Mgmt 203 - Business Law - Legal Research Paper

Lucas Belanger

Legal Research Paper

MGMT 203

Insider Trading

Insider trading, as listed in the Merriam-Webster Dictionary, is, “the illegal activity of buying and selling a company’s stocks while using secret information from a person who works for the company.” (Merriam-Webster, 2016). This definition is true in part, but is more correctly and accurately defined by the U.S. Securities and Exchange Commission (SEC), who are the group responsible for uncovering insider trading and doing their best to remove and eliminate it from the securities market. The SEC defines insider trading in two forms: the illegal form of insider trading and the illegal form of insider trading.

The illegal form refers to buying or selling a security while you have possession of nonpublic and undisclosed information about the security that is being bought or sold. There are many different forms of insider trading, but the most common form of illegal insider trading is the act of “tipping” someone off with nonpublic and undisclosed information that is has the potential to effect a company either positively or negatively in the near future. The SEC refers to those who have been given this information as “tippees”. Tippees could be friends, family members, business associates, or other acquaintances who might have no real relation to the person giving the information, even someone as uninvolved as a barber cutting a corporate officer’s hair who obtains information from the officer and as a result, buys or sells securities, is guilty of insider trading. The SEC website also lists other examples of cases that have been brought by the SEC, such as employees of law, banking, brokerage and printing firms who were given information, government employees who obtained information as a result of working for the government, or others who took advantage of confidential information from their employers.

Proving insider trading took place is all about the information that is being exchanged. In order to be found guilty of insider trading, material, nonpublic information has to be transferred from one person to another, regardless of the form of communication used. The most common forms of inside information are strategic plans, negotiations regarding acquisitions or dispositions, financial changes, new contracts or changes to current contracts, and the most frequent form, financial results that are not known to the public at the time of the information being transferred. All information regarding a company is considered nonpublic until it has reached the stock market and other potential investors have had the opportunity to respond to the new information, until then, trades may not be made on the new information.

The legal form of insider trading is much more easy to understand, and as stated by the SEC, it is, “…when a corporate insider—officers, directors, and employees—buy and sell stock in their own companies…they must register their trades to the SEC.” (SEC, 2016) This issue of trading your own company stock was only recently added to the laws of insider trading, as Rule 10b5-1 was enacted to give corporate employees a means to buy and sell without fearing securities fraud charges. This rule states than an insider can trade their company’s shares when they do not have insider information, but can carry out prior-planned trades at a later time, even if they gain knowledge of material nonpublic information.