2010 • Volume 35 • Number 2

SEC v. Cuban: the Misappropriation Theory and Its Application to Confidentiality Agreements under Section 10(b) and Rule 10 (b)(5)-(2) of the Securities Exchange Act of 1934

Robert Bailey, Jr.

Section 10(b) of the Securities Exchange Act of l934 was designed to prevent manipulative and deceptive conduct in connection with the purchase or sale of securities. Its purpose is to promote fairness and integrity in the securities markets. Pursuant to its intended purpose, individuals are liable under section 10(b) when they engage in insider trading an individual’s deceptive acquisition and use of material nonpublic information in the purchase or sale of securities. Insider trading can be analyzed in two separate contexts: the classical theory, which focuses on corporate insiders; and the misappropriation theory, which extends insider trading liability to certain corporate outsiders. The issue most often debated under the misappropriation theory is determining which relationships fall within the scope of section 10(b) liability.

In 2000, the Securities and Exchange Commission (SEC) promulgated Rule 10b5-2 in an attempt to codify the types of relationships that are within the purview of the misappropriation theory. Although the rule was enacted pursuant to congressional authority, courts have sharply divided on whether or not it has inappropriately extended the scope of section 10(b).

This comment takes the position that Rule 1Ob5-2 is valid and will discuss how it provides much needed clarity to the misappropriation theory. Rule 10b5-2 will be evaluated in light of the District Court for the Northern District of Texas’s recent decision in SEC v. Cuban. Ignoring Rule 10b5-2, the court held that Mark Cuban’s sale of his 6.3% stake in Mamma.com, a web search technology company, based on confidential information that he received from the company’s CEO, was not a violation of insider trading under the misappropriation theory because he did not also acquiesce to a no-use agreement. This comment takes the position that Cuban was improperly decided, and its decision to ignore Rule 10b5-2 will further exacerbate the problems of fairness and clarity in federal securities law.