Janardhan Rao & Komal Lukad

After a prolonged period of corporate scandals in India, the Securities Exchange Board of India (‘SEBI’) issued the SEBI (Prohibition of Insider trading) (Amendment) Regulations, 2018 (‘PIT Amendment regulations’) on 31 December, 2018 amending certain provisions of the SEBI (Prohibition of Insider trading) Regulations, 2015 (‘SEBI (PIT) Regulations’). The PIT Amendment Regulations are broadly based on the recommendations of the Committee on Fair Market Conduct (‘FMC Committee’) constituted under the Chairmanship of Mr. T.K. Viswanathan.

SEBI Act and the PIT Amendment regulations are intended to check the market abuse related to “Insider trading” and to protect the interest of investors in the securities markets. PIT Amendment regulations mainly focuses on segregating the responsibilities of the listed companies and intermediaries, amending their code of conduct as well as code of fair disclosures, and providing a mechanism for better implementation of these Regulations.

The key changes introduced by the PIT Amendment Regulations are briefly discussed below. These changes have come into effect from April 1, 2019.

  • Insertion of explanation in the definition of “Compliance Officer”

A Compliance officer is required to be Financially Literate, the explanation defines financially literate, as a person who has ability to read and understand basic financial statements i.e. balance sheet, profit and loss account and statement of cash flows. 

  • Insertion of meaning of “Proposed to be listed”

The definition of a company that is “Proposed to be listed” shall now include securities of an unlisted company that has filed offer documents with the Board, stock exchange or registrar of companies in connection with the listing or is getting securities listed pursuant to any merger or amalgamation and has filed a copy of such scheme of merger or amalgamation under the Companies Act, 2013.

  • Amendment in the definition of “Unpublished Price Sensitive Information (UPSI)”

The definition of UPSI has been amended, to delete “material events in accordance with the listing agreement”, considering the fact that not all material events or information may necessarily be price sensitive.

  • Amendment with respect to “Communication or procurement of UPSI”

The PIT Amendment Regulations have inserted the definition of “legitimate purpose” to remove the ambiguity and provide clarity as to the circumstances under which sharing of UPSI is allowed in the ordinary course of business by an insider with partners, collaborators, lenders, customers, suppliers, merchant bankers, legal advisors, auditors, insolvency professionals or other advisors. However, sharing of information should not be carried out to evade or circumvent the prohibitions of the Regulations.

Persons to whom the UPSI is shared pursuant to a legitimate purpose will be treated as an Insider and prior intimation by serving a notice shall be given to them by the Company to maintain confidentiality of the same.

In this regard, SEBI has mandated the board of directors of a listed company or intermediaries to define their own policy relating to “legitimate purposes” as a part of “Codes of Fair Disclosure and Conduct”.

The PIT Amendment Regulations provides little elbow room to the listed company or intermediaries to decide what may or may not be “legitimate purposes” based on its business-related needs, while at the same time requires it to ensure responsibility, since the directors should justify the policy.

  • Requirement of “maintaining digital databases”

The PIT Amendment Regulations provides that the Board of listed companies and intermediaries must ensure that a structured digital database (i.e. electronic record) is maintained containing the names of such persons or entities with whom information is shared including certain personal details such as PAN, nature of UPSI etc.. Such databases are required to be maintained with adequate internal controls and checks and audit trails to ensure non-tampering of the database

  • Amendments in provisions “restricting trade while in possession of UPSI”

In the earlier provisions, the trading in securities was allowed between promoters, when in possession of the UPSI without being in breach of regulation 3 (i.e.) if the trading was off-market inter-se transfer and both parties had made a conscious and informed trade decision;

In this PIT Amendment Regulations, the word “Promoters” have been substituted with the word “Insiders”, i.e. to include other persons with access to UPSI as well. Accordingly, an Insider can trade in securities that are listed and are proposed to be listed if:

  • Trading was off-market inter-se transfer,
  • Both parties had made a conscious and informed trade decision,
  • UPSI was not obtained under Regulation 3(3) and,
  • The insider shall report the trade to the company within two working days and the company shall further notify the particulars of the same to the stock exchanges where the securities are listed within two trading days from the receipt of information or from becoming aware of the information.

Further, the following additional exceptions have been included to widen the situations where trading of securities when in possession of UPSI is allowed:

“(ii) transaction was carried out through the block deal window mechanism

(iii) transaction was carried out pursuant to a statutory or regulatory obligation to carry out a bona fide transaction

(iv) transaction was undertaken pursuant to the exercise of stock options in respect of which the exercise price was pre-determined in compliance with applicable regulations”

  • Amendments in provision governing “Trading Plans”

Two clarifications have been provided by the FMC Committee:

  1. Pre-clearance of trade shall not be required in case the trading plan has been filed and approved
  2. Adherence to trading window norms and restrictions on contra trade shall not be applicable for trading done in accordance with the approved plan

Filing and approving Trading Plans are onerous and are often not resorted to. Thus, one is unsure how the above two clarifications will be used by the traders.

  • Amendment in “Applicability of making continual disclosures” –

The requirement of making continual disclosure has been removed from all the employees and restricted to Designated Persons only along with Promoters and directors of the Company

  • Amendments in the provision governing“Code of Conduct”
  • In case of a market intermediary, the board of directors or head(s) of the organisation of every intermediary shall ensure that the chief executive officer or managing director has   formulated a Code of Conduct after obtaining approval.
  • A new Schedule (Schedule C) has been included to specify the minimum standards to be set out in the Code of Conduct of a market intermediary.
  • Code of Conduct is required to be followed by the Designated persons and immediate relatives of designated persons as specified in the Code of Conduct.

Therefore, the Regulations require to formulate two separate Code of Conducts with minimum standards for:

  • Listed Companies
  • Other persons who handle UPSI during the course of business operations such as Market intermediaries and fiduciaries which include auditors, accountancy firms, law firms, consultants, analysts, insolvency professional entities, consultants, banks etc.
  • Institutional Mechanism for Prevention of Insider Trading
  • The Chief Executive Officer, Managing Director or such other a person of a listed company, intermediary or fiduciary must put in place an adequate and effective system of internal controls to ensure compliance with PIT regulations
  • The internal controls include the following:
    • all employees having access to UPSI are identified as designated employee;
    • UPSI to be identified and confidentiality to be maintained; 
    • adequate restrictions on communication or procurement of UPSI;
    • maintenance of a list of employees with UPSI and execution of confidentiality agreements or notice to be served on all such employees and persons;
    • periodic process review to evaluate effectiveness of such internal controls.
  • The board of directors of every listed company, intermediaries and fiduciaries shall ensure that the Chief Executive Officer or the Managing Director ensures compliance with above regulations.
  • The Audit Committee of a listed company or other analogous body for intermediary or fiduciary shall review compliance with these regulations at least once in a financial year and shall verify that the systems for internal control are adequate and operating effectively.
  • Every listed company is also required to formulate written policies and procedures for inquiry in case of leak of UPSI or suspected leak of UPSI and to formulate whistle blower policy to enable employees to report instances of leaks, the relevant intermediaries and fiduciaries are required to co-operate with the listed company in connection with such an inquiry.

Impact / Impact on Restructuring

  • Impact on UPSI
  • Any New Company with an intention of being listed will now have to make compliance checks as they are also governed by the PIT Regulations.
  • Since the ambit of the UPSI has been reduced to delete material events in accordance with listing agreement, the focus has now shifted to the people who have been given such access, and whether or not UPSI is impacted by the material event.
  • Handling of UPSI  
  • The Compliance Officer should be a qualified individual having sufficient skillset to undertake compliance functions in the company.
  • Ample leverage has been provided to individuals utilising UPSI for legal, legitimate and professional purposes as long as confidentiality is maintained, thereby allowing the UPSI to be used for the best interest of the business.
  • Implementation of keeping UPSI safe
  • A structural digital database shall help to keep a track of the people having access to UPSI.
  • Emphasis has been made on broadening the number of people who can trade while having access to UPSI, subject to the conditions of PIT Regulations being met.
  • An Institutional mechanism has been set up by the senior management of companies to prevent Insider trading and strengthen internal controls.

The new Amendment Regulations that initially played more of a curative role, now play a preventive one. Further, these new Amendment Regulations have cast responsibilities on the listed entities to ensure that while dealing with third parties on UPSI, they have to ensure that the third parties do adhere with the PIT Regulations. The recent case where SEBI is probing the auditors against breach of the PIT Regulations should serve as a wake up call for both listed companies as well as intermediaries (such as auditors, consultants etc.) on formulating robust policies and framework for complying with the PIT Regulations.