This article has been written by Anjali Yadav pursuing a Diploma in US Corporate Law and Paralegal Studies course from LawSikho.

This article has been edited and published by Shashwat Kaushik.

Introduction

We cannot say that insider trading regulations are very old in India. As India is a developing economy, new laws and regulations are frequently introduced to fulfil the requirements of the current financial market. For the time being, India follows the Security Exchange Board of India (Prohibition of Insider Trading) Regulations of 2015 for insider trading. In addition to these regulations, the Companies Act of 2013 also provides certain provisions for the prohibition of insider trading. Indian companies can have their own or self-made insider trading regulations, which must adhere to the Securities Exchange Board of India (Insider Trading Regulations) of 2015.

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Insider trading deals in stocks of public companies or other securities based on confidential information that has not been published or has not come into the public domain yet to make personal profits and avoid losses in the short or long run.  Insider trading can be legal or illegal; it is legal only when the insider person or the connected person goes in accordance with SEBI. In the event that insider trading happens without following the regulations and the Companies Act 2013’s provisions, it shall be illegal. Generally, it is an evil practice, but not all insider trading is unethical. Based on some studies, some of them are also beneficial to a greater extent for the larger investment community.

If all the information relating to the security of the company is disclosed publicly, then the correct price may be determined by the market. This will result in accurate pricing and benefit the public in several ways. In this way, corruption can also be reduced by accurate pricing of securities, decreased investor unsureness and better monitoring of management’s effectiveness.

Unpublished Price Sensitive Information or UPSI

UPSI can be any particulars that are directly or indirectly related to the company’s securities but are not available to the public, and upon becoming available, they shall materially affect the price of the security. This confidential information is known as “Unpublished Price Sensitive Information (UPSI).”

This UPSI is generally inclusive of the following information but not restricted to it:-

  • pecuniary consequences;
  • returns;
  • alteration in capital formation; 
  • amalgamations, disposals, delisting and other transactions; and
  • alteration in key managerial personnel.

There are some reasons that can be considered while dealing with confidential information:

  • That connected person has an unfair and confidential advantage over other people who do not have that knowledge.
  • This can be termed a breach of fiduciary duty due to a breach of trust and confidence.
  • This can lead to a conflict between the company’s and the insider’s interests.
  • Insider trading plays an important part in maintaining the integrity and fairness of shareholders.
  • All of these things are breaches of the fiduciary duties of officers of a company. 

What is the restriction relating to UPSI

Restrictions on Insider

  • As per Regulation 3 of PIT Regulations, the insiders are not supposed to be providing or communicating any confidential information pertaining to a listed or proposed to be listed corporation or its securities unless and until the communication is made for a legitimate purpose while doing their duties or fulfilling legal obligations.
  • As per Regulation 4 of PIT Regulations, it is strictly prohibited for insiders not to trade in securities during the period he/she is in possession of UPSI. In the event that the insider having UPSI is purchasing any security during that period, it shall be presumed that he has done so on the basis of his knowledge of that information. 

Restrictions on third parties dealing with insiders

No one should try to encourage any insider to reveal the UPSI about a corporation or listed securities, unless and until it is for performing their duties or fulfilling their legal obligations. This way, integrity and confidentiality can be maintained.

Obligations on the board of directors of listed companies

According to Regulation 8, policy defining legitimate purposes as a portion of the “Codes of Fair Disclosure and Conduct” is to be prepared by the Board of Directors. This policy, when made, will help insiders know when it is appropriate to share the UPSI in the day to day course of business with partners, collaborators, creditors, clients, dealers, merchant bankers, legal consultants, auditors, insolvency professionals, or other consultants. 

Who is an insider

As per Regulation 2(1)(g) of the PIT Regulations, an insider can be any person who is:

  • a connected person (includes immediate relatives); or
  • in possession of or having access to UPSI.

According to the PIT Regulation, we get to know that any person having UPSI for some legitimate purpose will be considered an ‘insider’. And it is their duty not to disclose the UPSI before it actually came into the public domain.

The definition says that an insider can be anyone who has access to UPSI, regardless of how the person got it. If someone alleges to some other person that the person has been trading while he was in possession of UPSI, in that case, the onus of proof will be on the person himself who is alleging that. The person alleged shall have a chance to prove on their part that they were not in possession of the information, did not trade, could not access it, or that their trading was justified by certain situations.

When an insider has UPSI, he shall not trade in securities of the company, except in the following situations:

  • The transaction was carried out through the block deal window mechanism. 
  • When the transaction in question is done as a consequence of legal or regulatory requirements for carrying out a bona fide transaction.
  • When the transaction in question is undertaken by utilising the stock options with respect to pre-determined price in accordance with the applicable regulations.
  • In the matter of non-individual insiders, individuals who are  taking the trade decision and individuals who possess the UPSI are distinct from each other and during the  taking of the trade decisions, the individuals did not have such UPSI and appropriate and adequate precautionary arrangements were made to ensure that these regulations are not in contravention, and there is no proof of such breach of arrangements.
  • The trades were in compliance with the trading plan provided by Regulation 5.

Obligation of the Board of Directors of a listed company (other than those listed above) in relation to UPSI

An internal digital database containing the nature of UPSI, the names of those with whom it was shared, along with their PAN or any other identifier recognised by the law, can be maintained by the Board of Directors or head of the organisation. The database should not be outsourced and should have internal control so that it can be prevented from being tempered.

After completion of the relevant transaction, the structured digital database shall be kept for a minimum of 8 years. And in the case of any investigation or enforcement proceeding, the information in the database is to be kept until the completion of those proceedings. 

Disclosure requirements in relation to UPSI 

Initial disclosure requirements

Any person who is going to be appointed as key managerial personnel or a director of the company, promoter or member of the promoter group shall, at the time of appointment or within 7 days of such appointment, disclose his holding of securities of the company

Continual disclosure requirements

It is required by the promoters, members of the promoter group, designated persons, and directors of a company to disclose the sum total of securities they possess or of securities disposed of within two trading days. When the value of the securities traded exceeds Rs. 10 lakh or a specified value,only then such disclosure is required. The company also needs to notify the stock exchange about such trading within two trading days

Disclosure by other connected persons

Companies having their securities listed on a stock exchange may require any connected person or class of connected persons to disclose their holding and trading in securities of the company.

Trading plans of insiders: formulation and notification of the same

According to Regulation 5, every insider should prepare an advance trading plan and present it before the Compliance Officer for his consent and public reveal. These can be the salient features of such trading plans:-

The lock-in period here shall be for a minimum of 12 months.

  • An existing plan shall not overlap.
  • Trading can commence only after six months of the public disclosure of the plan.
  • It shall include either the value of trades to be traded or the sum total of securities to be traded together with the dates on which such trades shall be effected or the nature of trade and trade intervals.
  • No trading shall be permitted between the 20th day before the closure of the financial period and the second day of trading after the disclosure of financial results.
  • The trading plan must be compulsorily approved by the compliance officer, and once approved, it shall be irrevocable, i.e., the insider shall necessarily have to implement the plan without deviating from the plan approved.

Role of SEBI in regulating insider trading

SEBI is a statutory body that was formed under the Securities and Exchange Board of India Act 1992. The function and powers of SEBI are given under  Section 11 of the SEBI Act.

One of the most important duties of SEBI includes the conservation or preservation of the returns of investors and the regulation of security markets.

SEBI may look into the matters of grievances made by financiers, negotiators, or any other persons in any case related to insider trading. SEBI may appoint some officers in this regard for the inspection of the books and records of the persons involved.

Before undertaking an investigation, the Board shall give reasonable notice to an insider for such a purpose. The investigating authority may inspect any books, records, documents, computer data or other material affirmation of any member, director, proprietor,partner or employee of the insider or other persons.

Procedure and penalty

Insider trading, as defined by Sections 12A and 15G of the Securities and Exchange Board of India Act, 1992, is considered an offence in India. This act aims to protect the integrity of the securities market and prevent individuals from taking advantage of non-public information for personal gain.

According to Section 12A, insiders, including directors, officers, and other individuals with access to confidential information, are prohibited from trading in the securities of the company if they possess unpublished price-sensitive information. Similarly, Section 15G outlines additional restrictions and penalises insiders who indulge in insider trading activities.

The penalty for insider trading in India is significant. Upon conviction, individuals can be liable for a minimum fine of 10 lakh rupees and a maximum fine of 25 crore rupees or three times the profit gained from the illegal trading, whichever is higher. These substantial penalties underscore the seriousness with which insider trading is viewed in the Indian legal system.

In addition to the monetary penalties, individuals found guilty of insider trading may also face imprisonment for a term ranging from 3 years to 10 years. The court’s decision is based on the severity of the offence and the impact it has on the securities market. This provision acts as a deterrent, emphasising the personal consequences individuals may face for engaging in insider trading.

Furthermore, the Securities and Exchange Board of India (SEBI), the regulatory body responsible for overseeing the securities market in India, has the authority to impose additional penalties, including disgorgement of profits, restrictions on trading activities, and ineligibility to hold certain positions within the securities industry. These measures are aimed at safeguarding investors and maintaining fair and transparent market practices.

India detected the first case related to insider trading in Infosys Technologies Ltd., in which  Sri Gopalkrishnan, its Chief Executive Officer, was punished. Other than Gopalkrishnan, Jeffrey Lehman, an independent director,  has also been fined $2000 for the very same violation. A penalty for omission to properly follow the method on the sale of shares was imposed on Mr. Lehman, and that amount, too, had been given to some other charitable institution.

Means of controlling insider trading

Criminal

Penal provisions are used to deter people from taking any action prohibited by law. Therefore, passing a statute, restricting such trades, making them penal and administering criminal actions against the accused can be a way.

Civil and administrative penalties

Civil and administrative penalties can be more effective remedies, which can be in the form of remuneration, reimbursement, or compensation, and the issue of various kinds of administrative actions, like a debar from the industry without going to court, is indeed an impactful remedy. The powers granted to the regulator to impose penalties of 25 crores or three times the gain made, lead to economic harm,but deterrence can easily be administered in this way. Regrettably, the language of the civil monetary penalties is crafted in such a bad manner that the penalties are certain to be cut down (or diluted) as unconstitutional. 

Failure of SEBI to regulate insider trading

There are many deficiencies discovered in the Insider Trading Regulations of SEBI, which makes it hard for investors to set their confidence in the laws made for the protection of their rights and interests against the practice of insider trading. Many times, due to a lack of evidence, SEBI fails to institute  and prove a case (beyond reasonable doubt ) for convicting the persons accused of insider trading.

Rakesh Agarwal vs. SEBI (2003) is a highlighting case that shows the vulnerability of SEBI’s 1992. In this case, Rakesh Agarwal is the Managing Director of ABS Industries Ltd. (ABS), who was involved in negotiations with Bayer A.G. pertaining to their idea of overtaking ABS. He had this unpublished, price-sensitive data. In a significant move to protect the interests of investors, the Securities and Exchange Board of India (SEBI) has directed Mr. Rakesh Agarwal to deposit a substantial sum of Rs. 34,00,000 with the Investor Education and Protection Funds of two prominent stock exchanges in India. This directive aims to provide a safety net for any potential claims that may arise in the future.

As per SEBI’s instructions, Mr. Agarwal is required to deposit an equal amount of Rs. 17,00,000 with the Investor Education and Protection Funds of both the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE). These funds serve as a crucial mechanism to safeguard the rights and interests of investors in the Indian securities market.

By directing Mr. Agarwal to contribute to these funds, SEBI is taking proactive measures to ensure that investors have access to resources and support in the event of any grievances or disputes. This move underscores the regulator’s commitment to fostering a fair and transparent trading environment where investors’ interests are paramount.

It is worth noting that the Investor Education and Protection Funds play a vital role in educating investors about their rights, responsibilities, and various aspects of the securities market. These funds also assist investors in resolving complaints and disputes through arbitration and conciliation mechanisms.

SEBI’s directive to Mr. Agarwal to contribute to these funds is a significant step towards strengthening investor protection measures and enhancing confidence in the Indian securities market. By ensuring that there is a dedicated pool of funds available to address investor claims, SEBI is providing a safety net that can benefit investors and promote the overall health and integrity of the market.

The regulation of 2015 contains the definitions of “connected person” and “insiders,” which are more expanded and clarified.

It widened the definition of insiders, which includes those persons who do not have any position in the company but have made some contracts with the company that lead to their contact with the company and its employees. They are well-versed in the operation of the company and this relationship involves the sharing of price-sensitive information.

The Regulation of 2015 has also introduced the concept of trading plans, which ensure compliance by insiders in possession of UPSI. According to the 2015 regulations:

An insider can make a plan related to a trading plan and produce it before the compliance officer for his consent and public revelation, under which trades may be carried out on his behalf by that plan.

Role of committees to prevent insider trading

In addition to the legislative measures, various committees have been formed to specifically address the issue of insider trading and make recommendations for its effective monitoring and prevention. These committees include:

  1. The Sachar Committee (1979): This committee, chaired by Justice P.N. Bhagwati was constituted to examine the Companies Act of 1956 and suggest amendments to strengthen corporate governance and prevent insider trading. The committee’s recommendations included the introduction of a code of conduct for directors and the establishment of a separate regulatory body for the securities market.
  2. The Patel Committee (1987): Headed by Justice S.N. Patel, this committee was set up to review the functioning of the capital market and suggest measures to enhance its efficiency and transparency. The committee’s report highlighted the need for stricter regulation of insider trading and recommended the establishment of a specialised enforcement agency to investigate and prosecute cases of insider trading.
  3. The Abid Hussain Committee (1989): Chaired by Justice Abid Hussain, this committee was formed to review the existing legal framework for the regulation of insider trading and suggest amendments to strengthen it. The committee’s recommendations included the introduction of a comprehensive definition of insider trading, the creation of a separate offence for insider trading, and the imposition of stricter penalties for violations.

Conclusion

Insiders mainly deal with the shares of the company to provide fair and free transferability of shares in the capital market. The primary reason behind the formation of these regulations is to promote the fair and free transferability of stocks. The aim behind these regulations is to make the public aware of the fact that no one can benefit from trading on insider, unpublished, or confidential information.

Insider regulations in India prohibit any kind of dealing, communicating, or negotiation on any matter related to insider trading. Any connected person acting in contravention of these regulations shall be considered to be accused of insider trading and prosecution against it can be initiated by SEBI under Section 24.

This topic can be concluded by stating that whatever steps can be taken by the regulatory authorities for the protection of price-sensitive information and insider trading, the situation can never be satisfied because some people will always have these particulars. It is the duty and obligation of these people to preserve this information as an ordinary prudent man would.

Usually, these accused get acquitted without suffering any punishment. Even in cases where they’re found at fault, they’re required to pay only a sum of money that is not even proportionate to the profit they might have made, or they are  prohibited from dealing in securities   for a period stipulated within the order. And as a result, the insider ends up being satisfied with the profit they have made.

References

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