Securities And Exchange Commission v. Unifund Sal

910 F.2d 1028 (2nd Cir. 1990)

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Nature of the Case

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Facts

This case is unusual in that it is the first insider trading case in which the Commission (P) has sought relief against alleged tippees before identifying the alleged tipper. Rorer common stock is listed on the New York Stock Exchange, and option contracts for its common stock are listed on the American Stock Exchange. Rorer began confidential merger negotiations with Rhone-Poulenc, S.A. (Rhone), a French corporation. In mid-January, prior to any public announcement of merger negotiations, massive trading occurred in Rorer stock and options. On January 12 the volume of shares traded was six times the average daily volume of the previous 20 days. On January 10 the volume of options traded doubled from the prior day doubled again on January 11, and on January 12 reached nearly ten times the average daily volume in the prior month. On January 15 Rorer announced that it had engaged in merger discussions with an unidentified company. On that day Rorer stock rose from $52 a share to $63 a share. An agreement in principle to merge with Rhone was announced three days later. P quickly identified unusually large Rorer stock and option transactions in brokerage accounts maintained by foreign investors, including Ds. Days prior to the merger Ds invested heavily in Rorer stock. After the merger announcement, Unifund liquidated its position, making $564,000 on the stock and $980,000 on the options. Tamanaco made $660,000 in just a few days. P filed this lawsuit against Ds and obtained a temporary restraining order. As for the preliminary injunction the judge found circumstantial evidence of a tip. she relied on the unusual trading activity in Rorer securities. Tamanaco's Rorer options had been purchased, no other options had been traded since August 1989. Unifund's January 4 purchase of 40,000 Rorer shares represented 13 percent of the total Rorer shares traded that day. Unifund's stock purchase was nearly twice the size of its next largest investment in any company, even when those investments were aggregated over time. Moreover, its prior equity positions had been partially hedged, but its position in Rorer was not. To show that the purchases were based on inside information, the judge relied on totem pole hearsay and circumstantial evidence. The evidence itself is not strongly probative of insider trading, but coincidence suggests a personal connection between the creator of Unifund and legal confidant of Ralph Audi on one hand and an insider of Rhone on the other. Combined with Unifund's timely trading and its connection with Bank Audi, the court reasoned the evidence supports a strong inference that Unifund had access to material non-public information regarding the merger prior to the time it began to trade. The judge found a 'strong prima facie' case of rule 10b-5 violations by Ds, she also found a sufficient likelihood of future violations, a conclusion based primarily on the fact that Ds regularly trade securities. She, therefore, issued the preliminary injunction. Ds appealed.