Material nonpublic information is privileged information that is not accessible to the public. This information can be manipulated or misused by market participants when investing or trading stocks of a public company. Since the information is not widely available, those who have it have an edge over the rest of the market. Therefore, insider information can be used to take unfair advantages before it is made public. Leaked material nonpublic information allows some market participants to have a black edge.
In most cases, material nonpublic information is leaked through a company’s insider employee or executive. It can also be used by insiders to trade, knowing that when that information becomes public the stock price should react, either going up or down.
What is Material Nonpublic Information?
Material nonpublic information refers to information that has not yet been made public by a company. Oftentimes this information has the potential to influence the share price. Due to the nature of this type of insight, insiders or anyone close to them is not allowed to trade stocks based on unknown information. This is because it represents a great advantage over other market participants.
Nonpublic information is also called insider information. It is held by the employees and stakeholders of a company. It is illegal for any person to use or share insider information to take unfair trading or investment advantage.
Material nonpublic information may get used intentionally or unintentionally. When used intentionally, it is usually due to one insider or several that either used the information for their own personal benefit or ended up leaking the information to other market participants.
When used unintentionally it could signal that the company is not enforcing compliance in a disciplined way. Therefore it may happen again if the right procedures are not in place to prevent this type of situation. Either way, the use and sharing of such insider information are illegal.
Common examples of material nonpublic information
Insider information can take various forms. However, in this context, it is the nonpublic information that can influence the stock price of a company.
Some common examples of insider’s information include:
- Information on financial statements that is nonpublic yet, particularly earnings.
- Significant information about legal or regulatory proceedings.
- A company’s plan about a potential merger, acquisition, takeover, divestment, and so on.
- A change in the top management, the resignation of a director, joining, and so on.
- Information on assets or liabilities.
- Any Information about significant covenant default or a new credit facility.
- Information about new product development, license, patent, and trademark.
- Significant developments on research and development projects.
The list can be exhaustive depending on the industry and size of a business and the impact that the leaked information can create. It is important to understand that material nonpublic information can be related to several aspects of the business.
Materiality is an important aspect of insider information. Generally, information will be material if it can have an impact on an investor’s decision regarding a particular security. Another way to analyze the materiality of information is the impact it can create on security itself. If the nonpublic information revealed could otherwise affect the share prices of a company, it is said to be material.
Other key elements of materiality can be analyzed based on the specificity of information. Reliability and credibility are also important aspects to consider. Similarly, the nature and the impact it can create contribute to the materiality aspect as well.
Some information may be important but may not affect the share prices of a company. Or it may not have the potential impact that it wouldn’t be considered material information.
Defining nonpublic information
Information regarding a company is nonpublic unless it is disclosed widely and made available to the market. The information can be made public using the internet, press, media, and publications.
Some companies also disclose selective information to particular investors or groups. Although debatable, such acts are also widely considered as a disclosure of nonpublic information as an aid to insider trading.
Once the company has made the information public, it does not need to wait for confirmation. However, the judgment should be reasonable and the public source should be accessible to the general public.
Even if the market reacts slowly to some information, it will be considered public information, as long as it was disclosed publicly by the company.
In some cases, a company may share sensitive information with outside stakeholders such as creditors. It is the responsibility of the receiver not to disclose such information. Even if violated, a company would not be held responsible in such cases.
How to avoid the misuse of material nonpublic information?
A company can set policies and procedures to safeguard its interests, and how the internal information is used. Most of the information comes from a company’s inside sources. Thus, it is important for a company to take concrete steps to stop the misuse of material nonpublic information. These steps start with enforcing compliance and limiting the number of people who have access to certain information within the company.
Employees and executives should follow the company’s rules to avoid any misuse of sensitive insider information that can be deemed illegal.
Recommendations for Companies
A few steps that can help a company avoid material nonpublic information leaks:
- Adopt strict compliance procedures and internal controls.
- Update record-keeping systems regularly.
- Delegate roles and responsibilities clearly to avoid ambiguity in roles.
- Whenever possible create separate departments and reduce overlap of jobs.
- Implement rigorous personal trading rules.
- Adopt public information disclosure policies.
- Try to disseminate sensitive information whenever possible in uncertain conditions.
- Communicate company policies and rules effectively among all employees.
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