Recent Developments Regarding the Misappropriation Theory in Securities Fraud Actions
| DOI | https://doi.org/10.1108/eb025850 |
| Published date | 01 February 1998 |
| Date | 01 February 1998 |
| Pages | 381-384 |
| Author | Charles E. Dorkey |
| Subject Matter | Accounting & finance |
Journal of Financial Crime — Vol. 5 No. 4 — Misappropriation
MISAPPROPRIATION
Recent Developments Regarding the
Misappropriation Theory in Securities Fraud
Actions
Charles E. Dorkey III
On 25th June, 1997, the US Supreme Court
issued an important decision in which it endorsed
an expanded theory of insider trading liability
under the federal securities laws. In United
States
v
O'Hagan,1 the Court held, in a 6-3 decision, that a
person who misappropriates confidential informa-
tion for securities trading purposes, in breach of a
duty owed to the source of the information, may
be found liable for securities fraud under s. 10(b)
of the Securities Exchange Act of 1934 (the
'Exchange Act')2 and SEC Rule 10b-5,3 which pro-
hibit the use of fraud or deception 'in connection
with the purchase or sale of any security'. In
endorsing the 'misappropriation' theory, the Court
resolved a longstanding split among the federal
Circuit Courts of Appeal and upheld an important
tool in the prosecution of securities fraud. Separa-
tely, the Court held that the Securities and
Exchange Commission (SEC) did not exceed its
rulemaking authority under s. 14(e) of the
Exchange Act4 when it adopted Rule 14e-3(a),5
which prohibits trading on the basis of material,
non-public information concerning a tender offer,
without requiring the government to show a
breach of fiduciary duty.
The case concerned the liability of James
O'Hagan, a partner in the law firm of Dorsey &
Whitney in Minneapolis, Minnesota. In July 1988,
Grand Metropolitan PLC ('Grand Met') retained
Dorsey & Whitney to represent it regarding a
potential tender offer for the common stock of
Pillsbury Company. In August 1988, O'Hagan, a
litigator who did no work for Grand Met, began
purchasing call options for Pillsbury stock. Dorsey
& Whitney withdrew from representing Grand
Met in early September 1988. By the end of that
month, O'Hagan had purchased 2,500 Pillsbury
call options, as well as
5,000
shares of Pillsbury
common stock. When Grand Met announced its
tender offer in October, the price of Pillsbury
stock rose dramatically, and O'Hagan sold his call
options and stock at a profit of over $4.3m.
The SEC commenced an investigation into
O'Hagan's transactions. The investigation culmi-
nated in a 57-count indictment alleging multiple
counts of mail fraud, securities fraud, fraudulent
trading in connection with a tender offer, and vio-
lation of federal money-laundering statutes. With
regard to the securities fraud counts, the indict-
ment alleged that O'Hagan, in breach of a duty of
trust and confidence he owed to Dorsey & Whit-
ney and Grand Met, traded on the basis of non-
public information regarding Grand Met's planned
tender offer for Pillsbury common stock. A jury
convicted O'Hagan on all 57 counts, and the dis-
trict court sentenced him to a 41-month prison
term. A divided panel of the Court of Appeals for
Page 381
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