stock market and investments. Hen frequently followed Hieu's
trades. Hieu was generally a short-term trader.
Hieu frequently traded in MDI. Beginning in October 1993 and
continuing for over four months into early March 1994, Hieu
accumulated over 16,000 MDI shares, at an average price of
approximately $11.77 per share.
On the evening of March 16, there were three telephone calls
between Hahn's office and Hieu's home. The first is from Hahn's
office to Hieu's home, for about one minute. The second is from
Hieu's home to Hahn's office, for 2.7 minutes. The third is a
one-minute call from Hahn's office to Hieu's home. The SEC has
not provided direct evidence that Hieu and Hahn spoke during
On March 17, 1994, Hieu sold 5,000 MDI shares for $11.25 per
share through his Fidelity account. On March 18, 1994, MDI
cancelled a scheduled appearance at an analysts' conference
sponsored by Cowen & Co. Some investors, including Hieu,
interpreted the nonappearance as a negative indication.
On March 21, 1994, the next trading day, Hieu sold 4,000 MDI
shares for $9.75 per share through his Fidelity account. Hieu
also short sold*fn4 1,500 shares for $9.25 per share, another
1,500 shares for $9.50 per share, and another 4,000 shares for
$9.00 per share through his Fidelity account. There is a call
from Hahn's office to Hieu at 10:41 a.m. Following that call,
Hieu sold 7,500 MDI shares and short sold another 2,000 shares
for $9.50 per share through his H & Q account.
On March 22, 1994, Hieu sold 800 MDI shares for $10.75 per
share through his Merrill Lynch account.
On March 23, Hieu short sold 1,500 MDI shares for $10.19 per
share through his H & Q account.
On April 7, 1994, Hieu purchased 7,000 MDI shares at $6.25 per
share to cover the short position at Fidelity, and derive a
$20,375 profit. Hieu purchased another 3,500 shares at $5.80 per
share to cover his short position at H & Q, and derive a $13,985
D. Hen Truong
Hen is also a brother of Hahn. He graduated from Golden Gate
University in the mid-1980s with a bachelor's degree in business
administration and accounting. Hen worked for two years at his
own real estate development company. Hen then worked at Global
Financial Services ("Global") as a mortgage loan consultant.
Following the murder of his supervisor in 1989, Hen left Global
and relocated at the recommendation of federal prosecutors. Hen
subsequently appeared as a government witness in several criminal
cases involving organized crime. He returned to the San Francisco
Bay Area in 1993. Hen then worked with Hieu until 1995 or 1996 as
a mortgage and financial consultant.
Hen began trading stocks in early 1993. On February 5, 1993,
Hen opened a brokerage account at H & Q to purchase MDI shares.
In October 1993, Hen opened an account at Fidelity.
On March 17, 1994, Hen sold 3,000 shares of MDI at $11.25 per
share through his Fidelity account. On March 18, Hen learned of
MDI's cancellation of the analsyst's conference, and considered
this development to be bad news.
On March 21, 1994, Hen sold 3,000 MDI shares for $9.50 per
share, sold another 2,000 shares for $9.25 per share and short
sold yet another 2,000 shares for $9.50 per share through his H &
Q account. Hen also short sold 2,000 MDI shares for $9.25 per
share through his Fidelity account. Pursuant to a fifty-fifty
profit sharing agreement, Hen used the Fidelity account
of Ms. Kim Oanh Dang to sell 1,500 MDI shares at $10.25 per share
and to short sell another 1,000 shares at $9.50 per share.*fn5
On March 22, 1994, Hanh telecopied a letter to H & Q
instructing it to wire transfer $120,000 from his H & Q account
to his Wells Fargo Bank checking account. On March 23, 1994, Hen
opened a new account at McLaughlin. Hanh had Wells Fargo Bank
issue a cashier's check for $80,000, dated March 30, 1994,
payable to "Correspondent Services Corp.," the clearing firm for
McLaughlin, for Hen's account. Hen used the proceeds to sell
short MDI stock. On March 23, 1994, Hen short sold 10,000 MDI
shares for $10.125 per share. The value of that short sale
approximates Hen's annual income and represents nearly half of
his net worth. On March 24, 1994, Hen short sold another 5,000
MDI shares at $10.25 per share. In all, Hen short sold $152,000
in MDI shares in the new McLaughlin account. The short sale on
March 23, 1994, was Hen's largest market transaction by market
value for the period February 1993*fn6 through April 6, 1994.
The March 24, 1994 short sale was Hen's third largest market
transaction by market value for that period.
On April 9 and 15, 1994, Hen wrote four separate checks drawn
on his wife's Home Savings of America account to Hanh totaling
$110,000. On the face of two of the checks the words "repaid
advances" have been handwritten in the memo section of the check.
On the two other checks, the words "repayt of adv" have been
handwritten in the memo section of the check.
In June 1994, the National Association of Securities Dealers,
Inc. informed MDI about an inquiry into trading in the securities
of MDI.*fn7 On August 15, 1994, Hen had Hanh sign a note and
deed of trust. This deed of trust was recorded on December 17,
E. Christopher Nguyen
Nguyen is a friend of Hahn's. At Hahn's recommendation, Nguyen
opened his first brokerage account at H & Q in February 1993 to
purchase MDI shares during the initial public offering. Nguyen
then opened a brokerage account at Charles Schwab & Co.
("Schwab") in March 1993. Nguyen did most of his trading through
the Schwab account.
On March 22, 1994, Nguyen sold 3,000 MDI shares for $10.75 per
share at 11:58 a.m. through his Schwab account.
On March 23, 1994, Nguyen short sold 2,300 MDI shares for
$10.25 per share through his Schwab account. That was his first
short sale of a company's stock. Telephone records for Nguyen's
residential telephone indicate that on March 23, 1994, at 8:37
a.m., a call was made from Nguyen's telephone number to Hanh
Truong's extension at MDI. This call was reflected on the billing
statement as approximately 1 minute.
On March 24, 2994, Nguyen short sold 2,000 MDI shares for
$10.25 per share in his Schwab account. Hahn provided Nguyen with
a $15,000 check from his Wells Fargo Bank account on that day.
Nguyen covered half of his short position at Schwab on April
28, 1994, by purchasing 2,150 MDI shares at $6.00 per share and
covered the remainder of his short position on June 24, 1994, by
purchasing 2,150 shares at $6.50 per share for a $17,200 total
III. LEGAL STANDARDS
A. Section 10(b) of the Securities and Exchange Act of 1934
Section 10(b) of the Securities Exchange Act of 1934 makes it
unlawful for any
person purchasing or selling securities "[t]o use or employ, in
connection with the purchase or sale of any security . . ., any
manipulative or deceptive device or contrivance in contravention
of such rules and regulations as the [SEC] may prescribe."
15 U.S.C. § 78j(b). Pursuant to that Act, the Commission has
prohibited, among other things, the omission of "a material fact
necessary in order to make  statements made, in light of the
circumstances under which they were made, not misleading."
17 C.F.R. § 240.10b-5 ("Rule 10b-5"). This rule imposes upon
corporate insiders a duty to disclose material information
concerning their company's stock or abstain from trading in it.
See Dirks v. Securities & Exchange Comm'n, 463 U.S. 646, 653,
103 S.Ct. 3255, 77 L.Ed.2d 911 (1983); Securities & Exchange
Comm'n v. Soroosh, 1997 WL 487434, *2 (N.D.Cal. Aug.5, 1997)
(Walker, J.), aff'd 166 F.3d 343 (9th Cir. 1998) (table).
In order to establish an "insider trading" violation of Section
10(b) and Rule 10b-5, the SEC must show that a defendant is a
corporate insider who purchased or sold securities while in
possession of material, non-public information, and acted with
scienter. See Dirks, 463 U.S. at 653-54, 103 S.Ct. 3255;
Soroosh, 1997 WL 487434 at *2. "Materiality depends on the
significance the reasonable investor would place on the withheld
or misrepresented information." Securities & Exchange Comm'n v.
Fehn, 97 F.3d 1276, 1289 (9th Cir. 1996) (internal quotations
omitted). The issue of materiality may be regarded as a mixed
issue of law and fact. See TSC Indus. Inc. v. Northway Inc.,
426 U.S. 438, 450, 96 S.Ct. 2126, 48 L.Ed.2d 757 (1976). Where
reasonable minds can differ over whether information is material,
the court should not grant summary judgment on the issue. See
Scienter is defined as "a mental state embracing intent to
deceive, manipulate, or defraud." Aaron v. Securities & Exchange
Comm'n, 446 U.S. 680, 686 n. 5, 100 S.Ct. 1945, 64 L.Ed.2d 611
(1980). The Ninth Circuit has interpreted the scienter element of
Rule 10b-5 and the "manipulative or deceptive" practices element
of Section 10(b) of the 1934 Act to require that the government
prove that the trader actually used the material non-public
information in formulating and consummating a trade. See U.S. v.
Smith, 155 F.3d 1051, 1067-69 (9th Cir. 1998). "[T]he government
may not rest upon a demonstration that the suspected inside
trader bought or sold while in possession of inside information;
rather, it must, at a minimum, prove that the suspect used the
information in formulating or consummating his trade." Id. at
1070 n. 28. In Securities & Exchange Comm'n v. Adler, the
Eleventh Circuit held that when a trader buys or sells securities
while in the possession of material non-public information,
courts should employ an evidentiary presumption of a "strong
inference" of use, at least in the context of a civil enforcement
proceeding. See 137 F.3d 1325, 1337 (11th Cir. 1998). The court
adopted the "strong inference" as a tool to assist plaintiffs
with the problems of proof that are inherent when a party has the
burden to prove a particular state of mind. See id. at 1337-38.
The Ninth Circuit in Smith held that the "strong inference"
rule did not apply in criminal prosecutions for insider trading,
but declined to determine whether the presumption applies in
civil enforcement proceedings. See Smith, 155 F.3d at 1069,
1069 n. 27.
Smith recognized that causation or use may be inferred from
circumstantial evidence. Id. at 1069 ("Any number of types of
circumstantial evidence might be relevant to the causation
issue"); see also Securities & Exchange Comm'n v. Burns,
816 F.2d 471, 474 (9th Cir. 1987); Securities & Exchange Comm'n v.
Moran, 922 F. Supp. 867, 890 (S.D.N.Y. 1996). The material
non-public information need not be the sole factor in a decision
to buy or sell, but must be a "significant factor." Smith, 155
F.3d at 1070 n. 28.
The SEC bears the burden of proof to show that the defendants
traded based on knowledge of material nonpublic information. See
Securities & Exchange Comm'n v. Musella, 578 F. Supp. 425, 440
(S.D.N.Y. 1984). The standard of proof in a civil case such as
the present one is preponderance of the evidence. See Moran,
922 F. Supp. at 891. This standard of proof applies even where the
SEC bases its case on circumstantial evidence. See id. at 890.
The Supreme Court holds that a tippee's duty to disclose
material information or abstain from trading "is derivative from
that of the insider's duty," and thus a tippee is only liable
under § 10(b) or Rule 10b-5 from trading on the basis of material
non-public information if the inside tipper breached a fiduciary
duty in disclosing to the tippee. See Dirks, 463 U.S. at 662,
103 S.Ct. 3255.
B. Section 17(a) of the Securities Act of 1933
Section 17(a) of the Securities Act of 1933, codified at
15 U.S.C. § 77q(a), has terms similar to Rule 10b-5, but applies to
the "offer or sale" of securities, and not to purchases of
securities. The statute provides:
(a) It shall be unlawful for any person in the offer
or sale of any securities by the use of any means or
instruments of transportation or communication in
interstate commerce or by the use of the mails,
directly or indirectly —
(1) to employ any device, scheme, or artifice to
(2) to obtain money or property by means of any
untrue statement or material fact or any omission to
state a material fact necessary in order to make the
statements made, in the light of the circumstances
under which they were made, not misleading, or
(3) to engage in any transaction, practice or course
of business which operates or would operate as a
fraud or deceit upon the purchaser.
15 U.S.C. § 77q(a). Although the standards for liability under
section 17(a) are generally the same as those under Rule 10b-5,
the Supreme Court has found that the language of subsections (2)
and (3) cannot support a scienter requirement. See Aaron v.
Securities & Exchange Comm'n, 463 U.S. 646, 696, 103 S.Ct. 3255,
77 L.Ed.2d 911 (1983).
C. Summary Judgment
Under Rule 56 of the Federal Rules of Civil Procedure, summary
judgment shall be granted if pleadings, depositions, answers to
interrogatories, admissions on file, and affidavits "show that
there is no genuine issue as to any material fact and that the
moving party is entitled to a judgment as a matter of law."
Fed.R.Civ.P. 56(c). Where, as here, the plaintiff bears the
burden of proof, a defendant seeking summary judgment need only
show that there is an absence of evidence to support any element
of the plaintiff's case. See Celotex Corp. v. Catrett,
477 U.S. 317, 322, 106 S.Ct. 2548, 91 L.Ed.2d 265 (1986). Courts must
grant summary judgment if the nonmoving plaintiff fails to make a
showing sufficient to establish the existence of an element which
is essential to his case and upon which he will bear the burden
of proof at trial. See id. If the nonmoving plaintiff fails to
make such a showing on any essential element of the case, "there
can be `no genuine issue as to any material fact,' since a
complete failure of proof concerning an essential element of the
nonmoving party's case necessarily renders all other facts
immaterial." Id. at 323, 106 S.Ct. 2548. In ruling on a motion
for summary judgment, the nonmoving party's evidence "is to be
believed, and all justifiable inferences are to be drawn in [that
party's] favor." Anderson v. Liberty Lobby, Inc., 477 U.S. 242,
255, 106 S.Ct. 2505, 91 L.Ed.2d 202 (1986). However, the "mere
existence of a scintilla of evidence in support of the
plaintiff's position will be insufficient; there must be evidence
on which the jury could
reasonably find for the plaintiff." Id. at 252, 106 S.Ct.
The SEC contends that Hahn came into possession of material
non-public information about MDI's weak Q1 FY94 sales on or
before March 16, 1994, that he conveyed this information to Hieu
on the evening of March 16, 1994, that Hieu tipped Hen around
that same time, and that Hahn tipped Christopher Nguyen on or
before March 21, 1994.
A. Hanh Truong
The source of greatest dispute in these motions is the question
whether the SEC has offered sufficient evidence on which a
reasonable jury can infer that Hahn was in possession of material
non-public information at the time he sold his stock. The parties
debate what type of evidence the SEC must produce to warrant an
inference by a reasonable jury that Hahn possessed material
non-public information. Hahn maintains that "the SEC must be
able, a fortiori, to identify the particular information [Hahn]
allegedly obtained."*fn9 Hahn argues that the burden to identify
specific pieces of material non-public information arises out of
the "use" requirement articulated in the Smith case.*fn10 The
SEC, in contrast, argues that Hahn's "suspicious trading" in
itself warrants an inference that he possessed material
Suspicious trading by itself cannot suffice to warrant an
inference that an alleged tipper, the first link on the
information chain, traded on the basis of material non-public
information. Although in Adler the 11th Circuit stated that "an
inference of possession of inside information" by a tippee
could "arise from the timing of a sale," Adler, 137 F.3d at
1341, the court had already established that the alleged tipper
indisputably possessed material information about a potential
accounting fraud perpetrated by corporate executives, see id.
at 1331. Allowing the SEC to tell a jury that "because the
tipper's trading was suspicious, the tipper must have possessed
some material nonpublic information," would relieve the SEC of
its burden to identify the information, prove its materiality,
and prove possession and use by the tipper. Moreover, although
the SEC may prove that a defendant possessed material
nonpublic information through the use of circumstantial evidence
(beyond alleged "suspicious" trading), the Agency may not rest on
evidence that would require a jury to speculate that the
defendant possessed that information. Courts stress that the SEC
may not base insider trading actions on strained inferences and
speculation. See, e.g., SEC v. Goldinger, slip op., CV-91-3445
JMI (C.D.Cal. May 12, 1995), aff'd, mem. 106 F.3d 409 (9th Cir.
1997). "The summary judgment tool filters out cases in which
plaintiffs rely entirely upon conclusory assertions and
speculative allegations to state a claim for relief. After a
respectable period of time for discovery through interrogatories,
requests for admissions, requests for the production of
documents, and depositions, reliance upon pure speculation is
unacceptable. Plaintiffs are required to garner either direct or
circumstantial evidence to back upon their legal claims."
Dominguez v. Eli Lilly and Co., 958 F. Supp. 721, 726-27
(D.Puerto Rico 1997).
At oral argument Hahn also argued that the SEC's burden
included showing that the information Hahn allegedly possessed
specifically indicated that MDI "would miss its sales targets by
20 percent," that MDI would report a loss for the quarter ended
April 3, 1994, and that the next quarter sales would be
substantially below expectations. While the SEC has the burden to
identify the facts allegedly possessed by the trader, its burden
is to demonstrate that there is a substantial likelihood that a
reasonable investor would consider the alleged non-public
information important in deciding how to invest. A fact is
material "if there is a substantial likelihood that a reasonable
[investor] will consider it important in deciding how to
[invest]." Basic Inc. v. Levinson, 485 U.S. 224, 231, 108 S.Ct.
978, 99 L.Ed.2d 194 (1988). In other words, in order to be
material, "there must be a substantial likelihood that the
disclosure of the omitted fact would have been viewed by the
reasonable investor as having altered the `total mix' of
information made available." Id. at 231-32, 108 S.Ct. 978;
Smith, 155 F.3d at 1064. Accordingly, the SEC need not show
that Hahn knew that MDI would "miss its sales targets by 20
percent," but it must show that Hahn possessed information making
it likely that MDI would fall behind expectations. As Judge
Walker stated in Soroosh: "Even without knowing exactly how
great an effect the news [of a delay of a significant product]
would have on earnings or when it would affect the share price,
the reasonable trader would know that the existence of a
significant delay shaded the odds in favor of a short position."
Soroosh, 1997 WL 487434 at *12-13.
1. Possession of Material Non-public Information Prior to
March 22, 1994
The SEC has failed to produce direct or circumstantial evidence
that Hahn possessed material non-public information prior to
March 22, 1994. With regard to the particular internal memoranda
and reports, such as the Flash Reports, the Financial Reports,
the draft Form 10-K, or Flately's expense control e-mail to
senior staff, the SEC has failed to provide any evidence on which
a reasonable juror could conclude that Hahn saw or possessed
them. The SEC contends that Hahn "had access" to these documents,
but does not deny that his access was the same as any other MDI
employee. As Hahn pointed out in oral argument, "access to
documents" means essentially that Hahn worked in an office with
open cubicles and had routine interactions with senior
management. With reference to the draft of the Form 10-K, the SEC
notes that Hahn was working late the same evening that the
company controller was working late. But the SEC failed to adduce
evidence that Hahn was seen lurking around the controller's
office or was engaged in any other behavior which would raise
some questions about whether he overheard some discussions of
confidential financial information. A reasonable jury cannot