The Mauritian Perspective
In Mauritius, the concept of insider dealing is captured by the Securities Act 2005 and the Financial Services Act 2007 which specifically identify insider dealing as a prohibited act and provide the framework to regulate the fundamental need to regulate the securities market and to combat financial crime. The overall aim is to retain investor confidence by the setting up of a robust legal framework and regulatory entities to guarantee a fair and transparent securities market.
Thus, under Mauritian law, insider dealing refers to the use of confidential information about a company’s securities with the view to (i) making a profit or (ii) avoiding a loss by trading in these securities or (iii) recommending or (iv) counselling others to do so. It leads to both criminal and administrative penalties that include fines for individuals and firms and criminal imprisonment.
In this regard, the Financial Services Commission of Mauritius (FSC) and the Stock Exchange of Mauritius have been empowered to investigate and take action in cases of insider dealing. In particular, the FSC as regulator of the Mauritian international financial centre, has been specifically been empowered to investigate, search, compel disclosure and obtain evidence relating to insider dealing. It is apposite to mention that there have not been reported cases of insider dealing that have been prosecuted before the Mauritian courts.
Accordingly, a review of the approaches taken by the EU and USA Federal law become pertinent.
THE USA & EU PERSPECTIVES – WHO IS AN ‘INSIDER’?
In the USA, the concept of insider trading and likewise, the definition of ‘insider’ have developed through judicial interpretations of the anti-fraud provision of section 10b of the Securities Exchange Act of 1934 and Rule 10b5 of SEC Rules developed under section 10b of the SEA 1934² . Under this approach, the rationale was to counteract behaviours in relation to securities, for instance misleading statements in company filings and documents used to sell the securities to insider dealing and market manipulation. It therefore followed that the meaning of an ‘insider’ developed through what the common law practice of precedent established by interpretations made by the US Supreme Court. As to the EU, the perspective has been a different one as these concepts have developed through the enactment of statutes.
Thus, while the USA has emphasised the need for a pre-existing special relationship as a prerequisite to determine that a person is an insider in order to prohibit certain behaviours³ , the EU has focused on behaviours which are prohibited. Accordingly, the same set of facts will not automatically lead to a finding of insider dealing both in the EU and the USA by the relevant authorities given the aforesaid standpoint taken by each jurisdiction on the question. It follows then that the definitions which these jurisdictions have ascribed to the term ‘insider’ stand in contrast and have led to different outcomes.
Whilst admitting that trends have now evolved, Professor Ventoruzzo4 has argued that this difference in attitude is explained by the fact that the USA has traditionally been more aggressive and successful than the EU when prosecuting insiders under the offence of insider dealing. He embraces the view that there are two reasons underpinning this reality. First, because regulations in the EU on this offence are relatively recent and have been influenced by the specific resources of regulators dealing specifically with insider dealing claims. Secondly, it is attributable to what he has termed as diverging cultural attitudes vis-à-vis insiders.
Yet, the contrasting definitions ascribed in these jurisdictions are significant when viewed in the wider context of cross-border transactions in which US investors and EU investors are continuously investing in each other’s jurisdiction. On the one hand, investors need to make informed decisions on prospective investments aided by their professional advisers being given the extra territorial effect of these leading jurisdictions. On the other hand, they have a legitimate expectation that the market is fair and transparent and this becomes particularly relevant for the impact which it has on funds and other market participants such that compliance policies of funds need to consider both regimes especially on the enforcement question 5.
The EU Approach
As mentioned at the outset, the EU experience of insider trading and the accompanying concept of insider is recent as it was in 1989 that the EU formally directed member states to prohibit insider trading 6. It is noteworthy that initially it did not differ significantly the US perspective inasmuch as an insider designated a person who gained inside information through management or board positions with or by being shareholders of the issuer company or through their employment, profession or duties.
Today, insofar as the EU is concerned, the determination whether a person is an insider is neither based on a requirement for the existence of a fiduciary or fiduciary-like relationship nor an obligation on a person who deals with material non-public information. Indeed, it is based on a statutory requirement namely, at Article 8, paragraph four of the Regulation 596 of 2014 (Insider Regulation).
The Insider Regulation identifies two categories of insiders namely, the primary and secondary insiders. From a review of the scope of persons which it captures, clearly it is wide and reflects what is acknowledged to be the EU’s aggressive stance on the offence of insider dealing. The categories are set out below:
Primary insider:
- any person who possesses inside information by reason of being a member of the administrative, management, or supervisory bodies of the issuer. This captures (i) a corporate director, (ii) a shareholder considering that he possesses inside information as a result of his shareholding in the company regardless of the actual percentage shareholding. On this aspect, the scope is wide when it is remembered that the structure of boards of directors within the EU actually comprises two types of directors namely managers and the supervisory board which discharges a function which is equivalent to those of non-executive directors in a company organised in the US or UK style; and
- any person who possesses inside information by reason of the exercise of his duties resulting from employment or profession for instance, a lawyer, an accountant. The language of the Insider Regulation leaves open the interpretation that it is not a prerequisite for such persons to have an existing relationship with the company in order that they are qualified as an insider of that company. The triggering factor appears to be how these persons have access to the inside information of that company. Famously, any member of the public who inadvertently gains access to inside information of a company is an insider for the purposes of the Insider Regulation;
- any person who possesses inside information by reason of being involved in criminal activities.
Secondary insider:
- Under Article 8 paragraph 4 of the Insider Regulation, a secondary insider is a person who possesses inside information under circumstances which are not those identified under the primary insider category. Thus, the effect of Article 8 in effect widens the scope of those captured under the designation of an insider under the EU regime as it encompasses a person who possesses insider information, in marked contrast with the US position in Chiarella (see below).
An insider under the EU regime is under the following prohibitions namely (i) not to engage or attempt to engage in insider dealing (ii) not to recommend that another person engages in insider dealing or induce another person to do so and (iii) not to disclose inside information.
The USA Approach
The starting point on the concept of ‘insider’ under the USA is that the categories of persons brought under the scope of its meaning is not static and has evolved through judicial interpretations.
The general proposition is that the concept of an ‘insider’ designates two categories of persons:
- First, someone under the ‘classic theory’ i.e. someone in a fiduciary or fiduciary-like relationship towards the issuer of securities and by which the person is in possession of material, non-public information as in Chiarella v U.S 7 ;
- Secondly, someone under the ‘misappropriation theory’ i.e. someone who owes a duty of trust or confidence to the source of the confidential information which he possesses by reason of this relationship.
Admittedly, not every fiduciary is an insider. Thus, in United States v O’Hagan 8, the US Supreme Court identified two types of fiduciary duties which would form the basis of determining that a person is an insider. First, the relationship between a corporate insider and a company’s shareholders. Secondly, outsiders to the company who obtain non-public information which is subject to some form of duty whether it be a duty of confidentiality. In the particular circumstances of this case, O’Hagan, who was a lawyer and who was not in a fiduciary relationship, was nevertheless convicted. Indeed, the US Supreme Court took the view that he was an insider as he still owed a fiduciary relationship to the source of the information which he had misappropriated for his own profit by the application of the misappropriation theory.
In Dirks v SEC 9, the US Supreme Court identified yet another category of insiders namely, the constructive insider as opposed to the mere tippee who was not caught by the scope of the fiduciary relationship. Thus, a constructive insider is a person external to the issuer, who becomes a fiduciary of the issuer (and its shareholders) by reason of his professional relation with the issuer. The US Supreme Court actually identified certain categories of professionals who were potential constructive insiders namely, underwriters, accountants, lawyers and consultants working for a company.
Professor Gevurtz 10 has argued that even though Chiarella 11 has re-affirmed the need to have the pre-existing fiduciary relationship or fiduciary-like relationship as a basis for a determination that a person is an insider under the classic theory, it has nevertheless remained silent on earlier decisions of the US Supreme Court.
In particular, Professor Gevurtz highlighted the determination of the US Supreme Court In re Cady, Roberts & Co. 12 in which it held that the obligation to disclose or abstain from trading was not limited to the traditional categories of insiders such as officers, directors and controlling shareholders. The US Supreme Court took the view that the obligation found its roots in two sets of circumstances. First, as a result of a relationship by which a person has access, whether directly or indirectly, to information which is meant to be available for a corporate purpose as opposed to the personal benefit of others. Secondly, by reason of the unfairness of one party who is taking advantage of information which he knows is not available to those with whom he is dealing 13.
The Cady, Robert proposition was enhanced in SEC v Texas Gulf Sulphur 14 in which the US Supreme Court affirmed that the underpinning principle of Rule 10b-5 was to protect the legitimate expectations of investors that they all have an almost equal access to material information. Thus, in these circumstances, an insider would be a person in possession of material inside information and, on whom there is a duty to either disclose the information or abstain from trading.
Admittedly, the incremental common law approach of the US regime has produced some outcomes which remain authorities on their own facts as well as left ambiguities. Nevertheless, the virtues of such an approach in a volatile and rapidly evolving international market especially in the new normal which the COVID-19 pandemic has triggered must not be overlooked.
THE BETTTER DEFINITION – THE UNITED STATES OR THE EUROPEAN UNION?
A determination as to which of the EU and the USA has developed a better definition of the term ‘insider’ in the overall perspective of combatting insider dealing or insider trading is highly subjective and a complex determination as it actually endeavours to set aside the background to the circumstances which led to the development of these definitions and thus explain the different approaches to the issue.
Professor Ventuzzo15 has come forward with what he considers as a more flexible definition of insider dealing which directly impacts the question of who is an insider. The value of this formula enable regulators prosecute conduct which he considers have hitherto escaped the regulator’s enforcement powers in the US because of what he has described as ‘convoluted regulations which cover conducts that clearly conflict with the rationale of prohibiting insider dealing’.
Professor Ventuzzo’s formula is based on the ‘parity of information’ theory which was originally adopted in the US in the 1960s but was rejected by the US Supreme Court16 which favoured the Chiarella17 fiduciary duty approach and, was later adopted by the EU to form the foundation of the prohibition against insider dealing within the EU. According to Professor Ventuzzo’s formula, an insider is anyone who obtains material non-public information in relation to an issuer or a security by reason of his professional activity. There is a duty on this insider either to disclose the aforesaid non-public information, when so permitted, or to abstain from disclosing the information. Professor Ventuzzo has gone further and has asserted that other scholars have actually advocated that the US should reconsider its standpoint vis-à-vis the ‘parity of information’ theory and therefore adopt a simpler and effective regulation which would obviate the need to go through an ‘overly complex web of case law, legislation and regulation’ in order to identify an insider and come to a determination that there has been a scenario of insider dealing to justify its prosecution.
Insofar as the EU perspective is concerned, its opponents have argued that the distinction as to what amounts to inside information would not encourage the desirable use of inside information and will not reward legitimate efforts for instance information which consists of research and estimates based on publicly available information.
It is conceded that a lawyer’s perspective will invariably differ from the academic, or the banker’s perspectives and, that given the volatility of the securities market, there is no universal formula to the characteristic features of the insider as insider set against the overriding global concern to preserve both investor confidence and the integrity of the financial system.
CONCLUSION
It is advocated that, given the business environment within which insiders operate and the ever increasing number of cross border transactions globally, there is a real need to adopt an incremental approach which is a hybrid of the US and the EU approaches as these are the leading global economies and the drivers of international business. This approach would ensure that (a) the international market remains active (b) continues to expand and, (c) remains one in which investors are confident that there are no unfair results that will be generated. In other words, the spirit of justice must prevail over legal technicalities so as to ensure that conduct for which there is almost a global acceptance that they clearly ought to be prohibited are in fact prosecuted and the fairness and integrity of the market is thus preserved at all times. The outbreak of the COVID-19 pandemic has more than ever brought to the fore the fundamental need to uphold the integrity of the international market and the constant flow of investment.
¹ Regulation (EU) No. 596/2014 of the European Parliament and of the Council of 16 April 2014 on Market Abuse Regulation)
² The US and EU – An ocean apart on insider dealing regulation?: Clifford Chance – Asset Management and Funds, June 2015
³ This was enhanced by the US Supreme Court in U.S. v Newman in which it held that the liability of the tippee requires that the tippee knew that the tipper acted in breach of his duty and that the tippee knew that the information was confidential and was disclosed for a personal benefit.
4 Comparing Insider Trading in the United States and in the European Union: History and Recent Development – Working Paper No. 257/2014, May 2014, Marco Ventoruzzo: ECGI Working Paper Series in Law (https://ssm.com/abstract=2442049); also in Harvard Law School Forum on Corporate Governance (https://corpgov.law.harvard.edu/2014/06/19/).
5 Footnote 2
6 The Road Not Taken: A Comparison of the E.U. and U.S. Insider Trading Prohibitions: Franklin A. Gevurtz. 56 Was. U.J.L. & Pol’Y 031 (2018) (https://openscholarship.wustl.edu/law_journal_law_policy/vol56/iss1/9)
7 445 U.S. 222 (1980)
8 521 U.S. 642, 651 (1997)
9 463 U.S. 646 (1983)
10 Footnote 4
11 Footnote 4
12 40 S. E.C. 907 (1961)
13 Footnote 7 at p. 32
14 401 F. 2d 833, 848 n.7
15 Footnote 3 at p.3
16 Cady, Roberts & Co., 40 S.E.C. 907 (1961)
17 Footnote 4
