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No Dark Alleys : This Version of Insider Trading Is Strictly Legal and Has Its Supporters

September 10, 1988|ERIC SCHINE | Times Staff Writer

Harry Woodcock didn't engage in insider trading until this year. He wishes he had started earlier.

But Woodcock, chief executive of TS Industries in Huntington Beach, has nothing in common with the high-powered brokers and arbitrageurs caught in the federal government's crackdown on illegal insider stock trading on Wall Street.

The kind of insider trading in which Woodcock engages is strictly legal. It is the buying or selling of shares by high-level corporate executives according to rules dictated by the U.S. Securities and Exchange Commission. And it has spawned a small industry of stockbrokers, analysts and newsletter publishers who specialize in handling or tracking insider trades.

If Woodcock had sold some of his company's stock last year, he could have received as much as $34.50 per share. Instead, a series of bad breaks has since caused the stock to plummet to slightly more than $1 a share.

$74-Million Drop

Like many top executives of smaller public companies, Woodcock has most of his personal assets tied up in TS Industries. Because of the stock-price decline, Woodcock has seen his net worth drop from about $76 million last year to around $2 million today.

Although he's not exactly a pauper, he would be worth a lot more if he had met Richard Gadbois a few months earlier.

Gadbois, a 30-year-old broker at Shearson Lehman Hutton in Costa Mesa, approached Woodcock earlier this year and persuaded him to sell 125,000 shares of TS Industries stock in order to diversify into safer investments.

Gadbois is one of a handful of Orange County brokers who specialize in handling insider stock trades for the roughly 1,000 officers and directors at the county's 250 public companies.

While the term "insider trading" evokes images of Bahamian banks and bags full of money changing hands in dark alleys, the legal variety consists of nothing more sinister than corporate officers and directors selling shares of their companies so they can send their kids to college, buy a boat or raise cash for a divorce.

Insider trading by corporate executives is perfectly legal provided that certain government requirements are met and as long as insiders aren't trading on information that's not available to the public.

In the securities industry, stock owned by corporate officers and directors is known as "144" stock, in honor of the SEC rule established after passage of the Securities Act of 1933 to protect against illegal insider trading.

The 144 rule states that an insider cannot sell more than 1% of a company's outstanding shares during any 90-day period. It also requires insiders to report sales or purchases of company stock to the SEC, which in turn makes the information available to the public.

The rule prevents insiders from dumping large blocks of stock before public investors have the same opportunity. For example, corporate officers who know about a negative earnings report before it has been made public can't sell their stock until the news has been released.

An insider is any person in a company who has access to key information before it is announced to the public. Typically, that means top executives, directors and their relatives. Other stockholders who own more than 10% of a company's shares are also considered insiders.

Stock trading isn't something that executives of small companies do very often, said Gadbois, who has built a career as one of Orange County's top "144" brokers.

"Entrepreneurs concentrate on running their businesses, not their personal finances," said Gadbois, whose Orange County clients include executives at CMS Enhancements, Archive, Amplicon and Quiksilver.

Price and Legality

"What we try to do is protect these people from making poor trades, both in terms of price and with regard to the legality of the transaction," said Gadbois.

Insiders at small, entrepreneurial companies typically have most of their net worth tied up in the stock of their companies. While that may demonstrate faith in the future, it isn't necessarily good money management, Gadbois said.

According to Gadbois and other "144" brokers, few Orange County insiders are alert to selling opportunities because they are too emotionally involved with their businesses.

"The stock is very near and dear to them," said Terrance Malloy, a broker with Kidder, Peabody in Newport Beach.

"It often represents a large portion of their net worth," said Malloy, who counts Orange County insiders at Carl Karcher Enterprises, FHP, Laser Precision and Nichols Institute among his clients. "And, typically, they have spent a large part of their lives building their companies. So, it's tough for them to sell, even if they know they should."

There are a number of reasons why insiders often are reluctant to sell stock. For one thing, the market may interpret a sale as a sign that something is wrong with a company. If an insider is selling, the reasoning goes, he may have lost confidence in his own business.

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