Chartered Accountants (CAs) are in a unique
position of regularly being susceptible to the temptation of insider
trading. It is then not surprising that the strictest of deeming
provisions are made to ensure that they and others in similar position
are presumed guilty in many ways unless they can rebut the charge.
CAs
are often not just close to the Company, but they are close to and
involved with the accounts and finance of the Company where most
pricesensitive information arises first. They are thus close whether as
auditors, working in finance or accounts, advising as merchant bankers,
etc. Furthermore, the financial and analytical skills of CAs make them
more capable in visualising the implications of such information on the
market price than other insiders.
The Securities Appellate Tribunal in Shri E. Sudhir Reddy v. SEBI (decided on 16-12-2011) had observed:
“.
. . . The directors of the company or for that matter even
professionals like CAs and Advocates advising the company on its
business-related activities are privy to the performance of the company
and come in possession of information which is not in public domain.
Knowledge of such unpublished price-sensitive information in the hands
of persons connected to the company puts them in an advantageous
position over the ordinary shareholders and the general public. Such
information can be used to make gains by buying shares anticipating rise
in the price of the scrip or it can also be used to protect themselves
against losses by selling the shares before the price falls. Such
trading by the insider is not based on level playing field and is
detrimental to the interest of the ordinary shareholders of the company
and general public. It is with a view to curb such practices that
section 12A of the SEBI Act makes provisions for prohibiting insider
trading and the Board also framed the Insider Trading Regulations to
curb such practice . . . .”
Oscar Wilde has light-heartedly said
that “The only way to get rid of temptation is to yield to it”, but
yielding to it is what CAs need to strongly resist.
However, the
focus of this article is to highlight that, over a period of time, the
framework of law relating to insider trading has become so strict as to
become even stifling so much so that it may be advisable for CAs
connected with the Company in any manner to simply not carry out any
trades in the shares of that Company. This may be better than facing a
presumptive charge of insider trading and then having to find evidence
to prove it otherwise.
Let us try to understand some aspects of
the law relating to insider trading to understand the difficulties that
the regulator faces in controlling it, the deeming provisions — perhaps
these are regulatory ‘short-cuts’ — adopted by it and the implications
that insiders particularly CAs face.
Insider trading, loosely
and conceptually understood, is misuse of price-sensitive information by
insiders to trade and profit from it. A simple example is, say, the
Company receives a huge profitable contract. When this information is
published, the price of the shares would go up. But the insiders may buy
the shares of the Company before the information is published and,
after publishing the information when the price goes up, they may sell
the shares at the higher price.
While this is easily understood
conceptually, there are difficulties in proving in law whether there was
insider trading and whether a particular insider was guilty of such
offence. Consider some aspects the law will have to provide for
objectively.
(a) What is insider trading? How to define it? Whom
to cover? What type of transactions to cover? Whether and how to cover
sharing of information?
(b) Whether a particular person an insider? Is he in a position to have access to unpublished pricesensitive information?
(c) Whether particular information price-sensitive? Would it affect the market price if it were published?
(d) Was such price-sensitive information published?
(e)
Did the insider deal in the shares directly or indirectly? Did the
insider communicate the unpublished price-sensitive information (UPSI)?
(f) Were the dealings of the insider on the basis of such UPSI? And so on.
It
can be seen even by a cursory glance at such hurdles as also shown by
experience, that they can be difficult to cross and thus insider trading
may be difficult to prohibit and punish. The SEBI characteristically
has used a series of ‘deeming’ provisions whereby a certain state of
affairs is assumed to be true. Consider some examples of this:
(1) Several groups of persons are deemed to be insiders.
(2) Several types of information is deemed to be price-sensitive.
(3)
Information is deemed to be duly published only if it is published in a
particular manner. Even if widely known to the market otherwise, it is
not deemed to be published.
(4) Certain periods before an important
event are assumed to be such where UPSI exists. In effect, as we will
see later, trades during this period are assumed to be insider trading
at least in effect.
(5) Certain transactions of purchase/sale by
specified insiders are deemed to be insider trading and unlike other
deeming provisions such transactions are straight away banned.
(6)
Certain insiders in possession of inside information are deemed to have
acted on the basis of such insider information in carrying out their
trades and thus held guilty of insider trading unless they prove
otherwise.
And so on.
Some of the above
assumptions/deeming provisions are rebuttable in the sense that the
person concerned can demonstrate that, in reality, what is deemed is not
really so. In other cases, the deeming is absolute and non-rebuttable.
The
point being made is that there are numerous provisions whereby a trade
by a person would be deemed to be insider trading and this would be
absolutely held to be so or the person will have to demonstrate that
this is not so. To put it in different words, a person associated with a
listed company may often be held to be guilty unless he proves
otherwise.
It is worth elaborating some of the points made above.
An
insider is defined, in Regulation 2(e) of the SEBI (Prohibition of
Insider Trading) Regulations, 1992 (‘the Regulations’), to begin with,
to include a ‘connected person’. A connected person includes a director.
Thus an Independent Director is an insider. Further, a person holding a
position involving a professional relationship with the Company is a
connected person and thus auditors and lawyers would be connected
persons and thus insiders.
Then there are persons who are deemed to be connected persons. An example is of a merchant banker.
However,
the additional requirement for the offence of insider trading to happen
is that the connected person should reasonably be expected to have an
access to unpublished price-sensitive information. This is to be
determined obviously by evidence.
A transaction is insider trading if it is carried out when in possession of unpublished price-sensitive information (‘UPSI’). While UPSI is defined as information which if published is likely to materially affect the prices of securities of the company, several items of information are deemed to be UPSI. Examples are periodical financial results, any major expansion or execution of new projects, dividends, etc. For such deemed UPSI, the test whether it will materially affect the price of the company is not required to be fulfilled. This may sound strange for financial results where there are no significant changes, where the dividends more or less are as per the past record, etc. A trading on knowledge of such deemed UPSI is insider trading.
If the price-sensitive information is ‘published’, then of course it is no more UPSI. However, information is deemed to be published only if it is published by the Company and is specific in nature. It has been held that the fact that the information may be known to the markets is not generally a valid defence that it is published.
The deeming of certain transactions has been carried to an extreme whereby certain transactions by specified persons in certain situation are straightaway banned clearly on the presumption that these are transactions of insider trading or too near to them.
For example, the concept of trading window is introduced which can be open or closed. It is generally closed in anticipation of certain price-sensitive information being compiled or announced. When it is closed, the employees/directors of the Company are not permitted to trade in the securities of the Company. In this sense, the closed window period is again a period during which it is deemed that transactions that may take place would be insider trading and thus straightaway banned. One cannot carry out a transaction during such period and any attempt to rebut the charge would be virtually impossible.
Further, if an opposite transaction is carried out by directors/officers/designated employees within six months of the earlier transaction, it is effectively deemed to be insider trading and thus absolutely prohibited. Such a transaction too has no rebuttal.
There is a controversy as to whether for a transaction to amount to insider trading, the insider has to merely possess price-sensitive information or the transaction should be on the basis of such price-sensitive informa-tion. The crucial difference is that in the latter case, the onus on SEBI is more as it has to prove a mental element to the transaction. This controversy mainly arises because of mismatch in drafting between the Act and the Regulations. Regulation 3(i) of the Regulations provides that a transaction would be insider trading if an insider carries out while in possession of UPSI. Section 15G of the Act, which levies penalty for insider trading, however, levies penalty if the transaction is carried out on the basis of UPSI. The SAT has held recently in the case of Chandrakala v. SEBI (Appeal No. 209 of 2011 dated 31st January 2012) that once an insider trades while in possession of UPSI, it will be a presumption, albeit rebuttable, that it is ‘on the basis of’ UPSI. It will be up to the insider to prove that it is not so. The SAT observed,:
“The prohibition contained in Regulation 3 of the regulations apply only when an insider trades or deals in securities on the basis of any unpublished price-sensitive information and not otherwise. It means that the trades executed should be motivated by the information in the possession of the insider. If an insider trades or deals in securities of a listed company, it may be presumed that he/she traded on the basis of unpublished price-sensitive information in his/her possession, unless contrary to the same is established. The burden of proving a situation contrary to the presumption mentioned above lies on the insider. If an insider shows that he/she did not trade on the basis of unpublished price-sensitive information and that he/she traded on some other basis, he/she cannot be said to have violated the provisions of Regulation 3 of the regulations.”
The implications of the above decisions are not far to see. Most CAs associated with a company are likely to be insiders or deemed insiders and would have access to UPSI. Their trading would thus be deemed insider trading as a presumption and it would be up to him to prove otherwise.
To conclude, CAs who are associated with listed companies professionally or in employment or in other manner as consultants, etc. may find many of the deeming provisions acting against him. He is likely to be deemed as an insider and his trades deemed to be insider trading. The onus would be on him to prove otherwise and even such opportunity to rebut is not always available. CAs would thus consider whether they should, as a prudent policy, refrain altogether from trading in the shares of such company or ensure that they fall within the clear exceptions, on facts or otherwise.
A transaction is insider trading if it is carried out when in possession of unpublished price-sensitive information (‘UPSI’). While UPSI is defined as information which if published is likely to materially affect the prices of securities of the company, several items of information are deemed to be UPSI. Examples are periodical financial results, any major expansion or execution of new projects, dividends, etc. For such deemed UPSI, the test whether it will materially affect the price of the company is not required to be fulfilled. This may sound strange for financial results where there are no significant changes, where the dividends more or less are as per the past record, etc. A trading on knowledge of such deemed UPSI is insider trading.
If the price-sensitive information is ‘published’, then of course it is no more UPSI. However, information is deemed to be published only if it is published by the Company and is specific in nature. It has been held that the fact that the information may be known to the markets is not generally a valid defence that it is published.
The deeming of certain transactions has been carried to an extreme whereby certain transactions by specified persons in certain situation are straightaway banned clearly on the presumption that these are transactions of insider trading or too near to them.
For example, the concept of trading window is introduced which can be open or closed. It is generally closed in anticipation of certain price-sensitive information being compiled or announced. When it is closed, the employees/directors of the Company are not permitted to trade in the securities of the Company. In this sense, the closed window period is again a period during which it is deemed that transactions that may take place would be insider trading and thus straightaway banned. One cannot carry out a transaction during such period and any attempt to rebut the charge would be virtually impossible.
Further, if an opposite transaction is carried out by directors/officers/designated employees within six months of the earlier transaction, it is effectively deemed to be insider trading and thus absolutely prohibited. Such a transaction too has no rebuttal.
There is a controversy as to whether for a transaction to amount to insider trading, the insider has to merely possess price-sensitive information or the transaction should be on the basis of such price-sensitive informa-tion. The crucial difference is that in the latter case, the onus on SEBI is more as it has to prove a mental element to the transaction. This controversy mainly arises because of mismatch in drafting between the Act and the Regulations. Regulation 3(i) of the Regulations provides that a transaction would be insider trading if an insider carries out while in possession of UPSI. Section 15G of the Act, which levies penalty for insider trading, however, levies penalty if the transaction is carried out on the basis of UPSI. The SAT has held recently in the case of Chandrakala v. SEBI (Appeal No. 209 of 2011 dated 31st January 2012) that once an insider trades while in possession of UPSI, it will be a presumption, albeit rebuttable, that it is ‘on the basis of’ UPSI. It will be up to the insider to prove that it is not so. The SAT observed,:
“The prohibition contained in Regulation 3 of the regulations apply only when an insider trades or deals in securities on the basis of any unpublished price-sensitive information and not otherwise. It means that the trades executed should be motivated by the information in the possession of the insider. If an insider trades or deals in securities of a listed company, it may be presumed that he/she traded on the basis of unpublished price-sensitive information in his/her possession, unless contrary to the same is established. The burden of proving a situation contrary to the presumption mentioned above lies on the insider. If an insider shows that he/she did not trade on the basis of unpublished price-sensitive information and that he/she traded on some other basis, he/she cannot be said to have violated the provisions of Regulation 3 of the regulations.”
The implications of the above decisions are not far to see. Most CAs associated with a company are likely to be insiders or deemed insiders and would have access to UPSI. Their trading would thus be deemed insider trading as a presumption and it would be up to him to prove otherwise.
To conclude, CAs who are associated with listed companies professionally or in employment or in other manner as consultants, etc. may find many of the deeming provisions acting against him. He is likely to be deemed as an insider and his trades deemed to be insider trading. The onus would be on him to prove otherwise and even such opportunity to rebut is not always available. CAs would thus consider whether they should, as a prudent policy, refrain altogether from trading in the shares of such company or ensure that they fall within the clear exceptions, on facts or otherwise.
