A few weeks ago, the SEBI passed an order (WTM/KMA/60/04/2009) in the Pyramid Saimira case, which raises questions pertaining to insider trading. The order resulted from SEBI’s investigation into the affairs of Pyramid Saimira, highlighted in this post. The particular sequence of events is discussed in several reports, linked here and here.
In its order (though only an interim one), the SEBI analysed the evidence before it in depth. The issue which the Board focused on was whether one Mr. Nirmal Kotecha (a promoter) was “using Mr. Amol Kokane as an instrument for his own trades.” Among the facts which enabled the Board to come to the conclusion that the issue deserved to be answered in the affirmative were the “volume of trades done by Shri Amol Kokane through India Capital Market, the scrips that were selected for trading in his name and the losses incurred by him on these trades, the counterparty details that have emerged from the bank trail and the call/ Short Messaging Service (SMS) charges incurred by Shri Kokane on his mobile number relative to his family’s annual income…” Added to this was a statement by Mr. Kokane that Mr. Kotecha was operating his accounts. From all these factors, the SEBI was able to come to a conclusion as to insider trading, as also foreign exchange and money laundering violations. Accordingly, the SEBI issued several interim directions forbidding certain persons from directly or indirectly dealing in the securities markets; and also stated that the order was to be treated as a show-cause notice to the persons named therein; calling upon the entities/persons against whom the order was issued to file their objections to the order.
On the face of it, the order poses no legal complexities, but what is noteworthy is the detailed examination of the evidence even at the interim stage. Also, the order presents an opportunity to highlight the scope of the powers of the SEBI to issue interim directions. The Board stated that it was acting under Sections 11 and 11B of the SEBI Act, 1992.
Section 11B (inserted by an amendment in 1995) states:
Power to issue directions.– Save as otherwise provided in Section 11 if after making or causing to be
made an enquiry, the Board is satisfied that it is necessary –
(i) in the interest of investors, or orderly development of securities market; or
(ii) to prevent the affairs of any intermediary or other persons referred to in section 12 being conducted in a manner detrimental to the interests of investors of securities market; or
(iii) to secure the proper management of such intermediary or person,
it may issue such directions –
(a) to any person or class of persons referred to in Section 12 or associated with the securities market;
(b) to any company in respect of matters specified in Section 11-A,
as may be appropriate in the interests of investors in securities and the securities market.
Can an order asking certain persons to show cause as to why action should not be taken against them amount to an order “after making or causing to be made an enquiry”? In exercising it powers under Section 11B, the SEBI is presumably engaged in a quasi-judicial function; meaning that it must comply with the principles of natural justice. In that view, can an enquiry ever be said to have been ‘made’ even prior to giving an opportunity for hearing the alleged wrongdoer?
Of course, in Pyramid Saimira, an investigation had been on for some time. But, let us also consider a more extreme case. Does Section 11B empower the SEBI to take steps without hearing the alleged wrongdoer purely on receiving some information/allegations of malpractices? Can the SEBI say, effectively, that a complete investigation would take too long, and it is necessary to act with a sense of urgency even before the investigation makes any tangible progress?
Perhaps keeping in mind the controversies which could arise in this regard, the SEBI Act was amended in 2002, to introduce Section 11(4). The relevant parts of that Section read as follows:
Without prejudice to the provisions contained in sub-sections (1), (2), (2A) and (3) and section 11B, the Board may, by an order, for reasons to be recorded in writing, in the interests of investors or securities market, take any of the following measures, either pending investigation or inquiry or on completion of such investigation or inquiry, namely:-
(b) restrain persons from accessing the securities market and prohibit any person associated with securities market to buy, sell or deal in securities;
Provided further that the Board shall, either before or after passing such orders, give an opportunity of hearing to such intermediaries or persons concerned.]
(Emphasis added – the text of the Act can be found here)
At first glance, the provisions (considering that quite broad powers are provided under all the sub-clauses) appear to be quite stringent – the SEBI is free to take strict action and give an opportunity to be heard only after the action has been taken. Cases such as Pyramid Saimira show that such a provision is perhaps necessary; given that in cases where insider trading is alleged, quick action would be of utmost importance.
A few important legal questions remain – what is the standard by which SEBI should decide whether there exists a necessity for an order under Section 11(4) r/w 11B? Is mere prima facie satisfaction sufficient? Or must the SEBI go into detail into whatever evidence that is available? In Pyramid Saimira, the SEBI has chosen the safer route – the available evidence was scrutinized in great detail. But, is such a deep appreciation of the evidence always necessary? If not, what test will the SEBI use to decide whether to act under the Sections?
I will try to answer some of these questions in a subsequent post…