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ABSTRACT: The aim of insider trading laws and regulations is to assure that no
one would gain by trading on ‘insider’ or ‘unpublished’ information -information that
is not available to all market participants. The ultimate goal is to create a level
playing field by making information accessible to all market participants. The
enforcement of insider trading laws increases market liquidity and decreases the cost
of equity1. This has been found to be the objective in the developed countries where
stringent insider trading regulations are adopted. Insider trading laws exists on the
strong foundation of equity and efficiency. With regard to equity the government
wants to ensure that (i) everyone involved in the stock market has access to same set
of information and (ii) any information available to one active participant in the
market is available to all participants.
2 Carmicheal Jeffry, Pomerleano Michael (2002) , “The Development and Regulation ofNon-Banking
Institutions”, pp 12-33
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range of behavioural rules as a means of reconciling and conflicting rights and
interests of its citizens. Many ofthese rules are designated to govern how individuals
interact socially. Absence of conditions of perfect competition and existence of
information asymmetry3 make it possible for certain participant to take unfair
advantage of investors by exploiting regulatory inadequacy4. Here lies the
significance of an effective securities market regulation. 140 Financial regulations are
rules that govern commercial behaviour in the financial system. Financial regulations
establish a legal and ethical framework within which trade and commerce may
flourish to the mutual benefit of all involved. Herring and Santomero (1999)
identified four broad rationales for financial regulation5:
3 Information asymmetry means where buyers and sellers of particular products or services will never
be equally well informed, regardless of how much information is disclosed.
4 Bose Suchismita (2005), “Securities Market Regulation: Lessons from US and Indian Experience”,
ICRA Bulletin. Money andFinance, Jan-June, 2005, p 83
5 Herring, Richard and Anthony M. Santomero (1999), “What Is Optimal Financial Regulation?”
University ofPennsylvania, Wharton School, Philadelphia, September 1999
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the economy. The stable and efficient financial system provides the foundation for
implementation of effective stabilisation policies, more accurate pricing of risk and
more efficient use of capital.
During last one-decade Indian financial system gets increasingly globalised. Increased
integration of India’s securities markets with global markets implies that the state of
the regulatory environment in the Indian securities market is now of relevance to both
domestic investors as well as foreign investors. Securities regulation monitors the
trading of securities with the purpose of ensuring that trading is fair. The need for
statutory regulations and regulatory authorities is to oversee the operations in
securities markets that have been recognised the world over. The 141 vast majority of
securities regulations in all countries aim primarily at promoting fair and full
disclosure of material information relating to the securities markets and to specific
securities transactions. It includes all aspects of market trading as well as the
financing and financial reporting by public companies so as to present all investors
with a level playing field. Insider trading activities could undermine confidence of
securities market6. If the rules of the game are perceived to be uncertain and unfair,
these could have the effect of reducing the trading activity. The markets would be less
efficient unless the level playing field is perceived to be fair for all. By level playing
field we mean equal opportunities for everybody in the system.
6 Weston Fred J., Chung Kwang S. and Hoag Susan E. (1999), “Mergers Restructuring, and Corporate
Control”, Prentice Hall of India Pvt. Ltd., p-560
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result into inefficiency in order to create level playing field.
Indian securities market started functioning since 1875 when Bombay Stock
Exchange was established. After independence, two exclusive acts that governed the
securities market in India until early 1992 were the Capital Issues (Control) Act, 1947,
(CICA) and the Securities Contracts (Regulation) Act, 1956 (SCRA). Under the
CICA, the office of the Controller of Capital Issues was set up which granted approval
for issues of securities and also determined the amount, type and price of the issue.
The CICA was repealed in 1992 with the enactment of Securities Exchange Board of
India (SEBI) Act, 1992. There was no specific provision in law which could address
effectively the problem of insider trading. 143 The SCRA was enacted to prevent
undesirable transactions in securities by regulating business of dealings therein by
prohibiting option and by providing for certain other matters connected therewith. All
the powers under the SC(R)A were exercised by the Government of India (GOI). The
SEBI Act created a Board to regulate Indian securities market. In the interest of
integrated regulation of securities market it was felt that only one agency should
regmlate the securities market. In order to do so the SEBI Act transferred some ofthe
powers under ofthe GOI under the SCRA to SEBI. All powers under the Securities
Contracts Regulation (Rules), 1957 have also been transferred to SEBI in 1996. The
history of stock exchanges in India is almost 134 years old although insider trading
regulatory regime is only 17 years old7.
For most part of those 134 years, insider trading went unhindered in India. The first
attempt that was made to curb insider trading in India was in the shape of a disclosure
requirement by company directors of their shareholdings. Provisions were
7 Bombay Stock Exchange was established in 1875 and insider trading regulation in India first
implemented in 1992.
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incorporated in sections 307 and 308 of the Companies Act 1956 on the
recommendation of the Company Law Committee8. It was only in the late 1970’s
insider trading, for the first time, was officially recognised as an undesirable practice.
A series of committee reports recommended its strict regulation; as a result, a
regulatory authority was set up in 1992.
This Committee also recommended amendments to section 307 and 308 of the
Companies Act, 1956. It has included to prohibit and restrict certain dealings by
insiders and their relatives with provisions of penalties, for those who have misused
9 The Institute of Company Secretaries of India, (2007), “Prohibition ofInsider Law and Practice ”, New
Delhi, p-9
To establish healthy and transparent practice in stock exchanges and to sustain the
confidence of the investors such trading should be regulated by law. The committee
also recommended that the Securities Contracts (Regulation) Act, 1956 be amended to
make stock exchange free from manipulations including curb trading, insider trading
and such other undesirable activities. Non-compliance and violation of the regulations
by the individual person should be imposed cash penalty of Rs. 1 lac or imprisonment
for 5 years or both and in case of body corporate and trust, penalty would be Rs. 5
11 Patel Committee Recommendations, No-7.26
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lacs. Additionally, as a deviation from the Sachar Committee, it was recommended
that person misusing inside information could be compelled by law to surrender to the
stock exchanges the profit they have made or the amount equivalent to the losses they
have averted.
This case mainly concerns the purchase of 8 lakh shares by HLL of BBLIL from the Unit
Trust of India on March 25, 1996. This purchase was made barely two weeks prior to
a public announcement for a proposed merger of HLL and BBLIL. Upon investigation,
SEBI found that HLL was an insider at the time of purchase.
SEBI upon investigation found that at the time of purchase of shares of BBLIL from
UTI, HLL was an insider under Section 2(e) of the 1992 Regulations. HLL filed an
appeal before the appellate authority asking on what grounds they can be termed as
an insider. But after hearing on the evidence of HLL, the authority appreciated the
evidence but it was not enough to prove it. Consequently, the appellate authority
found the SEBI investigations right. The matter is currently pending before the
Supreme Court.
12 1996
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TISCO case13
In this case, the profit of TISCO for the first half of the financial year 1992-93 felt to
Rs. 50.22 crore in comparison to the profit of Rs. 278.16 crore for the financial year
1991-92. Before the announcement of the half-yearly results, there was intense
activity in the trading of share between October 22, 1992, and October 29, 1992.
However, the SENSEX saw a decline of 8.3% during the same period. The insiders
who had the knowledge of the same had manipulated the market to make short
sales. Small investors were hit badly. Due to the absence of insider trading
regulations in India, it was not possible to investigate the case.
DSQ biotech ltd. (DSQB) was originally promoted by KND engineering and
technologies ltd., jointly with Tamil Nadu industrial development corp. DSQ Holdings
Ltd. Is a same promoter group company of DSQB. The board of directors held a
meeting on 30 July 1994 considered rights issue and same was communicated to the
stock market. The purpose of sending information to the public was to properly
disseminate it.
The erstwhile management of DSQB entered into an agreement in April 1994 with
DSQH Ltd. promoted by Shri Dinesh Dalmia (DD) group. Through the agreement, the
DSQ Holdings Ltd. (DSQH) purchased 44, 98,995 shares of DSQB at the rate of Rs.
15.94 per share from the erstwhile promoters. Thereafter DSQ group made an offer
as per clauses 40A and 40B of the Listing Agreement to acquire a further 17,66,400
shares (20% of the paid-up capital of the company) during the last quarter of 1994.
The scrip of DSQB prior to the takeover of the company by the DSQ group in April
1994 was not actively traded on the exchanges with the price hovering in the region
13 1992
14 1994
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between Rs.12 and Rs.18 during most part of 1993 and also during the first half of
1994. The scrip witnessed considerable movement both in terms of price and volume
immediately after the DSQ group took over the company.
A detailed investigation was carried out by SEBI. It was found that there was a steep
jump in shares of DSQB from RS. 20 to RS. 92. From the investigation of SEBI, the
DSQB failed to give the actual proof of dispatch of AGM notice. Regulation 2(k)(iii) of
the SEBI (Prohibition of Insider Trading) Regulations, 1992 considers the information
regarding the issue of shares by way of public, rights, bonus etc. as unpublished price
sensitive information. In this case, it was clear that DSQB made an advantage over
other investors. So DSQH was a ‘connected person’ under regulation 2(c) of SEBI
Insider trading regulations.
The term has been defined in Regulation 2(e) of SEBI (Prohibition of Insider Trading)
Regulations, 1992. Three broad categories of insiders have been found in SEBI
insider trading regulations, which are:
To become an insider it requires satisfying the three elements, viz.; (i) the person
should be a natural person or legal entity; (ii) he should be connected person or
deemed to be connected person and (iii) acquisition of the unpublished price sensitive
information by virtue of such connection. The words ‘by virtue of such connection’
had been omitted by the SEBI amendment regulation in 2002 in the definition of
insider. It implies that a person would be treated as an insider simply if he is or was a
connected person with a company and has had access to unpublished price sensitive
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information without the necessity of proving that he has or had access to such
information. The term ‘connected person’ is an important aspect for establishing the
charge of insider trading. Connected person represents a person who is a director of a
listed company or is an officer or an employee of a listed company or holds a position
involving a professional or business relationship between himself and the listed
company either temporary or permanent. These persons have reasonable access to the
unpublished price sensitive information of the company. Director has been defined in
Section 2(13) of the Companies Act, 1956. It includes a person who is deemed to be
the director of that company by virtue of Section 307(10) of the said act. Every person
working as an officer or an employee of the company or holding a position involving
a professional or business relationship with the company (temporarily or permanently)
and is expected to have a reasonable access to the unpublished price sensitive
information in relation to the company shall also be called connected person. Persons
rendering professional sendee’s such as audit, taxation, project preparation, financial
and other advisory services to the company and having access to the unpublished
price sensitive information of the company shall be treated as connected person.
‘Connected person’ also includes a person who was connected person six months
prior to the implementation of the insider trading regulations. But it leaves a scope for
confusion for fixing time frame of six months. If a connected person deals in shares
after six months period just after ceasing his connection, he will not be treated as
connected person. A person who was a connected person at any point of time and
dealt shares may be accused of the charge of insider trading. However, merely by
reason of some professional and business relationship a person cannot be termed as
‘connected person’ unless there is some evidence to establish nexus between the
aforesaid two conditions. This will depend on the facts and circumstances in each case
having due regard to the nature of relationship and degree of probability as to
accessibility to unpublished price- sensitive information. Other important persons are
persons deemed to be connected person in Exhibit 6.1 shows list of persons deemed to
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be connected person .
Regulation 2(h) A merchant banker, share transfer agent, registrar to an issue, debenture
(iii) trustee, broker, portfolio manager, investment advisor, sub-broker,
investment company or an employee thereof, or a member of Board of
Trustees of a mutual fund, or a member of the Board of Directors of the
Asset Management Company of a mutual fund or is an employee thereof
who has a fiduciary relationship with the company.
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(viii)
Regulation 2(h)(ix) A concern, firm, trust, Hindu Undivided Family (HUF), company or
association of persons mentioned in sub clause (i) of clause (c), of this
regulation or any of the persons mentioned in sub-clause (vi), (vii) or (viii)
of regulation 2(h) who has more than 10% ofthe holding or interest.
Regulations 2(h) It has been found that a if a director of the company, or a relative of
persons mentioned in sub-clauses (i) to (v) of regulation 2(h), or a banker of the
company, or a relative of the connected person, holds more than 10% shares or voting
rights in the company, shall be ‘deemed to be a connected person’. The 156 regulation
has not identified secondary insiders known as tippees as a separate class of insiders.
Tippees are connected persons but they are not directly connected with the companies.
However, the amendment has failed to include directors of stock exchanges or
clearing house or corporation within the scope of definition.
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regulations he shall be liable to a penalty not exceeding five thousand rupees per day
during which such failure continues.
15G(i) Dealing by an insider either on his own Up to Rs.25 crores for insider
behalf or on behalf of any other person in or 3 times ofthe amount of the
securities of a body corporate on any stock profits made, whichever is
exchange on the basis of any unpublished higher.
information.
In 1995, the amendment to the SEBI Act, 1992 led to establishment of Securities
Appellate Tribunal (SAT) to adjudicate the appeal of person who is aggrieved by an
order ofthe SEBI. The SAT has the same powers vested in a civil court under the Code
of Civil Procedure, 1908 (5 of 1908) while trying a suit in respect of the following
matters namely: (a) summoning and enforcing the attendance of any person and
examining him on oath; (b) requiring the discovery and production of documents; (c)
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receiving evidence on affidavits; (d) issuing 161 commissions for the examination of
witnesses or documents; (e) dismissing an application for default or deciding it ex
parte; and (f) setting aside any order of dismissal of any application for default or any
order passed by it ex parte. A person being aggrieved by an order of the SEBI under
provisions of its regulations has a right to make an appeal in the matter to the SAT.
Every person holding more than 5% of the shares or voting rights in a listed company
shall disclose to the company, the number of shares or voting rights held by such
person in Form A of Schedule-Ill of the regulation. Any change in shareholding or
voting rights must also be disclosed, if such change exceeds 2% of the total
shareholding or voting rights in the company. Such disclosures shall be made within 4
working days of receiving intimation of allotment of shares, or the acquisition of
shares or voting rights. Similarly, a director or officer of a listed company shall also
disclose to the company number of shares held by him and positions taken in
derivatives within two working days of becoming such director/ officer in Form B of
Schedule III of the regulations. If there has been a change in such holdings from the
last disclosure and the change exceeds Rs. 5 lacs in value or 25000 shares or 1% of
the total shareholding or voting rights whichever is lower shall disclose in Form D of
the regulations38.
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These disclosures shall be made within four working days of receipt of intimation of
allotment or acquisition or sale of shares or voting rights as the case may be. Every
listed company must promptly disclose price sensitive information to stock exchanges
where its shares are listed within two days of receipt of information. Such information
can also be made available to the company or stock exchange website. Listed
companies must appoint a compliance officer or any other senior official to supervise
corporate disclosure. The compliance officer shall be responsible for setting forth
policies, procedures, monitoring adherence to the rules for the preservation of price
sensitive information; maintain record of the 163 designated employees and any
changes made in the list.
Disclosure by the Insiders under Schedule III of the SEBI (Prohibition of Insider
Trading) Regulations, 1992
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SEBI is established as a statutory body which works under the framework of
Securities and Exchange Board of India, 1992. The various roles and power of SEBI
have been discussed under Section 11 of the SEBI Act,1992.
The main power of SEBI is that if any person has violated the
provisions of this Act then SEBI set up an enquiry committee.
In order to investigate SEBI may appoint officers who look after the
books and records of insider and other connected persons.
The board can also appoint an auditor who may inspect the books of
accounts and affairs of an insider.
After all the investigations, the officer has to submit the report within 1
month as per SEBI 1992 regulations. It also depends on the investigating
officer to take longer time if he funds that the work could not be completed
within the stipulated time.
Any person who feels aggrieved by the directions of the SEBI can
appeal to the Securities Appellate Tribunal (Regulation 15).
An appeal can be filed within 45 days of the receipt of the copy of the
order from the date on which appeal had been filed. SEBI (insider trading)
regulations, 1992 consists of three chapters and twelve regulations.
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Listed companies and other entities are now required to frame internal policies, code
and guidelines to preclude insider trading by directors, employees, partners, etc.
Further, they have to abide by the disclosure code as laid down in the amended
regulations. The time given to the appellant by the SEBI to respond to the summons
are four days to appear before the investigating officer with certain specific
information relating to his holding in the shares and their trading activities. The same
appears to be extremely short.
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CONCLUSION
SEBI has power to initiate criminal prosecution under section 24 of SEBI Act 1992.
Depending on situations all such measures like buy fridge, sell fridge, circuit filters,
circuit breakers or market closure methodologies are adopted on a rule of thumb
method. Unlike advanced countries like the USA there is no scientific basis of
disclosure in India. A new Chapter- IV relating to framing of policies on disclosure
and prevention of insider has been added. All listed companies and organisations
(non-listed) associated with the securities markets are now required to frame a ‘code
of internal procedures and conduct’ for the prevention of insider trading in the lines of
the model code specified in Schedule- I of the new regulations. In new regulation 167
temporary insiders have also been defined. The price sensitive information has been
bifurcated into two parts. One is ‘unpublished’ and another one is ‘sensitive
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information’.
BIBLIOGRAPHY
1. Andrew Lidbetter: Company Investigations and Public Law, Bloomsbury Acad &
Prof, London.
5. Dr. Charles Wild & Dr Stuart Weinstein: Smith and Keenan’s Company Law,
Pearson, London.
9. L. C. B. Gower: Principles of Company Law, R. Cambray & Co. Pvt. Ltd., Kolkata.
10. Munish Bhandari: Professional Approach to Corporate Laws and Practice, Bharat
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Law House, New Delhi.
15. Vinod Dhall (ed.): Competition Law Today, Oxford University Press, New Delhi.
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