Out-Law Guide 7 min. read
17 Jul 2007, 4:17 pm
This guide is based on UK law as at 1st February 2010, unless otherwise stated. It is part of a series on the FSA and Securities Regulation.
For a stock market to work efficiently and fairly, two principles must apply: companies need to release relevant information as soon as it is available; and all those who want to deal in shares should have access to the same information at the same time.
Rules to that effect are contained in the FSA’s Disclosure and Transparency Rules (DTR) and apply to companies with a full listing on the London Stock Exchange. The fourth of the FSA’s Listing Principles ensures adherence to the spirit as well as the letter of the DTR: a listed company must communicate information to holders and potential holders of its listed equity securities in such a way as to avoid the creation or continuation of a false market.
The core obligation is set out in DTR 2.2.1: a company must notify the market, through an approved Regulatory Information Service (RIS), as soon as possible, of any inside information concerning the company. AIM companies are under a similar obligation, imposed by rule 11 of the AIM rules.
For something to be classed as ‘inside information’, it must:
The information needs to be specific to the company and there needs to be some certainty to it. Imprecise information, and news that is generally applicable, is not announceable; nor are conclusions or facts that can be gleaned from research or analysis, because any investor (in theory) has access to the same material.
Price sensitivity is crucial to the definition of inside information. A company must ask: would a hypothetical ‘reasonable investor’, out to maximise their own economic self-interest, be likely to use the information in making their investment decision? Information that will usually be considered relevant to a reasonable investor’s decisions includes that affecting:
A commonly used rule of thumb is to say that a price movement of 10 per cent either way is ‘significant’ and so information that is unlikely to move the share price that much is not disclosable. But the FSA is very clear that there is no ‘10 per cent rule’ and that price movements below that threshold can still be significant in particular cases.
Deciding whether information satisfies all these tests and should be announced to the market is often a difficult call for a board to make. The company’s brokers or other financial advisers should always be consulted where there is doubt, particularly when considering the effect on the share price, as they will appreciate the factors likely to influence shareholders. Indeed, the FSA has criticised directors where the brokers’ view has not been sought. Lawyers can help test the assumptions being made and take directors through the relevant definitions.
When an announcement is to be made, a company must take all reasonable care to ensure that any information it releases to the market is not misleading, false or deceptive, and that it does not omit anything that is ‘likely to affect the import’ of the information (DTR 1.3.4). If the decision is made not to announce, the matter should be kept under review and re-assessed as circumstances change.
The FSA monitors large share price movements, and an unexpected rise or fall will commonly result in a ‘please explain’ letter asking for the background circumstances. Professional advice should be taken before replying.
Inside information needs to be released to the market ‘as soon as possible’; a delay of only a few days can be unacceptable (see: Cases on disclosure of price-sensitive information). Where the news is unexpected by the company, such as a natural disaster or a surprise contract loss, a short delay may be permissible to establish the facts. But if, pending the full announcement, there is a risk of a leak of confidential information, a holding announcement should be made, including as much information as is known.
Delay is permitted where public disclosure would prejudice a company’s ‘legitimate interests’. But there are conditions attached to this concession: the company must be sure that it can keep the information confidential and that leaks won’t give some people an unfair advantage over others. Anyone who receives the information in the meantime must be under a duty of confidentiality to the company, whether as an employee, adviser or by specific agreement. And even where confidentiality can be maintained, the lack of an announcement must not be likely to mislead the public.
A company’s legitimate interests will most commonly relate to its financial viability – if it is in negotiations with its banks and fighting for survival, it may be able to hold off announcing that it is having such discussions. But it will still need to disclose the fact that it is in financial difficulty – the exemption only applies to the negotiations, not to the underlying problem.
Where rumours are false or press speculation is groundless, a company is under no obligation to issue denials. Untruths can’t amount to inside information.
But where rumours or speculation are largely correct, the company needs quickly to decide whether it has inside information that should be released. Once news has leaked, delay can no longer be justified, and directors need to ensure that the market is trading on the basis of accurate information that is available to all.
In reaching the decisions described in our Cases on disclosure of price-sensitive information, the FSA has drawn the conclusions below.
In addition, to minimise their exposure to, and the risk of, personal liability, directors need to:
The FSA’s main target in recent cases where there has been a failure to disclose inside information has been the company. But there is also a risk for directors if the FSA considers they were ‘knowingly concerned’ in the breach – the FSA can fine a director ‘such amount as it considers appropriate’.
The Universal Salvage case in 2002 (see: Cases on disclosure of price-sensitive information) suggested that the ‘guilty’ director did not need to have any intention to mislead the market: knowledge of the facts and some involvement in the breach were enough to result in a fine for the chief executive. In the later case of Pace, however, the directors escaped penalties and censure – the FSA seems to have accepted the idea that to ‘be knowingly concerned’ a director must have some awareness that the company is breaking the rules. (Pace is also described in the cases.)
The safest course will always be to make sure you know the rules and assume that absence of bad faith will not be enough to get you off the hook. In this context, Listing Principles 1 and 2 are very relevant:
If the FSA cannot pin a breach of a specific listing rule or DTR on a company or its directors, it has the ability to pursue them for a breach of these listing principles. It can be all too easy, after the event, for the regulator to allege that the breach arose because directors did not understand their responsibilities and obligations, and that adequate systems were not in place for compliance. Ignorance of the law is no excuse.
Is it just the chief executive who is at risk of a fine? The short answer is ‘no’. All directors of a listed company should accept full responsibility, collectively and individually, for the company’s compliance with the rules. Although the FSA decided in the Universal Salvage case that the CEO had a particular responsibility, all directors, executive and nonexecutive, are under a duty to ensure the company complies with its obligations and to bring any price-sensitive information to the attention of the full board as soon as possible. And, as all these cases show, the FSA will take a dim view of the board that does not seek prompt advice from the company’s brokers.
The rest of the board should not simply point to the CEO and expect him or her to take the rap in every case.