By Rodney F. Tonkovic, J.D.
A district court concluded that transactions involving complex derivative securities did not implicate the Section 16(b) short-swing trading proscriptions. In this case, the beneficial owner defendants entered into and then amended several variable pre-paid forward contracts obligating the delivery of company shares at a future date. The plaintiff shareholder asserted that the amendments were "sales" and sought disgorgement of over $150 million. Based on the terms of the contracts, and as borne out in the record, the court concluded that the amendments gave the defendants no opportunity to abuse inside information in short-swing trading (Rubenstein v. Knight-Swift Transportation Holdings, Inc., March 28, 2023, Failla, K.).
The suit was brought by a shareholder of Knight-Swift Transportation Holdings, a publicly traded company listed on the New York Stock Exchange. The defendants are among Knight-Swift's founders and beneficially own 40.9 million shares of the company's common stock, representing 24 percent of the outstanding shares at the relevant time. There was no dispute that the defendants beneficially owned over 10 percent of Knight-Swift's shares during the times at issue.
In September 2020, the court granted in part and denied in part the defendants' motion to dismiss, finding that the partial termination of a repurchase agreement did not implicate Section 16(b). According to the court, there is no support for the position that an increase in the exercise price and corresponding decrease in the call equivalent position, as was the case here, may be deemed a purchase. Since there were only sales, and no matching purchases, this claim was dismissed.
VPFCs. At issue in this case were variable pre-paid forward contracts ("VPFCs") that the defendants entered into with several Citibank entities (collectively, "Citibank") beginning in 2013. In short, these transactions obligated the defendants to deliver shares on a specified future date. Between 2013 and 2019, the agreements were amended to extend the settlement dates and to change the floor and cap prices. As of February 2019, the defendants were participants in five VPFCs with Citibank under which nearly 29.5 million Knight-Swift shares were pledged.
In August 2019, the defendants asked Citigroup Global Markets Inc. ("CGMI") to extend the settlement dates and increase the forward floor and cap prices of the VPFCs without requiring a cash payment or transfer of additional shares. CGMI agreed to do so on the condition that one of the existing VPFCs be terminated and transferred to CGMI.
The contracts were again amended in September 2019. Here, the defendants elected to amend the VPFCs pursuant to a trigger price agreement under which the defendants were also required to make a payment to the counterparty in the amount of $6,500,000. These amendments also extended the settlement dates and raised both the floor and cap prices of each VPFC.
No sale. The plaintiff argued that the termination of the VPFC in August 2019 was a "purchase" followed by a "sale" when the other VPFCs were amended in September 2019. According to the plaintiff, matching the transactions yielded a disgorgement figure exceeding $150 million. The court disagreed, finding that none of the amendments qualified as a sale under Section 16(b).
The defendants did not contest that the August 2019 transactions constituted a "purchase," but argued that the September 2019 amendments were not "sales." The plaintiff argued that the amendments were "material" such that they would be deemed to constitute a simultaneous purchase and sale and implicating Section 16(b) by yielding a profit to the defendants.
The court found that because the 2019 amendments increased both the floor and cap prices and did not provide an opportunity for insider abuse, they were not sufficiently material to be deemed sales under Section 16(b). The court explained that the number of shares deliverable on the settlement date for each VPFC depended on Knight-Swift's market price on that date. If the share price was at or below the floor price, the defendants would be obligated to deliver all of the pledged shares. And, by raising both floor and cap prices, the amendments reduced the defendants' opportunities to benefit from share prices above the floor prices. In short, the only party who stood to gain if the stock price went up was CGMI. The court accordingly granted summary judgment in favor of the defendants.
The case is No. 1:19-cv-07802.