Pequot Charged With Insider Trading, Settles With SEC


Pequot Capital Management and its chairman and CEO, Arthur J. Samberg, were charged Thursday by the Securities and Exchange Commission with insider trading in Microsoft (MSFT) shares.

Pequot and Samberg agreed to settle the case and pay nearly $28 million. A judge still needs to formally approve the settlement.

"We think this is a significant case and a significant settlement," says David P. Bergers, director of the SEC's New England Office, in Boston. "This case demonstrates that we will continue to hold hedge fund managers and other industry participants accountable when they engage in insider trading."

Rumors of Microsoft Missing Earnings Estimates

The SEC's complaint against Pequot and Samberg alleges that amid rumors in April 2001 that Microsoft would miss its earnings estimates for the quarter that had just ended, Samberg sought information from David E. Zilkha, a Microsoft employee who had just accepted an offer from Samberg to work at Pequot. Zilkha quickly reached out to a Microsoft colleague, who sent him an email stating that the company would meet or beat its earnings estimates for the quarter.

According to the complaint, Zilkha then conveyed to Samberg his understanding that Microsoft would meet or beat its earnings estimates. Samberg thereafter traded in Microsoft shares on behalf of funds managed by Pequot. On April 19, after the market had closed, Microsoft announced that it beat its earnings estimates, driving up the price of Microsoft's stock. As a result of the illegal trading by Pequot and Samberg, the Pequot funds made more than $14 million.

Pequot and Samberg agreed to settle the SEC's charges without admitting or denying the allegations against them. Pequot and Samberg will pay a total of nearly $18 million in disgorgement of trading profits and prejudgment interest as well as $10 million in penalties. With the exception of certain activities aimed solely at winding down Pequot, Samberg has also agreed to be barred from association with an investment adviser.

Separate Action Brought Against Zilkha

The SEC separately brought an enforcement action against Zilkha, the former Microsoft employee who later worked at Pequot, for allegedly tipping off the firm and Samberg with nonpublic information about the software maker's earnings. The SEC Division of Enforcement's case against Zilkha hasn't been settled and will continue in an administrative proceeding before the Commission.

In the action against Zilkha, the Enforcement Division alleges that during a prior investigation into his conduct, Zilkha concealed from the SEC staff that he had received inside information about Microsoft's earnings and then recommended that Samberg buy Microsoft securities on the basis of this information. The Enforcement Division alleges that in 2005 and 2006, Zilkha didn't produce or disclose the existence of the e-mail he had received from a Microsoft colleague about Microsoft's earnings, despite subpoenas and direct questions that required him to do so.

Emails Tell the Tale

In January 2009, the SEC staff first received direct evidence that Zilkha had material, nonpublic information about Microsoft when staff was provided copies of emails that had been located on a computer hard drive that was then in the possession of Zilkha's ex-wife.

According to Bergers, Zilkha has to answer the SEC's charges within 20 days. "There will be a hearing, but it is not yet scheduled," he says.

Although the SEC's case against Pequot and Samberg has been settled, it doesn't necessarily mean the hedge fund or its leader are out of the woods. "We have been in communication with the U.S. Attorney's Office of the Southern District of New York," says the SEC's Bergers. He declined to comment on whether criminal charges will be filed against Pequot or Samberg.