ASIC yesterday released a consultation paper1 seeking feedback on proposed best practice guidelines on the handling of confidential information. ASIC has, over the course of 2009, focused on the handling of confidential information, primarily in the context of capital raisings and mergers and acquisitions. To understand market practice in relation to the handling of confidential information, ASIC sought the views of companies and advisers in the preparation of its consultation paper. The best practice guidelines focus on:

  • the processes that companies can adopt to keep their information confidential
  • the processes that companies can adopt when providing confidential information to advisers and the expectations that they should have of their advisers in relation to confidential information, and
  • the approach that companies and their advisers should take to sounding the market.

While the consultation paper deals with various aspects of dealing with confidential information, of which market soundings is only one, we have addressed market soundings first given its interest to capital markets participants, with our summary of the balance of the consultation paper later in the update.

 Market sounding

ASIC has recognised the importance of market soundings but also the potential for price sensitive confidential information disclosed in market soundings to be misused. ASIC is seeking to ensure that sounding is undertaken in a controlled and formal manner to ensure that confidential information does not leak and that there are no breaches of continuous disclosure or insider trading laws.

The requirements go beyond the level of formality of current market practice for soundings.

The consultation paper focuses on the procedures that investment banks should adopt, however, we consider that the companies involved should be aware of and comfortable with the approach to be taken in any market soundings. In our experience companies are very concerned to ensure that market soundings are conducted appropriately.

ASIC has set out the following practices and procedures:

  1. the company should be informed when the investment bank forms the view it needs to sound the market and the company’s approval should be obtained to do so
  2. soundings should only take place when the market is closed, or the particular stock is in a trading halt, and as few parties as possible should be sounded
  3. a formal script should be adopted detailing the conversation that individual bankers are permitted to have with the institutions approached for sounding
  4. when an institution agrees to become an insider, the institution must also agree to comply with insider trading restrictions before any confidential information is communicated. Following this verbal agreement, the investment banker should obtain written confirmation (e.g. by email) from the institution that it agrees to uphold the confidentiality of the information and comply with insider trading restrictions, and
  5. when an investment bank does not have the approval of the company to sound institutions, it should not discuss with institutions any price-sensitive confidential information in relation to that company.

Our experience is that investment banks already follow procedures substantially similar to those specified above (excluding point 2 which we’ll address below). ASIC’s approach may help to formalise the arrangements for soundings including that institutions who are sounded need to agree in writing to keep information confidential. Whether institutions who are sounded will be comfortable to contract with a company and investment bank to comply with their insider trading restrictions as opposed to simply acknowledging their insider trading obligations at law is an issue that will no doubt be debated in the market having regard to the fact that companies and investment banks do not want to be ‘tipping’ institutions. However, institutions may be uncomfortable taking on an additional contractual liability to third parties beyond their obligations under the Corporations Act 2001 (Cth).

The requirement that sounding may only take place when a market is closed or trading is halted may be impractical having regard to the time period required for sounding and the fact that practically companies may not want to commence a trading halt without the benefit of some soundings, to gauge whether there is support for the offer and sub-underwriting for the investment banks. If the confidentiality obligations for the sounding process are otherwise effective, sounding against a live market should be able to conducted appropriately.

ASIC notes that before market soundings are undertaken the company should ensure it has a good understanding of:

  • the specific institutions the investment bank intends to approach and whether the institutions have appropriate controls for protecting confidential information
  • the timing of any approaches
  • the level of coverage of the book the investment bank requires before committing to the transaction, and
  • which institutions are to be allocated stock.

Our experience is that these are issues that companies want to very clearly understand and agree with their investments banks before the company allows soundings to be taken.

ASIC has proposed that, within 48 hours of sounding, the investment bank must inform ASIC of:

  • the name of all the institutions contacted (and the contact person at each) and whether each of them agreed to be made an insider
  • the time and date that contact was first made with each institution as well as details of when the institution was made an insider or refused to become an insider, and
  • the particular transaction that forms the subject of the sounding.

This proposal needs careful consideration as while, as ASIC states, it may deter sounded investors from misusing information provided in the sounding process it may also result in institutions not participating in soundings as they do not want their involvement detailed to ASIC. This proposal may also deter companies from sounding as they run the risk of needing to inform ASIC of transactions that remain confidential and have failed for legitimate commercial reasons.

Corporate internal policies and procedures

ASIC has emphasised that companies should generally (not just in the context of market sounding) have clear, documented internal policies that establish standards of behaviour and procedures for the handling of confidential information. Many of these procedures will already be in place to varying degrees in many companies and include:

  • limiting the number of people with access to confidential information to those who need to know, and
  • putting in place information barriers and adopting practical policies such as using code names and passwords, classifying the level of confidentiality of documents and only allowing access to such information accordingly and operating an IT system with the capacity for an audit trail as to when and by whom information has been accessed.

Companies should consider maintaining insider lists (and having their advisers assist by doing the same) to enable identification of all people who posses confidential information, to encourage people to take their confidentiality obligations seriously, to limit the unnecessary dissemination of the information and to assist in the investigation of leaks of confidential information.

ASIC has identified the need to investigate leaks and have in place processes to facilitate such investigations. A set investigation process should act as a deterrent, raise awareness of confidentiality obligations and that confidentiality obligations are taken seriously. Companies putting in place such processes will need to be conscious of their obligations to their employees and the rights of their employees in undertaking any investigation.

ASIC has emphasised that policies and procedures aimed at increasing employees’ personal responsibility and focusing their minds on the importance of maintaining confidentiality are to be favoured over more general or undocumented policies—this could include in particularly sensitive transactions having employees enter into individual confidentiality agreements. Such arrangements or general terms of employment should also include the employer’s right to access all communication records. Again, these arrangements will require companies to have regard to their obligations to their employees.

Employees’ personal accountability should also be established through the company having personal account dealing policies such as pre-approval of all trades in the company’s securities and securities of parties involved in the confidential transaction or competitors. We note that ASX is also considering a proposal to amend the Listing Rules to require companies to adopt a trading policy which indentifies the periods when key management personnel are able to trade.2

Arrangements with advisers

Arrangements with advisers should be formalised and support the company’s confidentiality processes. Implicit in ASIC’s paper is that companies should be aware of and be satisfied with the internal processes of its advisers in relation to confidential information.

Advisers should maintain an insider list and provide those details to the company to support the company’s arrangements.

Advisers should enter into confidentiality obligations, potentially in advance of settling other terms of their engagement so that the confidentiality obligations and potentially related issues such as conflicts of interest are in place at or near the start of a transaction. ASIC has noted that these agreements should potentially limit the number of people at an adviser who are informed of the information—this concept of need-to-know comes up a number of times in the consultation paper and seems to reflect a practical appreciation that the fewer people that know confidential information the less likely it is to leak.

ASIC has identified that confidentiality arrangements should be in place prior to ‘beauty parades’ and emphasised that where practicable the number of people aware of the confidential transaction and specific confidential information should be minimised. Individual advisers could be required to enter into confidentiality agreements.

A suggestion for those companies which are active in the capital raising or mergers and acquisitions market and regularly use investment banks and other advisers is to have in place standing umbrella agreements with investment banks dealing with issues such as confidential information which apply to any engagement to set the basic parameters and which can be supplemented as required for particular transactions.

Advisers should have in place personal account dealing procedures, which in our experience all of the investment banks and larger professional services firms do. It may be that companies will want to understand these arrangements as part of their engagement of advisers.

Advisers should be willing to assist the company in leak investigations and may well report back to the company in relation to any internal investigation even if the company has not undertaken an investigation.

ASIC acknowledges that there are a range of issues that advisers otherwise need to address as part of their overall obligations as financial services licensees and professional advisers with duties to their clients.

Submissions on the consultation paper are due to ASIC by 21 February 2010