As has been well publicised, critics of fund manager Kyle Bass and nXn owner Erich Spangenberg, who formed the Coalition, object to the use of IPRs to the extent they are initiated with the aim of driving down the share prices of patent holders so as to make a financial return from short positions on those stocks. We’ve been particularly intrigued by the debate concerning the legality and morality of the practice in the US.
Would the technique, if applied in the UK, be legal?
In short, no. If the strategy were to be employed in relation to UK listed stock, it would fall foul of the UK market abuse legislation, specifically the prohibitions on insider dealing. Knowledge of an impending patent claim intended to depress the stock price of a company once announced would be sufficiently precise and significant to satisfy the definition of inside information.
What’s the legal landscape?
The market abuse regime across the European Union derives from the European Commission’s Market Abuse Directive (2003/6/EC) (MAD). In the UK, the relevant legislation has been implemented in the Financial Services and Markets Act 2000.
The UK legislation provides that the civil offence of insider dealing occurs where an “insider” deals or attempts to deal in a “qualifying or related investment” on the basis of “inside information” relating to the investment in question.
If we unpack those definitions in turn:
(i) a “qualifying or related investment” is any financial instrument (including stock and any instrument which achieves a short position in relation to such stock) admitted to a prescribed market (for example, the London Stock Exchange);
(ii) “inside information” is information of a precise nature which is not generally available, relates, directly or indirectly, to one or more issuers of the qualifying or related investment; and would, if generally available, be likely to have a significant effect on the price of the qualifying investments or on the price of related investments
(iii) an “insider” is a person who has inside information:
(a) as a result of his membership of the administrative, management or supervisory bodies of an issuer of qualifying investments; (b) as a result of his holding in the capital of an issuer of qualifying investments; (c) as a result of having access to the information through the exercise of his employment, profession or duties; (d) as a result of his criminal activities; or (e) which he has obtained by other means and which he knows, or could reasonably be expected to know, is inside information.
Does this include third parties?
"The mere fact of knowledge that a UK listed company’s patent is challengeable ... would make the holder of such knowledge an insider for the purposes of the UK market abuse regime."
Although inside information is commonly information in the hands of a person who is an employee or adviser of a listed company, the definition of inside information in the UK legislation is sufficiently wide to encompass any information in the hands of a third party, even though that third party has not acquired the knowledge through privileged access to the listed company of the kind just described: anyone who has such inside information is an “insider”, because limb (e) extends the definition of an insider to any person who has inside information which he has obtained by other means and which he knows, or could reasonably be expected to know, is inside information.
The mere fact of knowledge that a UK listed company’s patent is challengeable, even if that knowledge were to be gained by lawful and diligent research, would make the holder of such knowledge an insider for the purposes of the UK market abuse regime.
What is the territorial scope of the UK legislation?
The civil market abuse regime applies to anyone (corporate or individual) who abuses a prescribed market. It supplements (and to some extent cuts across) the criminal regime for insider dealing in the UK legislation. The territorial scope is such that the market abuse regime applies to conduct with no jurisdictional connection with the UK other than the fact that it relates to an investment traded in the country. It’s become a cliché to observe that the US and UK are two nations divided by a common language. Seemingly in our common law jurisdictions, we’re also divided in the application of our respective securities law to the patent trolls’ move on the stock exchange.
What about Germany?
We have spoken to contacts at Hengeler Mueller to get a German perspective. In civil law Germany, the MAD has been implemented in the Wertpapierhandelsgesetz (Securities Trading Act). Under the German legislation, it is illegal for anybody to trade in “insider securities” using “inside information”.
While the wording and structure of these definitions differ slightly in the German legislation from their UK equivalents outlined above, there are no material distinctions that go to differentiate the German insider dealing analysis from that of the UK. It is likely that under German law, both the knowledge that a German listed company’s patent can be challenged successfully and the knowledge that it will actually be challenged would constitute inside information.
Trading on the basis of such inside information would be subject to German criminal sanctions.
Nick Richards is a senior associate in the corporate team at Bristows in London
