After months of will-he-or-won’t-he speculation about whether the U.S. Solicitor General would ask the Supreme Court to review the Second Circuit’s restrictive insider-trading decision in United States v. Newman, the question has now been answered. The Government filed a certiorari petition on July 30, 2015 asking the Supreme Court to clarify the nature of the “personal benefit” that a tipper must receive in order to create liability for insider trading – and to resolve what the Government characterizes as a split between the Second Circuit and other appellate courts, including the Ninth Circuit in its recent decision in United States v. Salman.
We previously blogged about the Newman decision and about the Salman decision (see below). As we explained, Newman involved two issues: (i) whether a remote tippee must know that a tipper received a “personal benefit” for disclosing material nonpublic information and (ii) the nature of the personal benefit that turns the tipper’s disclosure of material nonpublic information into a breach of duty. The Government has sought certiorari only on the second issue – the personal-benefit requirement, as established by the Supreme Court’s 1983 decision in Dirks v. S.E.C.
Dirks had defined the “personal benefit” that constitutes the insider’s breach of duty as including “a pecuniary gain or a reputational benefit that will translate into future earnings.”
There are objective facts and circumstances that often justify such an inference. For example, there may be a relationship between the insider and the recipient that suggests a quid pro quo from the latter, or an intention to benefit the particular recipient. The 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. The tip and trade resemble trading by the insider himself followed by a gift of the profits to the recipient.
The Newman decision held that “the mere fact of friendship, particularly of a casual or social nature,” does not prove receipt of a personal benefit. An inference of personal benefit based on a mere personal relationship between the tipper and the tippee “is impermissible in the absence of proof of 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. In other words, . . . this requires evidence of a relationship between the insider and the recipient that suggests a quid pro quo from the latter, or an intention to benefit the [latter].” Thus, “the personal benefit received in exchange for confidential information must be of some consequence.”
The Government’s certiorari petition argues that the Second Circuit “reinterpreted [Dirks’s] holding that an insider personally benefits when he ‘makes a gift of confidential information to a trading relative or friend’ . . . to require ‘proof of 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.’” According to the Government, Newman’s holding “cannot be reconciled with Dirks, which did not require an ‘exchange’ to find liability for a gift of inside information and did not impose amorphous standards for the relationships that can support liability.” The petition contends that “[i]f the personal-benefit test cannot be met by a gift-giver unless an ‘exchange’ takes place, then Dirks’s two categories of personal benefit are collapsed into one – and the entire ‘gift’ discussion in Dirks becomes superfluous.”
The Government also maintains that Newman conflicts with decisions of other Courts of Appeals, including the Ninth and the Seventh Circuits. Earlier this month – in what seemed to be a providential gift to the Government as it struggled with whether to seek certiorari in Newman – the Ninth Circuit held in United States v. Salman that insiders can engage in insider trading if they disclose material nonpublic information with the intent to benefit a trading relative or friend, even if they do not receive a pecuniary gain or otherquid pro quo type of benefit in exchange for the disclosures. The Salman case involved tipping within an extended family, so one might wonder whether “families are different” and whether, in those circumstances, inferences can be made about personal benefits even if those inferences might not be appropriate in other contexts. But Salman does appear to be at least in tension – if not in direct conflict – with Newman. Salman might now jump on the bandwagon and seek certiorari to reinforce the argument that a direct conflict exists between the Ninth and Second Circuits and that the Supreme Court needs to speak.
In addition, the Government argues that the Newman decision “impair[s] the government’s ability to protect the fairness and integrity of the securities markets.” The Ninth Circuit similarly observed in Salman that if evidence of a desire to benefit a friend or relative could not suffice to establish a tipper’s breach of duty, “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.”