Keep this in mind when it comes to the latest allegations against Steven A. Cohen and his hedge fund, SAC Capital Advisors LP: There are few easy wins for the government in high-profile trials of white-collar defendants.
This doesn’t mean that SAC Capital would survive a federal indictment. History tells us it probably can’t; no major U.S. financial-services firm has before. Prosecutors are expected to unveil criminal charges against SAC, but not Cohen, in coming days, according to news reports.
Separately, the Securities and Exchange Commission’s enforcement division last week filed an administrative proceeding accusing Cohen of failing to supervise properly two employees now facing criminal insider-trading charges. Both people, Michael Steinberg and Mathew Martoma, have pleaded not guilty. If Cohen loses, he could be banned from managing other investors’ money.
Two old cases immediately come to mind. One is the 2002 trial of accounting firm Arthur Andersen LLP over a felony obstruction-of-justice count related to its audit work for Enron Corp., the bankrupt energy trader. The other is a 1992 settlement between the SEC and John Gutfreund, the former chairman and chief executive officer of the Wall Street brokerage Salomon Brothers Inc., who, like Cohen, was accused of supervision failures.
On paper, the Andersen trial should have been a slam dunk. The government had someone who seemed to be the ultimate cooperating witness, David Duncan, the lead partner on Andersen’s audits for Enron. He pleaded guilty to obstruction of justice before Andersen’s trial began. Because his conduct could be imputed to the firm, his plea by itself should have been enough to convict Andersen -- as long as the jury believed him when he testified that he indeed was guilty.
On the witness stand, however, Duncan was a dud. He could remember only one document he had arranged to be destroyed. And he came across like someone who had cut a deal to avoid prosecution for more serious crimes such as accounting fraud. The jury deliberated for 10 days before reaching its verdict. Some jurors later said they disregarded Duncan’s testimony and based their conviction on other evidence. Three years later, the U.S. Supreme Court overturned Andersen’s conviction because of faulty jury instructions (by which point the firm was out of business) and Duncan was allowed to withdraw his guilty plea.
Similarly, winning a guilty verdict against SAC for insider trading should be simple -- in theory. Consider Jon Horvath, a former SAC employee who admitted to passing illegal tips from insiders at Dell Inc. and Nvidia Corp. to his portfolio manager at SAC. His offenses should be attributable to the firm. Still, you never know how strong a witness he would make until he takes the stand, or if defense attorneys might be able to convince a jury that he is unreliable.
Gutfreund’s SEC proceedings over supervision failures make for an interesting comparison with the SEC’s claims against Cohen. That case was far stronger and more clear-cut than the allegations filed last week against Cohen.
In 1991, Gutfreund and two other senior executives were told by underlings that Salomon’s head of government-bond trading, Paul Mozer, had submitted a false bid in a U.S. Treasury auction. Gutfreund agreed to report the matter to the government. However, he took no action for months, which was a big mistake, because Mozer did the same thing twice more. In the end, Mozer got a short prison stay. As for Gutfreund, he paid a $100,000 fine and was barred from serving as the CEO or chairman of a broker-dealer.
By comparison, the SEC’s enforcement division didn’t allege that Cohen knew about insider trading at his firm and stayed mum. Rather, they accused him of disregarding “red flags.” Cohen’s lawyers will have plenty of material to work with as they prepare their defense.
For example, one of the supposed warning signs was an Aug. 26, 2008, e-mail by Horvath that was forwarded to Cohen by a different SAC employee. It said he had a “2nd hand read from someone at the company” who was seeing a gross margins miss by 50-80 basis points. The company was Dell.
In a memo to employees this week, Cohen’s lawyers said Cohen didn’t read the e-mail, one of about 1,000 he received daily. Plus, the information was wrong. When Dell released its quarterly results two days later, its gross margins fell short of analysts’ estimates by 110 basis points (a fact that I was able to corroborate from news articles that day). Even if Cohen had read the e-mail, it was far from obvious that the source had breached any fiduciary duty to the company.
If the Justice Department goes through with an indictment and takes SAC to trial, it will have a lot of explaining to do as well. At a conference last week, Preet Bharara, the U.S. attorney for the Southern District of New York, told CNBC’s Jim Cramer that “I don’t think anyone is too big to indict” and that “no one is too big to jail.”
An indictment of SAC Capital, which has about $15 billion of assets under management, would do nothing to buttress this assertion. The Justice Department will need to clearly explain once and for all how it justifies giving deferred-prosecution or non-prosecution agreements to large financial institutions such as JPMorgan Chase & Co., UBS AG and Deutsche Bank AG -- but not SAC Capital, especially when it couldn’t find a criminal case to bring against its owner.
(Jonathan Weil is a Bloomberg View columnist.)
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