AN ANALYSIS OF INSIDER LAWS

‘INSIDER’ & ‘CONNECTED PERSONS’

INTRODUCTION

Capital Markets have always been a major source for the corporate to raise funds in an efficient and speedy manner and for the Investor community, an important avenue to invest their surplus and hard earned monies into the economy. But to efficiently deliver these functions, a fair and stable stock market is a must.  Such efficiency and fairness of the market is adversely affected by many prevalent malpractices which not only hinder the growth of stock market but also create a sense of insecurity amongst the general public before investing in the stock market.

One such malpractice is ‘’Insider Trading’’. Insider trading basically means trading in the securities of the Company by the person who have some information which is not available to the general public in the market and thus allowing them to make unlawful gains.

Till about 3 decades ago, this concept was more prevalent in West, but the bug is spreading fast and can now be seen even in this terrain of the world. Over the years, the Government of India has formed various committees to look into the regulatory framework for Insider Trading. In the year, 1989, a committee by the name of Abid Hussain Committee was formulated which recommended that in order to tackle Insider trading effectively, formulation of special legislation by SEBI was required.

Accordingly, in the very 1st year of its formation, SEBI promulgated SEBI (Prohibition of Insider Trading) Regulations, 1992. The motive behind the Regulations was to take care of the interest of innocent and bona-fide investors and at the same time catch hold of persons who are responsible for tampering the market due to possession of inside confidential information. But, with the passage of time and robust growth of the Indian Capital Market, the 1992 Regulations were turning out to be inadequate in curbing the insider trading practices. Therefore, a need was felt to enact more stringent regulations to protect the interest of the bonafide investors. Accordingly, SEBI formed a high Level Sodhi Committee under the chairmanship of Justice N.K. Sodhi to review the Existing regulations. After taking into consideration the recommendations of the Sodhi Committee, SEBI replaced the existing insider trading regulations with a more comprehensive and stringent SEBI (Prohibition of Insider Trading regulations) 2015 w.e.f 15thMay, 2015.The 2015 Regulations have given a very wide definition of the term ‘Insider’.

In this “INSILYSIS” sseries of ours, we have made an attempt to do a detailed analysis of who is an “insider” and “connected person”.

WHO IS AN INSIDER?

Regulation 2(1)(g) of the SEBI (Prohibition of Insider Trading) Regulations, 2015, defines insider as :

1. A connected person; or
2. In possession of or having access to unpublished price sensitive information.

While the definition may sound straightforward, it is sometimes difficult to determine who is actually an insider. The definition of insider prescribes two categories of people:-

1. The first one who has connection with the Company and

2. The other one who are not connected with the Company but are in possession of or having access to unpublished price sensitive information.

SEBI’s Intent behind coining the term insider was just to differentiate the persons who are connected with the Company or have access to unpublished price sensitive information from the ordinary investors who trade in the securities of the Company on the basis of their financial wisdom, in order to create a level playing field and to safeguard investing public against financial misfortunes. The regulations implicate anyone who has or expected to have the possession of the Unpublished Price Sensitive Information (UPSI) by the virtue of his position as an Insider. Unpublished price sensitive information generally relates changes in capital structure, financial results, mergers or demergers or bonus or any other information which may impact the price of the security in the market on becoming generally available in the public.

Another term which holds a great significance and forms a major part of Insider is ‘connected person’. The term connected person is defined in regulation 2(1)(d) of the SEBI (Prohibition of Insider Trading) Regulations, 2015, which includes the following person:

• any person who is or has been associated with company, in any manner, during the six months prior to the concerned act;
• an immediate relative of the connected person;
• a holding / associate/ subsidiary company;
• an official of stock exchange or of clearing corporation;
• a banker of the company;
• A concern, firm, trust, HUF, company or AOP wherein a director of a company/ immediate relative/ banker of company has more than 10% of the holding or interest;
• Legal Consultants and Auditors, and such other persons who are directly or indirectly, associated with the Company.

SEBI in the PIT Regulations 2015, has taken a step further and has broadened the scope of definition of connected person to a far extent when compared with the erstwhile regulation, 1992. This can be implied from the fact that under the Regulations 2015, any person who is or has been associated with the Company in any manner, directly or indirectly during the last 6 months will be considered to be an connected person and is reasonably deemed to have access to the unpublished price sensitive information will be treated as a Connected person. Therefore, even a driver or a cleaning staff of the company who has traded on the basis of the unpublished price sensitive information received during the course of his employment will not be out of the purview of the definition. Even the officials of the stock exchange or clearing corporations who receives unpublished price sensitive information in their regular working are also not out of the purview of the definition under the new regulations.

SEBI has also through its informal guidance dated July 25th, 2016 while replying to a query by HDFC Bank ltd., has clarified that portfolio managers while managing their clients investment cannot trade in the securities of the Company of which they have unpublished price sensitive information. If they do so, then it will be assumed that such investment has been made on the basis of the unpublished price sensitive information possessed by them and they will be held guilty for insider trading.

SEBI’s intent behind taking a time period of 6 months for seeing the association of any person with the company is sufficient enough to curb the trading in the securities of the company on the basis of the UPSI as the gravity of any price sensitive information to impact the market can reasonably be lowered down during the period of 6 months.

Various cases have been settled wherein different perspective have been taken for considering a person as an insider, some of which are mentioned below :

• In the matter of Palred Technologies in the year 2016, SEBI for the very first time went a step further by drilling down the social accounts of the accused and held that person connected to each other as mutual friends on facebook, will also be treated as Insider when they have traded in the shares of the Company on the basis of Unpublished price sensitive information.
• In the matter of KLG Capital Services Limited in the year 2009, a person would qualify to be an insider if he is expected to have access to unpublished price sensitive information or has received or has had access to the unpublished price sensitive information.
• In the matter of Dr. Anjali Beke Vs. SEBI in the year 2006, SAT held a person who has received information from the managing director of the listed company who was known to him as an insider. A person if has received unpublished price sensitive information will be an insider no matter he is connected with the company or not.
• In the matter of Mannapuram Finance Limited in the year 2015, SEBI held that wife of a Director is deemed to be a connected person and the fact that she is economically independent will not get her out of the ambit of Insider Trading if she trades in the securities of the Company in which her husband is a director without complying with the provisions of the Insider Trading regulations..
• The main element behind considering any person as an insider has always been the possession of the unpublished price sensitive information which he has had or deemed to had and in case, the contrary is proved, the said person will not be treated as an Insider. Even Hon’ble Securities Appellate Tribunal in the matter of Mrs. Sadhana Nabera Vs. SEBI in the year 2008, held that an auditor of the company cannot be reasonably deemed to have information relating to merger of one company with another, and will not be treated as an insider until it is shown that the valuation report on the merger prepared by the Chartered accountant was made available to him.

INTERNATIONAL FRAMEWORK

Instances related to Insider trading has been found all over the world since last many years and many countries have different laws for it but the basic intention behind all such laws has always been to curb this practice. Heavy penalties are being imposed on person found guilty of Insider Trading worldwide. One such landmark case was when former Goldman Sachs Director Rajat Gupta, was imposed a penalty of $13.9 million by the U.S. District Court and was permanently barred from acting as an officer or director of a public company. When compared with the law in UK, the Indian law on this subject appears to be more stringent. In UK, both the liabilities, civil or criminal are determined by different statues but in India same statue is applied for both the liabilities. Indian law appears to be stricter as there is no defense available to escape the liability as compared to the UK Law where certain defenses are available. But the scope of Indian law can be seen as narrower when compared with the UK law as Indian law is limited to dealing only with listed Companies while no such criteria is mentioned in the latter. It is also to be noted that under the Indian law a person is deemed to be a connected person if he has been connected to the Company during a period of 6 months prior to the insider trading act but no such time period has been prescribed under the UK law.

Also, as per the Criminal justice act of UK, motive that a person knew the information was an inside information at the time of committing such act is required while no such motive is required as per the Indian law.

Under the US Law, an insider, affiliate or control person is defined as an officer, director or owner of more than 10% of the voting stock in a company, or the immediate family of any of these persons. No such criteria of holding any percentage of voting stock has been prescribed under the Indian law, even a person who is not holding a single share in the Company can be treated as Insider, thus the scope of insider can be said to be wider when compare to the US Law.

CONCLUSION

From the above discussion and analysis, it is amply clear that that the term “Insider” has a very wide connotation. It not only is a person in direct employment of the company but also covers their immediate relatives, any person who have been connect in past also, the intermediaries, any person having fiduciary relation with the company etc. The conclusive reading of various judgments established under the SEBI (Prohibition of Insider Trading) Regulations, including the cases that were settled under the erstwhile 1992 Regulations, establishes that SEBI has adopted a zero tolerance approach for cases relating to trading by insiders on the basis of the unpublished price sensitive information. Heavy penalties are being imposed by SEBI on the persons found guilty of Insider trading such as in the case of Sigrun Holdings Ltd. ,SEBI through its Order dated June 17 ,2016 , imposed a monetary penalty of Rs. Six crores and Eighteen Lakhs in total on the Managing director of the Company for violating the Insider trading regulations. Various orders are being also made like declaring the transaction void, prohibiting the person from dealing or investing in securities or returning the securities so purchased or sold or directing the person who has dealt in securities in violation of these Regulations to transfer an amount or proceeds equivalent to the cost price or market price of securities.

Disclaimer: –

The entire contents of this document have been developed on the basis of relevant statutory provisions and the information available at the time of the preparation. Though the author has made utmost efforts to provide authentic information however, assumes no responsibility for any errors which despite all precautions, may be found herein. The material contained in this document does not constitute/substitute professional advice that may be required before acting on any matter. The author and the company expressly disclaim all and any liability to any person who has read this document, or otherwise, in respect of anything, and of consequences of anything done, or omitted to be done by any such person in reliance upon the contents of this document.