Somasekhar Sundaresan: Evaluating Sebi's enforcement success

WITHOUT CONTEMPT

With the media reporting just a couple of orders passed recently by the Securities Appellate Tribunal (SAT) the capital market chatterati has started focusing on how virtually every order passed by the Securities and Exchange Board of India (Sebi) is appealed, and how virtually every appeal is successful. This is far from the truth.

Consider the Sebi chairman's statement in Sebi's annual report for 2003-04, released last week. He writes: "Focus on enforcement was sharpened. Record breaking 152 investigations were completed. In all 464 prosecutions against 2,375 people were kicked off and 346 punitive orders were passed. Over 70 per cent of orders were accepted by the adjudgees. Of the less than 30 per cent orders challenged before the SAT, in 63 per cent Sebi's stand was vindicated."

Yes, you read right. In 2003-04, Sebi passed in excess of one punitive order for every working day. Only 30 per cent of such orders were ever challenged. Six out of every 10 such orders were upheld.

Quite impressive, if one considers a 37 per cent failure rate acceptable (the maxim of letting off 99 suspects on a principle of law, to ensure that a single innocent is not wrongly sentenced, is now out of vogue).

But then why is there a perception that Sebi's orders tend to get set aside easily? The answer lies in that winning appeals need not necessarily be synonymous with winning credibility.

As a thumb rule, only those who feel wronged by a Sebi action, and believe they stand a realistic chance of getting the order set aside, actually incur the cost of filing an appeal.

In numerous cases, Sebi has inflicted severe debilitating penalties on market intermediaries"" ranging from suspension of registration for a few months to prohibition on dealing in securities for several years. A few others meet with a comprehensive life ban or an absolute cancellation of registration.

In several cases, even where a breach of law is due to clerical mistake, adjudicating officers, perhaps fearful of allegations from vigilance officials, are known to be intemperate and excessive with their discretion.

Take the case of a mutual fund, which has been penalised and finds special mention in the Sebi report. A takeover code violation by one of the mutual funds' sponsors had been penalised by Sebi years ago.

But for non-disclosure of those very facts in the offer document of the mutual fund, a consequential penalty of Rs 20 lakh has now been imposed on it. The penalty would be paid by the unit holders, whose interests, the penalty order was seeking to protect.

The acquisition of shares in a listed liquor company is another interesting example. Sebi found the takeover code to have been violated by two competing acquirers.

But Sebi made a departure from its stated policy of directing a post-facto open offer, and instead, directed both acquirers to sell their shares to the public. The price, procedure and resultant level of shareholding, were all dictated by Sebi.

The SAT rejected Sebi's findings of fact and law for one acquirer, and upheld its findings in respect of the other. But the SAT changed the punishment for the alleged violation from a forced sale of shares to a direction to make an open offer, along with interest for the delay in making the open offer. Sebi has appealed the decision.

There are several such cases where the Sebi order has indeed been upheld by the SAT, but the sheer severity of the penalty has been tempered and brought in line with the gravity of the violation.

When an order is upheld, Sebi wins and the success rate remains undisturbed. Yet, if the penalty is made reasonable and commensurate, there is no charm left for the actionee to further litigate""he simply pays up and falls in line.

It is only when such legal victories for Sebi and moral victories for the actionee are factored in, and the statistics recast, that one would really know if the public perception about Sebi losing appeals is correct.

It would, however, make sense to wait for the next annual report ""towards the end of 2003-04, the SAT was not fully functional due to the change in law leading to a change in its constitution.

(The author is a partner of JSA, Advocates & Solicitors. The views expressed are personal.)