Unlike the market misconduct prohibitions in the Corporations Act, the insider trading prohibition does not involve strict liability. There is a very important “knowledge” element which applies and must be satisfied on the balance of probabilities (when a civil penalty is sought) or beyond a reasonable doubt (for a criminal conviction).
A recent Supreme Court of Western Australia decision, R v Farris  WASC 251, has examined this knowledge requirement and explained its relevance to sentencing in the criminal context.
Insider trading carries significant civil and criminal penalties.
- The current maximum civil penalty for an individual is up to $200,000 per contravention and for a body corporate it is up to $1 million per contravention.
- The current maximum criminal penalty for an individual is imprisonment for 10 years and, or in addition, a maximum fine of 4,500 penalty units (currently $810,000) or, if the court can determine the total value of benefits obtained, then three times the value of those benefits.
- The current maximum criminal penalty for a body corporate is 45,000 penalty units (currently $8,100,000), or, if the court can determine the total value of benefits obtained, then three times the value of those benefits or, if the court cannot determine the value of those benefits, then 10 per cent of the body corporate’s annual turnover.
Knowledge of what?
Insider trading is prohibited by Division 3 of Pt 7.10 of the Corporations Act.Pursuant to section 1043A(1), insider trading occurs where a person trades in shares or other financial products while in possession of “inside information”. Significantly, it is a requirement of the mental element of the provision that the person must have known, or ought to have known, that the information was “inside information”. Section 1042A defines “inside information” as information which is:
- not generally available; and
- if the information were generally available, a reasonable person would expect it to have a material effect on the price or value of financial products.
In R v Farris, the defendant director of a public company pleaded guilty to possessing inside information and procuring another (a company of which he was the sole director) to sell shares in the company. He also admitted that he “ought to have known” that the information was inside information. That admission was sufficient for him to be found guilty of the offences. However, the prosecution did not accept that the defendant did not know the character of the information and sought to have him sentenced on the more serious basis that he did in fact know the character of the information. This is because where an offender knows the character of the inside information, he or she is more morally culpable than an offender who does not know that character, as the existence of actual knowledge is an aggravating factor relevant to assessing sentence.
The defendant disputed having actual knowledge of the character of the information at the relevant time of the conduct because, at the time of the sale, he was not “consciously aware” that it was inside information and the circumstances or results of his conduct.
The defence argued there was a distinction in the relevant provision between what a personknows at a particular time and what the person may be consciously aware of at the relevant time – relying upon Criminal Code cases - and that the defendant did not have the relevant knowledge in the sense of being consciously aware of it at the time he placed the relevant order to sell his shares.
Hall J rejected the defence’s interpretation of the provision, holding that the element of knowledge related to the circumstance of possession of information, not the offender’s conscious awareness.
That is, if a person possesses information that he or she knows is not generally available and is price sensitive, then the prohibition on trading will apply whether or not they consciously bring to mind that information and its nature at the time they make a decision to trade in the relevant financial products. Hall J held that the reason for the alternative between “knows” and “ought to know” is not to deal with lapses of memory or a failure to recall the true nature of the information possessed at the time of dealing. Rather, the reason is to deal with the situation where a person possesses inside information and fails to appreciate that it is not generally available or price sensitive, where the objectively available circumstances should have led them to that conclusion.
The element of actual knowledge in this case was therefore established. The prosecution had proved beyond reasonable doubt that the defendant both possessed the inside information and knew that it was inside information prior to procuring the sale.
Why is this case important?
This case serves as a reminder that there is an important mental element to the insider trading prohibition which must be established in both the civil and criminal contexts.
It is not enough to simply “possess” inside information. The person must also have known or ought to have known that it was inside information. However, knowledge does not require “conscious awareness” of the consequences of their actions at the time of dealing. Knowledge that the information was sensitive and not generally available is sufficient.
This case also serves as a reminder that in determining both criminal and civil penalties for insider trading breaches a Court may take into account:
- whether actual knowledge of the character of the information can be proven; and
- whether a person who trades in shares or other financial products while in possession of “inside information” deliberately sought to take unfair advantage of the information. If so, that person may be considered more “morally culpable” than a person who, whilst prohibited by s1043A(1) from trading because of the inside information they possess, had legitimate and pressing reasons for selling their shares or other financial products.