SUPREME COURT AFFIRMS SEBI’S ORDERS FOR CURBING SHARE MARKET MANIPULATIONS -Published in Taxmann's Journal "Corporate Professionals Today" in November 16-30, 2015 Issue

BY
 
DELEP GOSWAMI, FCS, ADVOCATE, SUPREME COURT OF INDIA, NEW DELHI
 
AND
 
ANIRRUD GOSWAMI, ADVOCATE, GOSWAMI & GOSWAMI, ADVOCATES, NEW DELHI
====================
 
For regulating the stock market operations and to prevent stock market manipulations, the Securities and Exchange Board of India (SEBI) exercises a significant and unique role.  Towards this end, the SEBI has framed many Rules and Regulations for compliance by the listed companies and by the stock brokers and stock market operators.  One such Regulation which is required to be scrupulously complied with by companies and market operators is the SEBI (Substantial Acquisition of Shares & Takeovers) Regulations, 1997 (in short “Takeover Regulations”).  Another important regulation is SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003 (in short “2003 Regulations”). Since the provisions of the SEBI Act, 1992 (as amended from time to time) and the various regulations framed by SEBI have tremendous bearing on the stock market operations, SEBI performs its assigned role effectively and more forcefully as a market regulator.   
 
In the aforesaid background, the recent judgement of the Hon’ble Supreme Court of India passed on 18th September, 2015,  in re: Kosha Investments Limited –vs- SEBI  (2015-61 taxmann.com 264 –SC) (hereafter referred to as the “Kosha Judgement”)  deserves to be highlighted as the Supreme Court had the occasion to deal with and interpret the provisions of the aforesaid two Regulations and the principles enunciated in the Kosha Judgement will have tremendous impact on such share market transactions in the times to come.  In the Kosha Judgement, the Supreme Court upheld the action taken by SEBI in directing that, in the facts and circumstances of the said case, the Acquirer of shares of a listed company was under obligation to make public announcement for open offer when it exceeded the share acquisition threshold limits set out in the Takeover Regulations, even if the Acquirer subsequently divests the acquired shares.  From the Kosha Judgement it becomes clear that when the acquirer company filed appeal before the SEBI’s Appellate Authority (“SAT”), the SAT also upheld the impugned orders passed by the SEBI.  However, the Acquirer, namely, Kosha Investments Limited (“KIL”) filed an appeal before the Hon’ble Supreme Court of India, and after hearing both the sides, the Hon’ble Supreme Court of India passed the aforesaid Kosha Judgement. 
 
Brief facts leading to the aforesaid Kosha Judgement is that the Appellant KIL is one of the Indian promoters of another company viz. Snowcem India Limited (“SIL”), which is listed in the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE).  As a stock market regulator SEBI noticed that there was a heavy trading in the shares of SIL in BSE and NSE and the prices of the scrips of SIL shot up from Rs.52/- to Rs.128/- during heavy transactions in the said scrip during the period of June, 1999 to August, 1999.  SEBI also noticed that the said acquisitions of shares of SIL were made by KIL and by a particular set of share brokers/traders.  During its investigation, SEBI noticed that KIL was already holding between 15% to 75% shares of SIL (also described as “the Target Company” under the Takeover Regulations) and as such pursuant to the Takeover Regulations, KIL could acquire additional shares of SIL through creeping acquisition mode, that is, without public announcement only up to 5% of the paid up share capital of SIL during the period of 12 months ending on 31st March, 2000. However, SEBI’s investigation revealed that by acquiring 11,36,700 shares of SIL during the period during June, 1999 to August, 1999, the Appellant KIL had acquired shares constituting more than 5% of the paid up share capital of SIL and for making such acquisition, KIL was liable to make public announcement as required by Regulation 11(1) of the Takeover Regulations.
 
For the purposes of its investigation, SEBI issued a “Show Cause Notice” (SCN) dated 16.9.2002 to KIL asking it to show cause as to why suitable directions prohibiting it from dealing in securities for a period should not be issued to it under Section 11B of the SEBI Act, 1992 read with Regulation 11 and 12 of the 2003 Regulations for non-compliance of the provisions of the Takeover Regulations.  The SCN mentioned that KIL, who was one of the promoters of SIL, was among the top traders who had traded in the scrip with the intention to artificially raise the price of the scrip in co-ordination with certain entities connected with it. It was pointed out in the SCN that there were a common set of clients acting in concert through selected brokers of BSE and NSE who were involved in circular trading.  It was also mentioned in the SCN that SEBI’s investigating team had observed that on many occasions, KIL had received funds from SIL and the same were deployed to buy shares of SIL and these payments were in turn made to share brokers to purchase shares of SIL.  It was also alleged in the SCN  that orders placed by other clients were done in such a way that they were matching and appearing to be acting in concert,  which indicated circular trading of the SIL scrip.  The  SCN alleged that the Appellant KIL had aided and abetted the management of SIL in the price manipulation of the scrip and therefore it violated the Regulation 4(a), (b) and (d) of Securities and Exchange Board of India (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003.  The SCN also annexed details of the investigation conducted by SEBI during the aforesaid period.  
 
In reply to the show cause notice issued by SEBI and during the course of personal hearing granted to KIL, the acquirer KIL stated that it was an independent company with its own Board of Directors and that SIL was also run by the Board of Directors as an independent legal entity.  However, in their reply, KIL mentioned that being a promoter company, KIL used to get sometimes request from SIL that they needed funds for meeting their financial requirements and KIL would arrange funds from banks and other financial institutions with collateral security of SIL shares.  KIL further stated that sometimes it would become necessary to liquidate the shares in the market to meet with the obligations.  Therefore, the sale and purchase of shares would happen in order to meet with the loan requirements of SIL.   Further, KIL reiterated that all that KIL would do under such circumstances, was to enter into normal financial transactions with the sole objective of meeting the financial needs of SIL and that   all transactions with brokers were financial transactions and no attempt was made by KIL to create artificial volumes in the market.  Further, KIL also denied that there was any transfer of funds from SIL to KIL and to brokers, and that transactions were done during the normal course of business.  On the basis of those submissions KIL requested that the proceedings against it before SEBI should be dropped.  
 
SEBI, in its order, held that KIL was already holding between 15% to 75% in SIL, and thus KIL could acquire additional shares up to 5% during any period of 12 months through creeping acquisition mode and since KIL acquired more than the stipulated 5% shares of SIL during the said period of 12 months, KIL was liable to make a public announcement to acquire shares in accordance with the Takeover Regulations.  In view of the findings made by SEBI and in exercise of the powers conferred upon the SEBI under Section 19 read with Section 11-B of the SEBI Act read with Regulations 44 and 45 of the said Regulations, SEBI directed KIL, inter-alia, to make public announcement in terms of Regulation 11(1) of the said Takeover Regulations, taking 29th June, 1999 as the reference date for circulation of offer price and the public announcement was directed to made within 45 days of passing of the SEBI’s order. 
 
Further, in exercising the powers conferred under Section 19 of the Securities and Exchange Board of India Act, 1992, read with Sections 11 and 11B of the SEBI Act, 1992, and Regulation 11 of SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003, SEBI restrained KIL from buying, selling, or dealing in securities in any manner, directly or indirectly for a period of two years.
 
Against the aforesaid SEBI’s order, KIL filed an appeal before the SEBI’s Appellate Authority (namely, “SAT”) and submitted that the order passed by SEBI was on some surmises, conjectures and suspicion.  KIL also contended that as per its Memorandum and Articles of Association, it was empowered to inter alia, invest, hold, sell and deal with shares, stocks, bonds, etc., and to carry on the business of an investment company, and to buy, underwrite sub-underwrite, invest in and acquire and hold shares, stock, etc.  Therefore, it was a legitimate activity on the part of the appellant to buy and sell shares, including that of SIL.  In SAT, the appellant KIL also argued that the appellant company was trading in the shares of not only SIL, but of other companies also and it also pointed out that the period of June, 1999 to August, 1999 has been taken out of context, whereas KIL had been purchasing and selling the shares of SIL from much earlier period and hence the specified transactions ought to be seen as only financial transactions.  KIL further contended that  it did not act in concert with a common set of clients/through select brokers of the BSE and NSE as alleged by SEBI and that KIL was not involved in circular trading in the scrip of SIL.  KIL contended that it did not push up the price of the SIL scrip to artificial levels and argued that the stated increase in the price of SIL could be because of several independent market factors and reasons and that the share market was buoyant during this period as would be reflected by the indices of BSE and NSE and therefore SEBI should not have come to the conclusion that the increase in the price of the scrip was due to any manipulation.  KIL also argued that there was no conclusive evidence to prove that the appellant was responsible for the spurt in volumes and increase in the price of scrip of SIL.  KIL argued that there was no evidence to corroborate that KIL in concert with the other entities was responsible for increasing the volume of trade and raising the price of SIL scrip. All transactions entered into by KIL were financial transactions between the appellant and SIL and other brokers involved during the investigation period.  Further, KIL argued that there was no evidence to establish the intentions of the Appellant that it had indulged in artificially raising the price of the scrip of SIL in conjunction with other persons /brokers.  KIL further argued that if anybody has to be charged under SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003, it should not be done on the basis of preponderance of probability, but there has to be direct evidence to prove. The learned counsel for KIL also argued that SEBI had wrongly restrained KIL from dealing in securities for a period of two years in exercise of the powers conferred on SEBI under Section 19 of the SEBI Act, 1992 read with Sections 11 and 11B of SEBI Act, 1992 and Regulations 11of SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market), Regulations, 2003.
 
In SAT, the appellant KIL further argued  that it had been only arranging funds by way of term loan, bridge loan, ICD, etc., and furnishing the shares of SIL as collateral security in respect of such borrowings, and whenever the aforesaid loans became due for repayment, the borrowing company would request the lender to liquidate either the whole or part of the loan by selling the mortgaged shares that were placed as collateral security after obtaining the consent of the appellant i.e., the pledger in this case.  KIL reiterated its argument that such transactions were in the nature of ongoing transactions and there was no intention to increase the volume of transactions and artificially raise the share price of SIL through circular trading.  KIL further argued that it was wrong to interpret that transactions between various brokers named in the impugned order and the appellant were unfair or unjust.
 
Counter arguments were advanced on behalf of SEBI.  The SAT accepted the counter arguments advanced on behalf of the SEBI that even during the period June, 1999 to August, 1999, the appellant KIL had acquired 6,61,800 shares of SIL, which constituted 6.29% of the paid up share capital of SIL, which was beyond the permissible limit of 5% and hence the requirement of making public announcement in terms of Regulation 11(1) of the Takeover Regulations, 1997 had to be met by the appellant KIL, which the Appellant KIL failed to do and upheld the orders passed by SEBI against the appellant KIL.
 
Against the SAT order, the appellant KIL filed appeal in the Hon’ble Supreme Court of India.  The appellant KIL contended that KIL as a promoter of SIL, KIL was having more than 15% shares of SIL, but KIL was also in the business of sale and purchase of shares, which was being done simultaneously and hence exceeding the limit of 5% at any one point of time was immaterial, unless on a net accounting, it could be found that such ceiling of 5% had been violated by the Appellant on account of its retaining more than 5% shares of SIL, at the end of a financial year.  On the other hand, SEBI reiterated its stand  that the ceiling of making acquisition of only up to 5% of the paid share capital of the target company was to be reckoned during a period of 12 months, that is, a financial year, and that  the requirement of Regulation 11(1) of the Takeover Regulations, 1997 of making a public announcement  was triggered not only on actual acquisition beyond the 5% limit, but even on entering into an agreement for such acquisition or deciding to acquire such volume of shares or voting right, in view of provisions of Regulation 14(1) of the Takeover Regulation, 1997. 
 
The Hon’ble Supreme Court heard the arguments of both sides and to explain the rationale, gave an appropriate example in the following words, i.e., “Let us conceptualise the case of an entity holding 20 per cent of shareholding in a target company on 1st April of a given year.  If it were to increase its holding by say 3 per cent and subsequently reduce it to 2 per cent.  If at that point, it intended to purchase 4 per cent shares again, whether by way of fractions or otherwise, it would cross the threshold of 5 per cent.  It would then have to make compliance with Regulation 11 of the Takeover Regulations, 1997.  We hasten to clarify that if the aggregate percentage of acquisitions at any point of time during the financial year exceeds 5 per cent, the provision would get triggered.  In other words, the provision of Regulation 11 mandating a public announcement will kick in at any stage, whence the shareholding of the said entity in the target company would exceed 25 per cent.” 
 
In the Supreme Court, the Appellant KIL also contended that only in the event where the securities or shares are converted by the acquirer into voting rights by getting it registered or upon exercise of option to acquire voting rights, does the liability of making public announcement can be fastened. This was rightly countered by SEBI and the Hon’ble Supreme Court rejected the submissions of KIL and held that in respect of the shares acquired by KIL, only Regulation 14(1) of the Takeover Regulations, 1997 was applicable and also noted that no such plea was raised by KIL before SEBI or before the SAT and that such a plea was in desperation and hence undeserving of acceptance and therefore held that KIL was required to comply with Regulation 11(1).  The Supreme Court thus dismissed KIL’s appeal and imposed cost of Rs.50,000/- on KIL to be paid to SEBI.
 
CONCLUSION    
 
The analysis of the aforesaid judgement of the Supreme Court of India upholding the orders passed by SEBI and its appellate authority, i.e., SAT, points out that the desperate stand of the share market operators to justify the share market manipulations would be dealt with strictly by the regulatory authorities. The Kosha Judgement reinforces the objective behind enacting the Takeover Regulations which were an important step in ensuring that shareholders of a target company are treated equally and not denied any opportunity to decide whether they wish to continue holding shares of a company whose shares have been acquired by the acquirer, triggering the public announcement. Such tactics employed by companies operating in the stock market as intermediaries, only goes on to highlight the manipulative practices used for artificially orchestrating price rise of shares of the target company in the stock market.
 
It is indeed a step in the right direction and would signal well in disciplining the stock market operations which is the need of the hour to upkeep the confidence of the general investors in the stock market management.