Guest Commentary on the Nacchio Trial: John Holcomb, Daniels School of Business

Comments on Tenth Circuit Appeals Court Hearing on U.S. v. Nacchio, December 18, 2007

By John M. Holcomb

In her argument before the Tenth Circuit Court of Appeals, appellate defense counsel Maureen Mahoney mentioned Glassman v. Computervision, the First Circuit case of 1996 discussed in the defense reply brief on the major issue of materiality. It’s interesting that the defense didn’t mention or cite this case in its original appellate brief; it only appears in the reply brief. Mahoney seems to think it applies in this case, but I’m not so sure it does. It’s a case related to projections for a company going public, with a lot more built-in uncertainties, rather than an insider trading case in a company where there is virtually a chorus of certainties being expressed by Qwest executives just below Nacchio. I also don’t get Mahoney’s reference to forecasts of developments four months to eight months out not being material. Hell, we’re talking about developments that happened either prior to or concurrently with misleading earnings forecasts.

As David Milstead opines in his column in the Rocky Mountain News, the defense and the court (perhaps excepting Judge Holmes) seem to be living in an unreal world. Many of the facts seen as favorable to Nacchio seem to be ripped out of context from the total history of the case and flow of events and testimony. I think the court should remember the rather simple definition of materiality generally accepted in Shaw and other cases – a reasonable likelihood that a reasonable investor would find such information important. Is that the case here? You bet! And it wasn’t disclosed.

Despite any desire by the court or by business to find some magic threshold of materiality or some hard and fast metric, and despite Judge Kelly’s plea for some “guidance” for executives, I think that’s an almost impossible task. The government’s advocate had it right when he said that materiality is based on multiple factors that vary from case to case and depend on the situation. Unfortunately, the court didn’t buy his argument, and Judge Kelly yelped with dissatisfaction. It sounds like they want to write new law, quite inappropriate for conservative judges who would otherwise embrace judicial restraint. Materiality does not seem to me to be susceptible to the type of guidelines that were developed in right-to-counsel cases with the Miranda warnings or in defining anticompetitive markets by applying the Herfindahl-Hirshman Index in merger cases. The court is searching for a more concrete definition that is extremely elusive and might be unwise.

Finally, while I was extremely disappointed with the questions and predispositions of Judges McConnell and Kelly, I was also disappointed with the performance of the government advocate Stephan Oestreicher. Though the court did not allow him to assert the same kind of commanding presence displayed by Maureen Mahoney, due to its aggressive and frequent challenges, his advocacy was also not nearly as strong as his brilliant brief. I thought he demolished the defense arguments on materiality in his brief, but he faltered in defending those arguments in court. He could have been more effective in directing the court to his multiple arguments on materiality when responding to its questions, rather than reeling under the weight of some pointed questions on specific facts. By doing so, he could have indirectly established that the court was losing sight of the forest for the trees.

As I see it, it is up to Judge Michael McConnell, and I am not optimistic. Judge Paul Kelly revealed his cards as going with the Nacchio forces on both materiality and the exclusion of Professor Fischel as an expert. Judge Jerome Holmes did not indicate he would reverse on either of those issues. McConnell was certainly more balanced than Kelly in his questions, but he was still much tougher on the government. It could go 2-1 for a new trial or for outright acquittal.

If the Nacchio verdict is reversed in whole or in part, it will be a sad day for capitalism, a terrible day for shareholders, and a regrettable day for criminal justice. If Nacchio gets away with this crime, it will send a bad signal to managers and will be more difficult to teach ethics to MBA students who will realize that such conduct brings only personal financial enrichment with no negative consequences. In fact, if an executive negotiates a favorable contract term on attorney’s fees with a deferential company and a complicit board, the executive could then even retain expensive high-profile counsel and pass those costs on to already damaged shareholders.