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(6) Forbids him to carry on any short-term specualtions in the stock. He cannot, with his inside information get in and out of stock within six months. If he does, the profit goes to his company.
That is simply an application of an old principle of the law that if you are an agent and you profit by inside information concerning the affairs of your principal, your profits go to your principal.
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Mr. MAPES. Is there any reason why that should not apply to all directors, officers, and owners of stock?
Mr. CORCORAN. There is no reason, sir. The bill is not very well drawn there. It ought to read to cover every director, every officer, and every stockholder who owns more than 5 percent of the stock. That is the way it was intended to read.
Mr. MAPES. That is not the language there now.
Mr. CORCORAN. It is not. It is not properly worded as to the 5 percent.
Mr. Mapes. It ought to read "and/or beneficially more than 5 percent" followed by "is a director, or officer."
Mr. CORCORAN. It is badly drawn. We slipped on that. It ought to read "every director and every officer” and then “every big stockholder."
Mr. Mapes. You admit that it is not that way?
The CHAIRMAN. Mr. Marland. I did not know that Mr. Mapes was through.
Mr. MAPES. Yes.
Mr. MARLAND. Mr. Corcoran, in most of the large companies, through stock traded in in the New York Stock Exchange, the officers and directors own nothing like 5 percent.
Mr. CORCORAN. That is quite true, sir.
Mr. MARLAND. In all probability, the director of a corporation owns less than 1 percent of the stock.
Mr. CORCORAN. That is true.
So, 15 (a)—he must report his holding of stock, to show whether he is getting in and out of the stock on a long-term basis.
(b) says he cannot trade in the stock on short-time speculative swings—that is a 6-month swing. He has to give profits on such swings to the company.
Subsection (b) (1), (2), (3), over on page 29 says that if the director or officer is a big stockholder, he cannot sell short, and cannot sell against the box.
Selling against the box, sounds complicated, but like all other securities mechanisms, it is assentially perfectly simple. Suppose you are a director of a company and you have a hunch that the stock is going down. You are afraid to sell the actual shares you held because you would be criticized if it were ever found out that you had sold your stock. Instead of selling outright or of selling the
stock short and making the difference between the 100 and the 80, to which the stock drops, you sell an equivalant number of shares but hold your own shares to deliver later on. Although you may not make the profit between 100 and 80, you are in a position where you certainly do not lose if the stock you are holding drops in value. You have hedged, by reason of the fact that you always held the shares to cover. You may not make a short sale profit, but you certainly do not suffer the drop in the value of the stock.
Mr. MARLAND. And during that operation, of necessity, the director instructs his broker to borrow stocks.
Mr. CORCORAN. To cover.
Mr. CORCORAN. Oh, it has all of the effects of a short sale.
Mr. MERRITT. Of course, what you are doing here is going to have the same tendency that the securities act has, prevent any responsible man from being a director in any big company.
Mr. CORCORAN. No. We are simply saying to these men, “If you are going to sell and get out, be honest about it. Say that you are getting out, because you think that the stock is going to go down, but do not conceal the fact from your stockholders that you are selling out the company.
“You cannot sell your own stock short. If you know from your information that the company is in a bad way, be honest and sell your stock and get out and do it publicly; but do not fool your stockholders, by making them think that you are still with them because shares still stand in your name, while as a matter of fact you jumped ship about 2 months before they had a chance."
That is all this section means. We do not think that the director should act as Mr. Wiggin did. This is an anti-Wiggin bill, this section 15.
Mr. MERRITT. I do not see that. Short selling is selling stock that he does not own at all, is it not?
Mr. CORCORAN. Yes.
Mr. CORCORAN. What I am talking about is a practice that many directors have followed. If you sell short, you sell stock you do not have.
Mr. MERRITT. I understand that.
Mr. CORCORAN. When you sell against the box, you sell stock that you have, but you get your broker to find some stock somewhere else to deliver against your sales so that in effect you have sold short and you have protected yourself from a fall in the stock. Suppose the stock is at 100, and you think that it is going to 80. You sell 100 shares at 100.' The stock goes to 80. You arrange to have your broker, with some other stock, cover it. In the meanwhile, you have
kept your shares. They are registered in your name. The stock is registered in your name in the stock books. You still have these shares, although you have carefully hedged yourself against a drop in the stock and possibly make a short-sale profit.
Mr. MERRITT. Well, of course, as a matter of fact, as a matter of actual practice, if I sell my own stock, the stockholders are not going to know whether I sell or not.
Mr. CORCORAN. No; but the stockholders ought to be in a position where they can know, and under section 15 (a) they would be.
Mr. MERRITT. Any time a director sells some stock, he does not send a notice to all of the stockholders that he has sold his stock?
Mr. CORCORAN. No; not every one; but once a month the bill would require him to report what his stock changes are. Otherwise the insider is at a decided advantage. In perfectly honest small companies the evil may not exist. The evil is usually on the bigger scale. It is not related to the smaller companies. But in large companies you find directors who are shuffling in and out of their own stock all of the time. It is the problem of Mr. Wiggin and the Chase stock.
Mr. MERRITT. I agree that there is a problem, and I agree that it is objectionable, and you have a perfect right to object to it, but my feeling is in connection with this bill, that we are doing what we did in the national securities act, that you have overdone it as to the penalties.
Mr. CORCORAN. Well, all we have said to the director, sir, is that he cannot sell your own stock short, or make a turn in his own stock within 6 months. Certainly that is not too much to ask of a man who is on the inside, who is a director or officer of the company, or one of the big stockholders who really run the board of directors.
Mr. MERRITT. That is all I have. Mr. CORCORAN. Now, on page 29, subsection (3), an insider tips off somebody with his inside information, somebody to whom he makes an unlawful disclosure of the secret condition of the company, and the person tipped makes a short swing profit on the stock. The company can sue him for cooperating with the director or with the officer or the stockholder for participating in the profits of the company.
That is, the director cannot evade having to turn over his own profit under section 15 by tipping off somebody else to do the job for him, nor can he tip off a friend, or friends, and let them make a killing on inside information at the expense of other people.
Mr. WOLVERTON. May I ask a question?
Mr. WOLVERTON. It is not only going to be hard, but how is it going to be possible to ascertain that?
Mr. CORCORAN. Oh, there have been cases in which it has been found out. You learn of it once in a while. For instance suppose Mr. Wiggin tipped off somebody. I am using him just as an example. It is true that you cannot catch everybody, sir. But because you cannot catch everybody there is no reason why you should not catch those you can.
Mr. WOLVERTON. Well, that is what I am getting at; how are you going to catch anybody?
Mr. CORCORAN. What is that?
Mr. CORCORAN. Well, sir, how do you catch a lot of things that actually do turn up?
Mr. WOLVERTON. That is what I am asking you.
Mr. CORCORAN. You might catch it in the course of investigations. That is the way they found out about Mr. Wiggin.
Mr. WOLVERTON. But, that cost thousands of dollars to get that information against Mr. Wiggin, and the others, to whom you refer.
I am thinking of it now in terms of every day practice, in connection with the selling of stock, and I have in mind two men sitting at luncheon together, and one suggests to the other certain procedure as to purchase or sale of stock. How are you every going to get at that situation?
Mr. CORCORAN. You mean, how are you going to find out?
Mr. CORCORAN. Sir, in the great, great majority of cases in which that occurs, you are never going to find it out, but is it not worth while to get those cases where you can find it out, you want to catch them even if you cannot catch all of them.
Mr. WOLVERTON. But, with this bill before us in an effort to regulate the stock exchanges, and eliminate certain evils, I would like for you to give us an example as to how it is to be done. I am interested in the practical side of it and not the theoretical side. I am not in favor of just putting words into a bill without giving serious consideration to their effectiveness.
Mr. CORCORAN. You will catch a few of them, and the fact that there is a risk of being caught, even if that is only a small risk, will act as a deterrent in a great many cases.
Mr. WOLVERTON. It would seem to require considerable optimism to expect this provision in the bill to be more effective than the Prohibition Enforcement Act. Do you have such optimism?
Mr. CORCORAN. Yes; I suppose I have.
Mr. WOLVERTON. Well, that act has certainly shown the utter futility of attempting to enforce a provision of this kind. It seems to me this provision might be even more difficult.
Mr. CORCORAN. No. You have said to all of the stockholders of the company, “You can recover any of this profit for your own account, if you find out that any such transactions are going on."
By putting a private-profit motive behind the uncovering of this kind of leakage of information, you have made the stockholders your policemen. Certainly you agree with the principle. It does not harm, sir, to put it in, simply because you may catch only 5 percent of the cases.
Mr. WOLVERTON. It seems to me that it is like shadow boxing, unless you put something in the bill that is effective in getting results.
Mr. CORCORAN. What you say, sir, is true, but what we are doing is prohibiting a practice and giving the stockholders a right to recoup from that practice, which everybody admits is wrong, even if you do not think you can catch violations more than five out of a hundred times.
Mr. WOLVERTON. Well, of course, that may be right.
Mr. CORCORAN. Somebody will peach.
Mr. WOLVERTON. They could have been in but were not in, and therefore will "peach", as you put it?
Mr. CORCORAN. Yes.
Mr. WOLVERTON. Then, so far as the effect of this bill is concerned, its effectiveness in this particular depends upon the mental attitude of the man?
Mr. CORCORAN. This information might turn up in tax returns; it might turn up in the course of investigations; it might turn up in lawsuits—when thieves fall out—it might turn up in a lot of ways.
Mr. WOLVERTON. This would have to be within 6 months after the transaction?
Mr. CORCORAN. No. The transaction has to be completed within 6 months. But the discovery does not have to take place within 6 months.
Mr. WOLVERTON. Within what time does the discovery have to be made for the penalty as provided in the bill to apply?
Mr. CORCORAN. Two years after the discovery.
Mr. WOLVERTON. So that your thought is that the mere fact that there is a penalty provided that that would act merely as a deterrent?
Mr. CORCORAN. The fact that the stockholders, with an interest, are permitted to sue to recover that profit for the benefit of the company, puts anyone doing this particular thing, in the position of taking risk that somebody, with a profit motive will try to find out.
The section is a deterrent, and you will in some cases actually catch violators.
Mr. WOLVERTON. Well, it seems to me you are just trying to scare them, in this particular, the same as we do children, if we say "Look out, or the bogey man will catch you."
Mr. CORCORAN. No. Suppose a man is very close to the inside of a corporation, and there is circumstantial evidence turning up, for instance, in tax returns, or otherwise, that he did buy stock just before a lift and sold out within 6 months, and that he was very, very close to a certain officer, or director of the company. That might be enough to prove a case against him.
Mr. WOLVERTON. My optimism is not as great as yours.
Mr. CORCORAN. You might find from stock records that somebody on the inside bought just before a dividend was raised. I know that we are not going to catch 100 percent of the violations. I do not think that we will catch more than 5. But I think that the risk of being caught is a deterrent and I do not see what you lose by putting a provision in. I do not think that I am much more optimistic than you are about the number of violators who will actually be caught.