The SEBI order in DLF Ltd: Are further regulatory actions forthcoming?

SEBI has recently passed an order against DLF Ltd. prohibiting the largest Indian real estate company from accessing the capital markets. It is perhaps the most significant order passed against a NIFTY 50 company by the securities market regulator in recent times..SEBI has banned DLF from accessing the markets because it found that,.“by not disclosing material information in the Prospectus and actively concealing them from the prospective investors, DLF misled them”.It is indeed ironical that an order that was passed by the regulator to protect the interest of investors resulted in the investors losing over Rs. 7,000 crore. The order restraining DLF and its promoters from accessing the capital markets has significance not only for the thousands of investors of DLF, but for the corporate governance regime as well..A day after the Order was passed, DLF released a press release stating that it had acted on the advice of merchant bankers and legal advisers at all times. This assumes significance due to the peculiar facts of the case. DLF had filed a DRHP dated May 11, 2006 (first DRHP), which was withdrawn by DLF and subsequently it filed the second DRHP dated January 2, 2007 (second DRHP). In the first DRHP filed by DLF, Sudipti, Shalika and Felicite were shown as subsidiaries of DLF. However, in the second DRHP filed with SEBI, DLF’s three wholly owned subsidiaries Sudipti, Shalika and Felicite were not shown the subsidiaries of DLF as on the date of filing of second DRHP..The noticees before SEBI contended,.“When the second DRHP was filed, DLF through its Merchant Bankers filed with SEBI a document indicating all the differences (in track mode) between the first DRHP and second DRHP. Thus, the fact that Felicite, Shalika and Sudipti, which were related parties of DLF in May, 2006 had ceased to be so, was within the knowledge of SEBI”..Therefore, not only SEBI, the Merchant Bankers also knew that the second DRHP did not have disclosures regarding these companies as they have ceased to be related parties in the opinion of DLF..However, SEBI was of the view that,.“DLF continued to be in control of the Board of directors of Sudipti, Shalika and Felicite and, therefore, they continued to be its subsidiaries even after the purported transfer of shareholding in them on November 29/30, 2006…I, therefore, find that the purported transfers of shareholding in the said three companies were sham transactions devised as a plan, scheme, design and device to camouflage the association of DLF with these three companies as holding-subsidiary.”.Many questions have been raised regarding the role of merchant bankers in this case, and it is widely speculated that SEBI may initiate action against the merchant bankers as well. Industry body Assocham has also criticized the harsh treatment meted out to the company and questioned whether intermediaries not be fixed any responsibility if there is purported oversight of technical regulations. However, what complicates matter is the fact that Merchant Bankers generally rely on chartered accountants and lawyers to verify the information provided by the company..It is significant that unlike chartered accountant and lawyers, Merchant Bankers are registered with SEBI and bound by a Code of Conduct prescribed by SEBI under Regulation 13 of the Securities and Exchange Board of India (Merchant Bankers) Regulations, 1992 (“MB Regulations”). Under the Code of Conduct for Merchant Bankers, Merchant Bankers are required to exercise due diligence and make all efforts to protect the interests of investors. They are also responsible for ensuring that adequate disclosures are made to the investors in accordance with applicable regulations. Merchant Bankers are also supposed to certify that the disclosures made in the prospectus are true, fair and adequate..On the other hand, legal advisors to the issue and chartered accountants are not registered with SEBI. However, given the reasoning of Bombay High Court in the matter of PricewaterHouse Coopers v. SEBI, it may still be possible for SEBI to initiate proceedings and SEBI’s jurisdiction in such a case would depend upon the evidence which is available during such an inquiry. If SEBI decides to go down this path, the matter is likely to be highly debated in view of certain Supreme Court and High Court judgments upholding SEBI’s actions against professionals like chartered accountants and company secretaries..In terms of regulation 35 of the MB Regulations, SEBI can initiate action under the SEBI Act, 1992 as well as under Chapter V of the Securities and Exchange Board of India (Intermediaries) Regulations, 2008 (“Intermediaries Regulations”). SEBI may initiate the following types of regulatory action against the Merchant Bankers:.1. Proceedings under Section 11B of the SEBI Act, 1992;.2. Monetary penalty proceedings (adjudication under Chapter VI-A of the SEBI Act, 1992),.3. Prosecution under section 24 read with section 27 of the SEBI Act, 1992; and/or.4. Cancellation/suspension of registration license under regulation 27 of the Intermediaries Regulations..In the past also, SEBI has initiated adjudication proceedings against well-known Merchant Bankers such as Edelweiss and DSP Merrill Lynch Ltd. for alleged violations of the MB Regulations, but both these matters were settled. Recently, SEBI had also suspended the certificate of registration of Almondz Global Securities Ltd. (as a Merchant Banker) for a period of six months. It would be interesting to see whether SEBI does indeed initiate any regulatory action against the Merchant Bankers..It is also possible that SEBI may initiate penalty proceedings against DLF and its promoters/key managerial personnel. Since the SEBI Order has found violations of SEBI (Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations, 2003, SEBI can impose a penalty of three times of the amount of profits made out of such fraudulent practices under Section 15HA of the SEBI Act, 1992. In such a case, the amount of profits made by suppressing this material information would have to be calculated by the regulator..It will also be interesting to see if DLF can get interim relief from the Securities Appellate Tribunal, which is expected to hear this matter again on October 30, 2014. It is my view that SAT may consider providing interim relief of allowing DLF to redeem its investments (such as mutual funds, bonds). Unless such interim relief is given, the wide prohibition against “otherwise dealing in securities, directly or indirectly, in any manner” may be a death knell for DLF..Vaneesa Abhishek is a securities lawyer practicing in Mumbai and can be reached at vaneesa.abhishek@gmail.com