On 15 January 2015, the Securities Exchange Board of India (“SEBI”) introduced a revamped Insider Trading Regulations after more than 2 decades of the first regulations brought in force on the issue. Initially, SEBI (Prohibition of Insider Trading) Regulations 1992 (“1992 Regulations”) was the only regulation that was brought into force by SEBI upon its establishment. Taking heed of the perceived lacunae and inadequacies of the 1992 Regulations, SEBI had set up a High Level Committee constituted under the Chairmanship of Justice (Shri) N.K. Sodhi in 2013 for its recommendations on the legal framework for prohibition of insider trading in India. The first draft of SEBI (Prohibition of Insider Trading) Regulations 2015 (the “Regulations”) was brought earlier in the year 2013. The SEBI (Prohibition of Insider Trading) Regulations, 2015 (“Regulations”) have, with certain exceptions, followed the recommendation of the Committee. The Regulations are to come into effect on the 120th day of their notification in the Official Gazette.
Rationale behind the new regulations
Since the inception of the 1992 Regulations and even after substantial amendments in 2002, 2008 and 2011, SEBI has had limited success with regulating insider trading under the 1992 Regulations with the most prosecutions brought in by SEBI being dismissed or overruled by the appellate authority due to lack of evidence. Therefore, for SEBI to be able to effectively attempt to regulate the menace of insider trading, it is necessary to bring clarity to the procedural and evidentiary aspects of the regulation which are difficult to accomplish in insider trading. For instance, while the 2002 amendments provided that insider trading comes into being if an insider trades while “in possession” of unpublished price sensitive information (UPSI), section 15G of the SEBI Act, which contains the penal provision, still carried the previous position which is that the trading must be “on the basis of” UPSI which imposed a higher standard on the regulator.
It is to clear such discrepancies that the new Regulations are being enforced by SEBI. The new Regulations have introduced greater clarity in concepts and definitions along with a stronger legal and enforcement framework for prevention of insider trading.
Salient Features of the Regulations and Major Changes from the 1992 Regulations
The Regulations have been introduced to bring greater clarity to the concepts and tightening the norms and procedures under insider trading in India. The Regulations, along with its notes laying down the legislative intent for every section, seek to provide a clear understanding of the laws on insider trading and also establishes a stringent framework for prevention of the same.
Prohibition on insider trading and exemptions
The Regulations seek to prohibit the practice of insider trading in the markets. To that end, the Regulations provide the activities that would be considered as insider trading and the restrictions on the same under Chapter II of the Regulations. Therefore, any form of communication or procurement of unpublished price sensitive information (“UPSI”) by an insider and trading on such UPSI is prohibited. It is to be noted that under the new Regulations even merely procuring the UPSI has been restricted even if no gain is subsequently made from the UPSI unlike the 1992 Regulations wherein the UPSI had to be communicated or dealt with to be deemed to be trading by an insider prohibited under law. However, UPSI may be communicated, provided, allowed access to or procured, in connection with a transaction which in the opinion of the board of the company would be in the best interests of the company.
Trading by an insider when in possession of UPSI has also been restricted subject to certain exemptions such as when there is an off-market transfer between promoters who were in possession of the same price sensitive information or where the trading is pursuant to a trading plan.
Definition of Insider and Connected Person
An ‘insider’ under the Regulations has been defined to include any person who is: i) a connected person; or ii) in possession of or having access to unpublished price sensitive information. While the definition of ‘insider’ has not been varied greatly from that under the 1992 Regulations, it has expanded the scope of persons coming under the definition of ‘insider’ by greatly increasing the ambit of ‘connected person’.
Regulation 2(1)(d) of the Regulations gets a complete over hauling in comparison to the older definition of “Connected Person” as the newer definition tends to include anyone who is in contractual, fiduciary or employment relations with the promoters will be presumed to be ‘insiders’. Thus, the new rules include the immediate relatives of promotes, directors and employees who are in possession or have access to such information, within the scope of insiders by making such persons.
Further, the definition also bring into its ambit persons who may not seemingly occupy any position in a company but are in regular touch with the company and its officers and are involved in the know of the company’s operations. It is intended to bring within its ambit those who would have access to or could access unpublished price sensitive information about any company or class of companies by virtue of any connection that would put them in possession of unpublished price sensitive information.
Under Regulation 2(1)(n), the definition of UPSI has been broadened. Earlier, UPSI could be information related to the company; however, under the Regulations any information related to securities would also come under the definition of UPSI.
The concept of ‘trading plans’ of insiders in line with Rule 10b5-1 has been introduced in the Regulations under Regulation 5. This is provision has been brought in to have transparent framework for trading in securities through the year by insiders in possession of UPSI. The insider would be required to submit trading plan in advance to the compliance officer for his approval. The compliance officer is also empowered to take additional undertakings from the insiders for approval of the trading plan. On approval, the trading plan shall also be disclosed to the stock exchanges, where the securities of the company are listed.
In addition to the already existing previous disclosure norms, the current disclosure norms under Regulation 6 and 7 of the new Regulations, makes it mandatory for the promoters, employees and directors of the company to notify the company of their holdings, and also material changes in the holdings from time to time. The company in turn has obligations to notify the stock exchange so as to make the disclosures public
Codes of Fair Disclosure & Conduct
Similar to the Model Code of Conduct in the 1992 Regulations, the new Regulations have provided for Codes of Fair Disclosure and Conduct. The Code requires all listed companies to frame and publish a code of practices and procedures for fair disclosure of UPSI in accordance with the principles set out in Schedule A to the Regulations. Further, the board of directors of every listed company and market intermediary shall formulate a code of conduct to regulate, monitor and report trading by its employees and other connected persons in accordance with Schedule B to the Regulations.
The Regulations do not provide for specific penalties for violations of the provisions. Under Regulation 13, the provisions on the penalties as provided under the SEBI Act, 1992 have been retained. Therefore, insider trading shall be punishable with a fine of Rs. 25,00,00,000 or 3 times the profit made from the trading, whichever is higher. SEBI also has the power to prohibit an insider from trading or dealing the securities, direct the return of securities traded in as well as declare the transaction as illegal and void. Any person found in violation of the provisions of the Regulation shall also be punishable with imprisonment extending to 10 years or a fine of Rs. 25,00,00,000 or both.
Insider Trading Regulations in Other Jurisdictions
The United States of America has historically been the leading country in regulating and prohibiting insider trading and has enforced it more successfully and aggressively than any other jurisdiction, including the European Union. The Securities Exchange Act of 1934 (“SEC”) was the first legislation to officially tackle insider trading in America.
The definition set forth by the Securities Exchange Commission for what insider trading is and who can be convicted of insider trading leaves some room for interpretation and is the reason that much of insider trading law is derived from court decisions. Insider trading is defined as, “whenever it shall appear to the commission that any person has violated any provision of this title or the rules or regulations thereunder by purchasing or selling a security or security-based swap agreement… while in possession of material, non-public information…”. This implies that anyone who has access to non-public information and acts on it could be convicted for insider trading.
The penalties for insider trading are a maximum of 20 years in prison and a fine of $5 million. These fines were increased in the Sarbanes-Oxley Act of 2002. In addition, those convicted of insider trading can face civil penalty fines, which can be up to three times the profit gained or loss avoided as a result of an unlawful purchase.
In 2000, the SEC enacted Rule 10b5-1, which defined trading “on the basis of” inside information as any time a person trades while aware of material non-public information — so that it is no defence for one to say that he would have made the trade anyway. This rule also created an affirmative defence for pre-planned trades.
In the United Kingdom, the Financial Services Authority (FSA) regulates securities trading under the Financial Services and Markets Act, 2000 (“FSMA”) and the Criminal Justice Act, 1993 (“CJA”) with. As CJA deals with only individuals, corporations and other entities are excluded from being held criminally liable. Further, as criminal convictions are have a higher standard of proof and are consequently, difficult to obtain, the FSMA introduced the wider civil offense of market abuse, which covered “insider dealing”, “disclosing inside information,” and “dissemination of false or misleading information.”
In the United Kingdom an insider is any person who has inside information. An insider may be a part of management, an employee, a shareholder. Insider trading may occur as a result of criminal activities or a friend tipping them off. Inside information is defined as, “information that is not generally available and that a reasonable investor would use to help them make investment decisions. It is also information that, if generally available, would be likely to significantly affect the price of an investment”. Thus, UK follows the ‘possession theory’ in which any person given confidential information violates the law by then proceeding to trade on that information.
The punishment for insider trading or any kind of market abuse is a maximum of seven years imprisonment or an unlimited fine. On top of these penalties, a wider range of civil penalties could be imposed.
The core concept of the Market Abuse Directive of 2003 of the European Council is the definition of “inside information”. This is information of a precise nature that has not been made public relating, directly or indirectly, to one or more issuers or one or more securities. The characterization of inside information as precise is necessary to exclude opinions or rumours from the definition. The Directive contains broad provisions (in Articles 2 and 3) that prohibit persons in possession of inside information from: (a) dealing in the securities to which the information relates using inside information; (b) disclosing inside information to third parties unless the disclosure is made in the normal course of employment, profession or duties; (c) recommending or inducing other persons, on the basis of inside information, to trade.
Also, one of the most important provisions of the EC Directive is that it requires members to cooperate with each other “whenever necessary for the purpose of carrying out their duties” in connection with the EC Directive. The significant benefit of this provision is that it requires no further agreements between or among states regarding cooperation.
Analysis and Conclusion
SEBI has brought about the much-needed amendments in an effort to regulate the illicit transactions in shares of listed firms by management personnel and ‘connected persons’. It has broadened the concept of insiders and unpublished price sensitive information thereby making the prevention of the practice of insider trading more stringent. The Regulations have also struck a balance between the restriction of and the requirement to disclose insider information for legitimate purposes such as for mergers and due diligence of the affairs of companies. Further, the legislative notes accompanying the provisions shall be a useful and effective tool for the interpretation and implementation of the provisions in future.
The laws prohibiting insider regulation in India are much more restrictive in nature than many other countries, including the USA. Under the laws of India, anyone in connection with the company that is expected to put him in possession of unpublished price sensitive information regardless of how that person has come into possession may be liable to be termed as an insider while the US regulations have a prerequisite that there be any fiduciary relationship or a duty of trust or confidence between the source of the information and the recipient of the information for liability to attach.
However in the past, in spite of the existence of such regulations, the laws are hardly ever executed in practice. In most cases, the SEBI rulings are overruled by the Securities Appellate Tribunal citing insufficient evidence. Further, due to its compounding offense and consent process which allows violators of insider trading to pay fines and fees instead of going through the criminal proceeding and potentially serving prison time, SEBI has not been able to make a criminal conviction to date.
The SEBI Act gives the regulatory body wide powers to investigate matters of concerns relating to the stock markets in the country. Therefore, while the new Regulations are a welcome change for monitoring the insider trading activity more effectively, a transformation in the manner of enforcement of the laws is required more than ever.
( Authored by Mohar Majumdar, Associate)
 Reg. 1(2) of the Regulations
 See Hindustan Lever Ltd. v. SEBI(1998) 18 S.C.L. 311AA
 Reg. 3 of the Regulations
 Reg. 3(3) of the Regulations
 Reg. 4(1) of the Regulations
 Reg. 2(1(g) of the Regulations
 Chapter IV of the Regulations