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Primer on basic securities fraud
Qwest debacle underscores failure to take investors' trust seriously
By Rob Reuteman
Rocky Mountain News
Saturday, April 21, 2007

A day after 12 everyday jurors convicted Joe Nacchio on 19 counts of insider trading, I feel the need to circle back to basics.  Call this column Securities Fraud for Dummies.

In the late 1990s, fledgling Qwest decided to become a public company, selling shares on the open market to fund its coast-to-coast fiber-optic network.  That was a good idea.  The reason companies "go public" is to tap into the seemingly limitless reserves of investors who are invited to purchase the shares that fund the expansion that creates more value for both buyer and seller.  It is the very foundation of capitalism.

But when a company decides to take the advantages that come from using the public's money, responsibilities accompany the opportunities, as they always do.

Capitalist markets rely on transparency.  When I decide to invest my money in a public company, I do so with the expectation that the company will freely and fully share its finances with me.  Otherwise, I can't make an informed decision.

The Securities and Exchange Commission was created in 1933 to make sure things stay on the up and up, but they can't see and hear everything, certainly not before it happens.  Sure, they can come along after something happens and try to make it right, as they are doing in the Nacchio case.  If he had been acquitted Thursday, rest assured the SEC would have come down on him like a ton of bricks with the civil case it filed against him in 2005.  Since he was convicted, the commission may back off.  It's like when O.J. was acquitted but subsequently was found guilty in a civil case.  If they're convinced you're guilty, they're going to nail you, one way or the other.

SEC aside, another level of serious scrutiny kicks in when a company goes public.  Once shares are sold on the open market, mega-financial service companies consider plying them to their customers.  They employ armies of investment analysts that scrutinize companies in each segment of the economy, issuing detailed reports on a company's inner workings and prospects.  Ultimately, they rate each company's shares as a buy, hold or sell.

In 1996, the most influential analyst covering the telecommunications sector was a man named Jack Grubman.  As telecom analyst for Salomon Smith Barney, he was the highest-paid analyst ever at $20 million a year.  Nicknamed the Pied Piper of Wall Street, he was "the cheerleader who talked up shaky telecom stocks long after they fell into fatal decline," as Fortune wrote.  He could make or break a company with his stock ratings, and he did.  He was close friends with Bernie Ebbers of WorldCom, now serving 25 years for accounting fraud.  And he is the man who recommended to Phil Anschutz that he hire Joe Nacchio to take Qwest public.

On April 5, Anschutz testified for the defense in the Nacchio trial.

"I was looking for someone who had the background and the experience and the knowledge in the industry and, even though I had never met Mr. Nacchio, I had read about and heard about him," Anschutz testified.  "He seemed to have the skills and the background that would be very attractive to me."

In 1996, Anschutz traveled to Wall Street and met with the big investment banking firms, including Salomon, as he contemplated an initial public offering for Qwest.

"What I had said to them is, 'I have taken this about as far as I know how to take it,' " he testified.  "One of the responses was 'you're going to need somebody to lead this company.'  And Nacchio's name came up in that conversation."

Prosecutor Cliff Stricklin:  "The way you originally got in contact with Mr. Nacchio and learned of him was through discussions with an analyst, a Wall Street analyst, is that right?"

Anschutz:  "Yes, his name was Mr. Grubman."

Phil Anschutz doesn't make many mistakes.  I once wrote a column in July 1998 after Forbes ranked him the third-smartest billionaire in the world, behind Bill Gates and Saudi Prince Alsaud.  He even called me up and thanked me.  But hiring Nacchio may well go down as the biggest mistake he ever made, far worse than teaming up with author Clive Cussler to film his book Sahara.  The blowup over that money-loser has resulted in the other trial that will soon feature Anschutz' testimony.

Some will argue that Anschutz doesn't regret hiring Nacchio, since he has made hundreds of millions of dollars selling stock in the company he founded and Nacchio ran.  I would argue that an embarrassing lifelong link to Nacchio is more dear to him than the money, partly because he has made so much more at other endeavors.

At any rate, an April 2002 piece in Money magazine was titled, "Is Jack Grubman the worst analyst ever?"  An analysis done by for the article concluded that if you had acted on each of Grubman's buy ratings from February 1999, and sold when he downgraded each stock, you would have suffered a 74.5 percent loss.  Indeed, then-New York Attorney General Elliot Spitzer went after Grubman with a vengeance.  First, he charged that Grubman and Salomon Smith Barney had doled out lucrative IPO stock in efforts to retain investment banking relationships with the companies.  In 2002, he alleged that five telecom executives had improperly profited from IPOs.  Among those sued:  Grubman, Nacchio and Anschutz.

Grubman agreed to a $15 million fine and a lifelong ban from the securities industry.  In 2003, Anschutz agreed to give $4.4 million to charities and nonprofits to settle, and Nacchio agreed to give $400,000.  Neither admitted to any improper behavior.  Anschutz officials have repeatedly said the transactions were handled by others at The Anschutz Co., not Anschutz himself.

Spitzer's aggressive approach ultimately shamed the slow-footed SEC into a more aggressive approach toward stock manipulation, triggering its March 2005 civil case against Nacchio, among other actions.

On Tuesday, when the deliberating Nacchio jury asked Judge Nottingham for the legal definition of material, I began to think they were getting close to the heart of the case.  In order to convict Nacchio of insider trading, the jury had to find that he sold Qwest stock on the basis of nonpublic, "material" information with the intent to defraud.

Such information is material, the judge told them, if a reasonable investor would consider it important in deciding whether to act, as in buying or selling stock.  Material information may be a misstatement or an omission of facts, he said.  Prosecutors had argued that the material information Nacchio had was that Qwest was relying too much on one-time transactions to make its quarterly numbers that analysts scrutinize when making their ratings.  The deals were not enough to sustain the 2001 revenues Qwest had projected to the analysts, prosecutors argued.  The house of cards was tumbling down and unwitting investors took the fall while Nacchio enriched himself.  The jury found those actions to be criminal.

If investors can't believe they are able to profit fairly when buying shares of public companies, they take their money elsewhere.  That's what happened.  On a massive scale, burned investors took what little money they had left in 2001 out of the stock markets and put it into real estate.  Crooks followed them there, and it's our newest national nightmare.  As the recently deceased Kurt Vonnegut would say, "so it goes."

Business editor Rob Reuteman can be reached at 303-954-5177 or,1299,DRMN_82_5497048,00.html