United States District Court, D. Vermont
OPINION AND ORDER DENYING DEFENDANTS' MOTIONS FOR SUMMARY JUDGMENT (Docs. 211, 222, 224, 228)
CHRISTINA REISS, Chief District Judge.
Plaintiff Securities & Exchange Commission (the "SEC") brings this action pursuant to Section 10(b) of the Securities Exchange Act of 1934 ("the Act") and Rule 10b-5 thereunder, 15 U.S.C. § 78j(b), and Section 17(a) of the Act, 15 U.S.C. § 77q(a), against Chad C. McGinnis, Sergey Pugach, and Janusz Suchowiejko (collectively, the "Defendants").
In Count One of its First Amended Complaint, the SEC alleges that Defendants violated Section 10(b) of the Act and Rule 10b-5 by obtaining material nonpublic information and misappropriating or otherwise misusing that information in breach of a fiduciary duty, or other duty arising out of a relationship of trust and confidence, in order to make profits by trading or tipping others. (Doc. 128 at 18-19.) In Count Two, the SEC asserts that Defendants violated Section 17(a)(1)-(3) of the Act in connection with the offer or sale of a security. Id. at 19-20. According to the SEC, Defendants violated the Act from 2010 until July of 2013 when Mr. McGinnis was terminated from employment at Keurig Green Mountain ("KGM").
Pending before the court are four motions for summary judgment. Mr. McGinnis moves for partial summary judgment with respect to the SEC's claims against him based on his alleged conduct during the years 2010, 2011, and 2012. (Doc. 211-2.) He contends that the SEC cannot establish that he possessed material nonpublic information during those years. Mr. McGinnis also filed a separate motion for summary judgment, arguing that the court should relieve him of liability for damages stemming from Mr. Pugach's and Mr. Suchowiejko's KGM trading profits pursuant to United States v. Newman, 773 F.3d 438 (2d Cir. 2014). (Doc. 228.)
Mr. Pugach and Mr. Suchowiejko move for partial summary judgment in a joint conditional motion, arguing that if the court grants Mr. McGinnis's motion for partial summary judgment pertaining to the 2010-2012 time frame, it must also enter judgment in their favor because the SEC has not alleged that either Mr. Pugach or Mr. Suchowiejko received material nonpublic information from anyone other than Mr. McGinnis. (Doc. 224.) The SEC agrees that if Mr. McGinnis prevails on his motion for partial summary judgment, Mr. Pugach's and Mr. Suchowiejko's joint conditional motion should be granted. Mr. Suchowiejko moves separately for summary judgment, arguing that the SEC cannot establish that he knew or should have known that he received material nonpublic information. (Doc. 222.)
The SEC opposes all of the motions except the joint conditional motion for the reason previously noted. It argues that a forensic analysis of Mr. McGinnis's use of his KGM computer in 2013 reveals that he repeatedly accessed KGM's material nonpublic information and that this evidence is admissible in the court's consideration of the pending motions. Mr. McGinnis counters that the 2013 evidence is inadmissible as "propensity" evidence under Fed.R.Evid. 404(b).
The court heard oral argument on May 12, 2015. At the parties' request, the court permitted additional briefing on the issue of whether the SEC's 2013 forensic evidence is admissible in analyzing the events that took place in 2010-2012. These filings were completed on July 13, 2015, at which time the court took the pending motions under advisement.
The SEC is represented by Dugan Bliss, Esq., James A. Scoggins, Esq., and Gregory A. Kasper, Esq. Mr. McGinnis is represented by Michael Q. English, Esq. and Kevin M. Henry, Esq. Mr. Pugach is represented by Alan J. Sobol, Esq., Edward B. Lefebvre, Esq., Megan Youngling Carannante, Esq., and Craig S. Nolan, Esq. Mr. Suchowiejko is represented by Maryanne E. Kampmann, Esq.
I. The Undisputed Facts.
A. Mr. McGinnis's KGM Employment.
In late 2006, Mr. McGinnis began working for KGM as an information technology employee, designing and developing KGM's SharePoint sites. From 2010 through July of 2013, he managed a team of KGM employees who were responsible for all of KGM's SharePoint sites. During that time period, KGM stored its draft SEC filings, press releases, and information associated with its quarterly earnings reports in a folder within the Finance/Private shared folder tree (the "Finance/Private folder"). Mr. McGinnis did not have access to the Finance/Private folder using his own username and password. He was, however, able to utilize the "super user" Batchops login and password, which provided access to all of the files and folders within the KGM network file share system. In addition, KGM had a password protected service account called User-A which was used to run software services.
During the time period between 2010 until November of 2012, KGM did not monitor access to the Finance/Private folder. There is no evidence that Mr. McGinnis was seen improperly viewing KGM's material nonpublic information during the 2010-2012 time period.
In the course of his KGM employment, Mr. McGinnis received stock options as part of KGM's employee stock purchase program. Shortly after commencing his employment at KGM, he began researching KGM's stock, including publicly available information, but he did not purchase any proprietary research, or have access to the kinds of resources that professional traders and money managers would have, such as a Bloomberg terminal. Between 2010 and July of 2013, KGM was an "extremely volatile" stock, and its price moved at least 9.38% after twelve of the thirteen at-issue earnings announcements. (Doc. 211-1 at 4, ¶¶ 28-29.) The parties agree that, due to the significant stock price volatility, hedging was a viable options trading strategy for KGM's securities around earnings announcements.
From 2010 through 2013, Mr. McGinnis actively traded KGM securities, as well as non-KGM securities such as Apple and Google. During this time period, KGM periodically made earnings announcements that were available to the general public. Mr. McGinnis traded 42% more dollars in KGM securities outside of the earnings announcements than he did during the days immediately preceding earnings announcements. He also invested 40% more dollars in Apple securities than he did in KGM earnings announcement trades. Although Mr. McGinnis both made and lost money on his trading during the 2010-2013 time period, he made over $2, 000, 000 on his KGM earnings announcement trades and approximately $70, 000 on his KGM non-earnings announcement trading, while on the whole losing money on his non-KGM trading.
In November of 2012, KGM began tracking access to its SharePoint site. The SEC proffers a forensic report by Daniel L. Regard II, Managing Director of Intelligent Discovery Solutions, Inc.,  (the "Regard Report") that purports to show that, in 2013, Mr. McGinnis repeatedly used the Batchops super user login as well as his regular login to access KGM's material nonpublic earnings information. The Regard Report further purports to show that Mr. McGinnis repeatedly accessed the home page of the KGM Sales Portal, where KGM stored certain material nonpublic financial documents such as "two key sales metrics: how KGM's in-home sales compare to the prior year's sales, and how they compare to the current year's budget." (Doc. 239 at 8.) On two specific occasions, the Regard Report allegedly shows that "Mr. McGinnis also viewed other charts on the Sales Portal home page, tracking sales of specific product lines at KGM, including the K-Cup, " id., and that Mr. McGinnis viewed material on the Sales Portal hours before making trades prior to KGM's May 8, 2013 earnings announcement.
B. The Relationship Between Mr. McGinnis and Mr. Pugach.
Mr. McGinnis and Mr. Pugach attended the same college, worked together at the same employer in the early 2000s, and are "very good friends, " as are their spouses. (Doc. 243-2 at 3.) Mr. Pugach served as a groomsman in Mr. McGinnis's wedding and has performed some work around Mr. McGinnis's house. They have exchanged gifts on special occasions such as weddings, baby showers, and birthdays, including a ratchet set, a small collectible coin, a financial wedding gift of $300, and a baby stroller. (Doc. 243 at 4, ¶ 13.) Mr. Pugach provided Mr. McGinnis with market information generally through Facebook communications, as well as particular investment advice on gold and companies such as Cliffs Natural Resources Inc. and Apple. Id. at 6-7, ¶¶ 19-21. In addition, Mr. Pugach proposed that he and Mr. McGinnis "open a franchise hotel" and suggested other "different businesses" that might provide them with the highest "return on equity." Id. at 7, ¶ 20; Doc. 243-4 at 28.
After leaving his regular employment, Mr. Pugach became self-employed as a day trader of KGM and other securities. Starting in or about 2010, he and Mr. McGinnis shared their research and views on KGM "religiously" and used Facebook to discuss KGM trades. (Doc. 211-1 at 4, ¶ 21.) Between 2010 and 2011, Mr. McGinnis and Mr. Pugach observed KGM's quarterly earnings announcements separately. In 2012, Mr. Pugach began travelling to Vermont to observe the earnings announcements with Mr. McGinnis in the latter's home. Between January 24, 2010 and February 24, 2013, Mr. McGinnis and Mr. Pugach communicated by phone call or text message 116 times. Of those contacts, ninety occurred within two days of a KGM earnings announcement, with twenty-five occurring before and sixty-five after.
The SEC has not discovered any text messages from the 2010-2013 time period in which Mr. McGinnis and Mr. Pugach discussed KGM's material nonpublic information. The contents of the phone calls between Mr. McGinnis and Mr. Pugach for the relevant time period were not recorded or otherwise preserved.
C. The Relationship Between Mr. Suchowiejko and Mr. Pugach.
In 2010, Mr. Suchowiejko earned an MBA from the University of Chicago, and he is currently employed as a Management Information Manager at a Connecticut corporation. Since the 2000 or 2001 time period, he has invested in securities. The wives of Mr. Suchowiejko and Mr. Pugach are related through marriage, and in mid-2010 they reestablished an acquaintance after Mr. Suchowiejko and his wife moved to Connecticut. After mid-2010, Mr. Suchowiejko and Mr. Pugach socialized and corresponded via email about investment strategies and video gaming. Mr. Suchowiejko was aware that Mr. Pugach knew two individuals at KGM, and he asked Mr. Pugach to "pass a resume of a friend up the food chain in GMCR[.]" (Doc. 262 at 2.) In response to this request, Mr. Pugach forwarded the resume to a KGM information technology manager he had met at a party. Mr. Suchowiejko and Mr. McGinnis both assert that they did not know each other during the relevant time period, and that neither had heard the other's name.
In or about July or August of 2010, Mr. Pugach recommended KGM as a good investment prospect to Mr. Suchowiejko, who performed his own research and began trading in KGM securities in October of 2010. Mr. Suchowiejko regarded Mr. Pugach as a successful trader who thoroughly researched and tracked his investments fulltime, which Mr. Suchowiejko did not have time to do. He testified in his deposition that he "used the recommendations of Mr. Pugach at times, ... so to the extent he's done research  that's helped me." (Doc. 262-1 at 15.) Mr. Suchowiejko, however, did not take Mr. Pugach's advice regarding companies other than KGM. All of Mr. Suchowiejko's trades in KGM were made in his pension account. He conceded that, with regard to this account, he was "[d]efinitely more" willing "to take on risky activity" with a "relatively high [amount]... probably 20, 30 percent" of his net worth. (Doc. 222-3 at 9.)
On December 2, 2010, Mr. Pugach emailed Mr. Suchowiejko and invited him to come to his house to view a new video game. Two days later, Mr. Suchowiejko went to Mr. Pugach's house, during which time they "probably discussed Green Mountain[.]" (Doc. 245-1 at 12.) On December 6, 2010, both men invested in similar KGM call options. On December 8, 2010, one day before an earnings announcement, Mr. Pugach emailed Mr. Suchowiejko that the "game got a little worse[, ]" and that he "might stop playing for [a] couple of days." (Doc. 245-2 at 2.) Thereafter, both men reversed position and avoided losses. One week later, Mr. Pugach sent an email asking "You back in?" id., which Mr. Suchowiejko understood as a question about whether he had resumed buying KGM securities. (Doc. 245-1 at 12.)
On July 23, 2011, Mr. Pugach emailed Mr. Suchowiejko, again stating that he wanted to show him another video game in person. On July 25, 2011, they "discussed [in person] investments, games, kids, ... all the things [they] have in common." (Doc. 245-1 at 14.) On July 26, 2011, one day before a KGM earnings announcement, both invested in similar KGM options and subsequently made a profit.
Prior to the February 1, 2012 earnings announcement, Mr. Suchowiejko and Mr. Pugach convened for the stated purpose of sharing a video game. On January 24, 2012, Mr. Pugach emailed Mr. Suchowiejko, told him he would be away for two weeks starting on January 26, 2012, and invited him over to play video games. On January 25, 2012, they met and discussed analysts' estimates for KGM's upcoming earnings and Mr. Pugach's views on the company, but Mr. Pugach did not tell Mr. Suchowiejko that a KGM insider had advised him regarding material nonpublic information. Id. at 15. Thereafter, Mr. Pugach and Mr. Suchowiejko invested in similar KGM call options, and both made a profit.
II. The Disputed Facts.
The parties dispute whether Mr. McGinnis knew the location of and in fact accessed KGM's material nonpublic information during the years 2010-2012. Relying on the 2013 forensic evidence allegedly revealing that, in 2013, Mr. McGinnis used the Batchops super user login and password to access the Finance/Private folder containing earnings statements, the SEC contends that Mr. McGinnis knew the location of KGM's earnings information prior to 2013, had access to material nonpublic information, and accessed information in the Finance/Private folder and on the Sales Portal in the days leading up to KGM's earnings announcements in 2010-2012.
In addition to Mr. McGinnis's ability to access material nonpublic information through the Batchops super user login, the SEC contends that Mr. McGinnis was able to use his regular login to access KGM's material nonpublic information through KGM's Sales Portal. The SEC contends that tracking software that was installed in November of 2012 shows that Mr. McGinnis repeatedly accessed the home page of the KGM Sales Portal which provided a charge of KGM's in-home sales as compared to the prior year's sales and as compared to budgeted sales. The SEC cites evidence that Mr. McGinnis has admitted to violating KGM's insider trading policy in at least four different ways.
Even without the 2013 forensic evidence, the SEC claims Mr. McGinnis has acknowledged that he had access to KGM's material nonpublic information. The SEC points out that when Mr. McGinnis commenced his employment at KGM, he signed a New Employee Confidentiality Agreement which stated that he would "have access to proprietary and confidential information" including "Financial information, such as costs [and] profits[.]" (Doc. 240-8 at 1.) The SEC further points out that throughout his employment at KGM, "Mr. McGinnis had broad access to the [KGM] network as a result of his knowledge of a domain administrator account" (Doc. 240-9 at 2) and cites evidence that Mr. McGinnis knew the password to the Batchops domain administrator account as early as January of 2007. Id. at 7.
Mr. McGinnis, in contrast, asserts that he did not have access to KGM's sensitive financial data as part of his work at KGM, that he did not know the location of KGM's earnings information, and that this information was not generally available to KGM employees. He contends that he consistently reaped profits by trading outside of KGM's earnings announcement periods between October 29, 2010 and July 9, 2012 and from January 2013 to July 2013.
The parties agree that KGM stock appreciated 7, 895% over a ten year period ending in 2009 which is prior to the conduct alleged in this case. The SEC contends that between January 2010 and June 2013, KGM's stock appreciated only 181% while Mr. McGinnis's return during this same time period was 8, 717%. It cites the opinion of its expert Michael G. Mayer who opines that:
I understand that [Mr. McGinnis and Mr. Pugach] didn't purchase any proprietary research, or have access to the kinds of resources that professional traders and money managers would have, such [as] a Bloomberg terminal. Also, [Mr.] McGinnis had a full time job on top of following [KGM]. While the Defendants have cited that they carefully followed [KGM] as a basis for their extraordinary returns, in fact they were trading at an informational, educational, experience, support, and time disadvantage to market professionals who regularly trade the sophisticated options Defendants traded. Without any real investment background and training, each Defendant managed to get returns that wildly exceed[ed] full time investment professionals. This is highly unusual.
(Doc. 240 at 5, Disputed Fact 20; Doc. 240-11, Mayer Report at 88.) Mr. McGinnis disputes the SEC's claim that his KGM trading results were "highly unusual."
In addition to disputing the degree and nature of Mr. McGinnis's trading profits and losses, the parties do not agree regarding how particular trading results should be characterized. For example, Mr. McGinnis contends that he suffered significant losses as a result of trading after KGM's May 2012 earnings announcement. The SEC, however, notes that in connection with the May 2012 KGM earnings announcement, Mr. McGinnis made $839, 766.43 and avoided losses of $173, 655.52.
The parties also disagree on the proper characterization of the trading strategy Mr. McGinnis utilized and whether it was a "straddle, " as Mr. McGinnis maintains, or primarily "directional, " as the SEC contends. Mr. McGinnis states he "often" used a straddle options trading strategy, which effectively hedged long and short options positions and allowed him to make a profit if the stock moved a certain percentage in either direction after an earnings announcement. (Doc. 211-1 at 5, ¶ 32.) According to the SEC, however, Mr. McGinnis primarily traded by making directional predictions that KGM's stock would go up or down for eleven of the thirteen quarters in question. While the SEC acknowledges that Mr. McGinnis used a strangle strategy in the other two quarters, it nevertheless asserts that the strangles were directional in nature and thus predicted the direction the stock would move.
Mr. Suchowiejko contends that he followed Mr. Pugach's advice about investing in KGM because he thought Mr. Pugach had done extensive research. The SEC disputes this claim and cites evidence that Mr. Suchowiejko purchased options with similar expiration dates and strike prices to those of Mr. Pugach as supporting a reasonable inference that the two men acted in concert. In his deposition testimony, Mr. Suchowiejko conceded that Mr. Pugach "might have mentioned" his positions in KGM securities, but explained that his trades were similar to Mr. ...