- Lester Munson, Legal Analyst
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When the Securities and Exchange Commission charged him with $750,000 worth of insider trading last November, Mark Cuban did what a billionaire can do. He hired eight top lawyers -- including a Washington attorney who has published seven books on insider trading -- and he rounded up an additional five law professors from Harvard, Yale and other elite schools.
Working long and hard to prepare his defense, his lawyers and professors are telling a federal judge in Dallas that although Cuban's use of inside information might look bad, there is absolutely nothing wrong with it.
It's a tough sell.
After listening to Cuban's lawyers and an attorney from the SEC for an hour last week, U.S. District Court Chief Judge Sidney A. Fitzwater is preparing to decide whether to grant Cuban's motion for a dismissal or allow the SEC's case against him to continue. If there were a futures market or a betting book on judicial decisions, the wise investor or gambler would side with the SEC and against Cuban, the owner of the NBA's Dallas Mavericks.
As he awaits the judge's decision on the SEC case, Cuban is also counting the days until June 29, when the statute of limitations on any criminal charges will expire. If prosecutors do not charge him between now and then, he need worry only about the SEC's civil case.
The rules against insider trading of stocks are designed to produce a level playing field, allowing investors to trade on their own research and skill. Use of inside information that will put ordinary traders at a disadvantage is prohibited, and can result in the kinds of charges the SEC has made against Cuban.
Cuban's problem with the federal authorities began with some obviously inside information about Copernic Inc., a search-engine company formerly known as Mamma.com, in which Cuban had made what, for him, was a small investment. The information came from the company's CEO who, after pledging Cuban to confidentiality, told him in June 2004 about some imminent changes in the company's structure. The company was issuing additional shares of stock, which, Cuban knew, would dilute his share of the company and significantly reduce the price of the stock he had purchased three months earlier.
In a burst of rage, according to the SEC lawsuit, Cuban complained, "I'm screwed. I can't sell."
A few hours later, Cuban took what the SEC now calls a "second helping" of inside information. After he again pledged confidentiality, Cuban learned additional details from a broker involved in the stock offering.
Within a minute after the second helping, the SEC says that Cuban, in violation of his pledges of confidentiality, called his own brokers and sold the stock, saving himself from a loss of $750,000.
Still, Cuban's lawyers and professors say he did nothing wrong. He might have said he would not use the inside information, they argue, but there was no duty not to use it. They told Judge Fitzwater that unless there was a duty, there is no violation. A promise to do the right thing, according to the lawyers, is not enough. There must be a duty to do the right thing.
In support of their assertions, Cuban's legal team cites cases from courts in Texas and the Canadian province of Ontario, where the company is based. It's a highly unusual jumble of precedents in a federal securities case, but the legal team was required to say something in the defense of its client.
In one of his books about insider trading, Ralph C. Ferrara, Cuban's lead attorney, writes that a duty can result from a pledge of confidentiality, asserting exactly the opposite of what the lawyer now suggests for Cuban.
"It's not what's in the book that's important," Ferrara said in an interview with ESPN.com. "It's what is not in the book."
Ferrara explained that although his book says a duty can arise from a promise of confidentiality in the abstract, the reality of Cuban's situation is that there was no duty.
"When you've written seven books, you grow accustomed to having these things thrown back at you," Ferrara said.
In addition to offering an argument that is contradicted in his book, Ferrara and his legal team say the SEC is trying to use Cuban as a way to expand its regulatory powers. It's a "test case," he says, an effort by the SEC to go "beyond what the law specifically says and act on [the SEC's] idea of the spirit of the law."
To the SEC, Cuban's sale of his stock based on inside information is "an act of brazen subterfuge" and an "out-and-out deception." If he had not promised confidentiality, according to a brief written by SEC attorney Kevin O'Rourke, Cuban would never have learned of the new stock issue and its effect on his investment.
"Cuban's argument that a person can promise confidentiality and then deliberately and furtively break that promise by trading on the confidential information is shameless." O'Rourke said in his brief.
It isn't a test case, the SEC asserts. It's a "textbook case" in which an investor with inside information is barred from trading and makes the trade despite the rules against it.
Anticipating that Judge Fitzwater will allow the SEC's case to move forward to the next stage, Cuban's legal team is ready with another answer to the charges.
"He denies that he agreed to keep it confidential," Ferrara said. "He is the real victim of the company's fraudulent conduct directed at him."
With the company claiming a promise of confidentiality from Cuban and Cuban denying it, getting to the truth apparently will take a full-blown trial.
The SEC's civil suit is asking only that Cuban pay back the $750,000 he saved by trading on the inside information. But if Judge Fitzwater allows the case to go forward to trial, Cuban will spend a far greater sum in what might be a losing battle against the charges.
Lester Munson, a Chicago lawyer and journalist who reports on investigative and legal issues in the sports industry, is a senior writer for ESPN.com.
Mark Cuban has some of the top lawyers and law professors in the country on his team, but his defense against insider trading charges looks like an uphill battle.