- information about intermediate steps taken in the context of a protracted process leading towards a future event or circumstance can be precise, and therefore “inside information”; and
- a “reasonable expectation” that an event will occur means that there is a realistic prospect, not a high probability, that it will occur.
Importantly, the Court has rejected the suggestion, made by Advocate General Mengozzi in his original opinion, that the standard of proof to establish a ”reasonable expectation” that an event would occur would vary depending on the magnitude of the effect of the information on share price. The Court’s conclusion on this issue is welcome – such an interpretation would have placed a significant burden on those within issuers who are responsible for controlling inside information.
Following a general meeting on 6 April 2005, Mr Schrempp, the CEO of Daimler AG (“Daimler”) was thinking about tendering his resignation prior to the expiration of his term of office in 2008. On 17 May 2005, he discussed his intentions with the Chairman of Daimler’s supervisory board. Between 1 June and 27 July other members of the Supervisory Board and the Board of Management were told of his plans to resign. From 10 July 2005, Daimler began preparing a press release, an external statement and a letter to employees. On 18 July, the CEO and the Chairman agreed to propose Mr Schrempp’s retirement and the appointment of his successor at a Supervisory Board meeting scheduled for 28 July. On 27 July, the Presidential Committee decided to propose that the Supervisory Board should approve both the early resignation and the successor’s appointment at the meeting the following day, which the Supervisory Board duly did. BaFin was notified, and an announcement made, within 15 minutes of that meeting. The price of Daimler shares rose on the announcement. Mr Geltl, and other shareholders who had sold prior to the announcement, took proceedings for damages, claiming that the announcement should have been made earlier.
The first instance court held that the information was not “inside information” until the Supervisory Board took its decision and that the information had been disclosed promptly. That decision was quashed by the appeal court which referred the matter back to the first instance court. The first instance court then dismissed the claim for damages, finding that between 17 May and the decision of the Supervisory Board, there had been no “inside information” that the CEO had told the Chairman of the Supervisory Board that he intended to retire – because that the various intermediate steps which led up to the Supervisory Board’s decision could not be regarded as sufficiently probably in the eyes of a reasonable investor. The first instance decision was appealed.
The German Court of Appeal referred the matter to the ECJ for a preliminary ruling on the interpretation of Article 1 point 1 of the Market Abuse Directive (MAD) and of Commission Directive 2003/124/EC (Directive 2003/124).
The provisions being interpreted
The questions referred sought clarification on when a piece of information is of a precise nature.
Article 1 (1) of MAD relevantly provides that “inside information” shall mean information of a precise nature which has not been made public, relating, directly or indirectly, to one or more issuers of financial instruments or to one or more financial instruments and which, if it were made public, would be likely to have a significant effect on the prices of those financial instruments or on the price of related derivative financial instruments.
Article 1(1) of Directive 2003/124 elaborates on the MAD definition by providing that information shall be deemed to be of a precise nature:
- if it indicates a set of circumstances which exists or may reasonably be expected to come into existence or an event which has occurred or may reasonably be expected to do so; and
- if it is specific enough to enable a conclusion to be drawn as to the possible effect of that set of circumstances or event on the prices of financial instruments or related derivative financial instruments.
Steps in a process
In applying Article 1 point 1 of MAD and Article 1(1) of Directive 2003/124 to determine if information is “inside information”, in respect of a process intended, over the course of a number of intermediate steps, to bring about a particular set of circumstances or to give rise to a particular event (‘a protracted process’), the Court was asked whether account should be taken:
- only of whether that future set of circumstance or future event is to be regarded as precise information within the meaning of those provisions, with the consequence that it is necessary to consider whether that future set of circumstances or future event may reasonably be expected to occur, or
- in the case of a protracted process of that kind, intermediate steps which have already been taken and which are connected with bringing about the future set of circumstances or future event can also constitute precise information for the purposes of the above provisions of the directives?
In its judgment delivered today, the Court confirmed that, in the case of a protracted process intended to bring about a particular circumstance or to generate a particular event, both the future circumstance or future event could be regarded as precise information, and also the intermediate steps of that process which are connected with bringing about that future circumstance or event. An intermediate step in a protracted process may in itself constitute a set of circumstances or an event in the meaning normally attributed to those terms. This interpretation holds true for those steps which have already come into existence or have already occurred, and also for steps which may reasonably be expected to come into existence or occur.
The Court stressed that any interpretation which disregarded such intermediate steps would risk undermining the objectives of the directive, which are to protect the integrity of the EU financial markets and to enhance investor confidence in those markets, which depends on investors being placed on an equal footing and protected against the improper use of inside information.
A ruling that information relating to an intermediate step in a protracted process was not information of a precise nature would mean it would not need to be disclosed, even if the information was quite specific and even though the other elements making up inside information were also present. That could then mean that parties who possessed that information would have an advantage over other investors and could profit from that information, to the detriment of those who were unaware of it.
The Court noted that to categorise information about these intermediate steps as precise, it would also be necessary to establish that the information was specific enough to draw a conclusion as to the possible effect of the set of circumstances or the event in question on the price of the financial instruments in question.
Assessing probability of occurrence
There are divergences between the various language provisions of article 1(1) of Directive 2003/124, which may in part account for the intervention of the Belgian, Czech, Estonian, Italian Portuguese and UK Governments in the proceedings. The Court therefore took into account the need to give the various language versions a uniform interpretation, and in the case of divergence, to interpret the provision by reference to purpose and general scheme of the relevant legislative provision.
The use of the adverb “reasonably” (in all but the German version) meant that the assessment needed to be made on a case by case basis of the relevant factors existing at that time. The Court held that the term “may reasonably be expected” refers to future circumstances or events from which it appears, based on that overall assessment, that there is a realistic prospect that they will come into existence or occur.
It was not necessary that there be a “high probability” of the circumstances or events coming into existence or occurring, although the occurrence should not be implausible.
Should the test of probability vary depending on the significance of any potential price effect?
The Advocate General had argued that where the information would have a significant price effect, it would be “precise” (and thus “inside information”) if the occurrence of a future set of circumstances or event was merely “not impossible” or “improbable”.
The UK Government submitted observations to the Court on this point, arguing that information relating to an unlikely event could have a significant effect on the price of the relevant financial instruments because the consequences of that event might be so significant, but this did not mean that the event was any more likely to occur.
The Court had little difficulty in concluding that the required probability of occurrence of a set of circumstances or an event should not vary depending on the magnitude of their effect on the price of the financial instruments concerned. It stressed that the two elements set out in Article 1(1) and (2) of Directive 2003/124 are not co-dependent – they must each be satisfied in order for information to constitute “inside information”.
P.S. Musings on disclosure to Mrs Schrempp
Unsurprisingly, since it was not one of the questions referred to it, the Court’s judgment makes no reference to the CEO’s disclosures to his wife – to which we referred in our previous post. If the CEO continued to discuss his resignation plans with his wife, at some point in the protracted process (well prior to the Board’s acceptance), he would be disclosing inside information to her in breach of Article 3(a) of MAD.
The UK’s FSA not infrequently sanctions individuals for improper disclosure of inside information, whether or not that information is subsequently dealt on. It seems that other European regulators may have less appetite for taking enforcement action for improper disclosures alone.
In the French AMF’s enforcement decision in respect of Allianz Global Investors France et al, for example, the AMF does not appear to have sanctioned Mrs X, an analyst, for improperly disclosing to Mr Y inside information about a Saint Gobain bond issue on which she had been pre-sounded, even though it brought a case against Mr Y (but accepted that he had not in fact “used” the information).