“IF COMPANIES TELL US MORE, INSIDER TRADING WILL BE WORTHLESS” - James Surowiecki
This article is written by Anushka Kishwar, from CLS GIBS. The article deals with insider trading and the role of SEBI to prohibit insider trading.
It represents dealing in a company’s securities by an individual, based on the confidential information relating to the company which is unpublished or not known to the public used to make profit or loss. In other words, it is trading in securities of listed companies by any person who knows material “inside” information which is not known to the public.
Under Regulation 2(g) of SEBI (Prohibition of Insider Trading) Regulations, 2015, the term “insider” means any person who is:
1. A connected person, or
2. In possession of or having access to unpublished price-sensitive information.
Under Regulation 2(l) of SEBI (Prohibition of Insider Trading) Regulations, 2015, the term “trading” means and includes subscribing, buying, selling, dealing, or agreeing to subscribe, buy, sell, deal in any securities, and “trade” shall be constructed accordingly.
Here, the term “unpublished price sensitive information” under Regulation 2(l) of SEBI (Prohibition of Insider Trading) Regulations, 2015 means information relating to a company or its securities, directly or indirectly, that is not generally available which upon becoming generally available, is likely to materially affect the price of the securities and shall, ordinarily including but not restricted to, information relating to the following:
Change in capital structure
Mergers, de-mergers, acquisition, delisting, and such other transactions
Changes in KMPs (Key Managerial Personnel)
Material events by the listing agreement
In other words, unpublished price-sensitive information means information relating to the (future) plans, policies, programs, strategic reports, or financial results of the company which is likely to influence prices at the stock market.
In several countries, insider trading is illegal as it is fairly a breach of company employees' fiduciary duties or connected persons towards the shareholders.
HISTORY OF INSIDER TRADING
The word ‘insider trading’ was originated in the 1909 case, where the laws against insider trading were developed by the U.S. Supreme Court. In 1934, it was formally banned and declared illegal by Congress and was inserted in the Securities Exchange Commission in1934.
In India, insider trading was unrestricted for 146 years since the establishment of the old stock market till 1970. In 1979, the Sachar Committee advocated amendments to the Companies Act, 1956 to prohibit employee dealings. Penalties were also advocated to prevent insider trading.
In 1989, the Abid Hussain Committee advocated that insider trading activities may be punished by civil and criminal proceedings and advocated the SEBI to formulate the regulations and governing codes to prevent unfair dealings. Later, the laws against insider trading were established under SEBI Act in 1992.
Section 195 of the Companies Act, 2013 which later, was repealed by the Companies (Amendment) Act, 2017, prohibits insider trading by the director or key managerial person. Section 458 of the Companies Act, 2013 delegates powers to SEBI to prosecute insider trading in securities of listed companies and companies which intend to get their securities listed.
WHO ARE INSIDE TRADERS?
An Insider is a person who is “connected” with the company, who could have unpublished price-sensitive information or receive the information from somebody in the company.
· Corporate officers, directors, and employees who trade the corporation securities after learning of significant, confidential corporate developments.
· Friends, business associates, family members, and employees of law, banking, and brokerage firms who were given such information to provide services to the corporation whose securities they trade.
· Even the Auditor and Chartered Accountant (CA) also come within the ambit of the term “insider”
EXAMPLE OF INSIDER TRADING
Ashley is a key account manager at ABC Ltd. Company (a leading telecom company) and Sid (Ashley’s fiancé) is head at his own recruitment consultancy firm. One day, she was checking her emails in the morning. She received an email from the accounts departments, which incorporated information about a new bid that her company would make to buy over another telecom company. Realizing that the email was sent to her by mistake, so she deleted it and carried on with her day’s routine. In the evening, she meets Sid for drinks at the local pub. while discussing their day’s events, she mentions the email she received. Sid suggests that they should keep an eye on the newspapers for any such news. He also mentioned that he would pick up some stocks of ABC company the next morning.
Now the question arises, has Ashley unknowingly disclosed her company’s ‘inside’ information to Sid? If Sid trades in the stocks of ABC company (based on the information provided by Ashley), would the ‘trading’ be considered illegal? And would Ashley and Sid be guilty of insider trading?
The answer is YES for all the above-stated questions!
· Ashley has unknowingly divulged company confidential information (inside information) to Sid.
· If Sid trades in ABC company (based on the information provided by Ashley), the profit he earns will be illegal.
· If Ashley and Sid use inside information to trade in stock, then they will be guilty of insider trading.
CASE LAWS RELATED TO INSIDER TRADING
1. Hindustan Lever Limited v. SEBI (1996):
In this case, SEBI suspected insider trading and conducted enquires, as HLL’s purchased 8 lack shares of Brooke Bond Lipton India 2 weeks before the public announcement of the merger between the two companies. according to SEBI, both companies were under the same management and the merger plan was price-sensitive information. SEBI passed an order to compensate and commence criminal proceedings for committing insider trading against five common directors of both companies. Later, HLL filed an appeal with the appellate authority, which was directed in its favor.
2. Orchid Chemicals and Pharmaceuticals (OPCL) Case:
Orchid Chemicals and Pharmaceuticals (OPCL) Case:
Market regulators SEBI have penalized the former director of Ranbaxy Laboratories, Mr. V.K. Kaul, and his wife for insider trading. They are stipulated to pay almost Rs.60 lakh for their role in the sale of 6.5 lakh shares of Orchid Chemicals and Pharmaceuticals.
DISADVANTAGES OF INSIDER TRADING
§ Dealers, agents, investment advisors, informers, and forgers- manipulate the security markets by leaking information.
§ Spread out rumors about insider transactions.
§ Enhance the risk for a stock market crash.
§ Leads to a decrease in overall trust in the market.
NEED FOR REGULATING INSIDER TRADING
According to SEBI (The Prohibition of Insider Trading) is required to make securities market:
§ To stabilize the market
§ Fair and transparent
§ To have a Level Playing Field for all the participants in the markets.
§ For the continuous and unrestricted flow of information and avert asymmetric information.
§ To prevent misappropriations
§ To check unfair advantages
Under the market stability theory, insider trading erodes investors’ confidence in the fairness and integrity of the market.
Under the misappropriation theory, the insider uses the confidential information for self-interest, he/she would be misappropriating a public good for self-interest.
The insider should be prohibited from dealing in the markets with unsuspecting investors because he or she has unfair advantage knowledge.
AMENDMENT IN INSIDER TRADING REGULATIONS
· 1948 - The Thomas committee report cited instances of directors, agents, auditors possessing strategic information regarding the economic conditions of the Company regarding the size of the dividend to be declared, issue of the bonus shares, or awaiting the conclusion of the favorable contract before public disclosure.
· 1979 – the Sachar Committee advocated amendments to the Companies Act, 1956 to regulate prohibit the dealings of employees. Penalties were also advocated to prevent insider trading.
· 1989 - the Abid Hussain Committee advocated that insider trading activities may be punished by civil and criminal proceedings and advocated the SEBI to formulate the regulations and governing codes to prevent unfair dealings. Later, the laws against insider trading were established under SEBI Act in 1992.
· 1992 - SEBI (Insider Trading Regulations), 1992 came into existence.
· 2002- The regulation was amended and renamed SEBI (Prohibition of Insider Trading, Regulations 1992.)
§ Broaden the definition of PAC. The new definition of Price Sensitive Information.
§ Suo-moto power of the board to investigate
§ Inserted chapter IV- Policy of Disclosure and internal Procedure for prevention of Insider Trading
§ Schedule I- Model Code of Conduct
· 2003- forms for disclosures
· 2008- Rules amended to broaden the definition of an insider.
§ Change in definition of an insider, Working Day
§ For disclosure requirement timeline reduced to working days
§ Change in Form C and Form D.
· 2011- Initial and Continual Disclosure by Promoter of the Listing Company.
· 2015- SEBI in its Board Meeting held in November 2014 approved SEBI (Prohibition of Insider Trading Regulations,) 2015, which was notified on Jan 15, 2015, effective from May 2015.
· 2018- SEBI on 31st December 2018 issued an amendment to the SEBI (Prohibition of Insider Trading) Regulations, 2015 (“PIT Regulations”).
Section 15G of SEBI Act, 1992- Penalty for insider trading-
If any insider who,
(i) either on his own behalf or behalf of any other person, deals in securities of a body corporate listed on any stock exchange based on any unpublished price sensitive information; or
(ii) communicates any unpublished price sensitive information to any person, with or without his request for such information except as required in the ordinary course of business or under any law; or
(iii) counsels, or procures for any other person to deal in any securities of anybody corporate based on unpublished price sensitive information,
shall be liable to a penalty [which shall not be less than ten lakh rupees, but which may extend to twenty-five crore rupees or three times the number of profits made out of insider trading, whichever is higher.]
The regulations around insider trading are convoluted and vary substantially from country to country and enforcement is mixed. Since insider trading is unethical, it involves a breach of the fiduciary relationship and uses public goods for self-interest. It is illegal trading because it is against the principle of a fair and transparent market as the insider who has access to confidential information, is in the advantage over the other investors.
Insider trading is the misuse of the privilege position and breach of trust hence can disturb the whole structure of the securities market. So here SEBI plays a vital role in regulating insider trading as this trading is recognized to be a deep-seated problem in India. These new regulations will make sure Level Playing Field in the securities and ensure the interest of the investors at large.
 omitted by the SEBI (Prohibition of Insider Trading) (Amdt.) Regulations, 2018, w.e.f. 1-4-2019  Ins. by Act 9 of 1995, s. 9 (w.e.f. 25-1-1995). br  Subs. by Act 27 of 2014, s.12, for certain words (w.e.f.8-2-2014).
SEBI (Prohibition of Insider Trading) Regulations, 2015
SEBI Act, 1992
Companies Act, 2013
Companies (Amendment) Act, 2017