Hedge Equities Ltd. vs Sebi

DATE : 20.02.2017

Appeal No. 32 of 2016

Hedge Equities Ltd. B 302, Trade Square, Mehra Compound, Near DSK Madhuban, Sakinaka Kurla Road, Andheri East, Mumbai -400 072. ..... Appellant

Versus

Securities and Exchange Board of India SEBI Bhavan, Plot No. C-4A, G Block, Bandra Kurla Complex, Bandra (East), Mumbai - 400 051. .....Respondent

Mr. Suresh Viswanathan, Practicing Company Secretary for the Appellant. Mr. Mustafa Doctor, Senior Advocate with Mr. Tomu Francis, Advocate for the Respondent.

CORAM : Justice J. P. Devadhar, Presiding Officer Jog Singh, Member Dr. C. K. G. Nair, Member

Per : Jog Singh (Oral)

1.

The appellant, Hedge Equities Ltd., is a registered stockbroker and

has approached this Tribunal against the impugned order dated December

23, 2015 passed by Securities and Exchange Board of India ('SEBI' for

short) imposing a monetary penalty of ` 15 lakh under Section 15HB of

Securities and Exchange Board of India Act, 1992 ('SEBI Act' for short),

mainly for violating two SEBI circulars dated December 3, 2009 and May

13, 2011 read with Clauses A(1); A(2) and A(5) of Code of Conduct for

stockbrokers as specified under Schedule II and Regulation 7 of the

Securities and Exchange Board of India (Stockbroker and Sub-broker)

Regulations, 1992 ('Stock Broker Regulations' for short). 2

2. Briefly stated, the facts of the case are that the Respondent

conducted an inspection of the books of accounts and every connected

record on 24th and 25th January 2014. The inspection period comprised of

the financial year 2012-2013 and from April 1, 2013 to December 31, 2013

("Inspection Period"). The inspection was conducted with a view to

examine the compliance of provisions of SEBI's circulars dated December

3, 2009 and May 13, 2011. The idea was to find out as to whether there was

due compliance by the appellant in respect of quarterly / monthly

settlement of funds and securities of clients in accordance with provisions

of the said two circulars. On inspection, SEBI found many deficiencies in

the working of the appellant, in complying with the provisions of

Stockbroker Regulations, 1992 read with two circulars in question as

regards the requirements of mandatory quarterly / monthly settlement of the

running accounts of the clients.

3. It was, inter-alia, pointed out to the appellant by SEBI that the

primary deficiency as set out in the inspection report was the "retention of

securities of the clients who have debit balances and are inactive for over

year period and that the value of securities held are higher than the actual

amount due from such clients which is serious in nature". SEBI conveyed

these deficiencies to the appellant by letter dated May 6, 2014 and

subsequently, issued a show cause notice dated September 3, 2014 under

Rule 4(1) of SEBI rules, alleging various violations in question. Appellant

replied to the show cause notice by letter dated September 29, 2014 and

after affording an opportunity of personal hearing to the appellant as well as

considering the written submissions filed by the appellant, SEBI passed an

impugned order holding the appellant guilty of violating Clause 12(e) of the

SEBI Circular dated December 03, 2009 May 13, 2011 read with Clauses

A(1); A(2) and A(5) of Code of Conduct for stockbrokers as specified 3

under Schedule II and Regulation 7 of the Stock Broker Regulations. The

following four issues have been crystallized in the Impugned Order :

(i) Non-inclusion of new client accounts in the mandatory

quarterly settlement of client accounts on grounds of non-

completion of one full quarterly period of trading.

(ii) Non-inclusion in the mandatory settlement of accounts, those

client accounts that had received request pay-out in the

quarter.

(iii) Non realization, non presentation and reversal of pay out

cheques issued

(iv) Statement of accounts issued to clients not in compliance with

Clause 12(e) of SEBI Circular dated December 03, 2009.

4. Challenging the impugned order on the aforementioned violations

committed during the investigation period, Shri Suresh Viswanathan,

practicing company secretary on behalf of the appellant, submits that the

Appellant cannot be held guilty of non-inclusion of new client accounts in

the mandatory quarterly settlement of client accounts on grounds of non-

completion of one full quarterly period of trading. The Appellant in its

submission to SEBI categorically conveyed that the system in place at the

relevant time did not settle those client accounts which had been opened in

a particular quarter. It was argued by the Appellant that a reading of Para 3

of the FAQs on Actual Settlement of Funds and Securities, put out by the

National Stock Exchange ('NSE') vide circular number 144/2012 dated

September 07, 2012, inter-alia, clarifies that "in case of new clients

registered at the end of the month/quarter, no settlement would be required

to be done in the first month/quarter respectively in which the client is

registered". The Appellant submits that the Respondent had erroneously

assumed the existence of new clients whose accounts were registered 4

during the quarter (except in the last month) but not settled at the end of the

same quarter.

5. The Appellant denies being guilty of non-inclusion in the mandatory

settlement of accounts, those client accounts who had received request pay-

out in the quarter. The Appellant submits before us that in each quarter,

mandatory settlement of accounts was not being done for clients for whom

request pay-outs had been made. Account statements containing only

transaction details for the quarter that was getting settled were sent to all

clients on a monthly and quarterly basis, irrespective of whether the

account settlement was carried out based on a client's request.

6. It is submitted by the Appellant that it is not guilty with respect to the

non realization, non presentation and reversal of pay out cheques issued.

7. The Appellant submits that the reason behind releasing the mandatory

payout only by way of cheques was for rolling back the quarterly settlement

amount which was purely a business decision. The Appellant was

apparently under no obligation to follow up with the client and insist that

the cheque be deposited, even from a compliance perspective. Further,

'stop payment' instructions, for lapsed cheques followed by reissuing of

those cheques, were not given to save the company additional cost.

8. The Appellant submits that statements of accounts issued to clients

were duly issued in compliance with Clause 12(e) of SEBI Circular dated

December 03, 2009. It is contended by the Appellant that NSE issued a

circular containing an indicative format of the retention statement on

September 07, 2012 i.e. almost 3 years after the issue of SEBI circular

dated December 03, 2009. The Appellant, therefore, argues that

retrospective effect was sought to be attributed by SEBI to the clarifications

issued by NSE, since the inspection period lay between April 01, 2012 and 5

December 31, 2013. Further, the Appellant attributes the reason for not

providing an explanation for holding certain quantum of funds, as well as

the exclusion of the purpose for which scrips were withheld from the

account statement, to an apparent industry wide issue.

9. Per contra, Shri Mustafa Doctor, on behalf of the Respondent has

submitted that Non-inclusion of new client accounts in the mandatory

quarterly settlement of client accounts on grounds of non-completion of one

full quarterly period of trading is a grave error on part of the Appellant. The

Respondent denies any erroneous assumption as alleged by the Appellant

on the grounds that the Appellant has admitted to not settling the accounts

of clients. The Respondent further submits that the NSE clarification

exempts only those accounts from settlement in the first month / quarter of

operation, which are registered at the end of the month / quarter. As a

result, all other accounts which remained unsettled, as per the Appellant's

admission, point towards the Appellant's contravention of the SEBI circular

dated December 03, 2009 and May 13, 2011 with respect to running

account settlement.

10. The Respondent submits that the Appellant has failed to include in

the mandatory settlement of accounts, those client accounts that had

received request payouts in the quarter. For client accounts that received

payouts by the Appellants on request, the Appellant invariably did not

provide any statement of account of funds and securities to such clients.

Further, the Respondent submits that in case of such payouts that were

made on request, only the funds were released while the securities still

remained with the Appellant, unless specifically requested for. Therefore,

the Appellant has not included clients which received request payouts in the

quarter in the mandatory settlement of accounts as should have been done

notwithstanding the request payouts, thereby violating the SEBI circular 6

dated December 03, 2009 while at the same time, excluded them from the

quarterly mandatory settlement.

11. It is submitted by SEBI that the Appellant is guilty of Non

realization, non presentation and reversal of pay out cheques issued thereby

violating Clause 12(e) of SEBI Circular dated December 03, 2009. The

Respondent submits that the legislative intent of the circular is to ensure

that the payment of funds is made to the client. If the Appellant had chosen

to issue the mandatory payouts through cheques, it should have ensured that

the cheques were valid so as to enable encashment of those cheques. The

Respondent submits that the Appellant has not reversed around 128

cheques worth over ` 5.23 lakh, whose validity period of three months has

long since lapsed and, thus, they remain unrealized.

12. It is submitted by SEBI that statements of accounts issued to clients

not in compliance with Clause 12(e) of SEBI Circular dated December 03,

2009. The Respondent submits that the indicative format provided by NSE

circular no 144/2012 dated September 07, 2012 is merely a clarification to

the then existing provision and not an amendment to the applicable law.

Hence, no retrospective effect has been attributed to the clarification issued

by the NSE. Further, the Respondent submits that the Appellant has

categorically mentioned in its letter dated February 24, 2014 with respect to

the deficiency pertaining to the statement of accounts not containing the

details of securities retained by the stock broker, the purpose for which the

securities were retained etc., that the "deficiency pointed out had been

rectified". The Respondent argues that the Appellant cannot cite an

industry issue as a reason for not complying with the applicable law. 7

13. Before proceeding with the analysis of the four issues raised

hereinabove, we find it appropriate to set out the applicable provisions

discussed in this matter as follows :

SCHEDULE II SECURITIES AND EXCHANGE BOARD OF INDIA (STOCK BROKERS AND SUB-BROKERS) REGULATIONS, 1992 CODE OF CONDUCT FOR STOCK BROKERS (Regulation 7)

"A. GENERAL (1) INTEGRITY: A stock-broker, shall maintain high standards of integrity, promptitude and fairness in the conduct of all his business.

(2) EXERCISE OF DUE SKILL AND CARE: A stock-broker, shall act with due skill, care and diligence in the conduct of all his business.

(3) ....

(4) ....

(5) COMPLIANCE WITH STATUTORY REQUIREMENTS: A stock-broker shall abide by all the provisions of the Act and the rules, regulations issued by the Government, the Board and the stock exchange from time to time as may be applicable to him."

SEBI Circular dated December 03,2009 "......Running Account Authorization

12. Unless otherwise specifically agree to by a Client, the settlement of funds/securities shall be done within 24 hours of the payout. However, a client may specifically authorize a stock broker to maintain a running account subject to the following conditions:

a. ...........

b. ...........

c. ...........

d. ...........

e. The actual settlement of funds shall be done by the broker, at least once in a calendar quarter or month, depending on the preference of the client. While settling the account, the broker shall send to the client a 'statement of accounts' containing an extract from the client ledger for funds and an extract from the register of securities displaying all receipts/deliveries of funds/securities. The statement shall also explain the retention of funds/securities and the details of pledge, if any.

f. ....................................."

8 14. With respect to stock brokers and their clients, Clause 12 (e) of the

SEBI circular dated December 03, 2009 prescribes the frequency of

settlements required from stockbrokers for their client accounts viz., once

in a calendar quarter. It also prescribes the information that should be

accompanied by such mandatory settlements. Clause A(1), A(2) and A(5)

of the Code of Conduct prescribed for stock brokers in Schedule II under

Regulation 7 of the Stockbroker Regulations state that a stock broker must

keep up a high level of integrity, conduct its business with the utmost care

and comply with the rules and regulations mentioned in the Stockbroker

Regulations, issued by the Government, SEBI and the Stock exchange.

15. We have heard the learned counsel for both parties at length and

perused the Appeal along with the Reply and other documents brought on

record.

16. With respect to the non-inclusion of new client accounts in the

mandatory quarterly settlement of client accounts on grounds of non-

completion of one full quarterly period of trading, it is pertinently noted

that the intent of the aforementioned circular is to instill greater

transparency and discipline in the dealings between the clients and the

stock brokers. Further, stock brokers were advised to implement this

circular immediately and ensure its full compliance in respect of all clients

- existing or new - at the latest by March 31, 2010. This was later extended

to June 30, 2010. With this in mind, combined with the facts of the case, it

appears that the Appellant had ample time to implement a system that

would settle client accounts according to the provisions of the SEBI

circular dated December 03, 2009.

9

17. It is a fact that during the inspection it was borne out that the stock

broker, while carrying out the mandatory quarterly settlement of clients'

accounts - with respect to the new clients who had joined in the currency of

the quarter for which the settlement was being done, excluded such clients

from the settlement irrespective of their date of joining in the month and the

quantum of credit balances available in their account as on the date of

mandatory settlement. The Respondent, therefore, on the basis of the

inspection conducted on January 24 and 25, 2014 and the submissions

made by the Appellant, is correct in concluding that the Appellant, in

multiple cases throughout the inspection period i.e. April 2012 - December

31, 2013, has not included all client accounts in the monthly/quarterly

settlement that were required to be settled mandatorily, thereby,

contravening the provisions of clause 12(e) of SEBI circular dated

December 03, 2009.

18. We come to the second issue viz., the non-inclusion in the mandatory

settlement of accounts, those client accounts that had received request

payout in the quarter. During the course of the inspection it was observed

by SEBI that the Appellant maintained running account authorizations from

all its clients. The Appellant apart from making the mandatory quarterly

settlement of accounts to its clients, also released payouts to the clients

either in full or in part as requested by the clients, as and when requests

were received. It is a matter of record that while making such payouts, the

Appellant did not provide any statement of account of funds and securities

to the client, as was being done in the case of quarterly mandatory

settlement. Further, when such payouts were made on request, only the

funds were released but the securities of the clients being held were not

released simultaneously, until and unless specifically requested for by the

client. Paras 4 & 6 of the FAQs on Actual settlement of funds and 10

Securities, issued by NSE vide circular number 144/2012 dated September

07, 2012 read as under:

4. What balances need to be considered while settling funds and securities of clients?

Exchange Circular NSE/INSP/13606 dated December 03, 2009, states that a member has to settle clients "funds and securities" at least once in a calendar quarter or month.

Accordingly members need to consider the EOD balance of funds and securities of clients across all segments of the Exchange while settling the client accounts.

It is clarified that while settling client accounts, both funds and securities of clients need to be settled on the same day.

6. When should a member send statement of accounts for funds / securities?

A Member is required to send to the client 'statement of accounts' containing an extract from the client ledger for funds, an extract from the register of securities displaying all receipts and deliveries of securities and a statement explaining the retention of funds and / or securities at the time of settlement.

The statement of accounts sent at the time of settlement may be sent in hard or in soft form as per the consent obtained from the client and POD / dispatch register / logs of email sent should be retained by the member.

19. Therefore, para 4 clarifies that settlement of client accounts must

take place at least once in a calendar quarter. It further states that the

settlement of the client ledger of funds and the client register of securities

must be done on the same day. Para 6 clarifies that at the time of

settlement, a stock broker is required to provide to its clients, a statement of

funds and securities, in addition to a statement giving reasons for the

retention of funds and/or securities by the stock broker. From a plain

reading of clause 12 (e) of the SEBI circular dated December 03, 2009 read

with Paras 4 & 6 of the FAQs on Actual settlement of funds and Securities,

it is evident that while making a mandatory settlement of accounts, a

statement of funds and securities should be provided at the time of

settlement." Further, settlement of both funds and securities must be done

on the same day.

11

20. The SEBI inspection report along with the Impugned Order brought

forth certain discrepancies in what the Appellants considered as mandatory

settlement for client accounts that requested for payouts. The report pointed

out that clients who had received payouts on request were not included in

the quarterly mandatory settlement. Further, clients whose payouts were

being processed on request were not provided with any statement of funds

and securities as should have been done at the time of settlement. Lastly, it

is a fact that only funds were settled without settling the securities.

Therefore, SEBI has correctly inferred from the aforementioned material

placed on record that the requirements for a 'payout on request' to be

considered as a mandatory settlement have not been fulfilled by the

Appellant. Therefore, by resorting to the practice of excluding those clients

from the mandatory settlement in a quarter who had already received

payouts at their request, the Appellant violated the provisions of Clause

12(e) of the SEBI circular dated December 03, 2009 in its true letter and

spirit, thereby, violating the provisions of the Code of Conduct prescribed

for stock brokers under Schedule II and Regulation 7 of the Stockbroker

Regulations.

21. The third issue raised in the Appeal is that of the non realization, non

presentation and reversal of pay out cheques issued. All mandatory payouts

done by the Appellant were by means of cheques while the normal payouts

were also executed through other modes such as RTGS and NEFT

transfers. During the inspection, an exercise of verification as to the extent

of realization of mandatory payout cheques issued to the clients was

conducted. It is a matter of record that the SEBI inspection report

concluded that around 128 cheques worth over ` 5.23 lakh, whose validity

period of three months had lapsed, remained unrealized and had not been

reversed by the Appellant.

12

22. Although, the Appellant is not obligated to pursue the client to

deposit their cheques, it is obligated to ensure that payout cheques issued to

its clients as part of its monthly / quarterly settlement are encashable. By

not taking the necessary steps to ensure that client accounts receive their

allotted payouts, it cannot be said that settlement of accounts has been done

in the proper manner prescribed by law. Since the Appellant had chosen

"cheques" as a means of distributing the settlement payouts, it should have

ensured that the proper procedure for realization of such cheques was being

followed i.e. issuing "stop payment" instructions for the lapsed cheques and

reissuing fresh cheques to clients. Not doing so just to save on additional

cost to the company suggests that the Appellant was acting out of personal

financial interest and has willfully contravened the provisions of the

applicable law.

23. Finally, the fourth issue raised in the present matter deals with the

Statements of accounts issued to clients in a manner which is non-

compliant with Clause 12(e) of SEBI Circular dated December 03, 2009.

As per the material placed on record, in cases of clients with fund balances

of ` 1000/- and less at the time of quarterly settlement, the Appellant

retained the fund balances of such clients to the extent of ` 1000/-. The

Appellant retained scrips of clients who had funds due to the Appellant and

also retained the shares of those clients who had requested the Appellant to

do so towards margins, pledge etc. It was observed by SEBI that such

statements had an inherent deficiency in as much as the statement contained

only the transaction details of the client for the quarter for which the

settlement was being done. They did not contain the details of scrips of the

clients held by the Appellant. Neither did the statement explain the reasons

for holding of certain quantum of funds, nor did it explain the purpose for

which the scrips had been withheld.

13

24. The requirement of sending the details of securities held by the

Appellant and the reason for withholding such securities and quantum of

funds, if any, must be provided to the client as part of the settlement

statement, and form an integral part of the provisions of Clause 12 (e). The

SEBI inspection report has pointed out that none of the requirements were

being fulfilled by the Appellant during the inspection period despite having

ample time post the announcement of SEBI circular dated December 03,

2009, to incorporate a system to furnish this information to its clients. From

the facts of the case, it appears that the Appellant is in clear violation of the

aforementioned clause. The impugned order has rightfully held that by not

stating the reasons for withholding of funds or securities of the clients in

the mandatory settlement statement, the Appellant violated the provisions

of clause 12(e) of SEBI circular dated December 03, 2009 read with clause

A(1), A(2) and A(5) of the Code of Conduct prescribed for stock brokers

under Schedule II and Regulation 7 of the Stockbroker Regulations.

25. The Appeal is, accordingly, dismissed. No order as to costs.

Sd/-

Justice J. P. Devadhar Presiding Officer

Sd/-

Jog Singh Member

Sd/-

Dr. C. K. G. Nair Member 20.02.2017 Prepared & Compared by PTM