India: Sahara vs. SEBI-An In-Depth Analysis Of The Landmark Supreme Court Ruling

Last Updated: 31 October 2012
Article by Deepika V. Sawhney and Souvik Mukherjee

The Supreme Court on 31st August, 2012 in one of its most anticipated judgment of recent times has directed the Sahara Group and its two group companies Sahara India Real Estate Corporation Limited (SIRECL) and Sahara Housing Investment Corporation Limited (SHICL) to refund around Rs 17,400 crore to their investors within 3 months from the date of the order with an interest of 15%. The Supreme Court while confirming the findings of the SAT has further asked SEBI to probe into the matter and find out the actual investor base who have subscribed to the Optionally Fully Convertible Debentures (OFCDs) issued by the two group companies SIRECL and SHICL.

Background: Earlier SIRECL and SHICL floated an issue of OFCDs and started collecting subscriptions from investors with effect from 25th April 2008 up to 13th April 2011. During this period, the company had a total collection of over Rs 17,656 crore. The amount was collected from about 30 million investors in the guise of a "Private Placement" without complying with the requirements applicable to the public offerings of securities. The Whole Time Member of SEBI while taking cognizance of the matter passed an order dated 23rd June, 2011 thereby directing the two companies to refund the money so collected to the investors and also restrained the promoters of the two companies including Mr. Subrata Roy from accessing the securities market till further orders. Sahara then preferred an appeal before SAT against the order of the Whole Time Member and after hearing the SAT confirmed and maintained the order of the Whole Time Member by an order dated 18th October, 2011. Subsequently Sahara filed an appeal before the Supreme Court of India against the SAT order.

Issues in Question and Observations of the Supreme Court: The Supreme Court of India while interpreting various provisions of the Companies Act, SEBI Act, Securities Contract (Regulation) Act,1956, (SCRA) and various Rules and regulations formulated there-under made some interesting observations on the issues raised before it which forms the operative part of the judgment in the form of ratio decidendi.

The issues raised and the corresponding observations made by the Supreme Court are enumerated below:

Issue 1. Whether SEBI has the power to investigate and adjudicate in this matter as per Sec 11, 11A, 11B of SEBI Act and under Sec 55A of the Companies Act. Or is it the Ministry of Corporate Affairs (MCA) which has the jurisdiction under Sec 55A (c) of the Companies Act.

Observations of SC: The Supreme Court held that SEBI does have power to investigate and adjudicate in this matter. It categorically iterated that the SEBI Act is a special legislation bestowing SEBI with special powers to investigate and adjudicate to protect the interests of the investors. It has special powers and its powers are not derogatory to any other provisions existing in any other law and are analogous to such other law and should be read harmoniously with such other provisions and there is no conflict of jurisdiction between the MCA and the SEBI in the matters where interests of the investors are at stake. To support this view, the Supreme Court laid emphasis on the legislative intent and the statement of objectives for the enactment of SEBI Act and the insertion of Section 55A in the Companies Act to delegate special powers to SEBI in matters of issue, allotment and transfer of securities. The Court observed that as per provisions enumerated under Section 55A of the Companies Act, so far matters relate to issue and transfer of securities and non-payment of dividend, SEBI has the power to administer in the case of listed public companies and in the case of those public companies which intend to get their securities listed on a recognized stock exchange in India.

Issue 2. Whether the hybrid OFCDs fall within the definition of "Securities" within the meaning of Companies Act, SEBI Act and SCRA so as to vest SEBI with the jurisdiction to investigate and adjudicate.

Observations of SC: The Supreme Court held that although the OFCDs issued by the two companies are in the nature of "hybrid" instruments, it does not cease to be a "Security" within the meaning of Companies Act, SEBI Act and SCRA. It says although the definition of "Securities" under section 2(h) of SCRA does not contain the term "hybrid instruments", the definition as provided in the Act is an inclusive one and covers all "Marketable securities". As in this case such OFCDs were offered to millions of people there is no question about the marketability of such instrument. And since the name itself contains the term "Debenture", it is deemed to be a security as per the provisions of Companies Act, SEBI Act and SCRA.

Issue 3. Whether the issue of OFCDs to millions of persons who subscribed to the issue is a Private Placement so as not to fall within the purview of SEBI Regulations and various provisions of Companies Act.

Observations of SC: The Supreme Court went on to hold that although the intention of the companies was to make the issue of OFCDs look like a private placement, it ceases to be so when such securities are offered to more than 50 persons. Section 67(3) specifically mentions that when any security is offered to and subscribed by more than 50 persons it will be deemed to be a Public Offer and therefore SEBI will have jurisdiction in the matter and the issuer will have to comply with the various provisions of the legal framework for a public issue. Although the Sahara companies contended that they are exempted under the provisos to Sec 67 (3) since the Information memorandum specifically mentioned that the OFCDs were issued only to those related to the Sahara Group and there was no public offer, the Supreme Court however did not find enough strength in this argument. The Supreme Court observed as the companies elicited public demand for the OFCDs through issue of Information Memorandum under Section 60B of the Companies Act, which is only meant for Public Issues. Supreme Court also observed that since introducers were needed for someone to subscribe to the OFCDs, it is clear that the issue was not meant for persons related or associated with the Sahara Group because in that case an introducer would not be required as such a person is already associated or related to the Sahara Group. Thus the Supreme Court concluded that the actions and intentions on the part of the two companies clearly show that they wanted to issue securities to the public in the garb of a private placement to bypass the various laws and regulations in relation to that. The Court observed that the Sahara Companies have issued securities to more than the threshold statutory limit fixed under proviso to Section 67(3) and hence violated the listing provisions attracting civil and criminal liability. The Supreme Court also observed that issue of OFCDs through circulation of IM to public attracted provisions of Section 60B of the Companies Act, which required filing of prospectus under Section 60B(9) and since the companies did not come out with a final prospectus on the closing of the offer and failed to register it with SEBI, the Supreme Court held that there was violation of sec 60B of the Companies Act also.

Issue 4. Whether listing provisions under Sec 73 mandatorily applies to all public issues or depends upon the "intention of the company" to get listed.

Observations of SC: Although Sahara argued that listing requirement under Sec 73 of Companies Act is not mandatory and applies to those companies only who "intend to get listed", no company can be forced to get listed on a stock exchange and in such cases it will be a violation of corporate autonomy. The Supreme Court rejected this contention and held as long as the law is clear and unambiguous, and any issue of securities is made to more than 49 persons as per Sec 67(3) of the Companies Act, the intention of the companies to get listed does not matter at all and Sec 73 (1) is a mandatory provision of law which companies are required to comply with. The Supreme Court observed that Section 73(1) of the Act casts an obligation on every company intending to offer shares or debentures to the public to apply on a stock exchange for listing of its securities. In addition the Supreme Court observed that the maxim ''acta exterior indicant interiora secreta'' (external action reveals inner secrets) applies with all force in the case of Saharas. The Court observed that the contention that they did not want their securities listed does not stand. The duty of listing flows from the act of issuing securities to the pubic, provided such offer is made to fifty or more than fifty persons. Any offering of securities to fifty or more is a public offering by virtue of Section 67(3) of the Companies Act, which the Saharas very well knew, their subsequent actions and conducts unquestionably reveal so.

Issue 5. Whether the Public Unlisted Companies (Preferential Allotment Rules) 2003 will apply in this case.

Observations of Supreme Court: The companies also argued that as per the Unlisted Public Companies (Preferential Allotment) Rules 2003, preferential allotment by unlisted public companies on private placement was provided for and permitted without any restriction on numbers as per the proviso to Section 67(3) of the Companies Act and without requiring listing of such OFCDs on a recognized stock exchange. They went on to argue that Sec 67(3) was made applicable to Preferential Allotment made by unlisted public companies only in 2011 by amending the 2003 rules with prospective effect and not with retrospective effect. Hence before the 2011 Rules were framed, they were free to make preferential allotment to more than 50 persons also. However, the Supreme Court did not agree and held that the legislative intent was not so, and such a Rule being a delegated piece of legislation cannot supersede the statutory provisions of Sec 67(3) and in the existence of Sec 67(3) it is implied that even the 2003 preferential allotment rules were required to comply with the requirement of Sec 67(3). The Supreme Court observed that Even if armed with a special resolution for any further issue of capital to person other than shareholders, it can only be subjected to the provisions of Section 67 of the Company Act, that is if the offer is made to fifty persons or more, then it will have to be treated as public issue and not a private placement. The Court observed that 2003 Rules apply only in the context of preferential allotment of unlisted companies, however, if the preferential allotment is a public issue, then 2003 Rules would not apply.

Issue 6. Whether OFCDs are Convertible Bonds and whether exempted from application of SCRA as per the provisions of sec 28(1)(b)

Observations of the SC: The two Sahara companies also contended that the OFCDs being in the nature of Convertible bonds issued on the basis of the price agreed upon at the time of issue and, therefore, the provisions of SCR Act are not applicable in view of Section 28(1)(b) thereof and therefore SEBI will have no jurisdiction. The Supreme Court rejected this contention and held that the amendment in the SCRA was made and subsequently Sec 28 was inserted to exempt convertible bonds by foreign financial institutions that had an option to obtain shares at a later date. The Supreme Court further held that the inapplicability of SCRA, as contemplated in Section 28(1)(b), is not to the convertible bonds, but to the entitlement of a person to whom such share, warrant or convertible bond has been issued, to have shares at his option. The Act is, therefore, inapplicable only to the options or rights or entitlement that are attached to the bond/warrant and not to the bond/warrant itself. The Supreme Court clarified by saying that 28(1)(b),clearly indicates that it is only the convertible bonds and share/warrant of the type referred to therein that are excluded from the applicability of the SCRA and not debentures which are separate category of securities in the definition contained in Section 2(h) of SCRA.

Conclusion:This landmark Judgment is undoubtedly a milestone in India's Corporate landscape, as it not only sanctifies SEBI's absolute power to investigate into the matters of listed companies, but also into the matters pertaining to the unlisted companies. It vests SEBI with myriad powers to investigate into any matter concerning the interest of the investors even if it pertains to companies which are not listed. It clarifies significant points of law and removes the grey areas relating to issue of securities by the so called unlisted companies taking advantage of the loopholes of law. Also, in the matters of jurisdiction, this Judgment has bridged the jurisdictional gap which previously existed between that of the Ministry of Corporate Affairs and SEBI. It is hoped that in future this judgment will be instrumental in preventing turf war between the MCA and SEBI concerning jurisdictional issues as it categorically iterates that in the matter of public interest, both SEBI and MCA will have concurrent jurisdiction. This is a welcome relief, as in the past many defaulting parties have taken advantage of this jurisdictional lacuna and have been able to easily get off the hooks. Sahara has already filed a review petition against this judgment before the Supreme Court. In a public statement they have also said even if the review petition fails, they will challenge the same vide a curative petition before the Supreme Court. Whether Sahara gets any relief in the near future remains to be seen. It however, seems to be a tough legal battle ahead of them.

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