On Friday the Manhattan U.S. Attorney and the SEC one again filed high profile insider trading cases after holding a press conference – standard fare for headline grabbing actions. And, this was a headline grabbing case: a corporate director; a Las Vegas sports gambling professional; and a celebrity professional golfer. DOJ and the SEC agree that the first two violated the insider trading laws. They also seem to agree that the third did not. Yet the golfer is named by the SEC as a “relief defendant.” If he did not violate the insider trading laws why is he named as a defendant at all?
SEC v. Walters, Civil Action No. 1:16-cv-03722 (S.D.N.Y. Filed May 19, 2016) names as defendants William T. Walters and Thomas C. Davis. Mr. Walters is the Chairman and CEO of The Walters Group. He is a professional sports bettor. Mr. Davis was a director of Dean Foods Company and a member of the audit committee. He was also a member of a group of Darden shareholders trying to institute change at the company. The parallel criminal case names Mr. Walters as a defendant; Mr. Davis pleaded guilty and is cooperating with the government.
According to the SEC, from 2008 through 2012 Mr. Davis repeatedly tipped his friend William Walters in advance of certain corporate events related to Dean Foods. The tips, for example, came in advance of six quarterly earnings announcements. Mr. Davis also tipped his friend in advance of the spin-off of a profitable Dean Foods subsidiary, The WhiteWave Foods Company. In addition, the director provided Mr. Walter, in 2013, with information he obtained on a confidential basis from a group of investors seeking to institute corporate change at Darden Restaurants, Inc.
As he was tipped Mr. Walters traded profitably. In some instances those trades were placed through two entities. One was the Walters Group, a partnership of Mr. Walters and his wife. The other was Nature Development B.V., and off-shore company indirectly controlled by Mr. Walters. Overall the trading netted him at least $40 million in profits. In exchange for the inside information Mr. Walters aided Mr. Davis with his financial difficulties, furnishing him with almost $1 million. The SEC’s complaint alleges that the defendants violated Exchange Act Section 10(b), requesting the usual remedies.
Mr. Walters, in addition to reaping large profits, also tipped professional golfer Philip Mickelson in July 2012 about the Dean Foods spin-off, according to the complaint. At the time Mr. Mickelson owed Mr. Walters money from gambling. Mr. Mickelson traded, reaping profits of about $931,000. The complaint does not allege that Mr. Mickelson knew the information furnished to him came from a breach of a duty for a personal benefit. Rather, Mr. Mickelson is named only as a relief defendant, along with the Walters Group and Nature Development B.V. The complaint claims that each of the relief defendants has gains over which they have no legitimate claim. Disgorgement of those gains is sought.
The impact of Newman is clearly present. In that decision the Second Circuit held that to establish illegal tipping the DOJ or SEC must allege and prove that the tippee knew the inside information came from a breach of a duty for a personal benefit. The SEC’s complaint goes to length to establish these elements as to the Davis-Walters tips, specifying that Mr. Davis was a corporate director who had such a duty, that Mr. Walters knew this fact and that he handsomely rewarded his friend for the inside information with payments totaling about $1 million at times when he was in desperate financial straights.
No such allegations are made with regard to Mr. Mickelson. Indeed, there is no allegation that the pro golfer knew anything about the source of the information other than it came from the professional sports gambler who gave it to him. The allegations, accordingly, do not even begin to approach the Newman requirements.
Why then is Mr. Mickelson named at all? The complaint states that Mr. Mickelson, and each relief defendant “received gains from trades based on material nonpublic information, over which they each have no legitimate claim.” Therefore “it is not just, equitable, or conscionable for them to retain the funds.” To be sure this claim is true as to The Walters Group and Nature Development. There Mr. Walters use his control over each entity to trade in their accounts in violation of Section 10(b). The profits in those accounts are the product of Mr. Walters’ claimed illegal trading.
That claim is not true as to Mr. Mickelson, however. To the contrary, there is no asserting that Mr. Mickelson, in placing the trades, violated Section 10(b). There are no facts which equate his position with that of the two controlled entities which served as shills for Mr. Walter’s alleged illegal trading. The is no suggestion that Mr. Mickelson was controlled or a shill.
Absent allegations that he violated the insider trading laws or served as a shill and repository for Mr. Walter’s alleged illegal trading profits there does not appear to be any reason for Mr. Mickelson to be named as a party – unless the SEC is rewriting insider trading law to prohibit anyone from trading while in possession of inside information even if they do not know the information is inside information. If that is the new SEC rule, then it is truly time for Congress to step in and write an insider trading statute rather than abdicating the field to the courts and the Commission.