Sunday, September 5, 2010

Barclays Order: ODI Restrictions Lifted by SEBI

In December 2009, we had discussed SEBI’s order whereby Barclays was found to have failed in complying with certain disclosure norms while issuing offshore derivative instruments (ODIs) under the SEBI (Foreign Institutional Investors) Regulations, 1995. For this, SEBI had prohibited Barclays from issuing, subscribing or otherwise transacting in any ODIs until reporting systems are put in place to the satisfaction of SEBI.

After further hearing the parties and considering the steps adopted by Barclays to put in place adequate reporting systems, SEBI passed an order last week withdrawing the directions imposed on Barclays by its December 2009 order. In arriving at its conclusion, SEBI does not condone the previous non-compliance with disclosure obligations on the part of Barclays, but it is persuaded by the subsequent steps adopted by Barclays to establish robust reporting systems that would prevent a recurrence of non-compliance.

SEBI utilizes the opportunity to reiterate the policy on ODIs and emphasizes the importance of transparency in transactions by FIIs. Here are some extracts (references to the “Order” relate to SEBI’s December 2009 order):

As observed in the Order, SEBI places almost absolute faith and unqualified reliance on the ability of an FII to carry out the basic regulatory and prudential oversight. The oversight includes reporting all trades including ODIs as periodical returns as well as specific requests for information relating to its trading activity in India. … As per the scheme of the FII regulations, FII is required to provide all requisite information as sought by SEBI about its trading activity in India in terms of Regulation 20 of the FII Regulations. …

… The obligations that have been placed on an ODI issuer are two fold – issue ODIs and [ensure] further issue or transfer in strict compliance with the FII Regulations, and report as per the formats provided for by SEBI. The obligation to provide information about onward issuances is an inalienable part of the provisions under the FII Regulations that relate to issue of ODIs. This is very clear given the scheme of the FII Regulations and the duties expected of a FII as explained above.


The underlying principle of Regulation 15A(1) of the FII Regulations is that ODIs could only be issued directly or indirectly to persons who are regulated by an appropriate foreign regulatory authority and after complying with the “know your client” norms. It is reiterated that full and fair disclosure forms the foundation of the FII Regulations. The very objective of imposing such obligations on FIIs is because SEBI has no direct access to verify the entities who deal in the Indian Securities Market and the nature of funds that are being invested. The said concern compelled SEBI to issue necessary amendments in Regulations 15A and 20A of the FII Regulations. SEBI, as a regulator of the securities market, places absolute reliance on the ability of an FII to carry out the functions as an FII and to comply with the basic regulatory norms put in place. When an FII fails to discharge its duties and does not exercise proper diligence, inflows through such FIIs could endanger the integrity of the securities market which may further lead to manipulation and fraud. This is the reason why SEBI has mandated FIIs to provide fair, true and correct information regarding their activity. The said information would be used by SEBI for the purposes of assessing, supervising and regulating their activity in the securities market. As already mentioned in the Order, when SEBI grants registration to an FII, it is presupposed that the said FII has the required systems and processes to ensure the integrity and accuracy of the data provided by it to SEBI under the applicable regulations and its capacity to exercise the necessary oversight. A duty is cast on the FII to ensure that no further issue or transfer of any ODI is made to any person other than a person regulated by an appropriate foreign regulatory authority. …
Although SEBI laid down exacting standards on FIIs regarding their issuances of ODIs, it was satisfied with the steps taken by Barclays in establishing appropriate reporting systems to ensure compliance with such standards. In that regard, SEBI was persuaded by the report of an independent auditor, KPMG, which evaluated Barclays’ systems and practices for ODI reporting. SEBI was persuaded only after the independent auditor’s report was expanded to include within its scope of reference certain additional matters stipulated by SEBI. The order concludes by observing:

SEBI derives regulatory comfort from the work conducted by the auditor in general and the submission of auditor’s certificate in compliance with the Order, certifying that reasonable remedial measures have been taken. The deficiencies in the systems and processes of Barclays have now been remedied and a certificate to that effect has also been furnished to SEBI, in compliance with the Order. As the situation has been remedied and the aforesaid directions in the Order have been complied with by Barclays, I am of the considered view that the ex-parte directions issued against it vide the Order need not continue and can be withdrawn.

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