Anna Cloeter

In Securities and Exchange Commission v. Cuban, a jury in the U.S. District Court for the Northern District of Texas found Mark Cuban not guilty on charges of securities fraud for insider trading.[1]

The Securities and Exchange Commission (SEC) originally filed its complaint against Mr. Cuban on November 17, 2008, alleging that Mr. Cuban violated Section 17(a) of the Securities Act of 1933 and Section 10(b) and Rule 10(b)(5) under the Securities Exchange Act of 1934.[2] The asserted violations occurred in connection with Mr. Cuban’s sale of his entire interest in Mamma.com – 600,000 shares – prior to the announcement of the company’s public offering and thereby saving himself from a loss of $750,000 despite having agreed to keep “material, non-public information” about the offering confidential.[3] In particular, the SEC relied upon a supposed oral agreement made between Mr. Cuban and the CEO of Mamma.com at the beginning of an eight minute and 34 second phone call between the two men and upon which the CEO purported to rely in providing Mr. Cuban with the “confidential” information on the public offering.[4] The SEC argued that these facts supported a finding of insider trading violation under the misappropriation theory, which provides that “a person commits fraud ‘in connection with’ a securities transaction, and thereby violates 10(b) and Rule 10b-5, when he misappropriates confidential information for securities trading purposes, in breach of a duty owed to the source of the information.”[5] On that basis, the SEC sought to have Cuban enjoined from future violations of security laws, and requested that he be forced to pay both his avoided losses plus pre-judgment interest and a civil money penalty.[6]

Mr. Cuban quickly filed a motion to dismiss, arguing simply that the SEC failed to state a cause of action in its complaint, as it had not properly alleged that Mr. Cuban owed Mamma.com any sort of fiduciary duty or duty of trust and confidence as required by the misappropriation theory of insider trading under which the claim was brought.[7] In particular, Mr. Cuban relied upon the fact that the SEC was basing its claim against him on an alleged oral agreement made between he and Mamma.com’s CEO to maintain the confidentiality of the forthcoming public offering [8] and that no court had ever before held a confidential agreement alone to have established a fiduciary or fiduciary-like duty. In the absence of greater evidence establishing a duty-bound relationship, Mr. Cuban maintained that he could not have possibly conducted insider trading based on information provided to him during the phone call in question – whether or not such information was confidential.[9]

In its ruling on the Motion to Dismiss, the U.S. District Court for the Northern District of Texas found for Mr. Cuban and dismissed the SEC’s Complaint, finding that the SEC had not adequately alleged a violation under the misappropriation theory of insider trading.[10] The Court’s order placed emphasis on the SEC’s failure to allege that Mr. Cuban had “agreed, expressly or implicitly, to refrain from trading on or otherwise using for his own benefit the information the CEO was about to share” as required by statute.[11] The Court did, however, state that the SEC could file an amended complaint alleging that Mr. Cuban had, in fact, assumed a duty not to “trade on or otherwise use material, non-public information about the . . . offering,” and made plain that failure to do so would result in dismissal of the SEC’s complaint with prejudice.[12]

Instead of repleading, the SEC appealed the Motion to Dismiss before the 5th Circuit Court of Appeals.[13] The 5th Circuit’s reading of the case differed in one significant respect from the District Court’s: its reading of the complaint.[14] Whereas the District Court “read the complaint to allege that Cuban agreed not to disclose any confidential information but did not agree not to trade” on it, the 5th Circuit found evidence to the contrary.[15] Looking at the complaint in the light most favorable to the SEC, the Court emphasized the fact that, after Mr. Cuban’s conversation with the CEO of Mamma.com, he was able to gain access to additional information about the public offering and made the decision to sell his stocks subsequent to the disclosure of that information.[16] The Court went on to state that “[t]he allegations, taken in their entirety, provide more than a plausible basis to find that the understanding between the CEO and Cuban was that he was not to trade.”[17] The 5th Circuit then held that an agreement not to trade could be interpreted as “more than a simple confidentiality agreement,” providing an adequate grounding for imposition of liability under the misappropriation theory of insider trading.[18] Having found that the SEC had stated “plausible” a claim against Mr. Cuban, the 5th Circuit vacated the District Court’s dismissal of the case and remanded it for further proceedings.[19]

Upon return to the District Court in late 2010, the SEC chose not to amend its complaint in any way whatsoever.[20] Discovery was conducted, during which Mr. Cuban denied each of the allegations made against him,[21] various motions were filed, and a jury was finally formed on September 30, 2013, after which a nine-day trial began.[22] On the 9th day of trial, the jury was given its charge and soon thereafter returned a verdict in favor of Mr. Cuban,[23] finding that the SEC failed to prove that he had engaged in insider trading under the misappropriation theory.[24] Specifically, the jury found that Mr. Cuban had not received material, nonpublic information from Mamma.com and that he had not either expressly or implicitly agreed to keep such information confidential or to not trade on it. [25] Additionally, they found that he had not traded on any material, nonpublic information when he sold his stock after learning of the pending public offering from Mamma.com’s CEO.[26]

The impact of this opinion on future SEC enforcement efforts is unclear. On one hand, just days before, the SEC’s new Chair had stated, “I recognize the SEC cannot literally be everywhere, but we will be in more places than ever before. Our aim is also to create an environment where you think we are everywhere . . . ensuring that even the small violations face consequences.”[27] Losing a high profile insider trading case against a headline-generating billionaire will certainly not bolster the SEC’s enforcement credibility. Nor will the fact that the SEC lost a case it spent from 2008-2013 litigating against an investor who lacked both the traditionally close relationship to the source of information and a clear fiduciary duty or duty of trust and confidence usually seen in most insider trading cases. That the SEC devoted such resources to a relatively small case with weak evidence seems to go beyond discrediting the agency’s enforcement capabilities to supporting a view of the agency as a “bully,” something Mr. Cuban’s accused the SEC of being at the conclusion of his trial.[28] On the other hand, the 5th Circuit’s decision has provided the SEC with an expanded basis for future attempts to impose liability for insider trading by holding that violation of an agreement not to trade – if proven – could serve as sufficient evidence of the requisite breach of duty. In the future, while this case seems to indicate that the SEC might be wise to focus its efforts and resources on cases in which there is more substantial supporting its allegations, the agency’s ability to pursue insider trading cases and impose liability remains broad.