Insiders may soon have to return ‘short swing’ profits

The proposed regulation seeks to compel an ‘insider’ to surrender such profits to the company in any of his transaction concerning equity-based securities of the company (including its parents or subsidiary’s shares) in the event both the buy and sell sides of the transaction are entered into within six months of the other.

According to Sebi, a similar concept is captured in the Securities Exchange Act of 1934 (of the US), which requires 10 per cent owners, directors and officers of a company to give up “any profit realised… from any purchase and sale, or any sale and purchase, of any equity security” of the company within a six-month period.

“Such a regulation will check insiders, who have greater access to price sensitive company information, from taking advantage of information for the purpose of making short-term profits (short swing profits),” Sebi’s Consultative Paper on introduction of Short Swing Profit regulations in India said, inviting public comments on the issue.

Insiders have a long-term investment in the company and are not expected to make rapid buy/ sell transactions, which are assumedly based on at least some level of superior access to information, whether material or not. Additionally, it will align the long-term objectives of company insiders with the company shareholders, it said.

Further, Sebi has proposed that the “Last In First Out” (LIFO) method be adopted for determining the six month period between trades. The regulator said liability will be imposed without any necessity for guilt or wrongfulness and conversely a direction to surrender profits made in a short swing transaction shall not necessarily imply any form of guilt. “The surrender of profits made in such short swing transactions will be automatically imposed as part of good corporate governance requirement,” Sebi said.

The short swing rule will get automatically attracted as soon as two things are established. “First is the fact of being an insider or a “designated insider”. And second, the fact that the same securities were bought and sold within six months of each other. In such a regulation, the intent of the person will be immaterial. Merely the fact of the trade will be sufficient to take action, ie direction to make over such profits to the company. Where there is a delay, interest may be payable by such insider to the company,” Sebi said.

CATCHING THE INSIDER

• Last In First Out (LIFO) method to be adopted

• Liability to be imposed without any necessity for guilt or wrongfulness

• Intent of the person will be immaterial. Mere fact of the trade will be sufficient to take action

• All company officers and beneficial owners in excess of 10 per cent holding, singly or in concert,would also be implicated in definition of designated insider