New York Federal Criminal Practice Blog

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Guest blogger Valerie A. Gotlib of Sher LLP writes:

Buried in the impressive reversal of the fraud conviction of Mark Kaiser, an executive at U.S. Food Services (“USF”) in United States v. Kaiser, 609 F.3d 556 (2d. Cir. 2010), issued last summer, is a quotable acknowledgement that insider trading is a very different and unique kind of securities fraud, deserving of a heightened level of scienter.  As the Court notes, “[u]nlike securities fraud, insider trading does not necessarily involve deception, and it is easy to imagine an insider trader who receives a tip and is unaware that his conduct was illegal and therefore wrongful.  The same cannot be said of one who deliberately misleads investors about a security.”  

In addition to that notable dictum, the court held that the district court committed two independent errors.  First, the district court instructed the jury with respect to conscious avoidance without informing the jury that it could find that Kaiser had knowledge of the fraud if he was aware of a “high probability” of its existence unless he “actually believed” that it did not exist.  Second, the district court admitted double hearsay when it allowed a USF employee, Tim Lee, to testify that USF’s CEO had told Lee that USF’s general counsel wanted to go to the SEC to expose Kaiser’s improper accounting entries.  The Second Circuit found that both errors were grounds for reversal.


As one of the largest food distributors in the United States, USF was in the business of purchasing food products from manufacturers and selling them to restaurants.  Between 1994 and 2001, Kaiser managed the company’s dealings with its food vendors.  An important source of revenue for USF was derived from “promotional allowances,” or “PAs,” a type of rebate paid to USF by vendors upon satisfaction of certain purchasing targets.  Part of Mr. Kaiser’s job included negotiating PAs with vendors.  Early in 2001, Mr. Kaiser was named Chief Marketing Officer of USF, but he continued to be involved in negotiating PAs.

The indictment alleged that Mr. Kaiser fraudulently inflated USF’s PA income for the years 2001 and 2002, hid the inflated numbers from outside auditors, and made various misrepresentations to the auditors concerning the PA agreements with vendors.  The scheme included recording prepayments from vendors as income and, thereby, artificially inflating the amount of revenue earned from PA payments to ensure that USF met its earnings and other budgetary targets.  USF’s executives, including Mr. Kaiser, received bonuses only if USF met these targets.  

At trial, the government presented a case based primarily on the testimony of three alleged coconspirators, including Tim Lee, who cooperated with the government and testified pursuant to plea agreements.  Kaiser argued in his defense that he had been setup by the three USF employees and had been unaware of the fraud.  Kaiser was convicted of securities fraud, making false filings with the SEC, conspiracy to commit those crimes, and conspiracy to falsify books and records.  Kaiser appealed.

Conscious Avoidance Jury Instruction

On appeal, Kaiser argued that the district court’s jury instructions with respect to conscious avoidance omitted two necessary elements: “that knowledge of the existence of a particular fact is established 1) if a person is aware of a high probability of its existence, 2) unless he actually believes that it does not exist.” United States v. Schultz, 333 F.3d 393, 413 (2d Cir. 2003) (internal quotations marks omitted) (emphasis added). The court reviewed Kaiser’s conscious avoidance argument for plain error because he had failed to raise an objection to the instruction at trial.

The court held (and the government conceded) that the district court erred in instructing the jury on conscious avoidance because it “did not contain either the ‘high probability’ or the ‘actual belief’ language,” which the court had “long held is essential for an accurate conscious avoidance instruction.”  609 F.3d at 566.  The government argued nonetheless that there was no prejudice from the instruction in light of the overwhelming evidence that Kaiser had actual knowledge of the fraudulent scheme.  The court disagreed and found that there was a risk that the jury convicted Kaiser based on its conclusion that he was merely negligent and could have convicted him even if it found that Kaiser actually believed the PA numbers were correct.  Because there was ample evidence for the jury to question the credibility of the government’s witnesses, the court concluded that there was a reasonable probability that the jury convicted Kaiser based on a conscious avoidance theory and would not have done so but for the instructional error. The court further held that the error seriously affected the fairness, integrity or public reputation of judicial proceedings and thus met all of the requisite elements for a finding of plain error.
Admission of Hearsay Statement of USF’s General Counsel

Kaiser also argued on appeal that the district court erred in admitting certain testimony.  Lee testified that the CEO of USF told him that USF’s general counsel had discovered that Kaiser improperly had booked $18.5 million in prepayments as income and that the general counsel wanted to report this to the SEC.  Kaiser objected at trial on the ground that it was double hearsay.  The government countered that the testimony was admissible as a statement of an unindicted coconspirator under FRE 801(d)(2)(E) and that the statement was in furtherance of the conspiracy.  The district court held that the statement was admissible for the limited purpose of explaining why Lee and the CEO engaged in certain subsequent acts. 

On appeal, the Court held that the statement constituted hearsay and did not fall into any of the hearsay exceptions.  The court observed that even if the government could have overcome the hearsay objection, the statement would have been inadmissible under FRE 403 because its prejudicial effect outweighed its probative value.  Indeed, because of the highly prejudicial nature of the testimony and the risk that the jury could have given it more credence since it came from USF’s general counsel, who was not a co-conspirator, the court concluded that the error was not harmless.

Willfulness Instruction

The Court, however, rejected the defense challenge to the district court’s instruction on willfulness.  Acknowledging that insider trading is different (as noted earlier), the Court concluded that securities fraud charges like those at issue in Kaiser required merely that the defendant “had an awareness of the general wrongfulness of his conduct” and “do not require a showing that a defendant had awareness of the general unlawfulness of his conduct.”  Here, the jury was charged that they had to find that Kaiser knew the statements were “false and fraudulent” and that he made those statements “with intent to create a deception,” and the government had to prove “the contrary of the idea of mistake or good faith.”  If the jury found that Kaiser possessed such an intent, as it did, “it follows necessarily that it also concluded that there was “a realization on the defendant’s part that he was doing a wrongful act.”

Alexandra Shapiro (Macht, Shapiro, Arato & Isseries, LLP) and Richard Morvillo, Andrew Frey, Peter White, Charles Rothfeld, Daniel Brown and Michael Passaportis (Mayer Brown LLP) for defendant; AUSAs Daniel Chung, Daniel Braun. 
Despite the Supreme Court’s view in United States v. O’Hagan, 521 U.S. 642 (1997), that the misappropriation theory of insider trading is not an “all-purpose breach of fiduciary duty ban,” it has become that and more – capturing relationships not typically viewed as fiduciary ones, and tippees multiple levels removed from the source of the information.  The theory holds that a person violates Section 10(b) of the Securities Exchange Act and its related Rule 10b-5 when s/he misappropriates material non-public information for trading purposes in breach of a fiduciary or fiduciary-like duty owed to the source of the information.  One problem, as Justice Scalia identified in United States v. Skilling, 130 S. Ct. 2896 (2010),  when addressing the similarly fraught concept of honest services, is not just determining whether a fiduciary relationship exists, but what obligations that fiduciary owes in light of case-law that remains “hopelessly undefined.”  The situation is amply illustrated in United States v. Corbin, 2010 WL 4236692 (S.D.N.Y. October 10, 2010), in which SDNY Judge Marrero – meticulously applying Second Circuit precedent – held that marriage can be the fiduciary relationship predicating a charge of insider trading.  Moreover, a tippee defendant like Corbin may face criminal insider trading charges despite the fact that he had no relationship either with the source of the information or the individual who owed a duty to the source.


Corbin was charged with securities fraud arising out of his alleged trading on material, nonpublic information he received from a separately-charged co-conspirator, Matthew Devlin.  Devlin, in turn, received the information from his wife, an employee at an international communications firm that provided services to companies engaged in mergers and acquisitions.  Policies in place at her firm required Devlin's wife to maintain the confidentiality of information she learned regarding the firm's clients.  Apparently unable to honor these policies at home, she had a "domestic confidentiality policy of sorts" with Devlin, requiring him not to use or share any confidential firm information she imparted to him.  Despite this, Devlin passed the information on to Corbin and another, who made substantial profits trading on the tips emanating from the woman they dubbed the "golden goose."  The government premised the insider trading charges against Corbin on the misappropriation theory, hypothesizing that Corbin had obtained the material, nonpublic information in violation of the duty of trust and confidence that existed between Devlin and his wife.  Corbin moved to dismiss under F.R.Crim.P. 12(b)(2) and 12(b)(3), arguing that the application of misappropriation theory to him was unconstitutional because the Devlins’ relationship was not a fiduciary relationship as a matter of law.  


The court rejected Corbin's constitutional challenge, finding that a duty of trust and confidence existed between the Devlins on three separate bases (all of which are set forth in the SEC's Rule 10b5-2(b)): an agreement between them that Devlin would maintain the information in confidence; a history of sharing confidences with an expectation that confidentiality would be maintained; and the spousal relationship itself.  The court noted that in addition to being codified in Rule 10b5-2, the Second Circuit has expressly adopted the duty Corbin was charged with violating in United States v. Chestman, 947 F.2d 551 (2d Cir. 1991) (holding that the dynamic in certain marital relationships can constitute a fiduciary-like relationship for insider trading liability).  The court also rejected the argument that Rule 10b5-2 was unconstitutional because the SEC exceeded its authority in promulgating it.


The Supreme Court approved the misappropriation theory in O’Hagan in the context of a lawyer who had traded on information he stole from his law firm’s client.  Thus, O’Hagan had breached an archetypical fiduciary duty that he himself owed to the source.  Corbin, by contrast, obtained the information from someone who owed an unusual duty to a conduit of the information.  The expansion of misappropriation theory to encompass such attenuated tippees and novel duties makes it ripe for a void-for-vagueness constitutional challenge.  While the court’s holding in Corbin is entirely consistent with Second Circuit precedent, that precedent may not survive Supreme Court scrutiny.  Like § 1346 and its elusive predicate “the intangible right to honest services,” we can expect that when the Supreme Court addresses misappropriation theory again, it will - at the very least - “pare [it] down” to “paramount applications” presenting no vagueness problem (Skilling, 130 S.Ct. at 2928).
The NYSACDL has published its fall issue of Atticus.  Judge Bellacosa has contributed an eloquent piece in support of open-file discovery, relevant both to state and federal prosecutorial practices, highlighting the success of a project in the Brooklyn DA's office, and advocating a state-wide statutory authorization, with uniform standards of application and accountability.  Mark Hosken of the WDNY Federal Defender has contributed a notable piece on the Ex Post Facto Clause in a post-Booker world, and I have contributed a piece on some recent decisions from the Second Circuit, including the Rajaratnam and Amanuel cases on wiretaps, the Martinez case on Batson, and Ortiz on sentencing. 
The NYSACDL has published the second edition of its excellent revitalized Atticus.  It's well worth checking out - Donna Newman gives a fascinating fly-on-the-wall account of the Russian spy case, and Donald Thompson has a moving essay on a wrongful conviction.  I have also contributed a piece highlighting some recent Second Circuit cases, including three cases not previously mentioned in this blog:  United States v. Julius (suppression); United States v. Sabhnani (liability for omissions, and also interesting on the issue of venue transfer and psychological evaluations of government witnesses); and United States v. Oluwanisola (proffer statements). 
As this blog has often pointed out (see here and here), the investigation and prosecution of lawyers for their lawyering is different.  Because these cases carry the potential to chill creative and zealous advocacy, they merit special precautions and scrutiny.  In fact, the ABA includes several recommendations in its "Standards on Prosecutorial Investigations" on how defense counsel should be prosecuted, including noting that "the prosecutor’s office should protect against the use of false allegations as a means of harassment or abuse that may impact the independence of the defense counsel or the Constitutionally protected right to counsel."  (Click here for the complete set of standards.).  That's not to say that lawyers should get a free pass with the claim that their conduct was mere advocacy (see here for Professor Gillers' tough comments on lawyers who hide behind their advocate status), but the line between ethical advocacy and criminal conduct can be a fine one and in the eye of the beholder.    

This fascinating issue will be the subject of a roundtable discussion at the Association of the Bar of the City of New York tomorrow evening from 6:30 to 8:30 p.m.  Conceived and organized by this blog author, on behalf of the Criminal Law and Professional Responsibility Committees, it features Gerald Shargel, Daniel Alonso, Barry Bohrer, AUSA Jon Kolodner and Professor Ellen Yaroshefsky.  It will be moderated by the Hon. Carol Bagley Amon of the Eastern District of New York.  For good measure, the program is free and offers two CLE credits in ethics.  There is still time to register (see here), but space is filling up fast!

Update [May 12, 2010]: The New York Law Journal has this report on the debate.

Throwing out the convictions of Robert Simels’ associate for witness tampering among other charges, EDNY Judge Gleeson found in United States v. Irving, 2010 WL 430952 (E.D.N.Y. February 8, 2010), that there was insufficient evidence to support the “sizable inferential leap[s]” necessary to find the associate knew of Simels’ “hair-raisingly criminal” plans.  The case, previously discussed here and here, is notable because of what it says (and doesn’t say) about “mere association” in a criminal case, and for its discussion of the standards applicable to sufficiency challenges.  

Mere Association Not Enough

Irving may have been Simels’ law associate, but that fact does not dilute or alter the well-established principle that “mere association with those implicated in an unlawful undertaking is not enough to prove knowing involvement.”  Notably (and rightly) absent from the decision is any suggestion that Irving, by virtue of her training, status and professional responsibilities as a lawyer, should be held to a different standard of criminal liability:

Specifically, Irving’s association with Simels and her presence in his law offices were insufficient to establish that she aided and abetted his crimes, even if her actions assisted him and indeed even if she were aware that he was committing a crime. As I instructed the jury at trial, the government was required to prove beyond a reasonable doubt that Irving herself acted with the specific intent to influence or prevent the testimony of the witnesses through intimidation, threats or corrupt persuasion.

Government’s Case Less than the Sum of its Parts

In a lesson on effective summation, the decision deconstructs the government’s case against Irving in painstaking detail, showing how she was simply not present for any of the crucial meetings in which Simels was charged with plotting to intimidate witnesses, and how her various emails and memoranda did not establish, as the government claimed, that she knew of any plan to “neutralize” witnesses by illegal means.  The court goes on:

It often happens that the whole of the government’s case is greater than the sum of its parts . . . However, that is not the case here.  Indeed, when the evidence against Irving is viewed from a broader perspective, it is arguably less than the sum of its parts, for the theory that Simels implicated Irving in his crimes made no sense. Simels had been a criminal defense attorney for more than 30 years.  Irving was a young, inexperienced attorney. When she began working for him in December 2006, Simels had already begun defending Khan.  Simels had numerous reasons to involve Irving in his many legitimate lawyering functions but none to involve her in his illegal activity.  

Competing Inferences of Guilt and Innocence

How should a court assess a sufficiency challenge where the evidence gives equal circumstantial support to a theory of guilt and a theory of innocence?  Not clear under Second Circuit law, Judge Gleeson points out, noting decisions that give opposing answers.  So he applies the more stringent formulation, “which requires deference to the jury’s verdict even where a verdict of not guilty would have been equally supported by the evidence at trial.”  But even under this standard, he notes that

[T]he Second Circuit has emphasized that where a fact to be proved is also an element of the offense, “it is not enough that the inferences in the government’s favor are permissible.”  The court “must also be satisfied that the inferences are sufficiently supported to permit a rational juror to find that the element, like all elements, is established beyond a reasonable doubt.”


This was a case where Judge Gleeson had a “very real concern that an innocent person may have been convicted’ – a concern, I would argue, that is heightened in cases involving prosecutions of lawyers for acts of advocacy, because jurors may not fully appreciate the dictates and ethics of zealous advocacy.  Processes at the core of advocacy – withholding judgment, demanding the development of additional facts, and embracing the concept that memory and personal narratives can be fluid – are often viewed by non-lawyers as manipulative and relativistic.  For example, as Judge Gleeson points out (but a non-lawyer may not immediately grasp): “There is nothing remotely criminal about a defense attorney telling a defense investigator that a particular witness could offer damaging testimony against the defendant at trial.  And Irving’s act of giving [a witness’s] address to a person acting as an investigator for the defense is innocuous.”  Luckily for Irving, her trial judge knows the difference between lawyering on the edge of ethics and lawyering that spills over into criminal conduct.

Lawyers: Javier Solano, Lawrence Berg, Law Offices of Javier A. Solano, PLLC (Defendant); AUSAs Daniel Brownell, Steven D'Alessandro, Morris Fodeman.
Guest contributor Marshall Mintz writes:

Fraud based on the “deprivation of honest services” is a controversial charge likely to elicit some notable rulings from the Supreme Court this term, as noted here.  In particular, the cases of Jeffrey Skilling and Conrad Black may produce decisions that reign in the reach of honest services fraud in the context of private businesses, two varieties of which have been identified by the Second Circuit in United States v. Rybicki: cases involving bribes or kickbacks, and cases involving self-dealing.  Bribery/kickback cases need no introduction.  Self-dealing cases, on the other hand, usually involve the defendant causing his employer to do business with a corporation or enterprise in which the defendant has a secret, undisclosed interest.  In Rybicki, the Second Circuit adds that "[i]n the self-dealing context, though not in the bribery context, the defendant's behavior must [.] cause, or at least be capable of causing, some detriment – perhaps some economic or pecuniary detriment – to the employer.” 

This distinction is at issue in United States v. Demizo, 2009 WL 2163099 (EDNY July 20, 2009), where the defendant was convicted after trial of securities fraud and making false statements.  Because EDNY Judge Gleeson concluded, however, that there was no factual predicate to treat the case as a self-dealing one, he declined to defendant’s requested jury charge on the issue of detriment.  The case also includes an interesting discussion on the issue of permitting the defendant to introduce at trial a statement the government made in a brief under the "admission of a party opponent” rule.  

Refusal to Charge:

Relying on the Second Circuit’s decision in United States v. Rybicki, 354 F.3d 124 (2d Cir. 2003), the court rejected the argument that the jury should have been instructed that the fraud involved self-dealing as opposed to kickbacks, and the government was therefore required to prove a possible detriment to the employers.  

Assuming the validity of the legal argument, the court deemed any such instruction inappropriate because the defense “failed to identify any evidence in the record that could permit the jury to find that this was a self-dealing case.”  As the Second Circuit has suggested, self-dealing involves a situation where the defendant causes the employer to do business with a corporation or other enterprise in which the defendant has a “secret interest.”  That term has not been defined, but the relevant cases all involve defendants who had undisclosed ownership interests in those entities and Demizio “did not argue that the record showed he had such a cognizable interest in the firms to which he steered his employer’s business.”  

The court also rejected the defense’s argument that the case involved self-dealing because the government alleged a conflict of interest because, “every fraud case, including the kickback scheme at issue in Rybicki, involve a conflict of interest in that every individual has a personal interest in pocketing a kickback while every employer has an interest in hiring people who eschew such conduct.”  

Refusal to Admit a Statement from a Government Brief

The defense also argued that it should have been permitted to introduce into evidence a government pre-trial brief submitted in opposition to a request for a bill of particulars, reasoning that statements made by an attorney concerning a matter within his employment may be admissible against the represented party.  

The court explained that while the Second Circuit has previously considered the admissibility of statements made in a bill of particulars and opening statements made by defense counsel at a previous trial and found that, while not inadmissible per se, policy concerns weigh against allowing such statements to be admitted as admissions by a party-opponent.  Against that backdrop, Judge Gleeson reasoned that because the brief was a legal memoranda and not a formal pleading, it was merely an assertion about the charges in the indictment – which is a charge of the grand jury – and could not properly be deemed a statement by the government .
Finally, rejecting the claim that the brief was evidence that the government had changed its theory during the trial, the court found the assertion irrelevant “to any factual issue submitted to the jury” and, in any event, the probative value was substantially outweighed by the risk of confusion.   

Attorneys: David Spears, Charlita Mays (Spears & Imes LLP) (defendant); AUSA’s Winston Chan, Kelly T. Currie, Winston Paes


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