Why it matters: On July 6, 2015, the Ninth Circuit in U.S. v. Salman declined to adopt a narrow interpretation, arguably set by the Second Circuit in U.S. v. Newman in 2014, of the "personal benefit" element of insider trading cases. The opinion was written by none other than District Court Judge Jed S. Rakoff of the Southern District of New York, sitting by designation. In its cert petition to the Supreme Court in Newman filed on July 30, 2015, the DOJ cited to the circuit split created by the Ninth Circuit's decision in Salman to justify the Supreme Court's review.
Detailed discussion: In U.S. v. Salman, the defendant-appellant Bassam Yacoub Salman (Salman) appealed his insider trading conviction following federal jury trial to the Ninth Circuit, arguing that the evidence the government introduced at trial was insufficient to sustain his conviction under the narrow "personal benefit" standard recently announced by the Second Circuit in U.S. v. Newman, which Salman urged the Ninth Circuit to adopt. The Ninth Circuit, via an opinion written by Manhattan District Court Judge Jed S. Rakoff sitting by designation, respectively declined and upheld Salman's conviction.
The Salman case involved a complicated insider trading scheme involving members of defendant Salman's extended family. At his federal jury trial, the government introduced facts that showed that Salman had received insider information involving upcoming mergers and acquisitions of Citigroup clients from his brother-in-law (via marriage to his sister) Michael Kara (Kara Brother #2). Kara Brother #2 had learned the information from his brother, Mahar Kara (Kara Brother #1), who worked in Citigroup's healthcare investment banking group. Salman then shared the insider information he learned from Kara Brother #2 with the husband of his wife's sister, with whom he split the illicit profits. Of particular relevance on appeal was evidence presented by the government at trial that showed that Salman was "well aware" both that Kara Brother #1 was the source of the insider information and that Kara Brother #1 and Kara Brother #2 shared an extremely "close fraternal relationship" that was "mutually beneficial."
In the appeals period following Salman's conviction, the Second Circuit handed down the Newman opinion, which vacated the insider trading convictions of two downstream tippees on the grounds that the government failed to prove that the tippees knew whether the original insider tippers derived a "tangible personal benefit" from disclosing the information. After the Second Circuit sitting en banc denied the government's petition for rehearing in Newman in 2015, Salman filed a brief with the Ninth Circuit arguing that, if you applied the Newman standard to his case, the information the government presented was insufficient because it failed to show that Kara Brother #1 disclosed the information to Kara Brother #2 in exchange for a tangible personal benefit; that is, a financial benefit, and that Salman knew of such benefit.
Judge Rakoff began his analysis by pointing out that the "personal benefit" requirement for insider trading liability derives from the U.S. Supreme Court's 1983 decision in Dirks v. SEC, which held that "the test is whether the insider personally will benefit, directly or indirectly, from his disclosure … for in that case the insider is breaching his fiduciary duty to the company's shareholders not to exploit company information for his personal benefit." Moreover, Judge Rakoff noted under Dirks that "a tippee is equally liable if 'the tippee knows or should know that there has been [such] a breach,' … i.e., knows of the personal benefit." Of particular importance to Judge Rakoff, the Court in Dirks defined "personal benefit" to include circumstances "when an insider makes a gift of confidential information to a trading relative or friend." Judge Rakoff found that "this last-quoted holding of Dirks governs the case" because Kara Brother #1's disclosure of confidential information to Kara Brother #2, "knowing that he intended to trade on it, was precisely the 'gift of confidential information to a trading relative' that Dirks envisioned." Thus, "there can be no question that, under Dirks, the evidence was sufficient for the jury to find that [Kara Brother #1] disclosed the information in breach of his fiduciary duties and that Salman knew as much."
After determining that the Dirks case was dispositive, Judge Rakoff turned his attention to the Second Circuit's decision in Newman, which narrowed the definition of "personal benefit," and Salman's argument that the Ninth Circuit should adopt it as Salman defined it, making it clear up front that "[o]f course, Newman is not binding on us, and our own reading of Dirks is guided by the clearly applicable language" regarding a "gift of confidential information to a trading relative" constituting sufficient evidence of a personal benefit. Judge Rakoff proceeded to address Newman head on, however, because "we would not lightly ignore the most recent ruling of our sister circuit in an area of law that it has frequently encountered."
Judge Rakoff began by discussing the facts of the Newman case, and its holding in overturning the insider trading convictions of the two downstream tippees in that case because "'the Government presented absolutely no evidence that [the two tippees] knew that they were trading on information obtained from insiders, or that those insiders received any benefit in exchange for such disclosures.'" [Emphasis added.] In Newman, the Second Circuit looked at the casual friendships between the original insiders and the first-level tippees and said that such "evidence of a friendship or familial relationship between tipper and tippee, standing alone, is insufficient to demonstrate that the tipper received a benefit" and that a "personal benefit" including "'at least a potential gain of a pecuniary or similarly valuable nature" is required. Thus, Salman argued, to the extent that the government failed to show evidence that Kara Brother #1 received any such "tangible" "pecuniary or similarly valuable" benefit in exchange for the inside information from Kara Brother #2, and that Salman personally knew of such benefit, Newman would require his conviction be overturned.
Judge Rakoff rejected Salman's argument, stating that "[t]o the extent Newman can be read to go so far, we decline to follow it. Doing so would require us to depart from the clear holding of Dirks that the element of breach of fiduciary duty is met where an 'insider makes a gift of confidential information to a trading relative or friend.'" Judge Rakoff concluded that, if Salman's reading of Newman were followed and the evidence against Salman was found to be insufficient, "then a corporate insider or other person in possession of confidential and proprietary information would be free to disclose that information to her relatives, and they would be free to trade on it, provided only that she asked for no tangible compensation in return. Proof that the insider disclosed material nonpublic information with the intent to benefit a trading relative or friend is sufficient to establish breach of the fiduciary duty element of insider trading."
Is this decision sufficient to establish a split in the Second and Ninth Circuits or will Judge Rakoff's careful language allow both to coexist? On July 30, 2015, the DOJ filed a cert petition in Newman citing to this split in the circuits (it also cited to a Seventh Circuit civil case) to justify the Supreme Court's review. We shall report back on whether it is successful.
See here to read the decision in U.S. v. Bassam Yacoub Salman, No. 14-10204 (9th Cir. 2015).
See here to read the DOJ's Petition for Writ of Certiorari in U.S. v. Chiasson filed on July 30, 2015.
For more on this matter, see U.S. v. Todd Newman et al., 773 F.3d 438 (2d Cir. 2014), and Dirks v. S.E.C., 463 U.S. 646 (1983).