Alleged Board Insider Trading: The Case of Rajat Gupta

Abstract

This case recounts the story of Rajat Gupta, a Goldman Sachs board member and senior partner emeritus of McKinsey & Co., who was accused by the government of giving critical non-public financial information to Raj Rajaratnam, Galleon Group founder, during the financial crisis of 2008. The information passed along to Rajaratnam was about a pending $5 billion investment by Warren Buffett’s Berkshire Hathaway in Goldman Sachs at a time when its stock had been faltering. The government alleged that based on this information, Rajaratnam purchased a large number of shares in the company and then sold them when the deal became public and Goldman’s stock rose. Rajaratnam purportedly made $18 million on these trades.

This case was prepared for inclusion in Sage Business Cases primarily as a basis for classroom discussion or self-study, and is not meant to illustrate either effective or ineffective management styles. Nothing herein shall be deemed to be an endorsement of any kind. This case is for scholarly, educational, or personal use only within your university, and cannot be forwarded outside the university or used for other commercial purposes.

2024 Sage Publications, Inc. All Rights Reserved

You are not authorized to view Teaching Notes. Please contact your librarian for instructor access or sign in to your existing instructor profile.

Resources

Exhibit 1: Excerpted SEC Filing against Rajat K. Gupta

Securities Act Of 1933

Release No. 9192/March 1, 2011

SECURITIES EXCHANGE ACT OF 1934

Release No. 63995/March 1, 2011

INVESTMENT ADVISERS ACT OF 1940

Release No. 3167/March 1, 2011

INVESTMENT COMPANY ACT OF 1940

Release No. 29590/March 1, 2011

ADMINISTRATIVE PROCEEDING File No. 3-14279

In the Matter of

Rajat K. Gupta,

Respondent.

ORDER INSTITUTING PUBLIC ADMINISTRATIVE AND CEASE-AND-DESIST PROCEEDINGS PURSUANT TO SECTION 8A OF THE SECURITIES ACT OF 1933, SECTIONS 15(b) AND 21C OF THE SECURITIES EXCHANGE ACT OF 1934, SECTION 203(f) OF THE INVESTMENT ADVISERS ACT OF 1940, AND SECTION 9(b) OF THE INVESTMENT COMPANY ACT OF 1940.

I.

The Securities and Exchange Commission (“Commission”) deems it appropriate and in the public interest that public administrative and cease-and-desist proceedings be, and hereby re, instituted pursuant to Section 8A of the Securities Act of 1933 (“Securities Act”), Sections 15(b) and 21C of the Securities Exchange Act of 1934 (“Exchange Act”), Section 203(f) of the Investment Advisers Act of 1940 (“Advisers Act”), and Section 9(b) of the

Investment Company Act of 1940 (“Investment Company Act”) against Rajat K. Gupta (“Respondent” or “Gupta”).

After an investigation, the Division of Enforcement alleges that:

A. SUMMARY
  • This matter concerns insider trading by Rajat K. Gupta (“Gupta”), who on a number of occasions disclosed material nonpublic information that he obtained in the course of his duties as a member of the Boards of Directors of The Goldman Sachs Group, Inc. (“Goldman Sachs”) and The Procter & Gamble Company (“Procter & Gamble”) to Raj Rajaratnam (“Rajaratnam”), the founder and a Managing General Partner of the hedge fund investment adviser Galleon Management, LP (“Galleon”). Rajaratnam, in turn, either caused the Galleon hedge funds that he managed to trade based on the material nonpublic information, or passed the information on to others at Galleon and caused trades based on the information.
  • Specifically, Gupta disclosed to Rajaratnam material nonpublic information concerning Berkshire Hathaway Inc’s (“Berkshire”) $5 billion investment in Goldman Sachs before it was public announced on September 23, 2008, as well as Goldman Sach’s financial results for both the second and fourth quarters of 2008. Rajaratnam caused the various Galleon hedge funds that he managed to trade based on the material nonpublic information, generating illicit profits and loss avoidance of more than $17 million. In addition, Gupta disclosed to Rajaratnam material nonpublic information concerning Procter & Gamble’s financial results for the quarter ending December 2008. Rajaratnam relayed this information to others at Galleon, who caused Galleon funds to trade based on the information, generating illicit profits of over $570,000.
  • In the course of carrying out the insider trading scheme, Rajaratnam informed certain conspirators that he obtained nonpublic information concerning Goldman Sachs from his source on the company’s Board. Rajaratnam informed at least one other conspirator that he obtained nonpublic information concerning Procter & Gamble from his source on Procter & Gamble’s Board. As set forth below, Gupta was Rajaratnam’s source on both companies’ Boards and knowingly or recklessly disclosed material nonpublic information to Rajaratnam for use in trading activities.
  • During the relevant period, Gupta had a variety of business dealings with Rajaratnam and stood to benefit from his relationship with Rajaratnam. In addition, Gupta was an investor in, and a director of, Galleon’s GB Voyager Multi-Strategy Fund SPC, Ltd., a master fund with assets that were invested in numerous Galleon hedge funds, including those that traded based on Gupta’s illegal tips.
  • By virtue of his conduct, Gupta willfully violated Section 17(a) of the Securities Act, and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
B. RESPONDENT

Gupta, age 62, resides in Westport, Connecticut. From November 2006 through May 2010, Gupta was a member of Goldman Sachs’s Board of Directors. During his tenure on Goldman Sachs’s Board, Gupta served as a member of the Board’s Audit Committee, Corporate Governance and Nominating Committee, and Compensation Committee. Since 2007, Gupta has also been a member of Procter & Gamble’s Board of Directors, and has served on the Board’s Audit Committee and its Innovation and Technology Committee. Gupta serves on the Boards of Directors of several other public companies and is affiliated with other entities, both public and private. Gupta is a Founding Partner and the Chairman of New Silk Route Partners LLC, an investment firm that was originally called Taj Capital Partners and was founded by Gupta, Rajaratnam, and others in 2006. Gupta holds a Bachelor of Technology degree in mechanical engineering from the Indian Institute of Technology and an MBA from Harvard Business School.

C. OTHER RELEVANT ENTITIES (Not excerpted)

D. ALLEGATIONS

Gupta Disclosed Material Nonpublic Information to Rajaratnam Concerning Berkshire’s $5 billion Investment in Goldman Sachs

In September 2008, Gupta disclosed to Rajaratnam material nonpublic information he learned as a member of the Goldman Sachs Board of Directors concerning, among other things, Berkshire’s $5 billion investment in Goldman Sachs, which was publicly announced on September 23, 2008. Rajaratnam, in turn, caused the Galleon Tech funds to trade based on the material nonpublic information that Gupta disclosed.

Soon after the bankruptcy filing of Lehman Brothers Holdings Inc. (“Lehman”) on September 15, 2008—which sent the financial markets into an unprecedented tailspin—senior management of Goldman Sachs began considering various strategic alternatives as they tried to navigate through the ongoing financial crisis. These alternatives included a potential investment from an institutional investor like Berkshire, and were variously discussed at Goldman Sachs Board meetings and posting calls during the week and a half following Lehman’s bankruptcy filing.

Goldman Sachs executives continued to explore various strategic alternatives the weekend after the Lehman bankruptcy. The Goldman Sachs Board convened a Special Meeting on Sunday, September 21, 2008. During that meeting, which Gupta attended via teleconference, the Board approved Goldman Sachs becoming a Bank Holding Company. The Goldman Sachs Board was also updated on certain strategic alternatives that had been considered over the weekend.

Goldman Sachs CEO Lloyd Blankfein (“Blankfein”) had a long-standing practice of informing the Board during posting calls, meetings and phone calls about the then-current financial status of the firm. Goldman’s net revenues had been particularly strong in the week leading up to the meeting—despite the fact that the week had begun with Lehman’s bankruptcy and that the financial markets were in a general state of turmoil. While the Board’s determination to convert Goldman Sachs into a Bank Holding Company was publicly disclosed on the evening of September 21, information concerning Goldman Sachs’s strategic alternatives and strong net revenue remained confidential.

Telephone records and calendar entries indicate that, on the morning of Monday, September 22—the day after the Sunday evening Goldman Sachs Board meeting—Gupta and Rajaratnam very likely had a telephone conversation. Shortly after that conversation, Rajaratnam caused the Galleon Tech funds, which held o preexisting long or short position in Goldman Sachs securities at the time, to purchase over 80,000 Goldman Sachs shares.

A Special Telephonic Meeting of the Goldman Sachs Board was convened at 3:15 p.m. on September 23, during which the Board considered and approved a $5 billion preferred stock investment by Berkshire in Goldman Sachs and a public equity offering. As Gupta knew, Berkshire was one of the most respected and influential investors and its decision to make such a large investment in Goldman Sachs would likely be viewed as a strong vote of confidence in the firm when the information was disclosed to the public. The infusion of a large amount of new capital in the firm also would likely be viewed favorably by investors. Gupta participated in the Board meeting telephonically, staying connected to the call until approximately 3:53 p.m. Immediately after disconnecting from the Board call, Gupta called Rajaratnam from the same line. Within a minute after this telephone conversation, at 3:56 p.m. and 3:57 p.m., and just minutes before the close of the markets, Rajaratnam caused the Galleon Tech funds to purchase more than 175,000 additional Goldman Sachs shares. Rajaratnam later informed a conspirator that he received the information upon which he placed the trades minutes before the close.

Goldman Sachs publicly announced the Berkshire investment, along with a $2.5 billion public stock offering, after the market close on September 23. Goldman Sachs’s stock price, which had closed at $125.05 per share on September 23, opened at $128.44 per share the following day and rose to a closing price that day of $133.00 per share, a gain of 6.36% from the prior day’s closing price.

On September 24, Rajaratnam caused the Galleon Tech funds to liquidate the long position they had built on September 23, generating profits of over $900,000.

Exhibit 2: Goldman Sachs Financial Highlights, 2008–2010

(Dollars and share amounts in millions except per share amounts)

Dec. 2010

Dec. 2009

Nov. 2008

Net revenues

$39,161

$45,173

$22,222

Pre-tax earnings

12,892

19,829

2,336

Net earnings

8,354

13,385

2,322

Net earnings applicable to common shareholders

7,713

12,192

2,041

Diluted earnings per common share

$13.18

$22.13

$4.47

Avg. diluted common shares outstanding

585.3

550.9

456.2

Dividends declared per share

$1.40

$1.05

$1.40

Book value per share

128.72

117.48

98.68

Tangible book value per share

118.63

108.42

88.27

Ending stock price

168.16

168,74

78.99

Total assets

$991,332

$848,942

$884,547

Other secured financings (long-term)

3,848

11,203

17,458

Unsecured long-term borrowings

174,399

185,085

168,220

Total shareholders’ equity

77,356

70,714

64,369

Leverage ratio

11.8x

12.0x

13.7x

Debt to equity ratio

2.3x

2.6x

2.6x

Return on avg. shareholders’ equity

11.5%

22.5%

4.9%

Total staff

35,700

32,500

34,500

Assets under management (in billions)

$840

$871

$779

Exhibit 3: Business Principles

Our clients’ interests always come first.

Our experience shows that if we serve our clients well, our own success will follow.

Our assets are our people, capital and reputation.

If any of these is ever diminished, the last is the most difficult to restore. We are dedicated to complying fully with the letter and spirit of the laws, rules and ethical principles that govern us. Our continued success depends upon unswerving adherence to this standard.

Our goal is to provide superior returns to our shareholders.

Profitability is critical to achieving superior returns, building our capital, and attracting and keeping our best people. Significant employee stock ownership aligns the interests of our employees and our shareholders.

We take great pride in the professional quality of our work.

We have an uncompromising determination to achieve excellence in everything we undertake. Though we may be involved in a wide variety and heavy volume of activity, we would, if it came to a choice, rather be best than biggest.

We stress creativity and imagination in everything we do.

While recognizing that the old way may still be the best way, we constantly strive to find a better solution to a client’s problems. We pride ourselves on having pioneered many of the practices and techniques that have become standard in the industry.

We make an unusual effort to identify and recruit the very best person for every job.

Although our activities are measured in billions of dollars, we select our people one by one. In a service business, we know that without the best people, we cannot be the best firm.

We offer our people the opportunity to move ahead more rapidly than is possible at most other places.

Advancement depends on merit, and we have yet to find the limits to the responsibility our best people are able to assume. For us to be successful, our men and women must reflect the diversity of the communities and cultures in which we operate. That means we must attract, retain and motivate people from many backgrounds and perspectives. Being diverse is not optional; it is what we must be.

We stress teamwork in everything we do.

While individual creativity is always encouraged, we have found that team effort often produces the best results. We have no room for those who put their personal interests ahead of the interests of the firm and its clients.

The dedication of our people to the firm and the intense effort they give their jobs are greater than one finds in most other organizations.

We think that this is an important part of our success.

We consider our size an asset that we try hard to preserve.

We want to be big enough to undertake the largest project that any of our clients could contemplate, yet small enough to maintain the loyalty, the intimacy and the esprit de corps that we all treasure and that contribute greatly to our success.

We constantly strive to anticipate the rapidly changing needs of our clients and to develop new services to meet those needs.

We know that the world of finance will not stand still and that complacency can lead to extinction.

We regularly receive confidential information as part of our normal client relationships.

To breach a confidence or to use confidential information improperly or carelessly would be unthinkable.

Our business is highly competitive, and we aggressively seek to expand our client relationships.

However, we must always be fair competitors and must never denigrate other firms.

Integrity and honesty are at the heart of our business.

Expect our people to maintain high ethical standards in everything they do, both in their work for the firm and in their personal lives.

Exhibit 4: Preamble to Code of Business Conduct and Ethics

At Goldman Sachs, we believe the best way to build and to maintain trust is to conduct every element of our business according to the highest standards of integrity.

Our ability to do so rests on the behavior of those who work here, from consultants to employees to our chief executive to our directors. To that end, we select our people based not just on their skills, accomplishments and potential, but also on their principles and values. A commitment to integrity and ethical behavior is a critical factor in our decisions regarding professional advancement and compensation.

The firm maintains a Code of Business Conduct and Ethics, supplemented by both our Business Principles and compendium of internal policies, to inform and guide our people in their roles. We recognize, however, that a formal Code or policy cannot cover every situation. In a fast-paced and complex industry and an inherently innovative business, it is impossible to predict the various different unique circumstances our people will face during their careers. As such, the policies outlined in this Code should be viewed as the baseline of expected behavior at the firm.

While ethical behavior requires us to comply fully with all laws and regulations, “compliance” with the law is the minimum standard to which we hold ourselves. Those who work with us honor not just the letter of existing laws, but the spirit that underpins and informs them. We recognize that over time what is considered acceptable today may be viewed differently tomorrow. Thus, we do not look to prevailing “market practices” as an indication of appropriate behavior. We base our decisions on legal and regulatory rules, our Code, our Business Principles and our values. For the people of Goldman Sachs, ethical behavior is inseparable from integrity and good judgment.

Our franchise has evolved considerably since our founding in 1869, driven by the changing needs of a global world and an increasingly sophisticated and diverse client base. The scope of our business means that delivering outstanding client service may at times generate real or perceived conflicts for the firm. We are committed to addressing such conflicts with all appropriate disclosure and transparency. If a transaction generates a conflict that cannot be addressed, we would prefer to lose the business than to abandon our principles.

Every person at Goldman Sachs is a steward to our heritage of client service and our reputation as an ethical company. Our success has been and will continue to be dependent on the trust that our clients and shareholders place in us. Everything we do—every piece of advice we give, every transaction we execute, every dollar we manage, every interaction in which we take part—must serve to strengthen that trust.

Exhibit 5: Protecting Confidential Information

(A subsection of Goldman Sachs “Code of Business Conduct and Ethics”)

In the course of business, our people often have access to confidential or proprietary information about the firm, our clients, prospective clients or other third parties. Our business and reputation depend on the commitment of each of you to protect this information. You must maintain the confidentiality of the information with which you are entrusted, including complying with information barrier procedures applicable to your business. The only exception is when disclosure is authorized or legally mandated. Confidential or proprietary information includes, among other things, any non-public information concerning the firm (including its businesses, financial performance, results or prospects) and any non-public information provided by a third party with the expectation that the information will be kept confidential and used solely for the business purpose for which it was conveyed. We encourage a careful review of the Compendium for detailed guidance on this important topic.

References:

ABC News (October27, 2011), “Beyond Galleon: Seven Notorious Insider Trading Scandals”. Retrieved August 27, 2013, from http://abcnews.go.com/Business/galleon-notorious-insider-trading-scandals/story?id=1482
Carney, J. (March1, 2011), “Rajat Gupta: Bigger than Madoff?”http://www.cnbc.com/id/41853809/Rajat_Gupta_Bigger_Than_Madoff/
Ferrell, O. C. , Fraedrich, J. , and Ferrell, L. (2008), Business Ethics: Ethical Decision Making and Cases,
7th Edition
, Boston: Houghton Mifflin Company, p. 104.
Goldman Sachs Web Site. http://www2.goldmansachs.com/
Guerrera, F. & McCrum, D. (March 2, 2011), “Rising to the Top at McKinsey”, Financial Times, p. 16.
Newkirk, T. C. (September19, 1998), “Speech by SEC Staff: Insider Trading—A U.S. Perspective”, 16th International Symposium on Economic Crime, Jesus College, Cambridge, England.
Newmark, E. (March16, 2011), “Mean Street: The Disgrace of Rajat Gupta”. http://blogs.wsj.com/deals/2011/03/16/mean_street_the_disgrace_of_rajat_gupta/
Pulliam, S. (March2, 2011), “Feds Accuse P & G Director”, Wall Street Journal, Vol. CCLVII, No. 49, p. A-1.
Pulliam, S. , Rappaport, L. , & Chad B. (March24, 2011). “Goldman Had ‘Inkling’ of Investigation”, Wall Street Journal, p. C1.
Rushe, D. (April10, 2013), “KPMG Insider Trading Scandal Caused by ‘Lapse Of Judgment’”, The Guardian.
Sorkin, A. R. (2010), Too Big to Fail, London, England: Penquin Books, p. 490.
U.S. Securities and Exchange Commission (2011), “Insider Trading”. http://www.sec.gov/answers/insider.htm
U.S. Securities and Exchange Commission (2011), Administrative Proceeding File No. 3-14279, In the Matter of Rajat K. Gupta, Respondent.
Wagner, D. & Gordon, M. (March2, 2011), “Ex-Goldman Director Gupta Charged with Insider Trading”, Waco Tribune-Herald, p. 1.

This case was prepared for inclusion in Sage Business Cases primarily as a basis for classroom discussion or self-study, and is not meant to illustrate either effective or ineffective management styles. Nothing herein shall be deemed to be an endorsement of any kind. This case is for scholarly, educational, or personal use only within your university, and cannot be forwarded outside the university or used for other commercial purposes.

2024 Sage Publications, Inc. All Rights Reserved

locked icon

Sign in to access this content

Get a 30 day FREE TRIAL

  • Watch videos from a variety of sources bringing classroom topics to life
  • Read modern, diverse business cases
  • Explore hundreds of books and reference titles