Mark Cuban's Going to Have to Write a Big Check

As ESPN.com news services report, Mark Cuban has been charged with insider trading that netted him roughly $750,000 he allegedly should not have earned.

The Securities and Exchange Commission filed a civil lawsuit against Cuban on Monday in federal court in Dallas. The agency says that in June 2004, Cuban was invited to get in on the coming stock offering by Mamma.com Inc. after he agreed to keep the information private.

The SEC says Cuban knew the shares would be sold below the current market price, and a few hours after receiving the information, told his broker to sell all shares in the search-engine company.Mark Cuban

"As we allege in the complaint, Mamma.com entrusted Mr. Cuban with nonpublic information after he promised to keep the information confidential. Less than four hours later, Mr. Cuban betrayed that trust by placing an order to sell all of his shares," Scott W. Friestad, deputy director of the SEC's Division of Enforcement, said in a statement. "It is fundamentally unfair for someone to use access to nonpublic information to improperly gain an edge on the market."

Long before he was charged with any wrongdoing, Mark Cuban described the transaction on his blog, BlogMaverick (in 2005).

I had purchased stock in Mamma.com in hope that it could be an up and coming search engine. I thought I had done some level of due diligence. Talked to the company management. Talked to some employees who worked in sales. Read the SEC Filings.

I knew that they had a checkered past and had been linked to stock promoter Irving Kott, and that their law firm still handled some of Kotts business, but the CEO, Chairman, lawyers all said that things were reformed and the company was focused on its business.

Then the company did a PIPE financing. Im not going to discuss the good or bad of PIPE financing other than to say that to me its a huge red flag and I dont want to own stock in companies that use this method of financing. Why?

Because I don't like the idea of selling in a private placement stock for less than the market price, and then to make matters worse, pushing the price lower with the issuance of warrants. So I sold the stock.

Randy Shain is a Vice President of First Advantage Investigative Services and the author of a book and several articles and book chapters on Wall Street investigations.

He has read the SEC's complaint, and agreed to comment on it:

What is Mark Cuban being accused of here?
These are all allegations. Mark Cuban may very well have a defense that we don't know about.

But the SEC is saying that an investment bank recommended to the head of Mamma.com that they invite Mark Cuban to be a private investor in their PIPE investment vehicle.

A PIPE is a Private Investment in a Public Entity. It's a way for a public company to raise money -- fair or not, the view is that a lot of them are done when a company is getting a little desperate for cash, which tends to make the market a little nervous.

The CEO allegedly reached Cuban, told him the call was confidential, and then told him about the PIPE. Cuban didn't like it, and allegedly told the CEO that he was screwed, and now would not be allowed to sell. And, according to the rules of stock trading, that was exactly right. He had insider information and could not sell. But then the record shows he did sell.

It's not hard to sympathize with Cuban's desire to sell. I agree with him, about PIPEs. He must have felt screwed, having bought the stock, and then learning that the price was likely to go down.

But it's too bad. If you don't own the majority of the company, they might make decisions you don't like. It's a risk.

Do we know if Cuban knew he wasn't allowed to use that information to trade? Did he know he was breaking the rules?
The company is alleging that they told him on that call -- that the CEO said this information is confidential and we're trusting you to keep it confidential.

He may dispute that. But that's probably not going to cut it. That's a bit like the Martha Stewart case -- you can say you didn't know it wasn't allowed, but you sort of have to know. He's pretty sophisticated. It's hard to make clear you're smart, for so long, then suddenly pretend you're dumb.

So what is the penalty likely to be?
Mark Cuban's going to have to write a big check. The complaint calls for "disgorgement of profits" which is government talk for giving back the money that you should not have made. With the $750,000 he reportedly made, plus some fines, my guess is that might be a million dollars.

And then this could be all done. It's a civil filing at this point. I can't imagine there will be a criminal filing, like what happened in the Martha Stewart case. That tends to only happen if there is a cover-up, which there isn't any suggestion of here.

She went to jail. He's going to be angry, and is likely going to have to pay a million dollars. But at the end of the day: So what?

What's wrong about doing what he did?
In the big picture, there's nothing wrong, of course, with selling a stock that is going down.

But what the SEC, the regulators, are trying to prevent is someone making a trade that benefits them unfairly. In the NBA, you can make a trade sometimes that benefits both parties. In stocks, it's a zero sum game. If I make money on a stock transaction, somebody else loses.

When Mark Cuban found out about the PIPE financing, he apparently believed the stock would go down, and sold his stock. That didn't screw Mamma.com, and it didn't screw the SEC. It screwed the poor schlub who bought that stock from him and presumably didn't know about the PIPE. The SEC's job is to make it so that both parties at least have a shot at knowing the same things before they trade, and if the allegations are true, that's what didn't happen here.

(Photograph by Frederick M. Brown/Getty Images)