Source: https://law.justia.com/cases/federal/appellate-courts/F2/588/1358/395692/
Timestamp: 2019-02-21 20:27:39
Document Index: 557936276

Matched Legal Cases: ['§ 1603', '§ 1603', '§ 1602', '§ 1603', '§ 1602', '§ 78', '§ 32', '§ 78', '§ 32', '§ 10', '§ 32', '§ 537', '§ 10', '§ 10', '§ 10', '§ 10', '§ 7', '§ 10', '§ 10', '§ 10', '§ 1603', '§ 10', '§ 10', '§ 10', '§ 10', '§ 10', '§ 10', '§ 10', '§ 10', 'art 300', '§ 1603', '§ 78', '§ 3304', '§ 537', '§ 3304', '§ 46', '§ 50', '§ 10', '§ 16', '§ 152']

Fed. Sec. L. Rep. P 96,608, 3 Fed. R. Evid. Ser v. 1347united States of America, Appellee, v. Vincent F. Chiarella, Defendant-appellant, 588 F.2d 1358 (2d Cir. 1978) :: Justia
Justia › US Law › Case Law › Federal Courts › Courts of Appeals › Second Circuit › 1978 › Fed. Sec. L. Rep. P 96,608, 3 Fed. R. Evid. Ser v. 1347united States of America, Appellee, v. Vincen...
Fed. Sec. L. Rep. P 96,608, 3 Fed. R. Evid. Ser v. 1347united States of America, Appellee, v. Vincent F. Chiarella, Defendant-appellant, 588 F.2d 1358 (2d Cir. 1978)
US Court of Appeals for the Second Circuit - 588 F.2d 1358 (2d Cir. 1978)
Argued Oct. 3, 1978. Decided Nov. 29, 1978
Chiarella admits to the activities outlined above. He recognizes, moreover, that since SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (2d Cir. 1968) (En banc), Cert. denied, 394 U.S. 976, 89 S. Ct. 1454, 22 L. Ed. 2d 756 (1969), it has been black letter law that
For the securities markets to function properly, it is essential that those who occupy such strategic places in the market mechanism be forbidden to reap personal gains from information received by virtue of their position. Indeed, Rule 10b-5 prohibits Corporate insiders from trading on nonpublic Corporate information only because their ready access to the intimate details of their companies' problems and prospects gives them an unfair advantage over persons with whom they deal. See, e. g., Texas Gulf Sulphur,supra, 401 F.2d at 848 ("(T)he Rule is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information."); Speed v. Transamerica Corp., 99 F. Supp. 808, 829 (D. Del. 1951); Fleischer, Mundheim & Murphy, An Initial Inquiry into the Responsibility to Disclose Market Information, 121 U. Pa. L. Rev. 798, 818 (1973). Yet even the most unscrupulous officer or director could scarcely have a greater opportunity to reap sure profits than market insider Chiarella had by virtue of the market information at his disposal.8 Accordingly, we believe that the principle underlying Texas Gulf Sulphur is not so narrow as Chiarella contends. In enacting the securities laws, Congress did not limit itself to protecting shareholders from the peculations of their officers and directors. A major purpose of the antifraud provisions was to "protect the integrity of the marketplace in which securities are traded." United States v. Brown, 555 F.2d 336, 339 (2d Cir. 1977). Anyone 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. And if he cannot disclose,9 he must abstain from buying or selling.
The American Law Institute's Federal Securities Code Has suggested a category of "quasi-insiders" that bears a strong resemblance to the concept of market insider developed above. See id. § 1603, comment 3(d), at 538-39 (Proposed Official Draft 1978). In rejecting a Per se disclose-or-abstain rule for quasi-insiders, the ALI appeared primarily concerned with defining the scope of the category. Id. It therefore chose not to include these individuals in the "insider trading" section of the Code (§ 1603). But the Institute specifically indicated that "egregious" cases would fall under the proscription of § 1602, its recodification of Rule 10b-5. Code, supra, at 539. Compare Fleischer, Mundheim & Murphy, Supra, 121 U. Pa. L. Rev. at 819-24. A test of " regular access to market information" appears to us to provide a workable rule. There should be no greater difficulty in resolving close cases than is inherent in determining who is a "corporate insider" under Texas Gulf Sulphur. See Code, supra, § 1603, comment 3(e), at 540. In any event, we believe Chiarella's conduct was sufficiently egregious to fit the most restrictive definition of a quasi-insider who would be barred from trading by the general provisions of § 1602.
A duty to disclose arising out of regular access to market information is not a stranger to the world of 10b-5. In Affiliated Ute Citizens v. United States, 406 U.S. 128, 92 S. Ct. 1456, 31 L. Ed. 2d 741 (1972), the First Security Bank of Utah acted as transfer agent for shares of the Ute Development Corporation, which was created by the federal government to hold assets for a group of mixed-blood Ute Indians. There were effectively two separate markets for the shares a primary market consisting of Indians selling to whites through the Bank, and a resale market consisting entirely of whites. The price per share was significantly higher in the resale market, but the Indians did not know of the existence of the resale market nor, of course, of the price differential. Gale and Haslem, two employees of the Bank, bought from Indians and sold to whites, thereby realizing substantial profits. The Supreme Court held that the employees' position at the center of the two markets gave rise to a Rule 10b-5 affirmative duty to disclose. 406 U.S. at 153, 92 S. Ct. 1456.10
H.R.Rep.No. 1383, 73d Cong., 2d Sess. 11 (1934); Accord, S.Rep.No. 1455, 73d Cong., 2d Sess. 81 (1934). Nor are these principles in any way diminished by the 5% Limit on pre-offer market purchases established by the Williams Act, 15 U.S.C. §§ 78m(d), 78n(d). That legislation was not designed to interfere with an offeror's exercise of its economic judgment. Rather, its principal purpose was to prevent the "stampede effect" that the publicity associated with tender offers has on target shareholders. See, e. g., Rondeau v. Mosinee Paper Co., 422 U.S. 49, 58 & n.8, 95 S. Ct. 2069, 45 L. Ed. 2d 12 (1975); E. Aranow, H. Einhorn & G. Berlstein, Developments in Tender Offers for Corporate Control 10-16 (1977).
Let us now consider Chiarella. In stark contrast to the offerors, he has taken no economic risk whatsoever. Indeed, his "investments" were less speculative than those of the defendants in A. T. Brod & Co. v. Perlow, 375 F.2d 393 (2d Cir. 1967). The Perlows ordered stock from their broker but refused to pay when the price had not gone up by settlement date. Chiarella, however, had virtually certain knowledge that he could sell out at a substantial profit.12 Moreover, as in Perlow, Chiarella's market activity created an artificial demand for target stock that had a distorting effect on the free play of market forces envisioned by the securities laws. See id. at 397; Schotland, Unsafe at Any Price: A Reply to Manne, Insider Trading and the Stock Market, 53 Va. L. Rev. 1425, 1448-52 (1967).
Indeed by entering the market for target stock on the basis of advance knowledge of a tender offer, Chiarella exerted upward pressure on the price of the stock. In this manner, he achieved precisely the result Judge Friendly so assiduously sought to avoid in General Time. See E. Aranow, H. Einhorn & G. Berlstein, Supra, at 20; Fleischer, Mundheim & Murphy, Supra, 121 U. Pa. L. Rev. at 815.15
Appellant contends that interpreting Rule 10b-5 to impose an affirmative duty of disclosure on a person other than a corporate insider would be so novel a construction of the Rule as to violate the fair notice element of due process. We believe, however, that today's holding is but a logical application of the congressional policies underlying the rule of Texas Gulf Sulphur. That no prior litigated case has involved the precise fact pattern at issue here is not dispositive. United States v. Brown, supra, 555 F.2d at 339-40; United States v. Charnay, 537 F.2d 341, 349-50 (9th Cir.), Cert. denied, 429 U.S. 1000, 97 S. Ct. 527, 50 L. Ed. 2d 610 (1976). All that is necessary is that "a clear and definite statement of the conduct proscribed" antedate the actions alleged to be criminal. United States v. Persky, 520 F.2d 283, 288 (2d Cir. 1975).
This language has been specifically approved for prosecutions brought, like this one, under § 32(a) of the 1934 Act, 15 U.S.C. § 78ff(a), which punishes willful violations of the Act's substantive provisions or of rules promulgated under it. United States v. Peltz, 433 F.2d 48, 54-55 (2d Cir. 1970), Cert. denied, 401 U.S. 955, 91 S. Ct. 974, 28 L. Ed. 2d 238 (1971); United States v. Dixon, 536 F.2d 1388, 1395-97 (2d Cir. 1976).
Chiarella does not dispute that Judge Owen's charge adequately defines the level of intent required by § 32(a) itself. Rather, he contends that when the substantive provisions are § 10(b) and Rule 10b-5, the Government must prove the additional element of specific intent to defraud. In advancing this proposition he cites the statement in Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S. Ct. 1375, 47 L. Ed. 2d 668 (1976), that a civil action for damages under the antifraud provisions of the 1934 Act must fail absent proof of " 'scienter' intent to deceive, manipulate, or defraud," Id. at 193, 96 S. Ct. at 1381.
Courts and commentators alike have noticed, however, that, read as a whole, the Hochfelder opinion does not yield such a clear and ineluctable explication of the meaning of "scienter." See, e. g., Rolf v. Blyth, Eastman Dillon & Co., 570 F.2d 38, 44-47 (2d Cir. 1978), Petition for cert. filed, 47 U.S.L.W. 3266 (U.S. Oct. 2, 1978) (No. 78-560); United States v. Charnay, supra, 537 F.2d at 357-59; Bucklo, The Supreme Court Attempts to Define Scienter Under Rule 10b-5, 29 Stan. L. Rev. 213, 216-17 (1977). The Court was primarily concerned with rejecting Hochfelder's contention that mere negligent omissions sufficed to establish a claim under Rule 10b-5, and it did not settle fine points of definition. In particular it left open whether reckless conduct is sufficient, 425 U.S. at 193 n. 12, 96 S. Ct. 1375, and variously described its holding as requiring "some element of scienter," Id. at 201, 96 S. Ct. 1375, and "knowing or intentional misconduct," Id. at 197, 96 S. Ct. 1375. A fair reading of Hochfelder indicates that the Court used the term "scienter" only to contrast negligence and not to establish a standard of specific intent to defraud.
Indeed, such fraudulent intent was not required by any of the cases or commentators cited by the Hochfelder Court as favoring a scienter requirement in 10b-5 actions, See Bucklo, Supra, at 219 & nn.30 & 31, nor was it generally required at common law, See id. at 228-30. And, since Hochfelder, we have held that, under some circumstances, reckless disregard of the truth will satisfy the scienter requirement in a private civil action for damages. Rolf v. Blyth, Eastman Dillon & Co., supra. Finally, the only court to reach the issue has held the Peltz-Dixon charge to be consistent with Hochfelder. United States v. Charnay, supra, 537 F.2d at 357-59 (on petition for rehearing in light of Hochfelder) .
For example, the district judge refused to permit Chiarella to testify that he had never heard of anyone being prosecuted for what he had done. But under the Peltz-Dixon test, the willfulness requirement of § 32(a), is satisfied by a general awareness of wrongful conduct, Peltz, supra, at 55, which may exist even if a defendant believes his chicanery is in technical compliance with the law, Dixon, supra, at 1396. Chiarella's proffered testimony, therefore, was at best tangentially relevant. Considering the prejudice to the Government that might arise from a suggestion that Chiarella was unfairly singled out for prosecution, Judge Owen did not abuse his broad discretion under Fed.R.Evid. 403 by barring the testimony. See, e. g., United States v. King, 560 F.2d 122, 128 (2d Cir.), Cert. denied, 434 U.S. 925, 98 S. Ct. 404, 54 L. Ed. 2d 283 (1977). Similarly, the trial judge did not err in excluding, as irrelevant and prejudicial, evidence that appellant disgorged his profits to the sellers of his target securities. It is difficult to see how Chiarella's state of mind during the operation of his scheme would be illuminated by evidence that afterwards he agreed to an SEC decree requiring restitution. Post v. United States, 132 U.S.App.D.C. 189, 196-98, 407 F.2d 319, 326-28 (1968), Cert. denied, 393 U.S. 1092, 89 S. Ct. 863, 21 L. Ed. 2d 784 (1969).21
We believe Judge Owen correctly denied the suppression motion and admitted the statement. State-created privileges22 are not controlling in federal criminal cases except to the extent they reflect "the principles of the common law as they may be interpreted by the courts of the United States in the light of reason and experience," Fed.R.Evid. 501. E. g., United States v. Craig, 7 Cir., 528 F.2d 773, 776 (majority), 781 (Tone, J., concurring on point), Aff'd en banc per curiam on panel concurrence, 537 F.2d 957 (7th Cir.), Cert. denied, 425 U.S. 973, 96 S. Ct. 2171, 48 L. Ed. 2d 796, 429 U.S. 999, 97 S. Ct. 526, 50 L. Ed. 2d 609 (1976). To the extent § 537 does create a privilege under New York law, an issue we need not decide, it is one unknown to the common law. In view of the strong federal policy favoring admissibility in criminal cases, See, e. g., United States v. Nixon, 418 U.S. 683, 708-13 & n. 18, 94 S. Ct. 3090, 41 L. Ed. 2d 1039 (1974), the district court properly held the statement admissible. See United States v. DiCarlo, 565 F.2d 802, 806 (1st Cir. 1977), Cert. denied, 435 U.S. 924, 98 S. Ct. 1487, 55 L. Ed. 2d 517 (1978); United States v. Schoenheinz, 548 F.2d 1389 (9th Cir. 1977) (per curiam); In re Grand Jury, 541 F.2d 373, 378-83 (3d Cir. 1976); Craig, supra.
The majority holds that Chiarella committed a § 10(b) violation by breaking the "disclose or abstain" rule of SEC v. Texas Gulf Sulphur, 401 F.2d 833, 848 (2d Cir. 1968) (En banc), Cert. denied, 394 U.S. 976, 89 S. Ct. 1454, 22 L. Ed. 2d 756 (1969). However, we have been cited no case in which even civil liability for nondisclosure has been imposed under § 10(b) on anyone other than an insider, the tippee of an insider, or one standing in a special relationship with other traders. More specifically, we have been cited no case in which Criminal liability for § 10(b) nondisclosure has been imposed on Any purchaser of stock, either insider Or outsider. The majority terms "irrelevant" the fact that Chiarella was neither an insider of the companies whose securities he purchased, nor the tippee of an insider. Chiarella's location "inside the market itself" is today held to place him in a special relationship with all buyers and sellers with whom he might deal a relationship which triggers the duty either to abstain or to disclose material nonpublic information. I am sympathetic to the majority's view that imposition of the duty to abstain or disclose on those who occupy strategic positions in the securities industry may further important goals embodied in the securities acts, such as maintaining investor confidence in the integrity of the market. However, we must resist the temptation to redraft legislation, in effect, by reading into it what we would like to see written there, especially where a criminal conviction is at issue.
That today's application of § 10(b) is a departure from prior law cannot be disputed.1 In General Time Corp. v. Talley Industries, Inc., 403 F.2d 159, 164 (2d Cir. 1968), Cert. denied, 393 U.S. 1026, 89 S. Ct. 631, 21 L. Ed. 2d 570 (1969), this Court rejected a claim that a company acquiring stock in another corporation must disclose to selling shareholders plans for an eventual merger:
As the commentators cited by the majority have observed, "(t)he duty to disclose material, non-public information has not been imposed on every person possessing this type of information. Traditionally, this obligation has been limited to persons with a special relationship To the company affected by the information." Fleischer, Mundheim & Murphy, An Initial Inquiry into the Responsibility to Disclose Market Information, 121 U. Pa. L. Rev. 798, 804 (1973) (emphasis added). See also Fleischer, Securities Trading and Corporate Information Practices : The Implications of the Texas Gulf Sulphur Proceeding, 51 Va. L. Rev. 1271, 1280 (1965). Commentators on securities fraud law often discuss persons covered by the Rule 10b-5 disclosure duty without mention of traders other than insiders or tippees of insiders. See, e. g., 1 A. Bromberg, Securities Law: Fraud, § 7.4(6) (b), at 179-83 (1977). Bromberg notes that judicial decisions have generally adopted the SEC's own view that anyone is subject to Rule 10b-5 disclosure obligations if he or she "has inside information obtained by reason of access to the issuer." Id. at 179.
The majority's break with this § 10(b) tradition is accomplished by the creation of the new category of "market insider," into which former outsiders will henceforth be placed. The majority sees in this new category a strong resemblance to the concept of the "quasi-insider" suggested in the comments accompanying the American Law Institute's Federal Securities Code (Proposed Official Draft, March 15, 1978). However, the proposed code quite clearly imposes an affirmative duty of disclosure Only on insiders (explicitly defined in terms of their relationship with or access to the Issuer) and tippees of insiders. The Reporter's comments indicate that the difficulties that would be posed by extending this duty to a wider range of traders were deemed to outweigh the "convenience" of such an extension. Thus, the drafters of the proposed Code respectfully rejected the position taken by the three concurring judges in SEC v. Great American Industries, Inc., 407 F.2d 453 (2d Cir. 1968) (En banc), Cert. denied, 395 U.S. 920, 89 S. Ct. 1770, 23 L. Ed. 2d 237 (1969), who expressed a willingness to catch non-insiders in the § 10(b) disclosure net. The ALI's proposed code, like prior law, explicitly recognizes that some cases of nondisclosure of material information by non-insiders, no matter how egregious, do not involve fraud and hence do not fall within the scope of § 10(b), the majority's statement to the contrary notwithstanding.2
The majority suggests that the test of "regular access to market information" is a workable one for determining when such a duty is to be imposed on outsiders. Affiliated Ute Citizens v. United States, 406 U.S. 128, 92 S. Ct. 1456, 31 L. Ed. 2d 741 (1972), a civil case, is the only precedent cited to buttress the majority's assertion that a "duty to disclose arising out of regular access to market information is not a stranger to the world of 10b-5." Affiliated Ute involved a bank which had agreed with the Ute Distribution Corporation (UDC) to act as transfer agent for its stock, which was being sold by its Indian owners to non-Indians. The bank itself had acknowledged in a letter to an association representing the Indian sellers that it would be the bank's " 'duty to see that these transfers were properly made' " and that " 'the bank would be acting for the individual stockholders.' " Id. at 152, 92 S. Ct. at 1471. Despite the access of the bank and its employees to market information which was not known to the sellers, the Supreme Court explained that if the bank "had functioned merely as a transfer agent, There would have been no duty of disclosure here." Id. (emphasis added). It was because the defendants had devised a plan to induce the holders of the stock to sell and had developed and encouraged a market for their stock that defendants were held to have assumed an affirmative duty of disclosure. Thus, it was not the bank's clearly superior, regular access to market information concerning UDC stock but its actions in undertaking to act for the sellers that rendered its silence equivalent to a scheme to defraud the selling shareholders. Chiarella certainly did not undertake to act for the sellers of the target stock, nor did he enter the type of special relationship with them which was determinative in Affiliated Ute.
Chiarella has not been shown to have owed a duty of disclosure to the sellers of target stock. He owed a duty to the offeror corporation not to misuse confidential information entrusted to him. But the term "fraud" in Rule 10b-5 does not bring within the ambit of the rule "all breaches of fiduciary duty in connection with a securities transaction." Santa Fe Industries, Inc. v. Green, 430 U.S. 462, 472, 97 S. Ct. 1292, 1300, 51 L. Ed. 2d 480 (1977). In most contexts, " 'fraud' still requires something more than 'unfairness' or breach of fiduciary duty." American Law Institute, Federal Securities Code (Proposed Official Draft, March 15, 1978) § 1603, Comment (3) (b).Section 10(b) as a Criminal Statute.
If § 10(b) and Rule 10b-5 were broad enough to cover every securities-related maneuver that entailed unfairness or undermined investor confidence there would be no need for all the other statutes and rules that figure in the complex securities regulation scheme that Congress has been building since the 1930's. When a new weak point is identified such as abuse of regular access to market information by certain participants in the industry a direct attack on the problem through congressional legislation or SEC rulemaking would be a more appropriate response than the uncomfortable stretching of existing law engaged in by the majority here to cover the gap.4 The SEC has been aware of the potential for abuse of nonpublic information by financial printers since at least 1971. SEC v. Sorg Printing Co., Inc., C.C.H. Fed.Sec.L.Rep. P 95,034 (S.D.N.Y. 1975). The SEC has sought and obtained several consent decrees enjoining the same conduct Chiarella engaged in and ordering disgorgement of profits made in such transactions. See, e. g., Sorg, supra ; SEC v. Ayoub, C.C.H. Fed.Sec.L.Rep. P 95,567 (S.D.N.Y. 1976); SEC v. Primar Typographers, Inc., C.C.H. Fed.Sec.L.Rep. P 95,734 (S.D.N.Y. 1976). Apparently the government is of the view that imprisonment will succeed where other sanctions have failed. This may be. But whatever the wisdom of an extension of the "civil incarnation" of § 10(b) to cover the situation presented here, our lawmaking function is severely restricted in the criminal area. As the majority notes, we cannot uphold a conviction unless "a clear and definite statement of the conduct proscribed" antedates the actions alleged to be criminal. Chief Judge Kaufman in United States v. Persky, 520 F.2d 283, 287 (2d Cir. 1975), most perceptively identified the novel issue raised by the application of due process-vagueness-notice principles to § 10(b) criminal prosecutions.
The majority has failed to uncover a sufficiently clear statement prohibiting Chiarella's actions to warrant imposition of a criminal sanction.7 I wholeheartedly endorse the majority's explanation of the desirability and necessity of curbing the ability of those with access to nonpublic information to trade without making disclosure. And I recognize that as a civil, remedial statute § 10(b) has been and should be interpreted in a flexible fashion by the courts. Yet we cannot be deaf to recent caveats issued by the Supreme Court in slowing down the expansion of § 10(b) lest it take over "the whole corporate universe." Santa Fe Industries, Inc. v. Green, supra, 430 U.S. at 480, 97 S. Ct. at 1304. We have been urged to turn first to the language of § 10(b) in ascertaining congressional intent. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 197, 96 S. Ct. 1375, 47 L. Ed. 2d 668 (1976). We have been chided for relying on "the term 'fraud' in Rule 10b-5 to bring within the ambit of the Rule all breaches of fiduciary duty in connection with a securities transaction" lest we add a gloss to the statute " 'quite different from its commonly accepted meaning.' " Santa Fe Industries, Inc. v. Green, supra, 430 U.S. at 472, 97 S. Ct. at 1300. The brakes have been applied in the context of private causes of action under § 10(b). Surely we should be even more fastidious in our construction of the statute when we are asked to review a criminal conviction. Here, Chiarella was sentenced to a one year term of imprisonment, suspended except for one month, and a five year term of probation.
Despite some dicta concerning the purpose behind the securities laws, See e. g., SEC v. Texas Gulf Sulphur Co., supra, 401 F.2d at 847-48, "no case has held that there must be parity of material information between the parties to a securities transaction." Fleischer, Mundheim & Murphy, Supra, 121 U. Pa. L. Rev. at 806. The disclosure duty has been imposed on insiders, broker-dealers, Chasins v. Smith, Barney & Co., 438 F.2d 1167 (2d Cir. 1970), and those undertaking a special relationship with buyers or sellers of stock, Affiliated Ute Citizens v. United States, supra, 406 U.S. 128, 92 S. Ct. 1456, 31 L. Ed. 2d 741. "The problem in the silence cases is to identify the circumstances which trigger a duty to come forward with information." Fleischer, Mundheim & Murphy, Supra, 121 U. Pa. L. Rev. at 803. To identify judicially a new triggering circumstance regular receipt of market information if appropriate at all, is not appropriate here. The criminal aspects of 10b-5 have been neither extensive nor significant prior to today. 3 Bromberg, Supra, § 10.3 at 241. The ability of the SEC to function will not be severely hampered if it must await congressional action or action by its own rulemakers to correct any market distortion caused by wayward printers. As would any agency, the SEC would like to keep as many weapons in its arsenal as possible. But there are rules of combat, and our job is to see that the amenities are observed when the SEC embarks on a new crusade.
Purchases Target Offeror Shares Date Date Sold Profit USM Emhart 300 9/ 5/75 9/ 9/75 $ 1,019.11 Riviana Foods Colgate- 2/ 5/76 to 2/26/76 to (Merger) Palmolive 2300 2/10/76 3/16/76 $ 8,948.55 FoodTown Delhaize 10/21/76 to Stores Freres 1100 10/11/76 12/ 1/76 $ 2,990.30 Booth Times- Newspapers Mirror 100 10/21/76 10/22/76 $ 914.56 Sprague General Electric Cable 3200 11/10/76 11/15/76 $16,138.87 ---------- Total Profit: $30,011.39
Judge Owen's decision on the motion to dismiss is reported at 450 F. Supp. 95 (S.D.N.Y. 1978)
"Market information" refers to information that affects the price of a company's securities without affecting the firm's earning power or assets. See Fleischer, Mundheim & Murphy, Supra, 121 U. Pa. L. Rev. at 799. Examples include information that an investment adviser will shortly issue a "buy" recommendation or that a large stockholder is seeking to unload his shares or that a tender offer will soon be made for the company's stock. Of course, from the point of view of a shareholder who sells his stock on the day before the price jumps sharply upward, it matters little whether the cause of the rise was news of an ore strike, See Texas Gulf Sulphur, supra, or, as here, the announcement of a tender offer. See ALI Federal Securities Code § 1603, comment 2(j), at 531-32; Oppenheimer & Co., Exch. Act Rel. No. 12319, (1975-1976 Transfer Binder) Fed.Sec.L.Rep. (CCH) P 80,551, at 86,415 & n.3 (1976)
Specifically, the Court applied our decision in Chasins v. Smith, Barney & Co., 438 F.2d 1167 (2d Cir. 1971), to hold that Gale and Haslem were De facto market makers and obliged to reveal that fact to the Indians. Both we and the Supreme Court relied exclusively on Rule 10b-5 to establish the duty, and did not look to Rule 15c1-4, which regulates the conduct of broker-dealers. 406 U.S. at 154 n. 16, 92 S. Ct. 1456; 438 F.2d at 1172-73. Cf. SEC v. Spectrum, Ltd., 489 F.2d 535, 541-42 (2d Cir. 1973) ("unique and pivotal role" of legal profession in distribution of securities justifies higher-than-usual standard of conduct)
We disagree with Judge Meskill's narrow reading of Affiliated Ute Citizens. It is highly doubtful whether, under the facts of that case, a mere transfer agent would have had access to the detailed price and market information available to the bank employees. Accordingly, the Court's Dictum that a transfer agent would not incur a duty to disclose, 406 U.S. at 151-52, 92 S. Ct. 1456, should not be interpreted as a holding precluding liability of Chiarella, who Did have regular access to non-public information of vital concern to investors.
When it does, of course, it may be liable as an ordinary insider. Crane Co. v. Westinghouse Air Brake Co., 419 F.2d 787, 796 (2d Cir. 1969), Cert. denied, 400 U.S. 822, 91 S. Ct. 41, 27 L. Ed. 2d 50 (1970)
This suffices to dispose of appellant's contention that Judge Owen erred in permitting the prosecutor to argue that Chiarella's conduct defrauded the offerors as well as the sellers. The prosecutor was making a legitimate response to the principal pillar of the defense theory of the case, that Chiarella could trade because the offerors could trade. In any event, the indictment fairly charges Chiarella violated Rule 10b-5 by converting offerors' confidential information to his own use. It not only alleged that appellant's activities "operated as a fraud and deceit upon the sellers of the aforementioned securities," it also charged a "scheme to defraud" in general terms. Clearly, violation of an agent's duty to respect client confidences, Restatement (2d) Agency S 395, transgresses Rule 10b-5 where, as here, the converted information both concerned securities and was used to purchase and sell securities. Cf. Superintendent of Insurance v. Bankers Life & Cas. Co., 404 U.S. 6, 9-10, & n. 7, 92 S. Ct. 165, 30 L. Ed. 2d 128 (1971); United States v. Brown, supra; A. T. Brod & Co. v. Perlow, supra
We wish to make it clear that we are not relying on any concept of "business purpose" in distinguishing Chiarella from Pandick's clients, whose confidential information appellant converted to his own use. In this respect, we differ with Judge Owen, who relied at least in part on the offerors' "presumptively legitimate business purpose to promote economic growth," 450 F. Supp. at 97. We agree with appellant that "business purpose" cannot be dispositive of liability under Rule 10b-5. Santa Fe Industries, Inc. v. Green, 430 U.S. 462, 97 S. Ct. 1292, 51 L. Ed. 2d 480 (1977)
In any event, Santa Fe Industries Arose on facts entirely different from those of the case at bar. In Santa Fe, the question was whether lack of business purpose would create liability under Rule 10b-5 even when all required disclosures were made. 430 U.S. at 474-77, 97 S. Ct. 1292. Chiarella, of course, made no disclosure whatsoever.
We are unpersuaded by our dissenting brother's argument that Rule 10b-5 must be construed more narrowly in criminal prosecutions than in civil enforcement actions. Section 32(a) of the 1934 Act, 15 U.S.C. § 78ff(a), provides criminal penalties for willful violations of "Any rule or regulation . . . the violation of which is made unlawful." (emphasis added) It is well-established that, except for issues of intent and burden of proof, criminal and civil liability under the securities laws are coextensive. United States v. Peltz, 433 F.2d 48, 53 (2d Cir. 1970) (Friendly, J.), Cert. denied, 401 U.S. 955, 91 S. Ct. 974, 28 L. Ed. 2d 238 (1971); United States v. Charnay, 537 F.2d 341, 348 (9th Cir.) (citing cases), Cert. denied, 429 U.S. 1000, 97 S. Ct. 527, 50 L. Ed. 2d 610 (1976)
Since Sorg, the SEC has obtained consent decrees against three additional printers (not including Chiarella). SEC v. Manderano, (Current) Fed.Sec.L.Rep. (CCH) P 96,357 (D.N.J. March 22, 1978); SEC v. Primar Typographers, Inc., (1976-1977 Transfer Binder) Fed.Sec.L.Rep. (CCH) P 95,734 (S.D.N.Y. 1976); SEC v. Ayoub, (1975-1976 Transfer Binder) Fed.Sec.L.Rep. (CCH) P 95,567 (S.D.N.Y. 1976). Cf. SEC v. Healy, SEC Litigation Rel. No. 6589 (S.D.N.Y. Nov. 18, 1974) (officers of tender offeror)
We also believe that the district judge did not, as Chiarella suggests, direct a verdict of guilty by charging the jury that "in the context of this case, assuming you find the requisite state of mind, a failure by Chiarella to disclose material, nonpublic information in connection with his purchase of stock would constitute deceit." This charge was given as part of the definition of "scheme to defraud" in Rule 10b-5(a). Construction of the words of a statute (and, of course, a rule) is the court's function. E. g., United States v. Santiago, 528 F.2d 1130, 1135 (2d Cir.), Cert. denied, 425 U.S. 972, 96 S. Ct. 2169, 48 L. Ed. 2d 795 (1976). United States v. United States Gypsum Co., --- U.S. ----, 98 S. Ct. 2864, 57 L. Ed. 2d 854 (1978), is not to the contrary. That case held it an impermissible encroachment on the jury's fact-finding role to charge that defendants are presumed to have intended to fix prices if their conduct would have that effect. Id. --- U.S. at ----- ----, 98 S. Ct. at 2872-77, 57 L. Ed. 2d at 868-75. Here, the trial judge repeatedly told the jury that it must determine Chiarella's state of mind for itself; indeed, the portion quoted as objectionable specifically so states
We also conclude that it was not error to charge the jury that "the repeated similar acts or conduct in the indictment may be considered circumstantial evidence of unlawful intent." Similar acts evidence is frequently highly probative on issues of intent. See, e. g., Fed.R.Evid. 404(b); United States v. Grady, 544 F.2d 598, 604-05 (2d Cir. 1976); United States v. Broadway, 477 F.2d 991, 994 (5th Cir. 1973); United States v. Deaton, 381 F.2d 114, 117-18 (2d Cir. 1967) (citing cases). Although Chiarella did not contend he acted inadvertently, or through mistake, See United States v. Semak, 536 F.2d 1142, 1144-45 (6th Cir. 1976), the fact that he engaged in five separate transactions over a period of fifteen months would permit the jury to infer that his mind was focused on the nature of his acts, See United States v. Catalano, 491 F.2d 268, 275-76 (2d Cir.), Cert. denied, 419 U.S. 825, 95 S. Ct. 42, 42 L. Ed. 2d 48 (1974). In United States v. Marcus, 429 F.2d 654, 657-58 (3d Cir. 1970), relied on by Chiarella, the defendant was charged with knowingly attempting to pledge stolen securities. An instruction permitting the jury to infer knowledge that the securities were stolen from evidence that defendant later sought to pledge other securities was held to be prejudicial error in the absence of proof that the latter securities were themselves stolen. Id. at 658. In short, the second attempt to pledge was not a "similar act," and Marcus is clearly distinguishable from the case before us. See id. at 658 n. 3
Chiarella contends that the Federal Unemployment Tax Act, 26 U.S.C. § 3304(a) (16), (17), providing for federal approval of state unemployment laws, transforms § 537 into an "Act of Congress" for purposes of Fed.R.Evid. 501. We are not inclined to read § 3304 so broadly because, as the Government has pointed out, the Secretary of Labor has approved unemployment laws in at least two states Massachusetts and Washington that specifically permit disclosure to prosecutors of statements such as Chiarella's. Mass.Ann. Laws ch. 151A, § 46 (Michie/Law. Coop. 1976); Wash.Rev. Code §§ 50.13.060, .070. In any event, this ground for excluding the statement was not raised below and is therefore waived. E. g., United States v. Fuentes, 563 F.2d 527, 531 (2d Cir.), Cert. denied, 434 U.S. 959, 98 S. Ct. 491, 54 L. Ed. 2d 320 (1977)
Indeed, this Court sitting En banc has stated that "to read Rule 10b-5 as placing an affirmative duty of disclosure on persons who in contrast to 'insiders' or broker-dealers did not occupy a special relationship to a seller or buyer of securities, would be occupying new ground and would require most careful consideration." SEC v. Great American Industries, Inc., 407 F.2d 453, 460 (2d Cir. 1968) (En banc), Cert. denied, 395 U.S. 920, 89 S. Ct. 1770, 23 L. Ed. 2d 237 (1969)
This case does not involve the prosecution of a "novel or atypical" type of fraud. See, e. g., United States v. Brown, 555 F.2d 336 (2d Cir. 1977); A. T. Brod & Co. v. Perlow, 375 F.2d 393 (2d Cir. 1967). Brown and Perlow involved ingenious schemes which, while novel, were clearly fraudulent under any definition of the term fraud. In contrast, Chiarella was prosecuted for trading without disclosing nonpublic, non-inside information. Failure to make such disclosure is fraudulent only when a duty to disclose is violated. See General Time Corp. v. Talley Industries, Inc., 403 F.2d 159 (2d Cir. 1968), Cert. denied, 393 U.S. 1026, 89 S. Ct. 631, 21 L. Ed. 2d 570 (1969) (permitting company to purchase target stock without disclosing plans for merger); SEC v. Great American Industries, Inc., supra, 407 F.2d at 460
Either the legislative or the administrative process would make possible the imposition of trading restrictions responsive to the different possibilities for abuse of nonpublic information by outsiders as opposed to insiders. Contrary to the majority's statement, unfair advantage over other traders is not the only evil that insider trading restrictions are intended to avoid. The subtle infection of corporate decision-making by considerations of personal gain and other conflicts of interests inimical to the insider's duty to the corporation are also prevented by § 10(b) disclosure requirements, as well as by provisions like § 16 of the 1934 Act (regulating short swing profits). Study of the "market insider" problem and possible cures might yield a mechanism more precisely tailored to prevent the perceived evil without opening the door to those that the Court has not been given the opportunity to consider. For example, the impact, if any, of our decision on the practice of "warehousing" by tender offerors deserves thought. See, for discussion of warehousing, Fleischer, Mundheim & Murphy, An Initial Inquiry into the Responsibility to Disclose Market Information, 121 U. Pa. L. Rev. 798, 811-15 (1973).
Compare the Supreme Court's cautious and restrictive interpretation of the Sherman Act in a recent criminal price fixing case in light of the fact that "the Act has not been interpreted as if it were primarily a criminal statute" but rather has been construed with great flexibility. United States v. United States Gypsum Co., --- U.S. ----, ----, 98 S. Ct. 2864, 2874, 57 L. Ed. 2d 854 (1978). The same accommodation of criminal and remedial sanctions is necessitated by the structure and history of the securities acts. See also United States v. Winston, 558 F.2d 105, 108 (2d Cir. 1977), overturning a conviction under the Railway Labor Act: "The paucity of criminal proceedings under (45 U.S.C. § 152), when contrasted with the active pursuit of civil relief thereunder, strongly supports appellants' contention that Congress intended criminal sanctions to apply only to the more egregious violations. Although the failure to enforce a statute over an extended period of time does not result in its repeal, . . . the 'gloss which life has written upon it' . . . indicates in this instance that strict construction of its terms is appropriate." (footnotes and citations omitted)
As Chief Judge Kaufman has observed, the "exact nature and scope" of the federal law governing tippee trader liability "remain in a formative stage." Schein v. Chasen, 478 F.2d 817, 828 (2d Cir. 1973) (Kaufman, J., dissenting), Vacated on other grounds, 416 U.S. 386, 94 S. Ct. 1741, 40 L. Ed. 2d 215 (1974)