JURISDICTION OF SEBI OVER HYBRIDS

[Mr. M. GOVINDARAJAN]

Section 2(45AA) of the Companies Act, 1956 (‘Act’ for short) defines the word ‘securities’. According to this section ‘securities’ means securities as defined in clause (h) of Section 2 of the Securities Contracts (Regulation) Act, 1956 and includes hybrids.

Section 2(h) of Securities Contracts (Regulation) Act defines the term ‘securities’ which include-

• Shares, scrips, stocks, bonds, debentures, debenture stock or other marketable securities of a like a nature  or in  any incorporated company or other body corporate;
• Derivates;
• Units or any other instrument issued by any collective investment scheme to the investors in such schemes;
• Security receipt as defined in clause (zg) of Section 2 of the Securities and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002;
• Units of any other such instrument issued to the investors under any mutual fund scheme: 

Explanation: For the removal of doubts, it is hereby declared that ‘securities’ shall not include any unit linked insurance policy or scrips or any such instrument or unit, by whatever name called, which provides a combined benefit risk o the life of the persons and investment by such persons and issued by an insurer referred to in Section 2(9) of Insurance Act, 1938;

• Any certificate or instrument (by whatever name called), issued to an investor by any issuer being a special purpose distinct entity which possesses any debt or receivable, including mortgage debt, assigned to such entity and acknowledging beneficial interest of such investor in such debt or receivable including mortgage debt, as the case may be;
• Government securities;
• Such other instruments as may be declared by the Central Government to be securities; and
• Rights or interest in securities.

The term ‘hybrid’ is defined by Section 2(19A) of the Act as any security which has the character of more than one type of security, including their derivatives.

Hybrid securities, therefore, generally means securities, which have some of the attributes of both debt securities and equity securities, means a security in term of a debenture, encompassing the element of in debtness and element of equity stock as well. 

In ‘Sudhir Shantilal Mehta V. Central Bureau of Investigation’ – 2009 (8) TMI 693 - SUPREME COURT OF INDIA the Supreme Court held that the definition of securities and SCR is an inclusive definition and not exhaustive.  It takes within its purview not only the matters specified therein, but also other type of securities. In ‘Naresh K. Aggarwala & Co. V. Canbank Financial Services Limited’ – 2010 (5) TMI 383 - SUPREME COURT OF INDIA the Supreme Court, while referring to the definition of the term ‘securities’ defined under SCR Act and the applicability of a circular issued by the Delhi Stock Exchange, held that the definition showed that they did not make any distinction between listed securities and unlisted securities and therefore it was clear that the circular would apply to the securities which were not listed on the stock exchange.

Then we may see the marketability of securities. Section 2(h) of SCR Act gives emphasis to the words ‘other marketable securities of a like nature’ which gives a clear indication of marketability of the securities and gives an expansive meaning to the word ‘securities’. Any securities being freely transferable are marketable. The definition of the term ‘securities’ in Section 2(h) of SCR Act is a wide definition, an inclusive one, which takes in hybrids also.

In ‘Sahara India Real Estate Corporation Limited and Others V. SEBI and another’ – 2012 (9) TMI 559 - SUPREME COURT Sahara India Real Estate Corporation Limited (SIRECL) and Sahara Housing Investment Corporation Limited (SHICL) are the companies controlled by Sahara Group. Both companies, with the approval of the Board of the respective companies, issued Optionally Fully Convertible Debentures (OFCD) by way of private placement to friends, associates, group companies, workers/employees and other individuals associated/affiliated or connected in any manner with the group of companies without giving any advertisement to general public. Both companies authorized their Board of Directors to decide the terms and conditions and revision thereof, namely, face value of each OFCD, minimum application size, tenure, conversion and interest rate. They did not intend to get their securities listed on any recognized stock exchange. The funds raised by the company would be utilised for the purpose of financing the acquisition of townships, residential apartments, shopping complexes etc.,

SIRCEL: floated the issue of the OFCDs as an open ended scheme and collected an amount of Rs.19400, 86,64,200 from 25.04.2008 to  13.04.2011 from 2,21,07,271 investors. Likewise SHICL floated the issue of OFCDs and collected a huge amount from huge investors. SEBI initiated action against the companies on a complaint received from investors that the debentures were issued without complying with SEBI Rules etc., The companies contended that SEBI is having no jurisdiction to entertain any complaint on unlisted securities and it was not a public issue.

The debentures issued by the companies is a hybrid. Further it was pointed out by the companies that the allotment had been made to persons who were connected with the Sahara group and the investors had given a declaration to the company to that effect in terms of red herring prospectus. The companies registered the prospectus with RoCs but they have not raised any objection in the issue of OFCDs. Show cause notices were issued to the companies. The show cause notice was challenged before the High Court which stayed the show cause notice. Against this SEBI took up the matter the Supreme Court. Supreme Court did not interfere with the order of High Court and directed to dispose the case at the earliest. The High Court directed the companies to produce the documents/information as required by SEBI. SEBI on inquiry directed the companies to refund the deposits to the depositors.

The companies filed appeal before Securities Appellate Tribunal which also confirmed the order of SEBI. The companies approached the Supreme Court against the order of the Tribunal.

The Supreme Court, after hearing both sides, held that the documents produced before the Supreme Court do not show the relationship the Sahara group had with the investors. The claim of the companies was that the investors were their friends, associated group companies, workers/employees and other individuals who were associated/affiliated connected with Sahara group. Saharas, in the bonds, sought for declaration from the applicants that they had been associated with Sahara group. No details had been furnished to show what types of association the investors had with Sahara group. Bonds also required to name an introducer, whose job evidently was to introduce the company to the prospective investor. If the offer was made to those persons related or associated with Sahara group there was no necessity of an introducer and an introduction. The companies have not discharged the burden of proof in which way those depositors are connected with the companies. Therefore the Supreme Court held that it was a public issue and the companies are liable to comply with the requirements of law. The Supreme Court further held that OFCDs issued by the companies are debentures in presenti and become shares in future. Even if OFCDs are hybrids they are within the purview of the definition of ‘securities’ under Section 2(h) of SCR Act The term ‘securities’ defined in the SCR Act, which would also cover the species of ‘hybrid’ defined  has the same meaning as defined  under Section 2(19A) of the Act. Since the definition of ‘securities’ under Section 2(45AA) of the Act includes ‘hybrids’, SEBI has jurisdiction over hybrids like OFCDs issued by the companies, since the expression ‘securities’ has been specifically dealt with under Section 55A of the Act.