The Securities and Exchange Board of India (SEBI) has taken further steps to curb insider trading by issuing the SEBI (Prohibition of Insider Trading) Regulations, 2015, effective from 15 May 2015. Insiders, including those contemplating a merger or acquisition, need to be familiar with the changes introduced.
The following are new concepts introduced by the regulations:
Trading plan: Under this new concept, an insider is entitled to formulate a trading plan for a period of not less than 12 months, to commence not earlier than six months from the public disclosure of the plan. The main aim of the plan is to enable persons who may be perpetually in possession of unpublished price sensitive information (UPSI) to trade in securities in a compliant manner. The possession of UPSI does not prohibit an insider from executing a trade that was planned before such UPSI came into being.
Pre-clearance of trade: Under the regulations, any trading executed by a designated person beyond a threshold as determined by a company would require prior approval by the company’s compliance officer. Pre-clearance of trade enables companies to closely monitor insiders’ trading above a given threshold.
Qualifications for compliance officers: The regulations require that a compliance officer be a senior officer of the company who is financially literate and capable of appreciating the need for legal and regulatory compliance.
While one may laud the welcome changes introduced by the regulations, companies and designated persons will face some practical difficulties in implementing them. A few such difficulties are discussed below.
Prima facie, the concept of trading plan seems to be an opportunity provided to directors, key managerial personnel (KMPs) and other insiders who are always in possession of UPSI to trade in securities in terms of a plan formulated before such UPSI came into being. However, since trading plans are required to be irrevocable and the insider must implement the plan without any deviation, the plan puts insiders at a disadvantage for they may have to execute trades that may no longer be financially viable. Further, financial distress or another contingency cannot absolve the insider from the obligation to implement the plan. In other words, an insider is required to implement a trade formulated or conceived six to 18 months back, irrespective of the hostile market conditions or personal financial constraints.
A contingent trading plan stipulating a desirable price range for executing any trade may be considered as a plausible solution to ensure that an insider does not incur an undue loss while trading in securities of the company. Some may argue that trading plans stipulating an expected price range may generate a false market, especially when the price range is being given by directors and KMPs of a company in their trading plan. Therefore, one may consider permitting insiders to include minimum price thresholds in their trading plans, in other words, a simple rider stating that the insider will execute the trade (in case of a sale) of a given number of securities only if their price on the date of the trade does not fall below the price on the date of approval of the trading plan. Similarly, an increase in price of securities on the date of trade being above a reasonable threshold may permit insiders to rethink their previous decision to execute the trade under the trading plan.
The challenges associated with an irrevocable and binding trading plan are even graver for employees trading in shares acquired under employee stock option plans (ESOPs). Employees may be required to sell such shares in terms of their trading plan even if the market price of the shares at the time of executing the trade is below the grant price. This would defeat the basic aim of ESOPs, i.e. financial reward for employees.
In view of the foregoing, SEBI may consider providing some leeway to employees trading in shares acquired under ESOPs, such as by allowing employees to deviate from their trading plan if the market price of shares on the date of execution of the trade is below the grant or exercise price under the ESOP.
As for promoters, it is practically impossible to determine whether, at any given time, they are privy to any UPSI. When companies face difficulties, promoters often make creeping acquisitions to bolster investor confidence. Promoters cannot address challenges that are driven purely by market conditions or the global economic environment, or many other kinds of challenges, by means of a trading plan. SEBI may therefore consider granting some relaxation to promoters in cases where trading is necessitated due to critical business exigencies.
Curbing the menace of insider trading is a legitimate concern and mandate of the regulator, but it is equally important that the regulations put in place do not pose practical challenges. One can hope that SEBI will issue some clarifications and exemptions to adequately address the concerns of companies and insiders.