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PIPE Down
The SEC’s insider trading complaint against Mark Cuban highlights the debate around PIPE investments.
November 18, 2008
In what could be the highest-profile insider trading case since Martha Stewart, Internet millionaire and NBA franchise owner Mark Cuban was charged with selling shares of Mamma.com Inc. after receiving non-public information about a proposed private investment in public equity (PIPE) investment. While the complaint has proven to be an embarrassment for Cuban, it also serves as an indictment against the PIPE marketplace.
Cuban, as of early 2004, had been the largest known shareholder in Mamma.com. The company’s chief executive called him that same year to invite Cuban to participate in a PIPE offering being arranged by Merriman Curhan Ford. The CEO prefaced the proposal ahead of time by informing Cuban that the call was confidential.
“Cuban became very upset and angry during the conversation, and said, among other things, that he did not like PIPEs because they dilute the existing shareholders,” the complaint states. “At the end of the call, Cuban told the CEO, ‘Well, now I’m screwed. I can’t sell.’”
Cuban, according to court documents, proceeded to call the Merriman sales representative, who supplied him with additional “confidential details” about the proposed PIPE. “One minute after hanging up,” the complaint says, Cuban then called his broker, directing him to unload his entire 600,000-share position in Mamma.com. Ultimately, the sale saved Cuban in excess of $750,000 after the stock declined on the news. The SEC, however, is seeking disgorgement plus interest of the losses avoided, as well as a civil penalty, which according to section 21A of the Exchange Act could reach three times that sum.
The case highlights the common perception among investors that PIPEs come at the expense of shareholders. In 2005, Cuban on his blog had stated similar qualms in a post that actually discussed his Mamma.com stock sale.
“I’m not going to discus the good or bad of PIPE financing other than to say that to me it’s a huge red flag and I don’t want to own stock in companies that use this method of financing,” he wrote at the time. “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.”
With that said, in a down market PIPEs tend to become more common, as companies turn to private investors to fill in when traditional financing options disappear. In the second quarter, for example, public companies closed 348 PIPEs, representing a 14% increase according to data from PrivateRaise. In down markets it’s also the case that a PIPE investment, dilutive or not, can actually boost a company’s share price. One notable deal recently was Leonard Green & Partners’ high-profile $425 million PIPE investment in Whole Foods Market, which was generally lauded by analysts covering the companies stock, and resulted in a small gain for the company’s shares.
Cuban, in his most recent blog entry, issued a statement saying he was disappointed that the SEC chose to bring the case based on its staff’s “win-at-all-cost” objectives. “The staff’s process was result oriented, facts be damned. The government’s claims are false and they will be proven to so.”
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