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New Zealand Securities Commission |
Last Updated: 10 November 2014
INFORMATION CONTROL IN MARKET PARTICIPANT
FIRMS
REPORT OF AN INQUIRY INTO TRADING IN THE SHARES OF WRIGHTSON
LIMITED IN JUNE 2004
14 November 2005
TABLE OF CONTENTS
This report concerns activities of ABN AMRO Craigs Limited, an NZX Firm,
during a takeover offer in 2004. The firm, acting for the
offeror in the
takeover, received non-public information that a substantial security holder
intended to accept the takeover offer.
It passed this information on to two
other NZX firms, and to its own client advisers, before the information was
released to the
market.
2.
The Commission's inquiry into this matter arose from a complaint by Wrightson
Limited, the company which was the subject of the takeover.
The inquiry began as
an investigation into possible insider trading. However, evidence provided in
the course of the inquiry raised
serious issues of market conduct.
3.
The inquiry did not identify any case of insider trading because none of the
entities who received potentially price sensitive information
fell within the
definition of "insider" in the Securities Markets Act 1988.
4.
The Commission considers that the decision by ABN AMRO Craigs Limited to
distribute non-public and potentially sensitive information
about the takeover
to select firms and to its client advisers ahead of the market being informed
was inappropriate and was not required
by its client mandate. Selective
disclosure of information in this way, while not unlawful, is not acceptable
practice on the part
of a market participant.
5.
This case illustrates the need for all market participants to have robust information controls (Chinese walls), for two reasons:
The inquiry highlights that it is not only necessary for market participants to have policies and procedures in place, but also to ensure that persons handling non-public and price sensitive assignments are aware of and adhere to these procedures.
The Securities Commission has conducted an inquiry into the trading in shares
of Wrightson Limited ("Wrightson") on the morning of
18 June 2004. This inquiry
focused on events surrounding and following the disclosure by Marathon Asset
Management Company Limited
("Marathon") to ABN AMRO Craigs Limited ("Craigs") of
its intention to accept a takeover offer for shares in Wrightson made by Rural
Portfolio Investments Limited ("RPI").
7.
The matter before the Commission arose from a complaint by Wrightson.
Wrightson was of the view that knowledge about the intended
acceptance of the
takeover offer by Marathon may have been available to some market participants
and investors before it was generally
available. Wrightson considered that this
was the reason for very heavy trading in shares of Wrightson on the morning of
18 June,
and for the trading halt by NZX in shares of Wrightson between 11.17
a.m. and 2.38 p.m. on that day.
8.
Wrightson requested that the Commission investigate whether there may have
been insider trading or tipping in terms of the Securities
Markets Act
1988.
9.
The Securities Commission has a function under section 10 (c) of the
Securities Act 1978 to keep under review practices relating to
securities, and
to comment thereon to any appropriate body.
10.
The Commission is authorised by section 28A of the Securities Act 1978 to publish any report or comment made by it in the course of the exercise of its functions under section 10 (c).
The Commission's inquiry began as an investigation into possible insider
trading. The inquiry concluded that no questions of insider
trading liability
arose, but the evidence provided in the course of the inquiry raised serious
issues of market conduct.
12.
The matters under review raised issues relating to securities law and market practice upon which it is appropriate for the Commission to comment. The Commission has decided to comment by way of this report.
Procedure
13.
The Commission determined the procedures for the review. Trading data in
shares of Wrightson was received from NZX for 18 June 2004.
The inquiry focused
on trading in the morning, prior to the trading halt.
14.
Trading information was sought from brokers who showed any significant trades
in Wrightson shares on the morning of 18 June.
15.
Each of these brokers provided a written statement containing information about:
16.
The Commission received additional evidence by written statement from RPI,
Craigs and Marathon.
17.
After reviewing the information the Commission circulated a draft report to affected parties and invited and considered submissions from them.
PART 2 - REVIEW OF EVENTS AND SHARE TRADING
Background
Chronology of events in the takeover bid for Wrightson by
RPI
18.
On 20 April 2004 RPI lodged a formal notice with Wrightson of a partial
takeover offer for shares in Wrightson. This was a code offer
under the
Takeovers Code.
19.
The conditional partial takeover offer was at $1.50 per Wrightson share, and
was for sufficient shares to take RPI's control of voting
rights in Wrightson to
50.01 percent.
20.
RPI appointed Craigs as its advising broker for the takeover
offer.
21.
RPI is owned 50 percent by Aorangi Laboratories Limited (the investment
vehicle of the McConnon family) and 50 percent by MCN Rural
Investments Limited
(the investment vehicle of the immediate family of Mr Craig Norgate). The
company was formed in 2003 to invest
in Wrightson and as a vehicle for other
agribusiness investments. The directors of RPI are Mr Baird McConnon (Chairman)
and Mr Craig
Norgate (Managing Director).
22.
As at the time of the takeover offer RPI had acquired its shareholding of approximately 13 percent of Wrightson in two principal tranches:
23.
On 22 April 2004 Wrightson announced that the Wrightson board had appointed
Grant Samuel & Associates Limited as the independent
adviser to prepare a
report on the merits of the partial takeover offer from RPI in accordance with
the Takeovers Code.
24.
On 13 May 2004 the board of Wrightson recommended shareholders not accept the
partial takeover offer from RPI.
25.
On 19 May 2004 RPI sent a letter to Wrightson confirming an extension of
RPI's offer period to 5.00 p.m. on 9 June 2004. Other than
the extension of the
offer period, all other terms of the offer remained the same.
26.
On 1 June 2004 the takeover offer by RPI for shares in Wrightson was
increased by 15 cents per share to $1.65. RPI extended the closing
date to
Wednesday 23 June 2004.
27.
On the same day the board of Wrightson recommended shareholders not accept the revised partial takeover offer from RPI of $1.65 per share.
Market developments on the morning of 18 June 2004
28.
At the time of the takeover offer Marathon held approximately 8 per cent of
Wrightson shares. Marathon had been a substantial security
holder of Wrightson
since April 1997.
29.
On the morning of 18 June there was significant trading in Wrightson shares,
with 632,270 shares traded between 10.00 a.m. and 11.17
a.m. This compares to an
average daily volume of around 390,000 for the first 4 days of that
week.
30.
At 11.16 a.m. (New Zealand time) on Friday 18 June Dow Jones issued a news
item that said that a United Kingdom funds manager holding
a 12.2% stake in
Wrightson had decided to accept the offer. The story did not name
Marathon.
31.
At 11.17 a.m. NZX announced a trading halt in shares of Wrightson. The
announcement from NZX said simply that trading was being halted
because NZX
believed that the market may not have been equally informed in relation to the
takeover offer for Wrightson.
32.
At 11.45 a.m. the New Zealand Herald website reported that RPI had
confirmed that Marathon had agreed to sell its 7.9% stake in Wrightson. The
story was sourced from
New Zealand Press Association.
33.
At 2.38 p.m. NZX announced that it was lifting the trading halt. Its
announcement stated that NZX understood RPI had, since the imposition
of the
trading halt, disclosed to the media that RPI believed a substantial security
holder in Wrightson had agreed to sell its 7.9%
shareholding to RPI. The
announcement went on to say that NZX understood the shareholder to be Marathon.
It noted that Wrightson
had not received any formal notification or substantial
security holder notice in relation to Marathon's holding.
34.
At 2.56 p.m. Wrightson announced that RPI had informed it that RPI was not currently required to file a further substantial security holder notice. This announcement noted that RPI had been reported in the media as saying that it had received an acceptance from Marathon, described as a holder of 7.7% of Wrightson.
Price movements in shares of Wrightson on 18 June 2004
35.
The Wrightson share price rose throughout Friday 18 June. The stock had closed at $1.51 or $1.52 every day for the previous week. It closed at $1.52 on Thursday 17 June. The first trade on Friday June 18 was struck at $1.53. The last trade before the trading halt was imposed occurred at 10.49 a.m. at $1.55. When the halt was lifted the stock rose immediately to $1.57, the price at which it closed for the day, the afternoon's trading having risen to a high of $1.59 before falling back for the close.
Complaint from Wrightson
36.
On 21 June 2004 Wrightson announced to the market that it had formally requested the Commission investigate what it believed to be irregular trading in its shares on Friday 18 June 2004. The announcement said:
The apparent disclosure of price sensitive information, and possible
trading on the basis of that information, before it was publicly
available
raises questions about whether there was tipping or insider trading in breach of
the Securities Markets Act.
37.
At about the same time Wrightson's lawyers, Chapman Tripp, faxed a complaint
to the Commission on behalf of Wrightson.
38.
The complaint alleged that Marathon had indicated to RPI that it would accept
its takeover offer, and that information on Marathon's
intentions may have been
available to some market participants and investors before it was generally
available, and that this was
the reason for very heavy trading on the morning of
18 June and for the trading halt.
39.
Wrightson was of the view that information about Marathon's actions or intentions were likely to have been materially price sensitive. Wrightson requested that the Commission investigate whether there may have been insider trading or tipping in terms of the Securities Markets Act.
Findings of the inquiry
Evidence received from Craigs
40.
In its statement to the Commission, Craigs said that it learned from a
telephone discussion with Marathon on the night of 17 June
2004 that Marathon
intended to accept the RPI offer. This was in the course of telephone polling of
the major shareholders of Wrightson.
41.
The submission stated that Craigs advised Mr Stephen Walker, an RPI adviser,
of Marathon's intended acceptance on the evening of 17
June 2004.
42.
Craigs informed the Commission that it also told this news to:
Forsyth Barr and ASB Securities were co-lead
managers to the RPI redeemable preference shares issue.
43.
Craigs told the Commission that it also informed NZX of the information
before the market opened. The Commission understands that
Craigs' representative
tried to contact NZX shortly before the market opened on 18 June 2004. A
voicemail message was left with NZX.
An RPI adviser also tried to contact NZX
staff around that time. It was only after the market opened (around 10.10 a.m.)
that NZX
staff and representatives of Craigs and RPI discussed the issue
relating to Marathon's acceptance. Craigs and RPI representatives
informed NZX
that it was their belief that two NZX firms were aware of Marathon's
acceptance.
44.
Four of Craigs' clients traded in Wrightson shares on the morning of Friday
18 June, prior to the market halt. Of these, three bought
and one sold. Of the
three who bought, the Commission was told that two were informed of Marathon's
likely acceptance by their client
adviser.
45.
Craigs informed the Commission that it does not tape or record communications
undertaken by its staff, so no recordings of these calls
were
available.
46.
The four clients of Craigs purchased 60,000 shares, sold 5,010 shares,
purchased 237,500 shares and purchased 400,000 shares, respectively.
47.
According to the statement received from Craigs two clients had been informed
of Marathon's likely acceptance.
48.
Craigs also stated that the indication from Marathon was discussed with RPI
in a conference call at 9.30 a.m. on Friday 18 June 2004.
In the course of that
call RPI discussed whether it had an obligation to issue a substantial security
holder notice in relation to
Marathon's acceptance. Craigs' understanding of the
position, following the call, was that RPI considered it did not have an
obligation
to issue a substantial shareholder notice (as it had not received
Marathon's written acceptance) and had no obligation to inform
NZX as it was not
a listed entity. Despite this, RPI and Craigs decided it would be appropriate to
inform NZX of Marathon's position.
49.
Craigs further stated that they advised NZX that a large United Kingdom
shareholder had orally indicated an intention to accept the
offer, and that the
information was known to the brokers and parties associated with the takeover
and underwriting process.
50.
In a subsequent letter the legal representative of Craigs informed us:
We are instructed that Marathon did not request or require ABN AMRO Craigs to keep confidential its indication that it would be accepting RPI's offer. While Marathon did indicate that it did not want RPI to use its name in a media statement (because it wished to be seen as impartial in relation to the takeover process) at no time did it ask ABN AMRO Craigs to keep the information confidential from RPI, its advisers or any other person.
Evidence received from RPI
51.
RPI in its statement told the Commission that:
Evidence received from Marathon
52.
Marathon provided a submission stating:
The formal decision to accept the offer was taken on the morning of 17
June prior to the call from Craigs........During the course
of that conversation
[a Marathon employee] stated that he had decided to accept the offer and that he
had already instructed Marathon's
internal corporate actions team to process the
acceptance of the tender offer. No other external parties were notified. During
the
course of the conversation [the Marathon employee] requested that the
information was not released... .
53.
The first public announcement about Marathon's intention to accept the
takeover offer was made on the Dow Jones news service at 11.16
a.m. (New Zealand
time) on Friday 18 June. The initial story said that a United Kingdom funds
manager holding 12.2% stake in Wrightson
had decided to accept the offer. The
story did not name Marathon.
54.
All the other firms contacted, except Forsyth Barr and ASB Securities, state
that they were not aware of the Marathon news until it
was announced at 11.16
a.m.
55.
The managing principal of Forsyth Barr confirmed that he was personally
informed of the news earlier, but has said that he did not
pass on this
information to any person, and that the remainder of his firm first learned of
the likely acceptance from the news media.
56.
The other person who we are told was informed was the managing principal of
ASB Securities. He confirmed that he was advised via a
mobile call by Craigs
while he was attending a conference in Hamilton. He consequently notified his
head of advisory services. The
statement from ASB Securities says that ASB
Securities' managing principal was unaware that this information was not public
knowledge
when he passed it on to the head of advisory services. ASB Securities
informed the Commission that at the time the call was made
to the head of
advisory services, ASB had two orders in its system from private clients to buy
Wrightson shares, and one from its
online service. ASB says that its online
clients do not receive advice, and so it has not investigated this
further.
57.
In respect of its private clients, ASB told us that the orders were received
before the call from the managing principal to the head
of advisory services and
were instructions to buy at the current market price.
58.
The Commission was told that upon receipt of the information from ASB's managing principal, and substantial buying by other brokers, the head of advisory services contacted the client (one client had placed both orders)
to advise him of current market conditions and news that Marathon had accepted the offer.
The client instructed ASB to meet the market price of $1.54 to purchase the
stock. This was done. The two orders amounted to a total
of 7,000
shares.
59.
Shortly after this, the managing principal of ASB was contacted again by Craigs and told that Craigs was in discussion with NZX as to whether there were disclosure obligations. This prompted ASB's managing principal to immediately contact his head of advisory services again to tell him to order all advisers to refrain from talking to any further clients until clarification was received from NZX. The head of advisory services passed on this information immediately and ASB Securities did not execute any further buy orders prior to the trading halt.
PART 3 - MARKET PRACTICE - INFORMATION CONTROL IN MARKET PARTICIPANT FIRMS
Introduction - no insider trading case
60.
Based on the evidence it has about the disclosure of Marathon's intention to accept the RPI offer, the Commission has concluded that:
61.
We do not consider this is a case in which there are strongly arguable
questions of insider trading or tipping within the terms of
Part I of the
Securities Markets Act. Our analysis of the application of the law to this
inquiry is provided as Appendix A.
62.
However, we are of the view that this case raises issues relating to market practices adopted by the firm, in particular the lack of appropriate information control procedures on the part of Craigs.
Information control in broking firms
63.
Many financial services firms offer a number of services to clients,
including advisory, broking, investment banking, corporate finance,
and market
research. The variety of roles that a firm can have makes it essential that
there are good procedures in place for controlling
the flow of information
within a firm, in particular between different business divisions of a
multi-service firm. These information
controls are commonly referred to as
"Chinese walls".
64.
Chinese walls are important in a broking firm for several reasons. One is to
help the firm manage conflicts of interest. For example,
the firm can continue
to provide impartial investment advice about a company in a manner consistent
with its duties to its clients
while its investment banking department is
engaged in a transaction relating to the same company and may be privy to
confidential
information about the company.
65.
In such cases a Chinese wall prevents the confidential information held by
the investment bankers leaking to client advisers. In this
way the firm can
avoid any breach of confidence to the investment banking client, and can manage
any conflicts with duties to advisory
clients that could occur if its advisers
gave advice that was not supported by the confidential information held by the
investment
bankers.
66.
Broking firms should also maintain Chinese walls to control the flow of
material non-public information, and to limit the likelihood
of people trading
on the basis of inside or other non-public information. A firm should do this to
protect itself from legal liability,
and also as a matter of good market
practice.
67.
The importance of the Chinese wall to limit liability is recognised in New Zealand's insider trading laws. The Securities Markets Act, which imposes liability for insider trading, contains specific Chinese wall defences. These are available to a firm that:
68.
Markets operate efficiently when information is fully disclosed. This is best
done through the market announcement platform of the
stock exchange. The
Commission is of the opinion that selective disclosure of material non-public
information represents a poor standard
of market conduct.
69.
In many cases selective disclosure could expose those passing on the information (and, in some cases, also the recipients) to liability for insider trading. Even where it does not, the practice should, in our view, be discouraged as it creates information asymmetries and provides some traders with an advantage over others in the market. It is incumbent upon market participants operating both investment banking and broking activities to ensure this does not occur.
Craigs' information controls in the Wrightson takeover
70.
Craigs was asked to provide information about its role as adviser to RPI in the takeover. The Commission sought information on:
71.
Craigs' solicitors informed the Commission that the investment
banking/corporate finance division was primarily responsible for acting
as
adviser to RPI although the operations and client services divisions also had
responsibilities.
72.
In its submission to the Commission Craigs expressed the view that Chinese wall procedures were not required to be applied to the information received from Marathon. Craigs was of this view because:
73.
In support of this contention, Craigs' solicitors also informed the Commission that Craigs was required by RPI, as part of its mandate, to communicate up-to-date information on the progress of RPI's offer, in particular the level of acceptances, to market participants and the market generally, by all available means including:
74.
Craigs submitted that its actions were fully in accordance with its mandate
from RPI. The Commission was told that an offeror invariably
requires its
broking adviser to communicate information about the progress of the offer in
the course of a takeover.
75.
In respect of the information about Marathon's acceptance, Craigs submitted that RPI specifically required Craigs to communicate this information to its client advisers so that they could advise their clients. Craigs told the Commission that it also:
76.
Craigs said that the steps taken accordingly involved no breach of any duty by Craigs to RPI. According to Craigs there was therefore no requirement for the information relating to any increase in the level of acceptances to be kept confidential on one side of the Chinese wall between Craigs' divisions. Rather, Craigs said it was required by its client (RPI) to communicate the information to its clients.
Information controls - Chinese walls
77.
In the Commission's view, the flow of information between the investment banking/corporate finance division and the client services division of Craigs raises issues relating to the existence, implementation and applicability of Chinese wall procedures in relation to investment banking activities undertaken by market participants.
Did adequate systems exist to address issues relating to information
control and how were these implemented?
78.
Craigs has an Investment Banking Operations and Compliance Manual that
sets out the processes and procedures in which the investment banking/corporate
finance division operates, including the Chinese
wall procedures. The Commission
received a copy of this manual.
79.
This manual recognises the need for Chinese walls within the firm and
requires them to be implemented. The existence of a detailed
compliance manual
with Chinese wall procedures indicates that Craigs has provisions for the
systems and policies expected of any
investment banking firm.
80.
The manual also recognises the several purposes of Chinese walls, setting out the following explanation in its Policy section:
Chinese walls are established management and control structures, policies
and procedures which separate the different business activities
of the Company
and control the flow of information between those activities. These procedures
generally enable the private client
advisory areas of the Company to continue to
engage in transactions or recommend securities even where the corporate side of
the
Company possesses material or confidential information about these
securities or their issuer. These procedures also serve to avoid
the risk that
clients' interests may be prejudiced as a result of conflicts of interest
between the Company and its clients and between
clients
themselves.
81.
The manual goes on to state that the purpose of a Chinese wall is to:
82.
The manual also states:
A Chinese wall can also provide a defence concerning insider dealing and
maximises the Company's ability to take up business opportunities
it is offered.
It is therefore vital to the Company that Chinese wall policies and procedures
are observed strictly.
83.
The Compliance Issues part of the manual indicates the circumstances in which Chinese walls may be used. The section entitled Compliance Issues - Conflicts of interest states:
AAC's Corporate Finance will try to avoid conflicts of interest. Where
conflict does arise AAC's corporate staff must ensure fair
treatment to all
clients by maintaining internal rules of confidentiality, observing the Chinese
Wall policy, by disclosure, by declining
to act or otherwise. If a conflict of
interest emerges during the course of a transaction, Senior Management must be
contacted. The
Corporate department will seek advice from Senior Management as
to how the conflict can be managed.
84.
According to the manual, senior management would decide on how to deal with a situation in which conflict of interests arose. In the current matter Craigs has informed the Commission that it did not consider there was any conflict of interests between RPI's objectives in the takeover and the interests of clients serviced by the client advisory division. Its legal adviser submitted that:
Our client's use of the information was consistent with its obligations to RPI. It was in RPI's interests for ABN AMRO Craigs to keep its other clients informed of market developments in relation to RPI's offer for Wrightson Limited.
Were Chinese wall procedures required to be applied?
85.
As discussed above, Craigs expressed the view that the Chinese wall procedures were not required to be applied to the information received from Marathon as:
(i)
using its network of advisers in its client services division; and
(ii)
providing the regular updates to and receiving them from Forsyth Barr and ASB
Securities, the two brokers described as sub-underwriters
of the preference
share offer.
86.
The Commission considers that Craigs' submission as outlined above is
misconceived in respect of the purpose of Chinese walls. An
important function
of information controls is to manage conflicts of interest. However, this is not
their only purpose. Craigs' compliance
manual explicitly recognises the
importance of Chinese walls to regulate flows of material confidential
information between investment
banking and client advising divisions of the
firm. This is important both as a risk management tool to reduce the chances of
inadvertent
corporate liability for insider trading and, in the Commission's
view, as a matter of good market practice to discourage selective
disclosure of
material market information.
87.
In this case, relevant information about the takeover was given to a few
market participants. This was not consistent with Craigs'
mandate to inform the
market generally of the level of acceptances. It appears to have led NZX to
impose a trading halt on Wrightson
shares.
88.
In announcing the halt to the market, NZX stated:
NZX advises that it has placed a trading halt on WRI securities on the
basis that the market may not be equally informed in relation
to the Takeover
Offer for WRI.
89.
This indicates that the unequal information available in the market
(contributed to by Craigs' disclosure to its client services division
and other
select market participants) may have compromised effective price discovery in
the market. The selective disclosure of this
information appears to have
disrupted the smooth functioning of the market.
90.
Because of the extent of legal risk to which the firm and clients can be
exposed, Chinese wall procedures should be applied to confidential
and
potentially price sensitive information received in the course of investment
banking assignments. Decisions which relate to the
application of the Chinese
wall should be properly documented and communicated to staff involved with these
transactions. For the
same reason the Commission is of the view that market
participants should give a high priority to ensuring that their personnel are
adequately trained in the firm's information control procedures.
91.
Craigs has policy arrangements, set out in its compliance manual, for
ensuring that price sensitive information was not passed between
business
divisions. However, it did not use them. It was of the view that it did not need
to. In the Commission's opinion, this view
was misguided, and the selective
disclosure of the information was poor practice on the part of the firm. The
information should
not have been passed on to selective recipients before it was
released to the market.
92.
The actions of Craigs contrast with the prompt measures taken by ASB Securities to refrain from speaking to additional clients until further clarification was received from NZX about the status of the information, and also Forsyth Barr's decision to not disclose the information about Marathon's intention until this was publicly available. The Commission also notes RPI's efforts to keep NZX informed of the developments in the takeover offer. The Commission is of the view that RPI, ASB Securities, and Forsyth Barr acted appropriately in this matter.
NZX Participant Rules
93.
As an NZX Participant, Craigs must comply with the NZX Participant Rules. The NZX Participant Rules provide guidance on the standards of market behaviour expected of NZX Participants. The NZX website describes the NZX Participant Rules as follows:
The NZX Participant Rules set the standard of conduct required by
participants in NZX's securities markets. The rules are designed
to protect the
interests of investors and market participants and promote market integrity.
94.
Participant Rule 3.23 requires every person who seeks to be designated as a
market participant to provide an outline of that person's
Chinese wall
procedures.
95.
Section 8 of the Participant Rules sets out the general obligations of all market participants and advisers. Rule 8.1.1(b)(ii) states that each market participant and each adviser must at all times:
Refrain from any action, conduct, matter or thing which is, or is
reasonably likely to be a discredit or bring generally into disrepute
NZX, any
Market Participant and/or any Advisor.
96.
All market participants are required to observe "good broking practice". This is defined in the Participant Rules as meaning:
Conduct that is, at the discretion of NZX, in the wider interests of the markets provided by NZX, the New Zealand securities markets and investors and which complies with the spirit and intent of the practices, procedures and requirements as set by NZX in:
97.
The Commission considers that the actions of Craigs' representatives
contributed to a situation where potentially price sensitive
information was
selectively disclosed to Craigs' clients and to a few market participants. This
appeared to create uncertainty in
the market and resulted in NZX having to
declare a trading halt in shares for Wrightson.
98.
The Commission is of the view that NZX acted correctly in imposing the brief
trading halt. Nonetheless, any trading halt may constrain
participants' ability
to execute their investment strategies, particularly during a takeover offer. In
the present case this could
conceivably have adversely affected the interests of
the parties involved in the takeover offer, as well as ordinary investors in
shares of Wrightson. The Commission does not consider that actions such as those
of Craigs which required a trading halt to be imposed
are in the best interests
of the market.
99.
Craigs submitted to the Commission that its actions were not in breach of any specific NZX Participant Rule, Guidance Note, directions, or operational requirements of NZX, and so cannot be considered to be in breach of good broking practice. It relied in this respect on Rule 8.5.1, which states that:
... for the purpose of the Participant Rules, each market participant or
advisor will discharge its Good Practice obligations by meeting
the requirement
of the Participant Rules, any Guidance Notes, directions and/or operational
requirements given from time to time
by NZX.
100.
Craigs submitted also that the selective receipt and disclosure of information is a widespread feature of market practice, apart from a limited range of circumstances in which the law expressly requires uniform disclosure. We have noted already that Craigs' actions in this matter can be contrasted with those of the other two market participants who received this information. We have noted that we do not agree that selective disclosure of potentially material information can be considered to be good market practice. In any event, we note that Participant Rule 8.5.2 states that:
... for the avoidance of doubt, common industry practices and/or
historical practices, especially in areas where no policy statement
has been
issued by NZX, do not necessarily constitute good broking
practice.
101.
It is not for the Commission to interpret the NZX Participant Rules or to express any view as to whether Craigs' conduct in this matter should be considered to be contrary to those rules, and we do not do so. The Commission does consider, in light of the submissions put forward by Craigs, that the actions detailed in this report raise questions under the NZX Participant Rules, including the application of those rules to the use of information controls by broking firms. The Commission refers this report to NZX to consider whether it wishes to take any action in the matter, including by way of providing any policy statement or guidance to market participants concerning the purpose and use of Chinese walls.
The Commission has drawn the following conclusions from its
inquiry.
103.
There was no instance of insider trading or tipping in terms of the
Securities Markets Act 1988. Marathon's intention to accept the
RPI offer was
not information it held as an insider. Since Marathon could not be termed an
insider under the Act, the other persons
who received information about
Marathon's intention also fall outside the definition of insider.
104.
The case raised issues relating to the control of information received by
market participants in the course of corporate finance or
investment banking
activities. Potentially price sensitive information was disclosed by Craigs to
select market participants in the
course of the takeover offer, on the basis of
the firm's corporate finance or investment banking mandate. However, this
mandate in
fact required Craigs to communicate information about the progress of
the offer to market participants and the market generally,
including by using
its network of client advisers. The mandate did not require Craigs to
disseminate information by selectively telling
its client advisers ahead of
notifying the market generally.
105.
Different firms handled the potentially price sensitive information in
different ways. Craigs' decision to release the information
to its client
advisers and to select market participants was inappropriate and poor market
conduct. The Commission is publishing
this report to provide guidance for market
participants reviewing or developing their systems or procedures relating to
control of
potentially price sensitive information.
106.
All entities that receive price sensitive information about listed issuers in
the course of market activities should have effective
Chinese wall procedures
and should use them. Effective Chinese walls can ensure that price sensitive
information remains properly
secured and that this information is not improperly
used to further the objectives of other segments of a business. If it is
essential,
as a part of the investment banking or corporate finance mandate,
that this information is disclosed to persons other than those
directly
associated with the assignment, then that information should be disclosed
through proper market mechanisms rather than by
selective disclosure to a few
market participants.
107.
Where specific and potentially price sensitive information becomes available
it should be disclosed to the market as soon as possible,
including, where
applicable, by way of a substantial security holder notice. If an appropriate
notice or announcement is not yet
ready for release to the market as a whole
(for instance, because the relevant notice is being prepared), then the
information should
not be selectively disclosed by any market participant. This
is so whether the holder of the information is a broking firm, as in
this case,
or any other market participant.
108.
We acknowledge Craigs' submission that it does not appear to have broken any
legal obligations regarding the disclosure of information.
Craigs submitted that
therefore the Commission should conclude only that this inquiry raises the issue
of whether there is a need
for market regulation to prevent the selective
disclosure of material market information. However, we consider the importance
of
Chinese walls, for information control beyond management of conflicts of
interest, is well established in New Zealand and overseas.
It is recognised in
Craigs' own compliance manual. Therefore, this report concerns an example of
poor market practice. Whether this
conduct illustrates any need for further
guidance to be given to market participants is a matter we refer to NZX for
consideration
in light of this report.
109.
We do not see that this case raises immediate law reform questions. New
Zealand's insider trading legislation has been under review
in recent years. A
Bill reforming this area of law is before Parliament. If that Bill is passed in
its current form, insider trading
liability may be incurred regardless of the
source of the information. There will still be a defence to liability where a
body corporate
has Chinese wall arrangements and uses them. With any increased
scope for liability it will be even more important for firms to understand
the
need to have effective information controls and to provide training and support
sufficient to ensure that employees are aware
of and adhere to information
control procedures. Quite apart from this, the Commission is of the opinion that
the market is best
served when it is fully informed, and this is not achieved
through selective disclosure of material information.
110.
The Commission refers this report to the NZX to consider whether it wishes to take any action, including whether to provide any guidance for market participants on information controls and issues of selective disclosure.
APPENDIX A - INSIDER TRADING - APPLICATION OF THE
LAW
1.
The Commission has considered whether questions arise of insider trading or
tipping in terms of Part I of the Securities Markets Act
1988. An outline of the
relevant provisions of the law can be found in Appendix B of this
report.
2.
Liability can be incurred under the law for insider trading or for tipping.
Both require the involvement of an insider of a public
issuer who has inside
information about that or another public issuer.
3.
A number of elements need to be satisfied in order to establish a case of
insider trading or tipping.
4.
This part of the report examines these elements of insider trading and tipping and their application to the events of 18 June 2004.
Inside Information
5.
The first question to examine is whether this case involves any inside information. "Inside information" in relation to a public issuer, defined under the Securities Markets Act, means information which:
6.
The events that are the subject of this inquiry concern a discrete item of
information, namely the knowledge that Marathon intended
to accept RPI's
takeover offer for Wrightson.
7.
It is also worth noting that the liability provisions for both trading and
tipping impose liability on an insider who has inside information
about the
public issuer. These last words are important in this case and are considered
below.
8.
The Commission received a submission from the legal representatives of Craigs arguing that the information received from Marathon was not inside information because:
The elements of inside information and insider trading are discussed below.
Was the information publicly available?
9.
The Commission has previously taken the view that a piece of information should be considered "publicly available" for the purposes of this law only once it is available to participants in the market in which the securities are traded, and probably also to potential participants, those who might act on the information. We have noted that the Securities Markets Act envisages that the degree of disclosure required for the information to be "publicly available" is such that it will be likely to affect the price of the securities of the public issuer (if it is of a price sensitive nature). This effect can only be achieved once there is broad dissemination of the information. This view is consistent with the approach adopted by US courts in considering the phrase "non-public information". This led the Commission, in its November 2000 report on trading in the shares of Fletcher Challenge Limited, to the conclusion that:
In order for information to be given the opportunity to affect prices it
seems sensible that the information must be disclosed to
the market
generally.
10.
Here, during the morning on 18 June, the information in question was known to
Marathon, RPI, Craigs and a number of its employees,
ABN AMRO NZ, managing
principals of two other individual brokers, two clients of Craigs and one client
of ASB, and to NZX.
11.
Given that the information was known only to the few parties mentioned above,
we have no doubt that the information was not publicly
available until, at the
earliest, 11.16 a.m. when the first media announcement was made.
12.
The 11.16 a.m. news report stated:
A UK funds manager, which owns 12.2% on Wrightson Ltd (WRI.NZ), is to accept Rural Portfolio Investments Ltd's partial takeover offer for the New Zealand rural services and supplies company, a source familiar with the deal said on Friday....
This was the announcement made on the Dow Jones news service at 11.16
a.m.
13.
This media report was incorrect as to the extent of the holding of the UK fund manager, and did not name it. RPI told the Commission that the media drew their own conclusions about the name of the fund manager.
Was the information price sensitive?
14.
This is a matter to be determined by expert evidence. We observe there are
preliminary indications that the information may have had
some effect on price.
It may be less clear that the effect should be considered to be
material.
15.
Wrightson shares closed on Thursday 17 June at $1.52. By the time of the
trading halt they were at $1.55. They closed at $1.57, having
spent most of the
afternoon at $1.57 and $1.58, and having briefly touched $1.59. This shows a
movement from close to close of 5c,
a rise of 3.2%, and a maximum movement
through the day of 7c, a rise of 4.6%.
16.
It may be questionable, even before considering other causative factors, as
to whether this price movement is material. In any event
it would be necessary,
independently of the actual price movement, to establish whether the Marathon
information was information
that would, or would be likely to, materially affect
the price of Wrightson shares.
17.
The following events provide some indication of the materiality of this
information:
Decision by NZX to halt trading in shares of
Wrightson
Securities exchanges aim to provide an efficient market place for trading of securities. In the events under review, NZX decided to halt trading in shares of Wrightson with the following market announcement:
NZX advises that it has placed a trading halt on WRI securities on the basis that the market may not be equally informed in relation to the Takeover Offer for WRI.
This seems to indicate that NZX considered the information relating to
Marathon's intention to accept the RPI offer to have certain
pricing value which
if known to all participants in the market would affect their decision to trade
in the shares of Wrightson.
Price arbitrage opportunity becoming more
certain
The RPI offer was priced at $1.65 while the shares closed on Thursday 17 June at $1.52. By the time of the trading halt, they were at $1.55. The price differential provided arbitrageurs an opportunity to buy shares in the market at a lower rate and then lodge these shares with RPI in the takeover offer. However, there was an element of uncertainty as to whether the conditional takeover offer would meet the target of 50% of the outstanding shares of the company. As of the end of 17 June 2004 RPI had lodged a substantial shareholder notice disclosing a holding of 27.555%. The additional information that a substantial shareholder intended to accept the offer made it more likely that RPI would be able to meet its target of 50%. This additional information may have had a pricing value associated with reducing the uncertainty about whether RPI would be able to make the 50% mark.
Was this information about a public issuer?
18.
This question relates to the definition of insider and to the operative words
of the insider trading and tipping provisions of the
law. These impose liability
for trading or tipping by an insider who has inside information about a
public issuer. Arguments have been raised before the Commission1 that information
regarding the intentions of a bidder in a takeover situation may not be
information about the target company. The Securities Markets Act does not
define the term "about the public issuer", nor has the phrase been the subject
of judicial decision.
19.
The argument raised on behalf of Craigs is that the intention of a
substantial security holder to accept a takeover offer is information
about that
person, not information about the public issuer for whom the offer is
made.
20.
The Commission does not consider that the legislation requires such a narrow reading. When this legislation was introduced into Parliament the then Minister of Justice noted that it implemented the recommendations made by the Securities Commission in its 1987 report. That report sets out the Commission's reasoning for an insider trading law based on breach of confidence. The Commission's proposition for insider trading was that liability should be incurred where:
An insider in relation to a company...who buys or sells a security of the
company while he has, by reason of his position as an insider
in relation to the
company, information that has not been published and that would be likely to
affect the price of the securities
if it was published, shall be
liable...
21.
The legislation requires a link between a person and a public issuer in terms
of how the information is acquired. It does not appear
that there was any
intention to impose any substantive requirement on the subject matter of inside
information. Nor would such a
requirement be consistent with the purpose of the
legislation. The Act is concerned with the impact of the information, not with
its subject matter. Whether or not information is inside information is to be
determined by reference to the definition of that term
in section 2 of the Act.
This requires that the information be non-public and likely to affect the price
of securities of a public
issuer. It imposes no limits on the subject matter of
the information. We are of the view that the phrase "about the public issuer"
in
sections 7 and 9 of the Act does nothing more than indicate that liability is
imposed when a person who has inside information
trades in or tips on the
securities whose price is likely to be affected by the information.
22.
As such, the Commission is of the view that information about a decision or intention of a substantial security holder in the context of a takeover can be regarded as inside information about the public issuer that is the subject of the takeover offer, so long as the information is non-public and likely to affect materially the price of the securities.
Insiders
For the purposes of Part 1 of this Act, insider in relation to a public issuer, means-
23.
In this case, information relating to Marathon's intention to accept the takeover offer was relayed in the following chain:
24.
As the law proceeds from the idea that insider trading is a wrong against the
company, all insiders must have a link to the company,
either by virtue of their
position or through the confidential receipt of information.
25.
Marathon was a substantial security holder of Wrightson on 17 and 18 June
2004. If it had inside information by reason of being a
substantial security
holder it would be an insider at that time, under paragraph (b) of the
definition in section 3 of the Act.
26.
Paragraph (c) of the definition says that a person who receives inside
information in confidence from a person described in paragraph
(a) or (b) is
also an insider.
27.
The hierarchical nature of the definition means that it is necessary first to determine whether Marathon was an insider under the definition in the Securities Markets Act.
Was Marathon an insider?
28.
Assuming that the information about Marathon's decision is inside
information, the critical question is whether Marathon should be
said to have
had this information by reason of being a substantial security holder of
Wrightson.
29.
Substantial security holders are included in the definition of insider to
recognise that they can be given preferential treatment
in terms of information
disclosed to them (as opposed to other shareholders).
30.
There is no presumption in the law that a substantial security holder is an
insider. They only become insiders if they have inside
information, and if they
hold this information by reason of being a substantial security
holder.
31.
However, under section 3(2) of the Act, a substantial security holder who has
inside information is presumed, in the absence of evidence
to the contrary, to
have that inside information by reason of being a substantial security
holder.
32.
In this case the information in question originated with Marathon - it was
Marathon's decision to sell. The Court of Appeal in Southern Petroleum v
Haylock & Ors2 discussed the requirement that information be
held by a director or substantial security holder by reason of being such. The
Court
did not lay down any rules for assessing this, but it looked at the
circumstances in which a person came to be in possession of the
relevant
information. On the surface, any information Marathon has about its shareholding
could be seen to arise, ultimately, because
it is a shareholder. This is not, we
think, what the provision is aiming at. It concerns information that is held by
a substantial
security holder that is either obtained from the public issuer or
that is otherwise peculiarly available to it by reason of it having
a
substantial holding. We do not think that Marathon's knowledge of its own
intention could be said to arise by reason of it being
a substantial security
holder (as opposed to simply a shareholder).
33.
That this is correct appears to be supported by other provisions of the
Securities Markets Act. If the intention to sell shares made
every substantial
security holder an insider, the substantial security holder would not be able to
sell without first communicating
its intention to the market. Part II of the
Securities Markets Act sets out the law relating to substantial security holder
disclosure.
It requires every substantial security holder to disclose when their
holding moves by 1% (of the total voting securities of the issuer).
This must be
done as soon as the substantial security holder knows or ought to know of the
change. This could be a redundant obligation
if the insider trading law required
prior disclosure of a substantial security holder's intention to
sell.
34.
Our conclusion then is that while the intention of a substantial security
holder may be inside information, the knowledge of its own
intention will not by
itself make a substantial security holder an insider of a public issuer. This
means that the substantial security
holder can carry out its intention, and sell
its shares.
35.
It follows from this that in terms of the information in question Marathon would not be an insider. We record that we are not aware that Marathon was in possession of any other inside information about Wrightson.
Were Craigs, Forsyth Barr and ASB Securities insiders?
36.
Whether or not Craigs was an insider depends on whether or not it received
inside information in confidence from a person described
in paragraph (a) or
paragraph (b) of section 3(1) of the Act. This reflects the scheme of this
legislation which imposes liability
only on persons who, in addition to having
inside information, have it by reason of a relationship traceable back to the
public issuer.
37.
The information was received by Craigs from Marathon. It was received by ASB
Securities from Craigs. If we are correct that Marathon
is not an insider, then
it is not a person described in paragraph (b) of section 3(1). Therefore,
neither Craigs nor ASB Securities
can be insiders by reason of receiving this
information from Marathon.
38.
We note that in any event Craigs would be an insider only if it received
inside information from another insider in confidence.
39.
We record that Craigs denies this was the case. Craigs' legal adviser informed the Commission that:
We are instructed that Marathon did not request or require ABN AMRO Craigs
to keep confidential its indication that it would be accepting
RPI's offer.
While Marathon did indicate that it did not want RPI to use its name in a media
statement (because it wished to be seen
as impartial in relation to the takeover
process), at no time did it ask ABN AMRO Craigs to keep the information
confidential from
RPI, its advisers or any other person.
40.
We also record that when asked by the Commission, Marathon said:
During the course of the conversation (name of Marathon representative)
requested that the information was not released.
41.
However, as we have concluded that Marathon was not an insider there is no need for the Commission to determine the degree of confidentiality attaching to the information.
APPENDIX B - SECURITIES MARKETS ACT 1988 - PROVISIONS RELATING TO INSIDER TRADING
Inside information - section 2
Inside information in relation to a public issuer, means information which-
Insider - section 2
For the purposes of Part 1 of this Act, insider in relation to a public issuer, means-
Public issuer - section 2
Public issuer means-
Liability of insider who deals in securities of a public issuer - section 7(1)
An insider of a public issuer who has inside information about the public issuer and who-
Liability of insider for tipping about securities of a public issuer - section 9(1)
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