Norms concerning corporate governance in India have evolved over a period of time. Since markets and businesses are inherently dynamic, they continue to evolve globally. The Securities and Exchange Board of India (“SEBI”), to its credit, has been on the ball and contributed significantly towards raising the standards of corporate governance for listed entities in India. The proof of the pudding, however, is in the eating and to this end, this piece examines the relevance of the extant requirement of prior intimation prescribed for listed entities in the current market.
Regulations 29 of the Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015, as amended (“Listing Regulations”), requires a listed entity to intimate the stock exchanges beforehand if its board of directors (“Board”) have a meeting scheduled to consider certain specified proposals, including financial results, buy-back of securities, voluntary delisting and fund raising (intimation is also required for general meeting or postal ballot for this proposal indicating the type of issuance).
Prior Intimation – The Ghosts of the Past, Present and Future
Historically, the prior intimation requirement formed part of the erstwhile listing agreement executed between a listed entity and the relevant stock exchange. Prior to 1992, prior intimation was required for limited matters such as dividend and certain securities offerings. Subsequently, the scope of this requirement was expanded to include matters such as financial results, buy-back of securities and determination of price for further public offer in case of fixed price route. On September 2, 2015, SEBI notified the Listing Regulations pursuant to which the scope was once again expanded to include matters such as voluntary delisting, fund raising and price determination for such fund raising.
An inquiry into the rationale for this requirement leads one to several reasons such as parity of information among the senior management and all category of investors, avoiding communication / procuring of unpublished price sensitive information (“UPSI”) or insider trading, controlling price fluctuation and maintaining transparency. SEBI, in its Approach Paper on Draft SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2014 (“Approach Paper”), had indicated that the prior intimation requirement for fund raising was included for maintaining ‘uniformity’. Be that as it may, one now needs to examine the relevance of this requirement along with its downside and benefits, if any.
Communication / Procuring of UPSI or Insider Trading – A Real Threat?
SEBI has put in place regulations which prohibit insider trading or communication / procuring of UPSI (i.e. the SEBI (Prohibition of Insider Trading) Regulations, 2015, as amended (“PIT Regulations”)) unless they fall within the limited exceptions provided therein. The PIT Regulations further require a listed entity to formulate an internal code of conduct which governs trading by designated persons (which typically includes directors, promoters and employees handling UPSI on a regular basis), closure of trading window for such persons and their immediate relatives when the compliance officer determines that they can reasonably be expected to possess UPSI and, empowers the compliance officer to seek declarations that they are not in possession of UPSI (as part of pre-clearance applications). It also imposes an obligation on the listed entity to maintain a structured digital database of persons with whom UPSI is shared as well as person sharing the UPSI. In addition, the trading restriction period for designated persons is required to commence not later than the end of every quarter till 48 hours after the declaration of financial results.
Considering that a robust mechanism is already in place, it can be argued that there is no longer any need for a separate requirement necessitating prior intimation solely to avoid insider trading or communication/procuring of UPSI. Apart from this, one also needs to examine the sanctity of the need for an advance intimation of two or five or 11 workings days before the proposal is placed before the Board. For instance, in case of declaration/ recommendation of dividend, prior intimation is required to be made two working days in advance.
For the sake of argument, let us assume that a proposal to ‘declare/recommend dividend’ is UPSI. The agenda for the items to be considered by the Board is typically sent to the directors seven days in advance. So, we can safely assume that the management team and the directors of the listed entities are aware of this UPSI at least seven days in advance. Given the gap between the directors becoming aware of this information and it being made generally available through stock exchange intimation, imposing a mandatory requirement of prior intimation of two working days in advance serves limited or no purpose especially when any potential risk of insider trading or communication of UPSI can be addressed through closure of trading window and ensuring compliance with PIT Regulations. On the contrary, it disseminates information relating to a proposal to the market at large which may or may not be approved by the Board. That brings us to another leading question – does this requirement result in untimely dissemination of information?
Prior Intimation – Untimely Disclosure of Sensitive Information?
Schedule A of the PIT Regulations (Principles of Fair Disclosure for purposes of Code of Practices and Procedures for Fair Disclosure of Unpublished Price Sensitive Information) requires the prompt public disclosure of UPSI no sooner than credible and concrete information comes into being, so that it is generally available. It further requires prompt dissemination of UPSI through the stock exchange, if such UPSI gets disclosed selectively, inadvertently or otherwise. Can a matter which is yet to be considered or discussed by the Board be construed as ‘credible and concrete’? Theoretically, the matter placed before the Board can be kept in abeyance until further examination or be rejected, thereby making this speculative in nature. So, if the matter is kept in abeyance or is rejected by the Board, the prior intimation may in fact prove to be detrimental for a listed entity and its investors as it may adversely affect the price of the listed securities.
As indicated previously, the Approach Paper had indicated that the prior intimation requirement for fund raising was included for maintaining ‘uniformity’, which on a standalone basis may not be a good enough reason, especially when compared with the adverse effect that it can potentially have. Considering the above and the sensitive nature of the information, the UPSI should be disseminated through the stock exchange only once the Board has had the chance to consider and approve it and the information being published is credible and not speculative. For instance, the management of a listed entity may believe that there is a need for fund raising and accordingly, includes the same as an agenda items to be considered by the Board in its ensuing meeting. Given that this agenda is still at a proposal stage and is not yet approved by the Board (which is responsible for taking a decision on such items at the first level in any listed entity), it is premature to consider it as a ‘credible and concrete’ information. Such a proposal would become ‘credible and concrete’ only once it is considered, discussed and approved by the Board.
Directors – Do they Face Limitation in Exercising Independent Judgement? Independent Directors – Are they Allowed to be Vigilant Gatekeepers?
Section 166 of the Companies Act, 2013 imposes an obligation on all the directors of a company to exercise their duties with due and reasonable care, skill and diligence as well as to exercise independent judgment. Apart from this, there is a statutory obligation placed on the independent directors to abide by the Code for Independent Directors prescribed under the Schedule VI of the Companies Act, 2013. Their responsibility includes bringing independent judgment to bear on the Board’s deliberations, safeguarding interests of all stakeholders (particularly the minority shareholders) and moderating / arbitrating the interest of the entity as a whole in situations of conflict between management and shareholder’s interest.
Therefore, today there is an increased requirement for directors to debate each agenda item thoroughly in order to protect interests of all stakeholders. Given this, making prior intimation to the stock exchange regarding a particular matter which is yet to be considered by the Board is likely to build pressure on the directors (including the independent directors) to approve that matter and limits their ability to object to or seek further examination of such matter by the management prior to approving the same. This is substantiated by the fact that we have hardly seen any examples of matters (for which prior intimation is required) being placed before the Board, which, were either not approved or left pending for further examination. This may be due to various reasons such as fear of causing embarrassment or loss of reputation or price fluctuation or adverse speculations by the market. This potentially defeats the purpose of having independent directors on the Board and disable the directors (including the independent directors) from properly carrying out their duties. Further, on the other hand, let us say a prior intimation for the proposal of bonus issue is made, which subsequently gets rejected by the Board. In such a situation, does the listed entity run a risk of regulatory scrutiny on the ground of speculative announcement? This may also be one of the reasons why Boards hesitate in rejecting proposals for which prior intimation has been made.
Increasing Shadow Meetings of the Directors
In order to address some of the challenges mentioned above, the requirement of prior intimation has mostly given rise to the practice of ‘shadow meetings’. While the formal agenda is sent to the directors on the Board at least seven days prior to the meeting of the Board, informal discussions on the agendas of upcoming board meetings are common between certain directors and the senior management of the listed entities. This practice increases the time gap between the directors and the senior management becoming aware of such information and the notification of the same to the stock exchange(s) in form of prior intimation and also leads to discussion of information which may become UPSI in an unstructured manner. It also fails in reducing the information asymmetry between the management of the listed entities and all categories of its investors and in maintaining transparency, each at the relevant times. This practice can have grave implications and should be avoided. For instance, let us take an example of a professionally managed listed entity where there are no promoters. In such cases, decisions are usually taken at the Board level post deliberations. Now, if the Board did not find enough opportunity to debate every item on the agenda that it received (after an informal discussions with directors and senior management) and needed the flexibility to either reject or keep it pending for further examination, but had to intimate stock exchanges in advance as per the requirement, then such a situation will not bode well for either the entity or its stakeholders.
Consistent with Global Practice?
A technical committee of the International Organization of Securities Commissions (“IOSCO”) had issued a statement titled Principles for Ongoing Disclosure and Material Development Reporting by Listed Entities in October 2002 (“Statement”). The Statement does not prescribe prior intimation requirements for any proposal to be discussed by the Board. Apart from the above, to our knowledge continuous disclosure requirements prescribed in foreign jurisdictions such as Australia, Singapore, United Kingdom and United States, do not contain a similar requirement. Further, in Hong Kong, basis our understanding listed entities are required to provide prior intimation for limited matters i.e. dividend and profits or losses for any year, half-year or other period.
Separately, the Statement recognises ‘simultaneous and identical disclosure’ i.e. if an entity is listed in more than one jurisdiction, the information released under the ongoing disclosure obligation of one jurisdiction where it is listed should be released on an identical basis and simultaneously in all the other jurisdictions where it is listed (irrespective of principal place of listing). Therefore, if one of the jurisdictions where the entity has listed its securities includes India, such an entity will be required to make a simultaneous prior intimation in foreign jurisdiction even though the local laws of that jurisdiction does not require such intimation.
Therefore, while there may be certain exceptions, the prior intimation requirement is not consistent with the global practice. Further, even though there are certain jurisdictions which have similar requirements, the matters for which prior intimation are required are very limited and not as extensive as prescribed in India.
The requirement of prior intimation was incorporated as a part of the continuous disclosure norms in the past, but much has changed since then. Not only have the laws of our country evolved significantly (including systems and processes that listed companies have adopted to ensure compliance with the PIT Regulations), but the capital market has also matured. It is globally recognised that reliable, timely and readily accessible information is essential for investors. SEBI has done a commendable job in trying to ensure that the laws applicable in the Indian securities market answer to the specific issues and problems which plague the market. As we move forward, it is time for the regulators in our country to re-examine the utility of prior intimation and assess whether it necessarily meets the goals that the regulator had set out to achieve.