INSIDER TRADING

INTRODUCTION
 The effective functioning and governance of a corporate organization are attributed to ensuring
transparency, openness, and disclosure. 
 To achieve these attributes, it is essential to maintain a positive relationship among the managers and
the stakeholders, and embrace the faith of the investors. Investors are attracted by good corporate
governance and this increases their reliance on the companies.
 The Directors of the companies constituting the Board of Directors play a major role in deciding the
future of the company. The meetings and decisions of the board amount to confidential information.
Confidential information is only shared when it is required for the benefit of the company. Hence, it
is important to maintain the confidentiality of the information, until disclosed in public.
 It has been observed over the years that to gain an unfair advantage over others, the people working in
the organization manage to get their hands on confidential information and often engage in unfair
trade.
 The problem of insider trading emerged with the introduction of the concept of trading of
securities in the global market.
 In India, SEBI regulates the functioning of the capital market. It was necessary for the
protection of investors to enact legislation and establish an authority that can regulate the
securities market effectively.
 Consequently, Section 307 (provides for maintenance of a register by the companies to
record the directors’ shareholdings in the company) and Section 308 (prescribed the duty
of the directors and persons deemed to be the directors to make disclosure of their
shareholdings in the company) were introduced in the Companies Act, 1956. Later
on, Managers of the company were also added to the scope of section 308.
 DEVELOPMENT
 In the 1970s, insider trading was recognized as an “undesirable practice” for the first time. However,
there was still no adequate enforcement provision under the Companies Act, 1956. The recommendations
to formulate separate legislation in this regard were proposed by the Sachar Committee in 1979, the Patel
Committee in 1986, and the Abid Hussain Committee in 1989.
 SACHAR COMMITTEE (1979) - said in its report that directors, auditors, company secretaries etc. may
have some price sensitive information that could be used to manipulate stock prices which may cause
financial misfortunes to the investing public. The companies recommended amendments to Companies Act
1956 to restrict or prohibit the dealings of the employees. This Committee opined that Sections 307 and
308 of the Companies Act were insufficient to curb insider trading.
 PATEL COMMITTEE (1986) - The committee’s final report took a serious view of the absence of a
specific legislation in India curbing misuse of insider information and recommended strict penalties for the
offence of insider trading. In its report it was found that insider trading was rampant in stock exchanges in
the country.
 ABID HUSSAIN COMMITTEE (1989) - The group recommended that the insider
trading should be made as a major offence punishable with civil penalties as well as
criminal proceedings. It was suggested that the SEBI might be asked to formulate the
necessary legislation and be equipped with the authority to enforce the provisions.
SEBI (Prohibition of Insider Trading) Regulations, 1992

 Regulation 2(e) of SEBI (Prohibition of] Insider Trading) Regulations, 1992 defines an “insider”
- can be referred to as persons who are in a position to access confidential price-sensitive information,
connected with the company. They use such information against uninformed investors in making huge
profits before it comes to the knowledge of the public. The term “insider" includes partners, directors,
officers and employees of a company and related companies, persons holding some kind of official
relationship with a company, professional or business (e.g., auditors, consultants, bankers, and brokers),
stockholders, government officials, and stock exchange employees, etc. 
 For instance, a director of a company is aware that the company is in a bad financial state and sells his
shares in the company knowing that there will be an announcement made to the public about the cut in a
dividend. Similarly, the director would be engaged in insider trading if he buys more stocks in a company
on receiving information about the discovery of diamond or gold on the company’s land, before public
announcement expecting the price of stocks to rise on such announcement.
 “Insider trading is an act of buying, selling, subscribing or agreeing to subscribe in the
securities of a company, directly or indirectly, by the key management personnel or the
director of the company who is anticipated to have access to Unpublished Price
Sensitive Information with reference to securities of the company and it is deemed to
be insider trading.”

 Regulation 2(ha) - price sensitive information 

Information is said to be price sensitive if it is not published anywhere; is related to the
decisions of the company; if known, it can affect the price of securities in the market; The
following can amount to unpublished price-sensitive information; financial statements;
declaration of dividends, public rights issue, merger or amalgamation information,
buy-back of securities, information on de-mergers, policy revision or change in
operations of the company.
 Regulation 2 [c] - “Connected Person”  includes any person who is or has during the six months prior to the
concerned act, been associated with the company, directly or indirectly, in any capacity including by reason of
frequent communication with its officers or by being in any contractual, fiduciary or employment relationship
or by being a director, officer or an employee of the company or holds any position including a professional or
business relationship between himself and the company whether temporary or permanent, that allows such
person, directly or indirectly, access to unpublished price sensitive information or is reasonably expected to
allow such access.

 1). An immediate relative or connected person.

 2). A holding company or associate company or subsidiary company.
 3). An intermediary as specified in Section 12 of SEBI Act or an employee or director thereof.
 4). An investment company, trustee company, assets management company, or an employee or director
thereof.
 5). An official of a stock exchange or a clearinghouse or corporation.
 6). A member of the board of trustees of a mutual fund or a member of the board thereof.
 Rakesh Agrawal v SEBI - In 1996, Rakesh Agrawal, managing director of ABS Industries
Ltd., signed a deal with Bayer AG, a German business, which agreed to purchase 51% of
ABS Industries Ltd.’s shares. Following UPSI’s announcement of the acquisition, the
accused sold a significant portion of his ABS Industries ownership, which he owned
through his brother-in-law, Mr. I. P. Kedia. Considering Mr. Kedia to be a well-connected
individual, SEBI held that Mr. Rakesh Agrawal was guilty of insider trading and directed
him to deposit Rs. 34 lakhs.
 On appeal to the Securities Appellate Tribunal (SAT), it was concluded that even if Mr.
Agrawal had traded securities while in possession of UPSI, he was not guilty of insider
trading because his actions were in the best interests of the company (as Bayer AG was not
willing to acquire the company unless it could obtain a minimum of 51% of the shares) and
there was no intention to make a profit.
 Further, SAT decided that in order to penalize an insider for violating the Regulations,
it must be proven that the insider benefited unfairly from the trade. After revisiting the
entire jurisprudence of insider trading on requirement of Mens Rea under Indian legal
system, the tribunal held that: 

“Taking into consideration the very objective of the SEBI Regulations prohibiting the
insider trading, the intention/motive of the insider has to be taken cognizance of. It is
true that the regulation does not specifically bring in mens rea as an ingredient of
insider trading. But that does not mean that the motive need be ignored.”
 Hindustan Lever Limited v SEBI - Hindustan Lever Ltd. (“HLL”) bought 8 lakh shares of
Brook Bond Lipton India Ltd. (“BBLIL”) from Public Investment Institution, Unit Trust of
India (“UTI”) two weeks prior to the public announcement of the merger of two companies,
i.e., HLL and BBLIL. SEBI, suspecting insider trading, issued a Show Cause
Notice (“SCN”) to the Chairman, all Executive Directors, the Company Secretary and the
then Chairman of HLL.
 London-based Unilever was the parent company of HLL and BBLIL, and were operating
under the same management. SEBI determined that HLL and its directors were insiders
because they had prior knowledge of the merger. 
 The issue before SAT was whether HLL was an insider and the information held by the HLL
constituted UPSI. The SAT concurred with the SEBI order that the information accessible to
HLL in regard to the merger went beyond self-generated information, i.e., information
derived from the company’s own decision-making.
 This decision of the SAT led to an amendment in the definition of “unpublished” under
Section 2(k) which stated, “unpublished” means information which is not published by
the company or its agents and is not specific in nature.”
 By the same Amendment, SEBI also introduced a new provision, Section 2(ha) which
defined “price sensitive information” to include any information relating to an
amalgamation, merger or takeover as deemed price sensitive information, regardless of
whether such information actually has any affect the price of the securities in the
market. 
 WhatsApp Leak Case - This case involved Shruti Vora in the Institutional Sales
Department of Antique Stock Broking Ltd., circulating the price sensitive information of
companies like Wipro, Ambuja Cement, Mindtree, Bajaj Auto etc., through several
WhatsApp groups. 
 SEBI conducted a preliminary investigation and directed search and seizure operations for
26 entities of the Market Chatter WhatsApp Group, confiscating around 190 devices,
documents, and other items. Furthermore, SEBI fined Shruti Vora for sending WhatsApp
messages containing UPSI relating to the financial results of the aforementioned
companies.
 The contentions set forth by the accused was the concept of “Heard on
Street” (“HOS”) which is a common practice among traders, market analysts, institutional
investors etc. The accused further argued that unsubstantiated information is widely shared
and even big journals in the US and news agencies like CNBC, Reuters, Bloomberg and
Twitter handles share HOS.
 SEBI’s insider trading charges against employees of a few stockbroking firms who
had ‘forwarded as received’ WhatsApp messages regarding unpublished quarterly reports
of leading companies were set aside by SAT, who reasoned that SEBI couldn’t find the
origin of the messages and was only pursuing those who forwarded them. 
 SAT relied on the fact that generally available information would not be seen as UPSI,
and therefore the person just forwarding it would not be considered an “insider”.
However, the information may only be labelled as a UPSI if the person receiving it was
aware that it was a UPSI, and SEBI has to establish “preponderance of probability” under
the circumstances.