On Combating Unlawful Use of Insider Information

Igor Gorchakov

Partner
Baker & McKenzie

The rules prohibiting unlawful use of insider information and manipulation of the market, and aimed at protecting the interests of investors, are in the laws of practically all developed countries. In some common law countries, for example the USA, similar laws exist in the form of judicial precedents. In other countries, similar rules are set forth as a part of special laws. In particular, such special laws were passed in Australia, Canada, Mexico, Indonesia, South Africa, Thailand and other countries. In the European Union this matter is regulated by several special directives of the EU, the provisions of which are detailed in the national laws of EU member states.

The draft federal law “On Combating Unlawful Use of Insider Information,” passed by the Federation Council, fills in serious gaps in the legal regulation of this issue currently existing in Russian legislation. Such regulation of the use of information that is not in the public domain, capable of influencing the price of this or that financial instrument, is represented in Russian legislation by several standards of the Federal Law "On the Securities Market," operating according to the concept of "inside information": a term with a broader content, which relates to more than just the financial market.

This draft law was worked out taking into account contemporary models for supervision of insider transactions and market manipulation, passed both in common law countries (USA and UK) and set down in EU directives. The draft law operates under clear-cut, defined terms: such concepts as "insider," "insider information," and "market manipulation.” The draft law forbids performing transactions using insider information and market manipulation, and also prescribes the disclosure of insider information and, for issuers, management companies, trade organizers and professional participants on the securities market and credit organizations making settlements on the results of transactions, keeping a list of insiders and disclosing information on the operations undertaken by them.

It is not in doubt that, after taking effect, the law will become a serious instrument to protect the rights of investors. It will be necessary for issuers (public companies), professional participants on the securities market, and consultants rendering services on the securities market, including transaction support (such as auditors, appraisers and lawyers) to pay special attention to internal procedures related to working with confidential information, especially taking into consideration serious measures of responsibility which the draft law establishes for violation of the rules for use of insider information.

None the less, the draft law leaves a whole range of substantive questions open. For example, in the case of acquisition by one or a number of shareholders through a private share sale-purchase transaction of a block of shares in an open joint-stock company of which the shares circulate on the organized market, will the information obtained by the buyer and its advisors during due diligence procedures be considered "insider information"? Under the present version of the law, such a risk is indeed real, and could entail the invalidity of the transaction done using such information.

In many European countries, it does not arise due to the fact that the legislation of these countries allows one to perform transactions to acquire shares in public companies (a public takeover) exclusively via the mechanism of a public offer. Russian legislation on joint-stock companies does not stipulate such a restriction, and similar acquisitions can be done in Russia by concluding private transactions between the buyer and the shareholder(s) in a public company.

In addition to that, the draft law itself contains an indication of the necessity of passing a range of normative bylaws (for example, regulating the procedure and terms for disclosing insider information by management companies, goods manufacturers, and rating agencies). Thus, the law-making work in this area will apparently continue even after the law takes legal effect."

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