In the Courts

During Kaiser's jury trial in the Southern District of New York, the government based its prosecution on the testimony of three cooperating witnesses who had previously negotiated plea agreements with the government.

In reviewing Kaiser's seven claims on appeal, the Second Circuit found two reversible errors. In the first, Kaiser had argued that the district court's jury instruction on the knowledge requirement for securities fraud did not contain two essential elements for a conscious avoidance charge, namely that “knowledge of the existence of a particular fact is established: 1) if a person is aware of a high probability of its existence; 2) unless he actually believes that it does not exist.” United States v Schultz, 333 F.3d 393, 413 (2d Cir. 2003). In reviewing Kaiser's claim for plain error ' as the court found that he had failed to raise an objection to the charge ' the Second Circuit agreed that the district court's instructions were flawed, as they failed to include the “high probability” and “actual belief” language. Further, the Second Circuit found that the instructions failed to contain anything suggesting to the jury that Kaiser's actual belief in the validity of the PA numbers absolved him of guilt. As it held that the jury instruction error substantially affected the fairness of Kaiser's trial, the court ordered a new trial based on this holding. United States v. Mark P. Kaiser, No. 07-2365-cr.

Ninth Circuit Affirms Pump-and-Dump Convictions

On June 16, 2010, in United States v. Laurienti, Nos. 07-50240 and 09-50081, a three-judge panel of the Ninth Circuit, in an opinion authored by Circuit Judge Susan P. Graber, affirmed the convictions of four senior brokers for their alleged roles in a securities fraud pump-and-dump scheme. In its decision interpreting SEC Rule 10b-5 in the context of criminal prosecutions, the Ninth Circuit followed the Supreme Court's decision in Chiarella v. United States, 445 U.S. 222 (1980) ' along with Second Circuit precedent building upon Chiarella, holding that, when brokers have a fiduciary duty to their clients, criminal liability can follow for failing to disclose material commissions.

In Laurienti, the Ninth Circuit heard the appeals of Bryan Laurienti, Curtiss Parker, Donald Samaria, and David Montesano. The four brokers had previously been convicted of securities fraud after a 14-day jury trial for their alleged involvement in a pump-and-dump scheme at Hampton Porter Investment Bankers, LLC (“Hampton Porter”). The court described the scheme, which occurred from the late 1990s through the early 2000s, as follows: “Certain publicly traded companies granted Hampton Porter (or its owners) large blocks of free, or deeply discounted stock. In return, Hampton Porter drove up the price of these thinly traded stocks by pressuring unsuspecting clients into purchasing shares, by strongly discouraging clients from selling shares, and by refusing in some instances to execute clients' sales orders. In the meantime, Hampton Porter and others who stood to benefit from the scheme sold their shares at artificially inflated prices.” The free, or deeply discounted stocks were known as “house stocks,” and each broker received an additional commission for sales of house stocks, equal to 5% of the purchase price. Specifically, the four brokers were charged with failing to disclose these commissions, sometimes equaling tens of thousands of dollars, to their respective clients.

In the face of what the Ninth Circuit characterized as “overwhelming evidence,” the four brokers did not challenge the existence of a fraudulent scheme. Rather, they argued that they never joined the conspiracy or engaged in fraudulent acts, contending that no legal duty existed requiring them to disclose the 5% house stock commissions to their clients.

The Ninth Circuit rejected this argument. The court's basis was the Supreme Court's decision in Chiarella, which the Ninth Circuit summarized as holding that “a party has a duty to disclose material 'inside information' to another party only if there is a fiduciary relationship or a similar relationship of trust and confidence between the parties ' at least with respect to alleged violations of subsections (a) and (c) of Rule 10b-5.”

Following Chiarella, and Second Circuit precedent applying the decision to a broker's non-disclosure of commissions, the Ninth Circuit held that that “[a] broker has a duty to disclose material information about a stock purchase if the broker and client have a fiduciary relationship or a similar relationship of trust and confidence.” While emphasizing that its holding mandated disclosure of only material facts ' and did not necessarily extend to all compensation arrangements, the court found that the additional house stock commissions were material. Finally, while the court affirmed the convictions of each of the four brokers, the Ninth Circuit found that the district court had erred in its loss calculations for each defendant ' for purposes of both restitution and the Sentencing Guidelines. Accordingly, it vacated each of their sentences and remanded the cases to the district court for resentencing and recalculation of restitution.

In the Courts and Business Crimes Hotline were written by Matthew Alexander and Associate Editor Kenneth S. Clark, respectively. Both are associates at Kirkland & Ellis LLP, Washington, DC.

Second Circuit Panel Reverses Conspiracy and Securities Fraud Convictions

A three-judge panel from the Second Circuit, in an opinion authored by Circuit Judge Rosemary S. Pooler, unanimously reversed the convictions of former U.S. Food Services (“USF”) Chief Marketing Officer Mark P. Kaiser on five counts relating to alleged fraudulent misrepresentations regarding the financial condition of his former employer, one of the country's largest distributors of food products, and Royal Ahold N.V. (“Ahold”), which acquired USF in April 2000.

The charges centered on the use of “promotional allowances” (“PAs”), a type of rebate paid to USF once pre-determined purchasing targets were met. In particular, the indictment charged the former executive with devising a scheme to fraudulently inflate USF's 2001-2002 income from PA's. Additionally, Kaiser was alleged to have acted to hide these numbers from outside auditors and to have made a number of misrepresentations regarding PAs to auditors.

During Kaiser's jury trial in the Southern District of New York, the government based its prosecution on the testimony of three cooperating witnesses who had previously negotiated plea agreements with the government.

In reviewing Kaiser's seven claims on appeal, the Second Circuit found two reversible errors. In the first, Kaiser had argued that the district court's jury instruction on the knowledge requirement for securities fraud did not contain two essential elements for a conscious avoidance charge, namely that “knowledge of the existence of a particular fact is established: 1) if a person is aware of a high probability of its existence; 2) unless he actually believes that it does not exist.” United States v Schultz, 333 F.3d 393, 413 (2d Cir. 2003). In reviewing Kaiser's claim for plain error ' as the court found that he had failed to raise an objection to the charge ' the Second Circuit agreed that the district court's instructions were flawed, as they failed to include the “high probability” and “actual belief” language. Further, the Second Circuit found that the instructions failed to contain anything suggesting to the jury that Kaiser's actual belief in the validity of the PA numbers absolved him of guilt. As it held that the jury instruction error substantially affected the fairness of Kaiser's trial, the court ordered a new trial based on this holding. United States v. Mark P. Kaiser, No. 07-2365-cr.

Ninth Circuit Affirms Pump-and-Dump Convictions

On June 16, 2010, in United States v. Laurienti, Nos. 07-50240 and 09-50081, a three-judge panel of the Ninth Circuit, in an opinion authored by Circuit Judge Susan P. Graber, affirmed the convictions of four senior brokers for their alleged roles in a securities fraud pump-and-dump scheme. In its decision interpreting SEC Rule 10b-5 in the context of criminal prosecutions, the Ninth Circuit followed the Supreme Court's decision in Chiarella v. United States , 445 U.S. 222 (1980) ' along with Second Circuit precedent building upon Chiarella , holding that, when brokers have a fiduciary duty to their clients, criminal liability can follow for failing to disclose material commissions.

In Laurienti, the Ninth Circuit heard the appeals of Bryan Laurienti, Curtiss Parker, Donald Samaria, and David Montesano. The four brokers had previously been convicted of securities fraud after a 14-day jury trial for their alleged involvement in a pump-and-dump scheme at Hampton Porter Investment Bankers, LLC (“Hampton Porter”). The court described the scheme, which occurred from the late 1990s through the early 2000s, as follows: “Certain publicly traded companies granted Hampton Porter (or its owners) large blocks of free, or deeply discounted stock. In return, Hampton Porter drove up the price of these thinly traded stocks by pressuring unsuspecting clients into purchasing shares, by strongly discouraging clients from selling shares, and by refusing in some instances to execute clients' sales orders. In the meantime, Hampton Porter and others who stood to benefit from the scheme sold their shares at artificially inflated prices.” The free, or deeply discounted stocks were known as “house stocks,” and each broker received an additional commission for sales of house stocks, equal to 5% of the purchase price. Specifically, the four brokers were charged with failing to disclose these commissions, sometimes equaling tens of thousands of dollars, to their respective clients.

In the face of what the Ninth Circuit characterized as “overwhelming evidence,” the four brokers did not challenge the existence of a fraudulent scheme. Rather, they argued that they never joined the conspiracy or engaged in fraudulent acts, contending that no legal duty existed requiring them to disclose the 5% house stock commissions to their clients.

The Ninth Circuit rejected this argument. The court's basis was the Supreme Court's decision in Chiarella, which the Ninth Circuit summarized as holding that “a party has a duty to disclose material 'inside information' to another party only if there is a fiduciary relationship or a similar relationship of trust and confidence between the parties ' at least with respect to alleged violations of subsections (a) and (c) of Rule 10b-5.”

Following Chiarella, and Second Circuit precedent applying the decision to a broker's non-disclosure of commissions, the Ninth Circuit held that that “[a] broker has a duty to disclose material information about a stock purchase if the broker and client have a fiduciary relationship or a similar relationship of trust and confidence.” While emphasizing that its holding mandated disclosure of only material facts ' and did not necessarily extend to all compensation arrangements, the court found that the additional house stock commissions were material. Finally, while the court affirmed the convictions of each of the four brokers, the Ninth Circuit found that the district court had erred in its loss calculations for each defendant ' for purposes of both restitution and the Sentencing Guidelines. Accordingly, it vacated each of their sentences and remanded the cases to the district court for resentencing and recalculation of restitution.

In the Courts and Business Crimes Hotline were written by Matthew Alexander and Associate Editor Kenneth S. Clark, respectively. Both are associates at Kirkland & Ellis LLP, Washington, DC.