WTM/TCN/08 /ISD/05/07

BEFORE THE SECURITIES AND EXCHANGE BOARD OF INDIA

CORAM: Dr. T.C.NAIR, WHOLE TIME MEMBER

IN THE MATTER OF INVESTIGATIONS

INTO IRREGULARITIES IN IPOs

AGAINST PRATIK STOCK VISION PRIVATE LIMITED

Date of hearing : August 11, 2006

Appearances

For Noticees   : Shri Vinay Chauhan, Advocate

    Shri Rajendra K Jhunjhunwala, Director, Pratik Stock Vision Pvt. Ltd.

     Shri Suresh K Jhunjhunwala, Director, Pratik Stock Vision Pvt. Ltd.

For SEBI   :   Shri Sanjeev Dutt, Chief General Manager

 Shri V.R.Prasad, Deputy Legal Advisor

Shri B.J.Dilip, Asst. General Manager

 Ms. Kshama Chavan, Legal Officer

ORDER

(UNDER SECTIONS 11 AND 11B OF SEBI ACT, 1992)

1.0 Background

1.1.               By an ad interim ex-parte Order dated April 27, 2006 (hereinafter referred to as the ex-parte Order’) under section 19 read with section 11, 11B and 11(4) of the Securities and Exchange Board of India Act, 1992 and section 19 of the Depositories Act, 1996 pending enquiry and passing final Order, certain interim directions were issued against various market participants including Pratik Stock Vision Private Limited (hereinafter referred to as ‘Pratik’).

1.2.               The ex-parte Order dated April 27, 2006 states that Pratik, Depository Participant of Central Depositories Services Limited (CDSL) and National Securities Depository Limited (NSDL) prima facie appears to have grossly failed in adhering to Know Your Client (KYC) norms laid down by SEBI, thereby facilitating opening of demat accounts in fictitious/benami names and cornering the retail portion of shares in various Initial Public Offerings (IPOs).  In view of the above preliminary findings Pratik was directed not to open fresh demat accounts till further directions.

1.3             Para 17.18 of the ex-parte Order dated April 27, 2006, stated that the said Order shall be treated as show cause notice against the concerned entities named therein including Pratik. These entities were given opportunity to file their objections, if any, to the ex-parte order within 15 days from the date of the ex-parte order and if they so desire, avail an opportunity of personal hearing at the SEBI Head Office, Mumbai within 15 days from the date of the ex-parte order. They were also given an opportunity to inspect the relevant documents relied upon by SEBI against them, prior to hearing.

2.0             Findings with respect to  Pratik in the ex-parte Order

2.1             The focus of the SEBI investigations was on entities indulging in off-market transactions after allotment of shares prior to listing and commencement of trading on the stock exchanges, in connection with cornering of IPO shares in retail segment through benami/fictitious demat accounts.

2.2             At para 7.0 of the ex-parte Order, it is stated that Shri Purshottam Ghanshyamdas Budhwani, one of the key operators in CDSL received large number of shares in the IPOs of the following companies :

(i)                Infrastructure Development Finance Co. Ltd.

(ii)             Suzlon Energy Ltd.

(iii)           Shoppers Stop Ltd.

(iv)           Nectar Life sciences Ltd.

(v)             Yes Bank Ltd.

(vi)           SPL Industries Ltd.

(vii)        IL& FS Investment Ltd.

(viii)      Sasken Communication Technologies Ltd.

2.3             At para 8.4 of the Order, it is stated that out of 21968 demat accounts that had acted as afferent accounts for the 3 master account holders in CDSL, 1299 accounts were held with Pratik.

2.4             At para 9.5 of the Order, it is stated that CDSL informed SEBI that in case of Pratik, it had found 1203 number of multiple accounts sharing common addresses. Inspection of the DP by SEBI brought out observations such as opening of the demat accounts exclusively for the purpose of investment in IPOs, opening of demat account in bulk by procuring applications through IPO sub brokers.

2.5             At para 9.11 of the Order, it is stated that the verification done by NSDL regarding genuineness of the demat account holders revealed that Pratik had 630 account holders sharing common addresses in NSDL.

2.6             At para 10.15 of the Order , it is stated that Shri Purushottam Budhwani has made off market transfer of IPO shares to the entities mentioned in table 10.15 of the Order.

2.7             At para 12.3 and 12.5, it is mentioned that an inspection was conducted by SEBI using sample and random test check method for inspecting the broker accounts and other records of the entity and verified documents such as account opening forms(AOP), client agreements, Know Your Client, issuance and processing of Delivery Instruction Slips (DIS), client ledgers etc. selected on a random basis and found as under :

2.7.1       At para 12.4 of the order, it is stated that the trading terminal of Pratik was deactivated by NSE w.e.f December 11, 2003 as a risk containment measure. This withdrawal of trading facility was due to the arrest of Shri Rajendra Jhunjhunwala, a dominant shareholder and director of Pratik. The terminal of Pratik was re-enabled by NSE on July 6, 2005, but Pratik did not commence trading. During the inspection of Pratik, it was stated that they did not undertake any broking activity since the arrest of one of its directors.

2.7.2       At para 12.7, as regards the findings relating to account opening , it is stated that Pratik had 3581 active / operative accounts of CDSL and 2108 operative accounts of NSDL on December 2005.  Further at para no. 12.8 it is mentioned that 160 accounts out of 293 new accounts opened at CDSL during June 2005 were pertaining to Budhwani group. These accounts were opened mainly on June 14, 2005, June 15,2005 and June 16,2005 with address as B/2 Himalaya Society, Milind Nagar, Asalaf, Ghatkopar (W), Mumbai 400084. During the month of June and July 2005 a large number of accounts were opened by Pratik. Majority of these accounts were pertaining to Purshottan Budhwani Group. While the accounts which were closed by Pratik were pertaining to various groups such as Kamla Bordia, Bajaj group, Dhanuka group, Sheth group etc. These groups were closed consequent to SEBI’s Order in the matter of Yes Bank Ltd.

2.7.3       At para 12.10 of the Order, it is stated that after scrutiny of Know Your Client and Account Opening Forms/documents, it is observed that in some cases the Depository participants had opened the accounts without having a valid proof of identity (POI) and proof of address (POA).

2.7.4       At para 12.11, it is sated that the Pratik  had opened many accounts of the same person with varying combination of names (e.g. interchanged the names or by abbreviating, the names or by expanding the names or by adding, some alphabets or adding some titles such as Shri, Kum, Miss, Mrs, Bahan, Devi, Bhai, Dev, Smt. etc and with the same set of photographs, POI and POA.

2.7.5       At para 12.12 it is stated that Pratik opened number of accounts wherein there are discrepancies observed in the address proof submitted and address captured in the DPM system.

2.7.6       At para 12.14 of the Order, it is stated that Pratik in certain cases opened accounts on the basis of banker’s verification for POI and POA submitted by the investors. Discrepancies were observed in such banker’s verification certificates.

2.7.7       At para 12.15 and 12.16 it is stated that in certain cases the DP had taken bank statements along with sample cheque leaves for the POA for the correspondence address of the investor. During the inspection of Pratik, it was revealed that the DP had opened a large number of accounts at same or similar address. On scrutinizing the transactions in such accounts, it was revealed that these accounts were opened mainly for getting allotment in the IPO of various companies.

On analysis of the data of Pratik, it is observed that there were more than 16 sets of addresses where the number of accounts was more than 20. Further the accounts having such common addresses were approximately 2658 which belong to various groups of persons such as Purshottam Budhwani, Kamla Bordia/ Boradia, Nitin Ganeriwal Purswani / Talreja / Ledhwani, Manojdev Seksaria and Sharad Singhania etc. The combined client master of Pratik at NSDL and CDSL shows the total number of BO accounts (active, inoperative, closed and suspended) with Pratik since its inception were totaling to 8853. Thus the above accounts constituted nearly 30.3 % of total accounts.

2.7.8       Pratik had offered a scheme through CDSL w.e.f. August 15, 2003 called ‘Investor IPO’. The charges in this scheme were minimal and were to attract those investors who were mainly investing in IPO only. The charges under this scheme were less as compared to other normal investors.  At para 12.17 and 2.18 it was observed that large number of beneficiary accounts opened by DP were of those investors who were basically investing in public issues only. Further, there were off market transfers to a set of other BO accounts from these investor IPO accounts, maintained within Pratik or within the depository or in the other depositories, from these IPO accounts.

2.7.9       At para 12.20 and 12.22 of the Order, it is stated that in some cases Delivery Instruction Slip (DIS) numbers issued to the BO holders were not captured in the back office system of the DP. Loose DISs were issued to the clients who have opened accounts under the IPO scheme on personal requests. In certain cases mismatch of signature in the account opening form and DIS was observed.

2.7.10  At para 12.25 of the Order, the inspection revealed that Pratik had executed off market transfers in certain scrips which had recently come out with an IPO. These off market transfers were executed prior to the date on which scrip was made available by the exchange for trading or listed at the exchanges. There were large number of off market transfers into particular beneficiary accounts pertaining to the groups mentioned in para 2.7.7 of this order.

2.7.11  At para 12.29 it is stated that the charges of the accounts opened by the clients were not debited to the respective accounts on periodical basis. Approximately in 400 odd cases, it was observed that ledgers of such BO accounts belonged to Shri Purshottam Budhwani. In all such cases there were off market transfers only to the account of Shri Purushottam Budhwani.  However, it is observed that for the clients connected to the Budhwani group, charges were debited to the account of Shri Budhwani and settled with him.

2.8             In view of the above findings in the Order, directions mentioned under para 17.11 of the ex-parte Order were issued to Pratik.

3.0             Oral hearing and submissions of Pratik

3.1 Pratik filed its preliminary submissions to the Order on May 11, 2006. Thereafter, it availed the opportunity to inspect the documents relied upon by SEBI on June 9, 2006. Pratik also, subsequently on August 11, 2006 appeared for personal hearing before me through its officials/ representatives as recorded on the first page of this Order and made oral submissions. The submissions made by Pratik in the aforesaid letter and during the oral hearing are as under:

3.1.1       Powers under section 19 of Depositories Act, 1996 (Depositories Act), can be exercised only by the “Board” as defined in Depositories Act. Powers conferred on the Board by the Depositories Act are not exercisable by any delegate of the Board. Depositories Act does not provide for delegation of the Board’s powers to any member or other officer of the Board. The ex-parte order is passed by Whole Time Member, as a delegate of the Board. Therefore, the directions issued with reference to the alleged violations of the provisions of Depositories Act and SEBI(Depositories &Participants) Regulations, 1996 (Depositories Regulations) are without authority of law and as such illegal.

3.1.2       Section 11 B of the SEBI Act is not available for issuing directions against Pratik for the alleged violations of the Depositories Act and the Depositories Regulations. Scope of section 11 B is not wide enough to empower  SEBI to issue directions for matters falling under the purview of the Depositories Act.

3.1.3       Powers available under section 11 B of the SEBI Act are not available to SEBI  in the instant case for the reason that a direction there under can be issued only “after making or causing to be made an enquiry”. Under the Enquiry Regulations in terms of Regulation 4(e), an order for violation of the Depository Regulations cannot be passed without holding an enquiry by the Enquiry Officer following the procedure prescribed there under. Since the law has prescribed a specific procedure for the purpose, it is necessary to follow the same. It is settled law. In the case of Pratik  no such enquiry in the prescribed manner has been held before passing the ex-parte order. Therefore, the ex-parte order issued against Pratik in its capacity as Depository Participant (DP)  is bad in law.

3.1.4       Even if it is assumed that there is an investigation pending no power is available under section 11(4) to restrain a DP from carrying on the activities as a DP. Section 11(4)(b) specifies no uncertain words as to what are the measures that can be taken in the interest of the investors or securities market. The ex-parte order travels beyond the scope of the said section and  is bad in law.

3.1.5       SEBI has passed interim order in the matter of IDFC Ltd. (IDFC) under section 11 B and 11(4)(b),  pending investigation. IDFC order was issued on January 12, 2006. Vide the said order, those entities / persons against whom the directions were issued were given an opportunity to file objections within 15 days of the order. In response to the same, Pratik had filed its objections vide its letter  dated January 31, 2006 (Annexure A) and had also specifically requested SEBI to give it an opportunity of hearing. Ptatik is yet to be heard in the matter and no opportunity has been given. But even without acceding to our request for a personal hearing, SEBI has now passed a final order i.e. the order against Pratik  in IDFC case, which is harsher than what was provided in the earlier order of SEBI in IDFC case. The action of SEBI  in passing such an ex-parte order is totally in violation of principles of natural justice.

3.1.6        Post decisional hearing provided under section 11(4) is an exception that pre decisional hearing is the general rule. The decision of SEBI to dispense with the pre decisional hearing and an empty offer of post decisional hearing is against the well settled law as laid down by the Hon’ble Supreme Court. Compliance of law should be in letter and spirit.

3.1.7       In the ex-parte  Order, it has been mentioned that the same shall be treated as a show cause notice against the concerned entities. But the so called show cause notice of SEBI in effect is an order, as it inflicts restraint / prohibition on Pratik  from carrying on its legitimate business activities. It is settled law that a prohibitory order cannot be effected through a show cause notice. If the show cause notice itself is an order, then the very purpose of the notice asking to show cause is defeated. If any prohibitory order is to be issued then it should be stand alone order. The law does not recognize show cause cum penal order in matters like the one under reference.  In light of the punitive directions, the so called show cause notice  is a façade and mockery of justice. It is obvious that SEBI has prejudged the issue, since the language of the order indicates that it has already been concluded that Pratik is guilty and that show cause notice is only a formality. Therefore, Pratik is placed in a situation where it has  already been determined and the opportunity provided to Pratik  to show cause is an empty formality to make good the fatal procedural deficiency.

3.1.8       The ex-parte order issued at this juncture is neither preventive, remedial or curative. Since the order passed by SEBI in case of IDFC had already restrained Pratik  from opening fresh demat accounts, the direction presently given not to carry on the activities as DP is no more preventive or remedial but is penal in effect.

3.1.9       The ex-parte order has gone against the legislative mandate of protecting investor’s interest. Section 11, 11B can be invoked only in the interests of investors in securities and for preserving the integrity of securities market.  SEBI is not empowered to direct the demat account holders running approximately 2100 to compulsorily switchover to another DP at their personal inconvenience and extra cost. Direction to the investor switchover to another DP is against the interest of investors and securities market.

3.1.10  The  direction issued against us vide the ex-parte order which will be followed by enquiry proceedings and final order are in the nature of death penalty resulting in a possible closure of the business.  The ex-parte order has failed to justify the need for issuance of excessively punitive direction, for the events that took place long back, during the pendency of enquiry. SEBI cannot pass such a drastic order debarring Pratik from carrying on the business or stigmatize Pratik  as not fit to deal in securities market without holding a proper enquiry.

3.1.11  SEBI has held Pratik not a fit and proper person and thereby inflicted irreparable damage. It is well settled that a person cannot be held not fit and proper person on a prima facie finding.

3.1.12  The directions passed against Pratik are not warranted and urgent. Not even prima facie case has been made out to warrant the issuance of such an ex-parte order of serious consequence against us. The imminent urgency has also not been explained to support the ex-parte order.

3.1.13  Pratik had opened DP accounts in the normal course of its business and in consonance with extant rules and regulations.. Further, at all points of time it was ensured that it had requisite POI and POA documents pertaining to the account holders. It may be noted that it is a general practice to use the same address for the purpose of convenience and management amongst the account holders. Further, it is also common practice for investors obtaining loans, applications under power of attorney, personnel from the same office / factory etc. giving the same address. The demat accounts carrying common addresses is not something specific to Pratik  but there are many DPs also which have clients with common addresses. It may also be noted that it is a general market trend that many investors, who are otherwise dormant, open their accounts with an eye on IPOs resulting in opening of many accounts.

3.1.14  With regard to observation in para 12.11, it is submitted that there is no legal bar on opening of multiple accounts of the same person as alleged. It is well accepted market practice and the same is evident from the ex-parte order itself. It may be pointed out that in the past NSDL and CDSL have carried out inspections regularly of the DP operations of Pratik and these very accounts referred to in the ex-parte Order i.e. accounts of the same person in varying combinations have been inspected by them, and at no point of time any objection was raised by them with regard to opening of the accounts in the multiple names. Therefore, in the absence of any objection to the same and no specific legal bar Pratik  did not find anything wrong in opening of the said accounts.

3.1.15  With regard to observation in para 12.16, it may be noted that the said accounts were opened on various days with lot of intervening time gap. It may be noted that there is no bar in opening the demat accounts, on behalf of clients, having same correspondence address. It may be noted that out of the said 2658 accounts belonging to Mr. Purshottam Budhwani only 1300 accounts, as stated in the ex-parte order, have been allegedly used as afferent accounts. Further, the said 1300 accounts form 14.68% of the  total accounts of Pratik.

3.1.16  With regard to observation in para 12.21, Pratik submitted that loose DIS were given only on the personal request of the account holders since the said account holders wanted only one slip, order to avoid any risk of loosing the DIS or misplacing the same and also due to non-frequency of their transfers. The loose slips were given in ordinary course of business de hors of any manipulative or sinister intent.

3.1.17  With regard to observation in para 12.24 – 12.27, Pratik  submitted that all the transactions were executed by Pratik pursuant to the instructions of the BOs in the normal course of business. It may be noted that at the relevant time there was no legal bar on execution of off – market transfers prior to the date on which the scrip was made available by the exchange for trading or listing at the exchanges. Pratik, as DP has no locus in the decision of respective BOs to transfer their shares. Further, Pratik was also not aware that the respective BO’s had transferred the shares to the central account for the purpose of offloading or transferring the holdings as alleged. It is reiterated that Pratik was not acting along with the respective BO’s and all the said transfers were executed by Pratik  pursuant to the instructions of the BOs  in the normal course of business.

3.1.18  With regard to observation in para 12.28 –12.29, Pratik  submitted that the charges were debited to the accounts of Purshottam Budhwani as per his instruction, since the respective BOs  were related to him.

4.0       Consideration of the issues

4.1      I have carefully considered the prima facie findings as recorded in the ex-parte Order and the submissions made by Pratik.  My findings are as under:

4.2             Pratik has contented that the provisions of sections 11B and 11(4) of the SEBI Act and section 19 of the Depositories Act do not give power or authority to SEBI to pass the ex-parte order. Reference is drawn to para 17.1 of the ex-parte order. The ex-parte order was passed with a view to protect the interests of investors and securities market from further acts by the manipulators such as manipulation in IPOs. The ex-parte order was passed by the Whole Time Member, SEBI in exercise of the powers delegated to him by the SEBI Board in terms of section 19 of the SEBI Act read with sections 11, 11B and 11 (4) (b) of the SEBI Act and section 19 of the Depositories Act, 1996. The power to pass an ex-parte order, is derived from section 11 (4) of the SEBI Act. The proviso to section 11 (4) clearly empowers SEBI to pass ex-parte orders in emergent situations and a post decisional hearing can be granted thereafter. The contention of Pratik, therefore, is devoid of merit.

4.3             Pratik contended that powers available under section 11B of the SEBI Act are not available to SEBI for the reason that a direction thereunder can be issued only “after making or causing to be made an enquiry”. It is true that “investigation” and “enquiry” are two distinct and separate legal processes under the SEBI Act as contented by Pratik. However, I note that SEBI had collected numerous factual findings from various sources during the course of its investigation into the dealings in shares issued through IPOs. The ex-parte order was passed after a comprehensive examination of the factual findings, detailed reasons of which are mentioned in the ex-parte order. I am of the view that this process amounts to an “enquiry” within the meaning of section 11B of the SEBI Act. I assert that “enquiry”, as contemplated under section 11B, is different from “enquiry” as provided for under the SEBI (Procedure for Holding Enquiry by an Enquiry Officer and Imposing Penalty) Regulations, 2002 (hereinafter referred to as Enquiry Regulations). To support my assertion, I would like to lay forth the observations made by the Hon’ble Bombay High Court in the Writ Petition of Anand Rathi v. SEBI (2002) 110 Com Cas 837, challenging a similar interim Order of SEBI against the President of a Stock Exchange:

“the power which has been conferred by section 11B to issue direction are of widest possible amplitude and are exercisable in the interests of investors and in order to prevent inter alia a broker from conducting his business in a manner detrimental to the interests of investors or the securities market. The said power to issue directions under section 11B must carry with it by necessary implication, all powers and duties incidental and necessary to make the exercise of these powers fully effective including the powers to pass interim orders in aid of the final orders. The provision of section 11B it is to be noted has been introduced by an amendment brought about in 1995 and the same seeks to confer additional power on the board by way of interim measures, pending inquiry. The same is intended for the protection of the interests of the investors and the securities market”.

I further note that action under the Enquiry Regulations is applicable to intermediaries registered under section 12 of the SEBI Act. In case of non intermediaries the enforcement proceedings are taken up under Section 11 and 11 B and the word “enquiry” therein denotes compliance to natural justice. From the above, I note that recording of prima facie findings based on material showing necessity for passing the ad interim ex-parte order would be construed as enquiry under section 11B and no formal enquiry as in an accusatorial proceeding is required.

I have further noted that the Hon’ble Securities Appellate Tribunal (SAT) has vide its order dated January 8, 2007, in the matter of Karvy Stock Broking Limited v. SEBI, upheld the power of SEBI in issuing directions under section 11 and 11B of the SEBI Act, pending investigation and enquiry.

4.5 I note that the ex-parte order was passed after substantive completion of investigation conducted under section 11C of the SEBI Act and pending enquiry.  The provisions of  Section 11 (4) of the SEBI Act empowers SEBI to pass an ad interim ex-parte order in the interest of investors or securities market, either pending investigation or enquiry or on completion of such investigation or enquiry which also includes power to restrain persons from accessing the securities market and prohibit any person associated with securities market to buy, sell or deal in securities. This clearly empower SEBI to pass directions even against the DP.

The Hon’ble SAT in the matter of Karvy Stock Broking Ltd. v. SEBI, observed as under:

“As is clear from the language of sub section (4) the measures that the Board may take or the orders that it may pass would be “either pending investigation or enquiry or on completion of such investigation or enquiry”. The word ‘investigation’ as used in section 11(4) has not been defined. It obviously refers to the investigation as ordered under section 11-C of the Act because sections 11-C and 11(4) were introduced simultaneously in the year 2002 when Parliament found that the Board prior to their introduction did not have statutory power to investigate. The word ‘inquiry’ too has not been defined in the Act though it finds mention in Sections 11, 11B, 11D and 15I. Under section 12(3) of the Act also, the Board holds an inquiry under the inquiry regulations for imposing major or minor penalties including the penalty of suspension or cancellation of a certificate of registration. It is, thus, clear that an inquiry is held under sections 11, 11B and 11D, it is also held under section 12(3) and also under section 15I. Having regard to the scheme of the Act, the rules and regulations made thereunder we are clearly of the view that even though the inquiries contemplated by the Act may be held under different set of provisions, their object is one and the same viz. to help the Board to promote the development of and to regulate the securities market and protect the interests of investors. The inquiry under section 11 of the Act is held by the Board to find out what measures it needs to take to protect the interests of the investors and what steps it needs to take to promote the development of and to regulate the securities market…………….

As already observed, the Board also causes an inquiry to be made by an inquiry officer under the inquiry regulations and/or by an adjudicating officer under Chapter VIA. It is during the pendency of any of these inquiries or on their completion that the Board may pass appropriate order – interim or final. This is clear from the language of section 11(4).”

4.6             With regard to the issue of IDFC Ltd., Pratik contended that despite filing written objections in connection with IDFC order, no opportunity of hearing was granted to them. Further, SEBI passed a final order on April 27, 2006 which was harsher than the IDFC order dated January 12, 2006.  I note that SEBI vide ex-parte ad interim order dated January 12, 2006 in the case of IDFC has directed Pratik DP not to open new demat accounts till the submission of verification report and obtaining a no objection from SEBI for accepting fresh business as a DP.  In view of the detailed findings against Pratik following directions in the order of IDFC were issued to Pratik:

“……..Pratik –DP to complete the process of verifying the identity and address of dematerialised account holders and to close / freeze the dematerialised accounts where they are unable to do the verification not later than January 31, 2006.

……. Pratik –DP shall put in place systems and procedures to ensure that in future no non – genuine dematerialised accounts are opened by them.

………Pratik –DP shall submit a detailed report to SEBI narrating the actions taken by them in this regard and also give an undertaking that the SEBI’s above directions have been fully complied with.

……… Pratik –DP shall not open new dematerialised accounts till the submission of above report and undertaking to SEBI and obtaining a no objection from SEBI for accepting fresh business as a DP.”  

Pursuant to the directions in the IDFC order, Pratik vide its letter dated January 31, 2006 filed a compliance report of the directions issued under the IDFC order. Further, Pratik has also sought No Objection from SEBI for accepting fresh business.

In the meanwhile, SEBI  pursuant to interim orders in the cases of Yes Bank and IDFC, as a part of ongoing surveillance activity, found that certain entities had cornered IPO shares in various IPOs reserved for retail applicants in the retail category by opening fictitious / benami demat accounts. SEBI in view of protecting the interest of investors passed an ad interim ex-parte order on April 27, 2006 against the various DPs, key operators  and financers with specific directions as mentioned in para 17.1 of the ex - parte order. Pratik DP was also identified as one of them. In view of the substantial findings in addition to IDFC order, following directions were passed  against it under Para 17.7 of the ex-parte order:

“……..Pratik DP shall not carry on the activities as DP till the completion of enquiry and passing of final order, excepting for effecting transfer of BO account to another SEBI registered DP on request.”

It is pertinent to note that the findings of investigations covering 21 IPOs depicted Pratik as one of DP involved in serious irregularities in the IPO process. Pursuant to the ex-parte order of April 27, 2006, Pratik was also given 15 days time to submit their written objections and avail the opportunity of hearing.  I note that Pratik has availed the opportunity of hearing. Thus, the contention of Pratik that it was not given an opportunity of hearing stands devoid of merit.

I further note that the Hon’ble SAT in the matter of Karvy Stock Broking Ltd. v SEBI observed as under:

“It is true that a restraint order dated January 12, 2006 was operating but till that time the board had with it the investigation report in the case of IDFC  IPO on the basis of which it had some suspicion about the role played by the appellant in the opening  of thousands of fictitious /benami demat accounts. After passing of the order on January 12, 2006, the Board undertook an inspection of the books of records of the appellant and collected material which, according to it establishes the connivance of the appellant in the opening of large scale fictitious./benami demat accounts. It was then that the Board issued the impugned directions on April 27, 2006 by the ex-parte order which has been confirmed after affording a post decisional hearing to the appellant in terms of the second proviso to section 11(4) of the Act.  In the  circumstances, we find that the Board was justified in issuing the directions as aforesaid though the correctness of the allegations made would be gone into by the enquiry officer.”

4.7 I note that a plain reading of section 11 of the SEBI Act shows that it is the duty of SEBI to protect the interest of investors in securities and to promote the development of and to regulate the securities market by taking such measures as it thinks fit. Reference is drawn to para 17.1 of the ex-parte order which states as under :

“In the wake of the interim orders in the case of Yes bank and IDFC IPOs there has been a spate of public complaints alleging manipulation in IPOs and urging immediate action from SEBI for protecting the retail investors. Also there is a heightened investors’ concern on the IPOs as reflected in the tenor of demands made on SEBI and the same calls for a timely response from SEBI as regulator to restore the confidence of the retail investor. Amidst such public expectations, coupled with due regard to the fact that a number of IPOs are in the wait for entry into the securities market, which need to be insulated from the manipulations of the various entities as mentioned in this order by suitably restraining them from participation in the ensuing IPOs which has acquired a sense of urgency and which cannot brook the normal delay of quasi judicial proceedings for taking a decision, there is an imperative need to pass the present interim order to protect the market particularly the IPOs from being preyed on by predatory manipulators. Further if the entities, as prima facie found to be instrumental in tilting the IPO allotment process to their favour by the intricate modus operandi as clearly seen in the findings of this order, are allowed to operate in the market any more, the same is fraught with immense mischief and incalculable damage to IPO allotment process besides undermining the confidence of the retail investors who are urging for a fair deal in the market free of such manipulators”.

From the above, I find that the ex-parte order was passed in exercise of powers under section 11 (4) and 11B of SEBI Act to protect the interest of investors and securities market pending investigation and passing of final orders. I further note that section 11 (4) specifically provides for passing ex-parte orders. Therefore the contention of Pratik that the ex-parte order should demonstrate urgency warranting an ad-interim ex-parte order is fairly addressed in para 17.1 of the ex-parte order.

4.8 Pratik has also raised the contention that ad interim ex-parte order was passed in violation of principles of natural justice. [r1] As is evident from the above mentioned provisions of the SEBI Act, SEBI has power to pass such an order in the interest of investors even before giving an opportunity of hearing to the person concerned. When the statute itself confers powers upon SEBI to pass appropriate ad-interim ex-parte order, there is no question of violation of principles of natural justice. I state that in certain circumstances, application of principles of natural justice could be modified and even excluded. It is well established that where a right to a prior notice and an opportunity to be heard before an order is passed would obstruct taking of prompt action or in emergent situations, such a right could be excluded. Further, it could also be excluded where the nature of the action to be taken, its object and purpose and the scheme of the relevant statutory provisions warrant its exclusion. Reference is drawn to the matter of Liberty Oil Mills case wherein Supreme Court observed as under:

“We do not think that it is permissible to interpret any statutory instrument so as to exclude natural justice, unless the language of the instrument leaves no option to the court. Procedural fairness embodying natural justice is to be implied whenever action is taken affecting the rights of parties. It may that the opportunity to be heard may not be predecisional; it may necessarily have to be post decisional where the danger to be averted or the act to be prevented is imminent or where the action to be taken can brook no delay.…….In such situation, it may be enough to issue post decisional notices providing for an opportunity. It may not even be necessary in some situations to issue such notices, but it would be sufficient but obligatory to consider any representation that may be made by the aggrieved person and that would satisfy fairness and natural justice. ……Ad interim orders may always be made ex parte and such orders may themselves provide for an opportunity to the aggrieved party to be heard at a later stage. …….. Natural justice will be violated if the authority refuses to consider the request of the aggrieved party for an opportunity to make his representation against the ex-parte ad interim order.”

The Hon’ble Bombay High Court in the matter of Anand Rathi v. SEBI held,

“it is thus clearly seen that pre decisional natural justice is not always necessary when ad interim orders are made pending investigation or enquiry, unless so provided by the statue and rules of natural justice would be satisfied if the affected party is given post decisional hearing…………. it is not always necessary to grant prior opportunity of hearing when ad-interim orders are made and principles of natural justice will be satisfied if post decisional hearing is given if demanded.

Thus it is settled position that while ex-parte 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 given, if demanded”.

4.9             I find that the ex-parte order only places a temporary prohibition on Pratik for the reasons explained therein and cannot be construed as a punitive direction. The ex-parte order was passed on a prima facie finding and the same has been treated as a show cause notice for complying with the natural justice. Therefore the contention of Pratik is not acceptable and the proceedings cannot be construed as a façade and mockery of justice.

4.10 Pratik has further contended that the order cum show cause notice is  neither  preventive, remedial nor curative but is penal in nature.  I find that the ex-parte Order, was passed in exercise of powers under section 11 (4) and 11B of SEBI Act, 1992. Section 11(4) empowers SEBI to pass such orders both before pending investigation or enquiry and also after completion of investigation or enquiry. As the ex-parte Order itself records that the said Order has been passed pursuant to a detailed investigation and further the proviso to section 11 (4) provides for passing of such ex-parte  Order, pending post decisional hearing, I do not find any legal infirmity in passing such Order. With regard to the contention of passing punitive Order, as stated earlier, the prohibition of not opening fresh demat accounts was issued upon a serious suspicion on the genuineness of the afferent accounts subject to verification by the Depositories. It was not a punitive measure but a preventive step taken by SEBI in view of urgency, pending inquiry in the interest of investors and the securities market.

4.11 Apart from the above legal issues, I proceed to deal with the factual issues raised by Pratik. I note that Pratik is a registered broker depository participant with SEBI in the year 2000. As per the findings recorded in the ex-parte order, I have noted that at the end of December 2005, total number of demat accounts held by Pratik since 2000 was only 5,689 which indicates that Pratik does not have large clientele base. However, after careful examination of the nature of accounts held with them, it was observed that as many as 1480 demat accounts were held with them were sharing common address of certain key operators like Purshottam Bhudwani and Manoj Sekseria. Further, 1,178 demat accounts also shared common address which belonged to various groups such as Kamala Bordia/Bordia, Nitin Ganeriwal, Purswani / Talreja / Ledhwani. Thus, it appears that around 46% of the total demat accounts held with Pratik share common address which prima facie indicate that Pratik had failed to exercise due diligence by not establishing the identity of the clients as prescribed by SEBI vide circular dated August 4, 2000 and August 24, 2000 and thereby facilitated opening of benami/ fictitious demat accounts.

4.12 As per the findings of inspection, I have noted that Pratik had offered a scheme through CDSL with effect from August 15, 2003 called “Investor IPO” which had minimal charges to attract those investors who mainly invest in IPOs only. It is observed that pursuant to such scheme, large number of demat accounts were opened by key operators like Purshottam Bhudwani and Manoj Sekseria to corner shares in the various IPOs.  Further, as per the client ledger of Pratik, it is observed that transaction charges pertaining to clients related to a group were not debited to respective accounts on periodical basis but were charged to group account implying thereby Pratik was aware that such accounts were controlled / managed by Key operators like Purshottam Bhudwani and Manoj Sekseria. Therefore, I find that Pratik was aware that the demat accounts held with them were not genuine and were under the control of Key operators. Further, it is also noted that Pratik had issued loose slips to various entities including key operators which were used mainly for making off market transfers from afferent accounts to master accounts in various IPOs like IDFC, Yes Bank, SPL Industries Ltd, Suzlon Energy Ltd. before the date of listing.

4.13  In light of the above, it appears that Pratik was fully aware of the game plan of key operators to corner shares in various IPOs as is evident from the fact that they failed to exercise due diligence by not taking measures to detect/deliberately ignoring the manipulative practices of key operators despite being aware that Key operators were in control of large number of afferent accounts. The manner in which the Delivery Instruction Slips were processed also suggests that Pratik had deliberately facilitated the Key operators to corner the shares. Further, the percentage of demat accounts sharing common address of various entities including key operators suggests that demat accounts have been opened specifically to cater to the IPO clients for making multiple applications and cornering the shares in various IPOs. I note that CDSL vide its communiqué DP525 dated February 24, 2005 issued guidelines regarding issuance of loose slips to be followed by depository participants. One of the guidelines required each DP to establish the identity of the client before issuing the loose slips. However it appears that Pratik had issued loose slips without complying with the guidelines prescribed by CDSL and thus facilitated Purushottam Bhudwani to corner shares in various IPOs.

4.14  I have noted that Pratik in its submissions stated that out of 1300 afferent accounts of Purshottam Bhudwani, only 251 account holders have appeared for personal verification and 975 account holders have not come for verification and such accounts have been either been closed or frozen. Further, it was submitted that KYC norms pertaining to these account were complied with. It was also submitted that out of 1300 afferent accounts of Purshottam Bhudwani in respect of 1177 demat accounts, voter ID cards were taken as proof of identity, PAN cards were taken in respect of 60 demat accounts, driving licenses were taken in respect of 14 cases and 49 demat accounts were opened based on introduction from existing account holders.

4.15 I have noted that an Enquiry Officer has already been appointed under the SEBI (Procedure for Holding Enquiry by Enquiry Officer and Imposing Penalty) Regulations, 2002, to enquire into the irregularities observed against Pratik. I am therefore of the view that issues, if any, shall be taken up by him and necessary action may be taken against Pratik, if it is found guilty of violating any regulations of SEBI. I am therefore, of the view that there is no need to continue the interim prohibition on Pratik  in para 17.7 of the ex parte order.

5.0 Order

5.1 In view of the above, I, in exercise of the powers conferred upon me in terms of Section 19 read with Section 11 and 11B of the SEBI Act, 1992, hereby direct that there is no need to continue with the directions issued to Pratik Stock Vision Private Limited not to open fresh accounts.

5.2  It is clarified that the present order gives only a prima-facie finding as to the necessity of passing the interim directions at this stage and accordingly all issues and contentions are left open to be considered by the Enquiry Officer and to be decided in subsequent proceedings pursuant to his report.

5.3 This order shall come into force with immediate effect.