Practical implications of trading window closure

By Puja Sondhi, Aayush Kapoor and Aakanksha Dalal, Shardul Amarchand Mangaldas
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The Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations, 2015 (PIT Regulations), restrict “insiders” from dealing in listed (or to-be-listed) securities when in possession of unpublished price sensitive information (UPSI). Any trading by insiders when in possession of UPSI is deemed to be motivated by their knowledge of UPSI.

Puja Sondhi Partner Shardul Amarchand Manglads
Puja Sondhi
Partner
Shardul Amarchand Mangaldas

The PIT Regulations require listed companies to adopt a code of conduct (CoC), in compliance with prescribed standards, in order to regulate, monitor and report trading by their employees and other connected persons associated with the company (designated persons). The CoC mandates listed companies to operate a notional trading window for monitoring trading by designated persons and also calls for closure of the trading window during periods when designated persons can be reasonably expected to possess UPSI.

SEBI’s position on dealing in securities while the trading window is closed in accordance with a company’s CoC has been clarified through various informal guidance notes.

In an informal guidance issued to HDFC Bank, SEBI dealt with the issue of trading of shares by designated persons under discretionary portfolio management schemes. While noting the representation by HDFC that the designated persons have no direct or indirect control or influence over trades made through a discretionary portfolio manager, SEBI took the position that the PIT Regulations deem any dealing of securities by a designated person (when in possession of UPSI or during the closure of the trading window) to be “motivated by the knowledge and awareness of the UPSI”. In our view, it is arguable that the position taken by SEBI goes beyond the intended ambit of the PIT Regulations.

Another aspect (introduced by virtue of the notes provided in the PIT Regulations) is the inclusion of “pledge” in the interpretation of the term “trading”. Consequently, any creation or invocation of pledge over shares by designated persons when in possession of UPSI or during closure of the trading window constitutes trading, and therefore contravenes the PIT Regulations. In this regard, SEBI issued a guidance note (dated 24 August 2015) which clarifies that while SEBI’s intent (under the PIT Regulations) is to restrict a creation or invocation of pledge while in possession of UPSI, the defence that the transaction was for a bona fide purpose is available to the pledger and pledgee in accordance with the proviso to regulation 4(1) of the PIT Regulations.

In line with the above, SEBI, in an informal guidance to Geetanjali Trading and Investments, took the position that pledges created by designated persons during the period when the trading window is closed would be “for genuine business purposes” (provided appropriate disclosures have been made in compliance with various SEBI regulations). However, in a separate informal guidance to Binani Industries, SEBI took the position that creation of pledge for a credit facility to be used by a subsidiary does not in itself demonstrate “bona fide intent”. Accordingly, there appears to be ambiguity as regards what would constitute “bona fide” purposes, which is a cause of concern given that pledging of securities by promoters to obtain credit for the company is a prevalent practice in India.

Finally, the applicability of the restrictions prescribed under the PIT Regulations vis-à-vis trading in consonance with other SEBI regulations also falls within a grey area. For instance, in a situation concerning an offer for buyback through the tender offer route, it is unclear whether designated persons can participate in a buyback (which has been duly approved by SEBI) that opens during a time when the trading window is closed (pursuant to the company’s CoC). In such a scenario, even though the promoters (typically falling within the ambit of designated persons) may have declared (prior to the closure of the trading window) their intent to offer their shares as part of the buyback, they could be prohibited from participating in the buyback if the window is closed by the time the offer opens (pursuant to the SEBI approval).

In conclusion, while the necessity for a construct prescribing closure of the trading window (and thereby restricting trading by designated persons) is undisputed, there may be instances where the trading restrictions can result in unintended consequences which SEBI may need to be mindful of on a case-to-case basis.

Puja Sondhi is a partner, Aayush Kapoor is a principal associate and Aakanksha Dalal is an associate at Shardul Amarchand Mangaldas. The views and opinions expressed in this article are solely those of the authors and do not necessarily reflect the official view or position of the firm.

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