Receipt of Demand Notice under IBC: Whether Price Sensitive Information?

[Ravishekhar Pandey and Amarpal Singh Dua are with MDP & Partners, Mumbai]

The Securities Exchange Board of India (“SEBI”) on 12 July 2023 passed an order relating to the scrip of Shilpi Cable Technologies Limited (“STCL”) imposing penalty on the Managing Director (“MD”) as well as the Compliance Officer for violations of securities laws. In the order, the Adjudicating Officer (“AO”) appointed by SEBI arrived at a conclusion that the receipt of a demand notice under section 8 of the Insolvency and Bankruptcy Code, 2016 (“IBC”) falls within the definition unpublished price sensitive information (“UPSI”).

Brief Facts

SEBI carried out an investigation in the scrip of STCL. During the investigation, it was found that between 26 April 2017 and 11 May 2017 the share price of STCL fell from Rs. 218.25 to Rs. 71.25 on the National Stock Exchange Ltd. (“NSE”) and from Rs. 218.35 to Rs. 70.95 on the Bombay Stock Exchange (“BSE”).

On 10 March 2017, STCL received a demand notice under section 8 of the IBC from Macquarie Bank. The debt was acknowledged by the company and subsequently an application for initiation of the corporate insolvency resolution process (“CIRP”) of STCIL was filed on 3 April 2017. The application was admitted by the National Company Law Tribunal (“NCLT”), New Delhi by way of its order dated 24 May 2017. The company had made a corporate announcement to the BSE on 30 April 2017 and to the NSE on 11 May 2017.

A Show Cause Notice was issued to the MD of STCL alleging that he had passed on the information with respect to receipt of demand notice under section 8 of IBC to certain entities who sold shares in large quantities before the corporate announcement and that, as a result, there was a sharp decrease in price of the shares of STCL as stated above. Therefore, the MD was alleged to have violated the provisions of the SEBI (Prohibition of Insider Trading Regulation), 2015 (“PIT Regulations”) and the SEBI (Prohibition of Fraudulent and Unfair Trade Practices) Regulations, 2003 (“PFTUP Regulations”).

Findings

The AO in her order concluded that service of demand notice is a pre-requisite under section 8 of IBC for the initiation of a CIRP under section 9 of the IBC. Furthermore, the AO held that the receipt of demand notice is an event which indicates that the company has defaulted in its obligation to repay the debt and the company may undergo CIRP in the near future. This is a negative event and may affect the price of the shares, if disclosed to the public. Thus, the receipt of demand notice falls under the definition of UPSI as defined under regulation 2(1)(n) of the PIT Regulations.

Additionally, it was also held that since the MD had close connection with entities who had sold shares of STCL before the corporate announcement, it can be presumed that the MD had passed on the above information to the entities who traded based on the information which led to sudden fall in the share price of  STCL. Therefore, the AO imposed a penalty of Rs. 15 lakh on the MD for violating provisions of the PIT Regulations and the PFTUP Regulations.

Analysis

It is important to consider what constitutes UPSI before venturing into the analysis. Regulation 2(ze) of PIT Regulations defines UPSI as information regarding the company or its securities, directly or indirectly, which is not generally available; and if the information is made generally available, it is likely to affect the price of the securities. It includes (i) financial results; (ii). dividends; (iii) change in capital structure; (iv) mergers, de-mergers, acquisitions, delisting, disposals, and expansion of business; (v) changes in key managerial personnel.

In the case of Shruti Vora v. SEBI, the appellants had traded based on certain WhatsApp messages which were in circulation relating to the financials of certain companies before the financial results were published. After the publication of financial results, it was found that the information in the messages closely matched with the published financial results. Consequently, SEBI passed an order imposing penalty on the appellants and held that the WhatsApp messages constitute UPSI. The order was challenged before the Securities Appeallate Tribunal (“SAT”) and, while setting aside the order, SAT observed that SEBI in its order did not consider contention of the appellants that the information could be heard on streets in the form of gossips or expert guidance which is also published on platforms like Bloomberg. Later, the Supreme Court of India also refused to interfere with order passed by SAT.

Furthermore, in  Samir C. Arora v. SEBI, the price sensitive information on the basis of which the appellant was alleged to have traded did not turn out be true. In view of the above, it was held by SAT  that “any information which turns out be false or at least uncertain does not fall under the UPSI”. Therefore, based on the above, an inference can be drawn that information to be qualified as UPSI warrants that such information should be specific, accurate, precise, and definite.

Initiation of CIRP after Receipt of Demand Notice is Always Uncertain

It is always uncertain whether the service of demand notice on the company under section 8 of the IBC will result into initiation of a CIRP or not. Section 8 of IBC states that in case of default the operational creditor must serve a demand notice to the company. After the receipt of the demand notice, the company must bring to the knowledge of the creditor any pre-existing dispute with respect to the debt or acknowledge the unpaid amount within 10 days.

If the company acknowledges the unpaid amount and there is no pre-existing dispute or the company has not responded to the demand notice within 10 days, the creditor can file an application before the NCLT for initiation of CIRP of the company under section 9 of the IBC. However, in case there is a pre-existing dispute between the company and the creditor regarding the debt,  the receipt of demand notice will not lead to initiation of a CIRP. There have also been instances where applications for initiation of CIRP under section 9 of IBC have been rejected on several grounds such as pre-existing dispute relating to rendered goods / services and  improper service of demand notice (improper form).

For instance, in Neeraj Jain v. Cloudwalker Streaming Technologies Private Ltd., the NCLT, Bengaluru passed an order for initiating CIRP in respect of Flipkart Private Limited under section 9 of the IBC. The order was challenged before the National Company Law Appellate Tribunal (“NCLAT”) inter alia on the ground that the demand notice delivered was improper and incomplete. The NCLAT held that the demand notice served to Flipkart in Form 3 of  Insolvency and Bankruptcy (Application to Adjudicating Authority) Rules, 2016 did not mention the details of the debt, and that the documents required to prove the existence of such debt are not attached along with demand notice. Therefore, the order passed by the NCLT Bengaluru for initiating CIRP of Flipkart was set aside.

In view of the above discussion, it can be concluded that the initiation of the CIRP of a company after receipt of demand notice is always uncertain and depends on various factor until an order is passed by the NCLT for initiation of the CIRP after hearing the parties and considering all the relevant material.

Conclusion

Since the initiation of CIRP after the receipt of demand notice under section 8 of IBC is uncertain, it cannot ipso facto qualify as UPSI under the PIT Regulations. The attending circumstances such as the trading pattern around the proceedings under the IBC must be closely analyzed before determining the charge of insider trading. It is also pertinent to point out that what constitutes as UPSI under the PIT Regulations depends on the individual facts and circumstances of each case.

While in the present case it is apparent from the trading pattern of the noticees that the sell trades intensified when the demand notice was received, and the application for initiation of the CIRP was filed before the NCLT. The company was eventually admitted into CIRP and is presently under liquidation. It is therefore apparent from the order that the AO has rightly determined the PIT violation; however, the determination of UPSI is not in conformity with the existing law.

– Ravishekhar Pandey & Amarpal Singh Dua