gershengorn, U.S. Department of Justice, for the United States.
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