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The Spin She's In

Swap the Stewart case hoopla for a bit of hard-nosed clarification

June 11, 2003|Michael P. Malloy | Michael P. Malloy, former special counsel for enforcement policy at the SEC, is a Distinguished Professor and Scholar at the University of the Pacific-McGeorge Law School in Sacramento.

The Martha Stewart case has hit the spin cycle, and all the parties would like to tell us how we ought to think about the insider-trading and obstruction charges leveled against the home-ec maven. It's time to step back and look at some issues that aren't going to disappear in the rinse.

* Did she do anything wrong? That's what courts are for -- to determine what actually happened. The Stewart advocates want us to believe that she shouldn't be prosecuted at all. The prosecutors insist that the case is only about lying. Both sides are oversimplifying. The charges, criminal and civil, are serious.

The Securities and Exchange Commission's civil complaint alleges that Stewart received a heads-up from Peter E. Bacanovic, her broker at Merrill Lynch, that her friend Samuel Waksal, the chief executive at ImClone, was selling his shares in the biotech company in advance of public disclosure of information that would tank the stock. (Waksal was sentenced Tuesday to more than seven years in prison and fined $4.3 million for his actions.) The SEC believes Stewart ordered her broker to sell her ImClone stock in response to the heads-up.

If the SEC can prove its case by a preponderance of the evidence, then Stewart engaged in insider trading and defrauded the buyers of her ImClone shares.

The criminal indictment charges that when the government initiated its inquiry into the ImClone stock sales, Stewart told investigators that her broker had standing instructions to sell when the price fell below $60 per share. To back up this story, she allegedly falsified a telephone log. Further, when public reports of the investigation threatened the stock price of Martha Stewart Living Omnimedia, she repeatedly insisted in the media that she was innocent, apparently in an effort to reverse or retard the downturn in her company's stock.

If the prosecutors are able to prove this beyond a reasonable doubt, then Stewart actively obstructed the investigation into ImClone trading; falsified, concealed or covered up a material fact under investigation by federal agents; and defrauded the market with respect to her own company's stock.

* What's so bad about not telling investigators that she knew Waksal was selling? Some criminal defense lawyers complain that the false-statements provision of U.S. criminal law gives too much latitude to prosecutors and that it invites vengeful prosecution. After all, they say, should we really expect Stewart or others to admit everything to investigators?

These kinds of charges are not brought lightly. Prosecutors will have to show that Stewart made false statements "knowingly and willfully," a very high standard to meet. And they also must prove beyond a reasonable doubt that Stewart knew Waksal was selling off his stock and that she did not have a standing "sell" arrangement with Bacanovic.

However, assuming that the prosecutors can meet these burdens, should someone be guilty of a crime for not being candid with federal investigators? The underlying theme here seems to be that it's acceptable -- even expected -- that someone would respond to an official investigation by lying. This is a dangerous proposition. You can tell them you don't want to talk -- let them get a grand jury subpoena. Or you can plead the 5th. But lying to investigators? That's no different than destroying physical evidence.

* Was it really insider trading? This is a more credible issue. Over four decades of litigation, this much has been defined: Insider trading involves intentionally trading in securities on the basis of material, nonpublic information that the trader gained access to by virtue of his or her status as an insider or that the trader obtained via a tip from an insider, all the while knowing that it was material, nonpublic information.

As yet, it is unclear that Stewart's actions meet this standard. It doesn't appear that Waksal tipped Bacanovic and expected him to pass it along to other clients like Stewart. Absent that, Bacanovic may not have been tipping Stewart, at least in terms of insider trading. It isn't even clear that the fact that Waksal was selling was in itself material information.

As a legal matter, these technical questions are worth exploring, which is what the SEC does every time it brings a civil charge of insider trading based on a situation that's at the edges of the law.

* The criminal indictment doesn't charge her with insider trading; doesn't that mean that the civil case is weak or even frivolous? Certainly not. Criminal charges impose a higher evidentiary burden on prosecutors to make their case beyond a reasonable doubt. Given the peculiar facts of the Stewart case, that burden would be difficult to meet, but that doesn't mean the case shouldn't be pursued as a civil matter by the SEC, for which the evidentiary burden is not so heavy. The markets should not be vulnerable to insider-trading schemes just because they might squeak past the criminal standard of reasonable doubt.

* Aren't government enforcers simply trying to gain attention by going after a public figure or to get back at a clever woman who strung investigators along? Answers to these questions depend upon which version of the facts are found to be true. If Stewart lied about the motives for her sell-off of ImClone stock, falsified documents and conspired with others in doing so, then she violated federal law. And that's the case even if her attorney can successfully argue that the sale didn't involve insider trading.

There is no basis for ignoring these alleged violations just because Stewart is successful, a woman or a celebrity. Under our system of civil and criminal law, we are held responsible for what we do, not who we are.

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