The Powers of SEBI to pass Ex-Parte Ad Interim Orders

Our previous articles in the Securities Law series have covered SEBI's powers in different areas of the securities markets. One of the most powerful tools at SEBI's disposal is its ability to pass ex-parte ad interim orders.

The power of SEBI to pass ex-parte ad interim orders stems from Section 11(1) of the Securities and Exchange Board of India Act, 1992 (SEBI Act) which casts an obligation on SEBI to protect the interests of investors in securities and to promote the development of, and to regulate the securities market, by such measures as it thinks fit. 

The power to pass ex- parte ad-interim orders also falls within the contours of Section 11(4) read with 11B of the SEBI Act. Per 11(4) in particular, SEBI has the power to issue directions either upon completion or during pendency of any investigation or enquiry, against (i) any intermediary; (ii) any person associated with the securities market or (iii) any company in contravention of the provisions of the SEBI Act. These directions include, inter alia:

• To suspend the trading of any securities on the recognised stock exchange;

• To restrain persons from accessing the securities market and prohibit any person associated with the securities market to buy, sell or deal in securities;

• To impound and retain the proceeds or securities in respect of any transaction which is under investigation;

• To attach, for a period not exceeding 90 days, bank accounts or other property of any person who violates the provisions of the SEBI Act or any rules, regulations, guidelines, circulars, etc. issued thereunder.

Section 11 D of the SEBI Act which empowers SEBI to issue cease and desist orders, is also relevant for the purposes of such ex parte orders. A stand-alone power of its own and used in the past by SEBI to issue directions in the nature of prohibitory injunctions, this is invoked for ex -parte action as well, where SEBI’s interim measures require parties to cease certain activities. Therefore, a bundle of provisions across section 11, including 11(4), 11B and 11D come together to create the foundational platform for SEBI’s ex parte actions.

Any ex-parte ad-interim order passed by SEBI shall be in writing and shall record adequate reasoning for passing of any such order. Specifically for listed companies or public companies who intend to get listed, SEBI can take measures to suspend trading or curb market access, where it has reasonable grounds to believe that such company has been engaged in insider trading or market fraud related practices.  

As early as 1984, in the Liberty Oil Mills & Ors. v. Union of India & Ors. case, the Hon’ble Supreme Court of India (Supreme Court) had ruled that the urgency to pass ex-parte ad-interim orders must be driven by various factors, such as widespread misuse and attempts to monopolize or corner the market. The Supreme Court held in this decision that regulatory agencies must act swiftly to curb further wrongdoing and take prompt action to restore confidence in the capital market. Even in the securities market, courts have through the years, encouraged SEBI to parse through facts and exercise the ex-parte tool only in situations that warrant immediate interference and action. Discretion conferred cannot be used in routine situations and should be reserved and fired only as an exception, when circumstances so warrant.

The interplay between natural justice and these ex-parte powers has been a natural sequitur to the debate on how such discretion should be exercised. In the case of Anand Rathi & Ors. v Securities and Exchange Board of India (Anand Rathi Case) it was held that while ex-parte ad interim orders may always be made without a pre decisional opportunity or without the order itself providing for a post decisional opportunity, the principles of natural justice which are never excluded will be satisfied if a post decisional opportunity is provided on demand. The Anand Rathi Case served as a precedent for many cases such as the orders passed by SEBI in the matters of In Re: Zylog Systems Limited and Ors. decided on July 30, 2015 and In Re: Mishka Finance and Trading Limited and Ors. decided on October 12, 2015.

The Hon’ble Securities Appellate Tribunal (SAT) in the matter of Pancard Clubs Limited v Securities and Exchange Board of India held that invocation of discretion for passing ex-parte ad interim orders has to be rational and shall be guided by sound principles of natural justice and fair play in action. This is the kind of power that poses a monumental responsibility on SEBI and hence needs to be exercised with great care and caution so that no one might question the acts of the sole regulator of the Indian securities market, purely on the basis of non-observance of the principles of natural justice. Giving every party an opportunity of being heard is one of the most significant limbs of natural justice. This judgement also held that a decision, be it judicial, quasi-judicial or administrative, on a question, without offering an opportunity of a hearing will suffer from the vice of unfairness.

A number of these principles were crystallised by the SAT in one single order, when it decided on the matter of North End Foods Marketing Pvt. Ltd. v Securities and Exchange Board of India (North End Foods Case). SAT held that while passing an interim order, the principles of natural justice have to be adhered to, namely, that an opportunity of hearing is required to be given. Pre-decisional hearing is not always necessary when ex-parte ad-interim orders are made pending investigation or enquiry unless provided by the statute. In such cases, rules of natural justice would be satisfied, if the affected party is given a post-decisional hearing. SAT also caveated SEBI’s power and held that SEBI was empowered to pass an ex-parte interim orders only in extremely urgent cases and that such power should be exercised sparingly.

The view in North End Foods Case was confirmed by SAT in the case of Dr. Udayant Malhoutra v Securities and Exchange Board of India (Udayant Case) which view was also confirmed by the Hon’ble Supreme Court of India (Supreme Court). SAT in the Udayant case also held that an ex-parte ad-interim order shall be passed only if such an order meets the rigour of three legal principles - a prima facie case against the party in question; evaluation of a balance of convenience; and if irreparable injury is caused unless such measures are put to action instantly.

SEBI has to follow due process while issuing ex-parte orders. SEBI must have sufficient reasons to believe that immediate action is necessary to protect the interests of investors or to prevent the tampering of evidence or to prevent the alleged offender from disposing off any property or ill-gotten gains. Such disposal is required to be established with the assistance of cogent evidence rather on surmises and conjectures and formation of unguided subjected satisfaction.

Globally as well, powers to injunct ex-parte are found with regulators. The U.S. Securities and Exchange Commission (SEC) in the United States and the Securities & Futures Commission of Hong Kong both have the ability to exercise such powers in cases where the alleged violation or threatened violation is likely to result in significant harm to investors, the important distinction being that in both these jurisdictions, regulators can only file motions seeking injunctive relief; the passing of any such ex parte orders fall within the domain of courts.

In the case of United States SEC v. Ahmed, 2015 U.S. Dist. LEXIS 196381 an ex-parte order was passed based on the following premise “good cause to believe the Defendant will dissipate, conceal, or transfer assets, and pursuant to Fed. R. Civ. P. 65(b), the Court specifically finds that there is a likelihood of irreparable injury unless this order is issued ex-parte.”.

While a compelling use case for ex-parte orders exists across various areas of the securities markets business, SEBI’s exercise of it has been predominantly against market conduct cases, against listed companies and against entities conducting regulated activities in an unlicensed manner. That said, while urgency and preventive actions remains at the heart of such unilateral interim action, such distinguishing factors are not always easily discernible in SEBI’s implementation.

Given the clear and present danger that continued market manipulation poses to the market, ex-parte orders are frequently exercised by SEBI in the world of market misconduct. Some recent examples below:

In Rajeev Vasant Sheth v Securities and Exchange Board of India, the promoter of a company, Rajeev Vasant Sheth, decided to sell his and his daughters’ stake in the company to infuse funds for the company’s functioning due to a severe financial crunch. The appellant had made the required disclosures under the SEBI (Listing Obligations and Disclosure Requirements), Regulations, 2015 (LODR) regarding this decision. SEBI accused the appellants of trading with the UPSI of declining profits to avoid a notional loss and issued ex-parte directions impounding the avoided notional loss. SAT set aside the ex-parte order and directed the show cause proceedings to be completed in a time bound manner.

There have been instances where the SAT has also passed rulings whereby the SAT had ordered SEBI to pay costs to the Appellant for passing an ex-parte ad interim order followed by a confirmatory order without application of mind, as in the case Sanjay Gupta v Securities and Exchange Board of India.

SEBI’s ex-parte ad interim order against certain individuals for alleged insider trading in the scrip of Infosys was also modified on appeal by SAT while recognising that there was no urgency to pass debarment orders on the basis of prima-facie suspicion. Such orders can be issued only in cases of extreme urgency and the power vested in SEBI must be exercised sparingly. Balance of convenience or irreparable injury are parameters that also require consideration in the passing of such an order.

In the case of Zee Entertainment Enterprises Ltd. where strict directions were passed ex-parte against certain persons for alleged insider trading, SAT held that once the necessary funds were impounded, there is no basis for a trading restraint to continue during pendency of investigation.

SAT’s order in the case of Pancard Clubs Limited v Securities and Exchange Board of India is noteworthy. The appellant, engaged in hotel operations, sought SEBI’s decision on whether their time-sharing business came under the purview of SEBI’s regulations on Collective Investment Schemes (CIS). While SEBI never formally passed any order, it was understood since 2001 that time-sharing was not covered under CIS. However, after a complaint by a Member of Parliament, SEBI passed an ex-parte ad interim order against the appellant, halting their operations. SAT overruled this order stating that “SEBI can change its ten-year-old stance with new facts coming to light, but not by merely passing an ex-parte order.”

The media and online platforms have also been at the centre of SEBI scrutiny in relation to market abuse. An Ex parte ad-interim order was passed by SEBI against Hemant Ghai, a financial advisor and TV show host for CNBC Awaaz. This case involved an investigation into trades undertaken by him in the accounts of his family members on the back of recommendations made by him as a television host. The SAT order in the matter of Hemant Ghai laid down the following principle: “whether the appellant has violated the SEBI laws is yet to be adjudicated and, therefore, on prima facie basis the restraint order cannot continue indefinitely otherwise it would become arbitrary and in violation of the appellants fundamental right to trade and do business under Article 19(1)(g) of the Constitution of India.”

SEBI also exercised the power to pass ex-parte ad-interim orders in the scrip of Sadhna Broadcast Limited (Sadhna). This ex -parte order covered not only the company and traders but also covered a network of online influencers. SEBI passed an ex-parte ad-interim order against the actor, Arshad Warsi & 30 other noticees for allegedly misleading investors through false content disseminated by way of YouTube videos to lure unsuspecting investors to trade in the scrip of Sadhna. By way of this order dated March 2, 2023 SEBI issued a number of interim directions including directing a deposit, bank freeze, etc. which was then overturned by SAT on appeals filed by some of the noticees.

Listed companies have been the latest set of market participants to face a frequent volley of ex- parte directions. SEBI has increased focus on listed company compliances and issued ex-parte orders in course of many such investigations, as in the matter of Royal Orchid Hotels Ltd. (Royal Orchid) and in the matter of Brightcom Group Ltd. The directions in Royal Orchid imposed ex- parte involved (a) filing a public disclosure to stock exchanges containing the findings of the ex parte order; (b) restraining access to the securities market, association with any listed company or registered intermediary and disgorgement of gains made from the sale of shares; (c) preparing financial statements in accordance with the ex-parte order  and (d) filing a report detailing the changes to the consolidated financial statements and its impact, within one month from the date of the ex-parte order to the stock exchanges. Peculiarly, all these directions were more in the nature of a final order, which meant that complying with any of the interim directives would dilute their case not only on appeal, but render their defence in the ongoing SEBI proceedings infructuous as well. The outcome in such cases would mean that SEBI’s ex-parte order, if complied with, would render the post decision hearing and adversarial process meaningless. The order in the matter of Royal Orchid was eventually stayed by SAT, mandating SEBI to conclude proceedings to be completed in a time bound manner.

SEBI’s ex parte orders have in the past extended to independent directors as well. In an order in the matter of Dish TV, SEBI directed Dish TV to release the results of voting on various proposals put forth at the annual general meeting of the company. The board of directors were required to ensure adequate compliance with such directions. The order was also in the nature of a notice directing the independent directors to show cause under the LODR. Directions were also passed to freeze the accounts of such independent directors till the results of the AGM were released, which were then reversed on appeal.

Entities / individuals undertaking regulated activities in an unlicensed manner have also been subject to ex- parte directions from SEBI, for example, the orders passed by SEBI against SBS Investments and Anirudh Sethi directing them to cease and desist from engaging in activities in the securities market without valid registrations. In both these matters, SBS Investments and Anirudh Sethi were restrained from conducting activities as a portfolio manager without a valid license from SEBI under the portfolio management regime.

With a bevy of such orders in its kitty, cutting across a cross-section of concerns, SEBI's blueprint for issuing ex-parte ad interim orders remains in need of a re-fit and a re-think. No doubt, these powers are critical to maintaining market integrity and ensuring timely action. But allowing them to act as a device that arrogates to the regulator, the ability to effectively pass final verdicts without hearings and unilaterally create irreversible outcomes, would be calamitous. Given the facts and conclusions it puts out in the public domain, ex-parte orders also significantly dilute the impetus for parties to opt for settlement and close matters expeditiously, a comparatively discreet option easily available to those who are first given an opportunity to defend their case with show cause notices. And hence the trade-off evaluation is crucial.

When an investigation is underway, there are competing options available to the regulator – (i) continue/complete the investigation and issue a notice setting out the charges that are then open to defence and evidence or (ii) issue an ex-parte directive in the interim while the fact finding exercise is underway. The factors that must inform and guide a choice between these two are clearly enshrined in jurisprudence and it is important for SEBI to give shape and objectivity to those criteria. Ex-parte directions must remain exceptions and act as crisis management, preventive tools only.

Shruti Rajan is a Partner and Drishti Kapadia is an Associate at Trilegal.

This is the fifth article in the Securities Law series by Trilegal.