Calculating “Profit Realized” Under Section 16(b) Andrew Chin chin@unc AndrewChin

1. Calculating “Profit Realized”Under Section 16(b) Andrew Chin chin@unc.eduAndrewChin.com The Learned Hand Unformula:Why Gratz Says Nothing About How toCalculate Short-Swing Insider Trading Liability (forthcoming 2016)

2. “The only rule whereby all possible profits can be surely recovered is that of lowest price in, highest price out — within six months…” Smolowe (1943)

3. LIHO (Smolowe): $0

4. LIHO (Smolowe): + $1500

5. LIHO (Smolowe): + $1500

6. LIHO (Smolowe): + $1000

7. LIHO (Smolowe): $2500

8. Net profit: $0

9. Strict Fiduciary Liability Doctrine “We must suppose that the statute was intended to be thorough-going, to squeeze all possible profits out of stock transactions, and thus to establish a standard so high as to prevent any conflict between the selfish interest of a fiduciary officer, director, or stockholder and the faithful performance of his duty.” Smolowe (1943)

10. Statutory Interpretation “any profit realized… from any purchase and sale, or any sale and purchase…within any period of less than six months… shall inure to and be recoverable by the issuer… “but no such suit shall be brought more than two years after the date such profit was realized.”

11. Strict Liability Smolowe: “its generality permits and points to … an arbitrary matching to achieve the showing of a maximum profit.” “any profit realized… from any purchase and sale, or any sale and purchase…within any period of less than six months… shall inure to and be recoverable by the issuer… “but no such suit shall be brought more than two years after the date such profit was realized.”

12. Strict Liability Maximum after-the-fact value that inside information could have had,given the insider’s stock transactions,regardless of how such information may or may notactually have been used. (R. Davis, 1974)

13. The Smolowe Formula “The only rule whereby all possible profits can be surely recovered is that of lowest price in, highest price out — within six months…” Smolowe (1943)

14. Arnold Jacobs (1987)

16. LIHO (Smolowe): + $5000

17. LIHO (Smolowe): + $5000

18. LIHO (Smolowe): + $3000

19. LIHO (Smolowe): $8000

21. Jacobs: + $2000

22. Jacobs: + $2000

23. Jacobs: + $5000

24. Jacobs: + $7000

25. Jacobs: + $2000

26. Maximum: + $9000

27. } more than six months Maximum: + $9000 LIHO (Smolowe): + $8000

28. Smolowe rule cannot be used when: • trades cover a period of more than six months, OR • some trades are outside statute of limitations

29. [ open ]

30. ¶1. What is the Smolowe rule’s worst-case error?

31. worst-case error: 50% 100% Smolowe rule cannot be used when: • trades cover a period of more than six months • some trades are outside statute of limitations

33. $2,000,000 vs. $1,001,000

35. (sued 4/1/15)

36. (sued 4/1/15) $1,000,000 vs. $1,000

37. ¶6. Has the Smolowe rule produced errors in any actual cases?

38. Chechele v. Vicis Capital (2012) 252 purchases, 81 sales 8/2009–10/2010

39. Smolowe rule: $34,967 Settlement: $30,000

40. Maximum possible profit: $35,361

41. ¶7. Is there a method that is always accurate?

42. 16(b) calculation reduces to Linear Programming (via the transportation problem) Chin (1997)

43. Simplex Algorithm (1947)

44. Karmarkar Algorithm (1984)

45. ¶7. Can it be made easy and free for public use?

46. unclaw.com/chin/16b [with help from David Adler, Stephen Dew, Tim Kang, Kevin Valakuzhy]

49. Cf. Bennigson v. Huntsman (S.D.N.Y. 2013)