Insider Trading Regulations: SAT Quashes SEBI Order, Says Proximity and Timing Alone Do Not Prove UPSI Was Shared

MUMBAI — The Securities Appellate Tribunal has set aside an order of the securities regulator that found a Mumbai businessman guilty of insider trading on the strength of his friendship with a listed company's chief financial officer and the timing of his trades, holding that proximity and timing, without evidence that unpublished price-sensitive information was actually communicated, cannot sustain a finding under the SEBI (Prohibition of Insider Trading) Regulations, 2015. A three-member bench allowed the appeal on 14 October in Prakash Mehra v. Securities Regulator.

The appellant had bought shares of a mid-cap engineering company in the week before it announced the acquisition of a competitor, and sold them after the announcement at a profit of about ₹1.4 crore. The company's chief financial officer was a college friend with whom, call records showed, he had spoken four times during that week. The regulator held that the friendship, the calls and the timing together established that the CFO had passed on the information, imposed a penalty of ₹2 crore and directed disgorgement of the profit with interest.

"Suspicion, however strong, is not proof," the tribunal said.

The insider trading regulations, in brief

• UPSI (Regulation 2(1)(n)) is information about a company or its securities that is not generally available and would be likely to materially affect the price if it were — results, dividends, changes in capital structure, mergers and acquisitions, and the like.
• An insider (Regulation 2(1)(g)) is a connected person, or any person in possession of or having access to UPSI. Connected persons (Regulation 2(1)(d)) are those associated with the company in the six months before the trade in a capacity that gives access to UPSI, together with the relatives and associates the regulation lists.
• Regulation 3 prohibits communicating UPSI except for legitimate purposes; Regulation 4 prohibits trading while in possession of it.
• Burden of proof. Under Regulation 4(2), a connected person must show that they were not in possession of UPSI when they traded. For anyone else, the regulator must prove possession or access.
• Consequences. Penalty under Section 15G of the SEBI Act, 1992 of ten lakh to twenty-five crore rupees or three times the profit; disgorgement under Section 11B; market restraint; and criminal prosecution under Section 24.

What the tribunal held

1. Not a connected person. The appellant had no association with the company in the relevant period and was not a relative of the CFO. He therefore did not fall within Regulation 2(1)(d), and the reverse burden in Regulation 4(2) did not apply. The regulator had to prove that he possessed or had access to the information.
2. Calls prove contact, not content. The call records established that the two men spoke. They did not establish what was said, and the regulator had neither recordings nor any admission. Friends speak; the regulation requires communication of UPSI, not communication.
3. The trading pattern was not unusual. The appellant had traded in the company's shares on nine occasions in the previous two years, in comparable sizes, and had bought shares of three other engineering companies in the same week. The regulator had not examined that history.
4. Preponderance needs foundations. The tribunal applied Balram Garg v. SEBI, (2022) 9 SCC 425, in which the Supreme Court set aside findings against estranged relatives of a promoter, holding that the standard of preponderance of probabilities does not dispense with proof of foundational facts and that an inference of communication cannot rest on relationship and timing alone. It distinguished SEBI v. Kishore Ajmera, (2016) 6 SCC 368, where circumstantial evidence of synchronised trades between known parties was held sufficient, as a case about the pattern of trades themselves.

Suspicion, however strong, is not proof.

From the order

Why the order matters

Insider trading is proved almost entirely by inference; nobody writes down that they passed on a takeover. Since Balram Garg, the tribunal has set aside a series of orders that rested on relationships and timing without more, and the regulator has responded by widening the definition of connected persons so that more traders carry the reverse burden, and by investing in surveillance that links trades to communications data. The present order draws the line in the same place as the Supreme Court: inference is permitted, but it must start from facts that are proved, and the regulator must engage with the innocent explanation before rejecting it.

What it means

• For the regulator: cases against persons outside the connected-person net need evidence of communication — messages, admissions, a trading pattern that departs from the person's own history, or a chain of trades that cannot be explained otherwise.
• For investors with friends in listed companies: the order is not a licence. A connected person's friend who trades on a tip is liable if the tip is proved, and the proof may come from the insider's side of the conversation.
• For companies: structured digital databases of UPSI recipients under Regulation 3(5), trading-window closures and pre-clearance remain the first line of defence, for the company and for the employees whose calls will be examined.

What happens next

An appeal against the tribunal's order lies to the Supreme Court under Section 15Z of the SEBI Act within sixty days, on a question of law. The regulator's proceedings against the chief financial officer, which were kept pending, will now have to proceed on evidence independent of the finding against the appellant.

The Counsel will report any appeal to the Supreme Court. Anyone served with a show-cause notice under the insider trading regulations should take advice from a qualified securities lawyer before responding.

This report is for general information only and does not constitute legal advice. Readers should consult a qualified lawyer about their own circumstances. Case citations are to The Counsel Reports (TCR) unless otherwise stated.