A lawsuit filed against an expert network by the retail company Big Lots is getting a lot of attention right now because it suggests that the expert network sold insider information about Big Lots.
The lawsuit is wholly unrelated to the latest insider trading scandal, but everyone is wondering whether or not the information that expert networks divulge to its clients should be considered insider information or not, and the Big Lots lawsuit side-steps its way to suggesting an answer.
At issue: A primary research firm called RIG allegedly “duped” store managers into giving them confidential information that Big Lots usually discloses on a public conference call.
Big Lots is suing RIG for violating Florida’s uniform trade secrets act, which means essentially that RIG divulged insider information to its clients, and as such, RIG should not be allowed to sell it in the future.
There are a few reasons why the experts’ information is proprietary, according to Big Lots’s lawsuit.
- Trading on the info affected the stock price. This might be tough to prove, but the lawsuit says that the info RIG gave to its clients “has caused Big Lots’ stock price to drop materially in value. On October 20, 2010, [when RIG gave “the Report” to its clients] the closing price of Big Lots’ stock on the New York Stock Exchange was $33.31, and by November 3, 2010, the stock had fallen to $31.41.”
- RIG obtained the info by “duping” store managers into breaking their contracts. According to the lawsuit, “RIG induced twelve store managers in Florida and a total of 70-two managers nationwide into revealing trade secrets and other confidential and proprietary information about the Company.” Big Lots says its written into employee contracts that employees should not disclose any information to outsiders.
- The information is accurate, so it gives those who know it an advantage over those who don’t. “The information has provided RIG and its customers with an improper and unfair commercial advantage.”
The first point Big Lots makes in its lawsuit is that the information RIG sold to its clients in “the Report” allowed “illicit trading” of its stock that caused it to drop materially.
And at least one piece of information RIG wrote in “the Report” does seem material and non-public, and not surprisingly, it seems to be the one piece of information that Big Lots has a big issue with RIG knowing and disclosing.
Here’s how the Big Lots lawsuit describes the sensitive information RIG gave out:
In “the Report,” RIG purports to disclose information about Big Lots’ sales plan versus the actual performance of its stores, which is extremely sensitive corporate information. Similarly, RIG also includes in the Report information about store traffic and averages sales volume per customer. Big Lots only releases this type of confidential information to analysts in a controlled manner as part of a quarterly report or earnings call, in accordance with federal securities laws.
But as sensitive as this information is, RIG’s giving it to their clients isn’t classic insider trading. Classic insider trading would be someone from Big Lots telling an investor the information ahead of earnings.
So if RIG acted as a middle-man and the Big Lots managers gave the information (presumably) unknowingly, is it still insider trading?
Big Lots wants to take the case to a jury and let them decide if RIG stole trade secrets from them.
If it gets that far, the case could have an impact on the outcome of the impending lawsuits/arrests expected at Diamondback, Level Global, and Loch Capital, and on what happens to Don Chu, who was arrested for conspiring to arrange a meeting between investors and employees who knew proprietary information.
Whether or not the information expert networks provide to hedge funds and other investors is insider information is the topic of a lot of debate right now.
Typically, expert networks operate by consulting with, for example, people who work in the retail business who can tell them how much consumers are expected to buy next month.
Most experts probably don’t engage in the sort of behaviour that RIG did in this case, and most probably don’t brag about their ability to “dupe” and “gain cooperation” from store managers.
But those that do are an obvious red flag that’s waving for a lawsuit.
Case in point: Big Lots uses RIG’s advertising against it in their lawsuit, which says:
RIG prides itself on its unique ability to dupe store managers into revealing trade secrets and confidential and proprietary information that it can then sell for a profit. On its website, RIG states that it is especially successful at obtaining confidential information because it hires former store managers, which allows RIG to better induce current managers to disclose such information.In fact, RIG boasts on its website that “no other firm in the marketplace is as successful as RIG in engaging and gaining cooperation from store managers.”
And Don Chu’s profile on his company’s website basically advertises that he’s got insider information to give.
So it will be interesting to see this lawsuit play out. It obviously will say a lot about what is and is not considered inside information, because right now there’s a huge grey area.