Aniket Panchal and Sangita Sharma

The Securities and Exchange Board of India (SEBI) proposed amendments to the definition of unpublished price sensitive information (UPSI) to curb insider trading. The proposal includes reintroducing material events under the UPSI definition. However, this could blur the line between UPSI and material events, leading to overregulation and perpetual trading restrictions. To tackle this, the authors suggest an alternative which involves setting quantitative thresholds for disclosure, ensuring practicality and effective regulation.

 

Introduction

On May 18, 2023, the Securities and Exchange Board of India (‘SEBI’) released a consultation paper proposing amendments to the definition of unpublished price sensitive information (‘UPSI’) under the SEBI (Prohibition of Insider Trading) Regulations, 2015(‘PIT Regulations’). It has been proposed that disclosures required under Regulation 30 of SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015(‘LODR Regulations’) be brought under the purview of UPSI definition. 

The motive behind this proposal stems from SEBI’s acknowledgment that its efforts to curb insider trading were impeded when their surveillance system generated alerts could not be further examined due to the failure of listed entities to categorize material information as UPSI. Resultantly, these entities were able to reap notional profits, causing a setback to SEBI’s efforts. With that backdrop, the authors discuss the implications of the proposed amendments and propose introducing quantitative thresholds to prevent bracketing all types of material events under the definition of UPSI. 

UPSI under PIT Regulations 

Under the PIT Regulations a person is presumed to be guilty of insider trading if two conditions are conjunctively met: (i) they are an insider of a company whose listed securities they trade, and (ii) they have traded directly or indirectly in those securities while possessing UPSI. As per Regulation 2(1)(n) of PIT Regulations, UPSI is any information relating to a company that is non-public and upon becoming available to the general public is likely to materially impact the price of its securities.

In addition to the substantive definition of UPSI, item numbers (i) to (v) of Regulation 2(1)(n) of PIT Regulations set out an inclusive/illustrative list of matters that are ordinarily likely to materially affect share prices upon publication. It has to be noted that the word “ordinarily” conveys that each instance of an event falling under these regulations is not necessarily material (for example routine, consistent, repeated, or predictable information may not be considered UPSI). Therefore, item numbers (i) to (v) merely provide illustrative guidance and still have to meet the threshold of UPSIs.

The Journey of Item Number 6

Vide this consultation paper, SEBI has proposed that Item No. 6 i.e. “material events in accordance with the listing agreement” be re-added to the definition of UPSI. While originally deemed to be UPSI, this item was omitted pursuant to SEBI (Prohibition of Insider Trading) (Amendment) Regulations 2018.  

The removal of Item No. 6 was recommended by the FMC Committee Report (2017) where it was observed that “all material events which are required to be disclosed as per the Regulation 68  of the LODR  Regulations may  not necessarily be  UPSI  under the  PIT  Regulations.” Put simply, it opined that Item No. 6 (i.e. material events as per listing agreement) shall not be treated as deemed UPSI otherwise it will bracket information that may not be UPSI. 

However, following this, there was an overwhelming perception that companies were only categorizing that information as UPSIs which were explicitly mentioned in the definition. In fact, the SEBI brought forth two noteworthy occurrences, wherein events that were not deemed as UPSI by companies, nevertheless resulted in a substantial surge of 4-6% in share prices within a single day.

To see if these were not isolated instances, the SEBI analyzed around 1,100 press releases issued by the top 100 listed companies between 2021 and 2022. However, only 1.64% (18) of these instances were considered UPSI by the listed companies even when 20.65% (227) of the instances showed price movements exceeding 2%. Propelled with a motive to avoid such a regulatory gap, the SEBI has proposed the reintroduction of Item No. 6 in the definition of UPSI. While the concerns highlighted by the SEBI are broadly understandable, there are some unintended consequences that need to be brought to attention. 

Blurring the line between UPSI and Material Events

Material events are the events specified in Schedule III of LODR Regulations. These events being “material” in nature are required to be disclosed to the stock exchanges. This disclosure is necessary to ensure that investors have access to relevant and accurate information so that they can make informed decisions.

The classification of an activity as a material event or price-sensitive event serves different purposes. The disclosure of material events ensures transparency whereas the disclosure of price-sensitive information establishes a level playing field. There exists a difference between what is considered material enough by the company to disclose it to its shareholders and information that could be price sensitive. Indeed, there is an overlap but that is only because price-sensitive events are a subset of material events.

In Mr Anil Harish vs SEBI, it was stated that orders above 100 crores for an infrastructure company can be material events but such orders being in ordinary course of business cannot be termed as price sensitive information. Likewise, in the case of an investment company, every decision concerning the acquisition or disposal of investments, and for a manufacturing company, decisions related to the sale of its products or procurement of raw materials, could constitute material events but not  price-sensitive information. In this case, it was clarified that materiality will not automatically (Para 4)lead to the assumption of the information being price sensitive, it depends on the fact and circumstances of each case.

There are instances where the intimation of material events to the stock exchange would not lead to the assumption of the information being price sensitive. The Regulation 30 of LODR Regulations provide for three different categories of material events or information which are to be disclosed by the listed companies to the stock exchanges. Para A contains events that are deemed material, Para B contains items that are to be disclosed based on the case-to-case application of specific materiality guidelines, and Para C is a residuary provision. For example, several events mentioned in part A include the appointment or discontinuation of a share transfer agent, proceedings of annual or extraordinary general meetings, and the issuance of notice or call letters. While this kind of information holds relevance from the eye of a prudent investor while making investment decisions, it lacks the potential to trigger a substantial price movement that would warrant it being classified as UPSI.

Implementing the proposal in its current form will inevitably result in many instances of material events being misidentified as UPSI. Casting the net too wide might lead to the problem of overregulation (which SEBI has been accused of before), undermining the  SEBI’s true intention behind the proposal. 

The Unending Trading Restriction 

The potential consequence of such a drastic move by SEBI will be the unending restriction in the trading period. Clause 4 of Schedule B of PIT Regulations requires compliance officers to make a trading restriction period for Designated Persons when they can reasonably be expected to have possession of UPSI. The regulation 9(4) of PIT Regulations provides the list of people that can be designated persons. It includes persons who have a high likelihood of being classified as insiders such as key managerial personnel, auditors……, employees upto two levels below the Board of Directors of the Company, and such other persons as may be identified by the compliance officer.The trading restriction period for designated persons ends after such price sensitive information becomes generally available. If all material events are classified as UPSI, then the trading restriction period for designated persons and their immediate relatives might last forever. 

The requirement of intimation to be given to the stock exchange(s) under LODR Regulations for various events undertaken by the company includes activity of the company in normal course of business (Para 4). A listed company enters into several transactions on a day-to-day basis. If every event were declared as UPSI, then each event would trigger a new trading restriction period, leading to an incessant cycle of opening and floating trading windows due to different events. This perpetual fluctuation in trading restrictions would result in an ongoing and unending state of uncertainty and complexity, posing significant operational difficulties for market participants.

Alternative way out?

SEBI, rather than including the entire list of events provided under Regulation 30 read with Schedule III in the definition of UPSI, can limit it to certain instances. In order to filter out these instances, an earlier consultation paper on Regulation 30 should be referred to. In November 2022, SEBI came up with a consultation paper  proposing amendments relating to Para B events since disclosures under Para B were predictably sparse due to the unbridled discretion available to the companies. 

It proposed mandatory disclosure of items in Para B if their value or expected impact exceeds a specific threshold, whichever is lower: (a) 2% of turnover, (b) 2% of net worth, or (c) 5% of three-year average profit after tax, reducing the discretion afforded by the companies. On March 29, SEBI gave approval to these numeric thresholds in its board meeting. 

While the November Consultation Paper introduced a numeric threshold only for Para B events, the problem of casting the net too wide could be tackled by introducing the same numeric threshold for Para A and other material events. This will ensure non-bracketing of events that are material but not UPSI since Para A encompasses a list of events that may not always have the potential to significantly influence security prices (To name a few: appointment or discontinuation of a share transfer agent, proceedings of annual or extraordinary general meetings, etc.).

SEBI has proposed this threshold by analyzing the data on different financial parameters pertaining to the top 100 listed entities by market capitalization for the last financial year. A swift and effective remedy is imperative to address this glaring problem, therefore, it is rational to follow this threshold to avoid disclosure of insignificant event or information in absence of any contrary data.

The provided objective threshold kills two birds with one bullet. First, the primary concern of entities not classifying information as UPSI will be resolved. Robbed of unbridled discretion, entities crossing the threshold will need to classify the information as UPSI. Second, the task of a compliance officer will be easy as he/she will have an objective test to decide whether a disclosure is made or not. Thus, adoption of a quantitative threshold ensures effective disclosure and streamlines the role of compliance officer.

While the authors believe that introducing these thresholds will adequately cover all instances of UPSI, it is suggested that adoption of tiered thresholds shall be contemplated to address the issue of high compliance costs. This would mean adopting tiered thresholds based on company size and sector which would prevent undue compliance burdens on smaller entities while holding larger ones to a higher standard. Also, SEBI should implement a continuous review mechanism to assess the effectiveness of the proposed amendments. If the initial threshold criteria prove ineffective or burdensome, the thresholds can be adjusted over time based on empirical data and market feedback. This approach should be adopted to strike a balance between reducing compliance costs for companies while ensuring that relevant UPSI is appropriately disclosed. 

Conclusion

SEBI’s consultation paper highlights a significant problem. However, the proposed solution put forth in the paper is met with reservations. If the proposal materializes into a concrete amendment then it will give rise to complexities. It will inevitably invite superfluous regulatory compliances by the companies, needlessly exacerbating the already burdensome responsibilities of compliance officers. In order to ensure practicality and effectiveness, it is recommended that the proposed amendment undergo necessary alteration to render it attainable within the existing regulatory framework.

The authors are final year students at GNLU, Gandhinagar.