Tribunal order puts spotlight on demat share fraud

Company dematted shares in excess of paid-up capital and introduced them into the market

In June 1997, a Bengaluru-based company faced a problem of fake share certificates. The Motor Industries Co (Mico) was listed both in Bengaluru and also in Mumbai. And fake share certificates abounded in the financial capital. 

It saw one possible solution to the problem. Dematerialising the shares by approaching a newly created depository which held shares in electronic form.  Centralised depositories were seen as a solution to to prevent such cases, as well as frauds related to the creation of excess shares. 

But a recent tribunal order drew attention to such a fraud which happened even after the advent of dematerialisation. 

The promoter of a company not only created excess shares, they were also dematerialised and subsequently introduced for trading in the market, show the details in a recently concluded tribunal case document. The case concerns Bimlesh Kumar Mishra of Somani Cement Company Limited (SCCL). 

Stock market regulator, the Securities and Exchange Board of India, investigated in the scrip of SCCL over 2004-05. It discovered that the company had made many ‘false and misleading’ announcements during the period. And that it had also created shares out of thin air. 

A Securities and Appellate Tribunal order issued last month noted that there has been limited action in addressing  the issue. 

 

“Issuing shares in excess of the authorised share capital and further dematting those unauthorised excess shares and allowing those shares to be sold on-market to innocent investors is a serious fraud on the securities market. In such a case, SEBI is unjustified in not initiating any action against the depositories,” said the order. 

The company had issued 4.5 million shares in excess of its paid up capital. It managed to dematerialise 3.8 million of them. 

“…the said excess shares dematted by Mr Mishra were sold in the market to gullible and innocent investors through various entities, including the appellant,” said the order.

The regulator had started proceedings against 17 entities involved in the matter. It had imposed a penalty of between Rs 100,000 and Rs 200,000 on most of them. Umashankar Agarwal was one of the entities involved. Agarwal moved the tribunal against the order. It sent the matter back to Sebi. The regulator then increased the penalty to Rs 1.6 million. 

The tribunal set aside the move in last month’s order.  It did not find a justification for the increase in penalty. 

“…we set aside the impugned order passed against the appellant and restore the matter for fresh decision on merits,” it said.

This is not the only company in which such an event has occurred. 

“Even in the case of DSQ Software excess capital was issued. All those protections were built in later on,” said a former Sebi official who declined to be identified. The regulator had acted against the technology company after it found that it had created excess demat shares in 2000. 

The depositories and the regulator did not reply to requests for comment. It was unclear when systems were subsequently put in place. 

Bhavesh Vora of the Investor Education and Welfare Association said that the case is surprising and has a bearing on the perception of the reliability that the demat system provides. 

Virendra Jain, founder of investor association Midas Touch, said that depositories should give an account of themselves on the matter. 

“Even if they didn’t have the systems or they were not properly implemented…they are liable,” he said.