I’ve been meaning to put aside a section of the blog for regulatory topics. There is a lot of misconception in the smaller cap investment community around certain FCA and Stock Market rules. Some of the rules around Statutory Director Dealings, Prompt Release of Inside Information and Notifications of Substantial Shareholder Interests can be complicated and hence are frequently misunderstood amongst retail investors.
I’ll start by covering Director Dealing, prompted by a twitter debate yesterday I had with a few people on this topic.
When Can Directors Buy and Sell Shares?
Directors, like any other shareholders must comply with Market Abuse Regulation (MAR) 1.3.2 on inside information. This regulatory mandates that Persons Discharging Management Responsibility (PDMRs) i.e. the company statutory directors in this context cannot deal when they are in possession of price sensitive information, i.e. information that when released to the public is likely to have a material impact on the share price of the stock in question. A period of time when Directors are prohibited from dealing is referred to as a ‘closed period’.
On top of this ‘catch all’ the EU Market Abuse Regulation (MAR), Section 19 goes a step further to explicitly state that PDMRs cannot deal in the period of 30 calendar days before the announcement of interim financial results or a year end results. This is referred to as the MAR closed period. Taking the AIM market for example, companies need to publish a half year financial report within 3 months of the half year period ending and the final results within 6 months of the end of the full year. It is worth noting that the full annual report does not need to be published on the same day, the closed period can end on publication of the final results statement, assuming no additional material information will be produced in the annual report which is not included in the Final Results statement.
Let’s take a look at how this affects AIM companies specifically now. The rules prior to the adoption of EU MAR from summer 2016 were actually 60 days, so the MAR actually relaxes the closed period requirement relating to release of financial information somewhat. AIM companies as part of AIM rule 21 are though also now required to have in place at all times a dealing policy which must also specify the company’s closed periods. This dealing policy though is not required to be published publically by the company and therefore it may not always be clear whether the company is in a closed period of not.
What director deals should be disclosed to the market? When should disclosure take place?
The EU MAR sets out all the requirements, but the core requirements are the PDMR’s Name, Position within company, Volume and Value of shares. Disclosure is only required for transactions in aggregate over EUR 5,000. This does not mean PDMRs are free to deal though during closed periods, it is just that no disclosure is required for dealing below EUR5,000 in aggregate.
The PDMR must disclose to the company within 3 business days of the transaction, and the company must disclose on the same terms. I.e. if the PDMR discloses to the company after 1 business day then the company has a further 2 business days to disclose.
Do these rules apply to other instruments, such as debt or options? Are there any other exceptions?
Debt and other financial instruments are within scope, as is the lending or pledging of existing shares. Section 19 (12) of the EU MAR does make two important exceptions, 1) if the director needs to make a sale due to financial distress and 2) ‘participation of employee share saving schemes and qualification or entitlement of shares’.
Point 2 from the MAR is not prescriptive, unlike the Model Code which was the UK precursor to these rules. There is some good commentary from lawyers Stephenson Harwood on topic though. The understanding from SH is as follows:
- Grants of options/awards of shares will be prohibited in a MAR closed period
- MAR sets out certain circumstances in which the issuer may permit options to be exercised during closed periods. These include the situation where the option would lapse, if not otherwise exercised, during the MAR closed period, provided the option holder has given at least 4 months’ notice of the intention to exercise.
The view seems to suggest that Point 2 above concerns the joining of an employee share scheme rather than anything that could be considered ‘dealing’. In summary share option cannot be exercised nor transferred during a closed period.
Worked Example – URU Metals
The example I debated on twitter related to the exercise of share options by URU Metals CEO John Zorbas and the belief that an insider can exercise share options during a closed period. For information, the value of the transaction was £60,000 or 0.38% of the share capital of the company. Prior to the announcement Zorbas owned 3.6% of the company, so this takes his holding above 4%.
Firstly to establish is this considered a director dealing? Yes, this is the exercising of share options and as noted above is to be considered as dealing. The director cannot therefore deal during a closed period. However it is stated that:
The existing options expire on 23 May 2017.
This could mean the options could lapse if a closed period occurs, (i.e. the directors have inside information, remember this has to be price sensitive) between today, the 20th April and the next four weeks, i.e. 23rd May. The only exception which would allow the exercising of these options during a closed period is if four months notice had been given by the director. The RNS though states:
Mr Zorbas has informed the board of his intention to exercise his existing options today. (19th April 2017)
I therefore conclude based on the content of the RNSs that the company is not in a closed period and the CEO is privy to no inside information not yet released to the market. John Zorbas is therefore able to exercise his options.
Let’s just beat this to death though – lets look at mandatory closed periods regarding the publishing of the financial statements, I.E. MAR Closed periods; the company has a year end date of March 2017, it therefore must publish its final accounts by September 30th 2017, so assuming like last year URU publishes on the deadline, the closed period then would start from Sept 1st 2017. URU may decide to publish the final results earlier, but we can safely assume there is not a closed period at time of writing, i.e. April 2017. The Half year report for the period for September 2016 was published within the deadline here in December 2016. This rules out a MAR closed period.
What are the general implications for Directors of MAR?
In general it can be very difficult for Directors to be able to buy or sell shares in the open market or exercise share options. This may be particularly true for rapidly growing companies, those who report quarterly or those where lengthy material commercial negotiations are taking place. The simple reason is that the company may be in a closed period for very long periods of time in all of those scenarios. This is why you will often only see director deals popping up straight after results are issued or after other material RNS.
What can shareholders read into Director buys and sells?
Director Buys can be both a buy and sell signal. Small director buys are frequently ways to spoof the market. It is worth considering the context, clearly a £10,000 purchase for a director earning £200,000 is minor but this does not necessarily mean it is a spoof, but if the company is cash strapped then it could be a spoof to support the share price into an equity raise.
Director Sells can be a sell signal, if a director with his/her knowledge of the company wishes to sell then you could read this as a vote of no confidence. Small sells though are often made to settle tax liabilities, particularly if the director is issued and exercises options at the same time. If the company reaches an all time high and the directors start to make material sales then the story could be different of course.
Directors cannot deal in the shares, exercise options or other financial instruments in the companies where they are board members during a closed period.
Director buys and sells outside of this period are not automatic buy or sell signals to other shareholders and should be taken in the broader context of the situation with the specific company concerned.