Professional and non-professional employees of accounting firms often have access to wide varity of private information. These private information may include corporate earnings, major accounting write-offs, income projections, proposed changes in dividend rates and information concerning mergers, acquisitions and tender etc. Trading this kind of confidential information is a violation of federal insider trading prohibitions. Accounting firms are encouraged to establish policies and procedures to prevent the wrong use of insider information. The senior partners and others with supervisory responsibility could be held responsible or liable if their employs violate insider-trading prohibitions.
President Ronald Regan signed the Insider Trading Sanctions Act in August 11, 1984. In the statement that followed President Regan said “The U.S. securities markets are the fairest in the world. Insider trading is the exception, not the rule. Nevertheless, abuses by insiders and those who receive their tips erode investor confidence in the securities markets. Public investors may be less willing to place their money at risk in securities if they believe that other traders, unlawfully utilizing material nonpublic information, have unfair advantages.”
Section 10(b) of Securities and Exchange Act and Rule 10b-5 prohibits the unlawful use of insider’s information. Traditionally, the term insider includes the officers, directors, and controlling shareholders. This term has broadened over a course of time as employees of any department can access the personal information of company without much effort. It is unlawful insider trading if anyone form inside a company somehow gets or steals the non-public information and use it unlawfully.
Through Insider Trading Sanctions Act of 1984, Congress increased Both Civil and Criminal penalties for insider-trading substantially. There is always potential danger of unlawful insiders trading regardless of company’s size or the employee’s trustworthiness. It is always sensible for accounting firms to have reasonably effective compliance program to prevent insider trading, although there is no any law, which obliges the company to have such programs. Firms may be responsible for “reckless” performance if no reasonably sufficient procedures are taken to prevent unlawful trading.
It is hard to prove who particularly is responsible for insider trading, as many people in a company can have access to the same information. The traders may try to hide or use proxies to avoid emerging on surface and not to be caught. Sometimes the affect of insider trading may not be seen instantaneously and it will be hard to trace the origin when time laps. Despite of all these difficulties, the U.S Securities and Exchange Commission prosecutes over 50 cases each year. other Insider Trading frauds are settled administratively outside the courts.
Securities and exchange commission brings wide varity of cases against corporate officers, directors, and employees. These people are accused of trading corporation’s securities after they learn significant corporate development. Friends, business associates, family members, employee of law, banking, brokerage and printing firms who are given the responsibility or printing confidential information take advantage and trade information for personal benefits. Government employees like auditors, inspectors and tax employees also have access to the confidential information because of the nature of their employment
On May 2002, the president of the American Greetings Corporation Edward Fruchtenbaum was accused of unlawful trading. Mr. Fruchtenbaum sold company’s stock while he had confidential information regarding earning seatbacks of company and thus made an unlawful profit od $490,625.
In December 1998, when Fruchtenbaum knew the company faced “a large earnings shortfall,“ he sold 30,000 shares of American Greetings with out telling his executives. According to the Securities and Exchange Commission Mr. Frutchtenbaum bought 30,000 Shares for $ 19.25 to $29.50 and sold them for $40 to $ 41.63 a share.
On 2002 United States District court for the Northern District of Ohio issued a judgment that ordered Mr. Frutchtenbaum pay disgorgement of $79,437, prejudgment interest of $28,711, and a civil penalty of $238,311, for a total of $346,459; and prohibits him from serving as an officer or director of a publicly held company for five years.
United States V. Carpenter case is another notable cases that dealt with insider trading. The defendant of this case did not get information directly from the company, instead he received information form a journalist. He was cited for unanimously upholding mails and wire frauds. The journalist R. Foster who gave the information to the defendant was also convicted. This is an example of temporary insider trading rather then traditional.
United States V. Carpenter case is another notable cases that dealt with insider trading. The defendant of this case did not get information directly from the company, instead he received information form a journalist. He was cited for unanimously upholding mails and wire frauds. The journalist R. Foster who gave the information to the defendant was also convicted. This is an example of temporary insider trading rather then traditional.
Some of the economists and legal scholars argue that the laws making insider trading illegal should be revoked. Milton Friedman said: "You want more insider trading, not less. You want to give the people most likely to have knowledge about deficiencies of the company an incentive to make the public aware of that." Anyone who is paying attention can figure out that something is wrong with a company if the corporate executive is trying to unload the stocks of their own company. Other critics argue that there is no victim when a seller is willing to trade the property that he lawfully owns and the laws that makes insider trading should be revoked.
Unlawful insider trading increases liability and demolishes the goodwill of the company. It also raise the cost of capital for securities issuers, thus decreasing overall economic growth. In order to avoid this misfortune, it is very crucial for accounting firms to develop some policies. These policies and procedures could vary from one firm to other. The size of the firm, the nature of its business, its practice, and attitude about insider trading are some basic determinants while considering such policies. If the firm has prior problems with insider trading, the company should consider such policy-making process even more seriously.
There are some basic compliance programs for the prevention of insider trading that are suitable for wide varity of firms. Developing and communicating clear guidelines on insider trading through a policy statement is the first step. All traditional insiders and temporary insiders like lawyers, investment bankers and accountants should be informed about the prohibitions against insider trading. Prohibitions imposed by AICPA and other federal statuses are to be clearly explained in policies in very simple language. The policies should also explain about the prohibitions against trading and tipping material and non-public information. It is also crucial that policies include the potential consequences if these prohibitions are violated. Another very effective action would be formulation of policies, which will reward the employee who give the tip of unlawful insider trading. The list of designated person within the firm and their contact information should be listed in the policy of the company.
Bibliography:
1. "Statement on Signing the Insider Trading Sanctions Act of 1984 August 11, 1984." American Reference Library - Primary Source Documents (2001): 1. MasterFILE Premier. EBSCO. Web. 12 Oct. 2011.
2. Upda, Suneel. "Accounting firm policies and procedures to prevent insider trading abuses." Ohio CPA Journal 55.4 (1996): 29. MasterFILE Premier. EBSCO. Web. 12 Oct. 2011.
3. "Executive Accused in Stock Sale." New York Times 03 May 2002: 14. MasterFILE Premier. EBSCO. Web. 12 Oct. 2011.
4. "Edward Fruchtenbaum: Lit. Rel. No. 18250 / July 25, 2003." U.S. Securities and Exchange Commission. Web. 13 Oct. 2011.
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