This article is written by Shubhangi Upmanya, a 1st-year student of Vivekananda Institute of Professional Studies, Indraprastha University. In this article, she has discussed the regulations related to insider trading in detail.
It is important to have certain rules and regulations governing the securities market, in order to ensure that no person gets profited from trading on some ‘insider’ or on information that is not yet published for the public. According to Section 11 of the SEBI Act, 2011, the SEBI (Insider Trading) Regulations, 1992 were introduced to curb the peril of insider trading in India. The motive behind is to provide a fair playing field and accessibility to information regarding the market to all the participants.
Many countries have applied strict rules regarding insider trading. This is to ensure that the information is shared with all the participants of the market and not one person alone gets the benefits from the information. Such rules and regulations are generally enforced to ensure liquidity and efficiency in the market. Also, to ensure that the growth of the market happens in a steady and fast manner.
Need for insider trading regulations
The Indian securities market has witnessed a lot of contortion, non-compliance, and encroachment of the general laws and rules governing their own organizations. For example manipulation of the price, formation of an unnatural or false market, grave misconduct and insider trading.
The history relating to the stock exchanges in India is 145 years old but regulations concerning insider trading are just 28 years old. It was in the early 1970s, that the need to bring laws regulating the securities market and the insider trading was felt after it was realized that there has to be a scenario of perfect competition in the market and uniformity and symmetry in the information which each member of the market should hold. This resulted in different committees calling for a need for regulations and subsequently, the SEBI (Insider Trading) Regulations were introduced in the year 1992 and this need was fulfilled with its establishment and breach related to insider trading was alleviated to a great extent.
The Securities and Exchange Board of India Regulations in the year 1992, created a set of rules and regulations with respect to the particular market and the securities market as a whole. It was introduced with the aim to suppress practices that violated the market. The need for regulations for insider trading was felt.
What is insider trading?
This Section says, “Insider trading is an act that includes subscribing or agreeing to subscribe, buying or selling or agreeing to buy or sell, dealing or agreeing to deal with the information which is not published to the public and is sensitive. This act should be done by the director or key managerial personnel or any other officer of a company who should have access to such non-public and sensitive information.”
This Section also includes the act of insider trading, the occupation and communication of such information which is directly or indirectly related to any other person.
Who is an insider?
Section 2(e) of the SEBI(Insider Trading) Regulations, 1992 provides for the definition of an “insider”.
According to it, an insider is a person:
- Who ‘is’ connected to the company,
- Who ‘was’ connected to the company,
- Who is deemed to be connected with the company,
- Who is expected to have access to such price-sensitive and non-public information regarding the securities of the company,
- Who has received or has had access to the above-mentioned information.
Who is a connected person?
According to Section 2(h) of the SEBI(Insider Trading) Regulations, 1992, a connected person can be;
- “a company whose meaning is defined in sub-section (1B) of section 370 of the Companies Act, or sub-section (11) of section 372 of the Companies Act, 1956”;
- “a company whose meaning is defined in sub-clause (g) of Section 2 of the Monopolies and Restrictive Trade Practices Act, 1969”;
- “an intermediary as given in Section 12 of SEBI Act, 1992”;
- “a merchant banker, share transfer agent, registrar to an issue, debenture trustee, broker, portfolio manager, Investment Advisor, sub-broker, Investment Company or an employee”;
- “is a member of the Board of Trustees of a mutual fund or a member of the Board of Directors of the Asset Management Company of a mutual fund or an employee thereof who has a fiduciary relationship with the company;
- “is a member of the Board of Directors or an employee of a public financial institution that is specified in section 4A of the Companies Act, 1956”;
- “is an official or an employee of an organization which is self-regulatory and is recognized or authorized by any board of the regulatory body;
- “any relative of the above-mentioned, connected person”;
- “is a concern, firm, trust, Hindu undivided family, company or association of persons wherein any of the connected person has more than 10 percent of the holding or interest”.
Which information is considered as price-sensitive information?
The trading of price-sensitive information is illegal. The explanation of the term in Section 2(ha), was inserted by the SEBI (Insider Trading) (Amendment) Regulations, 2002.
According to Section 2(ha), price-sensitive information means, The information which is related to the company either in a direct or indirect way and if published will affect the securities of the company. The following will come under the term “price-sensitive information”-
- “periodical financial results of the company”,
- “declaration of dividends (both interim and final) done intentionally”,
- “issue of securities or buy-back of securities”,
- “any major expansion plans or execution of new projects”,
- “amalgamation, mergers or takeovers”,
- “disposal of the whole or substantial part of the undertaking”,
- “significant changes in policies, plans or operations of the company”.
SEBI (Insider Trading) Regulations, 1992
The Bombay Stock Exchange, which was established in 1875 was the first stock exchange. With its establishment, the securities market in India came into play. After the independence of India, there were two Acts governing it, the Capital Issues (Control) Act, 1947, (CICA) and the Securities Contracts (Regulation) Act, 1956.
CICA decided on the type and price of the issues concerning insider trading. The SCRA was introduced in order to resist unwanted transactions and to regulate the matters of dealings regarding insider trading.
Afterwards, the CICA was repealed with the introduction of the SEBI (Insider Trading) (Amendment) Regulations, 1992, leaving only the SEBI Regulations and SCRA working together in the market area. The functions of SCRA was performed by the Government of India.
Later on, it was decided that only one body should exercise in order to ensure efficiency. Therefore, the functions under the SCRA which the Government of India used to carry out, were transferred to the SEBI.
Prohibition on dealing, communicating or counseling on matters relating to insider trading
Section 3 of the SEBI (Insider Trading) Regulations, 1992 provides that:
The insider shall not,
- When having any unpublished price sensitive information, deal with the securities of the company which is listed on any stock exchange either on his behalf or someone else’s;
- Communicate, provide or receive, directly or indirectly any unpublished price sensitive information to any person who during the possession of such unpublished price sensitive information shall not deal in securities.
- While having any unpublished price sensitive information, no company shall deal in the securities of another company or any associate of that other company.
Any insider who trades in the securities market in violation of the provisions given in Section 3 of the SEBI (Insider Trading) Regulations, 1992, (which we have discussed above) will be held liable for insider trading.
This has been mentioned in Section 4 of the SEBI (Insider Trading) Regulations, 1992.
Authority provided to make inquiries and inspections
SEBI will set up a board that will have the authority to check the regulations governing insider trading, under Section 5 of the SEBI (Insider Trading)Regulations, 1992.
It mentions that the Board,
- If it suspects that any person has violated certain provisions of these regulations, then it may inquire such person, in order to form a prima facie opinion about the matter.
- May appoint one or more officers to inspect the books and records of insider or insiders.
Directions by the Board
The board has been given the full right to take steps to prevent non-compliance with the regulations which govern the securities market. This is to preserve the interest of the directors, managers of the organization and the securities market at large.
Under Section 11 of the SEBI (Insider Trading) Regulations, 1992, the board of SEBI has been provided with the authority to give orders and directions on the following matters:
- Directing the insider to not deal in securities in any particular manner;
- To forbid the insider from disposing of any of the securities acquired in violation of these regulations;
- Restraining the insider to communicate or counsel any person in dealing with securities;
- Proclaiming any particular transaction or transactions in securities as null and void;
- Giving an order to the person who dealt in securities violating the regulation related to it, to give back the securities;
- Directing the person who is incapable of giving the securities back, to pay the market amount which was prevailing at the time when the transaction was made or when the order was passed (whichever price is higher in value);
- Ordering a person who has violated the regulations governing the securities law of the organization to pay or transfer an amount. As a method of payment, it can also be the giving of proceeds, equivalent to the cost price or market price of securities (whichever is higher) to the investor protection fund of a recognized stock exchange.
The Board may provide a summon or issue a notice regarding the regulations discussed above. It should be in the manner prescribed in regulation 22 of the Securities and Exchange Board of India (Procedure for Holding Enquiry by Enquiry Officer and Imposing Penalty) Regulations, 2002.
Insider trading regulations by Self Regulatory Organisations (SROs)
What is self-regulation?
Self-regulation is a process by which some companies or organizations apply some framework on their own members or sometimes on the whole community. This framework consists of rules and regulations. Self-regulatory organizations are quasi-governmental bodies that enforce the external regulations with their own internal regulations.
In organizations that are owned by brokers, the brokers elect their representatives amongst themselves to manage activities related to misconduct, illegal professional behavior, and insider trading. The success herein, lies in the question that to what extent the self-regulatory organizations are able to control the practice of insider trading among their own members.
Some conflicts arise concerning fairness. The board of members possesses sensitive information and there could be instances of conflict of interest regarding the ownership and governance of the organization.
Therefore, the self-regulatory organizations are not totally a success.
The SEBI (Insider Trading) Act,1992 also provides for the promotion and directive for self-regulatory organizations. Also, the International Organisation of Securities Commissions (IOSCO) provides two principles of direction to SROs for the regulation of the securities.
Those two principles are-
- The authority that regulates the SROs should make use of the SROs to the extent of their size and with respect to the complication of the market.
- The regulator will provide complete supervision to the SROs and will ensure complete impartiality and the confidentiality of the transactions.
Let us look into the functions that SROs should perform:
- Give proper directive for the requirements of the disclosure;
- Imposing restrictions regarding insider trading;
- Provide such knowledge through education in order to limit the probability of trading by insiders;
- Impose procedures to manage inside information.
The SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009
In order to ensure the compliance of insider trading, there have to be disclosure requirements to order disclosure of the capitals and other factors that lead to trading by the insider. To ensure the same, the SEBI (Issue of Capital and Disclosure Requirements) Regulations were introduced in the year 2009. It has 6 Schedules and 11 chapters in total that deal with the procedures of issuing capita. For example, the appointment of merchant bankers and other intermediaries, filling of the official document, documents to be submitted before the opening of the issue, fast track issues, draft orders which are to be made to the public and what all have to be disclosed.
In this article to give you an overview of this Act, we will only be discussing the general conditions to issue the disclosure and instructions for it.
General conditions provided in Section:
- “Any issuer who is offering specified securities through a public issue or rights issue shall satisfy the conditions of this chapter. These conditions have to be fulfilled while filling the draft document or at the time of registering or filing the final offer document with either the Registrar of Companies or designated stock exchange”.
In this Section, there are some specified securities under which the issuer cannot make any public issue or rights issue.
- If anyone of these is disbarred from accessing the capital market by the Board; anyone here refers to-
the issuer, any of its promoters, promoter group or directors or persons in control of the issuer;
- if any of the promoters, directors or persons in control of the issuer was or also is the same in any other company and that company is disbarred from accessing the capital market by the Board;
- if the issuer of convertible debt instruments is in the list of wilful defaulters published by RBI;
- If the issuer has not paid the interest or repaid the principal amount for a period of more than six months. This has to be in respect of debt instruments issued by it to the public;
- If he has not sent an application regarding the listing of that specified securities, to one or more recognized stock exchange(s) and has chosen one of them as the designated stock exchange;
- If it has not entered into an agreement with a depository for dematerialization of securities are issued or are already proposed to be issued;
- If every existing partly paid-up equity shares of the issuer have either been paid up completely or are forfeited;
- If the firm’s arrangement of the finance is verified to be seventy percent.
Now, let us talk about disclosures that are provided in Part A, Section 1.
It reads as,
- “Only relevant and updated information and statistics shall be disclosed in the offer document”.
- “The source and basis of all statements or claims made shall be disclosed”.
- “Terms such as “market leader”, “leading player”, etc. shall not be used unless they can be substantiated by a proper source of information which has to be disclosed”.
For example, in the case of risk factors, the following has to be disclosed,
- The criminal charges which are provided under the Indian Penal Code and violations of securities law;
- The non-identification of acquisition targets, where any object of the issue is to finance acquisitions. This has to be disclosed along with the details of interim use of funds and the date( according to the probability) of completing the acquisitions;
- The industry segment for which the issue is proposed by the issuer provided. It should state that it has contributed to less than twenty-five percent of the revenues of the issuer in the last three fiscal years, etc.
Now we will move on to the discussion of SEBI (Prohibition of Insider Trading) Regulations, 2015.
The SEBI (Prohibition of Insider Trading) Regulations, 2015
On 15th January 2015, the Securities and Exchange Board of India introduced a new regulation, namely, the SEBI (Prohibition of Insider Trading) Regulations, 2015. It exercised its powers which were conferred by Section 30 of the Securities and Exchange Board of India Act, 1992 read with Section 11(2)(g), Section 12(A)(d) and Section 12(A)(e) of the Securities and Exchange Board of India Act, 1992.
SEBI (Prohibition of Insider Trading) Regulations, 2015 replaced the Securities and Exchange Board of India Act, 1992, two-decade-old regulations. Some definitions were amended and few were introduced. We will deal with it in detail now.
In order to check the compliance of the regulations by the members of the securities market, the following clauses need to be followed.
In Section 2(b), these regulations provide for the supplying of information timely,
- There has to be sufficient information provided timely. This information will include the matters concerning the time, the motive of the general meetings and the issues to be discussed at the general meeting.
- Capital structures and arrangements that allow some shareholders to obtain a degree of control. This control should be disproportionate to their equity ownership.
- Rights attached to all the series and classes of shares should be disclosed to investors before the shares are acquired by them.
Equitable treatment has to be ensured by all the listed entities towards all the shareholders (foreign shareholders and minority shareholders included). Section 2(c) provides for the manner the equitable treatment has to be made.
- The treatment to all shareholders belonging to the same series of a class will be done equally.
- There has to be effective participation of shareholders in relation to the key corporate governance decisions, such as the nomination and election of members of the board of directors.
- Foreign shareholders shall exercise their voting rights.
- The listed entity will have to devise a framework with the aim to avoid insider trading and abusive self-dealing.
- Processes and procedures in regard to the general shareholder meetings shall allow for equitable treatment of all shareholders.
- Procedures which the listed entity will make, will not cause any kind of difficulty or will make it expensive to cast votes.
Disclosure and transparency
As mentioned earlier, the more there is transparency and disclosure, more compliance is possible.
Section 2(e) of this Act provides for the provisions for timely and accurate disclosure.
Let us have a look at them.
- The information will be prepared and disclosed according to the standards of accounting, financial and non-financial disclosure, prescribed.
- Channels will be provided for disseminating information to ensure equal, timely and cost-efficient access to information that is relevant, by users.
- Every minute of the meeting should be recorded, including the explicit dissenting opinions (if any).
Disclosure of events or information
- Every listed entity will have to disclose any event or information which according to the Board of members is material.
- The events specified in Part A of the Schedule III are material and shall be disclosed.
Procedures to comply with Insider trading
General obligation of compliance
Section 5 of SEBI (Prohibition of Insider Trading) Regulations, 2015 says-
- The entities which are listed shall make certain that the following people comply with responsibilities or obligations( if any, assigned to them under these regulations).
- key managerial personnel,
- promoters, or
- any other person dealing with the listed entity.
Compliance Officer and his Obligations
Section 6 of the SEBI (Prohibition of Insider Trading) Regulations, 2015 says-
- The entity which is listed will appoint a company secretary for the post of the compliance officer.
- The compliance officer of the listed entity shall be liable for-
- Ensuring adherence to the regulatory provisions applicable to the listed entity, both in letter and spirit.
- Ensuring coordination with the Board.
- Ensuring reporting to the Board, recognized stock exchange(s) and depositories with respect to compliance with rules, regulations and other directives of these authorities. This should be done in a manner that will be prescribed from time to time.
- Ensuring that the correct procedures have been followed that would lead to the correctness, authenticity, and comprehensiveness of the information, statements, and reports filed by the listed entity with respect to these regulations.
- Ensuring that the email address of grievance redressal division ( designated by the listed entity) is monitored for the purpose of registering complaints by investors.
To check that the listed legal entities have complied with the rules specified in the SEBI (Prohibition of Insider Trading) Regulations, 2015, Section 34 of the regulations prove for submission of the annual report. It says-
The entities listed will have to submit an annual financial report within twenty-one working days of it being approved and adopted in the annual general meeting, with respect to the provisions laid down in the Companies Act, 2013.
Penalties for not complying with the regulations
Some penalties are to be imposed if any person does not comply with the regulation of the SEBI (Prohibition of Insider Trading) Regulations, 2015, let us discuss them now.
- Section 15G and Section 11(C)(6) of the SEBI(Prohibition of Insider Trading) Regulations, 2015, says that if any person refuses to cooperate in any kind of investigation which is instructed by SEBI for the violation of insider trading without any justified reason, he shall be punished with imprisonment for a term which can extend up to one year or fine which can be increased to 1 crore.
- Section 11(4)(B) of the SEBI Act authorizes the SEBI to pass such orders which prohibit the insider to deal in the particular securities in the manner specified, declaring the concerned one or more transaction of the securities a null and void.
- According to Section 195 of the Companies Act, 2013, if an insider does not comply with the provisions of this Section of the companies Act, then he/she shall be liable for imprisonment with a term which could be extended to as much as 5 years. He can also be punished with a minimum fine of 5 Lakhs rupees which can be extended up to twenty-five crore rupees or the fine of an amount thrice the amount of the profit made by the insider(whichever is more).
This case was decided in the year of 1992. The profit calculated in the first half of the year (1992-93) was ₹50.22 crore. This was less compared to the profit in the years 1991-92 and 1990-91 which were ₹278.16 crores and ₹238.13 crores respectively). This large difference in price clearly indicated that insiders( who have the knowledge of the company) made large profits.
Afterward, an investigation was initiated which was taken back as there were no regulations regarding it. Bombay stock exchange contended the same.
Reliance Industries Ltd. (RIL) vs. SEBI (2001)
The Reliance Group is India’s largest private-sector enterprise with an overall revenue of US$ 27 billion. In this case, the stake of Reliance Industries Ltd (RIL) in Larsen & Toubro was 5.32%. After which RIL appointed Mr. Anil Ambani and Mr. Mukesh Ambani to the board of directors. RIL started purchasing the shares from L&T, which raised its shares to 10.25%.
These shares were further sold by RIL to Grasim Industries Ltd, at a rate of ₹306.60 per share which was more than the market rate of ₹208.50 per share.
For this reason, RIL was directed to withdraw from the dealing and was further prohibited to deal with L&T in the future. Aso, RIL was directed to make certain disclosures to the Stock exchanges and L&T.
The Bombay Stock Exchange established in 1875, is the oldest and the biggest stock exchange in the market in today’s times. But the laws governing the securities market is not that old. Since the establishment of the SEBI (Insider Trading) (Amendment) Regulations, 1992, the world of the stock market is changing rapidly. With the introduction of new regulations and fresh amendments in the laws related to the securities market, the insider trading regulations have been improved and are working well in the field to curb the menace of insider trading and ensuring a perfect competition, market liquidity and cost of equity.
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