2025 (12) TMI 1149 - HC - SEBI

Insider trading show-cause notice challenged for being issued by an unauthorised officer and based on pre-judged allegations; quashed.

The dominant issue was whether a show-cause notice for alleged insider trading under the securities law could be sustained when issued by an officer below ... Validity of notice issued by the Deputy General Manager (‘DGM’) (respondent No.2), as incompetent authority - Absence of a lawfully appointed Adjudicating Officer - Jurisdictional error to issue notice u/s 11B - allegations as to Insider Trading - pre-meditated action by the respondent-authorities - Whether the petitioners have made out a case for interference, as the action by the respondents in issuing impugned notice, calling for explanation, for alleged offence of trading under the Act, under Article 226 of Constitution of India ? - HELD THAT:- It is pertinent to mention here that, it is contention of the learned Senior Counsel for the respondents that, not only adjudicating authorities under Section 15-I of the Act, which provides for adjudication of the disputes under Section 15A, 15B, 15C, 15D, 15E, (15EA, 15EB,) 15F, 12G, 15H, 15HA, and 15HB of the Act, wherein, the word “may” is used empowering the Board, to appoint any officer, not below the rank of Chief General Manager as Adjudicating Officer. In this regard, taking into consideration the power of delegation under Section 19 of the Act has to be read conjointly with Section 15-I of the Act, which provides for power to adjudicate including an offence under Section 15G, of the Act, which connotes for allegation as to Insider Trading. Following the declaration of law made by the Hon’ble Supreme Court in the case of Vijay Karia and others [2020 (2) TMI 628 - SUPREME COURT] with reference to legislative intent therein, the competent authority under the Act to issue the notice is the Officer of the rank of CGM, and above only, and not any officer below the rank of CGM. In that view of the matter, “delegation” cannot be understood distancing from other provisions in the same Act, made under Section 19 of the Act nor any such officer below the rank of Chief General Manager and therefore, I find force in the submission made by the learned Senior counsel for the petitioners that, the impugned notices being issued by the respondent No. 2-DGM, who is undoubtedly incompetent authority and below the rank of Chief General Manager, and therefore, the impugned notices are liable to be quashed. Though the respondents vehemently argued that, normally this court does not interfere with challenging the show-cause notice, however, if such notice is issued by an incompetent authority and same has to be interfered with under Article 226 of Constitution of India, as such action is without jurisdiction. It may be concluded that, this court normally will not interfere with a show-cause notice, in a writ proceedings under Article 226 of Constitution of India, unless the such notice is issued by an incompetent authority as required under a particular enactment and therefore, if such notice is issued by the incompetent authority, then such writ petitions are required to be interfered with as same are without jurisdiction. On careful reading of the averments made in the impugned notice, the opinion that, the impugned notices suffer from infirmity, as it vitiates on the ground as, it contains conclusive and pre-determination by the respondents herein, and as such, paragraphs 20 and 21 of the impugned notices as extracted above, though used the word “alleged”, however, the respondent-authorities have clearly stated as to the violation of Section 12A(e), 12A(d) and read with Section 15G of the Act, and Section 3(1)(4) of the Regulations. It is well established principle in law that, if a notice is issued by the quasi-judicial authority under a statutory Regulations/Rule, it is the duty of the authority issuing such notice shall offer explanation for the alleged violation from the aggrieved party/noticee, based on the undecided allegations made thereunder. On careful looking into the draft with corrections approved therein annexed in the memo filed by the respondents, no final draft was placed by the DGM after making necessary corrections, before the CGM or higher authorities, seeking their approval as mentioned in the note sheet, and therefore, the impugned notices lacks jurisdiction, incompleteness and suffers from merit, claiming explanation from the petitioners. Having perused the impugned notice, I am of the opinion that, the impugned notice is liable to be quashed as it has not passed through the test of reasonableness, justness, and fairness to meet the demands of Rule of law principles. Thus, the impugned notices have been issued by an incompetent authority and the averments made in the impugned notice, in whole, would indicate the conclusive and pre-determined action by the respondents against the petitioners, and that apart, having not furnished Investigation Report, and such other documents sought for by the petitioners which are relied upon by the respondents, amounts to violation of principles of natural justice and therefore, questions framed above favour the petitioners. 1. ISSUES PRESENTED AND CONSIDERED 1.1 Whether the Deputy General Manager of the regulator was a competent authority in law to issue the impugned show-cause notices under the Securities and Exchange Board of India Act, 1992 and the 1995 Inquiry Rules. 1.2 Whether the language and structure of the impugned show-cause notices disclosed a pre-determined and conclusive opinion on the alleged violations, thereby vitiating the notices as being contrary to the requirements of a valid show-cause notice in quasi-judicial proceedings. 1.3 Whether non-supply of the investigation report and other relied-upon documents, coupled with insistence only on inspection, amounted to violation of principles of natural justice sufficient to invalidate the notices. 1.4 Whether, notwithstanding the general rule against interference at the show-cause stage, the writ petitions were maintainable under Article 226 in view of alleged lack of jurisdiction, premeditation, and breach of natural justice. 2. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Competence of the Deputy General Manager to issue the impugned notices Legal framework discussed 2.1 The Court examined Chapter VI-A of the SEBI Act (penalties and adjudication), particularly Section 15-I, which provides that for adjudicating contraventions under Sections 15A to 15HB, the Board 'may appoint any officer not below the rank of a Division Chief to be an adjudicating officer' to hold an inquiry and impose penalty. 2.2 Section 11B(2) was considered, which permits the Board, 'without prejudice' to Section 11(4A), Section 11B(1) and Section 15-I, to levy penalties under Sections 15A to 15HB after holding an inquiry in the prescribed manner. 2.3 Section 19 of the Act, enabling the Board to delegate 'such of its powers and functions' (except Section 29) by general or special order in writing to any member, officer, or other person, was analysed in conjunction with Section 15-I and Section 11B(2). 2.4 The Court referred to the Securities and Exchange Board of India (Procedure for Holding Inquiry and Imposing Penalties) Rules, 1995. Rule 2(b) defines 'adjudicating officer' as an officer appointed under Section 15-I. Rule 2(c) defines 'inquiry' as one under Sections 11(4A), 11B(2) or 15-I. Rule 4 authorises 'the Board or the adjudicating officer' to issue the initial notice under the penalty provisions. Interpretation and reasoning 2.5 The Court held that the statutory scheme, read as a whole, contemplates that: (a) Penalty proceedings under Section 15G (insider trading) and other penalty provisions are to be undertaken either by an adjudicating officer not below the rank of Division Chief (as appointed under Section 15-I), or by the Board under Section 11B(2) / Section 11(4A), following the prescribed inquiry procedure; and (b) The competence and rank threshold built into Section 15-I and the Rules cannot be diluted by delegation under Section 19. 2.6 The Court treated the expression 'may' in Section 15-I, in context, as importing a mandatory requirement that an adjudicating officer of the prescribed minimum rank (not below Division Chief, equated in practice to Chief General Manager and above) be appointed for penalty adjudication. This rank threshold is part of the legislative intent and cannot be bypassed by delegation to a lower officer. 2.7 The Court reasoned that delegation under Section 19 must be read harmoniously with Sections 15-I, 15G and 11B(2). Where the statute prescribes the level of authority and manner in which a power is to be exercised, that prescription is mandatory. Delegation cannot authorise an officer lower than the statutorily indicated level to initiate or conduct such adjudicatory proceedings. 2.8 The Court noted that the impugned notices were issued by a Deputy General Manager, who is indisputably below the rank contemplated by Section 15-I read with the relevant delegation orders. The internal note produced by the regulator showed that the DGM approved a draft show-cause notice for issuance but did not place a corrected final draft before the competent higher authority. This reinforced the conclusion that the DGM acted as the issuing authority without proper competence. Conclusions 2.9 The Court concluded that: (a) Only an officer of the rank of Chief General Manager and above, acting as an adjudicating officer duly appointed under Section 15-I, or the Board itself acting under Section 11B(2) / Section 11(4A), could validly initiate and conduct the penalty inquiry by issuing show-cause notices; (b) Delegation under Section 19 could not lawfully vest this power in an officer below the prescribed rank; and (c) The Deputy General Manager, being an officer below the competent rank, was an 'incompetent authority' to issue the show-cause notices. The impugned notices, therefore, suffered from a jurisdictional defect and were liable to be quashed on that ground alone. Issue 2 - Whether the notices were vitiated as pre-determined and conclusive Legal framework discussed 2.10 The Court referred to the principles governing the validity and content of a show-cause notice in quasi-judicial proceedings, as articulated by the Supreme Court, particularly that a notice must: (a) Set out the material and grounds necessitating action; and (b) Indicate the proposed action/penalty, while leaving the allegations as allegations to be answered, and not as concluded findings. Interpretation and reasoning 2.11 The Court examined paragraph 20 of the impugned notice (quoted in the judgment), which stated, inter alia, that specified noticees 'have communicated UPSI' and 'have traded in the scrip of LVB on the basis of UPSI' in violation of identified statutory provisions. 2.12 The Court held that the use of unqualified and declaratory language ('have communicated', 'have traded') went beyond merely alleging prima facie violations; it amounted to recording conclusive findings of guilt within the notice itself. This, in substance, pre-judged the issue and treated the alleged contraventions as already established. 2.13 The Court noted that paragraph 21 of the notice commenced with the phrase 'in view of the aforesaid violations', again indicating that violations were already treated as factually and legally concluded, rather than as matters to be inquired into after considering the noticees' responses. 2.14 On a reasonable reading by a person of ordinary prudence, the notice conveyed that the authority had made up its mind as to the petitioners' guilt and that any reply would be an 'empty formality', contrary to the requirement that a show-cause notice must afford a real and effective opportunity to rebut allegations. Conclusions 2.15 The Court held that the impugned notices were vitiated because: (a) They were framed in conclusive terms, indicating pre-determination and a prejudged opinion on the alleged violations; and (b) Such pre-meditated notices in quasi-judicial proceedings offend the principles of natural justice and fair hearing and therefore cannot stand in law. Issue 3 - Non-supply of investigation report and relied-upon documents; breach of natural justice Legal framework discussed 2.16 The Court considered: (a) The requirement, under the inquiry scheme (Sections 11(4A), 11B(2), 15-I and Rule 4 of the 1995 Rules), that a person proceeded against be given a reasonable opportunity of being heard; and (b) The principles, as affirmed by the Supreme Court, that material and reports forming the basis of allegations and likely to influence the decision in penalty proceedings must be disclosed to the noticee to enable an effective defence. Interpretation and reasoning 2.17 Paragraph 25 of the impugned notices stated that 'the documents relied upon in the notice have been annexed as per the list of enclosures'. The petitioners consistently asserted that such enclosures, including the investigation report and complete minutes/agenda of relevant board meetings, were not furnished despite repeated requests; instead, they were merely invited to inspect documents at the regulator's office, and key documents were either not made available or were said to be 'not relied upon'. 2.18 The Court held that, in view of the express statement in the notices that relied-upon documents were annexed, fairness and natural justice required that such documents actually be supplied to the noticees. There was no impediment shown for providing copies, particularly when such material formed the basis of the alleged violations. 2.19 The Court applied the principle that where the investigation report and other material are taken into account by the authority at the stage of forming satisfaction and initiating penalty proceedings, the relevant portions pertaining to the noticees must be disclosed to them. Non-disclosure of such foundational material deprives the noticees of a reasonable opportunity to meet the case against them. 2.20 The Court rejected the contention that inspection alone, or withholding of the investigation report on the ground that it was 'not relied upon', satisfied the requirement of natural justice when the report and related documents evidently formed the basis of the allegations. Conclusions 2.21 The Court concluded that: (a) Failure to supply the investigation report and other relied-upon documents, despite the representation in the notices and specific demands by the petitioners, amounted to a denial of a fair and reasonable opportunity to respond; and (b) This constituted a clear breach of principles of natural justice, which independently vitiated the impugned notices. Issue 4 - Maintainability of writ petitions against the show-cause notices Legal framework discussed 2.22 The Court acknowledged the general principle that writ jurisdiction is ordinarily not exercised to quash a show-cause notice where an effective alternative remedy exists, especially when the notice is not in itself an adverse order. 2.23 However, the Court also relied on the settled exceptions to this rule: where there is (i) lack of jurisdiction; (ii) violation of fundamental rights; (iii) violation of principles of natural justice; or (iv) pre-meditated or colourable exercise of statutory power. Interpretation and reasoning 2.24 The Court held that in the present case multiple exceptional circumstances co-existed: (a) The notices had been issued by an authority lacking jurisdiction under the statutory framework, which is a foundational defect; (b) The language and structure of the notices disclosed a pre-determined mind, rendering the process illusory; and (c) There was a substantive violation of natural justice through non-supply of the investigation report and other relied-upon documents. 2.25 In such circumstances, relegating the petitioners to reply to the very authority alleged to be incompetent and pre-decided, with fundamental procedural defects unremedied, was held to be neither efficacious nor required by the doctrine of alternative remedy. Conclusions 2.26 The Court held that the writ petitions were maintainable under Article 226, notwithstanding that the impugned actions were 'only' show-cause notices, because: (a) The notices were issued wholly without jurisdiction by an incompetent authority; (b) They were tainted by pre-determination; and (c) They suffered from serious breaches of natural justice. 2.27 Consequently, the Court exercised its writ jurisdiction and quashed the impugned notices in all the petitions.