2021 (10) TMI 1482 - HC - SEBI

Challenge to IPO DRHP fails where SEBI-ordered risk disclosures deemed adequate despite pending Section 156 CrPC complaint

HC considered a challenge to a company's DRHP on the ground of non-disclosure of pending criminal proceedings against the company and its CEO. SEBI ... Disclosures in the Draft Red Herring Prospectus ['DRHP'] published by the Company - Non- disclosure of the pending criminal proceedings against the Company and Chief Executive Officer of the Company - requirement of adequate and timely disclosure in connection with a public offer - HELD THAT:- SEBI, states upon instructions that SEBI is not required to enter into any determination as to the merits of the controversy between the company and a third party. SEBI's interest as a regulator of the securities market is only to ensure that the disclosure of material risk factors is adequate so that potential investors are properly informed. He states that the complaints lodged by the petitioner were referred to the Lead Manager of the Company's public issue, and after discussion with the Lead Manager, the final RHP contains a further disclosure in the Section entitled 'Risk Factors'. The complaint under Section 156 of the CrPC. No civil proceedings or proceedings for relief under the Companies Act, 2013 have yet been instituted, which might lead to a change in the management or control of the Company. Petitioner submits that the RHP ought to have disclosed the existence of the proceedings before the Metropolitan Magistrate. The said proceedings are, admittedly, not even at a stage when an FIR has been registered. SEBI, being the expert regulator, has also taken a view that the disclosure in these terms is adequate for the purpose of the IPO. No prima facie case to have been made out that the decision in this regard is so arbitrary or capricious as to invite the interference of this Court under Article 226 of the Constitution. Petitioner also impugns the conduct of SEBI in approving the RHP on 23.10.2021 but uploading the same only on 28.10.2021. - This Court has also independently examined the grounds raised by the petitioner. Not having found a prima facie case to have been made out, Thus, allegation is not sufficient to grant a stay of the IPO by way of ad interim relief. Thus, ad interim relief is declined. 1. ISSUES PRESENTED AND CONSIDERED 1.1 Whether the disclosures in the draft red herring prospectus and red herring prospectus regarding pending criminal proceedings initiated by a former director satisfy the requirements of material and adequate disclosure under the applicable securities regulations. 1.2 Whether the decision of the securities regulator in approving the red herring prospectus, despite the complainant's representations, is so arbitrary or capricious as to warrant interference under Article 226 of the Constitution at the ad interim stage. 1.3 Whether the timing of approval and uploading of the red herring prospectus by the securities regulator, allegedly limiting the petitioner's remedial avenues, justifies grant of ad interim relief staying the initial public offering. 2. ISSUE-WISE DETAILED ANALYSIS 2.1 Adequacy of disclosure of pending criminal proceedings in the offer documents (a) Legal framework (as discussed) 2.1.1 The Court considered the Securities and Exchange Board of India (Issue of Capital and Disclosure Requirements) Regulations, 2018, particularly Regulation 24, which mandates that all material disclosures adequate for a prospective investor to take an informed investment decision be made, including disclosures required under the Companies Act, 2013 and Part A of Schedule VI. 2.1.2 Clause 5 of Schedule VI, dealing with 'Risk factors', and in particular Clause 5(G)(24), was examined. It requires a 'Summary of all outstanding litigations and other matters' disclosed in the 'Outstanding Litigations and Material Developments' section in tabular form, with quantification of amounts where possible, and mandates that issuers separately highlight any criminal, regulatory or taxation matters which may have any material adverse effect on the issuer. 2.1.3 The Court noted reliance placed on a previous order of the securities regulator's Whole Time Member emphasising the requirement of adequate and timely disclosures in connection with a public offer. (b) Interpretation and reasoning 2.1.4 The petitioner's contention was that the draft red herring prospectus did not contain adequate disclosure of the pending criminal complaint filed by him and the connected proceedings before the Metropolitan Magistrate on his application under Section 156 of the Code of Criminal Procedure, 1973. 2.1.5 The Court examined the disclosures in the draft red herring prospectus under the 'Risk Factors' section and the 'Legal and Other Information' section. It noted that the offer document disclosed: (i) the existence of pending litigations against the company, its subsidiaries and directors, and the general risk of adverse rulings; and (ii) specifically, that the company had been served with a notice under Section 91 of the Code of Criminal Procedure, 1973, arising from allegations by the complainant (including alleged inducement to advance funds, alleged agreement for allotment of shares until repayment, alleged misappropriation, and removal from the company), along with the company's denial and response. 2.1.6 The Court further considered the additional language included in the final red herring prospectus, where, in the 'Risk Factors' section, the company expressly identified: (i) the risk of legal action by individuals, including ex-employees, in relation to grievances such as ESOPs or 'alleged claims contending ownership and or participation rights' in the company; and (ii) as an instance, the very complaint by the petitioner, describing the allegations regarding funds advanced, alleged share allotment agreement, alleged misappropriation, and removal from the board, with a cross-reference to the 'Outstanding Litigations and Material Developments - Litigation involving our Company - Criminal Proceedings' section. 2.1.7 The Court held that the regulatory scheme, as cited, requires a summary of outstanding litigation in order to apprise investors of material risk factors, and does not mandate an exhaustive narration of the entire dispute or comprehensive pleadings. A 'brief description' sufficient to make investors aware of the risks is what is contemplated. 2.1.8 The Court attached significance to the fact that the approved red herring prospectus specifically referred to the petitioner's contentions and characterized them as potentially relating to 'ownership and participation rights' in the company, thereby bringing the nature of the alleged claim and its possible implications to the investors' notice. 2.1.9 With respect to the petitioner's argument that the offer document should also have disclosed the pendency of proceedings before the Metropolitan Magistrate on the Section 156 CrPC application, the Court noted that those proceedings had not even reached the stage of registration of an FIR. (c) Conclusions 2.1.10 Prima facie, the Court concluded that the applicable regulation relied upon by the petitioner does not require exhaustive enumeration of the litigation but only a brief description of the material risk, and that, on the face of the record, the disclosures in the draft red herring prospectus and the final red herring prospectus sufficiently summarised the petitioner's complaint and its potential impact. 2.1.11 The Court held that no prima facie case had been made out that the disclosure concerning the petitioner's criminal complaint and related proceedings was legally inadequate so as to justify ad interim interference with the initial public offering. 2.2 Validity of the securities regulator's decision and scope of judicial review at ad interim stage (a) Interpretation and reasoning 2.2.1 The Court recorded the regulator's position that it is not required to adjudicate on the merits of the dispute between the company and a third party, and that its regulatory interest is confined to ensuring adequate disclosure of material risk factors. 2.2.2 The Court took note that the petitioner's post-DRHP complaints were referred by the regulator to the Lead Manager, and that, after discussions, the final red herring prospectus incorporated amplified language in the 'Risk Factors' section specifically referring to the petitioner's allegations and their characterization as claims concerning ownership and participation rights. 2.2.3 The Court observed that the only proceedings instituted by the petitioner were criminal in nature, being a complaint seeking directions under Section 156 CrPC, and that no civil or company law proceedings had been brought that might directly result in alteration of shareholding, management or control of the company. 2.2.4 In light of the disclosures actually made and the regulator's considered view that these were adequate for the purpose of the IPO, the Court examined whether the regulator's decision could be said to be arbitrary or capricious to a degree inviting interference in writ jurisdiction at the interlocutory stage. (b) Conclusions 2.2.5 The Court accorded due deference to the securities regulator as an 'expert regulator' of the securities market and held that the regulatory determination, that the disclosures in the offer document were adequate, could not be characterised, on the material presented, as so arbitrary or capricious as to warrant interference under Article 226. 2.2.6 The Court thus declined to hold that a prima facie case existed against the regulator's approval of the red herring prospectus that would justify staying the IPO by way of ad interim relief. 2.3 Effect of timing of approval and uploading of the red herring prospectus on entitlement to interim relief (a) Interpretation and reasoning 2.3.1 The petitioner challenged the regulator's conduct in approving the red herring prospectus on one date and uploading it several days later, arguing that this sequence, combined with the non-disposal of his complaints and the temporary closure of the appellate tribunal, had rendered him practically remediless. 2.3.2 The Court found it unnecessary to examine this allegation in depth at the interlocutory stage, as it had independently assessed the substantive grounds advanced by the petitioner regarding adequacy of disclosure and regulatory arbitrariness. 2.3.3 Having already concluded that no prima facie case on merits was made out warranting interference with the IPO, the Court considered that the issue of timing alone, in the circumstances, could not justify the grant of a stay on the offering. (b) Conclusions 2.3.4 The Court held that the allegation regarding delayed uploading of the red herring prospectus and the resulting practical difficulty in invoking appellate remedies did not, in itself, constitute sufficient ground to grant ad interim relief, particularly in the absence of a sustainable prima facie challenge on the merits of disclosure or regulatory decision-making. 2.3.5 For these reasons, the Court declined ad interim relief, refused to stay the IPO, and directed filing of counter affidavits and rejoinders, listing the matter for further consideration on a later date.