But Second Circuit’s Reversal of Defendants’ Conviction in Newman Unaffected by High Court Ruling in Salman
In a much-anticipated ruling on insider trading, the Supreme Court held today, in Salman v. United States, that the disclosure of inside information by a corporate insider (tipper) to a “trading relative” (a tippee) constitutes a “personal benefit” for the tipper and is sufficient to convict a direct or indirect tippee who also trades on the information and knows about the intra-family “gift.” The ruling extends to friends who trade as well. The result is that in friends and family insider trading prosecutions — and of down-the-chain tippees too — prosecutors will not be required to prove that the corporate insider, or tipper, received anything of value — whether pecuniary, tangible, or not — in exchange for his tip. In reaffirming its seminal ruling in Dirks v. SEC, 463 U.S. 646 (1983), the court said it would be sufficient if the evidence showed that the insider merely gave confidential information to a “trading relative or friend.”
The Primary Issue Before the Supreme Court
The principal issue before the Supreme Court was how to define “personal benefit” for a corporate insider who tipped confidential information to a “friend or relative.” In the universe of insider trading issues, the court’s ruling is a narrow one, limited to one element of a sliver of tippee cases — in which a tipper’s “friend or relative” is expected to trade on tipped information. To prove insider trading, the government must establish a breach of fiduciary duty, and the tipper’s receipt of a “personal benefit” is one of two elements of the duty breach. (The other element in this case is the insider’s disclosure of confidential company information.) Two conflicting definitions of “personal benefit” were presented to the court, one from the Second Circuit, based on its ruling in United States v. Newman, 773 F.3d 438 (2014), cert denied, 577 U.S. __- (2015), reversing the convictions of down-the-chain tippee portfolio managers. The other was from the Ninth Circuit, in this case, affirming the conviction of a tippee who knew that his source received the tip from his brother, a corporate insider. In Newman, the Second Circuit acknowledged that Dirks permitted a jury “to infer a personal benefit to the tipper from a gift of confidential information to a ‘trading relative or friend,’” but only under limited circumstances: where the evidence shows “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.” The Ninth Circuit rejected that formulation and declined to increase the government’s evidentiary burden to require any “additional gain to the tipper” beyond showing a gift of confidential information to family and friends.
Salman argued to the court that for the tipper to benefit personally in an insider trading securities fraud case he must seek “to obtain money, property, or something of tangible value,” as in other criminal fraud cases. He also contended that equating a tipper’s gift with personal benefit yields an offense that is “indeterminate and overbroad.”
The government, perhaps unsurprisingly, pressed a very expansive view of “personal benefit.” It took the position that giving confidential information to anyone was sufficient to prove securities fraud because, in its view, the tipper personally benefits “whenever the tipper discloses confidential trading information for a noncorporate purpose.”
Following a jury trial, Salman was convicted of conspiring to commit security fraud and four counts of securities fraud. The trial evidence showed that Salman (i) received inside trading information from a friend, and (ii) knew that his friend’s brother, an investment banker at Citigroup, had provided the trading tips. (The tipper also was married to Salman’s sister.) Salman ended up making more than $1.5 million in profits in trades based on the tips. Both brothers pled guilty and testified as government witnesses. Evidence at trial established that the brothers had a “very close relationship,” and the tipper brother testified that he provided the information to his brother “to benefit him and with the expectation that his brother would trade on it.”
The Court’s Ruling
In writing for a unanimous court, Justice Alito dismissed the parties’ discordant perceptions, viewing the issue as narrow and resolvable simply by applying the express provision in Dirks on gift-giving to a “trading relative.”
First, the court reaffirmed the principle that “the disclosure of confidential information without personal benefit is not enough” to establish breach of the fiduciary’s duty or insider trading liability. Citing its own test in Dirks, the court reaffirmed the threshold inquiry as to whether the insider would receive a direct or indirect personal benefit from his disclosure. To help resolve the issue, it suggested consideration of “objective facts and circumstances,” from which a personal benefit “often” can be inferred. Next, it drew on an express provision in Dirks: “[t]he elements of fiduciary duty and exploitation of nonpublic information also exist when an insider makes a gift of confidential information to a ‘trading relative or friend.’” (Emphasis in Salman). Further, it equated an insider’s tip and subsequent trade by the tippee with the insider’s own trade and subsequent gift of the profits to the recipient. Applying the straightforward dictates in Dirks of gift-giving to a “trading relative,” Justice Alito stated the applicable rule simply: “Dirks makes clear that a tipper breaches a fiduciary duty by making a gift of confidential information to ‘a trading relative.’” In the court’s view, when there is evidence that a tipper gives confidential information to a “trading relative or friend,” a jury may infer that the tipper intended to bestow the equivalent of cash. The court went on to hold that “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.” (Emphasis added.) In the court’s view, a tipper’s gift of a trading tip to a “friend or relative” establishes a “personal benefit” to the tipper. It is not patently clear why it necessarily follows that giving a tip or cash proceeds in itself automatically constitutes a gift back to the tipper. (Dirks does, however, contemplate that the facts and circumstances of a relationship may suggest a quid pro quo from the recipient or intent by the tipper to benefit a particular recipient — and the intent to benefit the recipient may be considered an act of anticipated reciprocity by the tipper.)
The fate of the defendants whose insider trading convictions the Second Circuit reversed in Newman remains unchanged, however. The court in Salman made special note that in Newman the government failed at trial to introduce evidence that the defendants knew (i) that insiders provided the information they traded on or (ii) that the insiders received a personal benefit in exchange for the information. These elements of tippee liability remain unchanged by Salman and were not issues before the court.
The Upshot of the Salman Opinion
The result in Salman, in a unanimous opinion, reflects neither a novel legal principle nor a startling inference in light of the evidence of Salman’s actions and state of mind. Indeed, the court termed Salman’s conduct to be “in the heartland of Dirks’s rule concerning gifts.” Based on Salman, it is clear that going forward, where confidential tips are provided to an insider’s “trading friend or relative,” the government will not need to prove any additional pecuniary or other value to satisfy the element of “personal benefit” to the tipper. The Salman court readily acknowledged, again citing Dirks, “that [d]etermining whether an insider personally benefits from a particular disclosure, a question of fact, will not always be easy for courts.” Nonetheless, it steadfastly refused to offer dicta on how to decide personal benefit cases involving more remote relationships. Instead, here, the Court chose simply to automatically infer an insider’s “personal benefit” because this case involved a gift to a “trading relative” — the kind of case it says “Dirks envisioned.” While issuing its reed-thin ruling, Justice Alito pointedly resisted elaboration beyond the Dirks principles he liberally restated throughout the opinion.
In all tippee cases, however, as before Salman, the government will still be required to prove that the tipper breached a fiduciary benefit, including by receiving a “personal benefit,” and that the tippee knew of the benefit.
In cases involving more remote tippees, the law remains clear that a fact-laden review will be required. The objective of the assessment will have two parts — to determine: (i) whether some pecuniary, tangible, or other value is to be gained in exchange for the tip; or (ii) whether an intent to benefit the recipient or a potential quid pro quo can be inferred. . More refined and universal guidance on how to determine “personal benefit” in tippee cases that do not involve “friends or relatives” will have to wait for another day and another court ruling.
Compliments of Foley & Lardner – a member of the EACCNY