India: Expanded Scope Of The Term "Market abuse" In The Securities Market

The term "Market Abuse", a practice that is against the laws laid down in SEBI Act and the Companies Act has been given a broader interpretation by the Hon'ble Apex Court vide its Judgment dated 26.04.2013 in the appeal titled as "N. Narayanan vs. Adjudicating Officer,SEBI" by a Bench of Hon'ble SC comprising K.S. Panicker Radhakrishnan and Dipak Misra, JJ¹.

Vide this judgment, Hon'ble Apex Court has demonstrated that "market abuse" has now become a common practice in the Indian security market and, if not properly curbed, the same would result in defeating the very object and purpose of SEBI Act which is intended to protect the interests of investors in securities and to promote the development of securities market.

The judgment speaks about the right and interest of investors. Prevention of market abuse and preservation of market integrity is the hallmark of Securities Law. Market abuse refers to the use of manipulative and deceptive devices, giving out incorrect or misleading information, so as to encourage investors to jump into conclusions, on wrong premises, which is known to be wrong to the abusers. The statutory provisions mentioned earlier deal with the situations where a person, who deals in securities, takes advantage of the impact of an action, may be manipulative, on the anticipated impact on the market resulting in the "creation of artificiality'. The same can be achieved by inflating the company's revenue, profits, security deposits and receivables, resulting in price rice of scrip of the company. Investors are then lured to make their "investment decisions" on those manipulated inflated results, using the above devices which will amount to market abuse.

Vide dismissing the above appeal, Hon'ble Court has held that the Directors and the Chief Financial Officers of the company had caused to publish forged and misleading results of the company, various quarterly financial results and the annual results for the year 2007-08, were reported to the stock-exchanges containing inflated figures of the company's revenue, profits, security deposits and receivables and those financial statements which were relied upon by investors in making investment decisions, which did not reflect a true and fair view of the state of affairs of the company. Further, subsequent conduct of pledging their shares at artificially inflated prices, based on inflated financial results and raising loan on them would indicate that they had deliberately and with full knowledge committed the illegality and hence the principle of "acta exteriora indicant interiora secreta" (meaning external actions reveals inner secrets) applies with all force.

While dismissing the appeal, Hon'ble Apex Court concluded that SEBI has rightly restrained the Appellant for a period of two years from the date of that order from buying, selling or dealing with any securities, in any manner, or accessing the securities market, directly or indirectly and from being Director of any listed company and that the adjudicating officer has rightly imposed a penalty of Rs. 50 lakhs under Section 15HA of SEBI Act.

The brief facts, which lead the filing of subject appeal, are as under:

The Appellate Jurisdiction of Hon'ble Apex Court has been invoked challenging a joint order dated 5.10.2012 passed in Appeal Nos. 28 and 29 of 2012 passed by Securities Appellate Tribunal, Mumbai (for short 'Tribunal') upholding the order passed by SEBI dated April 18, 2011 restraining the Appellant for a period of two years from  buying, selling or dealing in securities as well as imposing a monetary penalty of Rs. 50 Lacs.

The Appellant was the promoter as well as a whole time Director of M/s. Pyramid Saimira Theatre Limited (PSTL), a company registered under the Companies Act, 1956. The shares of PSTL were listed on Bombay Stock Exchange Ltd. (BSE) and National Stock Exchange (NSE) at the relevant time. The company was involved in the business of Exhibition (Theatre), Film and Television, Content Production, Distribution, Hospitality, Food & Beverage, Animation and Gaming and Cine Advertising, etc. The company had nine Directors, including the Appellant himself. The investigation department of SEBI noticed that the company had committed serious irregularities in its books of accounts and showed inflated profits and revenues in the financial statements and lured the general public to invest in the shares of the company based on such false financial statements thereby violated the provisions of Securities and Exchange Board of India (Prohibition of Fraudulent and Unfair Trade Practice Relating to Securities Market) Regulations, 2003.

Consequently, a notice was issued to the Appellant and to the other Directors to show cause why appropriate directions as deemed fit and proper under Sections 11, 11B and 11(4) of the SEBI Act read with Regulation 11 of Regulations 2003 be not issued against them and subsequently another notice dated April 8, 2010 under Rule 4(1) of the SEBI (Procedure for Holding Inquiry and imposing penalties by Adjudicating Officer) Rules, 1995 was issued to the Directors to show cause why penalty be not imposed under Section 15HA of the SEBI Act for the alleged contravention of the provision of the Act.

The Appellant's main contention was that, though he was the Whole Time Director as well as Promoter of the company, yet was not involved in the day-to-day management of the company and that he was looking after the Human Resource Department of the company. Further, it was also stated that the financial statements, accounts etc. were prepared and duly audited by the statutory auditors, verified by the audit committees and reviewed by the managing Director and that, in the company, the role of each Director was confined to his field of operation and there was no justification for holding a Director to be in over-all charge and control of the affairs of the company. Further, it was also pointed out that the auditors were well versed in accounts and finance; therefore, there was no reason for the Directors who have no expertise or knowledge of the intricacies of the accounts and finance to  suspect them or sit in judgment over their decisions. In such circumstances, it was contended, that there is no justification in debarring them from buying, selling or dealing in securities or accessing securities market or to impose penalty since there is no mens rea on the part of the Appellant in intentionally stating any untrue statement or preparing false records and that he has no role as such in preparing the accounts and finance of the company.

After considering personal hearing as well as written Submissions by the Appellant, the Board noticed following specific violations:

On facts, all the above-mentioned violations had been established and consequently, the Whole Time Member (WTM) of SEBI, in exercise of the powers conferred on him, passed an order restraining the Appellant and other Directors for a period of two years and three years respectively from buying, selling or dealing in securities in any manner whatsoever or accessing the securities market directly or indirectly and from being Director of any listed company and also held that the Appellant and other Directors are liable for monetary penalty under Section 15HA of SEBI Act whereby a penalty of Rs.50 Lacs was imposed on the Appellant.

The above order was affirmed in an appeal by the Tribunal, the legality of which is the subject matter of this appeal.

Hon'ble Apex Court observed that the investigation had revealed that the financial results contained in the quarterly report filed with the stock exchanges contained inflated figures of the company's revenue profits, security deposits and receivables. Further, the manipulation in the financial results of the company resulted in price rise of the scrip of the company and the promoters pledged their shares to raise substantial funds from financial institutions.

The object and purpose of the Section 12A of SEBI Act and Regulations 3 and 4 of 2003 Regulations are to curb "market manipulation". As per Palmer's Company Law, "Market manipulation" is normally regarded as the "unwarranted" interference in the operation of ordinary market forces of supply and demand and thus undermines the "integrity" and efficiency of the market." Reference was also be made to the penalty provisions which is contained in Chapter VI A of the SEBI Act of which is mainly concerned with Section 15HA which deals with penalty for fraudulent and unfair trade practices and Section 15J which deals with the factors to be taken into account by the adjudicating officer while adjudging the quantum of penalty.

Hon'ble Supreme Court has observed that the company had made false corporate announcement stating that it had entered into agreements with 802 theatres and that false corporate announcement gave false figures relating to advance, security deposit and income pertaining to the theatres which were not in existence. The deposits shown were turned out to be not genuine but mere book entries to hide receivables in the balance sheet.

Negating the stand of the appellant that he was not conversant with the accounts and finance and was only dealing with the human resource management of the company, hence, he had no fraudulent intention to deceive the investors, the Hon'ble Court has held Directors of the companies, especially of the listed companies, have access to inside knowledge, such as, financial position of the company, dividend rates, annual accounts etc. Directors are expected to exercise the powers for the purposes for which they are conferred. Sometimes they may misuse their powers for their personal gain and makes false representations to the public for unlawful gain.

It was observed that the Directors of the company in question had failed in their duty to exercise due care and diligence and allowed the company to fabricate the figures and making false disclosures. Facts indicate that they have overlooked the numerous red flags in the revenues, profits, receivables, deposits etc. Which should not have escaped the attention of a prudent person.

It was further observed that after the declaration of financial results on January 31, 2008, containing inflated profits, revenues for the quarter ended on 31.12.2007, the Managing Directors of the company, his wife and the Appellant had together pledged 72, 75, 455 shares of the company with various banks and financial institutions and raised 97.30 crores as loans. We have noticed that the Directors and the Chief Financial Officers of the company had caused to publish forged and misleading results of the company, various quarterly financial results and the annual results for the year 2007-08, were reported to the stock-exchanges containing inflated figures of the company's revenue, profits, security deposits and receivables and those financial statements which were relied upon by investors in making investment decisions, which did not reflect a true and fair view of the state of affairs of the company.

The conduct of the Appellant and Ors. was, therefore, fraudulent and the practices they had adopted, relating to securities, were unfair, which attracted the penalty provisions contained in Section 15HA read with 15J of the SEBI Act and accordingly the appeal has been dismissed.

Footnotes

^{1. Civil Appeal Nos. 4112-4113 of 2013 (D. No. 201 of 2013)}

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