Securities Snapshot December 20, 2016

Supreme Court Addresses “Personal Benefit” Test in Insider Trading Cases Involving Tips to Relatives and Friends


Attorneys in Goodwin’s Securities + Shareholder Litigation and White Collar Defense groups have extensive experience before federal and state courts, legislative bodies, and regulatory and enforcement agencies. We continually monitor notable developments in these venues to prepare the Securities Snapshot – a bi-weekly compilation of securities litigation news delivered to subscribers via email. This publication summarizes news from the civil and criminal securities law arenas in a succinct, easy-to-read format. Topics covered include litigation and enforcement matters, legislation, rulemaking, and interpretive guidance from regulatory agencies.

The United States Supreme Court, in Salman v. United States, unanimously affirmed a criminal insider trading conviction despite the absence of evidence that the tipper received any direct financial benefit for his tip to a relative. Resolving the tension between the Second and Ninth Circuit Courts of Appeals as to what proof of benefit to the tipper is required, the Court reasoned that “the tipper benefits personally because giving a gift of trading information [to a relative or friend] is the same thing as trading by the tipper followed by the gift of the proceeds.” The opinion addressed the growing debate following the Second Circuit’s decision in United States v. Newman, which held that, where the tipper and tippee are not relatives or “close” friends, the Government must prove a relationship sufficient to give the tipper “at least a potential gain of a pecuniary or similarly valuable nature.” But, as the Supreme Court noted, the issue presented was a “narrow” one addressing principally tips to a trading relative and the question left for future cases is what constitutes a trading “friend” such that proof of some pecuniary benefit is unnecessary. Goodwin’s recent alert regarding the Salman decision is available here.

First Circuit Issues Landmark Decision Regarding ’33 Act Standing and Claims Against Underwriters

The First Circuit, in In re: ARIAD Pharmaceuticals, Inc. Securities Litigation, issued a decision helpful to underwriter defendants in future 1933 Act cases. The Court affirmed dismissal of the 1933 Act claims against the offering underwriting syndicate, ruling that the plaintiffs had not alleged facts sufficient to show they had statutory standing to sue under the 1933 Act. (Goodwin represented the underwriter defendants in this case.) In doing so, the Court held that the Supreme Court’s Twombly and Iqbal decisions require a securities plaintiff to allege sufficient facts to make it “plausible” that the shares purchased by the plaintiff were actually issued in the specific offering being challenged. The First Circuit also held that generalized allegations that a plaintiff’s shares are “traceable” to the offering are insufficient to satisfy the pleading requirements of Twombly/Iqbal, thus aligning itself with the Ninth Circuit’s ruling in Century Aluminum and abandoning years of prior case law (in the First Circuit and elsewhere in the country) that a 1933 Act plaintiff need do nothing more than generally allege that its shares were purchased “pursuant or traceable to” the relevant offering.

Supreme Court’s Escobar Ruling Applied (and Possibly Limited) After Remand

In an opinion after remand in Universal Health Services v. Escobar, 136 S. Ct. 1989 (2016), the First Circuit reaffirmed its previous decision that the whistleblowers’ False Claims Act (“FCA”) allegations survived defendants’ motion to dismiss. The Supreme Court had granted certiorari to resolve a circuit split regarding the viability of the implied false certification theory under the FCA. Liability under that theory arises when a company submits a claim for payment to the government that makes representations about the goods or services provided, but fails to disclose noncompliance with statutory, regulatory, or contractual requirements. The Supreme Court had held that the relator must show some likelihood that the government would have in fact—as opposed to in theory—declined payment but for the omitted information. For example, if the government pays “a claim in full despite its actual knowledge that certain requirements were violated,” that is “strong evidence that those requirements are not material” and the omission not actionable. The First Circuit’s decision, however, arguably adds uncertainty to the analysis district courts must apply. The Escobar complaint alleged that, after the procuring state agency had paid the defendant, Massachusetts regulators from the Department of Public Health conducted an investigation and had chosen not to recoup the procuring agency’s payments. Nonetheless, the First Circuit held that the complaint stated a cause of action because it was not alleged that the procuring agency itself knew of the violations at the time it paid the defendant. This appears to be a departure from the Supreme Court’s focus on government knowledge in a broader sense.

Exchange Act Record-Keeping Violations Lead to $2.4 Million Fine

In a settlement order reached in In the Matter of United Continental Holdings, Inc., SEC File No. 3-17705, the parent company of United Airlines agreed to pay $2.4 million to settle charges that United violated the books and records and internal accounting controls provisions of the Securities Exchange Act of 1934. According to the settlement order, United had instituted a money-losing flight route in 2011 to accommodate travel for David Samson, the Chairman of the Board of Commissioners of the Port Authority of New York and New Jersey, which exercised authority over United’s business. United’s then-CEO approved the route outside of United’s normal processes, which included a multi-step internal vetting process for approving flight routes and also prohibited gifts or payments to government officials unless approved in writing. According to the settlement order, adopting the new route violated Section 13(b) of the Exchange Act, which requires a company to maintain books and records that accurately reflect its transactions, and to maintain accounting controls that provide reasonable assurance that transactions are executed in accordance with management authorization.

CAFA Exceptions Defeat Removal Despite Complaint’s Allegations of Fraud

In Fannin et al. v. UMTH Land Development LP et al., a federal district court in Delaware remanded a case addressing two Class Action Fairness Act (“CAFA”) exceptions back to Chancery Court despite defendants’ pleas that the complaint contained fraud allegations that supported removal. Plaintiffs, limited partners in United Development Funding, brought class and derivative claims alleging breach of fiduciary duty, waste, breach of the partnership agreement and unjust enrichment. Although defendants pointed to allegations of fraudulent conduct and misleading representations in the complaint that ordinarily would support removal under CAFA, the federal court found that the fiduciary duty, waste and unjust enrichment claims fell under CAFA’s “internal affairs” exception because they “relate solely to the ‘internal affairs or governance’ of the Partnership and ‘arise under or by virtue of the laws of the State in which such business enterprise is . . . organized.” As to the claims that the defendants breached the partnership agreement, they fell under CAFA’s “securities exception,” which includes actions that “solely involve[ ] a claim that relates to the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to any Security.”

District Court Adds Clarity Regarding Cautionary Statements About Pending Litigation Disclosures

In Grobler v. Neovasc. et al., a Massachusetts federal judge dismissed a proposed shareholder suit against Neovasc Inc., a medical device company, after its $70 million trade secrets trial loss. Plaintiffs alleged that Neovasc misled investors about the likely outcome of the trade secrets case and that its public “forward-looking” statements about the litigation did not adequately warn investors about the risks of loss at trial. The CEO had described the pending trade secret suit as “without merit” and “baseless.” The court deemed these statements to be forward-looking statements protected under the PSLRA’s safe harbor; it also found that Neovasc had adequately warned investors about the financial impact of losing by including “detailed and specific” warnings about the consequences of losing in multiple SEC filings during the class period. The court concluded that these warnings—which were made about the “very litigation at issue” and not just about the risks of litigation generally—sufficed as “meaningful cautionary statements” required to avoid liability under the safe harbor. The court also rejected the investors’ arguments that, even if the statements were found to be “forward-looking,” they were actionable because Neovasc knew that the statements were false or were made recklessly. On this point, the court found that the safe harbor statute applied because forward-looking statements are actionable only when there are no meaningful cautionary statements—that is to say, if the safe harbor applies, the “actual state of mind of the defendant” is irrelevant.