Updated from 3:29 p.m. EDT

Calling the season's biggest Wall Street scandal a "tragedy," federal prosecutors charged Martha Stewart and her stockbroker, Peter Bacanovic, with nine felony counts Wednesday, saying a conviction could mean jail time. Both defendants pleaded innocent.

Wednesday evening, Stewart announced she would step aside as CEO and chairwoman of Martha Stewart Living ( MSO). She will remain a board member and serve as chief creative director.

A day after she missed her company's annual meeting, Stewart appeared at the federal courthouse in Lower Manhattan on a rainswept afternoon. Stewart and Bacanovic, a former Merrill Lynch broker, now face charges stemming from her sale of some 4,000 shares of ImClone Systems just before the biotech stock plunged in December 2001.

Wednesday's 41-page indictment charges both Stewart and Bacanovic with conspiracy, obstruction of justice and making false statements. Bacanovic is also charged with perjury, accused of giving false testimony under oath to the Securities and Exchange Commission. Stewart, meanwhile, is charged with securities fraud.

If convicted of all the criminal charges, Stewart faces up to 30 years in jail and fines of up to $2 million. Meanwhile, Bacanovic faces 25 years in prison and fines of up to $1.25 million. Stewart faces additional sanctions and fines under an SEC civil prosecution.

The charges capped a 16-month-long investigation. Ahead of the defendants' pleas, a highly polished news conference saw prosecutors distill the nine counts against Stewart and Bacanovic to one overarching alleged misdeed.

"This criminal case is about lying," U.S. Attorney James Comey told reporters at the midafternoon news conference. "Lying to the FBI, lying to the SEC and lying to investors. ... This is a tragedy that could have been prevented if only these two had done what parents have taught their children for eons."

Stewart's lawyer, Robert Morvillo, issued a statement asserting Stewart's innocence and denouncing prosecutors for using her public remarks about the controversy as the basis for the securities fraud allegation.


The indictment does not specifically charge either defendant with the crime of insider trading, although the SEC brought a civil charge against Stewart claiming that offense. The securities fraud allegation against Stewart stems from her alleged attempt to mitigate the damage caused by the ImClone scandal to the stock of her own company, Martha Stewart Living. She owns 61% of the stock and has lost millions of dollars as her company and stock have been hit by the scandal.

Prosecutors contend that last summer, when the investigation of Stewart's stock sales became public, Stewart tried to prop up Martha Stewart Living stock with "a series of false and misleading public statements" that sought to explain her conduct. One of those false statements was Stewart's contention that "she had cooperated with the SEC and U.S. Attorney's Office 'fully and to the best of my ability.'"

Lawyers said the securities fraud allegation against Stewart is unusual because it's not uncommon for people under investigation to contend they did nothing wrong, and rarely is anyone charged with a crime for publicly stating his or her innocence.

Some corporate lawyers were incensed by the indictment, especially after learning that prosecutors failed to charge Stewart with insider trading. "This is gutless by the government," said Saul Cohen, a corporate lawyer in New York with Proskauer Rose. "They don't have an insider criminal case and they couldn't prove it, so they are trying to go after her for peripheral things."

Not everyone was convinced, however. Ira Sorkin, a noted white-collar defense lawyer, pointed out that it's difficult to determine the overall strength of the prosecution's case without seeing some of the evidence. "We don't know the strength of their case," he said.

Law experts noted that it's far easier for the SEC than for federal prosecutors to charge Stewart with insider trading, because the burden of proof is lower in a civil proceeding. Also, in a criminal case, a defendant must be convicted by an unanimous jury. But in a civil proceeding, jury verdicts do not have to be unanimious.

In any case, the defense waxed livid. "Martha Stewart has done nothing wrong," Stewart's lawyer said. "Why ... has the government, after nearly a year and a half, chosen to file these charges? Is it for publicity purposes because Martha Stewart is a celebrity? ... Or is it because the Department of Justice is attempting to divert the public's attention from its failure to charge the politically connected managers of Enron and WorldCom who may have fleeced the public out of billions of dollars?"

The government maintained that its choice was the proper one. "A criminal insider trading charge in these circumstances would be unprecedented," Comey explained at the news conference. "Martha Stewart is famous, but that is no reason to treat her differently than anyone else. The SEC has done the right thing by suing the defendants for their conduct."

To that end, the SEC is seeking an order requiring Stewart and Bacanovic to disgorge all losses they avoided through their illegal trades, plus civil monetary penalties.

"This isn't about celebrity, it's about accountability," said Kevin Donovan, assistant director in charge of the FBI in New York.

"This is a very strong civil insider trading case," added Wayne Carlin, the SEC's Northeast regional director.

Alleged Conspiracy

Prosecutors broadly allege that Stewart and Bacanovic entered into a conspiracy to obstruct justice after learning that the SEC had launched an investigation in January 2002 into sales of ImClone stock by Stewart and ImClone's founder, Sam Waksal.

The indictment contends that Stewart and Bacanovic chose to "fabricate and attempt to deceive investigators with a fictitious explanation for her sale" of ImClone shares. Specifically, they allege the two made up a story that Stewart and Bacanovic had a "pre-existing agreement to sell the stock if and when the price dropped to $60 per share."

One of the key allegations against Stewart is that she changed the substance of a Dec. 27, 2001, phone message from Bacanovic to Stewart's assistant to make it look less incriminating. In the original message, Stewart's assistant had written that Bacanovic "thinks ImClone is going to start trading down." But prosecutors allege Stewart changed the message to simply this: "Peter Bacanovic re imclone."

The alteration could be significant because Bacanovic left the message on the same day that Waksal was unloading his stock. Bacanovic was on vacation at the time but he told his assistant, Douglas Faneuil, to tell Stewart of the Waksal stock sales when she called the office. Prosecutors say that upon getting Bacanovic's message and after talking to Faneuil, Stewart sold all 3,928 shares of ImClone stock she owned for gross proceeds of $228,000.

Stewart made things only worse for herself, prosecutors allege, by then making a series of false statements and explanations for the stock sale to the SEC, prosecutors and investigators with the FBI. One alleged deception was Stewart's statement that she did not recall being told that the Waksals were selling their ImClone stock.


Shares in Martha Stewart Living rose 17 cents Wednesday to $9.69, a day after they plunged 16% amid reports of civil and criminal charges. The stock has lost half its value since the investigations into the ImClone stock sale began.

Merrill fired Bacanovic last summer when the investigation began to heat up. Bacanovic's former assistant, Faneuil, has pleaded guilty to a misdemeanor charge and has agreed to cooperate with prosecutors.

Faneuil reportedly has told prosecutors that he told Stewart of former ImClone Chairman Waksal's attempt to sell much of his stock prior to the release of a negative regulatory ruling on a key cancer-fighting drug. Waksal pleaded guilty to insider trading charges last year. He is scheduled to be sentenced June 10.

One of Martha Stewart Living's largest shareholders, ValueAct Capital Partners, was mum on the developments. George Hamel, a partner in the San Francisco-based investment firm, which has about a 9% equity stake in the homemaking diva's company, said the firm had no comment at this time. Hamel's partner, Jeffrey Ubben, is a director of Martha Stewart Living.

As of May 13, according to SEC filings, ValueAct owned 4.2 million shares.

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