Rule 10b5

Question 1

Elements of rule 10b5

Answer 1

1. federal law prohibiting
   i. an act or omission
   ii. using an instrumentality of interstate commerce (national exchange, mail, phone)
   iii. that results in fraud or deceit
   iv. in connection with the purchase or sale of any security
2. elements:
   i. instrumentality of interstate commerce (national exchange, mail, phone)
   ii. misrepresentation
   iii. materiality
   iv. scienter
   v. reliance
   vi. damages

Question 2

Instrumentality of interstate commerce

Answer 2

1. instrumentality of interstate commerce used if trading on national exchange, mail, or phone

Question 3

Misrepresentation or omission

Answer 3

Misrepresentation of Material Information

1. a misrepresentation of material information violates 10b-5
2. can be affirmative or omission with duty to disclose

Inside Trading

1. insider trading: trading securities on the basis of material inside information
2. insider trading requires a duty to abstain or disclose
   i. includes those with a relationship of trust and confidence with the shareholders
   a. directors, officers, controlling SHs, employees of the corporation with access to confidential information
   b. such insiders cannot trade on secrets
   c. must abstain from trading or disclosure so everybody is on equal footing
   ii. misappropriation doctrine: those owing a duty of trust and confidence to the source of the information must abstain or disclose in trading wrt subject of the information
   a. disclosure must be to the entity to whom the duty is owed
   b. ex. a lawyer who discovers confidential information about their firm’s client owes a duty of trust and confidence to their firm, so must abstain or disclose

Tipping

1. tipping: insider passes along material inside information for a wrongful purpose
2. tipper must (one of):
   i. receive a financial benefit
   ii. receive a reputational benefit
   iii. intend to give a gift
3. a tippee is liable if traded on the tip and knew or should have known that the information was improperly passed
   i. if there is no tipper liability, there is no tippee liability

Question 4

Materiality

Answer 4

1. the misrepresentation or omission must concern a material fact
2. material fact: a fact a reasonable investor would consider important in making an investment decision

Question 5

Scienter

Answer 5

1. defendant must have an intent to deceive, manipulate, or defraud
2. recklessness may suffice

Question 6

Reliance

Answer 6

1. the misrepresentation must have caused or prevented the trade
2. presumed in public misrepresentation and nondisclosure cases

Question 7

Damages

Answer 7

1. generally determined by an out-of-pocket measure.

Question 8

Possible plaintiffs

Answer 8

1. SEC and DoJ
2. civil private action for damages by buyer or seller of securities
   i. the action must be by someone who actually buys or sells

Question 9

Possible defendants

Answer 9

1. any person, including entities, can be defendants
2. including:
   i. company that issues a misleading press release
   ii. buyer or seller of securities who misrepresents material information
   iii. buyer or seller of securities who trades on material inside information with duty disclose
   iv. tipper or tippee
   a. tippee is liable if traded on the tip and knew or should have known that the information was improperly passed
   b. if there is no tipper liability, there is no tippee liability
3. note: no insider trading liability if brazen misappropriation, overhearing person, or thief