Inside jobs plague tech market

Observers say the rash of alleged illegal insider trading among Canadian high-tech companies represents a disturbing status quo in the industry.

Considering a spate of recent examples, “we do feel that this is something deserving particular attention at this time,” said Michael Watson, director of enforcement with the Ontario Securities Commission (OSC).

One of the most notable cases is that of Terry Hungle, Nortel Networks Ltd.’s former chief financial officer. The telecom and network gear manufacturer on Feb. 11 said Hungle traded company stock “outside the trading windows imposed by the corporation” and announced that he had resigned.

That same day, the OSC said a holding company owned by Michael Cowpland, former CEO of software design firm Corel Corp., pleaded guilty to improper insider trading.

Cowpland’s holding company sold $20.4 million of Corel stock mere days before the software house announced a significant loss in Q3 1997. Corel’s shares fell after the announcement and the holding company saved a bundle. The judge in this case imposed a $1-million fine. That ruling, however, was quickly questioned by a higher OSC board and a final ruling is yet to be made.

Observers worry that illegal insider trading – when people use information not publicly disclosed to improve their portfolios – bodes ill for the high-tech space, an industry, according to some, that is ripe for the underhanded practice. What’s worse, they fear that the situation won’t improve soon.

“We feel it’s a problem that has not been adequately addressed,” said Watson.

Among the factors that foster illegal insider trades, consider the way people are paid these days, said Alan Stewart, a Toronto-based principal with the forensic accounting firm Kroll Lindquist Avey. Often employees receive company stock options to supplement their salaries. It’s common across the board, but particularly popular among the high-tech companies. As a result, “there are more chances of illegal insider trading occurring,” Stewart said.

Economic upheaval makes matters worse, said the OSC’s Watson. People get desperate when some of their income depends on the volatile stock market.

“If there are going to be dramatic changes, that’s where people will more likely make big profits or avoid big losses,” he said.

In the worst cases, illegal insider trading spells big trouble for a company’s financial prospects, as investors “become skeptical about the stock price, about how artificial it is if there is a lot of insider trading going on,” Stewart said.

Still, “They’d have to be pretty serious allegations [to create] no confidence in the stock,” he said, adding that employees are not often affected by such goings-on. “But people could be affected in the short run if the market senses a lot of…illegal insider trading that could be propping the price up. The market might just bail.

“In the Nortel case, I don’t really see that happening,” Stewart continued. “It’s a pretty small number of shares in comparison to the daily volume.”

The telecom gear maker said Hungle, in March 2001 when he was vice-president, finance and business development for the Americas region, transferred an investment of approximately US$78,000 in Nortel stock to a more diversified fund. Soon after Hungle made his trade, the company said it would not meet earnings expectations and its share price fell.

In December, Hungle transferred US$86,000 back into Nortel, just prior to the company’s announcement that its future looked brighter than expected and its share price rose.

The Brampton, Ont.-based firm has a history of this. When Nortel announced a massive profit warning in early 2001, some investors sued, accusing executives of insider trading. The Toronto law firm Rochon Genova Barristers and Solicitors filed a statement of claim in Ontario Superior Court on behalf of an elderly widow who reportedly lost her savings when Nortel’s share price tumbled.

“After the defendants (certain Nortel execs) had learned that Nortel could not possibly meet its earnings forecasts,…but before this negative news was disclosed publicly, Nortel’s senior management sold large amounts of their Nortel stock holdings at greatly inflated prices,” reads the claim filed in February 2001.