Opinion

Alison Frankel

The audacious theory in Elan investors’ insider trading suit vs. SAC

Alison Frankel
Aug 15, 2014 21:26 UTC

Everyone knows that the hedge fund SAC Capital, now known as Point72, made a bundle when it ditched shares of the pharmaceutical companies Wyeth and Elan based on inside information that their jointly developed Alzheimer’s drug, bapineuzumab (better known as bapi), was a bust. SAC supposedly realized $555 million in profits and avoided losses because trader Mathew Martoma got early word about disappointing bapi test results from a doctor involved in the clinical trials. Both SAC and Martoma have, of course, been held to account for the trades: Martoma was convicted at trial and SAC pled guilty. In all, the hedge fund has forked over nearly $2 billion to the government because it illegally traded on inside information about the bapi trials.

Two days after the rest of the world heard about the discouraging bapi clinical trial results – in other words, after SAC had sold off its stake in Wyeth and Elan – Elan revealed even more bad news. Two patients had contracted a rare and frequently fatal brain disease after taking Elan’s major product, the multiple sclerosis drug Tysabri. Shares of the Ireland-based company, which had already taken a beating after the bapi disclosure, fell another 50 percent on the Tysabri news.

SAC didn’t trade on inside information about Tysabri, and the drop in Elan’s share price after the Tysabri disclosure had nothing to do with SAC’s inside information about bapi. Yet according to a decision Thursday by U.S. District Judge Victor Marrero of Manhattan, the hedge fund may still be liable for an additional $107 million it avoided losing because it had already sold its stake in Elan before the Tysabri news broke. Marrero ruled that holders of Elan American Depository Receipts can proceed with class action claims that SAC must disgorge the losses it avoided incurring in Elan’s Tysabri-related stock drop because it had illegally sold its Elan shares based on inside information about an entirely unrelated drug trial.

Um, what?

As SAC’s lawyers at Paul, Weiss, Rifkind, Wharton & Garrison and Willkie Farr & Gallagher pointed out in their motion to dismiss the shareholder case, neither the Securities and Exchange Commission nor the U.S. Attorney’s office demanded that SAC disgorge the losses it avoided when Elan’s stock fell after the Tysabri news. According to SAC, the Federal Bureau of Investigation specifically determined “that including the Tysabri drop in the calculation of the losses allegedly avoided by SAC would be ‘an inappropriate way to calculate loss avoidance.’” Martoma’s prosecutors, SAC’s brief said, even called the Tysabri drop “a ‘distraction’ unrelated to the drop caused by the bapi disclosures.”

But the Elan investors, represented by Wohl & Fruchter and Pomerantz, explained in their brief opposing dismissal that SAC was making a straw-man argument. Under the provision of the Exchange Act of 1934 that gives shareholders a right to sue inside traders, damages are based not on out-of-pocket losses but on the disgorgement of ill-gotten gains. According to the Elan investors’ brief, SAC’s attempt to exclude the Tysabri stock drop claims addressed out-of-pocket loss causation, not case law on disgorgement.

Can SAC insider trading target Elan force hedge fund to pay legal fees?

Alison Frankel
Apr 8, 2014 20:57 UTC

Elan Pharmaceuticals believes it was victimized twice over by SAC Capital, the notorious hedge fund now called Point72. The first time was when SAC obtained insider information about unsuccessful trials of the Alzheimer’s drug bapineuzumab and dumped $700 million in shares of the Irish drug company and its drug development partner Wyeth. But to add insult to that injury, Elan had to spend a small fortune, about $1.6 million, in legal fees and costs stemming from the government’s investigation of SAC’s insider trading. That is money SAC should have to pay, according to Elan. With the hedge fund due to be sentenced Thursday by U.S. District Judge Laura Taylor Swain of Manhattan, the pharma company’s lawyers at Reed Smith have submitted a letter asking Swain to recognize Elan as a victim of SAC’s crimes and order the hedge fund to pay it $1.6 million in restitution.

It’s a fascinating request. You probably recall that in a couple of high-profile cases in the recent spate of insider-trading prosecutions, Morgan Stanley and Goldman Sachs won rulings that former employees (in a broad sense of that word) were on the hook for legal fees the banks incurred as a result of the employees’ crimes. In February 2013, U.S. District Judge Jed Rakoff held that under the federal victims’ restitution law, former Goldman director Rajat Gupta owes the bank $6.2 million — the money Goldman laid out to Sullivan & Cromwell to investigate Gupta’s conduct internally and to cooperate with government investigators. Last July, the 2nd U.S. Circuit Court of Appeals affirmed a similar ruling by U.S. District Judge Denise Cote. She had concluded in 2012 that Morgan Stanley was the victim of insider trading by FrontPoint hedge fund manager Chip Skowron, so Skowron was responsible not just for repaying the bank the cost of his own defense but also for restitution of the legal fees Morgan Stanley advanced to other FrontPoint employees.

The 2nd Circuit’s ruling in the Skowron case didn’t leave much doubt that employers can receive restitution as victims for the money they spend to cooperate with government investigations of employees who go on to plead guilty or be convicted. Elan, however, didn’t employ SAC or Mathew Martoma, the former SAC trader who was convicted of trading on inside information about the company. On Monday, in a response to Elan’s letter requesting restitution, SAC’s lawyers at Paul, Weiss, Rifkind, Wharton & Garrison said Elan’s theory of restitution is “without precedent.”

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