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by Bill Singer
by Bill Singer
2nd Circuit Says Patel Unfitness Factors Still Valid
May 15, 2013
In recent years, more individuals have been disqualified from service as an officer or director of a public customer based upon judicial findings of "unfitness" arising from insider trading cases. In a recent appeal, the 2nd Circuit has underscored the vitality of the test it uses to determine unfitness.
Bankosky's Options Trading
From January 2008 until his resignation in May 2011, Brent C. Bankosky worked for Takeda Pharmaceuticals International, Inc., first as a director of Global Licensing and Business Development and then as a senior director. In those positions, Bankosky had access to, and did obtain, material non-public information regarding Takeda's discussions with outside companies about strategic alliances, mergers, and product acquisitions. At all relevant times, Takeda had insider trading policies prohibiting misuse of information. Notwithstanding, from 2008 to 2011 Bankosky bought call options in the shares of four companies, and after deals with two of those companies were publicly announced, he sold his options for a $63,000 realized profit (no profit was realized in the other two companies).
In Securities and Exchange Commission ("SEC") v. Brent C. Bankosky, the SEC had charged the defendant on February 9, 2012, with engaging in insider trading, in violation of sections 10(b) and 14(e) of the Securities Exchange Act of 1934 (the "Exchange Act"), 15 U.S.C. §§ 78j(b), 78n(e), and SEC Rules 10b-5 and 14e-3. After the entry of a consent judgment on March 15, 2012, in which Bankosky neither admitted nor denied the allegations in the complaint, the SEC moved for an officer and director bar pursuant to section 21(d)(2) of the Exchange Act, 15 U.S.C. § 78u(d)(2). Relying on the factors in SEC v. Patel, 61 F.3d 137 (2d Cir. 1995), the Southern District of New York court found Bankosky "unfit" to serve as an officer or director of a public company and barred him from acting as one for ten years pursuant Section 21(d)(2) of the Securities Exchange Act of 1934, 15 U.S.C. § 78u(d)(2) [Ed: highlight added]:
Fitting Unfit To The Facts[T]he court may prohibit, conditionally or unconditionally, and permanently or for such period of time as it shall determine, any person who violated section [10(b)] of this title or the rules or regulations thereunder from acting as an officer or director of any issuer that has a class of securities registered pursuant to section [12] of this title or that is required to file reports pursuant to section [15(d)] of this title if the person's conduct demonstrates unfitness to serve as an officer or director of any such issuer.
In the 2nd Circuit's Patel Opinion at page 17, the Court explained that:
In permanently enjoining Patel from serving as an officer or director of any public company at the behest of the SEC, the district court necessarily determined that Patel was substantially unfit to hold such positions. The court identified six factors that it considered in resolving the issue of substantial unfitness: "(1) the 'egregiousness' of the underlying securities law violation; (2) the defendant's 'repeat offender' status; (3) the defendant's 'role' or position when he engaged in the fraud; (4) the defendant's degree of scienter; (5) the defendant's economic stake in the violation; and (6) the likelihood that misconduct will recur." These factors were suggested in a law review article by Jayne W. Barnard entitled When is a Corporate Executive "Substantially Unfit to Serve"?, 70 N.C.L.Rev. 1489, 1492-93 (1992). . .SIDE BAR: After the 1995 2nd Circuit Opinion in Patel, Congress amended Section 21(d)(2) in 2002 by replacing "substantial unfitness" with a lower standard of simply "unfitness." See Sarbanes-Oxley Act of 2002 § 305(a), Pub. L. No. 107-204, 116 Stat. 745, 778-79 (2002) (amending 15 U.S.C. § 78u(d)(2))
Patel Under Fire
Bankosky appealed to the 2nd Circuit from the post-judgment opinion and order, arguing that the district court erred in balancing the Patel factors. The parties stipulated in the consent judgment that the following factual allegations in the complaint are to be deemed as true solely for the purpose of deciding the SEC's motion for an officer and director bar. The 2nd Circuit found Bankosky "unfit" and affirmed the District Court, with the pointed comment that:
[A]part from the district court's findings, we are also troubled by the fact that Bankosky was buying call options in shares of Millennium Pharmaceuticals, Inc., a company that his employer was in negotiations to acquire. The call option purchases could have increased trading demand for the target company's shares and share price, making the acquisition bid more costly or even pricing a deal beyond reach. This conduct betrays an impulse to place self-interest ahead of his employer's and its shareholders' interests and further demonstrates unfitness to serve as a corporate fiduciary. Cf. McCrae Assoc., LLC v. Universal Capital Mgmt., Inc., 746 F. Supp. 2d 389, 400 (D. Conn. 2010) ("The duty of loyalty mandates that the best interest of the corporation and its shareholders takes precedence over any interest possessed by a director, officer or controlling shareholder and not shared by the stockholders generally.") (quotation and alteration omitted). In light of the circumstances presented, the district court reasonably determined that a ten-year ban was warranted. Hence, it did not abuse its discretion.