Insider Trading Law and Carl Icahn

How do insider trading laws apply to activist investors? The question arises as investigators from the FBI and SEC look at stock market trades by golfer Phil Mickelson allegedly based on tips passed to him by Las Vegas gambler William Walters, tips that Walters is alleged to have received from billionaire investor Carl Icahn. The investigation comes after an unsuccessful attempt by Icahn to acquire the Clorox Company. The point of the investigation is to determine whether any illegal trading occurred, but none of the three has been accused of wrongdoing.

Professor James Cox

Professor James Cox

Commentator James Cox, a professor of securities law at Duke University, says that a quirk in the insider trader rules is involved in this case because “Icahn is an outsider” with respect to Clorox and with respect to his own intentions through his hedge fund. . . . He is the owner of the information.” He is entitled to use that information as he sees fit.

The catch, explains Cox, comes in to play if there is a tender offer. If a party has taken “substantial steps” toward the initiation of a tender offer, the party is prevented from selectively disclosing information about the target company. “That’s the question of the hour,” says Cox. If Icahn did make the disclosures, then the question is whether he made a substantial step toward conducting a tender offer.

There is precedent, Cox tells us, that hiring outside lawyers to make regulatory filings and lining up financing can be viewed as “substantial steps” that would trigger the prohibition against disclosure by Icahn. It would also be inappropriate for Walters and Mickelson to make stock trades based on that information.

Had Clorox not rejected Icahn’s offer, the situation would be different. “It’s like sports,” where timing is important, Cox adds, the questions being was a selective disclosure made, and if so, when.

The defense that Mickelson might have is that outside advisors were making the investment decisions for him. However, failure to understand the rules is not likely to be a successful strategy. (There are some critics of the insider trading law as it is currently applied.)

This investigation has been going on for some time, but no charges have been filed. Cox wonders about the origin of the leak that appeared in the Wall Street Journal and unleashed a torrent of news coverage. Mickelson’s career, especially as it relates to corporate sponsorships, could be tainted even if he is cleared of any wrongdoing. Is sponsors are “reputation intermediaries,” as Cox puts it.

James D. Cox joined the faculty of the School of Law at Duke in 1979 where he specializes in the areas of corporate and securities law. Prior to moving to Durham, he taught at the law schools of Boston University, the University of San Francisco, the University of California, Hastings College of the Law,  and Stanford. Professor Cox is a member of the American Law Institute, the NYSE Legal Advisory Committee, the NASD Legal Advisory Board, and formerly of theFulbright Law Discipline Review Committee. In 2001 he was awarded an Honorary Doctorate of Mercature from the University of Southern Denmark for his work in international securities law.  The Legal Broadcast Network is a featured network of the Sequence Media Group.