Order in the matter of Saatal Katha Chemicals Ltd and its Directors

1. The Securities and Exchange Board of India (hereinafter referred to as ‘the SEBI” or ‘the Board’) had received anonymous complaints alleging that M/s. Saatal Katha and Chemicals Limited (hereinafter referred to as ‘the company’) had fraudulently changed the NRI subscription from ‘competitive basis’ to ‘firm basis’ in its public issue during 1995, without the requisite approval of the SEBI and with a malafide intention to harm the investors. Based on the said complaints, the SEBI conducted investigations into the affairs relating to the public issue of the company during the year 1995. The said investigations had revealed the following:

a. The company came out with a public issue of 21,50,000 equity shares of face value of Rs.20/- each aggregating to Rs.4,30,00,000/-. The public subscription had opened on 30-01-1995 and closed on 02-02- 1995. The Central Bank of India acted as the pre-issue Lead Manager and M/s. Rajashree Fiscal Services Ltd. acted as the post issue Lead Manager to the public issue.

b. Prior to the coming out with the public issue, the company had filed the draft prospectus with the SEBI on 01-09-1994. The draft prospectus under the head ‘Capital Structure’ mentioned that 4,00,000 equity shares were reserved for preferential allotment to NRI’s /OCB’s/FII’s on ‘competitive basis’ and that the RBI approval for the same was also received. The prospectus was considered by the SEBI and an acknowledgement card indicating certain observations was issued by the SEBI on 02-11-1994. After the prospectus was considered by the SEBI and observations made, the company was alleged to have fraudulently changed the terms of the allotment in the prospectus as in the place of ‘competitive basis’, ‘firm basis’ was printed in the prospectus. This change was made without seeking approval from the SEBI and was allegedly done fraudulently.

c. It was also found that two cheques enclosed with NRI applications had dishonourned and that inspite of such dishonour, shares were allotted to such applicants.

d. During the course of investigations, the company or its directors did not co-operate with the investigations and they did not furnish the desired information inspite of numerous summonses and notices sent to them.

2. In view of the above allegations, a detailed show cause notice dated 23-12-2002 was issued to the company requiring it to show cause as to why suitable directions including directions to write to all applicants / existing shareholders giving them an option to claim refund for the subscription made in the said public issue or sell their shares at face value to the promoters. Show cause notices dated 27-05-2003 were also issued to the company’s directors, S/Shri Hukumchand Rathi, Purshottamdas Rathi, Vijay Rathi, Suraj Ratan Rathi and R. M. Saatal. For sake of brevity, the company and its directors are hereinafter collectively referred to as ‘noticees’.

3. The company replied to the show cause notice vide its letter dated 13-01-2003. In the said reply, the company raised certain preliminary submissions along with their reply on merits. Shri Hukunchand Rathi, Shri Purushottdas Rathi, Shri S. R. Rathi, Shri Vijay Rathi and Shri R. M. Saatal vide their letters dated 13-06-2003, 13-06-2003, 08-07-2003, 13-06-2003 and 28-06-2003 respectively, replied that they are adopting the submissions made by the company in its aforesaid reply. The SEBI was further intimated that the company had filed a writ petition in Writ Petition No. 1212 of 1998 before the Hon’ble High Court of Madhya Pradesh, Indore Bench, challenging the competence of the Chairman, SEBI to order investigation/inspection in the matter.

4. The company and its directors also appeared for a personal hearing before the then Member on 13-11-2003 and made their oral submissions. In addition to that, they have vide letter dated 25-11-2003 forwarded written submissions through their legal counsel, M/s. Adhia & Adhia. However, the proceedings could not be completed as the then Whole Time Member demitted office.

5. When the matter was referred to me, in adherence to the principles of natural justice, another opportunity was granted to the noticees. Accordingly, a notice dated 28-04-2006 was issued to the company intimating that a hearing in the matter was scheduled on 17-05-2006. In response, the company vide letter dated

09-05-2006 replied that the Hon’ble High Court of Madhya Pradesh, Indore Bench had disposed W. P. No. 1212/1998 with the direction that if preliminary objections are filed by the petitioner relating to the competency of authority, then after giving an opportunity of hearing to the petitioners (noticees) and before proceeding further, the objections shall be decided by the respondents (SEBI) in accordance with law by passing a reasoned order. The reply further mentioned that the noticees would be attending the hearing fixed on 17-05-2006. The hearing was rescheduled to 13-06-2007 in order to obtain a certified copy of the said order of the Hon’ble High Court. On the said date of the hearing, the noticees after becoming aware of the ‘consent scheme’ being introduced by the SEBI vide Circular ref no. EFD/ED/Cir-1/2007 dated April 20, 2007, had through their representative, Shri Dilip K Neema, expressed their desire to file necessary applications for a ‘consent order’. In view of their desire to come for ‘consent’ the matter was kept in abeyance. As no applications for consent order were filed despite the passing of more than two months from the date of the personal hearing, SEBI vide letter dated 03-09-2007 required the noticees to present themselves for a hearing scheduled before me on 25-09-2007. Due to administrative exigencies, the hearing was rescheduled to 28-03-2008, when the parties neither attended the hearing nor requested for adjournment of the hearing. In this background, I am convinced that the noticees are not desirous in contesting the case before the SEBI. I, therefore, proceed in the matter on the basis of material available in the record. However, as directed by the Hon’ble High Court, I first proceed to decide the preliminary issues raised by the noticees in the matter by way of this Order.

6. In this connection, I note that the Hon’ble High Court of Madhya Pradesh, Indore Bench in Writ Petition 1212 of 1998 had vide order dated 16-05-2005 inter alia ordered as follows: “… this petition is disposed of with a direction that in case any fresh notices are being issued by the respondents to the petitioner then petitioner shall be at liberty to appear through his advocate.

In case at the initial stage, if preliminary objections are filed by the petitioner relating to competency of the authority then after giving an opportunity of hearing to the petitioners, before proceeding further, the objections shall be decided by the respondent in accordance with law by passing a reasoned order. With the aforesaid direction, writ petition stands disposed of.”

Pursuant to the order, Shri Purshottamdas Rathi vide his letter dated 09-05-2006 had submitted that the SEBI has to first decide the preliminary submissions and objections in the matter. The parties were also heard by me and during the hearing they have also submitted their written submissions in the subject matter in support of their preliminary objections. Therefore, in compliance with the directions of the Hon’ble High Court mentioned supra, this order would be limited only to decide the preliminary issues and objections raised by the noticees in the matter.

7. The following are the preliminary objections of the noticees as seen in their replies dated 13-01-2003 & 06-10-2003 and written submissions dated 24-11- 2003 and 11-06-2007:

A. That despite repeated requests, the documents forming basis of issuance of show cause notice dated 23-02-1998 [this is one of the summons/notice issued during investigations] were never supplied to the company.

B. That the SEBI itself is a delegate of powers by the Central Government and that Section 4 (3) of the SEBI Act, 1992 has delegated the powers of the Board to the Chairman. In this case the Chairman has again delegated the said powers to the Divisional Chief of SEBI which amounts to re-delegation and impermissible in law.

C. That only the SEBI or Chairman is authorised to hear and decide the show cause notice and that the Divisional Chief has no jurisdiction or authority of law to issue or decide the said show cause notice.

D. That the show cause notice dated 23-02-1998 itself was barred by limitation.

E. That the Securities Laws (Amendment) Act, 1995 w.e.f 25-01-1995, inserted the words ‘stock exchange, mutual funds, other persons associated with securities market’ and that the said amendment was prospective in nature. It was submitted that the floating of shares (public issue) was granted by the SEBI by its order (communication) dated 02-11-1994. It was also submitted that sub-section 3 of Section 11 of the SEBI Act, 1992 was also inserted by the Securities Laws (Amendment) Act, 1995 w.e.f 25-01-1995 and that the said provision not being with retrospective effect, would not apply to the floating of shares which was permitted by the SEBI by its order dated 02-11-1994. Therefore, it was submitted that respective application of provisions of Section 11 of SEBI Act are impermissible in law and the show cause notice deserves to be quashed.

F. That the notice (SCN) was issued under Section 11B of the SEBI Act, which provision was inserted in the SEBI Act in 1995. The application of the provision was made prospective and there is no provision to give it retrospective effect. That the applicability of Section 11B was incompletely enforced on matters which were prior in time.

G. That order dated 20-04-1998 passed by the Chairman, SEBI made no mention about conducting any investigation/inspection and/or issuing directions under Section 11B and as such the show cause notice dated 23-12-2002 was void ab-initio.

H. That the summons shows that the attendance of the company and production of record is required in connection with the purported investigation. The word ‘investigation’ finds no place either in Section 11 or any other Section of the SEBI Act. Therefore, investigation was not permissible under the mandate of the SEBI Act by any of its officers or even by the Board.

I. That the summons fails to disclose any cogent reasons for institution of investigation. The summons also fails to show any material placed before SEBI for ordering investigations after application of mind. Further, no reasons for investigation after expiry of 3 years 5 months after the close of issue were disclosed to the company, which categorically established non-application of mind of the authorities.

J. In its reply dated 24-11-2003, the company inter alia submitted that the show cause notice dated 27-05-2003 was issued when the matter was sub-judice before the Hon’ble MP High Court in W. P.No.1212 of 1998. It was also submitted that the show cause notice dated 27-05-2003 was premature as the issue wherein the competence to investigate in present matter was under challenge before the Hon’ble High Court.

8. I have perused the Investigation Report, SEBI letter dated 23-02-1998 seeking details with respect to the public issue made by the company, the Order dated 16- 05-2005 passed by the Hon’ble High Court of Madhya Pradesh, Indore Bench in Writ Petition 1212 of 1998, show cause notice dated 23-12-2002 issued to the company (Saatal Katha), show cause notices dated 27-05-2003 issued to the directors of the company, replies dated 13-01-2003 and 06-10-2003, written submissions dated 24-11-2003 and 11-06-2007, in the matter. I proceed to consider the preliminary objections/submissions raised by the noticees in the matter as follows:

9. CONSIDERATION OF ISSUES:

A. NON FURNISHING OF DOCUMENTS:

a. The company has submitted that despite repeated requests, the documents forming basis for the issuance of show cause notice dated 23-02-1998 were never supplied to the company. Before proceeding further, I wish to clarify that the so called show cause notice dated 23-02-1998 was not a show cause notice. It was a letter (dated 23-02-1998) from Shri C. M. Mehra, the then Joint Chief of Investigation of SEBI addressed to the company, seeking details with respect to the alleged change of the terms of the prospectus relating to the NRI subscription, without the permission of the SEBI. The said SEBI letter required explanations on a few questions mentioned therein on an urgent basis.

b. The said letter was issued during the period when the matter was investigated to find out whether the company had changed the subscription to ‘firm basis’ when it was previously to be made on a ‘competitive basis’. The letter, inter alia, sought explanation for the change in the prospectus issued for the purpose of NRI allotment, why the change in the prospectus was not informed to the SEBI, etc.

c. Since the correspondence dated 23-02-1998 was only a letter seeking details from the company and not a show cause, documents need not be enclosed to it. I note that when the investigations were completed, the SEBI issued a detailed show cause notice dated 23-12-2002 to the company. The said show cause notice mentioned that the SEBI had approved the allotment of 4 lakh equity shares to NRIs/OCBs/FIIs on ‘competitive basis’, which was also approved by the RBI. It was alleged that in the final prospectus, the allotment type was fraudulently changed to ‘firm basis’ without the prior approval of the SEBI. It also alleged that despite the dishonour of two cheques attached to the applications of the NRIs, allotments were still made to them. The material documents from which the allegation would have emanated would be draft prospectus and the final prospectus, which definitely would be in the possession of the company and its lead manager. Therefore, the submission by the company that it was not furnished with the documents forming basis of the allegations, does not hold good. If any documents are being relied upon by the SEBI in the proceedings and copies thereof have not been forwarded to the company/directors, SEBI would be duty bound to allow inspection and also furnish copies to the noticees.

B. DELEGATION OF POWERS a. As regards the objections w.r.t to delegations of powers, I note that Section 4 (2) of the SEBI Act provides that the general superintendence, direction and management of the affairs of the Board (SEBI Board) shall vest in a Board of members [constituted under Section 4 (1)], which may exercise all powers and do all acts and things which may be exercised or done by the Board. I also note that Section 4 (3) of the Act provides that the Chairman shall also have powers of general superintendence and direction of the affairs of the Board and may also exercise all powers and do all acts and things which may be exercised or done by that Board. Therefore, the order of the Chairman, SEBI directing that investigations be initiated in a matter need not be endorsed or sanctioned by the Board.

b. Further, Section 19 of the SEBI Act, 1992 provides that the Board may, by general or special order in writing delegate to any member, officer of the Board or any other person subject to such conditions, if any, as may be specified in the order, such of its powers and functions under the SEBI Act. Therefore, to further the objectives of the SEBI Act for which the SEBI was established, due to administrative exigencies it becomes necessary to delegate certain functions as may deem fit, on officers of the Board. Therefore, the delegation of powers to the officers of the Board is legally permissible under the SEBI Act. In this case, vide order dated 20- 04-1998, the Chairman, SEBI had entrusted to Shri C M Mehra, Joint Chief, Investigations, the case for investigations.

c. The company has further submitted that only the SEBI or Chairman is authorised to hear and decide the show cause notice and that the Divisional Chief has no jurisdiction or authority in law to issue or decide the said show cause notice. In this regard, it may be stated that all quasi-judicial proceedings initiated against various entities would be adjudicated by the Board/Chairman or the Whole Time Member of the Board, as the case may be. In the present case, the show cause notice was issued to inform the company of the allegations against it and to afford an opportunity of hearing to present its defence/case before me. The Divisional Chief has issued the show cause notice based on the available records and instructions of the competent authority. Submissions made in the reply and during the hearing before me would be considered and appropriate orders would be passed by the Board/Competent Authority under powers conferred by Section 19 of the SEBI Act.

C. SHOW CAUSE NOTICE BARRED BY LIMITATION a. The company had submitted that the show cause notice dated 23-02-1998 was barred by limitation. As said above, the SEBI letter dated 23-02-1998 is not a show cause notice. It was a letter issued by the SEBI seeking details from the company with respect to the allotment of shares to NRIs on ‘competitive basis’ which was then fraudulently changed to ‘firm basis’. Even otherwise, I find that the Limitation Act, 1963 has no applicability to the proceedings before the Board as the said Act provides for ‘limitation’ only with respect to civil suits and appeals, being wholly judicial proceedings.

b. Further, any investigation involves collection of huge data pertaining to the case. If the plea of ‘limitation’ were to be allowed as a ground to drop any proceedings, the same would only defeat the very objective of the SEBI Act in protecting the interests of the investors and the securities market.

D. NO RETROSPECTIVE EFFECT TO SECTIONS 11 (3) AND 11B OF THE SEBI ACT a. The company has submitted that the words ‘stock exchanges, mutual funds, other persons associated with the securities market’ was inserted by the Securities Laws (Amendment) Act, 1995, w.e.f 25-01-1995, whereas the allotment of shares happened in 1994. Therefore, the company submitted that the said amendment would not cover the allotment of shares by the company as the said amendment did not have retrospective effect.

b. The company also submitted that Section 11B was inserted in the SEBI Act, 1992 by an amendment in the year 1995 and that the said provision also did not have retrospective effect.

c. In that regard, I find that the SEBI already had enabling powers under Section 11 to take such measures in order to protect the interests of investors, to promote the development of and to regulate the securities market. Summoning the company to give its explanations on certain questions pertinent to the investigations in the matter initiated by the Board would well fall within the ambit of the said section.

d. Therefore, the Board had the power to call for information/documents from the company even in the absence of Sections 11 (3) and 11B of the SEBI Act. Subsequent amendments to the SEBI Act (insertion of Sections 11B and 11 (4) in the Act) made the powers of the SEBI explicit when those were implicit earlier. Also, the said amendments empowered the SEBI to enable it to achieve the objectives of investor protection, developing the securities market and regulating it. In this regard, the following observation of the Hon’ble SAT in the matter of Karvy Stock Broking Ltd Vs. SEBI1 would be important to note – “…. Even under section 11(1) and thereafter with the introduction of section 11B in the year 1995 the power of the Board was very wide and it could take every measure that a situation would demand and issue such directions that it considered necessary….”

E. COGENT REASONS FOR INITIATING INVESTIGATIONS NOT INTIMATED TO THE COMPANY/DIRECTORS

The company has submitted that the order dated 20-04-1998 passed by the Chairman, SEBI made no mention about conducting any investigation/inspection and/or issuing directions under Section 11B and that the shows cause notice dated 23-12-2002 was void ab-initio. The company has also submitted that the summons failed to disclose any cogent reasons for institution of investigations. In this regard, I find as follows: The Board suo-motu or upon information from external sources, orders investigations in respect of the conduct and affairs of any person buying, selling or otherwise dealing in securities. In the present case based on information, investigations were ordered by Chairman, SEBI into the affairs relating to the public issue of shares by the company for their alleged contravention of the Regulations framed under the SEBI Act. The reason for initiating any investigation is to prima facie find out whether there has been any violation of the securities laws by any person operating in the capital market. It is the duty of every entity operating in the capital market to fully co-operate with the SEBI in its investigations/inspection and furnish true and correct information/documents whenever called for. Such co-operation would endeavour in achieving the 1 Appeal no.92 of 2006 decided on 08.01.2007 objectives of the SEBI Act. After concluding the investigations and on satisfaction that a prima facie case is made out against the entity concerned, appropriate enforcement proceedings are directed by the Board/Competent Authority. On completion of the said quasi-judicial proceedings and on coming to a conclusion as to the guilt or innocence, appropriate directions are issued by the Board/Competent Authority to such person/entity. Similarly, the present proceedings were initiated against the company and its directors for their alleged contraventions prima facie found in the investigations. Therefore, the above said submission of the noticees finds no merit.

F. PREMATURE ISSUE OF SHOW CAUSE NOTICE a. The company has submitted that the show cause notice dated 27-05-2003 (issued to directors) was issued when the matter was sub-judice in view of the writ petition filed before the MP High Court. The company further submitted that the show cause notice was premature as the issue of the Board’s competency to investigate was under challenge. In this regard, I note that the company had filed the writ petition praying amongst others, for issuance of appropriate writ, direction or order quashing and setting aside the summons dated 29-06-1998, 14-07-1998 and 14-08-1998 issued by the respondent 3 (Shri Mehra, Jt. Chief of Investigations). I find that the Hon’ble MP High Court did not pass orders staying the investigations initiated against the noticees in the matter. Further, the Hon’ble Court permitted investigations subject to allowing the petitioner (the company) to be represented by an Advocate. In the absence of any ‘stay’ of the proceedings by the Hon’ble Court, the investigations had to proceed. After conclusion of the investigations, show cause notices were issued to the company and its directors. Therefore, I am of the view that the said SCN cannot be termed as ‘premature’.

b. I also note that the company had filed the above referred writ petition praying for amongst others, the following reliefs: I. issuance of appropriate writ, direction or order quashing and setting aside summons dated 29-06-1998, 14-07-1998 and 14-08- 1998 issued by the respondent 3 (SEBI) preventing the petitioner (the company) to be represented through his counsel II. issuance of appropriate writ directions or orders mandating the respondents to conduct investigations in conformity to principle of natural justice and settled practices and procedure of civil court III. issuance of appropriate writ directions or orders mandating the respondents to determine and decide its jurisdiction to conduct investigations before issuing fresh summons to the petitioner (company

While disposing the writ petition, the Hon’ble MP High Court had not quashed the summonses issued to the noticees. It was only directed that in case any fresh notices are being issued by the respondents (SEBI) to the petitioner (the company) then petitioner shall be at liberty to appear through his advocate. It was also directed that in case at the initial stage, if preliminary objections are filed by the petitioner relating to competency of the authority then after giving an opportunity of hearing to the petitioners, before proceeding further, the objections shall be decided by the respondent in accordance with law by passing a reasoned order. With the said directions, the said writ petition was disposed of. Therefore, it would not be correct to state that the show cause notice was premature.

10. I further note that the company has submitted that the word ‘investigation’ finds no place either in Section 11 or any other Section of the SEBI Act and that investigation was not permissible under the mandate of the SEBI Act by any of its officers or even by the Board. In this regard, I turn to Section 11 (1) of the SEBI Act, 1992 which mandates that it shall be the duty of the Board 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. In order to secure the securities market, the SEBI as a Regulator can take all such measures as it may deem fit to achieve the mandate given to it. The carrying out of ‘investigations’ is one such measure to deal with unfair practices affecting the market and the investors. ‘Investigation’ is a fact finding exercise which is ‘sine qua non’ for initiating any quasi-judicial proceedings against an entity when a prima facie case is made out during the investigations. Though the word ‘investigation’ was not explicit in the SEBI Act (as it then was, as Section 11C dealing with “Investigation’ was inserted in 2002), the Board still had wide powers under the SEBI Act and also the duty to take appropriate action to remedy the mischief, if any.

11. For the reasons mentioned supra, the preliminary objections/submissions raised by the noticees are not sustainable

12. I note that vide letter dated nil (received by the SEBI on 25-04-2006), Shri Shyam Sunder Rathi had submitted that Shri Suraj Ratan Rathi had expired on 19-05- 2005 and had also enclosed a ‘death certificate’ issued by the concerned authority. In view of the demise of Shri Suraj Ratan Rathi, these proceedings shall abate only with respect to him. Thus, the proceedings initiated against the noticees shall continue in accordance with law.

13. While going through the show cause notice issued to the noticees in the matter, I find that it was alleged that the company and its directors were responsible for fraudulently changing the terms of allotment from ‘competitive basis’ to ‘firm basis’ and the said change was made after the draft prospectus was vetted by the SEBI. I note that the alleged act happened before the coming into force of the PFUTP Regulations, 1995 (the alleged act was in January 1995, whereas the PFUTP Regulations came into force on 15-10-1995) and therefore the said

Regulations are not attracted. In this regard, I place reliance on the observation of the Hon’ble Supreme Court in Ritesh Agarwal1 and another vs. SEBI and others: “The FUTP Regulations came into force for the first time on 25.10.1995. Would it apply in a case where the cause of action arose prior thereto? Ex facie, a penal statute will not have any retrospective effect or retroactive operation. If commission of fraud was complete prior to the said date, the question of invoking the penal provisions contained in the said Regulations including Regulations 3 to 6 would not arise. ……... In absence of any valid law operating in the field, there would not be any source for imposing penalty. ….”

In view of the above, I find that the alleged fraudulent act of the noticees in altering the terms of allotment would not attract the provisions of the PFUTP Regulations, 1995. However, the act of the noticees in allowing the prospectus to be altered after the same was vetted by the SEBI and without the consent of the SEBI is improper. As there were no investor complaints in the matter and also the fact that no retail investor could be cheated/duped (as the allotment of 4,00,000 equity shares were earmarked only for FIIs/OCBs/NRIs), I am of the considered view that the directions as contemplated in the show cause notices are not warranted to be issued in the present case. The noticees are thus advised not to repeat such acts and ensure compliance with the securities laws in future.

14. For the reason above said, I hereby conclude the present proceedings without passing any directions against the noticees. The show cause notices issued to the noticees in the matter are disposed of accordingly.

DATE: 14.1.09 Dr. T.C. NAIR MUMBAI WHOLE TIME MEMBER SECURITIES AND EXCHANGE BOARD OF INDIA

1 Civil Appeal No. 4681 of 2006; decided on May 13, 2008