Appendix — Allis-Chalmers Manufacturing Co. v. Gulf & Western Industries, Inc.

PR ORS AOR NOMY SSSR AEDT EE LEN SNE EE INS SELLE IRI BAAN OLE ALAS AEDT

ete A NENT COR ETE TCC, te Oe lb

The Interest of Gulf & Western Industries, Ine. 1b

Questions That May Not Be Adequately Pre-

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A. The statute and its purpose ..........0..0...... 7b

B. The legislative history shows clearly that

Congress intended as the target of § 16(b)

the investor with inside information as the

basis of its opening transaction 9b

C. The elaborate theories advanced to support

first-transaction liability conflict with the leg-

islative purpose and the logic of the statute

TAN iitceweutabaieaemacanamice ee ee 19b

D. The decisions of this Court clearly reject the

attempt to take §16(b)’s automatic liability

beyond its intended limits ....... 24b

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The Interest of Gulf & Western Industries, Inc. 1b

Questions That May Not Be Adequately Pre-

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A. The statute and its purpose 00000000000... 7b

B. The legislative history shows clearly that

Congress intended as the target of § 16(b)

the investor with inside information as the

basis of its opening transaction ............. 9b

C. The elaborate theories advaned to support

first-transaction liability conflict with the leg-

islative purpose and the logic of the statute

WOOT saci sinnncstialicaklianiciatalilecteiiipia aioe Be 19b

D. The decisions of this Court clearly reject the

attempt to take §16(b)’s automatic liability

beyond its intended limits .00 24b

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IN THE

Supreme Court of the United States

OCTOBER TERM 1974

No. 74-742

a

Foremost-McKesson, Inc.,

Petitioner,

v.

Provivent Securities Company,

Respondent.

ON WRIT OF CERTIORARI TO THE UNITED STATES

COURT OF APPEALS FOR THE NINTH CIRCUIT

ee

MOTION OF GULF & WESTERN INDUSTRIES, INC.

FOR LEAVE TO FILE THE ACCOMPANYING BRIEF

AS AMICUS CURIAE IN SUPPORT OF THE POSITION

OF THE RESPONDENT

Gulf & Western Industries, Inc. (hereinafter “G&W”)

respectfully moves for leave to file the accompanying brief

amicus curiae in this case. The consent of attorneys for

respondent has been secured while that of the petitioner

was requested but refused.

The Interest of Gulf & Western Industries, Inc.

Gulf & Western Industries, Inc. is currently involved in

an action pending in the Court of Appeals for the Seventh

Cireuit (Nos. 74-1266 and 74-1267) on appeal from a

decision of the District Court for the Northern District of

* Ie EINEM TOTS I IN .

2b

Illinois, Allis-Chalmers Manufacturing Co. v. Gulf & West-

ern Industries, Inc., 372 F. Supp. 570 (N.D. Ill. 1974). A

principal issue there is whether an outsider’s initial acquisi-

tion of a greater than 10% interest must, on any facts, be a

chargeable transaction, in the face of the statutory exemp-

tion which states that the statute “shall not be construed”

to impose liability where “such beneficial owner was not

such both at the time of the purchase and sale”.

G&W concededly had no prior relationship to the issuer.

It acquired 3,000,000 sliares in a single transaction pur-

suant to a public exchange offer, preceded by a full, indeed

extraordinary, disclosure effort (regarding both G&W and

Allis) in confermity with the Securities Act of 1933, 15

U.S.C. §§ 77a-aa, and other laws. The trial court has found

that G&W “did nothing wrong as far as speculative abuses

are concerned” (372 F. Supp. at 591), that there had been

“no showing of wrongdoing” (id., 590) and that G&W did

not have confidential corporate information “either before

or after its purchase” (id., 579). Immediately after the

acquisition, G&W became the target of a program of isola-

tion and hostility by Allis’ management, the court finding,

inter alia, that Allis had used a dividend cut “in its fight-

ing” of G&W (id., 589). Nevertheless, the court felt bound

to impose technical liability and awarded $1,135,838 of

“profit realized”.! However, it reflected its distaste for

Allis’ position by refusing its requests for an award of

dividends and prejudgment interest, calling them “uncon-

scionable” and “retributive” in the circumstances (id., 589).

It is a clear case where liability cannot possibly serve the

statutory purpose.

1. A subsequent smaller acquisition is also at issue there.

PE LEE DE OE TLS men ce

3b

On its appeal Allis has dropped these claims for divi-

dends and interest but insists that the windfall recovery of

$1.1 million was too meager, urging that arbitrary profit-

“maximization” rules compel an award of over $12 million.

G&W cross-appealed, principally on the critical issue of

liability. Because the number of shares involved in G&W’s

first and concededly innocent acquisition is very large,

G&W’s stake in the issue before this Court is very sub-

stantial.’

Questions That May Not Be Adequately

Presented by the Parties

Section 16(b) clearly requires that a shareholder-defend-

ant be an insider “at the time” of the purchase, not after-

wards—thus conforming to the idea that the decision to

purchase be based on the statutorily specified “relation-

ship to the issuer” and the information presumably gained

thereby. However, some have claimed to find an “ambi-

guity” in the statutory language which is said to give

license to enlarge liability based on expansive “policy”

arguments. Under governing precedent, the issue here

must be resolved (1) strictly within the statutory terms,

Reliance Electric Co. v. Emerson Electric Co., 404 U.S. 418

(1972), or (2) if there is ambiguity, on the specific facts of

each case to determine if liability would serve the limited

aims of the statute, Kern County Land Co. v. Occidental

Petroleum Corp., 411 U.S. 582, 595 (1973).

In either case, it seems critical that the decision here

have the perspective of other real-world situations involv-

ing the same issue. The facts of the instant case are highly

particularized, and the parties have little reason to focus

2. G&W was previously granted leave to present its views as

amicus curiae concerning the exemptive proviso in Reliance Electric

Co. v. Emerson Electric Co., 404 U.S. 418 (1972).

CET ANE SEN SST

4b

upon possible results in other circumstances, such as in

the Allis-Chalmers case under review in the Seventh Cir-

cuit. That case indicates, possibly better than any other,

the error in fabricating liability without proof of wrong-

doing where there has been no prior statutory “relation-

ship to the issuer” and there is no possibility of the “types

of speculative abuse that the statute was designed to pre-

vent.” 411 U.S. at 594 n. 26.

In that case, not only was there no pre-acquisition

“inside” relationship, but instead of capitalizing on inside

information, G&W undertook to guarantee prior disclosure.

Its acquisition was hy registered exchange offer pursuant

to prospectus,’ made at a premium above market, announced

well in advance, and offered on a pro rata basis. G&W

persuaded Allis to collaborate, if not cooperate, in the dis-

closure process,‘ paid the expenses of its accountants,

lawyers, and management in doing so, and demanded and

received from each a certification of disclosure accuracy.

The result was a highly detailed description of the business

condition of both companies—which, particularly in the

case of the issuer (Allis), exceeded traditional standards

hy estimating future earnings and projecting cost and price

trends.

Once G&W had finalized its acquisition, it was isolated

by Allis. Internal matters were consistently kept from

G&W on the basis that it was outside “management”. With

3. The “unusual” protective and nonspeculative conditions sur-

rounding exchange offers are described in detail in Fleischer &

Mundheim, Corporate Acquisition by Tender Offer, 115 U. Pa. L.

Rev. 317, 348 n. 119 (1967).

4. See Instruction F to Form S-1, CCH Fed. Sec. L. Rep. §7122,

at 6202 (1971) (requiring the exchange offer prospectus to set forth

business and financial information with respect to the respective

issuers of both the securities sought and those being offered); and

SEC Rule 409 issued under the Securities Act of 1933, 17 CFR

§230.409 (requiring the offeror to seek disclosure from the target

corporation).

Nabe —_ a

db

a $115 million investment adrift, G&W, encouraged by

Allis, sold its shares to another large industrial corpora-

tion which sought them for the purposes of merger. Again,

no sale took place until well after public disclosure by

Allis of important current financial results.

A “first purchase” by an outsider in an exchange offer

based upon full prior disclosure simply does not fit the

mold of the statutory target:

“After all, it is the unfair use of inside information

against which the statute is directed and plainly

when there has been full disclosure, as is given by a

proxy statement, the potential for unfairness and

any basis for invoking the statute disappears.” Gold

v. Sloan, 486 F.2d 340, 349 (4 Cir. 1973), cert. denied,

419 U.S. 873 (1974).

It is with the aim of bringing consideration more directly

to bear on such a situation and to contribute the views

developed in our litigation that we respectfully request the

privilege of submitting the accompanying brief as amicus

curiae.®

Respectfully submitted,

Wuitney Nortu Seymour

One Battery Park Plaza

New York, New York 10004

Counsel for Gulf & Western

Industries, Inc.

5. Prior disclosure, or the lack of it, has repeatedly been empha-

sized in §16(b) cases in determining whether there should be lia-

bility. Kern County Land Co. v. Occidental Petroleum C orp., supra,

411 U.S. at 600; American Standard, Inc. v. Crane Co., 510 F.2d

1043, 1054 (2 Cir. 1974); Roberts v. Eaton, 212 F.2d 82, 83 (2

Cir.), cert. denied, 348 U.S. 827 (1954); Ferraiolo v. Newman, 259

F.2d 342, 346 (6 Cir. 1958), cert. denied, 359 U.S. 927 (1959);

Petteys v. Butler, 367 F.2d 528, 537 (8 Cir. 1966), cert. denied, 385

U.S. 1006 (1967). Compare: Newmark v. RKO General, Inc., 425

F.2d 348, 356 (2 Cir.), cert. denied, 400 U.S. 854 (1970).

6. Allis has similarly moved to file a brief as amicus curiae

(“Allis Br.”).

LN RSRSM IIL LED IA PLIES OL TOON IONE IGA PE REO EN Gy

ROARING —

PETROL

6b

BRIEF IN SUPPORT OF THE POSITION

OF THE RESPONDENT

Question Presented

Whether the purchase by which an outsider with no

prior relationship with the issuer acquires more than ten

percent of any class of the issuer’s securities must be

included as a transaction within 4 16(b), despite the statu-

tory exemptive proviso stating that § 16(b) “shall not be

construed” to cover such a transaction.

Summary of Argument

Section 16(b) is a special recovery tool, designed to take

away profits made by corporate “insiders” in linked “pur-

chases” and “sales” of stock within six months, based upon

advance inside information. Because the statute can create

liability in the absence of wrongdoing and because of the

availability of other remedies in the event of actual abuse,

this Court has held that §16(b) should not be expanded

beyond its intended limits. Yet in the situation before the

Court liability cannot possibly serve the statutory purpose.

Rather, the petitioner would ignore the express statutory

exemptions and seeks an automatic rule which would extract

recovery from those who are statutory outsiders at the time

they buy, and cannot be presumed to have inside informa-

tion, but rather often provide affirmative disclosure.

The legislative history shows that Congress aimed at a

set of transactions by those with a confidential “relationship

to the issuer,” enabling them to buy, intending or expecting

to make a profit on a shortswing sale. Whatever other

assumptions may have been made with respect to mana-

gerial insiders (officers and directors), Congress clearly

distinguished the situation of those who held shares but

LOD LER IA oO NS NOR TRIRE EER P REA SFOS BEET MRAM VOM PE EX

7b

were not part of management, since neither the process of

obtaining ten-percent ownership nor the position held upon

attaining such status necessitates confidential involvement

with the issuer. The express proviso bars shareholder

liability except when the requisite status existed at the time

of the purchase, so that there would be an unmistakable

basis for charging an otherwise innocent commercial trans-

action.

Attempts to force liability in these circumstances are in

direct conflict with the logic of the statute and plainly

incompatible with the major elements of its operation,

including the six-month holding provision, the statutory

measure of recovery, and underlying presumption which

sustains the statute.

There are no valid “policy” arguments which can support

artificially labeling an outsider’s investment as an abusive

transaction by an insider. To the contrary, decisions of

this Court have required that the “proofless” liability of

Section 16(b) be confined to situations where liability will

serve the statutory purpose and respect its intended limits,

and such decisions cannot be squared with the enlargement

of liability sought by the petitioner here.

Argument

A. The statute and its purpose

Section 16(b) was designed to attack short-swing trading

by officers, directors and certain large shareholders “in the

stock of their own companies with the benefits of advance

information.” S. Rep. No. 792, 73d Cong., 2d Sess. 9 (1934).

The Congressional target was the situation in which the

“insider” purchased on favorable inside information and

sold when the price rose (or sold on unfavorable informa-

tion and then repurchased). “Inside information” is that

acquired “by reason of his relationship to the issuer”, 15

Sb

U.S.C. §78p(b). While its general purpose is to “pre-

clude the ‘unfair use of information . . . by’ corporate

insiders,” it is clear that,

“Congress did not seek to accomplish the whole of

this purpose by section 16(b) alone... [which] ere-

ates a special remedy, applicable only in a limited

situation. ... [O]ther remedies are ... available, but

only upon proof of actual wrong-doing.” Blau v.

Max Factor & Co., 342 F.2d 304, 307 (9 Cir.), cert.

denied, 382 U.S. 892 (1965) (footnote omitted).

Because §16(b) creates an “extraordinary liability”

which may attach without proof of wrongdoing, the Court

has consistently held that neither the statute nor rules in

aid of its implementation may be expanded beyond its lim-

ited scope in the guise of effecting some remedial purpose,’

Blau v. Lehman, 368 U.S. 403, 411-13 (1962). In Blau v.

Lehman, supra, the Court rejected a supposed “prophy-

lactic” rule which would subject partnership profits to

§16(b) by treating a partnership as a statutory “insider”

if a partner was one. In Reliance Electric Co. v. Emerson

Electric Co., supra, the Court turned aside a reading of the

statute which would have weakened the very exemption at

issue here—despite supposed “policy” arguments to the

contrary. 404 U.S. at 424.

Tn the landmark case Kern County Land Co. v. Occidental

Petroleum Co., supra, the Court emphasized that the public

interest lies in the implementation of § 16(b) “without ex-

7. This view of § 16(b) contrasts with that taken of § 10, the

Act’s broadly-based antifraud provision which affords a_ federal

remedy against those who are proved to have done actual harm.

Indeed, the efficacy and breadth of §10 eliminates the need for

expansionary application of § 16(b); see, e.g., Note, Reliance Electric

and 16(b) Litigation: A Return to the Objective Approach?, 58 Va.

L. Rev. 907, 914-15, 928-29 (1972); Lowenfels, Section 16(b): A

New Trend in Regulating Insider Trading, 54 Cornetv L.Q. 45,

61-64 (1968), both cited by the Court in the Kern County case, 411

U.S. at 594 n. 26.

ES RE lM I IR eg RST ES DRE MG ON RIT Pd TIE TGS AIT LAE OEY

9b

tending the reach of the statute beyond its intended limits.”

411 U.S. at 595 (emphasis added). The Court stressed that

the statute’s potential for imposing liability without wrong-

doing has necessitated a measured approach: “Under these

strict terms, the prevailing view is to apply the statute only

when its application would serve its goals.” Id. The Court

gave final authority to the modern “pragmatie” view that

there is no public interest in the imposition of “purposeless

harshness.” See Blau v. Max Factor & Co., supra, 342 F.2d

at 307.

B. The legislative history shows clearly that Con-

gress intended as the target of § 16(b) the in-

vestor with inside information as the basis of its

opening transaction.

Virtually all recent critical commentators strongly reject

the idea that the initial more-than-10% transaction by an

outsider should be subject to §16(b) as both indefensible

logically and inconsistent with the legislative purpose.

Note, Necurities—Section 16(b)—Initial Purchase of Ten

Percent of a Class of Equity Securities Is Not a Section

16(b) Purchase, 43 ForpHam L. Rev. 678 (1975); Note,

Insider Liability for Short-Swing Profits: The Substance

and Function of the Pragmatic Approach, 72 Micn. L. Rev.

592, 597 n. 26, 602-19 (1974) ; Comment, Section 16(b): An

Alternative Approach to the Six-Month Limitation Period,

20 U.C.L.A. L. Rev. 1289, 1294-1300, 1312-13 n. 125 (1973) ;

Note, Reliance Electric and § 16(b) Litigation: A Return

to the Objective Approach?, 58 Va. L. Rev. 907, 910-11

(1972); Comment. Exchange of Stock Pursuant to a

“Defensive Merger” is Not a “Sale” Within the Meaning of

Section 16(b), 72 Corum. L. Rev. 1090, 1101-02 (1972);

Comment, Exchange of Stock Pursuant to Merger is

“Sale” by Insider wnder Section 16(b) of Securities

Exchange Act of 1934, 84 Harv. L. Rev. 1012, 1022 n. 30

10b

(1971); Note, Stock Exchanges Pursuant to Corporate

Consolidation: A Section 16(b) “Purchase or Sale” ?, 117

U. Pa. L. Rev. 1034, 1042 n. 39 (1969); Munter, Section

16(b) of the Securities Exchange Act of 1934: An Alterna-

tive to “Burning Down the Barn to Kill the Rats”, 52 Cor-

NELL L. Q. 69, 75 (1966) ; Comment, 70 Harv. L. Rev. 1312

(1957) ; Comment, 9 Stan. L. Rev. 582 (1957) ; W. ParnTer,

FeperaL REGULATION OF INsmper TrapinG 41-42 (1968).

The specific “evil which Congress sought to prevent”,

Kern County Land Co. v. Occidental Petroleum Corp.,

supra, 411 U.S. at 594, by means of §16(b) is clear from

the history of the act. The original “Fletcher-Rayburn”

bill® rendered unlawful® any purchase by specified persons

made “with the intention or expectation” of selling the same

security within six months:

“Tt shall be unlawful for any director, officer, or

owner of securities, owning as of record and/or

beneficially more than five per centum...

(1) To purchase any such registered security with

the intention or expectation of selling the same

security within six months...” (emphasis supplied)

To establish civil liability, actual proof of such inten-

tion “in entering into such transaction” was specifically

excluded:

“.. and any profit made by such person on any

transaction in such a registered security extending

8. S. 2693, introduced by Sen. Fletcher and referred to the Senate

Banking and Currency Committee, February 9, 1934, considered in

Hearings on S. Res. 84 & S. Res. 97 Before the Senate Committee

on Banking and Currency, 73d Cong., 2d Sess. (1934), hereinafter

Senate Hearings; H.R. 7852, introduced by Rep. Rayburn and re-

ferred to the House Committee on Interstate and Foreign Commerce,

February 10, 1934, considered in Hearings on H. R. 7852 Before

the House Committee on Interstate and Foreign Commerce, 73d

.Cong., 2d Sess. (1934), hereinafter House Hearings.

9. Section 24 of S. 2693 imposed criminal penalties for willful

violation of any provision of the act.

1lb r

over a period of less than six months shall inure to

and be recoverable by the issuer, irrespective of any

intention or expectation on his part in entering into

such transaction of holding the security purchased

for a period exceeding six months.” (emphasis sup-

plied)

The bill’s chief spokesman explained at the Senate hear-

ings (specifically focusing on the case of a director) that

the statute used a presumption to obviate proof of the

insider’s intention “at the time he bought”:

CT Se

Co MOP SR RC NR tes

“That [bill] is to prevent directors receiving the

benefits of short-term speculative swings on the

securities of their own companies, because of inside

information. . .. You hold the director, irrespective

of any intention or expectation to sell the security

within 6 months after, because it will be absolutely

impossible to prove the existence of such intention

or expectation, and you have to have this crude rule

of thumb, because you cannot undertake the burden

of having to prove that the director intended, at the

time he bought, to get out on the short swing.”'°

es eR

The statute aims expressly at the person who buys stock

with “intention or expectation” based on inside information

to sell at a short-term profit and necessarily contemplates

the statutory relationship, and informational access, before

his purchase. Moreover, as shown in the margin, legis-

lative discussions of the “converse” situation, where an

insider sells stock “with the intention of repurchasing’",

10. Senate Hearings 6557 (emphasis supplied). The passage is

quoted in Kern County Land Co. v. Occidental Petroleum Corp.,

supra, 411 U.S. at 593 n.23.

11. “SeNnaTor BuLKLEY. Do you provide for the converse of

that, where a man might sell for a short term with the intention of

repurchasing ?

Mr. Corcoran. No; it should have been provided for. . . .

* * *

SENATOR BuLKLEy. Yes. A man having a large amount of stock

might know that his company was going to pass a dividend, and then

sell it with the intention of purchasing after the news was out.”

Senate Hearings 6557-58 (Feb. 28, 1934).

= (BS, te $ . OL ELE GP Re aE LS Se |

— boas a OIE See ee a eT —_—— —

AAR LEIS OT EERIE DINED

12b

make evident that Congress was concerned with persons

with inside knowledge before the opening transaction.

The House hearings addressed this same problem.

Indeed, the bill had a provision making “tippees” of insiders

liable, which set forth the critical sequence of acquisition

of information, followed by a short-term transaction “with-

in a period not exceeding six months after such disclosure”,

H.R. 7852. Mr. Corcoran stated that “tippee” liability was

designed to attack the very same type of transaction fore-

closed to an insider, when carried on by his “friends,”

“Mr. Corcoran: Now, on page 29, subsection (3),

an insider tips off somebody with his inside informa-

tion... and the person tipped makes a short swing

profit on the stock.” House Hearings 135.

Congressmen questioned the enforceability of the tippee

provision (Jd. 135-38) and ultimately deleted it.

After three weeks of hearings on H.R. 7852, the House

Committee on March 20 presented a redraft, H.R. 8720.3

Criminal liability and tippee liability were now deleted,

and the converse “sale and purchase” transactions were

included. Moreover, the new version added the exemptive

proviso for “shareholder-insiders”, requiring that they be

“insiders” both at the time of the purchase and sale, also

perinitted administrative exemptions, and directly tied both

exemptions to language declaring the purpose of the bill:

“This subsection shall not be construed to cover any

transaction where such beneficial owner was not such

both at the time of the purchase and sale or sale and

purchase of the security involved, nor any trans-

action or transactions which the Commission by

12. In the Senate hearings the purpose of tippee liability was

similarly described. Senate Hearings 6558 (February 28, 1934),

13. H.R. 8720, introduced by Rep. Rayburn and referred to the

House Committee on Interstate and Foreign Commerce on March

19, 1934,

PEGI MALL EES EN IRE LE SEG PEI END AE I

13b

rules and regulations may exempt as not compre-

hended within the purpose of this subsection of pre-

venting the unfair use of information which may

have been obtained by such beneficial owner, director,

or officer by reason of his relationship to the issuer.”

After further hearings, however, the House Committee

deleted entirely the provision now known as § 16(b) and,

on April 27, 1934 reported out a bill requiring insiders only

to report their transactions (now § 16(a)) and refrain from

short selling and selling “against the box” (now § 16(c))."

This was passed by the House on May 7, 1934.'5

The Senate committee’s revision, reported out on April

20, 1934, raised “insider” share ownership from 5% to 10%

and adopted the exemptive proviso requiring shareholder-

insiders to be such “both at the time of the purchase and

sale”, in apparent response to objections to treating large

investors the same as officers or directors.’® It also author-

ized administrative exemptions and placed the explicit

statement of statutory purpose separately in the forepart

of the statute.”

14. H.R. 9323, introduced by Rep. Rayburn and referred to the

House Committee on Interstate and Foreign Commerce on April 25,

1934; reported out April 27, 1934.

15. The only House revision was a subsection excluding securi-

ties registered without the issuer’s consent, H.R. 9323 as passed by

the House, May 7, 1934.

16. “SENATOR KEAN. I think it is all right to apply it to a direc-

tor or officer, but I think to require the ordinary investor—

* * * * x

. . . you are interfering with the individual a good deal there. I

agree with you with respect to the officers and directors.

Mr. Corcoran. A stockholder owning 5 percent is as much an

insider as an officer or director. Whetl er he is a titular director or

not, he normally is, as a practical matter of fact, a director.

SENATOR KEAN. He might not be.” Senate Hearings 6556.

17, S. 3420, as reported Senate, April 20, 1934. Like H.R.

8720, it included sale and repurchase transactions and deleted tippee

and criminal liability.

14b

The Senate report'® states clearly that Congress con-

sidered access to inside information as the “basis” for

initiating the special type of speculation it sought to bar:

“The bill further aims to protect the interests of

the public by preventing directors, officers, and prin-

cipal stockholders of a corporation . . . from specu-

lating in the stock on the basis of information not

available to others,”? «

and it specifically spoke of information obtained in advance

of such trading:

“trading in the stock of their own companies with

the benefit of advance information. . .””°

The Senate passed this version on May 14, 1934, as an

amendment to the House bill. The differences were referred

to a conference, which substantially accepted the Senate

version’, This bill became law.

Section 16(b) was presented to Congress and considered

by it as a specialized tool to combat the unfair use of inside

information in short-term “speculative swings’?. The

hearings all concern the insider who obtains inside infor-

mation in advance of his short-swing transaction and could

“with his inside information get in and get out of stock

within six months.’

Allis mistakenly argues that by deleting the reference to

“the intention” at the time of purchase “of selling the same

18. S. Rep. No. 792, 73d Cong., 2d Sess. (April 17, 1934).

19. Id. 9.

20. Id. 9.

21. See S. Doct. No. 185, 73d Cong., 2d Sess. 16-17 (May 28,

31, 1034). Rep. No. 1838, 73d Cong., 2d Sess. 16-17, 35-36 (May

22. Senate Hearings 6557.

23. House Hearings 133.

BARA EOC 1a Pega Sy BF Mies

15b

security,” Congress “intended to broaden the bill” (Allis

Br. 16), though it concedes that the language clearly

“tended to limit its application to transactions involving

shareholders with pre-existing 10% holdings” (Allis Br.

15), as does petitioner (P. Br. 29). In fact the “intention”

language was removed solely because the elimination of

possible criminal liability made intention entirely unneces-

sary as a component of proof, but it obviously did not

change the target of the statute.

Indeed, rather than “broadening” the act, Congress dras-

tically narrowed it in several ways: by excising tippee

liability, raising share ownership to 10%, authorizing

administrative exemptions, delimiting the statutory pur-

pose, and adding the exemptive proviso excluding 10%

shareholders who were not such “both at the time of the

purchase and sale.”

No doubt the exemptive proviso expressly for share-

holders responds to congressional reluctance to make the

same conclusive presumption for investors as for officers

and directors. See page 13, supra. The Senate report”

recounts, inter alia, an abuse whereby two directors manip-

ulated dividend payments to make profits in a trading

pool. It has been reasoned that §16(b) might in certain

cases be applied to deter “official” insiders, with inherent

corporate powers, from such manipulations occurring after

the purchase. The present Chief Justice, writing in Adler

v. Klawans, 267 F.2d 840 (2 Cir. 1959), so noted in circum-

stances specifically showing the special power of an “offi-

cial” insider:

“Our primary holding simply gives effect to the

statutory mandate which presupposes that, at some

moment before making a sale of stock, the insider

was in an official position which he could have used

to influence the sale price. (Supra, 267 F.2d 845.)”

Id. 848 (Emphasis added to emphasis in original)

24. S. Rep. No. 792, 73d Cong., 2d Sess. 9 (April 17, 1934).

2A ASE ND en CR ALA SOR MAGEE i Ml

16b

The court, on specific and compelling facts, addressed man-

agerial “manipulation” of corporate affairs to influence the

price of the stock. But in doing so, the court drew a clear

line between officers and directors on one hand and bene-

ficial owners on the other: ~ ..

“The statute itself, independent of its legislative

history, seems to treat directors and officers as one

category of ‘insiders’ and 10% beneficial owners as

another. There is, of course, a logical and practical

basis for distinction. Generally . . . officers and

directors have more ready access to the intimate

business secrets of corporations and factors which

ean affect the real and ultimately the market value

of stock than does even so large a stockholder as a

‘10% beneficial owner.’ This is not to discount the

potential influence of the [mere investor] but simply

to acknowledge the basis for the different treatment

accorded them by Congress. Moreover, a director

or officer can usually stimulate more directly actions

which affect stock values and have knowledge of fac-

tors which might depress values. Notwithstanding

exceptions and variations these general propositions

have a foundation in experience and furnish an ade-

quate basis for a difference in treatment of 10%

owners. Beyond doubt it was considerations of this

character which led Congress to make a provision

concerning 10% owners which was not made with

respect to officers and directors.” Id. 845 (emphasis

supplied).

An officer or director has not only a power, but a duty,

to learn pertinent facts and to direct company policy. An

investor, to the contrary, has no official powers (indeed he

may in fact have no access to corporate information). The

report summarizing the Senate investigations which led to

the 1934 Act draws the same distinction. In the case of

management, it pointed to:

“the flagrant betrayal of their fiduciary duties by

directors and officers of corporations who used their

PTA OS seemeccanecays st

eine sé

17b

positions of trust and the confidential information

...” §. Rep. No. 1455, 73d Cong., 2d Sess. 55 (June

6, 1934) (emphasis supplied),

while the general characterization of the investor’s ability

was limited to access to information:

“stockholders who, while not directors and officers,

exercised sufficient control over the destinies of their

companies to enable them to acquire and profit by

information not available to others.” Jd.

The facts in Allis’ suit against G&W point up this very

distinction. The testimony of Allis’ chief executive was

replete with instances when critical corporate matters were

kept from G&W expressly because disclosure rules forbade

discussion “outside of a board of directors’ room”, or

because the subject was “an internal matter” which “should

be kept to the board of directors and the management.” No

G&W representative ever sat on Allis’ board, nor did G&W

participate in any management decisions. Indeed, Allis

took every step to isolate what it has described as an

“unwanted mate”. The district court concluded “that Allis

sought to discourage G&W’s retention of its stock position

in Allis.” 372 F. Supp. at 579.

The contentions that certain “exemptions” prove by indi-

rection that §16(b) attacks an initial purchase by an “out-

sider” (because otherwise the exemption would be unneces-

sary) are clearly backwards bootstrapping, and they are

erroneous on other grounds. For example, the discussion

of arbitrage (P. Br. 30; Allis Br. 16; Senate Hearings 7567)

reflects concern that an arbitrageur may “accumulate more

than 5 percent,” become a statutory “insider”, and be

restricted in trading by the act, “which imposes penalties

upon a stockholder owning 5 percent or more...” Jd. Such

discussion is not directed to the initial purchase. Indeed,

Ee SP IPN is WT Rae cit Te HEE

PRINS ate aA EI! IER TS SEMEL ENP MEEIY as EE ILE RITE GAR

18b

arbitrage by preexisting “insiders” initially raised 4 16(b)

questions, see Falco v. Donner Foundation, Inc., 208 F.2d

600 (2 Cir. 1953), but these were resolved by § 16(d) (now

§16 (e)), exempting arbitrage transactions. Moreover,

contrary to the statement at Allis Br. 17, the arbitrage

subsection was not even in the bill?5 discussed in the

passage quoted.

Rule 16b-2 (P. Br. 24, 30; Allis Br. 17) is likewise unhelp-

ful to petitioner and Allis, for it too applies to officers,

(lirectors, and preexisting “beneficial owners”. Indeed, in

explaining Rule NB2, the ancestor of Rule 16b-2, the SEC

clearly had the model of a pre-existing relationship in

mind:

“The new Rule NB2 affords an exemption for cer-

tain cases by providing that underwriters who hap-

pen to have a member of their firm also an officer or

director of the issuer or one of its principal stock-

holders who are regularly engaged in the business of

buying and selling securities need not account to the

company for profits realized from purchases and sales

nade in the distribution of a security for the com-

pany, provided that independent underwriters have

a participation in the underwriting of at least 50 per

cent on identical terms.” SEC Securities Exchange

Act Release No. 264 (June 8, 1935).

Finally, petitioner and Allis swing wide of the mark in

trying to divine the intent of the 73rd Congress from

§16(d) (P. Br. 30; Allis Br. 17), apparently overlooking

the fact that this subsection 16(d) was passed by the 88th

Congress in 1964.76

25. H.R. 8720; see Senate Hearings 7539.

26. Apart from the anachronism, their logic is erroneous. Sec-

tion 16(d) leaves untouched market-making transactions by a

dealer previously holding securities of the issuer in a segregated

“investment” account, but it fully exempts persons previously holding

over 10% in “trading accounts” as well as dealers who are officers

or directors. See H. R. Rep. No. 1418, 88th Cong., 2d Sess. (1964),

U.S. Cope Conc. & Apmin. News, 88th Cong., 2d Sess. 3025,

3042-45 (1964).

wah PRR: BVPI LEI II RIE, th EF

AE aS Pe eee a fic Me ike.) sO atte bias

19b

C. The elaborate theories advanced to support first-

transaction liability conflict with the legislative

purpose and the logic of the statute itself.

Very much mistaken as to the legislative history, the

proponents of liability indulge in latter-day creation of

new rationales. Allis relies exclusively upon the theory

of “after-acquired information”, claiming that a “purchase

of a large block of securities followed by access to inside

information and sale thereof within a six-month period was

precisely the situation intended to be covered by §16(b)”

(Allis Br. 5). Congress intended precisely the opposite, as

shown above, and included only transactions in which inside

information precedes and motivates the first transaction,

so that a “sure-thing” profit carn be made in the second.?’

The “initial transaction . .. is an anticipatory action

based upon inside information, and the terminal transac-

tion is the profit-taking action.” Comment, supra, 20

U.C.L.A. L. Rev. at 1295 (footnote omitted). To base

automatic liability on access to information only after the

first transaction departs from the aim of the statute and

cannot be justified. Jd. 1295-97. Accord: Gold vy. Sloan,

supra, 486 F.2d at 349. Possible use of information ac-

quired after the initial transaction, commentators have

noted, is simply not a §16(b) problem—but clearly is a

10b-5 problem. Note, supra, 72 Micu. L. Rev. at 607 n.55;

Note, supra, 117 U. Pa. L. Rev. at 1042 n.39; Lowenfels,

supra, 54 Cornet L.Q. at 61-63.

27. “[T]he terms of the statute and its legislative history, both

. indicate that only double-transaction abuse rather than single-

transaction abuse was intended to be reached. The congressional

hearings . . . repeatedly describe its purpose in terms referring to

double- rather than single-transaction abuse—the curbing of ‘short-

term’, ‘in-and-out’ speculation on the basis of inside information.

Furthermore, the examples in the congressional hearings and reports

of the kind of abuse intended to be reached by section 16(b) include

no instances of single-transaction abuse, but in all cases describe situ-

ations in which advance information tainted both the purchase and

the sale.” Note, supra, 72 Micu. L. Rev. at 602-03.

20b

Indeed when such a theory of liability is tested, the

structure of the statute breaks down. For example, the

six month period, “under the statute itself, is assumed to

dissipate whatever trading advantage might be imputed to

a major stockholder”, Kern County Land Co. v. Occidental

Petroleum Corp., supra, 411 U.S. at 603. But if liability

is based on supposed information acquired after the six

months start to run, “the six month time period is illogical”,

Note, supra, 72 Micu. L. Rev. at 605. The key provision

“loses its efficacy as a presumptive device”, Comment,

supra, 20 U.C.L.A. L. Rev. at 1297.

Moreover, the presumption of abuse which is the core of

the statute simply cannot apply. Section 16(b) presumes

that a short-term purchase and sale preceded by access to

inside information is abusive. But no inference can arise

if only the sale can be connected with hypothetical inside

information:

“TRjecovery under section 16(b) is based on a pre-

sumption of abuse arising when an insider buys and

sells at a profit within six months. ... If the statute

were read to reach single-transaction abuse, the re-

quired facts would be insufficient to justify the pre-

sumption of actual abuse. The occurrence of two

transactions within a short time—a fact that would

otherwise indicate double-transaction abuse—cannot

justify the presumption of guilt when the initial

transaction is, by hypothesis, unrelated to the later

transaction.” Note, supra, 72 Micu. L. Rev. at 607-08.

Similarly, such a theory renders the statutory measure of

recovery wholly inappropriate. Recovery under §16(b) is

the difference between the purchase price and the sale price

—which works well when the theory is that the insider

bought stock with inside information, realizing his profit

upon the sale. But under a theory based upon post-acquisi-

tion information, this measure of recovery does not work

21b

at all, for the insider can only sell at a price higher than

some other selling price. The measure of his unfair advan-

tage is the difference hetween these two selling prices.

Section 16(b) cannot measure that profit (Rule 10b-5 can,

however**), Only by accident will the difference between

the purchase price and sale price equal the difference

between the two sale prices. The investor would pay a

recovery as if he purchased with inside information, which

hy hypothesis cannot be presumed.

This gross incompatibility between the spurious post-pur-

chase information theory and the statute’s operation” has

serious Constitutional implications beyond the demonstrable

conflict wit® Congressional intent. Section 16(b), which

imposes liability in the absence of actual wrongdoing, has

28. Under Rule 10b-5 the damage award attacks the abuse pre-

cisely; a wrongdoer can be charged with the difference between his

sale price and the market value that the stuck attained after the inside

information became public. See, e.g., SEC v. Texas Gulf Sulphur

Co., 446 F.2d 1301, 1307-08 (2 Cir. 1971), cert. denied, 404 U.S.

1005 (1972).

29. This incompatibility always compels a recovery which bears

no relation at all to the “profits” made by use of inside information,

rye,

An outsider buys over 10% of an issuer’s stock for $20 per share.

The stock soon rises to $50 per share. Less than 6 months after his

purchase he learns unfairly that earnings will decline, and he sells

for $50 per share. When the lower earnings are made public, the

niarket price drops from $50 to $45. By his abuse of information he

has gained an unfair advantage of $5 over the public stockholders.

But Allis’ theory would charge him with a $30 recovery instead.

Or take the converse case: He initially purchases stock at $20 per

share, and it rises to $25 in five months. At that time he learns

_“inside information” that earnings will be seriously cut, and he im-

mediately sells his stock at $25. When the news comes out the stock

tumbles from $25 to $10 per share. Clearly by his abuse of inside

information he has gained an unfair advantage of $15 over public

stockholders. But Allis’ theory would charge him with only a $5

recovery.

All such results are obviously irrational. The only time an insider

would be charged with an amount related to his unfair gains is if

the appreciation of his stock while he owns it exactly equals its

decline after his sale, and such an instance is sheer accident.

22b

been sustained only on the basis of its “remedial” quality

calling for forfeiture only of “unfair profits”, and a reason-

able relationship to the supposed unfair conduct.* But in

the case of an outsider’s purchase, the result is a capricious,

irrational penalty, bearing no relationship to any “profit

realized” from “the unfair use of information”.

Petitioner quotes an argument once made by the SEC, as

amicus curiae*', suggesting that an over-10% investor must

have pre-purchase inside information since he “necessarily

would deal in the negotiations looking toward the purchase,

with either the issuer or an insider holding a large interest

in the issuer” (P. Br. 27). Obviously this theory is woefully

inadequate in describing the likely means of achieving a

stock interest, and, in addition, relies upon a presumption

contrary to the statute itself.

This Court expressly rejected such an imputation in Kern

County, where it held claims of information based on “sub-

stantial stockholdings that did not yet exist” to be improper,

411 U.S. at 597. Similarly, to base liability on a supposed

pre-purchase “tip” from an insider is also clearly improper,

since Congress deliberately deleted “tippee” liability, and

it would impermissibly expand liability beyond those

“specifically designated by Congress to suffer those losses.”

30. Smolowe v. Delendo Corp., 136 F. 2d 231, 239 (2 Cir.), cert.

denied, 320 U.S. 751 (1943); see also Booth v. Varian Associates,

334 F. 2d 1, 3 (1 Cir. 1964), cert. denied, 379 U.S. 961 (1965);

Adler v. Klawans, supra, 267 F. 2d at 844.

31. Brief for SEC as Amicus Curiae at 5-6, Stella v. Graham-

Paige Motors Corp., 104 F. Supp. 957 (S.D.N.Y. 1952).

32. Indeed, this merely points out another valid distinction be-

tween managerial insiders and shareholders. The latter can acquire

. their position without any inside access, through exchange and tender

offers and market purchases, some of which may indeed require ex-

tensive prepurchase disclosure. Certainly, Congress refused to pre-

sume that one who becomes a “beneficial owner” had a prior insider’s

relationship, since all concede that it exempted purchases occurring

before 10% status, even if there are short-term sales occurring after

the statutory status has been reached.

REGO RAMA CH -TSONOPO EE eee es “Ee >

23b

Reliance Electric Co. v. Emerson Electric Co., supra, 404

U.S. at 427; Blau v. Lehman, supra, 368 U.S. at 411.

Petitioner seems to argue at length (P. Br. 33-35) that

this Court’s refusal to presume access to information in the

absence of the required shareholdings was erroneous, by

claiming that the statutory language can be construed to

include ownership of securities convertible into the required

holdings or binding contracts to buy such holdings. The

short answer is that the argument is irrelevant where the

investor holds no securities of the issuer whatever before

the purchase (much less common stock equivalents) and

holds no such contract. Indeed, whether a particular con-

tract for the purchase of securities can be the basis for a

§16(b) claim depends, at the least, upon affirmative proof

that it conveyed substantial prepurchase rights of owner-

ship and was intertwined with unfair access to inside infor-

mation (see Newmark v. RKO General, Inc., 425 F.2d 348,

356 (2 Cir.), cert. dented, 400 U.S. 854 (1970))—the very

elements which petitioner would assume by means of an

improper presumption.

Petitioner’s argument that an investor could acquire over

ten percent in hopes of manipulating market prices to sell

at a profit (P. Br. 28) simply ignores the limits and stated

purpose of §16(b). It clearly was not designed to provide

recovery based on every litigant’s fantasized claims of hypo-

thetical wrongdoing. There are extraordinarily effective

federal remedies for actual wrongdoing. Indeed, the claim

that “official” insiders’ liability is an “analogous issue” to

the question presented here (P. Br. 15) is plainly erroneous,

for it ignores precisely the distinction which the statute

draws.*’

Nor is it relevant that the acquisition of over ten per-

cent must be reported pursuant to § 16(a) (P. Br. 32), since

33. Thus cases involving officers or directors (P. Br. 23) are in-

apposite here.

24b

$16(a) reporting rules are not intended to determine

) 16(b) liability, see Chemical Fund, Inc. v. Xerox Corp.,

377 F.2d 107, 112 (2 Cir. 1967) ; Silverman vy. Landa, 200 F.

Supp. 193, 195 (S.D.N.Y. 1961), aff’d, 306 F.2d 422 (2 Cir.

1962), and serve different purposes, including publicity

alone. See H.R. Rep. No. 138, 73d Cong., 2d Sess 13 (1934).

Finally, petitioner argues that the “outsider’s” estimates

of the future value of the assets he exchanges for stock (P.

Br. 53-55), may be substituted for the required access to

confidential information of the issuer. This is a baseless

expansion of the statute, applicable only when the acquisi-

tion is from the issuer, and then only when nonmonetary

consideration is paid, and as such is clearly not a credible,

much less authentic, basis for “automatic” liability.

D. The decisions of this Court clearly reject the

attempt to take § 16(b)’s automatic liability

beyond its intended limits.

It seems to be contended (P. Br. 36; Allis Br. 8) that the

Court in Kern County decided that an outsider’s over-ten

per cent purchase is chargeable since the Court went on to

decide whether a “sale” took place. Initially, it is simply

unacceptable to argue that this Court, which expressly

reserved the issue in Reliance Electric where it was argu-

ably involved (404 U.S. at 421), would decide it by indiree-

tion in Kern County, where it was not involved at all. There

Occidental made an unconditional tender offer and bought

shares in many separate transactions as they were ten-

dered. After acquiring over 10% it extended its offer and

made a series of purchases after becoming a “statutory

insider”. See 411 U.S. at 591 n.20, 598. Occidental never

34. “It is recognized that many reports are required by Section

16(a) of transactions which are not subjected to Section 16(b)

liability.” SEC Securities Exchange Act Release No. 4801 (Feb.

20, 1953).

SEDI PTS REL MT OPES EI REL MIEN IE ED SG TENE ROPES SORELLE EN AM

~~

25b

raised the first-purchase issue because it was immaterial,’

and Occidental had more important concerns. Rather, it

sought to free all shares from liability by attacking the

alleged “sale”.

To the contrary, the analysis in Kern County certainly

bars liability here. There, the Court noted that Occidental

lacked large shareholdings, and it thus viewed its initial

purchases as statutorily innocent, even though made in a

eash tender offer which required no prospectus disclosure:

“fT]t owned only 1,900 shares of Old Kern stock, far

fewer than the 432,000 shares needed to constitute

the 10% ownership required by the statute. There

is no basis for finding that, at the time the tender

offer was commenced, Occidental enjoyed an insider’s

opportunity to acquire information about Old Kern’s

affairs.” Id. 596-97.

Rejecting the contention that Occidental should be held to

have foreseen a profitable “defensive” merger, the Court

said:

“Caleulations of this sort, however, whether specu-

lative or not and whether fair or unfair to other

stockholders or to Old Kern, do not represent the

kind of speculative abuse at which the statute is

aimed, for they could not have been based on inside

information obtatned from substantial stockholdings

that did not yet exist.” Id. 597 (emphasis supplied).

Even though Occidental had extended its offer after it be-

came a 10% “beneficial owner” and bought more stock, the

35. The 10% purchase issue was worthless to Occidental and

was not argued. Occidental purchased stock piecemeal as it was

tendered, and the initial purchase that put it over 10% was a single

tender at 2:46 p.m. on May 10, 1967. Excluding that initial purchase

was meaningless to Occidental. Instead, it sought exclusion of all

sub-10% purchases. Brief for Defendant-Appellant at 85, Abrams v.

Occidental Petroleum Corp., 450 F.2d 157 (2 Cir. 1971), aff’d sub

nom. Kern County Land Co. v. Occidental Petroleum Corp., supra.

4

oe |

Court rejected liability in light of the hostile relationship

with the issuer. And, treating the option issue in that case,

the Court stressed again the need for actual ownership in

the issuer:

“Occidental had no ownership position in Tenneco

giving it any actual or presumed insights into the

future value of Tenneco stock. That was the critical

item of intelligence ...” Id. 603 (emphasis sup-

plied).

Under this decision it simply cannot be argued that an

initial 10% purchase by an outsider with no previous

“relationship to the issuer” could be viewed as tainted.

None of the remaining decisions cited by petitioner and

Allis, to the extent they remain viable after Kern County,

support liability here.

Newmark v. RKO General, Inc., supra, expressly rejects

the idea that an “outsider’s” purchase could be based on

inside information, 425 F.2d at 356. There the court found

that the defendant became a statutory “beneficial owner”

and actually had inside information before making its pur-

chase,®* and it put liability on that basis:

“At the time it secured a conditional right to pur-

chase Central securities, RKO was in possession of

advance information of the type most likely to affect

the price of Central shares—confidential knowledge

of an impending merger with Frontier.” Jd. (empha-

sis supplied).

36. “[O]n the facts before us, we have no difficulty in deciding

that RKO became a beneficial owner of more than ten percent of

Central’s common stock before its purchase of Central shares... .

RKO entered into an agreement which granted it a conditional right

to purchase more than 50% of Central’s common stock at a fixed

price, ensured that Central would be managed in accordance with

its interests, and required a majority of Central shares to be voted

in support of a merger it favored. This contract, we conclude, granted

rights of ownership, particularly those rights most important to the

speculative purchaser, so substantial as to make RKO a ten percent

beneficial owner of Central at that time.” 425 F.2d at 356.

we Pox ii i ee ee ae

PPE SEI LOD gL LIN AI PII EPID IIIT IY IRIE, AEE

27b

Thus the transaction occurred in the critical statutory

sequence :

“Accordingly, we conclude that RKO became a

Central insider, purchased Central securities and,

less than six months later, sold these securities.”

Id. (emphasis supplied).

Allis relies (Allis Br. 9-11) on the lower court ruling in

Emerson Electric Co. v. Reliance Electric Co., 434 F.2d 918

(8 Cir. 1970), on a point not pursued in this Court, but this

decision is of infirm validity after Kern County. The in-

vestor in Emerson bought 13% ownership in a pre- Williams

Act eash tender offer and urged that the purchase was

excluded by the exemptive proviso. The court sought to

justify liability on the basis of a situation not before it,

hypothesizing “potential mischief” different from the stat-

ute’s intended target:

“Tllustrative of some of the mischief that would

be permitted in spite of Congress’ action in enacting

16(b) if we accorded with Emerson’s contentions is

an initial purchase of as large a block of stock as

51 percent or more of a corporation’s stock, followed

by a sale any time within six months by the stock-

holder who obviously within that period could obtain

much inside information and also could influence,

manipulate, or control corporate transactions. The

deterrence of such apparent potential mischief must

have been within the contemplation of Congress.”

Id. 924.

To base liability on a hypothetical 51% acquisition followed

by supposed manipulation, when the case actually involves a

non-controlling 13% shareholder rejected by management,

conflicts with Kern County, under which courts are to con-

sider “whether the transaction may serve as a vehicle for

the evil Congress sought to prevent,” 411 U.S. at 594 (em-

iad

BEES S SO a i Ra a

28b

phasis supplied) ; see also id. 594 n.26, 595. Furthermore,

at least insofar as §16(b) relates to mere investors, its

expressed concern is abuse of information, not hypothesized

manipulation. Adler v. Klawans, supra.

More basically, the Eighth Circuit was primarily moti-

vated by the thought that §16(b) should include ary

“profits” from opportunities created by defensive tactizs

in contests for control:

“An insider engaged in a contest for control of its

stock issuer may have substantial opportunity for

short-term profits perforce of its substantial stock

ownership. In less than three months from its stock

purchase Emerson apparently had made substantial

short term profits related to its stock acquisition

activities in its effort to gain control of Dodge.” 11.

924 (footnote omitted).

But the Court in Kern County later held, expressly to the

contrary, that use of inside information—not calculations

related to contests for control or the advantage of “lever-

age” from “large stock ownership itself”, 411 U.S. at 602—

is the only concern of $16(b). “If there are evils to be

redressed by way of deterring those who would make tender

offers, § 16(b) does not appear to us to have been designed

for this task.” Id., 597-98.

The facts in Stella vy. Graham-Paige Motors Corp., 104

F. Supp. 957, aff’d in part, remanded in part, 232 F. 2d 299

(2 Cir.), cert. denied, 352 U.S. 831 (1956), do not support

liability here.**7 Stella involved a large shareholder which

cofounded the issuer and originally owned 50% of its stock,

which holdings were recently diluted through newly issued

37. The entire “first purchase” issue in Stella was actually moot,

because there was no “profit realized”, Stella v. Graham-Paige Motors

Corp., 259 F. 2d 476 (2 Cir. 1958), cert. denied, 359 U. S. 914

(1959), and profit is a substantive element of liability under § 16(b),

Blau v. Lamb, 163 F. Supp. 528, 532 (S.D.N.Y. 1958).

SB I PIE IB RM EI OEE EIN SE LS OO LEED BI Te Ns EIEN NT ES ina a emer OE a RA PS NL, MR OME BOT

29b

shares to 6.25%. Its purchase, raising its iaterest to 21%,

was made pursuant to a voting trust agreement with the

other founder of the company, which itself owned 9.25%

of the stock (104 F. Supp. at 958). The court was faced

with an insider-in-fact before the purchase.

The court interpreted §16(b) solely to deter double-

transaction abuse, where inside information pre-dates both

the purchase and the sale. The defendant argued that an

initial transaction could never create liability, but the court

raised the problem of persons with a previous inside “rela-

tionship to the issuer” (the very case before it) :

“If the construction urged by the defendant is

placed upon the exemption provision, it would be

possible for a person to purchase a large block of

stock, sell it out until his ownership was reduced to

less than 10%, and then repeat the process, ad infini-

tum.” 104 F. Supp. at 959.

Obviously this reasoning only applies in a case of re-

current insider status (as in Stella itself) and would have

no bearing on an investor with no previous relationship to

the issuer. Moreover, the expansionist basis of Stella is not

viable after Reliance Electric. There the Court, holding

that the exemptive proviso excluded the second sale, specifi-

cally rejected so-called “policy” arguments designed to

bring it within the act by evidence of a pre-existing intent,

or by using a “presumption of a taint” based on a recent,

but not current, “inside” relationship (404 U.S. at 423, 424).

The general claims that this Court should ignore

the terms and delimited purpose of the statute in order

to construct liability and thus prevent supposed “loopholes”

or “evasions” of the “policy of §16(b)” (P. Br. 28; Allis

Br. 9) merely beg the question by assuming that Congress

intended the “proofless” recovery of § 16(b) to be applied

loosely and without limits, and specifcially err in ignoring

—_

4 se RSM ren pasenpen oo ar IH RC: Ure ery asLaP EN ore

TCR —

30b

precedents against “adding to the ‘prophylactic’ effect Con-

gress clearly prescribed in § 16(b)”, Blau v. Lehman, supra,

368 U.S. at 411.

The statutory exemption cannot be ignored, Reliance

si Electric Co. v. Emerson Electric Co., supra, 424, but must

be construed by “endeavoring to implement congressional

objectives without extending the reach of the statute beyond

‘ts intended limits.” Kern County, supra, 411 U.S. at 594-95.

Those objectives cannot be served by imposing a liability

which is fabricated by artificially attaching the label of

“insider trading” to an innocent transaction by an outsider,

and presuming unfairness without any foundation in rea-

son or fact, contrary to the legislative intent.

Conclusion

The judgment of the Court of Appeals for the

Ninth Circuit is correct in its application of §16(b)

and should be affirmed.

Respectfully submitted,

Wuitney Norta Seymour

One Battery Park Plaza

New York, New York 10004

Counsel for Gulf & Western

Industries, Inc.

Of Counsel:

Joun A. Guzzerra

Bernuarpt K. Wrusie

Conrap K. Harper ‘

Lixpsay A. Lovesoy, Jr.

Simpson Thacher & Bartlett

June 20, 1975