WHOLE TIME MEMBER ORDERS ON KIRLOSKAR GROUP – Eshwars
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WHOLE TIME MEMBER ORDERS ON KIRLOSKAR GROUP

Authored by Padma Akila R

Date(s) of Order  20th October 2020
Purported contravention committed 1.     Promoters and directors of Kirloskar Brothers Limited (“KBL”) had traded in the scrip of KBL while in possession of unpublished price sensitive information (“UPSI”) and got wrongfully benefitted by avoidance of losses

2.      Promoters and directors of KBL had submitted incorrect undertakings/ declarations to KBL

Persons charged and who are they Alpana R Kirloskar, Arti Atul Kirloskar, Jyotsna Gautam Kulkarni, Rahul Chandrakant Kirloskar, Atul Chandrakant Kirloskar and late Gautam Achyut Kulkarni. – “Noticee set 1

[Promoters and/or Directors of KBL]

Nihal Gautam Kulkarni, AR Sathe and AN Alawani – “Noticee set 2”

[All Directors of Kirloskar Industries Limited (“KIL”)]

Sanjay Kirloskar (As Trustee of Kirloskar Brothers Ltd. Employees Welfare Trust Scheme) [CMD of KBL], Pratima Sanjay Kirloskar [Wife of CMD]- “Noticee set 3”

Prakar Investments Private Limited, Karad Projects and Motors Limited (formerly known as Kirloskar Construction and Engineers Ltd.) – “Noticee set 4”

[Promoters of KBL]

Companies in which insider trading and fraud had been committed Kirloskar Brothers Limited, Kirloskar Industries Limited

BACKGROUND OF THE CASE:

1. SEBI had received various complaints alleging insider trading and bad corporate governance practices in the context of KBL. Pursuant to this, SEBI conducted investigation during March 2010 to April 2011 in the matter relating to dealings in the scrip of KBL to ascertain possible violation of the insider trading rules and prohibition of fraudulent and unfair trade practices regulations.

2. UPSI: SEBI identified the following two as UPSI, on the basis of which the Noticees had committed wrongful insider trading were:

(i) Capital loss of the investment i.e. loans / advances given to Kirloskar Construction and Engineers Ltd. (“KCEL”), a wholly owned subsidiary of KBL (“UPSI 1”).

The loan to KCEL was written off in the financial results of quarter and year ended 31st March 2011, and the results was published on 26th April 2011.

At KBL’s board meeting held on 8th March 2010, a board note was presented about KECL, which was incurring losses for last 3 years, based on which a viability report was prepared and circulated amongst the promoters of KBL. At the board meeting held on 3rd September 2010, the board of KBL after considering three (3) options decided to sell KECL, and thereafter at the meeting held on 26th April 2011, the loan to KECL was decided to be written off.

Hence, SEBI considered the time period of UPSI  1 was from March 8, 2010 to April 26, 2011.

(ii) The Financial results for the quarter July – September 2010 August 06, 2010 to October 28, 2010 (UPSI 2). The time period of UPSI 2 was from August 06, 2010 to October 28, 2010.

3. As per SEBI’s investigation, four (4) from the Noticee set 1, had obtained pre-clearance for their trades, while in possession of the above UPSI, however had given undertaking that they had no access to UPSI. Hence, SEBI alleged that the declarations / undertakings given by them were incorrect, and they had violated Part A, of clause 3.3 of Schedule 1 i.e. Model Code of Conduct for Prevention of Insider Trading, specified in Regulation 12(1) of PIT Regulations 1992.

4. The allegation was that Noticee set 1, had sold their shares to KIL, another promoter entity of KBL, after obtaining pre-clearance while they were in possession of the above identified UPSI. Likewise, Noticee set 3 had sold their shares to Noticee set 3 – who were also promoters of KBL.

5. The other allegation of fraud was that the Noticees set 1 and 2 had induced KIL to buy shares from KBL’s promoters, thereby aiding them to sell the shares of KBL to KIL at a time disadvantageous to KIL and its minority shareholders.

Note: The regulation that was prevalent at the time of commission of the above purported offence was PIT Regulations, 1992 and not PIT Regulations, 2015.

CONTENTION OF THE NOTICEES:

1. The Noticees had submitted that the decision to sell KCEL and the decision to write off advances were completely distinct and therefore the information about write off came into existence only on April 26, 2011 and not on March 08, 2010 and that the option to write-off the loans advanced to KCEL was considered or discussed by the KBL for the first time in its Board meeting dated April 26, 2011. Therefore, the discussions pertaining to capital loss of investment/advances given to KCEL during the period from March 8, 2010 to April 26, 2011 cannot be alleged to be UPSI.

2. Few among the Noticees had submitted that, the SCNs did not even allege that the said Noticees have dealt in the shares of KBL “on the basis of” any UPSI following this the Noticees had placed reliance in the matter of Mrs. Chandrakala vs Adjudicating Officer SEBI dated January 31, 2012 wherein Hon’ble SAT had held that the prohibition contained in Regulation 3 of the PIT Regulations, 1992 applies only when the insider has traded “on the basis of” any unpublished price sensitive information. Noticees had also placed reliance in the case of Manoj Gaur vs SEBI dated October 03, 2012, wherein the Hon’ble SAT had set aside the Order of SEBI since the trading pattern in that case reflected that the trades could not be said to be “on the basis of” the alleged UPSI.

3. The Noticees had submitted that both buyers and sellers had the same UPSIs i.e, KIL was a shareholder and promoter of KBL, and KBL was a promoter of KIL a fact that was publicly disclosed and since both buyers and the sellers in the October 06, 2010 transaction were all promoters of KBL, it could not be alleged that there was any suppression or deception or fraud involved at all.

4. With regards to UPSI 2 the Noticees had submitted that PSI included “periodic financial results” of a company computed only on completion of each quarter and not monthly financial position or interim monthly financial information of a company and that any other information which could be connected and eventually become part of the financial results cannot be considered to be equivalent to the financial results.

5. The Noticees had argued that, Section 372A of the Companies Act, 1956 permitted the company to use 60% of its paid capital and free reserves or 100% of its free reserves, whichever was more, to acquire the shares of any other body corporate and that there was no allegation that KIL acquired the shares in breach of Section 372A of the Companies Act, 1956. It was further argued that what was permissible by law cannot therefore, be a device, scheme or artifice which was fraudulent within the meaning of Regulation 2(1)(c) of PFUTP Regulations.

6. It was argued by the Noticees, that said pre-clearance was sought in a bonafide manner believing that they were not in possession on any UPSI. they had further submitted that the compliance officer of KBL had erred in granting the pre-clearance to the said Noticees.

FINDINGS BY THE WOLE TIME MEMBER (“WTM”):

1. The Whole-time Member (“WTM”) noted that the Noticees’ interpretation of the SCN was erroneous in terms of what UPSI 1 was alleged to be, and that the SCN had clearly articulated that the information on the capital loss of the investment/advances given to KCEL was alleged to be UPSI. However, the Noticees had interpreted that the write off of the loans to KCEL in the books of accounts of KBL to be UPSI, which was not the case. The WTM clarified that the UPSI was not the information on the event of writing off the loan or the event of deciding to sell KCEL, but the information / knowledge that a significant part of the capital was lost and asking for a viability report on KCEL before finally deciding as to how to deal with it, did not detract from KBL’s knowledge / understanding that a significant part of the capital invested in KCEL was lost. The WTM further stated that the capital loss of investment/ advances given to KCEL by KBL had occurred much earlier than claimed by the Noticees and the directors of KBL had access to this information in March 2010 itself when the note on KCEL outlining its extremely poor financial health and estimated sale value (at a loss) was circulated to the directors of KBL and thus, there was no merit in the argument of the Noticees that the UPSI came into existence for the first time in April 2011.

2. The WTM noted that, for the purpose of imposition of penalty under Section 15G of SEBI Act, 1992, the requirement was to prove that insider had traded not only “while in possession of” any UPSI but also “on the basis of” any UPSI. However, there was a presumption, albeit rebuttable, that if trading had been done “while in possession of” UPSI, then it was being done “on the basis of” UPSI. Also, Supplementary SCNs dated July 24, 2020 had referred to the Section 15G of SEBI Act, 1992. The WTM distinguished this matter with that of Chandrakala case and Manoj Gaur case on the that the trading pattern of the Noticees was not similar to the specific trading pattern of entities referred in Chandrakala case and Manoj Gaur case.

3. The WTM noted that said exemptions from violation of insider trading i.e. inter-se transfer between promoters and transactions between buyer and seller, who have the same UPSI is not available under the PIT Regulations, 1992 and the same was given under the PIT Regulations, 2015 subject to certain conditions. The WTM further noted that the transaction in question in this matter had happened in the year 2010 when PIT Regulation, 1992 was in effect and upon perusal of Regulation 3 of PIT Regulations, 1992, the said regulations do not exempt any inter-se transfer between promoters or transactions between buyer and seller, who have the same UPSI.

4. With respect to the submissions made by the Noticees with regard to UPSI 2, the WTM reasoned that PSI meant any information which related directly or indirectly to a company and which if published was likely to materially affect the price of securities of the company. Several price sensitive pieces of information relating to the financials of the company may arise prior to the publication of the financial results and at the stage of publication, several price sensitive pieces of information relating to the financial condition of the company were integrated and were published as quarterly results which in itself was deemed to be PSI. The WTM observed that any particular piece of PSI, after its origin, may have been in possession of various persons for legitimate purpose and that the publication of such PSI may happen only after a period of time but it did not take away the fact that the pieces of information may have been price sensitive on their own, even while they were unpublished in the form of periodic financial results and It was for these reasons that Promoters / Directors were often being referred to as “perpetual insiders” because they had continuous access to flow of information that had a bearing on the periodic financial results disclosed to the public.

[Note: This observation is to be taken note of, and in the context of the record keeping that has been mandated by SEBI in PIT Regulations, 2015, assumes significance.]

5. The WTM noted that the basis of allegation against the directors of KIL is that before the KIL board meeting on July 28, 2010 (wherein the decision to buy KBL shares from Promoter/directors of KBL was taken by KIL), the directors of KIL had been aware of the precarious financial condition of KCEL & its impact on the financials of KBL in terms of capital loss (UPSI 1) and yet they had induced KIL to buy shares of KBL from the promoters of KBL as well as of KIL. Therefore, concluding that Noticee set 2 had teamed up with each other and had committed fraud on KIL and public / minority shareholders of KIL.

6. The WTM noted that while the law has permitted certain activity, the said activity had to have been performed as permitted by law and that the PFUTP Regulations prohibited also the permissible activity if done in a fraudulent manner. The WTM rejected the contentions of the Noticees in this regard and stated that in this case, permissible activity of investment was prevented as the same was being done while in possession of the non-public information of capital loss. The WTM further reasoned that the board of directors were vested with the widest powers to make corporate policy, take decisions on investments, appointments of directors etc. if they found that such an action is for the benefit of and in the interest of the company, which also involve the interest of the minority shareholders and such powers are to be discharged in good faith. Further, directors performed functions similar to trustees in respect of the assets of the company as well and If a decision was not taken in good faith and not for the benefit of / in interest of the company, then the director, was liable for inducing the company to act to its own detriment and was also liable for treating minority shareholders in an unfair manner.

7. As far as the argument related to pre-clearance was concerned, the WTM noted that the question of determination whether the compliance officer of KBL had erred in granting the pre-clearance did not arise as the same was not part of the allegation in the SCN and that the Noticees had applied for pre-clearances on September 28, 2010 i.e. prior to the transaction dated October 06, 2010. The WTM rejected the Noticees, arguments by stating that it was irrelevant and what was relevant for determination of violation of code of conduct relating to pre-clearance was whether the said application for pre-clearance was made at the time when the applicant did not have the UPSI and an undertaking to that effect was given for application to get the pre-clearance, which clearly wasn’t the case as the Noticees were in possession of UPSI and had also submitted incorrect declaratons thereby violating Part A, of clause 3.3 of Schedule 1 i.e. Model Code of Conduct for Prevention of Insider Trading, specified in Regulation 12(1) of PIT Regulations 1992.

DECISION OF THE WTM:

a) Noticees set 1 and 3, were disgorged of the gains made by them and they were restrained from dealing in the securities market for different periods of time.

b) Noticees set 2 were held to have induced KIL to buy shares from the promoters of KBL and thereby aided the promoters to sell the shares of KBL to KIL to the detriment of KIL at least in terms of timing of the trade in KBL shares (before public disclosure of UPSI). Thus, Noticees had caused unfair treatment to the minority shareholders of KIL in a fraudulent manner and violated the provisions of Section [1]12A (a), (b), (c) of SEBI Act, 1992 read with [2]Regulations 3 (a), (b), (c), (d) and [3]4(1) PFUTP Regulations as alleged in the respective SCN and they were also restrained to deal in the securities market for different periods of time.

c) With respect to the few Noticees in set 1, and Noticee set 3, they were held to have submitted incorrect declarations / undertakings to KBL while obtaining pre-clearances for their transaction and therefore, violated Part A, of clause 3.3 of Schedule 1 i.e. Model Code of Conduct for Prevention of Insider Trading, specified in [4]Regulation 12(1) of PIT Regulations 1992.

[1] 12A- No person shall directly or indirectly—

(a) use or employ, in connection with the issue, purchase or sale of any securities listed or

proposed to be listed on a recognized stock exchange, any manipulative or deceptive

device or contrivance in contravention of the provisions of this Act or the rules or the

regulations made thereunder;

(b) employ any device, scheme or artifice to defraud in connection with issue or dealing in

securities which are listed or proposed to be listed on a recognised stock exchange;

(c) engage in any act, practice, course of business which operates or would operate as fraud

or deceit upon any person, in connection with the issue, dealing in securities which are

listed or proposed to be listed on a recognised stock exchange, in contravention of the

provisions of this Act or the rules or the regulations made thereunder;

[2] 3- Prohibition of certain dealings in securities

No person shall directly or indirectly—(a)buy, sell or otherwise deal in securities in a fraudulent manner;

(b)  use or employ, in connection with issue, purchase or sale of any security listed or proposed  to  be  listed  in  a  recognized  stock  exchange,  any manipulative  or  deceptive device or contrivance in contravention of the provisions of the Act or the rules or the regulations made there under;

(c)  employ any device, scheme or artifice to defraud in connection with dealing in or issue  of  securities  which  are  listed  or  proposed  to  be  listed  on  a  recognized  stock exchange;

(d)  engage in any act, practice, course of business which operates or would operate as fraud or deceit upon any person in connection with any dealing in or issue of securities which are listed or proposed to be listed on a recognized stock exchange in contravention of the provisions of the Act or the rules and the regulations made there under

 [3] 4- Prohibition of manipulative, fraudulent and unfair trade practices

  • Without prejudice to the provisions of regulation 3, no person shall indulge in a 3[manipulative,] fraudulent or an unfair trade practice in securities [markets].

[4] 12- (1) All listed companies and organisations associated with securities markets

(a)…

(b)…

(c)…

(d)…

(e)…

shall frame a code of internal procedures and conduct as near thereto the Model Code specified in

Schedule I of these Regulations 45[without diluting it in any manner and ensure compliance of the

same].

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