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TMI Blog2016 (6) TMI 805X X X X Extracts X X X X X X X X Extracts X X X X ..... condly; • that no such proposal regarding availing of loans through ICDs was tabled at the meeting of the Board of Directors dated 17th August, 2011. In light of these factual revelations, it is evident that the Loan Committee could not have permitted the raising of money through ICDs since this was not part of its mandate. In the absence of any evidence to the contrary, we, therefore, find that the Appellant was only supplied with an extract, and not the minutes of the Board Meeting dated 17th August, 2011, by the the Issuer Company. In this factual backdrop the Appellant cannot be condemned for not disclosing the matter regarding the raising of funds through ICDs by the Issuer Company in the Offer Documents. Appellant could not have incorporated such a fact of giving ICDs to the three companies taken by the Issuer Company after the conclusion of the IPO in the DRHP, RHP or even in the Prospectus. This charge, therefore, can also not be sustained against the Appellant. However, it must be said that the Appellant seems to have acted in a hurry to issue the RHP on the same date. It should have been more vigilant and careful in filing the RHP on August 17, 2011 itself. As such, we wo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r of the SEBI under Sections 11(1), 11(4) and 11B of the SEBI Act, 1992, prohibiting the three Appellants from taking up any new assignment or involvement in a new issue of capital, including Initial Public Offering (IPO), follow-on issue, etc. in the Securities Market for a period of five years. 3. The impugned order dated 21st March 2014 has been, inter alia, passed for the alleged violation of Regulations 8(2)(b), (e)-(f); 64(1) of the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009, hereinafter referred to as "ICDR Regulations", and violation of Regulation 13 read with Clauses 1-4, 6-7 and 21 of the Code of Conduct prescribed under Schedule-III of the SEBI (Merchant Banker) Regulations, 1992. The abovesaid regulations and provisions are reproduced herein for the sake of convenience : SEBI (Issue of Capital Disclosure Requirements) Regulations, 2009 "8(2). The lead merchant bankers shall submit the following documents to the Board after issuance of observations by the Board or after expiry of the period stipulated in subregulation (2) of regulation 6 if the Board has not issued observations : (a) ………………&hellip ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... xaggerated claims or any misrepresentation and are made aware of the attendant risks before taking any investment decision. Clause 8. to Clause 20 …………………………….…….. Clause 21. A merchant banker shall maintain an appropriate level of knowledge and competence and abide by the provisions of the Act, regulations made thereunder, circulars and guidelines, which may be applicable and relevant to the activities carried on by it. The merchant banker shall also comply with the award of the Ombudsman passed under the Securities and Exchange Board of India (Ombudsman) Regulations, 2003. "APPEAL No. 207/2015" 4. In addition to the debarment of five years imposed on the company the Appellant along with its Compliance Officer and the M.D.-cum-C.E.O., SEBI simultaneously initiated proceedings against the Appellant for violation of the provisions of SEBI (Intermediaries) Regulations, 2008, hereinafter referred to as "Intermediaries Regulations" and imposed a punishment of prohibition of two years on the same entities in a vague manner. Relying upon the report submitted by the Designated Authori ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at Exhibit-VI with the Miscellaneous Application No. 130/2015. This Miscellaneous Application No. 130 of 2015 is being considered and disposed of more appropriately, alongwith certain other similar Miscellaneous Applications, in Appeal No. 222 of 2015 which is also being finally decided today itself between the same parties. The relevant regulations are reproduced hereinbelow for the sake of convenience : SEBI (Merchant Banker) Regulations, 1992 Consideration of application. "6. The Board shall take into account for considering the grant of a certificate, all matters which are relevant to the activities relating to merchant banker and in particular the applicant complies with the following requirements, namely :- [(a) the applicant shall be a body corporate other than a non-banking financial company as defined under clause (f) of section 45-I of the Reserve Bank of India Act, 1934 (2 of 1934), as amended from time to time : [Provided that the merchant banker who has been granted registration by the Reserve Bank of India to act as a primary or satellite dealer may carry on such activity subject to the condition that it shall not accept or hold public deposit;] Grant of certifi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for which another application is required to be made. Regulation 6A lays down that every entity applying for registration as an MB shall be a fit and proper person in terms of Schedule II of the Intermediaries Regulations. Schedule II of the Intermediaries Regulations lays down the criteria which need to be fulfilled before an entity can be considered to be fit and proper and consequently be deemed eligible for a registration as an MB. 7. In this background, we now proceed to deal with the Impugned Order dated 21st March, 2014, in respect of Appeal Nos. 275, 276 and 301 of 2014, taking the facts of Appeal 275 of 2014 pertaining to the Company as the lead case. Briefly stated the facts of the case are that the Appellant was incorporated as a Company in June, 1994, and since then it has been dealing in various branches of the Securities Market, including acting as Merchant Banker. The Appellant was appointed as Book Running Lead Manager "BRLM" to the IPO of P.G. Electroplast Limited "the Issuer Company" on 7th June, 2010. A Draft Red Herring Prospectus "DRHP" was, accordingly, filed on behalf of the Issuer Company by the Appellant on 23rd September, 2010. On 29th December, 2010, SEB ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... onduct towards the due diligence of the affairs of the Issuer Company are sufficient and adequate in law? If the answer is in the negative, the next question that would arise for our consideration is whether the punishment of debarment imposed upon the Appellants for a rather long period of 5 years is just and proper in the facts and circumstances of the case ? The purposes of the IPO in question, as seen in the Prospectus, were as mentioned below :- • Prepayment of the portion of the term loan and line of credit facility proposed to be availed by the Issuer Company for expansion under phase 1 - (Rs. 24.10 Crore) • Expansion of manufacturing facility at Unit III, Greater Noida under phase 2 - (Rs. 13.84 Crore) • Expansion of manufacturing facility at Unit IV, Ahmednagar under phase 2 - (Rs. 37.31 Crore) • Meeting long-term working capital requirements - (Rs. 15.00 Crore) • General Corporate Purposes - (Rs. 21.39 Crore) • Issue Expenses - (Rs. 9 Crore) 13. A perusal of the SCN and the Impugned Order shows that all the violations, alleged to have been committed by the three Appellants, can be summarised as under : (1) Failure to ensure disclosure ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Appellant to develop any suspicion as regards the financial affairs, etc. of the Issuer Company as on 22nd September, 2011, when the RHP was filed. 17. It is also argued on behalf of the Appellant that even though the requirement of obtaining SA's certificates is statutory in nature yet, it did not solely rely upon the said Auditors' certificates and had made its own exhaustive enquiries independently as well with the management of the company commencing from June 2010 onwards. In addition, the Appellant had obtained relevant updated certificates, undertakings and affirmations certifying that there was no material change before presenting the draft RHP to the Respondent. Further, during the due diligence process, Appellant had periodic meetings with the promoters and management of the Issuer Company wherein Appellant, inter alia, discussed with them the business of the Issuer Company, their experience, visited various premises of the Issuer Company including its manufacturing units to better understand their products, production processes and, plant and machinery etc. All this was done purely with a view to keep a tab on the progress of the objects of their proposed IPO. Appellan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... igence conducted by them. These meetings were jointly conducted at the Issuer Company's office and also on a one to one basis at the office of the Legal Advisor and at the Appellant's offices. The outcome of these efforts was that all adverse observations were either rectified or appropriately disclosed in the offer documents, as pointed out by SEBI or otherwise. 20. The Statutory Auditor of the Issuer Company completed restatement of audited financial statements of the last five years ending 31st March, 2010 and submitted their report which was duly reproduced in its entirety in the DRHP. The same was updated in the RHP with the restated financials for the year ending 31st March, 2011, based on the updated report of the Statutory Auditor. As part of the due diligence process, the Appellant had also relied upon the confirmations/submissions of the Issuer Company's Statutory Auditor (Comfort Letters) specifically intended to provide an update of any material developments in the Issuer Company, subsequent to the date of the last audited financial statements. Further, in respect to the material disclosures, the Comfort Letters issued by the Statutory Auditor categorically confirmed t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... from the Company's Bankers for that purpose. The Loan Committee, therefore, in this regard, kept the Appellant in total dark. There were four meetings held by the Loan Committee on previous occasions, particularly, on 9th December, 2010; 24th February, 2011; 27th May, 2011 and 20th June, 2011, which were brought to the notice of the Appellant. In all these four meetings, the discussion revolved around availing credit facilities from the Banks. It was, therefore, not within the reasonable apprehension of the Appellant as a Merchant Banker that the Loan Committee would conduct itself in this manner at its fifth meeting on 17th August, 2011. 23. Per contra, Shri Rustomjee, learned senior counsel for the Respondent has firstly submitted that the Appellant could not ensure disclosure of funds raised by the Issuer Company through ICDs in the nature of a Bridge Loan, i.e., the loan taken by the Issuer Company through ICDs in the form of a Bridge Loan, which would bridge the gap until it arises. Secondly; Shri Rustomjee submitted that the RHP and Prospectus did not disclose the Board's decision to invest the IPO proceeds in the ICDs of other companies. The Appellant's failure to ensure d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 4th November 2011 the Board took note of the specific investments in ICDs which had been made does not mean that the board had not discussed investment in ICDs earlier." 25. Regarding the Comfort Letters issued by the Statutory Auditors and reliance placed by the Appellant thereon, Shri Rustomjee submits that the said letters are qualified. The Statutory Auditors had stated that they were unable to express an opinion on the financial position/results of operations or cash flows of the the Issuer Company for a period post 31st March, 2011. This should have acted as a "red-flag" and the Appellant should have done further independent due diligence for the correct facts to be revealed in the RHP/Prospectus for public consumption. Various qualifications mentioned in the Statutory Auditors certificate negate their value in the eyes of law. 26. At this stage we deem it appropriate to summarise the basic submissions of the Appellant as under : • That the scope of due diligence is to conduct the review and examination of information provided by the Issuer Company to a practical and reasonable extent. The Respondent has not managed to point out any red flag in its investigation which ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hereinabove; we move onto the the ICDR Regulations, primarily in accordance with which IPOs are regularly issued in the market. 28. SEBI (Issue of Capital Disclosure and Requirements) Regulations, 2009 consist of 11 Chapters and 20 Schedules. Chapter 1 deals with Preliminary issues and provides for definitions etc. Some of the definitions provided in Regulation 2 are relevant for the present purpose and are dealt with hereinafter. Regulation 2(1)(f) explains book building as the process whereby the demand and price of certain securities is assessed and determined. Regulation 2(1)(g) defines a book runner as an appointed by the issuing company to undertake the book building process. Regulation 2(1)(r) defines issuer as any person, meaning any judicial entity, making an offer of securities. Regulation 2(1)(x) defines the term 'offer document' as red herring prospectus, prospectus, shelf prospectus and information memorandum in case of a public issue and letter of offer in case of a rights issue. Regulation 2(1)(zc) defines "public issue" as initial public offer and further public offer. Regulation 2(2) states that all words and expression not defined in the ICDR Regulations shall be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ought to have issued comments as per Regulation 6(2) has expired, the MB shall submit the following documents to SEBI: a statement certifying that all changes, suggestions and observations made by the Board have been incorporated in the offer document; a due diligence certificate as per Form C of Schedule VI, at the time of registering the prospectus with the Registrar of Companies; a copy of the resolution passed by the board of directors of the issuer for allotting specified securities to promoters towards amount received against promoters' contribution, before opening of the issue; a certificate from a Chartered Accountant, before opening of the issue, certifying that promoters' contribution has been received in accordance with these regulations, accompanying therewith the names and addresses of the promoters who have contributed to the promoters' contribution and the amount paid by each of them towards such contribution; a due diligence certificate as per Form D of Schedule VI, immediately before the opening of the issue, certifying that necessary corrective action, if any, has been taken; a due diligence certificate as per Form E of Schedule VI, after the issue has opened but ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... down that the minimum offer to the public in an IPO should be either 10% or 25% of the post issue capital. Regulation 44 puts forth the concept of a safety net arrangement wherein the IC provides such an arrangement under which a person offers to purchase specified securities from the original allottees at the issue price. Regulation 45 delineates the green-shoe option and lays down the conditions and parameters within which such an option can be made available in an effort to stabilize the post-listing price of the securities offered in a public issue. Regulation 46 prescribes the minimum and maximum period for which a public issue must be kept open for subscription, viz., 3 days and 10 days respectively. Regulation 49 stipulates that the IC shall stipulate in the offer document, the minimum application size in terms of number of specified securities which shall fall within the range of minimum application value of ten thousand rupees to fifteen thousand rupees. Regulation 50 lays down that the allotment procedure shall be spelt out by the managing director along with the lead post-issue MBs in a fair and proper manner in accordance with Schedule XV of the ICDR Regulations. Regula ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . Chapter 8 makes provisions with respect to Qualified Institutional Placement. Chapter 9 deals with Bonus Issue. Chapter 10 deals with the Issue of Indian Depositary Receipts. Chapter 11 deals with certain miscellaneous provisions. 36. We now deal with the allegation regarding non - disclosure of suppliers and agreements for purchase of granules. From a perusal of the facts of the matter at hand we note that a list of suppliers was disclosed in the RHP on page 76 and page 44, based on the information provided by the Issuer Company, which was duly verified by the Appellant thereafter from the Issuer Company's records. It appears that the names Nimbus Industries Ltd. or Supreme Communications Ltd have not been mentioned anywhere in the list. This fact has been corroborated by SEBI's observations in its ad interim order dated 28th December 2011 stating "the names of Nimbus Industries Ltd. and Supreme Communications Ltd. do not appear in the list of its suppliers provided by the Issuer Company in the offer document". It is thus borne out that the Issuer Company had never entered into any longterm supply agreement for purchase of plastic granules. This has been reinforced by the Issue ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... knowing the existence of any purchase orders except the ones disclosed in the Offer Document. Furthermore, we find nothing in the SCN or the Impugned Order to suggest the contrary. The Offer Document does not mention the Purchase Orders placed on Modi Alloys or Aggarwal Steel nor does it mention the payments made to them because at the relevant time, the Issuer Company had not disclosed the same to the Merchant Banker. 39. Be that as it may, in relation to the charges with respect to nondisclosure of agreement for purchase of plastic granules, land, plant and machinery, these three appear to be acts undertaken by the the Issuer Company in the post-IPO stage and hence, in our considered opinion, the Appellant could not have incorporated the same despite any degree of DD that could have been applied. SEBI itself has accepted that the Appellant was not privy to the Issuer Company's intentions, and the Appellant's conduct to that extent is undisputedly unimpeachable. As held hereinabove, the Appellant ought to have perused the bank statements of the company, particularly regarding the period in respect of which even the Statutory Auditors had not gone through the unaudited accounts of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... emerging from a perusal of the pleadings and documents brought on record by the parties in this regard, it becomes somewhat difficult of believe that the the Issuer Company had not only held a Board Meeting on 17th August, 2011, but also prepared the minutes on the same date to be supplied to the Appellant for the purpose of filing the RHP before the appropriate authority. Had the minutes of the meeting actually been supplied to the Appellant on August 17, 2011 itself, there would have been no occasion for the the Issuer Company to provide an extract of the Board Meeting dated 17th August, 2011, over and above the minutes. This would have been superfluous. It would lead to the erroneous conclusion that RHP was approved in the same meeting held on 17th August, 2011 in which the ICDs were allegedly approved by the Board. This situation, if accepted, would lead to an inherent dichotomy inasmuch as it is unfathomable that the ICDs were approved in the same meeting wherein the RHP, without containing this factum regarding approval of ICDs, was also approved. In the absence of any evidence to the contrary, we, therefore, find that the Appellant was only supplied with an extract, and not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... filed with SEBI by the Appellant after concluding a thorough Due Diligence exercise. • December 29, 2010 - After duly vetting the DRHP, SEBI issued exhaustive comments to be incorporated in the DRHP before it could be converted into the RHP. • August 17, 2010 - Necessary steps taken by the Appellant as an MB and after receiving the extract of the Issuer Company's Board Resolution dated August 17, 2011, filed the same before SEBI on the same date itself. Subsequently, it was also filed with the concerned ROC on August 20, 2011. • September 7, 2011- Accordingly, the IPO opened on for public subscription. • September 12, 2011 - The public subscription was closed. • September 14, 2011 - Thereafter, the final Prospectus after incorporating the changes suggested by the ROC as per the requirement of law. • September 16, 2011 - The Prospectus was preferred before SEBI as well. • September 16, 2011 - Shares were, thus, allotted to the public investors. • September 26, 2011 - Shares listed on BSE and NSE. 46. The above chronology makes it abundantly clear that the Appellant could not have incorporated such a fact of giving ICDs to the three co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pany are as follows: • Clause 4 lays down all the duties of the the Issuer Company with respect to the issue. For instance, clause 4.2 states that the the Issuer Company undertakes to provide relevant information to the BRLM to cause the BRLM to file such reports as required by law; clause 4.4 states that the the Issuer Company undertakes to provide the BRLM with all information required to prepare the offer documents in accordance with legal requirements; vide clause 4.5 the Issuer Company declared that any information made to the BRLM by the the Issuer Company shall be true and accurate and under no circumstance would any information be withheld; vide clause 4.9 the the Issuer Company undertook to update the information provided to the BRLM in case of any material change subsequent to the submission of the DRHP and upto the listing of the Equity Shares of the company. • Clause 5 puts forth provisions regarding independent verification to be conducted by the BRLM to ascertain the true state of affairs of the the Issuer Company. • Clause 8 provides for duties of the BRLM and states that the BRLM shall follow the code of conduct as provided in the MB Regulations. F ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... other than the Statutory Auditors of the the Issuer Company, in respect of which RHP / Prospectus is to be filed by the Merchant Banker before the authorities. Such an instrument does carry value and cannot be brushed aside lightly. A Comfort Letter is not an ordinary certificate which can be procured by the the Issuer Company for general purposes in a routine manner from any auditor. Therefore, it is inapposite to question the materiality of a Comfort Letter obtained from a Statutory Auditor particular in light of the fact that Statutory Auditors are also governed and regulated by SEBI. Although, a Comfort Letter cannot be treated as an excuse for an independent due diligence to be undertaken by a Merchant Banker, yet it is a statutorily recognized step in furtherance of due diligence undertaken by an M.B. and, hence, its value cannot be undermined. The requirement of the Statutory Auditors' Certificate (Comfort Letter) flows from Schedule VIII Section IX of the ICDR Regulations and it is provided therein that audited statements for the purposes of the Offer Document are needed for periods above six months and not before. The Comfort Letters obtained by the MB have been for specif ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 5) SCC 117 that due diligence in law means reasonable diligence and doing "everything reasonable, not everything possible". 53. In the case of Chander Kanta Bansal, the Appellant and the Respondent, being the Members of a common co-operative housing society were jointly allotted a plot in New Delhi in the year 1981, and both of them constructed their respective portion. In the year 1986, a dispute arose as regards the driveway. The respondents before the Apex Court had filed a suit before the Trial Court. After the evidence was over, the Appellant before the Supreme Court filed an amendment application bringing on record a written agreement executed between the parties in the year 1982. The Trial Court allowed the amendment subject to certain cost but the High Court, in appeal, reversed the same. This is how the matter eventually reached the Apex Court. While interpreting Order 6 Rule 17 of the Code of Civil Procedure, the Hon'ble Supreme Court noted that Rule 17 makes it clear that amendment of pleadings is permitted at any stage of the proceeding, but the proviso imposes certain restrictions and provides that after the commencement of trial no application for amendment shall be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re levelled against PNB: A. failed to make disclosure of cancellation of land allotted to TSL by Andhra Pradesh Industrial Infrastructure Corporation Ltd. (hereinafter referred to as "APIICL"), at Warangal in the offer document; B. made incorrect disclosures about the presence of employees across various office of TSL in the offer documents; C. failed to make disclosure on utilization of IPO proceeds for repayment of IDCs raised by TSL; D. made incorrect disclosures about buy back arrangement of shares of TSL; E. failed to make disclosure of related party transactions in the offer document of TSL F. made incorrect disclosures of the business over view of TSL. G. failed to carry out due diligence while verifying the address of Mr. Ramaswamy Kuchana, Director of TSL. 56. Further, in paragraph 10 of SEBI's order dated 5th August, 2014, it has been categorically held by the learned WTM while exonerating a similarly situated Merchant Banker, namely - PNB Investment Services Limited, held as under :- "10. …..In view of the above, the due diligence expected from the merchant banker is reasonable diligence. Such obligation has to be enquired into and found out on the higher ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... easons elucidated hereinafter except that the Bank statements of the the Issuer Company should be examined by an MB during the course of a due diligence exercise. Now, turning to the facts of Keynote, it has been pertinently held by this Tribunal, particularly in para 33 of the order dated 19th February, 2014, that there was a total failure on the part of Merchant Banker in the performance of his duties in the IPO of the Issuer Company, namely, ESL, in that case. From an examination of the facts of Keynote it is borne out that ESL had siphoned off funds to the tune of ₹ 4.75 crore. Keynote had failed to report this since it based its Due Diligence on primarily two points. The first being a declaration for the Board of Directors stating simply that all statements in the approved offer document were true and correct. Secondly, Keynote relied on the Capitalisation Statement received from a Statutory Auditor, which did not fulfill the requirements of a Comfort Letter as understood from a reading of the relevant provisions of the ICDR as discussed above. In the case of Keynote, it was evident that nothing concrete was done to verify the statements of the Board of Directors and tha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the Bank Accounts of the the Issuer Company but we have our own reservations in completely accepting this argument in the present case. We must adopt a more pragmatic approach in this regard. Analysing the fund flow in the the Issuer Company's accounts for the relevant period, ie, from the signing of the Memorandum of Understanding till the conclusion of the IPO, would have revealed the true financial position of the the Issuer Company's financial dealings to prospective investors more vividly. Such a disclosure is useful and hence essentially needs to be made in the Offer Documents. True and accurate disclosures are important for common investors to take an informed decision regarding investment in the upcoming IPO. The purpose for which the disclosures are required to be made will, thus, be frustrated if the same were inaccurate or untrue or incomplete. 62. Again, in the case of PNB Investment Securities Limited, it was clearly stated by the WTM that the MB could not be expected to look into each and every bank statement with suspicion unless there is a red flag which propels the Merchant banker to do so. However, apart from vital and material developments, there may be some ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the capital market for a period of three years. This penalty, in the circumstances of the case, appears to be too harsh and disproportionate to the gravity of the default committed by the appellant. The learned counsel for the appellant, however, contends that at the most the appellant could be said to have been guilty of lack of due diligence and nothing more and, therefore, mere censure would be enough. We do not agree with this submission. It is true that the appellant is guilty only of lack of due diligence in the performance of its duties but that had serious consequences for some of the investors who have lost their money when they purchased the shares as stated above. To carry out due diligence is the primary responsibility of the merchant banker and since the appellant failed in discharging that duty, we are of the view that it deserves to be debarred from dealing in securities or in carrying out any activities relating to the capital market. The ends of justice, in our view, would be adequately met if the period of debarment is reduced from three years to six months. We order accordingly. We have reduced this period keeping in view the fact that there is no allegation t ..... X X X X Extracts X X X X X X X X Extracts X X X X
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