Legal Definitions - misappropriation theory

The misappropriation theory is a legal principle in securities law that addresses a specific type of insider trading. It applies when someone uses confidential information, obtained through a relationship of trust or duty, to trade stocks or other securities for personal gain. This action is considered fraudulent because the person has betrayed the trust of the individual or entity that provided the information, even if that individual or entity is not the company whose stock is being traded.

• Example 1: The Investment Banker

  An investment banker is advising Company A on its confidential plan to acquire Company B. During this process, the banker learns sensitive, non-public details about Company B's valuation and the impending acquisition. Before the acquisition is publicly announced, the banker secretly buys a large number of shares in Company B, knowing the stock price will likely surge once the news breaks.

  This illustrates the misappropriation theory because the banker had a duty of confidentiality to Company A (their client and the source of the information). By using this confidential information to trade Company B's stock for personal profit, the banker "misappropriated" that information, breaching their duty and committing securities fraud.

• Example 2: The Financial Journalist

  A financial news reporter is given an exclusive, embargoed press release by a major pharmaceutical company detailing a highly successful clinical trial for a new drug. The reporter is trusted with this information before its public release to prepare an article. Before the embargo lifts and the news is public, the reporter uses this knowledge to purchase shares in the pharmaceutical company.

  Here, the reporter had a duty of trust to the pharmaceutical company (the source of the information) to keep the information confidential until the agreed-upon release time. By trading on this information before it was public, the reporter "misappropriated" it, violating that duty and engaging in securities fraud.

• Example 3: The Marketing Consultant

  A marketing consultant is hired by a large retail chain to develop a strategy for a major, confidential expansion into a new market. During their work, the consultant gains access to detailed financial projections and strategic plans that indicate a significant future increase in the retail chain's profitability. Before the expansion plans are announced to the public, the consultant buys a substantial amount of stock in the retail chain.

  This scenario demonstrates the misappropriation theory because the consultant owed a duty of confidentiality and loyalty to the retail chain (the source of the information). By using the confidential expansion plans to trade the company's stock for personal gain, the consultant "misappropriated" that information, breaching their professional duty and committing securities fraud.