As SEBI expands, a look at what it entails in terms of consistency and growth

As SEBI expands, a look at what it entails in terms of consistency and growth

By Santosh Paul

The move to add two new members to the SEBI Board and the appointment of seven new Judicial Members and ten new technical members to the National Company Law Tribunal is welcome. These appointments are a signal of a new energy and a new enthusiasm to create confidence in the marketplace. Therefore, the stock markets are to ensure that India’s growth trajectory in the coming years remains at higher levels, as has been promised over the last several years.

But going forward towards growth, that’s not achieved only by a SEBI that acts as parent patria to India’s securities markets. While SEBI’s mandate for maintaining order and stability need not be diminished, growth impulses will entail an accompanying responsibility of not being seen as arbitrary, discriminatory, or handing out disproportionate punishments.

However, recent decisions of SEBI penalising dissimilarly and disproportionately brokers for similar offences have raised concerns about possible discrimination in its enforcement actions. Discriminatory actions negatively impact market participants and erode trust in the regulatory system. What’s worse is that it tends to harm the impulses of growth and curbs the energy of the markets. Healthy stock markets try to reach parts of the economy that have yet to benefit from the securities and trading opportunities that must be made available to those in more places.

It is worth looking at a few examples in more detail to explain why this aspect of regulatory control needs attention. After an inspection of several brokers between 2013 and 2016, the Adjudicating Authority has come to alleged findings of mismanagement of client funds, including utilising funds of credit balance belonging to their clients for those with debit balance and mixing client’s funds with proprietary funds.

However, the penalties levied the disturbing reveal absence of consistency. For instance, M/s Anand Rathi Share and Stock Brokers faced a penalty of Rs. 1 lakh for alleged actions like segregation of funds and securities and scrutinising of own and client bank accounts, leading to the misutilisation of funds transferred to/from their Commodities Arm. In contrast, another brokerage fir, received a significantly higher penalty of Rs. 17 lacs for allegedly mis-utilising the funds of the credit balance of clients. M/s Nirmal Bang Securities Private was penalised with a whopping Rs. 30,00,000/- for allegedly utilising a credit balance in the client’s bank account towards meeting its and clients’ obligations.

Another case, involving M/s Systematix Shares & Stocks (I), saw a substantial penalty of Rs. 15 lacs for alleged misutilisation of the funds of credit balance of clients for own/debit balance clients, failing to incorporate the proper nomenclature ‘Client Account’ in the name of the bank account maintained for the client’s funds.

What adds to the controversy is the stark contrast between the amounts of misutilisation reported and the corresponding penalties imposed. For instance, Systematix Shares & Stocks (I), for an alleged misutilisation amount of Rs. 62.45 crore, was subjected to a penalty of only Rs. 15 lakhs. On the other hand, Nirmal Bang Securities Private’s alleged misutilisation amount ranged from Rs. 3.89 crore to Rs. 57.2 crore. Still, they were fined a hefty sum of Rs. 30 lakhs. Similarly, another financial services misutilisation amounts varied from Rs. 5.01 crore to Rs. 102.06 crore, where the fine imposed on them was only Rs. 17 lakhs. Indeed, even to the most untrained layperson, these look random and arbitrary. This climate of uncertainty does not help to develop the capital markets, and that’s different from what is expected of a severe market regulator.

In the case of a broking firm recently, the penalty inexplicably was subjected to an unconventional punishment as they were subjected to not some arbitrary monetary fine like others but instead faced with a harsh two-year ban on client onboarding. This unique punishment further adds to the situation’s complexity, leaving the markets needing help to fathom SEBI’s rationale for such decisions. This apparent dissimilarity and disparity in penalties raises concerns about the fairness and consistency of SEBI’s decision-making process. Unless the attempt is to create fear of and uncertainty of response from the regulator, this type of punitive action is inexplicable.

The doctrine of proportionality is globally understood to be a fundamental principle in every adjudicatory proceeding. It requires the assessment of the gravity of an offence to be based on established principles and guiding factors provided by relevant statutes or developed jurisprudence. For instance, under Section 15J of the SEBI Act, 1992 and Section 23J of the SCRA (Securities Contracts Regulation Act, 1956, specific factors such as disproportionate gains or unfair advantage, amount of loss caused to the investors and the past history of defaults are mandated to be considered in determining penalties. The punishments listed above don’t meet those essential criteria of fairness and the even more subtle criteria of being seen to be both fair and just.

Moreover, in the context of penalties imposed by regulatory bodies like SEBI, if different entities or individuals are subjected to significantly dissimilar penalties for similar or near similar offences, it can be construed as a violation of the principle of equality enshrined in Article 14. The equal protection clause mandates that all individuals and entities must be treated equally under the law, and any discrimination, either in favour of or against specific parties, would be unconstitutional.

Transparency and accountability are the two basic tenets of any effective regulatory system. The Securities and Exchange Board of India (SEBI) must be seen as synchronised with established legal principles and the constitutional mortality of equality. However, achieving these goals necessitates balancing rigorous enforcement and misdiscriminatory treatment.

The required approach leaves little room for subjective interpretation and necessitates reducing the likelihood of inconsistent enforcement decisions. Consistency in enforcing regulations is paramount. All similar offences should incur comparable penalties, irrespective of the entities or individuals involved. Such a practice instils confidence in the fairness and predictability of SEBI’s enforcement actions. Incoming incumbents for both SEBI and NCLT, which is the outcome of a laborious and meticulous selection process, would put in place more balanced approaches to penalties and procedures so integral to unleashing new impulses for the growth and development of the markets in India.

(Santosh Paul, Senior Advocate, Supreme Court of India. Views expressed are the author’s own. Please consult your financial advisor before investing.)