Market Abuse Regulation – Number of "persons closely associated" with a PDMR potentially increased by updated ESMA Q&A

In July 2017, the European Securities and Markets Authority (ESMA) issued the sixth version of its Q&A on the EU Market Abuse Regulation (MAR) in which it provided (at Question 7) guidance on the definition of a "person closely associated" with a person discharging managerial responsibilities (PDMR). The City of London Law Society and Law Society Company Law Committees' Joint Working Parties (JWP) on Market Abuse, Share Plans and Takeovers Code has recently updated its own MAR Q&A to reflect ESMA's guidance.

Definition of a PCA

The Market Abuse Regulation (No. 596/2014) (as corrected by corrigendum OJ 2016 L 287/320) (MAR) currently defines a "person closely associated" with a PDMR (PCA) as:

a) a spouse, or partner considered to be equivalent to a spouse in accordance national law (which, in the UK, includes a civil partner);

b) a dependent child, in accordance with national law (which, in the UK, means a child or stepchild who is under the age of 18, unmarried and who does not have a civil partner);

c) a relative who has shared the same household for at least one year on the date of the transaction concerned; or

d) a legal person (such as a company), trust or partnership, the managerial responsibilities of which are discharged by a PDMR or by a person referred to in point a), b) or c) above, or which is directly or indirectly controlled by such a person, or which is set up for the benefit of such a person, or the economic interests of which are substantially equivalent to those of such a person (Article 3(1)(26)).

Interpretation prior to ESMA's updated Q&A

The interpretation of the reference to discharge of managerial responsibilities in limb d) of the MAR definition was one of many issues repeatedly raised with, but without response from, the Financial Conduct Authority (FCA) prior to the implementation of MAR in July 2016.

In the absence of any such guidance, many issuers interpreted this reference in line with the approach suggested by the JWP, which was itself based on the previous interpretation of who or what constituted a PDMR's "connected person" under the former market abuse regime (as set out at Q24 in the FSA's Market Watch No.12).

Under that interpretation, where a PDMR of an issuer also discharged managerial responsibilities in a legal person, trust or partnership (Second Legal Entity), the Second Legal Entity would only constitute the PDMR's PCA for the purposes of MAR, by reason of such discharge, if the PDMR was solely responsible for its management decisions. In the context of a company, sole responsibility for management decisions contemplates situations where the PDMR is the sole director of the Second Legal Entity (or has the right to appoint a majority of its board) or where the PDMR is a director or senior executive of that Second Legal Entity and has personal control over management decisions affecting the Second Legal Entity's future developments and business prospects.

ESMA's guidance

The guidance issued by ESMA in July 2017 addresses directly the interpretation of discharging managerial responsibilities in the definition of PCA and has moved away from the requirement for a PDMR to have sole responsibility for management decisions. It provides that an ability to take part in or influence the decisions of the Second Legal Entity to carry out transactions in the financial instruments of the issuer in which the relevant individual is a PDMR (Issuer) is sufficient to establish the Second Legal Entity as the PDMR's PCA. The JWP has now updated its Q&A accordingly (see revised answer to Question 7).

Consequences of the ESMA Guidance

This interpretation is likely to impact situations where a PDMR has cross-directorships (or equivalent positions in other entities) and where the conclusion has previously been drawn that the Second Legal Entity does not constitute a PCA on the basis that the PDMR is neither the sole director nor in control of management decisions of that Second Legal Entity. Thus, under this revised interpretation, to the extent that any PDMR is able to participate in or influence management decisions of the Second Legal Entity in relation to transactions in the Issuer's financial instruments (notwithstanding that the PDMR might not have sole responsibility for, or complete control over, such decisions), such PDMR should now be considered to be discharging managerial responsibilities in relation to such Second Legal Entity for the purposes of MAR, resulting in the Second Legal Entity becoming the PDMR's PCA. In turn, this means that if the Second Legal Entity carries out a transaction in the financial instruments of the Issuer at a time when it is the PDMR's PCA, then such Second Legal Entity must (subject to the operation of the €5,000 threshold) notify the Issuer and the FCA of that transaction within three business days of it taking place in accordance with Article 19(1) of MAR.

Notably (and in a manner which may to some extent reduce the immediate practical impact of the revised ESMA guidance), the JWP Q&A states that, in such circumstances, the Second Legal Entity should not be considered to be a PCA unless and until it carries out a transaction in the Issuer's financial instruments. Even then, the Second Legal Entity will only be treated as a PCA if the PDMR concerned took part in or influenced the decision to undertake the transaction. To avoid the Second Legal Entity becoming a PCA in this way, the PDMR should not vote on, participate in any discussion in relation to or otherwise influence any decision of the Second Legal Entity to carry out a transaction in the Issuer's financial instruments. The JWP states that it should be sufficient for these purposes for the PDMR to recuse him/herself from any board meeting discussing or relating to the Issuer, unless on the specific facts of the case the PDMR otherwise exerted an influence over the decision.

The meaning of "control"

The JWP also states that as there is no definition of "control" in MAR, the reference to that term in the definition of a PCA should be given its ordinary meaning of a majority of the voting rights of the entity. Thus, if a PDMR owns 60% of an entity, this would make that entity a PCA of the PDMR even if the PDMR does not take part in or influence any decision to carry out a transaction in the financial instruments of the Issuer, since the test by reference to control is independent of the test by reference to discharging managerial responsibilities.

Actions to take

Given that MAR obliges an issuer to draw up a list of all PDMRs and their PCAs, and the obligations of a PDMR to notify his or her PCAs of their duties under MAR, issuers and their PDMRs should now consider revisiting their PCA analysis in respect of cross-directorships (and other relevant positions) to assess whether the July 2017 ESMA guidance and the updated JWP Q&A impact their original conclusions as to the status of any Second Legal Entity. Internal procedure manuals and share dealing codes relating to MAR compliance may also require review.

In accordance with the updated JWP Q&A, PDMRs who have cross-directorships (and equivalent positions in other entities) should also consider (potentially as part of any periodic refreshing of a s.175 Companies Act 2006 conflict of interest authorisation exercise) refraining from taking part in any decisions by a Second Legal Entity to transact in financial instruments of the Issuer (and any related discussions). This should act so as to remove them from all such decision-making processes and thereby ensure that they do not satisfy the definition of discharging managerial responsibilities (as interpreted by the revised ESMA guidance and the updated JWP Q&A) in any relevant Second Legal Entity.