On May 19, 2004, Dorsey’s White Collar Crime and Civil Fraud Practice group hosted a breakfast meeting and panel discussion, “Insider Trading: After Martha Stewart.” Panel members included Dorsey partners Roger Magnuson, Zachary Carter and Peter Carter; public relations specialist Jon Austin; and Assistant U.S. Attorney Frank Magill. The panel was led by Dorsey partner Christopher Shaheen. The following, which is not a verbatim transcript, contains highlights from that discussion.
C. Shaheen (moderator): One of the main issues to come out of the Martha Stewart case is that she was prosecuted not for the underlying crime, but for making a false statement to Federal Authorities. Does this represent a change of focus in the District of Minnesota as well?
F. Magill: Yes, there is some shift in direction. When I serve a grand jury subpoena on a corporate entity, I am expecting that the grand jury subpoena will be taken seriously. Corporate counsel and insiders in the corporation have to gather those documents, and if they are not going to do that honestly and fairly, that disrupts our ability to investigate these cases. So we have to take those violations seriously. If you talk to people at the Department of Justice nationally, their view is that these cases go to the heart of the ability to enforce criminal law and they will be taken seriously.
And a number of defendants have been prosecuted recently in the District of Minnesota for either lying to the FBI or attempting to thwart a grand jury subpoena.
C. Shaheen: Roger brings up an interesting point. From the defense perspective, Martha Stewart’s lawyers were heavily criticized. Jeffrey Toobin had an extensive piece in the New Yorker saying that there was some very bad lawyering, and/or a client who couldn’t be controlled, because Stewart would have been far better off making no statement as opposed to making statements that turned out be false. Any thoughts on that from the defense perspective?
F. Magill: I suppose the real hypothetical is: would this have happened to Martha Stewart if she had ‘fessed up from day one. We don’t know if she would have been prosecuted at all. If you want to be good corporate citizen and you discover a crime within your corporation, you need to report it, investigate, and do something about it. I think that’s what the shareholders of corporate entities would want the corporation to do.
Z. Carter: I think that the Department of Justice has got to send a clearer signal than they recently have that, if people are fully cooperative and honest in grand jury investigations, they will be treated fairly. What we’ve seen in some of these so-called obstruction of justice cases is what I call panic obstruction. At the end of the day, Martha Stewart might not have been guilty of a substantive offense, but she panicked because she thought that others might think that she was guilty. She may well go to jail because of that. I don’t believe that if Martha Stewart had gone to the finest attorneys in the city of New York she could have gotten a straight answer as to whether her trade of Imclone stock based on second-hand information was lawful. Indeed, Jim Comey, the U.S. Attorney for the Southern District of New York, right now a Deputy Attorney General of the United States, declined to charge that as part of the indictment. He is quoted in the Times as saying that a prosecution on that theory would have been “unprecedented.” I think that the Department has got to demonstrate better that if you come forward and you are frank about what you have done, that it will be kept in reasonable perspective and people will be making reasoned and sound judgments about exercising prosecutorial duties.
C. Shaheen: Let me throw this out to Jon, our media consultant: In the Martha Stewart case there’s an argument that she really could not afford to invoke her Fifth Amendment rights, considering how important her public image is to the worth of her company, and her overall economic interests.
J. Austin: There is always a tension between the court of law and the court of public opinion. In the case of Arthur Andersen, even though criminal prosecutions were ongoing, the court of public opinion rendered its own judgment, and carried out the sentence. Silence in this world is very often taken as an admission of guilt, particularly considering the media’s imperfect understanding of legal procedure and applicable law. If a lawyer can’t determine what constitutes a violation, certainly the reporters struggle. Most distressing about the recent cases, though, is that they seem to reinforce the strategy of simply not saying anything for fear of creating a bad record.
C. Shaheen: From the standpoint of a public company that faces an SEC inquiry, how do you deal with issues of public perception?
J. Austin: Well, I think what was just said is generally correct. If you have bad news and are aware of a violation or failure on the company’s part, corporate counsel and public relations people feel that it’s better to be up front about it. From a PR perspective, I believe the result would be quite different had Martha Stewart publicly said, in essence, “I did a dumb thing and I’ve thrown myself on the leniency of the SEC, and I am going to seek education on how to be a better corporate officer.” Instead, the pattern of obstruction and cat-andmouse went on and on. It went through Congress, the U.S. Attorney’s Office and wound up being the story itself. It overshadowed the original infraction and became the story.
P. Carter: The reality in the SEC investigatory context is that often when a public company is subject to a formal order of investigation, it does not know whether or not it actually has its arms around the issue the SEC is focused on. I see more of the tension of trying to say, “We’re fully cooperating but we don’t think this will be material,” and the dilemma with even that kind of comment is that one of the parties listening to every earnings conference call when the companies are discussing the investigation is the SEC itself. I can tell you from experience that, if the company says something about the investigation, that comment is put in front of the company later. And the question from the SEC will then be: “well, you said to didn’t think this was material. How do you know that. Did you do an investigation. Well, could we see the results of that investigation. Oh, you didn’t do an investigation?” Suddenly what you’ve said to the press becomes part of the discussion with counsel in the midst of that investigation. When you make a public statement that you are cooperating with the SEC, you’re giving the SEC leverage. And what I mean by that is that if the SEC believes that you are not cooperating, they will send a letter to counsel stating: “You have told the market that you are cooperating with the SEC. We don’t think you are cooperating.” And, all of a sudden, the company is faced with a difficult question of whether it has to tell the market that it is not cooperating.
R. Magnuson: From a practical point of view, it is high risk to throw yourself at the mercy of the SEC. Mr. Johnson said, “the great thing about hanging is it wonderfully concentrates the mind.” And we hear Frank talk about the three- or four-year sentences being routinely handed out in major cases–that focuses our mind. There is such a thing as real, hard-core insider trading and we’ve heard examples of it. In the course of one recent investigation by the local U.S. Attorney’s Office, I represented a cooperating witness, who was very well treated, and who was sure that the person being investigated had done nothing wrong. When the prosecutor in the presence of the FBI and SEC showed him two documents, I will never forget his comment: “Holy (excrement).” That is the only thing he said. It was a terrible, terrible case. If you’ve had a case like that, you’ve got to cut your losses and figure out how to make appropriate disclosures and get out. Let’s remember what insider trading is–it is the use of nonpublic, material information, and every executive in this room has access to all kinds of nonpublic information. If you look at every budget committee or every meeting you half paid attention at, or every meeting you’ve made a little note at, you’ve got oodles and oodles of nonpublic information. Therefore, what stands between you and insider trading is a discretionary view of materiality. In one of my cases, prosecutors went over every single committee meeting he was at, and the minutes of every budget committee, and they focused lights on things that he didn’t think were important that were somehow related to the times of trading. When you decide to make disclosures or talk, you are taking a major, major risk. I think frequently it’s not a good idea, especially if you’re innocent.
C. Shaheen: Isn’t the other big issue regarding the definition of insider trading the issue of intent. Is there any sense that that standard has changed over time?
Z. Carter: The general concern I have is that because of the extraordinary leverage that the government has now, due to enhanced sentencing guidelines, and companybusting civil penalties now available, issues of intent are seen through the lens of self-righteous 20/20 hindsight. More and more, I strongly suspect that innocent defendants are pleading guilty solely to avoid the penalties at the harsher end of the guidelines. And judges are accepting those pleas because they are on the horns of a dilemma: if they reject the plea, now the person is subject to a trial and the extraordinarily draconian penalties under the Federal Sentencing Guidelines; if they accept the plea, they will be accepting what’s in essence an Alford plea (that is, a plea in which someone essentially maintains innocence while still pleading guilty). But as long as it’s knowingly and intelligently taken, and the person is trying to avoid a harsher penalty, most judges are going to permit it. I think that something needs to be done by prosecutors to resist exploiting this leverage in a way that undermines the integrity of the system.
C. Shaheen: We’ve ignored our good friends at Tyco, so perhaps I will turn our attention to that situation. As of right now, Tyco’s former general counsel, Mark Belnick is on trial. This is a man who was a partner at Paul, Weiss, widely admired for his work on the Iran Contra investigation, and was recommended for the Tyco position by Warren Rudman. Now he’s a criminal defendant accused of fraud. Are we now in a situation where there is increased scrutiny by prosecutors on inhouse counsel?
F. Magill: I would say there is more scrutiny on corporate fraud, regardless of its form. I would also say that Department of Justice is willing and has given us more resources to look at cases that we did not have the resources to look at before. The public is referring more cases to us. I am getting more anonymous allegations about corporate fraud from insiders–and I have to tell you, it’s a difficult decision what to do with them. My responsibility as a prosecutor is trying to ferret out corporate fraud. But with an anonymous allegation, am I supposed to issue a grand jury subpoena to some corporation and potentially put a disclosure obligation on them. It’s a very difficult decision and each one must be handled delicately, and carefully analyzed. I can’t say that we’re targeting a particular position within a corporate entity.
C. Shaheen: But how does one avoid those pitfalls as in-house counsel if you are trying to convince prosecutors that you are on the side of angels. How do you avoid finding yourself threatened with, or facing, an obstruction charge?
Z. Carter: More than anything else, before talking to the government, a company and its attorney must count to ten and take a breath before making a decision. At least ten. And count slowly. One of the things that those of us who have been in law enforcement know is that the government’s bread and butter is people and companies being willing to confess. Many crimes would go undetected absent the strong human impulse to either: (a) unburden their souls, or (b) try to convince the person who has power over them that they are not so bad and that they did not do anything terribly wrong. And when people do so before they fully investigate all of the facts and circumstances, before every conceivable person with relevant knowledge can be interviewed, mistakes get made. There comes a time when you can make a well-reasoned decision to have a conversation with a prosecutor when you are fully prepared. But when you are not prepared, it is very likely that you’re going end up in the situation where you kind of tap dance and give statements that contain halftruths and inaccuracies, or statements that are expressed in ways that can be misconstrued, resulting in indictments or worse.
F. Magill: We’ve also had the situation where the corporation comes forward to cooperate but they don’t know everything and they don’t know the extent of the wrongdoing. Then, after they have come to us and disclosed part of the fraud, they discover additional bad acts, and decide that they don’t have to tell us about the additional fraud. When we find out about it on our own, we then go back and say, “I thought you were cooperating.” It can cause tremendous problems if you don’t have a good handle on the situation before you come to the government.
R. Magnuson: It starts with a good compliance program. Companies that don’t have really good insider trading policies and educate their executives on those policies, are being very, very foolish. Many prosecutors with the Department of Justice and other government agencies look at the kind of policies, the kind of instruction given on those policies, and the culture at the company before making any final judgments. I think what Zach said is very true, too. You can’t go off halfcocked. You have to get someone involved early, do an internal investigation and make sure that you’ve got your own understanding of (1), what happened, (2), why it happened and what particular rules and internal policies were violated, and (3), what you intend to do make sure it never happens again–before you go to the government.
J. Austin: As the only non-lawyer on the panel, I’ll give a little voice of counter. I agree with everything you’ve said, but I would urge that it not be an excuse to simply not create a public record. There are real consequences in not participating in the public dialogue of such allegations. A recent survey in Global Finance Magazine determined that large corporations lost an average of one billion dollars in market value in the 30 days after one of these scandals or investigations hit the media. The real cost some cases is larger than the risk associated with the allegation or investigation. I always urge clients to strike a balance between the legal side and the communications side because they are paying attention and they are going to act on information, even if it’s not complete.
P. Carter: Another thing that is important for public companies to be aware of is that in 2002, the largest civil fraud penalty imposed by the SEC against a public company was $10 million against Xerox, and that was big news–headline in the Wall Street Journal. About two weeks ago the SEC announced a $2.25 billion penalty relating to WorldCom, and about two months ago it announced a $10 million penalty directed at Bank of America for its failure to produce e-mail in connection with an SEC inquiry. It was the classic situation where the Bank’s lawyers said, “This is an expensive process for us to recover email, we can’t do this. SEC, can we take a pass?” What the Bank of America didn’t realize was that there was an internal Bank of America employee forwarding these same emails to the SEC. And so at the same time that Bank of America’s lawyers were saying we cannot restore the e-mail, the SEC is receiving it from a whistleblower. And so they were fined $10 million.
C. Shaheen: Thanks to everyone for coming, and thanks to our panel members for being here.