New Delhi: Refusing to order a Special Investigation Team (SIT) or Central Bureau of Investigation (CBI) probe into the Adani-Hindenburg controversy, the Supreme Court Wednesday shifted focus on the “conduct” of New York-based Hindenburg Research instead.
The bench comprising Chief Justice of India D.Y. Chandrachud, Justice J.B. Pardiwala and Justice Manoj Misra has directed the Securities and Exchange Board of India (SEBI) and investigative agencies of the Centre to probe “whether the loss suffered by Indian investors due to the conduct of Hindenburg Research and any other entities in taking short positions involved any infraction of the law and if so, suitable action shall be taken”.
The court further recorded the statement made by Solicitor General Tushar Mehta in court that measures to regulate short-selling will be considered by the Government of India and SEBI.
“SEBI and the investigative agencies of the Union Government shall also enquire into whether there was any infraction of law by the entities which engaged in short-selling on this occasion. The loss which has been sustained by Indian investors as a result of the volatility caused by the short positions taken by Hindenburg Research and any other entities acting in concert with Hindenburg Research should be probed,” the bench then ordered.
In its judgment, the court asserted that the facts of the case did not warrant a transfer of investigation from the SEBI to the SIT or CBI. It said that SEBI’s probe into the Adani Group following the Hindenburg report “inspires confidence” and was prima facie comprehensive.
“Such a power is exercised in extraordinary circumstances when the competent authority portrays a glaring, willful and deliberate inaction in carrying out the investigation. The threshold for the transfer of investigation has not been demonstrated to exist,” it explained.
The court further noted that SEBI had completed 22 of 24 investigations into the allegations levelled against the Adani Group. It directed SEBI to complete the two pending investigations expeditiously, preferably within three months.
The controversy relates to a report released in January last year by Hindenburg Research. The report, titled ‘Adani Group – How The World’s 3rd Richest Man Is Pulling The Largest Con In Corporate History’, accused the Adani group of “brazen stock manipulation and accounting fraud scheme over the course of decades”.
The publication of the report resulted in the Adani Group’s seven listed companies losing $110 billion in cumulative stock market value. The report, among other things, alleged that the Adani Group had manipulated its share prices and failed to disclose transactions with related parties and other relevant information in violation of the regulations framed by the SEBI.
Several petitions were then filed in the Supreme Court, demanding a court-monitored probe into the report.
Before concluding its order, the court also cautioned against filing of petitions “that lack adequate research and rely on unverified and unrelated material (and) tend to, in fact, be counterproductive”. This, it said, “must be kept in mind by lawyers and members of civil society alike”.
The two reports
The Hindenburg report had alleged that certain foreign portfolio investments (FPIs) in Adani Group stocks in the Indian stock market are owned by shell companies based outside India, which have close connections with the group.
FPIs are securities and other financial assets held by investors in another country. The report alleged that such investments in Adani stocks allowed the Adani Group to maintain financial health and artificially boost the value of stocks in the market, in violation of Indian law.
The petitioners alleged that these investments violate Rule 19A of the Securities Contracts (Regulation) Rules, 1957. This rule, inserted through an amendment made with effect from 4 June, 2010, states that every company listed in the Indian stock market has to maintain at least 25 percent public shareholding.
“Public” is defined as persons other than “the promoter and promoter group”. This, therefore, excludes from the definition of “public” any spouse of that person, or any parent, brother, sister or child of the person or of the spouse, besides “subsidiaries or associates of the company”.
The need for a minimum level of public shareholding has multiple objectives, including a good float of shares that are not locked up from trading, leading to a good prospect of price discovery.
An investigation conducted by the Organized Crime and Corruption Reporting Project (OCCRP), as reported last August in Financial Times and The Guardian, made fresh allegations of stock manipulation against the Adani Group.
The report claimed that exclusive documents obtained by the OCCPR show that “in at least two cases … (supposedly public) investors turn out to have widely reported ties to the group’s majority shareholders, the Adani family”, and helped manipulate Adani companies’ stock prices.
However, the Supreme Court has now rejected the petitioners’ reliance on the OCCPR report to suggest that SEBI was lackadaisical in conducting its investigation.
“A report by a third-party organisation without any attempt to verify the authenticity of its allegations cannot be regarded as conclusive proof,” the court observed.
Also Read: George Soros says turmoil at Adani may weaken Modi govt
The expert committee
The court had set up an expert committee in March last year, under the supervision of former Supreme Court judge Justice A.M. Sapre, to review the market regulatory mechanism in the light of the Adani-Hindenburg controversy.
The committee members nominated by the court were former State Bank of India chairman O.P. Bhatt, retired justice J.P. Devadhar, veteran banker K.V. Kamath, co-founder of Infosys Nandan Nilekani and Bombay-based advocate Somasekharan Sundaresan.
The committee was supposed to look into four issues. It had to provide an overall assessment of the situation including the relevant causal factors which led to volatility in the securities market in the recent past.
The court also asked the panel for suggestions to strengthen investor awareness, and to investigate whether there had been regulatory failure in dealing with the alleged contravention of laws pertaining to the securities market in relation to the Adani Group or other companies. In addition, the panel was asked for measures to (i) strengthen the statutory and/or regulatory framework; and (ii) secure compliance with the existing framework for the protection of investors.
The committee was asked to submit its report to the court within two months.
The court had clarified that the expert committee and SEBI would work in collaboration with each other. The probe by the SEBI had to, therefore, continue simultaneously.
In its report released in May, the expert committee prima facie found no lapse on the part of markets regulator SEBI in the matter.
The court has now rejected the allegations of conflict of interest against members of the expert committee, calling them “unsubstantiated”.
The petitioners had submitted that Sundaresan had represented the Adani Group before various fora, including the SEBI Board, as a lawyer. However, to support the allegation, they had only referred to one order of the SEBI Board passed in May 2007, indicating that Sundaresan had appeared for Adani Exports on an unconnected issue.
However, the court rejected these allegations, observing: “The acceptance of a professional brief by a lawyer in 2007 cannot be construed to reflect ‘bias’ or even a ‘likelihood of bias’ in 2023. There is an absence of proximity both in terms of time (the alleged appearance was 16 years ago) and subject matter.”
Instead, the central government and SEBI have been asked to constructively consider the suggestions of the expert committee in its report, and take further actions as are necessary to strengthen the regulatory framework, protect investors and ensure the orderly functioning of the securities market.
FPI and LODR regulations
The petitioners had also demanded a direction to SEBI to revoke certain amendments made to the SEBI (Foreign Portfolio Investors) Regulations, 2014, and the SEBI (Listing Obligations and Disclosure Requirements) (LODR) Regulations, 2015.
The FPI regulations originally stipulated that FPIs must not have an “opaque structure”, and laid down certain requirements for the FPI to not be treated as having an opaque structure. This included the requirement that the FPI shall give an undertaking to provide information regarding its beneficial owners as and when the SEBI seeks this information.
However, the opaque structure clause was deleted altogether in 2019, and the beneficial owner disclosure requirements were also tweaked.
The thresholds for identification of beneficial owners of FPIs are specified under the rules framed under the Prevention of Money Laundering Act (PMLA).
In 2018, the SEBI accepted the recommendation that the beneficial ownership criteria under PMLA should be made applicable for the purpose of KYC (know your client) and not for determining eligibility of FPIs. Essentially, since 2018, every FPI was required to provide information about beneficial owners holding more than 10 percent of the FPI.
The report of the expert committee noted: “The thinking evidently was that if every FPI was required to provide information about beneficial owners in respect of owners holding more than 10 percent of the FPI, there was no need to have a massive requirement to know the ultimate beneficial owner of every single owner of the FPI.”
In an affidavit filed in July last year, SEBI had explained that “since upfront compliance with disclosure as per PMLA was now mandated for all FPIs irrespective of structure” in 2018, the requirements under the opaque structure clause were rendered “redundant”.
At the heart of this requirement is finding the person who has control over the foreign portfolio investment.
The SC-appointed expert panel had, in its report, opined that the SEBI had hit a wall in its investigations into the Hindenburg-Adani allegations owing to amendments made in 2018 in the FPI Regulations of 2014.
However, SEBI, in its affidavit, had clarified that, among other things, one of the core problems pertained to the fact that there was never any requirement to disclose the last natural person above every person owning any economic interest in the FPI. It also highlighted the “ambiguity” surrounding entities with economic interest but no ostensible control in a foreign portfolio investment.
Similarly, the LODR Regulations 2015 defined a “related party transaction” as a transaction involving a transfer of resources between a listed entity and a “related party”, regardless of whether a price is charged. The term “related party” in this regulation had the same meaning that is ascribed to “related party” under Companies Act, 2013. However, several subsequent amendments were made to the definition of “related party”.
The petitioners alleged that amendments to the LODR Regulations facilitated the mischief with regard to related party transactions by the Adani Group. They argued that while initially the director, their relative, or a relative of a key managerial person was considered a related party, the amendments have changed this position to hold that a person/entity be deemed a “related party” only if the shareholding of that person/entity is at least 20 percent.
These amendments, they asserted, have made it difficult to investigate the allegation against the Adani Group of flouting minimum public shareholding regulations by engaging in related party transactions through FPIs.
The petitioners had argued that the amendments to the two regulations amount to regulatory failure on the part of SEBI, and had demanded that the SEBI be directed to revoke the amendments to the FPI Regulations and LODR Regulations.
However, the Supreme Court has now said that no valid grounds have been raised for the court to direct the SEBI to revoke its amendments to the FPI Regulations and the LODR Regulations. It opined that the regulations instead “have been tightened by the amendments in question”.
The court noted that the petitioners had not argued that the regulations were arbitrary or unreasonable or violative of the Constitution, but had contended that there was regulatory failure based on SEBI’s alleged inability to investigate the allegations against the Adani Group, owing to the amendments.
“Such a ground is unknown to this court’s jurisprudence,” the court asserted.
(Edited by Nida Fatima Siddiqui)
Also Read: Finance ministry ‘stands by reply’ on SEBI probe into Adani Group, refutes claims of ‘cover up’