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SEBI's Insider Trading Crackdown: Who Is An 'Officer'?

Published on Sat, Sep 13,2014 | 13:45, Updated at Mon, Sep 15 at 17:57Source : CNBC-TV18 |   Watch Video :

Over the last 6 months of or so SEBI’s Adjudicating Officers have found several corporate employees guilty of violating the prohibition of Insider Trading Regulations, 1992. All the orders are to do with the same violation – the employees failed to disclose to the company and stock exchange, trades exceeding Rs 5 lakhs in value.

WHO IS AN ‘OFFICER’?
SEBI crackdown
-12 orders against corporate employees
-Guilty of violating disclosure norms in Prohibition of Insider Trading Regulations, 1992
-Did not disclose share trades in excess of Rs 5 lakhs

The PIT Regulations require that
"(4) Any person who is a director or officer of a listed company, shall disclose to the company and the stock exchange…if there has been a change in such holdings of such person and his dependents…and the change exceeds Rs. 5 lakh in value or 25,000 shares or 1% of total shareholding or voting rights, whichever is lower.”

This disclosure has to be done within 2 working days of the transaction.

The dozen employees found guilty include a Human Resource Head in a vertical business unit at ITC, a Chief Sales Officer in charge of certain geographies at Wipro, a General Manager of special products at M&M, a General Manager of plant quality at M&M Nasik and a Senior Vice President in charge of manufacturing processes.

WHO IS AN ‘OFFICER’?
The Guilty
HR Head –Trade Marketing & Distribution,  ITC
Chief Sales Officer – Growth Geographies, Wipro
General Manager – Special Projects, M&M
General Manager – Product Management, M&M
Credit & Commercial Head, M&M
EVP & CFO – Systech, M&M
Sr General Manager – Technical Hub, M&M
General Manager - Plant Quality, M&M
Central Process Engineering, M&M
Sr VP – Manufacturing, M&M
General Manager – EDC, M&M
General Manager – Advance Engineering, M&M

In finding them guilty, SEBI seems to have expanded the definition of ‘officer’ considerably to include any person with authority to give directions to other employees. So who exactly is an ‘officer’? To answer that question, CNBC-TV18’s Menaka Doshi speaks to JSA’s Somasekhar Sundaresan and Finsec’s Sandeep Parekh.

Doshi: The main debate in this, almost one dozen orders, seems to focus on how you define “Officer”? Would you agree Sandeep that Securities and Exchange Board of India (SEBI) seems to have widened the definition of officer considerably to even include general mangers?  

Parekh: Yes, I think they seem to have widened that and the real flaw lies with a particular SAT ruling, which they have relied on in almost all the cases, which is the Sundaram Finance case where they have in fact misinterpreted the definition of Officer which is there in Companies Act. It seems to suggest that those people who can give directions to the Board of Directors or Directors. Essentially we were looking at people one level below the Board. We are not looking at people who can - which is what the interpretation of SAT is.

WHO IS AN ‘OFFICER’?
Companies Act
1956 Act: Section 2 (30)
Officer - includes any director, manager or secretary or any person in accordance with whose directions or instructions the Board of directors or any one or more of the directors is or are accustomed to act   

2013 Act: Section 2 (59)
Officer-  includes any director, manager or key managerial personnel or any person in accordance with whose directions or instructions the Board of Directors or any one or more of the directors is or are accustomed to act

WHO IS AN ‘OFFICER’?
SAT Order

Sundaram Finance vs SEBI (2010)
"....We are of the view that an 'officer' means a person holding an appointment to an office which carries with it an authority to give directions to other employees. Thus, an 'officer' as distinct from a mere employee is a person who has the power of directing any person or persons to do anything whereas an employee is one who only obeys. Any person who occupies a position of responsibility in a company will be an officer and this has been clarified by the Department of Company Affairs, Government of India as per its letter dated October 07,1963...."

Doshi: Not just one level; many levels below the Board.

Parekh: If you report to anybody at all which basically means everybody except for the sweepers, assuming that sweepers dose not have….. (Interrupted)

Doshi: Even maintenance staff responds to one leader of some sort. So the head of the maintenance staff would also then come under the definition of officer, because his directions are followed by group of employees.

Parekh: So anybody except for the last layer of the company would actually be liable which is completely absurd and contrary to what is specifically put in. I mean you can’t imagine a second rung from the bottom giving directions to the Board of Directors. That’s the absurd part.

Doshi: Couple of things here- the definition of the officer as per either Company Law, old one because that's the one that applies in this case and how the Sundaram Finance case looks at it. So the old Companies Act 1956 says officer includes any director, manager or secretary or any person in accordance with whose directions or instructions the board of directors or any one or more of the directors is or are accustomed to act. The Sundaram Finance case say an officer means a person holding an appointment to an office which carries with it an authority to give directions to other employees. Which one are we supposed to follow in trying to determine whether these people are officers or not?  

Sundaresan: The flaw really lies in having a charging provision on an officer. It should have been on the basis of functionality of roles. To take your earlier comment, if it’s a sweeper whose job is to clean the office of the CFO or the office of the MD, there is a good chance he will have physical access to unpublished price sensitive information. So giving a designation for an officer or a peon or a manager I think that’s a very wrong artificial….(Interrupted)

Doshi: What are we talking about? Go back to the specific sections of the PIT regulations and these are disclosure Sections right? It says any person who is a director or officer of a listed company, shall disclose to the company etc. So, they have equated director and officer.

Sundaresan: The point I am making is the flaw in the regulation is to have a charge on an officer rather than have a charging provision only on materiality of the transaction.  

Parekh: No, but this is not substantive insider trading.

Doshi: It’s only a lack of disclosures.

Sundaresan: In my view, if a trade is of a particular material nature, regardless of designation it should be picked up for reporting, and that can’t be Rs 5 lakh; that's too low a threshold.

Doshi: Is it your contention, therefore and I will read out some designation involved here:
General Manager – Special Projects, General Manager – Product Management, Sr General Manager – Technical Hub, General Manager – Plant Quality, Mechanical engineer with technical background and working with central process engineering for five Mahindra Plants, Sr Vice President of Manufacturing, General Manager – EDC, General Manager – Vehicle integration. Are these Officers as envisaged by PIT regulations; because it says officers or directors?  

Sundaresan: It’s a question of fact.

Parekh: I would respectfully disagree with Som on whether it’s a matter of fact because I think it’s a matter of Law. Law says a person who is used to giving instructions to the board of director or directors. We are looking at very senior people. So I think the law is pretty clear, it has been misinterpreted by SAT in Sundaram case which is what has been followed by all.

Doshi: But SEBI could have chosen to apply its regulations in the simplest format and say look it’s says officer or director which is you are equating the two designation virtually.

Sundaresan: The real problem here is that because there is a power to penalise, penalties have been imposed. Look at the materiality element of some of these orders; not all. Some of them are really not material and in some cases it appears that there have been penalties by the company also internally. So some of these are also trail balloons in some sense of establishing a precedent and then that precedent will get tested and to keep following it.

Doshi: So what is the precedent here? This means pretty much anybody who runs a team of three, five or eight people or more than that in an organisation can be categorised officer by SEBI as ‘officers’, and hence if they have sold shares that violates any of this threshold and not made disclosures- these are only disclosure norms I am talking about and not about the insider trading in purest sense of insider trading- they are guilty?

Sundaresan: I will come back to my original point. The problem is materiality of the threshold.

Parekh: Let's get to principles - what is the purpose of this particular regulation? The purpose is that if you routinely have access to inside information, we will impose a higher standard on you. If you going to apply the same standard on all employees, then you should have said employees. Why should we say officer as defined by Companies Act which talks of those people who instruct board of director level people?

Sundaresan: There is logic to it. If you are reasonably expected to have access to information, you are an insider. If you have sold beyond a certain materiality threshold- lets say you have done a Rs 25 lakh trade or a Rs 50 lakh trade- do you think a defence can be I am only a peon but I have traded for Rs 25 lakhs. Peon is a very bad example perhaps. Let say or a general manger for a large functional role and you have sold for Rs 25 lakhs - you may not have had access directly but somebody who has had access would have given you the information.

Doshi: Ok so this is beautiful, because this is the most curious part of many of these orders. They find all these general managers fit the category of officer and say you have sold more than Rs 5 lakh worth of shares, you didn’t make disclosures to the company and the Stock Exchange; hence you are guilty. Many of these people are self confessedly people who have sold in closed periods. The orders mention that as well saying look you have sold in a closed period as your company has disclosed to us. But the orders and the penalty amount doesn’t take violation into account at all. So whatever beautiful fine point you are making I am saying in this case when it just comes to the disclosure requirements, have these adjudicating officers been fair to expand the definition so wide and why is it that they have ignored the closed period trades which to me seems like a more egregious violation than the lack of a disclosure at a general manager level?   

Sundaresan: There are two points that comes from your comment; the second one is the easier one which Sandeep started with. They are applying a case law laid down by the SAT. So the AO is just applying what SAT has said- right, wrong; it’s not his thing. The Sundaram Finance didn’t carry the SAT order up in appeal in the Supreme Court. So whether we like it or not, that’s a judgment of SAT which is applicable and they have applied it.

But on the other issue, in terms of whether they have done any other violations and whether that has been let off in all likelihood and we don’t know because the orders don’t speak about it. In all likelihood these were instances reported by the company to SEBI under Clause 7 of the model code. So the company would have taken its own action and would have forwarded it to SEBI for reporting. So SEBI could have well taken a view that if the guy has been penalised, if there is also a disclosure problem - so now I will penalise the disclosure bit. Ideally all this should be articulated in the order. The orders are silent about it; we don’t know.

Doshi: The orders have penalized ostensibly only on the lack of disclosures. Nowhere in the penalty portions does it say we are penalizing you for this violation; though the violation of closed period trade is mentioned somewhere.

Sundaresan: So they have exercised their prerogative to pick the violation – that’s their regulatory discretionary view.

Parekh: I would put that one step further; I would say that these are all killing mosquitoes or flies with nuclear weapons. Why are we getting into small technical violations?

Doshi: How does one make that argument? That I can’t sit here saying why are you getting into technical violation. It’s a technical violation, it’s a technical violation!

Sundaresan: Shri Ram Mutual Fund judgement of the Supreme Court is being parroted. It's a wrong law.

SC: SEBI vs Shri Ram MF
“once the violation of statutory regulations is established, imposition of penalty becomes sine qua non of violation…’

Doshi: It’s parroted in these orders as well.

Sundaresan: It’s wrongly interpreted. The Supreme Court has not said that if there is a violation you have to penalise. The court has not said that. The court has acknowledged that it’s a discretionary provision.

Parekh: My question really is that why go after everybody who has violated and the fact is anything which gets reported to SEBI, they think it is their god bound duty to pass an order which penalises that person.

Doshi: Look that’s a tough one to argue. If you are in violation and if everybody agrees that you are in violation, you can’t criticise them for levying a penalty.

Sundaresan: You can criticise them because the charm in being a regulator is not in scoring penal victories. The charm in being a regulator is having a compliant market.

Doshi: The regulator feels that if I have not imposed this, these cases would not become so big. This information and this precedent would not be set. The message would not go out.

Parekh: No you can send a message; you can say that we are issuing a warning letter to these people.

Doshi : At the end of this - have you spoken to companies, how are they reacting because many companies have seriously spooked about the level of disclosures now required, if every general manager is an officer and an organisation that hires tens and thousands of employees, you are in deep trouble?

Parekh: From what I understand from the market is, it is not even clear that you need to report every violation of the model code of conduct which is not the case in this. But lot of companies are debating whether they should report every single violation because there might be hundred, two hundred violations, small technical violations, somebody has bought five shares in the closed period, stuff like that. People are confused whether they should report every single violation to SEBI. People do call up and say should we report it or not and I don’t have a clear answer because it says that you need to report substantive violation. But whether you need to report the model code violation, I don’t know.

Sundaresan: I think companies do take it seriously. The problem really is that model code applies to designated employees whereas, the disclosure provisions simply says officers, directors. Those two have to be interlinked - that is one of the areas of reform that we hope will get implemented.

Doshi: What are you telling clients? Every General Manager in your company has to make these disclosures to the company and the Stock Exchange.

Sundaresan: If it’s the beyond the materiality threshold, yes. The threshold needs reform. It’s too low; Rs 5 lakh is nothing today.

 
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