Exercise of ESOPs not under insider trading

The Securities and Exchange Board of India (Sebi) during its board meeting on Monday cleared the air around Employee Stock Ownerships Plan (Esop). Sebi has issued a guidance circular saying trading of Esops would not be restricted and considered contra trades if cleared by compliance officer.

The new rules on insider trading, which became effective from May this year, prohibit an employee from buying and selling a share within six months. This has raised doubts over buying/selling of shares pursuant to six months of Esops, known as contra trade.

Lawyers and companies had been approaching the regulator for a clarification on Esops. The stock market regulator plans to allow such trades with the pre-clearance of a company-appointed compliance offer.

Sebi said in a statement that the exercise of Esops shall not be considered to be ‘trading’. If a designated person acquires shares under an Esop and subsequently sells those shares, such sale shall not be considered contra trade. However, other provisions of the regulations shall apply to such sale.

The definition of “immediate relative” in insider trading regulations meant a spouse who is either financially dependent or consults in taking decisions relating to trading in securities.

However, in the classificatory circular, a spouse is presumed to be an immediate relative and now will need to prove the spouse was financially independent or did not consult for trading decisions.

“Exempting shares arising from the exercise of Esop from contra trade restriction is an important relief, but still it is not a complete exemption as sale of shares issued pursuant to Esops will have to comply with other provisions of the regulations,” said Lalit Kumar of J Sagar Associates.

Sebi has also clarified that an approved trading plan will not be subject to contra trade except for pledging securities.

Restrictions of contra trade will not apply to cases when a person acquires or sells the securities pursuant to corporate actions such as buy back, rights issue, bonus issues, etc, as these rights are available to all shareholders and not just the designated employees.

“If a designated person sells a part of his shareholding and subsequently the company announces rights issue / follow on public offer / bonus shares, then the designated person would be entitled to subscribe to the rights issue / follow on public offer or to receive bonus shares. There was an absurd interpretation coming earlier that a designated person would be prohibited from doing so,” said Vanessa Abhishek, a Bombay High Court lawyer.

One important restriction is the applicability of the regulations for creation of pledge or invocation of pledge while in possession of unpublished price sensitive information (UPSI).

“This will affect the financing transactions and other merger and acquisition transactions requiring creation or invocation of pledge while in possession of UPSI. In order to facilitate such transactions, the UPSI will have to be generally made available to public before such pledge is created or invoked,” said Kumar.