Convicting in Insider Case May Be Hard, Experts Say

NEW YORK — The government may face a tough job building a case against those who have profited from advance information on what was being published in a stock column in Business Week magazine, securities law experts say.

To prove securities law violations, the government will have to establish not only that the magazine and its printing companies had policies against disclosure of advance information from the magazine but also that the employees knew they were violating the policy when they passed on the information.

It will also be tough to pin securities law violations on anyone who learned the information indirectly from participants in the scheme, because the government will have to establish that such people knew the information had been illegally obtained, they say. “On the face of this, at least, it looks like there’s a lot more gray areas than black and white ones,” said Gary P. Naftalis, a securities lawyer in New York.

In the case, stockbrokers from Merrill Lynch, Shearson Lehman Hutton and Advest offices in Connecticut and one from the Prudential-Bache office in Anaheim are believed to have traded on information in the magazine’s “Inside Wall Street” column.

The brokers are thought to have obtained advance copies of the magazine from workers at R. R. Donnelley & Sons printing plants in Old Saybrook, Conn., and in Torrance. The magazine is printed at those and two other plants around the country.

The securities law covering insider trading violations became somewhat clearer after the prosecution of R. Foster Winans, a former Wall Street Journal reported convicted of leaking advance information from his stock market column to a stockbroker for Kidder, Peabody & Co. The broker traded stocks in advance of the column’s appearance and profited when it caused stock prices to go up or down.

Government prosecutors in the case asserted that Winans was guilty of securities fraud because he had “misappropriated” information owned by Dow Jones & Co., the publisher of the Journal. But to make the charge stick, prosecutors had to prove that Dow Jones had such a policy and that it had been communicated to Winans.

Donnelley and McGraw-Hill, Business Week’s publisher, each have policies prohibiting disclosure of such information. Even so, securities law specialists observe that it is often difficult to establish that employees were apprised of such policies.

“The government is going to be looking through personnel files to find out if these employees have signed statements; they’re going to (be) looking for supervisors who can testify that they briefed the people on the policy,” said Peter Romatowski, a Washington securities lawyer who prosecuted Winans while an assistant U.S. attorney. “The facts may be wide open to dispute.”

Pass Information Along

If the employees were properly informed of the secrecy policy, they would be liable to securities fraud charges even if they obtained their advance copies of the magazine late in the production cycle.

They would be still liable, for example, if they grabbed a copy of the magazine as bundles were loaded from the plant loading dock onto a delivery truck, lawyers say.

But a delivery truck driver who wasn’t bound by the policy could use the information without liability under the securities law, Romatowski said.

Often the principals in such cases pass their insider information on to associates or friends, who in turn use it to make money from stock trading. But proving a case against such associates is even more difficult, because the government must establish that they knew the information was illegally obtained.

Even Split at Court

“If the government can prove the broker told his friend, ‘I paid somebody for an advance copy of Business Week,’ then they may have a case,” Naftalis said. “But if the friend was just told, ‘I’ve got some good information,’ that case will be tough.”

People convicted of securities law violations can be forced to give up their profits and pay fines up to three times the amount of their illegal earnings.

One further complication facing the government is that the Supreme Court split evenly in the Winans case over the government’s then-untried theory of “misappropriation.” The 4-4 split raises the possibility that a new case might be overturned by the Supreme Court if the most recent addition to the panel, Justice Anthony Kennedy, voted against it.

Government prosecutors have found it less tricky to prove the criminal charges of wire fraud and mail fraud against defendants charged with insider trading. Wire and mail fraud charges are brought against people alleged to have committed a fraud using the postal service or telephone systems. These cases carry penalties of up to six years in prison for each violation.

But in minor cases, the government often feels more comfortable pursuing insider traders under civil statutes than with the harsher criminal penalties contained in the mail and wire fraud laws.

Nonetheless, defendants in a case involving Business Week information may not get off easily, even if they have made relatively small profits, Romatowski said. He noted that federal prosecutors in Connecticut recently brought charges against an alleged inside trader who made only $5,000 from such a scheme.

Called “Sexy Cases”

“These are sexy cases, and prosecutors are looking for them all the time,” he said.

Indeed, one recent development may bode ill for any who are caught in the case. Only this week, a Chicago attorney named Albert Elliott was indicted for alleged insider trading under the federal anti-racketeering statute commonly referred to as RICO.

The anti-racketeering law can be used only where there is a pattern of violations, noted Robert McCaw, a securities lawyer in Washington. But he said the Elliott indictment suggests that prosecutors may try to establish that repeated insider trading constitutes the kind of “criminal enterprise” that RICO is intended to combat.

“Many are reading this indictment as a signal that prosecutors plan to get even tougher in these cases,” McCaw said.

Main story, Part I, Page 1.