There is an understandable tendency to focus on emerging risks and latest trends, because new issues often are the most interesting and because no one wants to get blindsided by something coming over the horizon. But sometimes the old standard issues are the most important ones. Amidst all the hubbub about subprime lending, options backdating, and other headline-grabbing stories, an old fashioned problem like insider trading still remains vitally important.
As detailed in an August 28, 2007 Reuters article (here), the SEC has brought 35 insider trading cases this fiscal year, which began in October 2006. And Christopher Steskal of the Fenwick & West firm in his September 4, 2007 article entitled “Insider Trading is Back” (here), notes that during the first half of 2007, the SEC has sued over 20 professionals for insider trading.
Tom Gorman at the SEC Actions blog has put together a good summary (here) of the various kinds of insider trading enforcement actions that the SEC has brought this year. Gorman notes (in support of which he provides supporting citations) that the SEC has gone after major Wall Street players, and has targeted their use of “big boy letters” (about which refer here); that the SEC has gone after trading in advance of takeover or earnings announcements; and the SEC has also cracked down on spousal trading and “pillow talk” cases, as well as cases involving trading by family and friends. Gorman notes that these actions are “examples of the increasing number of cases being brought,” and also “clearly demonstrate the increasing focus of the SEC and the DOJ on insider trading.”
Steskal, the Fenwick & West attorney cited above, also notes along the same lines that “most of the SEC enforcement actions this year” against Wall Street professionals and corporate executives “involve insider trading in advance of mergers and acquisitions,” adding that the recent level of M&A activity “has provided fertile ground for SEC enforcement actions.” Steskal also notes that the SEC has identified Rule 10b5-1 trading plans as an are for special scrutiny, a topic I discussed in an earlier post (here).
But the dangers involved with insider trading are not limited just to the risk of an SEC enforcement action. As has long been the case, trading by insiders in their personal shares of company stock at sensitive times and in sensitive amounts magnifies the litigation and liability exposures for companies and their directors and officers. The simple fact is that trading by insiders, even if innocent, colors the facts and invites heightened judicial scrutiny. For all the recent judicial and media attention (refer here) given to the heightened pleading standard under the PSLRA, the fact is that a case with insider trades that the plaintiffs are able to portray as suspicious is likely to survive a motion to dismiss.
I have long advocated (refer here) companies’ adoption of a written insider trading policy as a way to try to control the risks that potentially can arise from trading by insiders. The minimum components for an effective insider trading policy include: trading windows and blackouts; appointment of a compliance officer, who has responsibility for preclearance of trades; and the adoption of a prohibition against specified types of trading by insiders, with stiff sanctions to be applied in the event of violations. Finally, the development of well-designed Rule 10b5-1 trading plans can be a powerful tool to reduce securities litigation exposure.
Steskal’s memo, linked above, has a good bullet point summary of the basic requirements for an effective insider trading policy. My own dated but still surprisingly relevant discussion of the issues surrounding a written insider trading policy can be found here.
Insider trading is an old, perhaps even time-worn topic, but once again it appears to be the case that classics never go out of fashion. Those of us in the D & O insurance business can become so focused on insurance-based risk mitigation solutions, but the reality is that, above and beyond risk-shifting strategies like insurance, there are perhaps even more important practical steps that companies can take to manage their securities litigation risk. And those of us who have been around awhile remember that there was a time and a place when securities litigation loss prevention was an important part of the dialog in the D & O marketplace. Perhaps it is time for a revival, sort of like classic rock for D & O wallahs.
My earlier, somewhat more pessimistic post on the possibilties for D & O insurers to play a role as a corporate governance monitor may be found here.
Options Backdating Update: Regular readers know that I have been maintaining (here) a running tally of the options backdating lawsuits. For several months now, the pace of adding new cases to the list has slowed, but today I added two new lawsuits to the lists.
First, as a result of yesterday’s news (here) that Pediatrix has been named as a nominal defendants in a shareholders’ derivative suit, I have added the company to the list, bringing the total of options backdating related derivative lawsuits to 164.
Second, plaintiffs’ lawyers have filed a purported securities class action lawsuits against UTStarcom (a shareholders derivative lawsuit was previously pending against the company), according to their September 5, 2007 press release (here). The addition of the UTStarcom lawsuit brings the total number of options backdating related securities class action lawsuits to 33.