Insider Trading ComplianceStuart Sinai
December 14, 2007 — 1,646 views
Corporations need to improve their corporate governance structures, especially their insider trading prevention and oversight policies. Insider trading compliance rules should be in place to prevent senior officers and directors from buying or selling without prior approval of a committee made up of only independent board members. Such rules should be considered simply the price of being a senior executive or board member of a public corporation.
Most public corporations have some kind of policy with regard to insider trading, but frequently they have been unenforced and ignored. As a result of the Sarbanes-Oxley Act (“S-O”), signed by the President this year, if a corporation does not already have one in place, it should now certainly have an independent committee of the board which is to oversee every senior executive’s and every board member’s prospective trades to prevent trades prior to the public release of any material news.
Corporations should be sure that none of those “independent” board members are beholden to the corporation itself or to any senior executive. Neither the corporation nor senior executives should be allowed to do business with board members who are to be considered “independent.” Under S-O, every Board of Directors of a public corporation will be required to be made up of a majority of persons fitting the definition of independent director.
The New Rules
The insider trading rules should provide that not only every contemplated trade be reported to, and approved by, the independent committee before it occurs, but that a person in the accounting department who reports directly to that committee be charged with filing the reports required by the SEC. Any executive who does not comply with the policy should be docked a week’s pay. If the violations are egregious, the committee should have the right to direct the board to fire that executive and his employment agreement should contain a provision that such a firing would be “for cause.” Senior executives should also consider any contemplated purchase or sale by family members as subject to the same pre- approval rules. Again, this is a small price to pay for having both the honor and responsibility of serving as a senior officer or director of a publicly-traded corporation.
Senior executives and all board members should be schooled regularly concerning the insider trading rules and be reminded of the corporation’s compliance policies. The Board of Directors should require that at least twice a year insider trading compliance policies and rules be addressed and reviewed by the officers and directors and the contents of such sessions recorded in the minutes of the corporation.
We need to keep in mind that a senior executive is often running from one issue to another and upon receiving an unexpected call from his broker, or someone else “in the know,” an initial reaction might be (by all of us) to simply get out of the problem. If that means selling stock, that would normally be the reaction. That’s why there needs to be a reminder of these insider trading policies several times a year so that when that happens, the executive remembers he or she is going to have to take his or her investment lumps (losses). The executive needs to keep on his or her “remember agenda” that it’s a violation of both civil and criminal law to trade on the basis of inside information.
We, as well as most law firms that advise corporations with publicly- traded stock or debt, have developed an insider trading policy which is distributed to all executives and board members. Typically, those executives and board members are asked to sign an acknowledgment that they have received the compliance policy.
The corporation should follow such procedures not only to protect the public from insider trading and keep its executives from temptation, but because, should it be named itself in an action by the SEC or the Justice Department, the federal sentencing guidelines take into account prior attempts to comply with the law. Accordingly, insider trading policies protect not only the public and the executive, but the corporation itself, from the frequently impetuous, sometimes desperate, executive who thinks he or she may lose a great deal of money if he or she doesn’t somehow get rid of the stock before the bad news hits the public air waves.
“Evasion” Does Not Work
A not uncommon phenomena for executives caught up in suspected violations of the insider trading laws is an attempt to evade government investigators by prevarication. That is frequently deemed to be an “obstruction of justice” and ends up being an additional charge against the executive for the judge and jury to consider. Lying to federal authorities may also constitute the additional crime of “making false statements.” An executive who is unsure of the propriety of what he might have done should say nothing to investigators and should immediately retain a lawyer experienced in these matters. That lawyer should not be one of the “house lawyers” within the corporate entity for which he or she works. They may be the ones representing the corporate entity when the senior executive is fired.
At the present time Martha Stewart seems to be in trouble, not only for alleged insider trading, but perhaps, as some have suggested, for lying to the government. Making up lame excuses can sometimes create more felony charges and combined harsher penalties than the insider trading itself.
SEC Tracking Programs
In any event, a senior executive or family member attempting to sell shares immediately before bad news is made public is almost sure to be caught. The SEC and the exchanges have computer programs that frequently examine substantial, unusual and suspicious trading immediately before (and after) an announcement of news important to the corporation. Sometimes it is the executive buying (not selling) prior to the announcement that is the insider trading. For instance, in the ImClone case, if the drug involved had been announced on December 28th as approved by the FDA (rather than disapproved, as it was), we may have seen a number of purchases of the stock several days before that announcement.
The computer programs also look for “short sellers” who have borrowed (and then sold) stock at one price and don’t want to have to buy it back to return it at a higher price. They are sometimes the ones who are caught trading immediately prior to the dissemination of bad news about a corporate entity’s profits or disappointing product performance. For a “short seller” good news is bad news to them as it drives up the price of the stock they must “cover.” So there is an array of insider trading situations that can arise and it is not only selling stock prior to the announcement of bad news or buying prior to the announcement of good news.
Senior executives today are under serious scrutiny and can expect very little sympathy from the judges and juries that will hear their cases.
S-O also provides certain protections for “whistleblowers.” Corporations should now have rules that provide if an employee learns of violations of the insider trading policy, he or she should have the right and in fact the duty, to report directly to the independent committee. The employee that provided the information should be protected from being discharged or otherwise penalized because of his or her duty-bound revelations.
Other SEC relatively recent rules require that confidential material inside information not be released selectively to any particular groups or individuals, including financial analysts. The corporation must adopt a written policy conveying to all employees, and especially to its executives, that any important news about the company, including among others, its products, its executives, its labor relations, its bank relationships, and its financial status, are to be maintained as confidential until released in one grand swoop to the public and press at the same time and only by the designated company officer. Any person selectively providing such information may find him or herself being charged with facilitating insider trading and the corporation may also find itself as having been involved in such a violation.
For further information on these matters, please contact Mr. Sinai at 248.740.5660 or [email protected].