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PROHIBITION ON INSIDER TRADING OF SECURITIES.

{Section 195 of the new Companies Act 2013}


WHAT GENERALLY CONSTITUTES?
Insider trading is one of the sins of the corporate existence which is extremely
difficult to restrict. In simple terms it will involve illegal gains through dealings in the
listed securities of a company by those persons who are in the know of the internal
workings of that company. It is a well known phenomenon that the stock markets
move up and down in response to various information and decisions emanating from
a company, whether such information is disseminated through the official route or
revealed through unofficial mode by rumours, perceptions, etc. To take a concrete
example, suppose a rumour is spread in the market that a company will come out
with a bonus issue or an official intimation is given to this effect, the market in
anticipation will move up. Now if a person, an insider, who is in the know of this
internal decision of the company much before the market comes to know of the
issue, purchases the shares, he gets those shares at a price which has obviously not
factored in the good news and therefore the prices have not gone up. He gets the
shares at a lower price. Subsequently, when the prices go up based on the news of
bonus shares, he can dispose the shares at a profit. He has, therefore, been a
gainer as compared to a member of the public who was not in the know of this
information before hand. In a reverse situation the insider already holds shares and
coming to know of an internal fact that the performance of the company has
drastically fallen which may adversely affect the price of the shares, sells off his
shares before such bad news reach the market, and thereby avoids a likely loss.
This person falls under the category of insider of the Company as per the insider
trading regulations. He could be any body, from a director to an employee or who
may have some link with the company.
SEBI LAW
Insider trading is also one of the most complexes of sins to curb but efforts are being
made to make the law have more teeth to deal with this menace. To this end, SEBI
(Prohibition of Insider Trading) Regulations, 1992, has been brought in the statute
book and being amended from time to time.
In a nutshell, the SEBI Regulations applicable to listed companies, provide that
insider of a company (i.e. directors/promoters/designated employees, etc.) who are
connected with the company are prohibited from trading/ dealing in securities of the
company based on unpublished price sensitive information. Neither can they
communicate, counsel or procure such sensitive information to any person. They can
however trade/deal when Trading Window is open and they are not in possession of
any unpublished price sensitive information or information is no longer unpublished.
Trading Window means the period during which trading of shares of a company is
permitted to take place, this is generally most of the time. However, trading cannot
take place during the period/s, when the Window is closed, which are specified and
limited. The Window has to be closed by a company, among others, when the Board
of Directors of that company, take vital and price sensitive decisions like adoption of

financial results, declaration of interim/final dividends, decides to issue securities,


approves major expansion plans, amalgamations/takeovers, buy-back, disposal of
undertaking, etc. The Trading Window will be re-opened 24 hours after the
information of above decisions is made public by the company by intimation to stock
exchanges/publication in newspapers/otherwise.
Significantly, when Trading Window is open, directors/officers/ designated
employees of the company will require prior approval from the Compliance Officer of
the Company (which may be the Company Secretary) for trading in securities of the
company. This will be required where the number of shares/securities to be traded
is above the minimum threshold limit fixed by the company.
The Regulations also requires a Code of Conduct, meant for disclosure and internal
procedure for prevention of insider trading, to be framed based on model code of
conduct and approved by the Board of a listed company. It was held that code of
conduct as mandated by Regulations, for all practical purpose is to be treated as a
part of Regulations, and any violation of code of conduct is punishable by SEBI as
violation of Regulations { Ref case:[[Manmohan Shetty v. Securities & Exchange
Board of India [2011] 11 taxmann.com 282 (SAT - Mum.)}. Pertinently violation of
Insider Trading Regulations needs a guilty mind on the part of the offender. It was
held in the case of Rakesh Agarwal v SEBI {2003} 57 CLA 173 {SAT} that guilty
mind or mens rea is to be proved for offence of insider trading.
Conflict of interest and Insider Trading
Directors being in the position of trust as well as agents of the company, are not
permitted to do transactions with the company in a situation of advantage, by way of
conflict of interest and thereby make profits. Same would be applicable to key
managerial personnel. Insider trading prohibitions in this Section are towards this
direction. Pertinently although SEBI regulations apply to securities of only listed
companies, the restrictions of insider trading have been made applicable to
securities of non listed companies also, through this Section.
PROHIBITION ON INSIDER TRADING
This sub section {1} prohibits any person including any director or key managerial
personnel of a company to enter into insider trading of securities of the company. It
may be noted that this provision applies to all companies i.e. whether it is private or a
public company. The word person has been used here and not defined in the
Companies Act 2013, but the General Clauses Act 1897 defines "Person" to include
any company or association or body of individuals, whether incorporated or not.
Moreover, it is clear that any director, whether he is an ordinary director, a managing
director or whole time director, or independent director or nominee director, shall
come under the ambit of the provision. The term Key managerial personnel has
been defined in section 2 {51} of the Companies Act 2013 and they are
unambiguously covered. From the use of the term person and the definition of
insider trading it is also clear that these will also cover any other officer of the
company.

Exception
There is an exception to this prohibition in respect of insider trading happening
based on any communication required in the ordinary course of:

Business, or
Profession, or
Employment, or
under any law.

The foremost condition laid down here is that there should be any type of
communication, verbal or written, and that such communication is required in the
ordinary course of specified activities or under any law. Although the exception
triggered under any law is clear, the exceptions relating to activities of business,
profession or employment would need to strictly followed and in case of allegations
of violations, have to be established by the errant parties by facts, circumstances
and justification. In such circumstances it may be held that there is no violation of
insider trading provisions.
What is exactly Insider Trading?
This sub section, in the Explanation, provides the definition of insider trading to
mean, for purposes of this Section only:(i) AN ACT OF :

subscribing,
buying,
selling,
dealing
or agreeing to subscribe, buy, sell or deal

in any securities of the company, by:1. any director, or


2. key managerial personnel, or
3. any other officer of a company
either as the :1. principal, or
2. agent,
if such director or key managerial personnel or any other officer of the company is
reasonably expected to have access to any non-public price sensitive information in
respect of securities of company.

Here, not only the actual acts of subscribing, buying etc of securities of the company
as specified herein have been covered but also the acts of agreeing to subscribe,
buy, etc., have also been roped in. As regards the acting as a principal or agent is
concerned, the law of agency as laid down in the Indian Contract Act 1872 shall
have to be the kept in view. It is important to note here that the director, etc., as
specified herein, should reasonably expected to have access to securities related
any non-public price sensitive information. The words reasonably expected to
have access.. can be understood and invoked only on a case to case basis and
no definition is possible. The term securities has been defined in section 2 (81)
as:- securities mean the securities as defined in section (h) of section 2 of the
Securities Contracts (Regulation) Act, 1956, and, that would be applicable.
(ii) AN ACT OF
1. counselling about,
2. procuring, or
3. communicating
directly or indirectly any non-public price-sensitive information to any person.
This will indicate that insider trading not only covers the actual act of or agreeing to
subscribing, buying, selling, etc., of securities of the company as specified herein but
also the act of:1. giving counsel about, directly or indirectly, any non public price
sensitive information to any person, or
2. procuring, directly or indirectly, any non public price sensitive
information to any person,
3. communicating, directly or indirectly, any non public price sensitive
information to any person.
In the above paragraph, the term any person has been used and the question
would arise as to whether this includes only the director, key managerial personnel
and any other officer of the company or this includes any third party and therefore
has very wide in applicability.
Price Sensitive Information
Since the term price sensitive information has been used here, the same has been
defined to mean any information which relates, directly or indirectly, to a company
and which if published is likely to materially affect the price of securities of the
company.
The use of term non public before price sensitive information will indicate the
information is not in public domain. The words likely to materially affect the price of
securities have not been defined but would mean that critical information which has
the potential to bring about significant increase or decrease in the price of securities.
It was held in the case of Gujarat NRE Mineral Resources Ltd. v. SEBI [2011] 16
taxmann.com 99 (SAT Mum.) that in case of any normal activity of a company,
every decision by it in respect of that activity would have no effect, much less

material, on the price of its own securities. If that were so, then no company would
be able to function because every time it does normal activity, it would have to make
disclosures to the stock exchange(s) where its securities are listed. Hence from this
precedent law it appears that the activity should not be in the realm of normal activity
and it should be so significant which could materially affect the price of securities in
the market.
Definition
This definition of price sensitive information has been taken from the SEBI
{Prohibition of Insider Trading} Regulations 1992 which also lays down an
explanation as to what constitutes deemed to be price sensitive information :
(i) periodical financial results of the company;
(ii) intended declaration of dividends (both interim and final);
(iii) issue of securities or buy-back of securities;
(iv) any major expansion plans or execution of new projects.
(v) amalgamation, mergers or takeovers;
(vi) disposal of the whole or substantial part of the undertaking;
(vii) and significant changes in policies, plans or operations of the company;]

relative means a person, as defined in section 6 of the Companies Act, 1956 (1 of


1956 )
Although the above deeming provision is not a part of this sub section, still it will
have a guiding impact on the interpretation of these provisions.
CONTRAVENTION
This is the penal sub section {2} stating that if any person contravenes the provisions
of this section, he shall be punishable:1. with imprisonment for a term which may extend to maximum five years,
or
2. with fine which shall not be less than five lakh rupees but which may
extend to twenty-five crore rupees or three times the amount of profits
made out of insider trading, whichever is higher, or
3. with both.
The matter of determining the amount of profits which have been made out of insider
trading and which will be taken into account for calculating the fine, in case of

disputes, is to be determined by the courts and the same will obviously be subject to
various interpretations.