Global financial company Citigroup was cleared yesterday of insider trading and conflict of interest charges in Australia, in a case that challenged measures investment banks around the world use to separate their share trading and adviser roles.
Federal Court Judge Peter Jacobson rejected allegations by the Australian government's corporate watchdog that Citigroup broke the law when it bought and sold shares in a company that it was advising another company about taking over.
The judge also rejected the watchdog's charge that actions stemming from a trader's conversation with his boss during a cigarette break on the street amounted to insider trading -- and by extension that so-called Chinese walls do not work.
The civil case, the first of its kind in Australia, was closely watched by regulators and investment banks around the world.
It was considered a test case on conflict of interest laws and the effectiveness of Chinese walls, which separate a broker's trading activities from its corporate advisory and finance operations.
Citigroup and investor groups welcomed the ruling as settling uncertainty.
Other analysts said that the ruling raised concern that the law still allowed suspect practices to occur.
"It is certainly an enormous setback for the regulator, which staked its reputation in taking a case which had a strong moral foundation but a weak legal one," Justin O'Brien, an expert in corporate governance and ethics at the Australian National University, told Dow Jones Newswires.
The Australian Securities and Investment Commission (ASIC), which launched the case, did not immediately comment.
The case centered on two Australian transport logistics companies and a single day's trading.
New York-based Citigroup was advising one of the companies -- Toll Holdings Ltd -- on the possible takeover of the other, Patrick Corp.
On Aug. 19, 2005, Citigroup trader Andrew Manchee bought more than 1 million Patrick shares, helping to drive the price higher, the court heard.
Manchee's supervisor Paul Darwell then invited Manchee to join him for a cigarette outside, where he told Manchee to stop buying Patrick shares. When he returned to the office, Manchee sold 193,000 Patrick shares before trading closed.
The next business day, Toll launched a hostile A$6 billion (US$5 billion) bid for Patrick.
ASIC alleged Darwell had supposed that Citigroup was advising Toll after hearing a comment from another executive, Malcolm Sinclair. Citigroup argued there was no evidence that key information had crossed from Sinclair to Darwell, and then to Manchee.
ASIC alleged that Darwell and Manchee's actions were clumsy attempts to resolve a conflict of interest, and that Citigroup did not have adequate measures to deal with the situation.
Key to ASIC's case was its claim that Citigroup had a fiduciary relationship with Toll that obligated the bank to get permission from the company before trading in Patrick shares.
Citigroup's defense was that the letter of engagement Toll used to hire Citigroup as its adviser "specifically excluded the existence" of a fiduciary relationship.
Jacobson agreed.
"The court held that the law doesn't prevent an investment bank from contracting out of a fiduciary capacity; whether it should be able to do so is a matter for the legislature, not the courts," he said.
The judge said the insider trading charges failed because Manchee could not be considered an officer of Citicorp under the Corporations Act, and that Citigroup's measures to prevent key information being communicated were adequate under the law.
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