The U.S. District Court for the Southern District of New York granted summary judgment in favor of insider-defendants on the grounds that they were not beneficial owners under § 16(b) of the Securities Exchange Act. Section 16(b) provides for strict liability upon showing that there was  a purchase and a sale of securities  by an officer or director of the issuer or by a shareholder who owns more than 10 percent of any one class of the issuer’s securities,  within a 6-month period. Disgorgement to the company of short-swing profits is required irrespective of intent or whether overall trading during that 6-month period resulted in a loss. However, an SEC-established “safe harbor” exempts a shareholder from being defined as a beneficial owner of shares of another entity if the shareholder (i) is not a controlling shareholder of such entity, and (ii) does not have or share investment control over the entity’s portfolio.
The District Court held that the exemption applied to the insider-defendants because (i) their combined total holdings of 17.3% of the selling shareholder’s stock did not establish the requisite control, i.e., the power to exercise control over the corporation by virtue of their holdings; and (ii) they did not have or share investment control of the selling shareholder’s portfolio. The Court noted that the one defendant who was a director of the selling shareholder specifically absented himself from the Board’s vote authorizing the shareholder to sell stock, including the shares in issue in the lawsuit. (Feder v. Frost, No. 98 CIV. 4744(RO), 2007 WL 509433 (S.D.N.Y. Feb. 15, 2007))