A judge in the SDNY held this week (in Connell v. Johnson) that a trade canceled before it settles is not subject to Section 16(b). The case involves a director of NeoGenomics who sold 66,007 shares of company stock on November 9, 2018, and later, on December 21, 2018, “placed a trade to purchase” 26,000 shares at a lower price, allegedly resulting in a recoverable profit of $142,060.49. The director reported the purchase on a Form 4 filed on December 26, but filed a Form 4/A the next day to report that he had “cancelled” the trade. The plaintiff (represented by Harrison Legal) submitted a demand letter to the company months later, on September 9, 2019, but the company responded that it had already settled the claim for $60,000. When the company declined to show the plaintiff a copy of the settlement agreement, the plaintiff filed an action to recover the full amount of the profit.
The director moved to dismiss the complaint, alleging that the purchase order was cancelled before it settled, and therefore no purchase occurred. I think this means that the director asked the broker to “bust” the trade in its error account, and the broker obliged. Given the timing of the Form 4/A, it seems likely that the director cancelled the trade because other plaintiffs’ attorneys submitted demand letters as soon as the initial Form 4 was filed. If that’s what happened, the settlement agreement would have been negotiated with the initial claimants.
In granting the motion to dismiss, the court held that a purchase does not occur until the insider becomes irrevocably bound, and cancellation of a trade means the insider never incurs “an irrevocable obligation to pay for the stock.” The court distinguished case law holding that a “rescission” motivated by a desire to avoid 16(b) liability may not be effective, noting that rescission involves an effort to unwind a previously completed transaction, whereas a canceled trade never occurs and therefore isn’t “rescinded.”
-Alan Dye, Section16.net May 29, 2020