Mark J. Loewenstein and William K.S. Wang
With regard to issuer purchases, some of the traditional policy rationales against insider trading do not apply or apply with less force. Nevertheless, courts, commentators, and the SEC have all stated or assumed that a public corporation violates rule 1Ob-5 by buying its own shares in the market based on material, nonpublic information. In rule 1Ob-5 cases involving face-to-face transactions, several circuit courts have ruled that the company may not purchase its own stock based on material information not known to the seller. No good reason exists not to apply these precedents to stock market trades by issuers, especially because block trades blur the distinction between face-to-face transactions and stock market trades.
Some decisions involving face-to-face transactions have relied on a fiduciary duty running from the corporation to the seller. Although this duty has some appeal, it is unsupported by traditional state law fiduciary duty analysis. The company can act only through its board of directors, officers, employees, and other agents. These actors are obligated to act in the best interests of the corporation, which may not coincide with the best interests of an individual shareholder transacting business with the company.
Under rule 1 Ob-5, the most compelling reason for issuer insider trading liability may simply be that no strong reason exists to distinguish the corporation from a corporate “insider,” i.e., an employee or independent contractor. Such an “insider” has a Chiarella/Dirks classical relationship with the innocent shareholder on the other side of the insider trade because of a mutual relationship with the issuer. When an issuer trades on material, nonpublic information, innocent shareholders have a “classical relationship” with the corporation because of their investment. In other words, the relationship between the issuer and one of its shareholders is, if anything, closer than the relationship between an employee/independent-contractor and a shareholder.