Defences Against Insider Trading Given Under 2015 SEBI Regulations Not Exhaustive, But Must Be Similar: Supreme Court

The Supreme Court on Tuesday ruled that the defences available against an insider trading allegation under the Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations, 2015 are not exhaustive.

Any additional defence, however, must be of the same or similar nature as those specifically listed in the regulations.

The court was considering the six specific defences set out under Regulation 4(1) of the SEBI (Prohibition of Insider Trading) Regulations, 2015, which provides that an insider may prove his innocence by demonstrating certain circumstances, “including” those listed in the provision.

“In this case, the specific words, i.e., the defences follow the general word, i.e., including. What we can observe, though, is that the word including indicates the six defences provided are not meant to be exhaustive. What follows is that the other defences that may be covered would be of the same and similar nature as already provided therein,” a bench of Justices Sanjay Karol and Nongmeikapam Kotiswar Singh observed.

The court clarified that the rule of ejusdem generis could not be applied to Regulation 4(1) because the general word “including” comes before the specific defences.

The ruling came in an appeal filed by the Securities and Exchange Board of India (SEBI) against the April 19, 2022 order of the Securities Appellate Tribunal. The tribunal had set aside the May 24, 2021, order of SEBI's Whole Time Member holding the three respondents guilty of insider trading.

The case concerned trades in Tara Jewels Ltd. shares by Chairman and Managing Director Rajeev Vasant Sheth and Promoters and Vice Presidents Aarti Sheth and Divya Sheth during the UPSI period between October 2 and November 29, 2017.

Rajeev Sheth sold 30,93,948 shares, about 12.56% of the company's total shareholding, followed by another 29,75,000 shares through subsequent transactions. Aarti Sheth and Divya Sheth sold their entire holdings of 1,14,440 shares each. The trades resulted in avoidance of a cumulative loss of approximately ₹1.38 crore.

SEBI's Whole Time Member found all three guilty of insider trading and directed them to disgorge the losses avoided through the trades. It also imposed a ₹25 lakh penalty on Rajeev Sheth and ₹10 lakh each on Aarti Sheth and Divya Sheth under Section 15G of the SEBI Act.

The tribunal, however, accepted the explanation that Tara Jewels was at risk of being downgraded to a non-performing asset. It held that this was sufficient to establish innocence under Regulation 4(1). The tribunal also noted that there was hardly any difference between the company's share price on November 29 and November 30, 2017.

Before the Supreme Court, SEBI argued that the respondents did not fall within any of the defences specifically provided under Regulation 4(1). The respondents relied on SEBI v. Abhijit Rajan, where the persons accused of insider trading had sold shares while in possession of UPSI and rerouted the funds for purposes of the company.

Regulation 4(1) sets out six circumstances in which an insider can demonstrate innocence. These include certain off-market inter-se transfers, block deals, transactions carried out pursuant to statutory or regulatory obligations, exercise of stock options, specified arrangements involving non-individual insiders, and trades carried out under trading plans.

The court held that once it was undisputed that the respondents possessed UPSI and sold substantial portions or their entire shareholdings while possessing it, the purpose for which the sale proceeds were used was irrelevant.

"The purposes for which the proceeds are employed is an irrelevant consideration. The fact that the respondents had indulged in the trades at the relevant point in time is sufficient to conclude that they had conducted insider trading," the court observed.

The court distinguished Abhijit Rajan, noting that the transactions in that case took place in 2013 and were governed by the 1992 PIT Regulations. Unlike the 2015 Regulations, the earlier framework did not contain the corresponding note stating that the reasons for trading or the purposes for which the proceeds were applied were irrelevant.

The court also held that the tribunal could not recognise a “legitimate corporate purpose” defence based on Rakesh Agrawal v. SEBI, a decision rendered under the 1992 PIT Regulations, in view of the note appended to Regulation 4(1) of the 2015 Regulations.

Allowing SEBI's appeal, the court restored the disgorgement direction after finding that the respondents had avoided approximately ₹1.38 crore in losses. It also upheld the penalties imposed for violation of the code of conduct for trading by insiders.

The WTM had imposed a separate ₹5 lakh penalty on Rajeev Sheth and ₹1 lakh each on Aarti Sheth and Divya Sheth for violation of the code of conduct. The Supreme Court upheld these penalties.

However, the court reduced the ₹25 lakh Section 15G penalty imposed on Rajeev Sheth to ₹10 lakh, holding that the higher penalty was excessive in the cumulative facts and circumstances of the case

For Appellant: Senior Advocates Pratap Venugopal, Navin Pahwa; Advocates Amarjit Singh Bedi, Surekha Raman, Shreyash Kumar, Siddharth Nair, Harshit Singh, Yashwant Sanjebam, Abhishek Singh; AORs K J John and Co., K Ashar & Co.

For Respondents: Senior Advocate Aditya Sondhi; AORs Aadhar Nautiyal, Mitravinda Chunduru, Pallavi Pratap; Advocates Meghna Rao, Dipansh Mishra, Shivangi Kohli, Ryna Karani, Prachi Raval, Rijuk Sarkar, Ravichandra Hegde, Malvika Kapila, Harbani Shinh.