A $550 million U.S. government insider-trading lawsuit against Texas entrepreneurs Samuel and Charles Wyly has gone on so long that one of the accused has since died and his estate is now a defendant.
Former Michaels Stores Inc. Chairman Samuel Wyly, the surviving defendant, and his brother’s estate went to to trial today in Manhattan federal court in a suit that has been pending for four years following a six-year investigation.
Few SEC cases go to trial and regulators lost an insider-trading trial in October in Dallas against Mark Cuban, the billionaire owner of pro basketball team Dallas Mavericks.
“It’s time to hold Sam and Charles Wyly accountable,” SEC lawyer Bridget Fitzpatrick told the jury of eight women and four men in her opening statement today. “It’s time to hold them accountable for a scheme that lasted 13 years.”
The Wyly brothers, co-founders of the arts-and-crafts retailer, used a “labyrinth” of offshore trusts and subsidiaries in the Isle of Man and Cayman Islands to trade securities of four public companies on whose boards they sat, according to the Securities and Exchange Commission. The brothers are accused of hiding their securities ownership in a scheme that began in 1992 and lasted until 2004 to evade laws limiting stock transactions by corporate insiders.
The SEC wants to impose penalties and force Samuel Wyly and the estate of his brother, who died in 2011 at age 77, to turn over $550 million of ill-gotten gains.
“Everything you’re going to hear about that happened in the Isle of Man happened in secret,” Fitzpatrick told jurors.
The brothers have denied the allegations, saying they created the offshore trusts to benefit their families and other offshore entities for tax planning purposes and to protect their assets.
“These men are law-abiding citizens that were trying to follow what the SEC requires,” Stephen Susman, their lawyer, told jurors in his opening statement. “They were not liars, fraudsters or cheaters.”
The Wylys’ use of offshore trusts was motivated by a legal desire to protect assets and minimize taxes, and while they may be liable for some “technical” violations, they didn’t commit fraud, Susman said. The brothers hired “an army of lawyers -- hundreds of them,” to try to comply with the law, he said.
U.S. District Judge Shira Scheindlin, who is presiding over the case, said she will decide whether the Wylys are liable for insider trading. A jury will determine liability on other federal securities law violations alleged by the SEC. In a second phase, Scheindlin will determine what penalties or remedies should be imposed if the Wylys are found liable.
The SEC prevailed after a trial in Manhattan against former Goldman Sachs Group Inc. vice president Fabrice Tourre for his role in a failed $1 billion investment. In July 2012, the SEC lost a suit in New York against former Citigroup Inc. official Brian Stoker over a deal at the center of the bank’s proposed $285 million settlement over subprime residential mortgage securities.
In November 2012, a federal jury in Manhattan found Bruce R. Bent II, president of the failed $62.5 billion Reserve Primary money-market fund, negligent on one claim of violating a securities law while his father, Bruce R. Bent, was absolved of all claims in an SEC suit.
The SEC claims in its complaint that the Wylys “knew or should have known that they were beneficial owners of these securities and that the alleged failure to disclose this information was part of the fraud scheme.”
The defendants say they disclosed the transfer of securities in public SEC filings, and the securities were then owned and controlled solely by the offshore trusts.
They said they didn’t later disclose ownership of offshore securities in their own SEC filings, after being advised by Michael French, an experienced securities lawyer, “because they were not beneficial owners of securities held by the offshore trusts and related entities.”
The SEC last month settled with French, who also served as a director of three of the public companies. French admitted wrongdoing and agreed to pay $795,000.
Among the companies whose stock ownership the Wylys hid, was Michaels Stores, the Irving, Texas-based home decoration and crafts retailer, according to the SEC.
Board members’ stock purchases and sales are used by investors to gauge leadership’s confidence in a company’s future earnings.
The Wylys used their offshore network to sell $750 million in securities, including $550 million of shares in large-block trades, the SEC said.
The brothers began setting up the offshore network in 1992, establishing 17 trusts that bore names with personal significance, such as one called Lake Providence, their birthplace, according to the SEC complaint.
In the following years, they transferred millions of stock options and warrants they received for work as directors. They also added to the stockpile through other transactions, such as private offerings, the agency said.
They kept control of the trusts and were aware that if later sales were publicly disclosed, it could have an impact on the stocks’ values, the regulator said.
Fitzpatrick told the jury today that the Wylys controlled the trusts by appointing three loyal “protectors” who had the ability to fire the trustees. The protectors passed on “recommendations” from the Wylys, including to buy jewelry, specific paintings to be hung in their homes, and investments in an art gallery in Aspen, Colorado, and a horse farm in Texas, Fitzpatrick said.
“Every recommendation was followed as if it were an order,” Fitzpatrick said.
The brothers also used the offshore network for illegal insider trading, reaping a $31.7 million profit, the SEC said. In October 1999, they allegedly bought shares of Sterling Software Inc. after learning that its chairman had decided to sell the firm. Sterling, which developed software to manage corporate computer systems, was sold to Computer Associates International Inc., now known as CA Inc.
Other publicly traded companies whose securities were involved in the Wylys’ alleged misconduct include Michaels Stores, Sterling Commerce Inc. and a predecessor of Scottish Re Group Ltd., according to the SEC’s complaint.
The case is SEC v. Wyly, 10-cv-05760, U.S. District Court, Southern District of New York (Manhattan).