[Keshav Malpani is a B.A. LL.B. (Business Law Hons.) student at the National Law University, Jodhpur]
Late last year, the Securities and Exchange Board of India (“SEBI”) came up with a modified set of regulations for insider trading in India by way of the SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018 (“PITR’18”). The amendment came in pursuance of a report of the TK Vishwanathan Committee on Fair Market Conduct (“Committee”) released in August last year. In this post, the author seeks to highlight the major changes that have been addressed and recommendations that need further consideration.
Section 194 and Sections 195 of the Companies Act, 2013 dealt with prohibition of forward dealings in securities of the company by a director or key managerial personnel. However, these provisions were omitted by Companies (Amendment) Act, 2017 by the virtue of sections 64 and 65. Insider trading is now dealt with only by the Securities and Exchange Board of India Act, 1992 and the SEBI (Prevention of Insider Trading Regulations), 2015 (“Regulations”).
Under the PITR’18, every person having unpublished price sensitive information (“UPSI”) for ‘legitimate purposes’ is considered an ‘insider’, and a notice is required to be served on such a person to maintain the confidentiality of such UPSI. ‘Legitimate purposes’ include sharing of UPSI by an insider under ordinary course of business with certain people associated with the company in various given capacities, provided that such sharing is not carried out to evade any provision of the regulations.[i] However, the Regulations need some clarity as to who is required to provide notice to insiders for maintaining secrecy of the UPSI as it might be a cause of confusion in fixing liability, responsibility or accountability in future incidents of insider trading.
The PITR’18 imposes additional responsibility on the board of directors of the listed companies to formulate a policy for determination of legitimate purposes which falls under the ‘Codes of Fair Disclosure and Conduct’,[ii] and also requires them to maintain a structured database containing names of persons with whom UPSI is shared with adequate controls and checks. [iii] Further, it requires the compliance officer to have financial literacy and defines ‘financially literate’ as a person who has the ability to read and understand basic financial statements, which has been borrowed from regulation 18 of SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015.
The PITR’18, for the first time, provides for an institutional mechanism for prevention of insider trading wherein the CEO, MD and other such persons of a listed company or its intermediary or fiduciaries are required to ensure an effective system of internal controls whereas the board of directors and the audit committee are required to ensure and review the compliance of the same respectively. Further, every listed company is required to formulate (a) a whistle blower policy,[v] and (b) policies and procedures in case of leak or suspected leak of UPSI.[vi] Other provisions regarding internal controls are mentioned below:
(a) identification of designated employees i.e., employees having access to UPSI and maintenance of a list of employees and other persons with whom UPSI is shared;
(b) identification of UPSI and ensuring its confidentiality by placing adequate restrictions on its procurement and communications; and
(c) periodic review to ensure effectiveness of the adopted system.
Code of Conduct[vii]
In order to bring clarity on the requirements applicable to listed companies and others, the Committee had recommended that the insider trading regulations may be amended to prescribe two separate codes of conduct prescribing minimum standards for (1) listed companies and (2) market intermediaries and other persons who are required to handle UPSI.[viii]
In pursuance of the same, the PITR’18 has introduced a separate code of conduct for intermediaries and fiduciaries to regulate, monitor and report trading by designated persons. Some of the noteworthy provisions with respect to the code of conduct include:[ix]
(a) All information is required to be disbursed on a need-to-know basis and UPSI shall be conveyed only for legitimate purposes. Further, a mechanism is required to be developed where the compliance officer reports to the board of directors or head of the organization and chairman of the audit committee at least once every year;
(b) Trading by designated persons will be subjected to pre-clearance by the compliance officer if the value of the transactions is above a particular threshold, except when the trade is executed with an approved trade plan. Further, the compliance officer is required to maintain a ‘restricted list’ of securities to be used as a basis of approving or rejecting the applications for pre-clearance and seek declaration that the applicant to pre-clearance is not in possession of UPSI;
(c) Code of conduct should also prescribe sanctions and disciplinary actions such as wage freeze, suspension, recovery, clawback, etc; and
(d) Designated persons are required to disclose details of their immediate relatives and persons with whom they have ‘material financial relationship’ i.e., a relationship where one person by the way of a gift or loan gets at least 25% of the payer’s annual income excluding where the payment is on arm length’s basis.
Grounds to Prove Innocence
PITR’18 states that every person under having UPSI for legitimate purposes is considered an insider. It comes up with certain grounds on which the alleged insider may rely upon to prove his or her innocence.[x] One of such grounds is when the communication of UPSI is for an off market inter-se transaction between insiders, for pursuance of an conscious and informed trade decision and the same is to be reported by the insiders within two working days. Further, when the transaction is carried out pursuant to a statutory or regulatory obligation to carry out a bona fide transaction or in pursuant to exercise of stock options in respect of a pre-determined price, it can be claimed as a defense against the allegations of insider trading.
The Committee, in addition to the guidelines on enhanced insider trading regulations, also suggested some other reforms that are required to make the implementation of regime more efficient. The Committee recommended that SEBI shall be given direct powers to intercept calls akin to the powers given to Central Board of Direct Taxes, with proper checks and balances for exercise of such power. Although PITR’18 requires every listed company to formulate a whistle blower policy, it does not provide anything with respect to the power of the SEBI to grant immunity or lesser punishment on full and true disclosure of violations of the insider trading norms. In such a situation, the formulation of a whistle blower policy on the part of a company also seems futile as there is no future course of action prescribed in the PITR’18.
The issue with respect to powers entrusted with the SEBI does not end here. It is understandable that SEBI has requested that it be entrusted with additional powers such as conduct searches and seizures, obtain call records, wiretap suspects, etc. However, it is also true that the powers presently entrusted with the SEBI have not been utilized fully. The SEBI Act provides for imposing of a penalty up to 25 crores or three times the profit[xi] in case of insider trading, but the maximum penalty SEBI has ever imposed is only 60 lakhs rupees.[xii] Further, SEBI has the power to petition a criminal court and institute criminal proceedings against a person. If convicted, the person can be imprisoned for a period of up to 10 years [xiii] although no one has been imprisoned for insider trading for a term even close to this term.
Another major issue which needs consideration is the staff which SEBI has to monitor these ever increasing transactions in securities. In 2017, SEBI had 1 employee per 6 listed companies, and SEBI stated that it will hire more staff to address these issues. However, as on August 21, 2018, SEBI still had a staff of 643 employees, which is evidently insufficient to monitor such a large number of transactions.
Therefore, it is not mere Regulations that needed enhancement in India with respect to insider trading. There are certain procedural and other issues that need immediate attention of the Government in order to address the concerns with insider trading from India.
– Keshav Malpani
(i) Explanation to regulation 3 (2A), SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(ii) Regulation 3 (2A), SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(iii) Regulation 3(5), SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(iv) Regulations 9A, SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(v) Regulations 9A (6), SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(vi) Regulations 9A (5), SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(vii) Regulations 9, SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(viii) Report of Companies Law Committee on Fair Market Conduct, 9 August 2018, page
(ix) Schedule C, SEBI (Prohibition of Insider Trading) Amendment Regulations, 2015.
(x) Proviso to regulation 4, SEBI (Prohibition of Insider Trading) Amendment Regulations, 2018.
(xi) Section 15G, Securities and Exchange Board of India Act, 1992.
(xii) Adjudication in respect of Manoj Gaur, Urvarshi Gaur and Sameer Gaur in matter of Jaiprakash Associates Ltd., Order No. PG/TT/AO-01-03/2012.
p style=”padding-left: 30px”>(xiii) Section 24, Securities and Exchange Board of India Act, 1992.