United States v. McPhail
| Decision Date | 12 May 2015 |
| Docket Number | Criminal Action No. 14-10201-DJC |
| Parties | UNITED STATES v. ERIC MCPHAIL and DOUGLAS PARIGIAN, Defendants. |
| Court | U.S. District Court — District of Massachusetts |
Defendants Eric McPhail ("McPhail") and Douglas Parigian ("Parigian") have moved to dismiss the First Superseding Indictment ("indictment"), D. 38, against them. D. 40, 50, 52, 55. Having considered the motions, the supporting memoranda, the government's opposition and having heard oral argument, D. 56, the Court DENIES the motions.
The Court draws this summary from the factual allegations in the indictment.
McPhail had a close relationship with Person A, an executive at American Superconductor Corporation ("AMSC"), a publicly traded corporation, between 2004 and 2011. D. 38 at 1-2. By in or about 2009, McPhail and Person A had a history, pattern and practice of sharing professional and personal confidences. Id. at 3. The indictment alleges that McPhail owed Person A a duty of trust and confidence and that McPhail reasonably should have known that Person A's communications were meant to be kept in confidence. Id. at 2-3. The indictmentalleges that despite this knowledge, and in violation of his duty to Person A, beginning in or about July 2009, McPhail used email and other means to communicate material, nonpublic information about AMSC's quarterly earnings, among other business activities ("inside information") to his friends, including Parigian. Id. at 2-4. The indictment alleges McPhail did so with the intent that his friends profit from buying and selling AMSC shares or options on such shares on the basis of the inside information. Id. at 3.
Parigian was aware of McPhail's relationship with Person A and that he was an executive at AMSC. Id. at 4. The indictment alleges that Parigian conspired to profit by buying and selling AMSC shares and options on the basis of material, nonpublic information received from McPhail, who had obtained the information from Person A. Id. at 2. Parigian knew or should have known he received the inside information in violation of a fiduciary or similar duty and that it was material and nonpublic information. Id. at 3. The indictment also alleges that Parigian knew that McPhail expected to receive and received a benefit from disclosing the inside information to Parigian. Id. Based upon the inside information, Parigian traded AMSC shares and options and profited as a result. Id. at 3.
As to Count III against Parigian, the indictment further alleges that on or about May 10, 2012, Parigian knowingly and willfully made materially false, fictitious and fraudulent statements and representations to FBI agents investigating the insider trading matter. Id. at 15. Specifically, Parigian told agents he did not receive stock tips or other inside information about AMSC, that he did not know other individuals who invested in AMSC stock and that he did not know anyone who worked for AMSC, when, as alleged, he knew these statements to be false. Id.
The government has charged McPhail and Parigian with one count of conspiracy to commit an offense against the United States in violation of 18 U.S.C. § 371, D. 1 at 12 (Count 1) and securities fraud in violation of 15 U.S.C. §§ 78j(b) and 78ff(a), D. 1 at 13 (Count 2). Additionally, Parigian is charged with making false statements to a federal agent in violation of 18 U.S.C. § 1001(a)(2), D. 1 at 15 (Count 3). Parigian and McPhail have moved to dismiss on the basis that the insider trading allegations in the indictment do not constitute a crime. D. 40, 50. Parigian also contends that dismissal of the indictment is warranted because Counts I and II amount to selective prosecution of him. D. 41. McPhail also separately moves for dismissal alleging misuse of the grand jury process. D. 52. On January 26, 2015, Parigian moved to dismiss the indictment on the same grounds. D. 55. The Court has now heard oral argument on the pending motions. D. 56.
"When grading an indictment's sufficiency, [the court] look[s] to see whether the document sketches out the elements of the crime and the nature of the charge so that the defendant can prepare a defense and plead double jeopardy in any future prosecution of the same offense." United States v. Guerrier, 669 F.3d 1, 4 (1st Cir. 2011) () (quoting Costello v. United States, 350 U.S. 359, 363 (1956)). The defendants carry a heavy burden in moving to dismiss the indictment, as "[a] court should exercise its authority to dismiss cautiously, since to dismiss an indictment 'directly encroaches upon the fundamental role of the grand jury.'" United States v. Thomas, 519 F. Supp. 2d 141, 143-44 (D. Me. 2007) (quoting Whitehouse v. U.S. Dist. Court,53 F.3d 1349, 1360 (1st Cir. 1995)). "[A]n indictment is sufficient if it, first, contains the elements of the offense charged and fairly informs a defendant of the charge against which he must defendant and, second, enables him to plead an acquittal or conviction in bar of future prosecutions for the same offense." United States v. Cianci, 378 F.3d 71, 81 (1st Cir. 2004) (quoting Hamling v. United States, 418 U.S. 87, 117 (1974)); see Fed. R. Crim. P. 7(c)(1).
The indictment here alleges all of the essential elements of the conspiracy and insider trading charges alleged in Counts I and II, respectively, against both McPhail and Parigian, and the Defendants' arguments to the contrary are not persuasive. Here, the allegations in the indictment rest upon a misappropriation theory of insider trading. These allegations state a crime, even in light of the persuasive weight of the Second Circuit's recent decision in United States v. Newman, 773 F.3d 438 (2d Cir. 2014).
1. Misappropriation Insider Trading
Whereas "[u]nder the 'traditional' or 'classical theory' of insider trading liability, § 10(b) and Rule 10b-5 are violated when a corporate insider trades in the securities of his corporation on the basis of material, nonpublic information," under a misappropriation theory "a fiduciary's undisclosed, self-serving use of a principal's information to purchase or sell securities, in breach of a duty of loyalty and confidentiality, defrauds the principal of the exclusive use of that information." United States v. O'Hagan, 521 U.S. 642, 651-52 (1997). Specifically, an individual "violates § 10(b) and Rule 10b-5[ ] when he misappropriates confidential information for securities trading purposes, in breach of a duty owed to the source of the information." Id. at 652.
"To establish liability under the misappropriation theory, the SEC must show that [an individual] communicated material nonpublic information, with scienter, in violation of a fiduciary duty [owed to the principal]." United States Sec. & Exch. Comm'n v. Rocklage, 470 F.3d 1, 7 (1st Cir. 2006). The Second Circuit held in United States Sec. & Exch. Comm'n v. Obus, 693 F.3d 276, 289 (2d Cir. 2012), that to establish the liability in a chain of misappropriation, the government must allege that "(1) the tipper breached a duty by tipping confidential information; (2) the tippee knew or had reason to know that the tippee improperly obtained the information (i.e., that the information was obtained through the tipper's breach); and (3) the tippee, while in knowing possession of the material non-public information, used the information by trading or by tipping for his own benefit."
In its recent ruling in Newman, the Second Circuit vacated an insider trading conviction, holding that the evidence established only that the individuals involved had known each other for years, sought career advice from one another, and that several defendants were "family friends" who met through church and "occasionally socialized together." Newman, 773 F.3d at 452. The Court held that the "scant" evidence of personal gain, the strongest of which was the provision of career advice among individuals who attended the same business school, could not constitute a quid pro quo exchange, in part because if such provision qualified as benefit, "practically anything would qualify." Id.
In the Defendants' view, the Second Circuit's observation that "[t]he elements of tipping liability are the same, regardless of whether the tipper's duty arises under the 'classical' or the 'misappropriation' theory," Newman, 773 F.3d at 446, precludes their culpability since there are no allegations that Person A, the corporate insider, received any benefit. Defendants also arguethat McPhail cannot be a tipper because he cannot be considered an insider, and, even if McPhail could be so considered, there is no allegation that McPhail received a benefit.
It is, however, the government's view of Newman that is most consistent with the purpose of the misappropriation theory and pre-Newman law in this Circuit about the elements of a misappropriation theory of insider trading. That is, "the misappropriation theory of insider trading targets the misuse of corporate information by outsiders," and "the misappropriation theory does not require a 'fiduciary' or business relationship between the corporate source and the misappropriator; a personal relationship can suffice." D. 44 at 6. In O'Hagan, the still governing Supreme Court case regarding the misappropriation theory, a law firm attorney, an "outsider" to the bidding company, traded upon inside information about a proposed tender offer. The Supreme Court held that "he was liable under a misappropriation theory because he had deceived both his law firm and its client: he had pretended to be loyal to them while secretly converting information obtained from them into personal gain." Rocklage, 470 F.3d at 7 (discussing O'Hagan, ...
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