[By Priyanshi Jain]
The author is a student of Institute of Law Nirma University.
Introduction
Insider Trading is an illegal act of dealing in securities of a company using Unpublished Price Sensitive Information (‘UPSI’) to gain an unfair advantage over other stakeholders. In September 2022, the Hon’ble Supreme Court (‘SC’) in Securities and Exchange Board of India v. Abhijit Rajan held that motive to derive profit should be an essential precondition in determining an offence of Insider Trading. In February 2023, the Securities Appellate Tribunal (‘SAT’) in Quantum Securities Pvt. Ltd. v. Securities and Exchange Board of India, put weight on the position of the Hon’ble SC and reaffirmed that there must exist a motive to utilize UPSI to derive profit for attracting liability in insider trading cases. However, there exists a plethora of contradictory judgements and opposing stances taken by the Securities and Exchange Board of India (‘SEBI’). Consequently, this has led to an uncertainty in the applicability of regulations in ascertaining the role of motive in insider trading cases.
This post aims to highlight the regulatory overreach exercised by SEBI in insider trading cases by, time and again, applying the concept of strict liability even when trades are not intended to gain profits from UPSI, but rather are merely fulfilling pre-existing legal or contractual obligations. The post also highlights the constant efforts made by the Hon’ble SC and the SAT to bridge the gap caused by the inconsistent approach adopted by SEBI. It concludes by suggesting reforms to establish a rational system based on motive as an essential precondition to provide a coherent understanding of the conduct that attracts criminal liability in insider trading cases.
Motive to derive profit as an essential condition in insider trading cases
Regulation 3(1) of the Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations, 2015 (‘PIT Regulations’) provides that an insider is a person who has access to UPSI. However, the legislature fails to consider the usage of such information that brings no advantage to the tipper or the tippee by not taking into account the element of motive in such transactions. The communication of such information unknowingly or without personal benefit is also considered to be a ground for liability under the PIT Regulations.
- Contradicting Opinions of the Court prior to Abhijit Rajan v. SEBI
The interpretation of Regulation 3 of PIT Regulations saw a short-lived silver lining in the case of Rakesh Agarwal v. SEBI, wherein, the SAT reversed the decision of SEBI by acknowledging that the PIT Regulations do not take motive into consideration while deciding insider trading cases. However, the views stipulated by the SAT in the above-mentioned case have been impliedly overruled by a series of judicial decisions.
The Bombay High Court, in the case of SEBI v. Cabot International Corporation observed that there exists no element of criminal offence under the SEBI Act, 1992 or the PIT Regulations as observed under criminal proceedings. The penalty prescribed is merely pertaining to breach of a civil obligation or failure of statutory obligation. Hence, there does not exist a requirement of considering mens rea as an essential element for prescribing penalty under the SEBI Act, 1992 and PIT Regulations. The Hon’ble SC, yet again, in Rajiv B. Gandhi and Others v. SEBI, observed that implication of motive as an essential precondition of penalty in ‘insider trading’ cases shall act as an immunity for various insiders to violate their statutory obligation and later plead lack of motive. The court opined that this shall consequently frustrate the objective of the SEBI Act 1992 and the PIT Regulations.
- Balance of Actus Reus and Motive to Derive Profit
However, the author argues that, in cases of insider trading, the actus reus element of a crime is well established. In order to draw a line between a conduct that warrants criminal liability and a conduct that is mere possession of UPSI, it is quintessential for the judiciary to incorporate an element that acts as a balance between the above-mentioned conducts. Such balance can be sought by incorporating motive to derive profit or lack of such motive as an essential precondition. Insider trading cases function on the assumption that the perpetrator acts with (a.) specific intent to obtain profit or divert loss (b.) knowledge that the leaked information is price sensitive and (c.) that the information is likely to illegally benefit either the tipper or the tippee; thereby making it an intentional crime.
The willingness to obtain an illegitimate profit by unfair means gives insider trading a similar characteristic to that of fraud. The linkage between actus reus and motive in insider trading cases, thus, does not merely indicate a breach of civil or statutory obligation, but also indicates a criminal liability, like that of fraud. The Author believes that the legislature, by not considering the element of motive, is focused on policing business-information rather than preventing individuals from engaging in trade using UPSI with the intention of acquiring profit.
Supreme Court’s Attempt to Bridge the Gap: SEBI’s Regulatory Overreach
After considering the dilemma, the Hon’ble Supreme Court, in the case of SEBI v. Abhijit Rajan definitively established that the intention to gain profit should be regarded as a fundamental requirement when deciding insider trading cases. The court, in the above-mentioned case, interpreted the foregone SEBI (Prohibition of Insider Trading) Regulations, 1992. However, the judgement is likely to have a severe impact on the recent PIT Regulations. The Hon’ble SC and SAT upheld the opinion that the sale of shares of Gammon Infrastructure Projects Ltd. (‘GIPL’) made by Mr. Abhijit Rajan was in the nature of a distress sale necessitated as part of a Corporate Debt Restructuring (‘CDR’) requirement that would prevent GIPL’s parent company from bankruptcy. SEBI, in the above-mentioned case, has failed to recognize the fact that the sale neither prevented loss nor did it assist in accruing profit, but was merely transpired as a CDR obligation.
The SEBI, in yet another case involving Quantum Securities Pvt. Ltd. did not consider the fact that the trade made by the parties involved were not motivated or influenced by UPSI. The SAT, therefore, in Quantum Securities Pvt. Ltd. v. SEBI held that in order to determine liability in insider trading cases, the trading of shares of a company must have been made pursuant to UPSI related to the company. The significance of motive in insider trading cases contradicts the explanation provided in Regulation 4(1) of the PIT Regulations, which clearly states that any transaction conducted by an individual while possessing UPSI will result in the assumption that the transaction was driven or affected by the UPSI. Previously, such a presumption has barred SEBI from taking into account the motive of the alleged insider thereby contributing to several contradictory orders passed by SEBI. Such inconsistency has resulted in an uncertain application of rules in insider trading cases.
Additionally, the orders passed by the SEBI without considering the motive of the alleged insider has resulted into causing an irreparable harm to their reputation. The SEBI passed an order in March of 2016 barring Mr. Abhijit Rajan from buying, selling or dealing in securities in any manner. Consequently, the negative impact on reputation and financial losses persisted for a period of six years until the SAT overturned SEBI’s ruling.It thus becomes imperative for the SEBI to apply its mind judiciously and exercise greater restraint in determining insider trading cases that not only have the power to cause an extensive damage to the reputation but also inflict financial loss, especially in a system which does not provide adequate compensation for any harm incurred by the victim.
Conclusion
The Hon’ble SC in SEBI v. Abhijit Rajan evolved the understanding attached to the Explanation of Regulation 4(1) of the PIT Regulations by including the element of motive to derive profit as an essential precondition in insider trading cases. However, it can be observed that SEBI has, time and again, exhibited regulatory overreach in insider trading cases by applying strict liability even when trades are not intended to gain profits from UPSI.
The constant face-off between SEBI and the courts in determining liability in insider trading cases fosters inconsistency in the approach adopted, moreover, it leads to constant embarrassment faced by SEBI when decisions like that in the case of Mr. Abhijit Rajan or Quantum Securities Pvt. Ltd. are overturned by SAT or the Hon’ble SC. Thus, the judgement passed by the Hon’ble SC acts as a silver-lining by attempting to provide a coherent understanding of the conduct that attracts criminal liability in ‘Insider Trading’ cases.
In conclusion, there arises a need to establish a higher standard of proof while determining liability. Motive should not be considered as a mandatory requirement for bringing charges of Insider Trading but it should be considered as a relevant factor in determining liability, this shall ensure that the objective of SEBI Act 1992 and the PIT Regulations are not frustrated.