Source: https://openjurist.org/445/us/222
Timestamp: 2019-04-23 01:00:40+00:00

Document:
Section 10(b) of the Securities Exchange Act of 1934 prohibits the use "in connection with the purchase or sale of any security . . . [of] any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the [Securities and Exchange] Commission may prescribe." Rule 10b-5 of the Securities and Exchange Commission (SEC), promulgated under § 10(b), makes it unlawful for any person to "employ any device, scheme, or artifice to defraud," or to "engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security." Petitioner, who was employed by a financial printer that had been engaged by certain corporations to print corporate takeover bids, deduced the names of the target companies from information contained in documents delivered to the printer by the acquiring companies and, without disclosing his knowledge, purchased stock in the target companies and sold the shares immediately after the takeover attempts were made public. After the SEC began an investigation of his trading activities, petitioner entered into a consent decree with the SEC in which he agreed to return his profits to the sellers of the shares. Thereafter, petitioner was indicted and convicted for violating § 10(b) of the Act and SEC Rule 10b-5. The District Court's charge permitted the jury to convict the petitioner if it found that he willfully failed to inform sellers of target company securities that he knew of a forthcoming takeover bid that would make their shares more valuable. Petitioner's conviction was affirmed by the Court of Appeals.
The petitioner, however, was able to deduce the names of the target companies before the final printing from other information contained in the documents. Without disclosing his knowledge, petitioner purchased stock in the target companies and sold the shares immediately after the takeover attempts were made public.1 By this method, petitioner realized a gain of slightly more than $30,000 in the course of 14 months. Subsequently, the Securities and Exchange Commission (Commission or SEC) began an investigation of his trading activities. In May 1977, petitioner entered into a consent decree with the Commission in which he agreed to return his profits to the sellers of the shares.2 On the same day, he was discharged by Pandick Press.
In January 1978, petitioner was indicted on 17 counts of violating § 10(b) of the Securities Exchange Act of 1934 (1934 Act) and SEC Rule 10b-5.3 After petitioner unsuccessfully moved to dismiss the indictment,4 he was brought to trial and convicted on all counts.
This case concerns the legal effect of the petitioner's silence. The District Court's charge permitted the jury to convict the petitioner if it found that he willfully failed to inform sellers of target company securities that he knew of a forthcoming takeover bid that would make their shares more valuable.6 In order to decide whether silence in such circumstances violates § 10(b), it is necessary to review the language and legislative history of that statute as well as its interpretation by the Commission and the federal courts.
"[a]n affirmative duty to disclose material information[, which] has been traditionally imposed on corporate 'insiders,' particular officers, directors, or controlling stockholders. We, and the courts have consistently held that insiders must disclose material facts which are known to them by virtue of their position but which are not known to persons with whom they deal and which, if known, would affect their investment judgment." Id., at 911.
That the relationship between a corporate insider and the stockholders of his corporation gives rise to a disclosure obligation is not a novel twist of the law. At common law, misrepresentation made for the purpose of inducing reliance upon the false statement is fraudulent. But one who fails to disclose material information prior to the consummation of a transaction commits fraud only when he is under a duty to do so. And the duty to disclose arises when one party has information "that the other [party] is entitled to know because of a fiduciary or other similar relation of trust and confidence between them."9 In its Cady, Roberts decision, the Commission recognized a relationship of trust and confidence between the shareholders of a corporation and those insiders who have obtained confidential information by reason of their position with that corporation.10 This relationship gives rise to a duty to disclose because of the "necessity of preventing a corporate insider from . . . tak[ing] unfair advantage of the uninformed minority stockholders." Speed v. Transamerica Corp., 99 F.Supp. 808, 829 (D.Del.1951).
This Court followed the same approach in Affiliated Ute Citizens v. United States, 406 U.S. 128, 92 S.Ct. 1456, 31 L.Ed.2d 741 (1972). A group of American Indians formed a corporation to manage joint assets derived from tribal holdings. The corporation issued stock to its Indian shareholders and designated a local bank as its transfer agent. Because of the speculative nature of the corporate assets and the difficulty of ascertaining the true value of a share, the corporation requested the bank to stress to its stockholders the importance of retaining the stock. Id., at 146, 92 S.Ct., at 1468. Two of the bank's assistant managers aided the shareholders in disposing of stock which the managers knew was traded in two separate markets—a primary market of Indians selling to non-Indians through the bank and a resale market consisting entirely of non-Indians. Indian sellers charged that the assistant managers had violated § 10(b) and Rule 10b-5 by failing to inform them of the higher prices prevailing in the resale market. The Court recognized that no duty of disclosure would exist if the bank merely had acted as a transfer agent. But the bank also had assumed a duty to act on behalf of the shareholders, and the Indian sellers had relied upon its personnel when they sold their stock. 406 U.S., at 152, 92 S.Ct., at 1471. Because these officers of the bank were charged with a responsibility to the shareholders, they could not act as market makers inducing the Indians to sell their stock without disclosing the existence of the more favorable non-Indian market. Id., at 152-153, 92 S.Ct., at 1471-1472.
In this case, the petitioner was convicted of violating § 10(b) although he was not a corporate insider and he received no confidential information from the target company. Moreover, the "market information" upon which he relied did not concern the earning power or operations of the target company, but only the plans of the acquiring company.13 Petitioner's use of that information was not a fraud under § 10(b) unless he was subject to an affirmative duty to disclose it before trading. In this case, the jury instructions failed to specify any such duty. In effect, the trial court instructed the jury that petitioner owed a duty to everyone; to all sellers, indeed, to the market as a whole. The jury simply was told to decide whether petitioner used material, nonpublic information at a time when "he knew other people trading in the securities market did not have access to the same information." Record 677.
The Court of Appeals affirmed the conviction by holding that "[a]nyone —corporate insider or not—who regularly receives material nonpublic information may not use that information to trade in securities without incurring an affirmative duty to disclose." 588 F.2d, at 1365 (emphasis in original). Although the court said that its test would include only persons who regularly receive material, nonpublic information, id., at 1366, its rationale for that limitation is unrelated to the existence of a duty to disclose.14 The Court of Appeals, like the trial court, failed to identify a relationship between petitioner and the sellers that could give rise to a duty. Its decision thus rested solely upon its belief that the federal securities laws have "created a system providing equal access to information necessary for reasoned and intelligent investment decisions." Id., at 1362. The use by anyone of material information not generally available is fraudulent, this theory suggests, because such information gives certain buyers or sellers an unfair advantage over less informed buyers and sellers.
This reasoning suffers from two defects. First not every instance of financial unfairness constitutes fraudulent activity under § 10(b). See Santa Fe Industries, Inc. v. Green, 430 U.S. 462, 474-477, 97 S.Ct. 1292, 1301-1303, 51 L.Ed.2d 480 (1977). Second, the element required to make silence fraudulent—a duty to disclose—is absent in this case. No duty could arise from petitioner's relationship with the sellers of the target company's securities, for petitioner had no prior dealings with them. He was not their agent, he was not a fiduciary, he was not a person in whom the sellers had placed their trust and confidence. He was, in fact, a complete stranger who dealt with the sellers only through impersonal market transactions.
As we have seen, no such evidence emerges from the language or legislative history of § 10(b). Moreover, neither the Congress nor the Commission ever has adopted a parity-of-information rule. Instead the problems caused by misuse of market information have been addressed by detailed and sophisticated regulation that recognizes when use of market information may not harm operation of the securities markets. For example, the Williams Act15 limits but does not completely prohibit a tender offeror's purchases of target corporation stock before public announcement of the offer. Congress' careful action in this and other areas16 contrasts, and is in some tension, with the broad rule of liability we are asked to adopt in this case.
The Court correctly does not address the second question: whether the petitioner's breach of his duty of silence—a duty he unquestionably owed to his employer and to his employer's customers—could give rise to criminal liability under Rule 10b-5. Respectable arguments could be made in support of either position. On the one hand, if we assume that petitioner breached a duty to the acquiring companies that had entrusted confidential information to his employers, a legitimate argument could be made that his actions constituted "a fraud or a deceit" upon those companies "in connection with the purchase or sale of any security."* On the other hand, inasmuch as those companies would not be able to recover damages from petitioner for violating Rule 10b-5 because they were neither purchasers nor sellers of target company securities, see Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 95 S.Ct. 1917, 44 L.Ed.2d 539, it could also be argued that no actionable violation of Rule 10b-5 had occurred. I think the Court wisely leaves the resolution of this issue for another day.
The Court holds, correctly in my view, that "a duty to disclose under § 10(b) does not arise from the mere possession, 445 U.S. 239 of nonpublic market information." Ante, at 235. Prior to so holding, however, it suggests that no violation of § 10(b) could be made out absent a breach of some duty arising out of a fiduciary relationship between buyer and seller. I cannot subscribe to that suggestion. On the contrary, it seems to me that Part I of THE CHIEF JUSTICE'S dissent, post, at 239-243, correctly states the applicable substantive law—a person violates § 10(b) whenever he improperly obtains or converts to his own benefit nonpublic information which he then uses in connection with the purchase or sale of securities.
"[T]he way in which the buyer acquires the information which he conceals from the vendor should be a material circumstance. The information might have been acquired as the result of his bringing to bear a superior knowledge, intelligence, skill or technical judgment; it might have been acquired by mere chance; or it might have been acquired by means of some tortious action on his part. . . . Any time information is acquired by mere an illegal act it would seem that there should be a duty to disclose that information." Keeton, Fraud—Concealment and Non-Disclosure, 15 Texas L.Rev. 1, 25-26 (1936) (emphasis added).
The language of § 10(b) and of Rule 10b-5 plainly supports such a reading. By their terms, these provisions reach any person engaged in any fraudulent scheme. This broad language negates the suggestion that congressional concern was limited to trading by "corporate insiders" or to deceptive practices related to "corporate information."1 Just as surely Congress cannot have intended one standard of fair dealing for "white collar" insiders and another for the "blue collar" level. The very language of § 10(b) and Rule 10b-5 "by repeated use of the word 'any' [was] obviously meant to be inclusive." Affiliated Ute Citizens v. United States, 406 U.S. 128, 151, 92 S.Ct. 1456, 1471, 31 L.Ed.2d 741 (1972).
The Court's opinion, as I read it, leaves open the question whether § 10(b) and Rule 10b-5 prohibit trading on misappropriated nonpublic information.4 Instead, the Court apparently concludes that this theory of the case was not submitted to the jury. In the Court's view, the instructions given the jury were premised on the erroneous notion that the mere failure to disclose nonpublic information, however acquired, is a deceptive practice. And because of this premise, the jury was not instructed that the means by which Chiarella acquired his informational advantage—by violating a duty owed to the acquiring companies—was an element of the offense. See ante, at 236.
The Court's reading of the District Court's charge is unduly restrictive. Fairly read as a whole and in the context of the trial, the instructions required the jury to find that Chiarella obtained his trading advantage by misappropriating the property of his employer's customers. The jury was charged that "[i]n simple terms, the charge is that Chiarella wrongfully took advantage of information he acquired in the course of his confidential position at Pandick Press and secretly used that information when he knew other people trading in the securities market did not have access to the same information that he had at a time when he knew that that information was material to the value of the stock." Record 677 (emphasis added). The language parallels that in the indictment, and the jury had that indictment during its deliberations; it charged that Chiarella had traded "without disclosing the material nonpublic information he had obtained in connection with his employment." It is underscored by the clarity which the prosecutor exhibited in his opening statement to the jury. No juror could possibly have failed to understand what the case was about after the prosecutor said: "In sum what the indictment charges is that Chiarella misused material non-public information for personal gain and that he took unfair advantage of his position of trust with the full knowledge that it was wrong to do so. That is what the case is about. It is that simple." Id., at 46. Moreover, experienced defense counsel took no exception and uttered no complaint that the instructions were inadequate in this regard.
In this Court, counsel similarly conceded that "[w]e do not dispute the proposition that Chiarella violated his duty as an agent of the offeror corporations not to use their confidential information for personal profit." Reply Brief for Petitioner 4 (emphasis added). See Restatement (Second) of Agency § 395 (1958). These statements are tantamount to a formal stipulation that Chiarella's informational advantage was unlawfully obtained. And it is established law that a stipulation related to an essential element of a crime must be regarded by the jury as a fact conclusively proved. See 8 J. Wigmore, Evidence § 2590 (McNaughton rev. 1961); United States v. Houston, 547 F.2d 104 (CA9 1976).
In sum, the evidence shows beyond all doubt that Chiarella, working literally in the shadows of the warning signs in the printshop misappropriated—stole to put it bluntly—valuable nonpublic information entrusted to him in the utmost confidence. He then exploited his ill-gotten informational advantage by purchasing securities in the market. In my view, such conduct plainly violates § 10(b) and Rule 10b-5. Accordingly, I would affirm the judgment of the Court of Appeals.
Although I agree with much of what is said in Part I of the dissenting opinion of THE CHIEF JUSTICE, ante, p. 239, I write separately because, in my view, it is unnecessary to rest petitioner's conviction on a "misappropriation" theory. The fact that petitioner Chiarella purloined, or, to use THE CHIEF JUSTICE's word, ante, at 245, "stole," information concerning pending tender offers certainly is the most dramatic evidence that petitioner was guilty of fraud. He has conceded that he knew it was wrong, and he and his co-workers in the printshop were specifically warned by their employer that actions of this kind were improper and forbidden. But I also would find petitioner's conduct fraudulent within the meaning of § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), and the Securities and Exchange Commission's Rule 10b-5, 17 CFR § 240.10b-5 (1979), even if he had obtained the blessing of his employer's principals before embarking on his profiteering scheme. Indeed, I think petitioner's brand of manipulative trading, with or without such approval, lies close to the heart of what the securities laws are intended to prohibit.
The Court continues to pursue a course, charted in certain recent decisions, designed to transform § 10(b) from an intentionally elastic "catchall" provision to one that catches relatively little of the misbehavior that all too often makes investment in securities a needlessly risky business for the uninitiated investor. See, e. g., Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976); Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 95 S.Ct. 1917, 44 L.Ed.2d 539 (1975). Such confinement in this case is now achieved by imposition of a requirement of a "special relationship" akin to fiduciary duty before the statute gives rise to a duty to disclose or to abstain from trading upon material, nonpublic information.1 The Court admits that this conclusion finds no mandate in the language of the statute or its legislative history. Ante, at 226. Yet the Court fails even to attempt a justification of its ruling in terms of the purposes of the securities laws, or to square that ruling with the long-standing but now much abused principle that the federal securities laws are to be construed flexibly rather than with narrow technicality. See Affiliated Ute Citizens v. United States, 406 U.S. 128, 151, 92 S.Ct. 1456, 1471, 31 L.Ed.2d 741 (1972); Superintendent of Insurance v. Bankers Life & Casualty Co., 404 U.S. 6, 12, 92 S.Ct. 165, 169, 30 L.Ed.2d 128 (1971); SEC v. Capital Gains Research Bureau, 375 U.S. 180, 186, 84 S.Ct. 275, 280, 11 L.Ed.2d 237 (1963).
The common law of actionable misrepresentation long has treated the possession of "special facts" as a key ingredient in the duty to disclose. See Strong v. Repide, 213 U.S. 419, 431-433, 29 S.Ct. 521, 525-526, 53 L.Ed.2d 853 (1909); 1 F. Harper & F. James, Law of Torts § 7.14 (1956). Traditionally, this factor has been prominent in cases involving confidential or fiduciary relations, where one party's inferiority of knowledge and dependence upon fair treatment is a matter of legal definition, as well as in cases where one party is on notice that the other is "acting under a mistaken belief with respect to a material fact." Frigitemp Corp. v. Financial Dynamics Fund, Inc., 524 F.2d 275, 283 (CA2 1975); see also Restatement of Torts § 551 (1938). Even at common law, however, there has been a trend away from strict adherence to the harsh maxim caveat emptor and toward a more flexible, less formalistic understanding of the duty to disclose. See, e. g., Keeton Fraud—Concealment and Non-Disclosure, 15 Texas L.Rev. 1, 31 (1936). Steps have been taken toward application of the "special facts" doctrine in a broader array of contexts where one party's superior knowledge of essential facts renders a transaction without disclosure inherently unfair. See James & Gray, Misrepresentation—Part II, 37 Md.L.Rev. 488, 526-527 (1978); 3 Restatement (Second) of Torts § 551(e), Comment l (1977); id., at 166-167 (Tent.Draft No. 10, 1964). See alsoLingsch v. Savage, 213 Cal.App.2d 729, 735-737, 29 Cal.Rptr. 201, 204-206 (1963); Jenkins v. McCormick, 184 Kan. 842, 844-845, 339 P.2d 8, 11 (1959); Jones v. Arnold, 359 Mo. 161, 169-170, 221 S.W.2d 187, 193-194 (1949); Simmons v. Evans, 185 Tenn. 282, 285-287, 206 S.W.2d 295, 296-297 (1947).
"[F]irst, the existence of a relationship giving access, directly or indirectly, to information intended to be available only for a corporate purpose and not for the personal benefit of anyone, and second, the inherent unfairness involved where a party takes advantage of such information knowing it is unavailable to those with whom he is dealing." Id., at 912 (footnote omitted).
Whatever the outer limits of the Rule, petitioner Chiarella's case fits neatly near the center of its analytical framework. He occupied a relationship to the takeover companies giving him intimate access to concededly material information that was sedulously guarded from public access. The information, in the words of Cady, Roberts & Co., 40 S.E.C., at 912, was "intended to be available only for a corporate purpose and not for the personal benefit of anyone." Petitioner, moreover, knew that the information was unavailable to those with whom he dealt. And he took full, virtually riskless advantage of this artificial information gap by selling the stocks shortly after each takeover bid was announced. By any reasonable definition, his trading was "inherent[ly] unfai[r]." Ibid. This misuse of confidential information was clearly placed before the jury. Petitioner's conviction, therefore, should be upheld, and I dissent from the Court's upsetting that conviction.
Section 32(a) of the 1934 Act sanctions criminal penalties against any person who willfully violates the Act. 15 U.S.C. § 78ff(a) (1976 ed., Supp. II). Petitioner was charged with 17 counts of violating the Act because he had received 17 letters confirming purchase of shares.
Restatement (Second) of Torts § 551(2)(a) (1976). See James & Gray, Misrepresentation—Part II, 37 Md.L.Rev. 488, 523-527 (1978). As regards securities transactions, the American Law Institute recognizes that "silence when there is a duty to . . . speak may be a fraudulent act." ALI, Federal Securities Code § 262(b) (Prop. Off. Draft 1978).
Title 15 U.S.C. § 78m(d)(1) (1976 ed., Supp. II) permits a tender offeror to purchase 5% of the target company's stock prior to disclosure of its plans for acquisition.
Section 11 of the 1934 Act generally forbids a member of a national securities exchange from effecting any transaction on the exchange for its own account. 15 U.S.C. § 78k(a)(1). But Congress has specifically exempted specialists from this prohibition—broker-dealers who execute orders for customers trading in a specific corporation's stock, while at the same time buying and selling that corporation's stock on their own behalf. § 11(a)(1)(A), 15 U.S.C. § 78k(a)(1)(A); see S.Rep.No. 94-75, p. 99 (1975), U.S.Code Cong. & Admin.News 1975, p. 179; Securities and Exchange Commission, Report of Special Study of Securities Markets, H.R.Doc.No. 95, 88th Cong., 1st Sess., pt. 2, pp. 57-58, 76 (1963). See generally S. Robbins, The Securities Markets 191-193 (1966). The exception is based upon Congress' recognition that specialists contribute to a fair and orderly marketplace at the same time they exploit the informational advantage that comes from their possession of buy and sell orders. H.R.Doc.No. 95, supra, at 78-80. Similar concerns with the functioning of the market prompted Congress to exempt market makers, block positioners, registered odd-lot dealers, bona fide arbitrageurs, and risk arbitrageurs from § 11's general prohibition on member trading. 15 U.S.C. §§ 78k(a)(1)(A)-(D); see S.Rep.No. 94-75, supra, at 99. See also Securities Exchange Act Release No. 34-9950, 38 Fed.Reg. 3902, 3918 (1973).
Academic writing in recent years has distinguished between "corporate information"—information which comes from within the corporation and reflects on expected earnings or assets—and "market information." See, e. g., Fleischer, Mundheim, & Murphy, An Initial Inquiry into the Responsibility to Disclose Market Information, 121 U.Pa.L.Rev. 798, 799 (1973). It is clear that § 10(b) and Rule 10b-5 by their terms and by their history make no such distinction. See Brudney, Insiders, Outsiders, and Informational Advantages Under the Federal Securities Laws, 93 Harv.L.Rev. 322, 329-333 (1979).

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