Rajat Gupta’s arrest in the US has shocked the global business community. How does the evidence stack up against him?
A well-known photograph taken of Rajat Gupta from Davos, where he was attending the summit for World Economic Forum reveals a strained, almost haggard face, seemingly weighed down by the economic crisis and onerous responsibilities of countless blue chip company boards as any titan of business would be. Or, could it be that the real reason for Gupta’s grave persona was because he was tortured by what he was upto at the time—allegedly funnelling confidential information gleaned from his numerous company board meetings to now-imprisoned hedge fund manager Raj Rajaratnam ?
That’s what the New York District Attorney’s office seems to be saying by arresting Gupta a few days ago on insider trading charges after successfully putting his accomplice Rajaratnam behind bars for eleven years—the highest sentence for insider trading to date. Much of the sordid saga surrounding Gupta is known: That on Sept 23, 2008 Gupta, who was a director on the board of arguably the world’s most powerful investment bank, hung up and promptly called his buddy Rajaratnam 16 seconds later. In that conversation, Gupta told Rajaratnam about Warren E. Buffett’s impending $5 billion investment in Goldman during the financial crisis. Moments later, Mr. Rajaratnam purchased shares in Goldman, ultimately netting about $840,000, according to the indictment.
Then, a few months later, on October 23rd, 2008, the DA’s office says that Gupta once again called Rajaratnam a mere 23 seconds after a Goldman board call to spill the beans—this time, a 13 minute call about Goldman’s soon to be released negative earnings results. According to the SEC, Rajaratnam later made Galleon sell its entire position in Goldman, avoiding a loss of more than $3.6 million. Gupta apparently leaked similar information to the Galleon founder about Proctor and Gamble’s upcoming earnings release in January 2009. The information on Goldman allegedly made Rajaratnam's funds $23 million richer while the Procter & Gamble data apparently created illegal profits of more than $570,000.
Could Rajat Gupta beat the insider-trading rap altogether? Charges against Gupta carry a maximum sentence of 100 years collectively. Yet, it is widely believed that none of the conversations mentioned between Gupta and Rajaratnam were taped. If this is true, then the prosecution has the challenge of basing its case largely on hearsay and without proof of material gain—things that could torpedo its case. Gupta’s defence says that it was completely natural for Gupta and Rajaratnam to be talking frequently. “There were legitimate reasons for any communications between Mr Gupta and Mr Rajaratnam – not the least of which was Mr Gupta’s attempt to obtain information regarding his $10 million investment in the GB Voyager fund managed by Mr Rajaratnam,” says Gupta’s lawyer Gary P. Naftalis. Gupta’s prosecution is being spearheaded by yet another South Asian—Preet Bharara—son of Indian immigrants who grew up in Asbury Park and who is (naturally) a Bruce Springsteen fanatic. If Bharara does have the ‘smoking gun’—a tape where Gupta incriminates himself—it’s probably curtains for Gupta. Till then though, Gupta’s chances are about even.
There is however one tape that is available on the internet that pretty much puts the nail in Gupta’s reputational coffin, whether he is convicted or not for insider trading. Again, this one involves a conversation with Rajaratnam. Around the time of this chat, Rajratnam had begun getting regular tips from Anil Kumar, another senior McKinsey hand. First, Rajat reveals to Raj on tape that both Wachovia and AIG were discussed as possible targets by the Goldman board during its meeting. This, as anyone of Gupta’s stature should know, was strictly no-no. Then comes an even more damning bit. Rajaratnam discusses payments to Anil Kumar in lieu of the tips he gave Raj. Gupta first says, “I think you’re being very generous ,” to which Rajaratnam says, “I’ve given him a million bucks, after tax, off shore, cash...” Gupta agrees, saying “Yeah, yeah.” Here Gupta clearly has knowledge of ‘off-shore’ payments made to a McKinsey partner who is still employed by the firm.
In the twilight of his career, Gupta should have been coasting, enjoying being on some of the most powerful boards in the world, spearheading important initiatives in health and education in India and basking in the pleasant afterglow of being one of the most influential leaders that India has produced. Instead, he is already looking at the utter destruction of his corporate career that once aspired to hold trust, confidentiality, and responsibility as its core values.
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Or at least that’s the code that long time managing director Marvin Bower—who transformed McKinsey into a world class outfit in the 50s and 60s—considered to be the DNA behind the firm. Bower’s emphasis was more on performance rather than making money, where professionalism and a strict code of ethics formed the backbone of the company. Bower would be a distraught man if he were alive today to see not one but two from the ranks of his beloved firm involved in a seedy insider trading case.
Insider trading is a very different animal from other white collar crimes, such as accounting fraud. It has drama and intrigue, coded messages passed from one to another. The icon for this still is Michael Milken, who ruled the world of finance from Los Angeles, sitting on a long ‘X’ shaped desk so he could have easy access to his traders. Milken is a controversial figure—many credit him with creating financial instruments such as high yield bonds (or junk) which allowed the birth of industry-creating or transforming companies such as MCI. Milken was ultimately imprisoned for market manipulation by creating—along with fellow co-conspirators Ivan Boesky, Martin Siegel, and Dennis Levine—the most sophisticated insider-trading ring in financial history. Milken was sentenced to ten years, which was reduced to two and he ended up serving 22 months.
Does Gupta deserve a similar fate? The funny thing about white collar crime in the US is that it all depends on the crusading zeal of the prosecutor or the difficulty in convicting someone for the crime. For instance, right before the financial crisis, D. Keith Johnson, former president of Clayton Holdings, a company that evaluated quality of mortgages for banks and credit rating agencies, recently told the Financial Crisis Inquiry Commission that he warned these firms that nearly half the loans were dodgy. Investment banks—Deutsche Bank and Morgan Stanley amongst others—apparently went ahead and used them anyway.
Yet, after the world’s economies almost collapsed and millions of people suffered unimaginable financial losses globally, not one arrest has been made in potentially the biggest financial scam in the history of human enterprise. Truth is, no prosecutor wants to risk seeing the glazed looks of jurors trying to comprehend the confounding arcana of how Collaterized Debt Obligations are structured or used as hedging instruments. By contrast, insider trading is fairly easy to try and prove.
This isn’t good news for Gupta. Nor is it for consulting firms in general, and McKinsey in particular, since they can be easy targets of prosecutors hoping to score points. The firm will have the temptation to shunt what must be an exceedingly distasteful incident aside, call it an aberration and move on. Instead, what it should do is to ask itself whether it is just remarkable coincidence that two out of the four tipsters in the Rajaratnam case have come from their ranks. McKinsey is a notoriously straight-laced firm that prides itself on its blue chip clientele, the quality of advice it gives its clients as well as its global rolodex. It will be desperately hoping that no more of its members come tumbling out of Rajat Gupta’s closet or it may well suffer the same fate as Arthur Andersen during the Enron scandal, which is disintegration.
Fact is, no consulting firm is immune from this kind of soap opera. A management consultant is an information arbitrageur, and as Christopher McKenna, a professor at the Oxford University’s Saïd Business School who studies professional services firms, says, “consultants will carry information in and information out. The client has to decide which of those flows is worth more.” The consultant is forever dealing with the grey area of what is confidential and what isn’t, and perhaps what can be leveraged for new business and what cannot. Sometimes, hiring a consultant can be a ruse to extract critical information about the competition—a game that the consultant is often willing to play.
Could Rajat Gupta have, in some fashion, unthinkingly transplanted a commonplace practice within his own profession into another sphere where it was illegal? Unlikely, considering his credentials. So why did he do it? Speculation abounds. The ones most plausible are that here was a man in a compartively sedate profession who was more of a consiglieri—a Robert Duvall rather than a Marlon Brando—in the world of business. While he made good money—probably a couple of million dollars a year—he was not the ‘high roller’ that he wanted to be. There he was, one of the most famous and eminent business personalities with a net worth that was an embarrassingly paltry amount when compared to his other IIT or HBS brethren such as the likes of Kanwal Rekhi, Desh Deshpande or Vinod Khosla.
What Rajat did have was Raj, whom he probably saw as a stairway to financial heaven and whom he was eager to please. In fact, the tangled tale of Anil, Rajat and Raj go back to when the two McKinsey hands were in India during the dot com mania of the late 90s. Rajat and Anil—the latter a protégé of the former—reportedly engineered a way to ask for equity stakes instead of fees, which was unheard of at McKinsey. By then Anil, an IIT-Bombay and Wharton product, was well ensconced as a guru of the business of Knowledge Management while Gupta, the sage patrician, was enjoying his halcyonic last years at the firm. Then came Raj who became a sizeable presence in their lives. It quickly became an incestuous circle. Gupta and Kumar had already joined hands in founding the Indian Business School. The three of them (along with some others) then launched New Silk Route Ventures—a $1.3 billion private equity-hedge fund vehicle. Gupta began investing millions of his own money in Rajaratnam’s funds. And apparently, Rajaratam, Kumar, and Rajiv Goel, a mid-level Intel executive who was also arrested for leaking information to Raj, were all Wharton classmates.
In the same conversation that had mentioned Wachovia and AIG, Rajat tells Rajaratnam that “you know, I can be helpful in Galleon International. By the way, not Galleon International, Galleon Group…” His tone is almost servile, and the rest of the conversation, where he asks Rajaratnam for advice on joining KKR as an advisor is almost that of an anxious younger brother. Was this how Rajat hoped to join the true masters of the financial universe, by offering Rajaratnam seemingly innocuous, juicy little tips so he could get a piggy back ride to an oases of riches? Or is that how business works in the rarefied atmosphere of prestige and power, globally, where Gupta is just a naive minnow who got caught in a large net and we remain the equally naive public who is blind to the way things really work.
It is unseemly to condemn a man without a fair trial, so one can only say more when the case hits the courts next year. Till then, perhaps the only person who can offer an oblique commentary on what has transpired in this bizarre drama is the swashbuckling corporate raider Gordon Gekko (played by Michael Douglas), in Oliver Stone’s classic film Wall Street. Gekko is equal parts Michael Milken and corporate raider Carl Icahn, strutting about during a company’s shareholder meeting, berating them that “greed, for the lack of a better word, is good. Greed is right. Greed works.” We would hope, for Gupta’s sake, and for the sake of our own implicit trust in so many things that we take for granted, that Gekko is wrong.
