Current focus areas for the SEC Enforcement Division include the issuance of stock options and the misuse of medical research data. Investigations concerning the former have increased greatly. For example, a recent report in the New York Times on June 7, 2006, states that at least 34 companies have disclosed criminal, regulatory or internal investigations concerning options. S.E.C. May Act on Options, N.Y. TIMES, June 7, 2006, at C2. These investigations appear to focus on whether the grants were backdated in an effort to give executives the benefit of a more favorable stock price. Chairman Cox recently termed such option grants “of serious concern.” Backdating stock options raises a number of issues depending on the facts and circumstances, which include, for example, the accuracy of the disclosure concerning the options, how the company accounts for the options grants (see, e.g., APB 25 “Accounting for Stock Issued to Employees”; FAS 123 “Accounting for Stock-Based Compensation”), whether the grants were reported properly under Exchange Action Section 16, the accuracy of SOX certifications, and tax law issues. The Justice Department is also investigating options grants and, as expected, the class action bar has weighed in with a number of cases.

Other inquiries appear to focus on the timing for the issuance of options. In these investigations, the Enforcement staff appears to focus on whether the options were issued to executives and directors prior to a significant corporate event, such as a merger, and prior to a public announcement of the event. The issues in these inquiries focus on questions concerning insider trading in violation of the antifraud provisions of the federal securities laws.

The use of medical information is another area of Enforcement interest. Following press reports last summer that Wall Street investors routinely paid for medical information about ongoing drug studies, Senator Chuck Grassley called for investigations by the SEC and the Justice Department. See, e.g., Saul, Stephanie and Jenny Anderson , Doctors’ Links With Investors Raise Concerns, N.Y. TIMES, Aug. 15, 2005, § A; Editorial, Tainted Drug Research, Boston Globe, Aug. 15, 2005; Justin Gillis, SEC to Probe Drug Research Test Allegations, WASH. POST, Aug. 10, 2005; Jenny Anderson, Today’s Insider Trading Suspect May Wear a Lab Coat, N.Y. TIMES, Aug. 9, 2005, § C.


Subsequently, the SEC has initiated enforcement actions. Two action are pending. First, SEC v. Alexander J. Yaroshinsky, Civil Action No. 06CV2401 (S.D.N.Y., filed March 28, 2006), which involves a complaint against the vice president of Connetics Corp., charging him with trading on inside information regarding the FDA’s preliminary reaction to a study relating to cancer tests of Connetics’ acne drug. Second, SEC v. Selden, Civil Action No. 05cv11805 (NMG) (D. Mass., filed Sept. 1, 2005) involves a complaint against the CEO and director of a biotech company that had issued materially false and misleading press releases concerning clinical trials and its FDA application for its flagship drug. According to the SEC’s complaint, Sheldon traded in the company’s shares prior to the disclosure of some negative information about the flag ship drug and avoided significant losses.  

The SEC settled a third action. In SEC v. Sanjiv S. Agarwala, Civil Action No. 06 CV 0352J (POR) (S.D. Cal.), the Commission filed a settled enforcement action against a physician who participated in clinical trials for Maxim Pharmaceuticals and, according to the complaint, traded on material non-public information obtained from the FDA about Maxim’s drugs. The defendant consented to the entry of an injunction baring him from future violations of the antifraud provisions of the securities laws, agreed to disgorge his illegal trading profits and loss avoided, paid an equal amount as a penalty, and paid prejudgment interest.

SEC Chairman Cox has indicated that the Commission is coordinating closely with the FDA in its pharmaceutical related investigations.

SEC recently filed yet another enforcement action claiming fraud under the headline “SEC Refiles Action Against Two Former Columbia Executives for Conduct Relating to Mutual Fund Market Timing Arrangements.” Lit. Rel. No. 19708 This, of course, is not the first action the SEC and others have filed concerning “market timing.” What is of concern is that no matter how many headlines the SEC and other regulators generate, market timing in and of itself is not fraud and does not violate the federal securities laws. The trading technique know as “market timing” only becomes a legitimate enforcement issue if it is coupled with other conduct such as disclosure violations or a scheme to defraud. Despite this well know fact, the drum beat of headlines from the SEC’s enforcement staff and others has no doubt led the investing public to believe that “market timing” equals securities fraud. It does not.

The refiled complaint in this case well illustrates the point. The initial complaint was dismissed by Judge Nathaniel M. Gorton at page 13 of his opinion because “[i]n essence, the SEC has not alleged that the defendants made any untrue or misleading statement of material fact.”

In contrast, the headline grabbing cases filed by the SEC which involved market timing actually centered on schemes to defraud – not a simple claim that traders had engaged in “market timing.” See, e.g., SEC v. PIMCO Advisors Fund Management LLC,; In the Matter of Banc of America Capital Management, LLC, Lit. Rel. No. 33-8538; In the Matter of Strong Capital Management, Inc., Lit. Rel. No.34-49741 new complaint filed in the Tambone case is based on a claimed “scheme” to defraud, disclosure violations and undisclosed “sticky asset” arrangements – not simply market timing. One can only hope that in its zeal to prosecute market timing the allegations of the refiled complaint are backed by solid facts rather than merely descriptive words. Compare SEC v. Gonzalez de Castilla, 99 Civ. 3999 (RW), 2001 WL 940560 (S.D.N.Y. Aug. 20, 2001) (denying motion to dismiss in insider trading case where SEC complaint in part alleged that material non-public information about a cross boarder take over had been conveyed by a defendant attorney who was a partner in a prominent law firm in Mexico, to his family members and others) with SEC v. Gonzalez de Castilla, 184 F. Supp. 2d 365 (S.D.N.Y. 2002) (granting defense motion for summary judgment as to all defendants where the undisputed evidence demonstrated that claimed tipper attorney did not learn about the take over until the day of its public announcement and after defendants had completed virtually all of their securities trades).Tambone.pdf