The indictment of Rajat K Gupta on conspiracy and securities fraud charges presents the Justice Department with new challenges it has not faced in prosecuting other cases involving insider trading by the hedge fund manager Raj Rajarathinam. Wiretaps of Rajarathinam played a key role in his own conviction, but whether they will be admissible in court against Gupta, a former Goldman Sachs director, will be a key point that could tip the balance of the case.
Even if prosecutors can use some of the wiretaps in Gupta’s case, they will also have to show that he provided inside information about Goldman Sachs to Rajarathinam expecting him to trade on it and received a benefit in return. Simply telling someone confidential information is not a violation of the securities laws until the government proves it was done as part of a quid pro quo arrangement.
At Rajarathinam’s trial, prosecutors played two wiretapped calls during which he boasted to a trader at his firm, the Galleon Group, that he had a source inside Goldman Sachs who was providing information about Warren E Buffett’s $5 billion investment in Goldman and the fact that the firm would announce its first quarterly loss. Telephone records show that Gupta spoke with Rajarathinam moments after he learnt this information at board meetings during the financial crisis. Putting together the wiretaps with the records will be strong circumstantial evidence that Gupta passed along confidential information on which Rajarathinam traded.
The indictment also cites a telephone call in which Gupta spoke with Rajarathinam about the quarterly results at Procter & Gamble, where he was also a director. But Rajarathinam does not appear to have made any money on that information, so this disclosure is only charged as part of the conspiracy and not as one of the five securities fraud counts.
Gupta was not a party to the two wiretapped calls that Rajarathinam made about Goldman, however, so this would constitute hearsay and usually not be admissible at his trial. An important exception to the hearsay exclusion, however, is Federal Rule of Evidence 801(d)(2)(E), which provides that the statement of a co-conspirator made “during the course and in furtherance of the conspiracy” is admissible against all conspirators. Thus, if Rajarathinam’s boasts come within this exception on co-conspirators, then they can be used against Gupta even though he had no part in those conversations, and indeed probably was completely unaware of them at the time.
The indictment accuses Gupta of being in a conspiracy to commit securities fraud with Rajarathinam, but this alone does not establish that the wiretapped calls are admissible under the co-conspirator exception. The prosecution will have to introduce enough evidence to permit the judge in Gupta’s case to find that there was a conspiracy between the two men. And because this is an evidentiary question it requires only proof of the conspiracy by a preponderance of the evidence.
This lower standard will be helpful to the government in its effort to get the wiretaps admitted in court against Gupta, but it does not guarantee they can be used at his trial.
If the two wiretaps are not admissible under the co-conspirator exception, then the case against Gupta will depend largely on the circumstantial evidence of the timing of his telephone calls to Mr. Rajaratnam and Galleon’s trading shortly afterward. Insider trading cases have been made on just that type of evidence showing suspicious circumstances, but it is not an easy one to prove, especially when the defendant is a well-regarded business executive.
Even with the wiretap evidence, prosecutors will have to show that Mr. Gupta received a benefit from passing the information to Mr. Rajratnam and gave it to him with the expectation that he would trade on it. Mr. Gupta is accused of being a tipper, and just passing along information is not a breach of his fiduciary duty that proves securities fraud. In Dirks v. S.E.C., the Supreme Court stated that to prove insider trading by a tipper “the test is whether the insider personally will benefit, directly or indirectly, from his disclosure. Absent some personal gain, there has been no breach of duty to stockholders.”
The indictment refers to the long personal relationship between Mr. Gupta and Mr. Rajaratnam, including investments they made together. Had a portion of the money from Galleon’s insider trading been funneled to one of their investment funds, then this would be a much easier tipping case because of the monetary benefit provided.
Prosecutors have not alleged that Mr. Gupta received any monetary gain from Mr. Rajaratnam, or that there was a quid pro quo exchange between them for the disclosure of inside information about Goldman. The indictment is vague about how Mr. Gupta benefited from the Mr. Rajaratnam’s trading, and the government may rely on a statement in the Dirks case that a benefit may occur when “an insider makes a gift of confidential information to a trading relative or friend.” The problem with a gift theory in showing a benefit is that there does not appear to be any direct evidence, so prosecutors will have to rely on the personal relationship for the jury to infer this element of the purported crime.
Proving that Mr. Gupta received some type of benefit will be crucial to the government’s case because without it there is no tipper liability for insider trading. Prosecutors were able to show that other defendants who tipped Mr. Rajartnam, like Rajiv Goel and Anil Kumar, had a stake in his successful trading. Mr. Gupta, however, did not trade on the information, and the three instances in which he is accused of making improper disclosures may be sufficiently isolated that he can raise doubts about whether there was any intent to benefit from it.
This issue may signal a potential line of defense that Mr. Gupta can offer at trial, especially if the wiretap evidence is admitted. While it will be difficult to deny that he spoke with Mr. Rajratnam at crucial times, Mr. Gupta can defend himself against the charges by arguing that he was just telling a friend about corporate developments but never expected to benefit from it personally. In effect, he can try to throw Mr. Rajaratnam “under the bus” by arguing that he was as much of a victim of insider trading because his trust was betrayed by a longtime friend.
I expect Mr. Gupta will be able to call witnesses who will attest to his good character and reputation for honesty. This type of evidence can support a defense that he was an unsuspecting dupe and not a conspirator leaking inside information, especially when it is not apparent how he benefited from the Galleon trading.
Mr. Gupta’s lawyer said that his client was an “innocent man and that he acted with honesty and integrity.”
So far, the Justice Department has been successful in all of its recent insider trading trials in proving defendants traded on material nonpublic information. The prosecution of Mr. Gupta, with its challenges, will determine whether the government can keep that winning streak intact.
©2011 The New York
Times News Service
