TaxTMI 
TaxTMI 
2003 (11) TMI 355
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....ro-plantation sale and development of orchards on behalf of the owners, Cottages & Agricultural land. The petitioner No. 1 has also initiated its food processing unit at NOIDA (U.P.) in the name of 'Paramount Foods' for which it has got sanction for allotment of an industrial plot from NOIDA. The petitioner No. 1 is also in the field of information technology and software consultancy. Thus petitioner No. 1 has been in three types of business since its incorporation in the year 1996 viz. (a) Collective hi-brid, hi-tech agro-farming plantation projects, (b) Sale and purchase of agriculture land and related services and (c) I.T. and Software Consultancy. 4. The petitioner No. 2 is a shareholder and Director of petitioner No. 1. 5. It is alleged in paragraph 2 of the petition that this petition is being filed in order to safeguard the interest of the shareholders and investors/joint venture associates, who have invested their hard earned money with petitioner No. 1, the interest of the individuals working for petitioner No. 1, and in order to prevent agro-plantation and other projects implemented by petitioner No. 1 from being destroyed/collapsed. It is alleged in paragraph 4 of the ....
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....tails is contained in paragraph 8 of the petition. 9. In paragraph 9 of the petition it is alleged that from the above figures it is evident that petitioner No. 1 is one of those companies which has been carrying on its business with prudence. The petitioner No. 1 had been returning the investment of its joint venture associates and striving hard and returning the investment of its investors as well as trying to salvage various schemes and projects which are underway. 10. In the month of November, 1997 the Central Government issued a press release making known its decision that various schemes through which instruments like agro bonds, plantation bonds etc. are issued would be treated as 'Collective Investment Schemes' under the purview of the SEBI Act. Copy of the public notice issued by SEBI dated 18-12-1997 is annexed as Annexure 3 to the petition. The aforesaid notice states :- "The Central Government has by a press release dated 19-11-1997 decided that an appropriate regulatory framework for regulating entities which issue instruments such as agro bonds, plantation bonds, etc. has to be put in place. The Government has decided that schemes through which such instruments ar....
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.... writ petition that when the petitioner No. 1 and other Companies contacted the SEBI approved credit rating agencies they were informed by the said Agencies that the agencies were not having any guidelines from SEBI so that these agencies could rate the schemes of the companies. This position lasted for one and a half to two months. 13. It is alleged in paragraph 16 of the writ petition that this action of SEBI was followed by a number of deliberate and motivated press releases, public notices/news-items presenting generalised negative opinion about all the agro-plantation companies vide Annexure-5 to the writ petition. This created a panic situation amongst the investors and they started approaching various companies including the petitioner for premature withdrawal of their investments. Thereafter the petitioner No. 1 circulated letters to all its investors/joint venture associates giving details about the prevailing condition. At the same time, to cut down the overheads the petitioner No. 1 closed down its branch offices. After consulting with the investors, the petitioner No. 1 informed all its investors/joint venture associates individually, about the entire grim scenario tha....
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....es not authorise SEBI to make regulations to regulate collective investment schemes, but confines the power to make regulations which may provide for the conditions subject to which certificate of registration is to be issued, the amount of fees to be paid for the certificate of registration, and the manner of suspension or cancellation of certificate of registration under section 30 states : "Power to make regulations.-(1) The Board may, by notification, make regulations consistent with this Act and the rules made thereunder to carry out the purposes of this Act. (2) In particular, and without prejudice to the generality of the foregoing power, such regulations may provide for all or any of the following matters, namely :- (a)the time and places of meetings of the Board and the procedure to be followed at such meetings under sub-section (1) of section 7 including quorum necessary for the transaction of business; (b)the terms and other conditions of service of officers and employees of the Board under sub-section (2) of section 9; (c)the matters relating to issue of capital, transfer of securities and other matters incidental thereto and the manner in which such matters shall ....
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....)The restriction imposed by regulation 70(1)( c) that 50 per cent of the Director should be independent, is restricting the rights of the shareholders to appoint any individual to the office of Directors. The expression 'Independent Director' has been explained to mean those Directors who are not associates of the persons operating the existing collective investment scheme. (2)Regulation 11(c) which provides that appointment of directors shall be made with the prior approval of the trustees is again a restrictive clause which limits the rights of the shareholders to appoint any one as Director and it is thus violative of article 257 of the Companies Act. It may be mentioned that under section 32 of the SEBI Act the provisions of the Act shall not be in derogation of any other law for the time being in force. Hence, it is alleged, it cannot be in derogation of Companies Act. Regulation 9(b ) provides that the Company should in its memorandum of association specify managing of collective investment scheme as one of its main objects. However, Regulation 13 provides that collective investment management company shall not undertake any activity other than that of managing the scheme.....
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....5 of the writ petition that the provisions in the impugned regulations for existing companies are impractical and impossible to be followed and the chances of safeguarding the interest of the existing investors have all faded, what to talk of future investors. If the existing companies are not rehabilitated, the chances of investors getting back their money will be totally lost. 24. Regulation 71(4) states that the Company shall after complying with the conditions of provisional registration under regulation 70 shall also comply with the conditions for seeking registration specified under regulation 9. Only then will the company become eligible for grant of certificate of registration under regulation 10. 25. It is alleged in paragraph 36 of the petition that the above regulation means that the SEBI is directing the company to suspend business with immediate effect until the registration is granted, thereby suspending the business indefinitely and certainly for a minimum period of two years. It is alleged that this is against the going concern concept which is a fundamental principle of accounting. Corporate financial statements are generally prepared following 'going concern' as....
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.... fit." Section 11(2) mentions certain specific powers of the SEBI, without prejudice to the generality of section 11(1). 28. In paragraph 12 of the counter-affidavit it is stated that the securities market in India has grown tremendously over 'a' period. A number of entities, incorporated or not, had come into existence which promised attractive returns to investments made with them and mobilised huge public funds on the pretext of high returns. Such entities utilized the funds collected by them for the purpose which had not been disclosed by them at the time of inviting their investments. This was causing not only loss to the public but also eroding the confidence of the investors. 29. In paragraph 13 of the counter-affidavit it is alleged that it came to the notice of the Government of India that there were entities which were issuing instruments against the investment such as agro bonds, plantation bonds etc. by offering very high rates of returns which were not consistent with the normal returns in such schemes. They were calling such companies plantation companies. The Central Government was con- cerned with the high element of risk of the investors in such schemes, and hen....
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....e or assured returns made in this scheme, and the names, details and background of promoters/sponsors. Copy of the Press Release dated 26-11-1997 is Annexure 2 to the counter-affidavit. 32. In paragraph 15 of the counter-affidavit it is alleged that it came to the notice of the Central Government that some unscrupulous companies were floating collective investment schemes and alluring the gullible investors with promise of high returns although such returns were not commercially viable and were apprehended to be unrealistic. The Central Government thought it essential to look into the claims made by these companies to prevent exploitation of investors and to provide adequate safeguard to the investment made so that it should be properly utilized. With this object the Ministry of Environment and Forest of Central Government constituted an inter-departmental committee vide letter dated 17-4-1996 to study the growth rate and economics of plantations undertaken by private promoters. The Chairman of the Committee was Sri P.B. Gangopadhyay, I.F.S. and there were altogether six members as stated in paragraph 15 of the counter-affidavit. These members were experts in various fields. The C....
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....of the schemes launched by the plantation companies, the amount collected from the public under the scheme and other relevant information to study whether the promises held out by these companies were realistic. SEBI also asked these companies to abide by the Code of advertisement framed by SEBI for investors' protection. From the information gathered from the aforesaid companies it was found that the offer documents of these companies promised very high returns which was wholly unrealistic. Photocopy of such offer document of the petitioner company is Annexure 4 to the counter-affidavit. In this offer the petitioner company offered to issue bonds against the investments. They published that these bonds and investments were 100 per cent secured through advance post-dated cheques, and the returns therefrom were also tax-free. It was also mentioned that the investment will grow 75 times in 20 years while the principal amount is returned in first five years. Other such attractive terms were made in these offer documents vide Annexure 4 and paragraph 21 to the counter-affidavit. 34. In paragraph 22 it is stated that some companies mentioned that the return on the investment would be 2....
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....lhi police. The report of the auditors mentioned that the post-dated cheques had bounced and the company issued promissory notes in place of cheques. However, the company's account in Punjab National Bank from which the post-dated cheques were issued to the investors was closed. The deposits taken from the investors were diverted to sister companies free of interest. The management utilized the funds of the investors for purchase of land in Maharashtra State in the name of promoters and directors of the companies or their relatives. In paragraph 27 of the counter-affidavit it is stated that according to the aforesaid audit report of about 35 companies SEBI found that the situation in almost all the plantation companies which were soliciting investments on the promise of very high returns was the same. The investment of the innocent poor public was in a state of a very high risk. SEBI considered it extremely urgent and necessary to save the innocent public from being exploited by the collective investment schemes of the aforesaid companies. The number of companies were fast increasing. As it would appear from the special audit report, these companies were not generating income at al....
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.... gave adverse comments on the accounting practices and methods which were followed by these entities. Many of the entities were found to be lacking in application of fundamental accounting principles while preparing their accounts. True copy of the Dave Committee Report submitted on 5-4-1999 is Annexure 12 to the counter- affidavit. Many points noted by the Dave Committee are mentioned in paragraph 34 of the Counter-Affidavit. These points show how malpractices were being done by the Companies on a large scale. 37. In para 40 of the Counter-Affidavit it is stated that the SEBI published the Regulations in the Draft Form on the basis of the recommendations of Dave Committee. The SEBI invited comments and objections of the general public, and the views of the general public were received which were considered by the SEBI and thereafter the impugned regulations were approved. 38. In para 43 of the Counter Affidavit it is denied that the impugned regulations are in violation of articles 14, 19 and 246 (3) of the Constitution. In para 45 it is stated that the special auditors appointed by SEBI to inspect some of the plantation companies have reported that majority of them were not fo....
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.... Government of India was only clarificatory in nature informing that units issued by plantation companies will be treated as collective investment schemes. It is wrong to say that SEBI acted in a most irresponsible manner. 44. In para 54 of the Counter-Affidavit it is stated that the expression "collective investment schemes" is a concept which was known throughout the world in financial circles. The Dave Committee in its report observed that "collective investment scheme" is a generic term, and therefore, would encapsulate within its fold various activities which have been found to have certain specific characteristics. It is alleged that the definition of collective investment schemes as inserted by the Securities Laws (Amendment) Act, 1999 is substantially the same as mentioned in the Dave Committee report. The expression 'collective investment scheme' though not initially defined under the Statute, was generally understood to include such schemes as are floated for mobilisation of money by way of contribution from the public at large and the corpus is invested in property with a view to share the benefits arising out of deployment of such common corpus. In the absence of the d....
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....iods. Some projects include raising of short term crops. In fact from the facts gathered by the SEBI the plantation companies were not generating any income, but were passing on the funds of the fresh investors to the old investors. In para 63 it is stated that while framing the regulations, SEBI had to take into account the interest of various groups including that of industry and the investors. The paramount consideration, however, was accorded to the protection of investors' interest. 48. In para 70 it is stated that the requirement of Regulation 70(1)(c) to have at least 50 per cent independent Directors on the Board is aimed at protecting the interest of investors and to ensure that the Boards of these companies which raise huge resources from the public are not packed with the friends and relatives of the promoters. This requirement of having at least 50 per cent of the directors to the independent of the promoters was formulated when it was pointed out to SEBI that many plantation companies wherein the Boards of the said companies which were packed with the associates of the promoters had often remained silent when the investor's money was diverted or frittered away. The pr....
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....its to the public at large by the collective investment management company, and in case the persons in charge of the affairs of the Company act in a manner which is detrimental to the interest of the investors, the trustees are duty bound to bring the same to the notice of the Board as well as the investors. 53. In para 78 it is stated that SEBI regulates various intermediaries in the capital market which were involved in raising of huge resources from the investors in general. Having regard to the high volumes and turnover in the capital market, it is essential that the person who is permitted to operate in the capital market is a person of high standard of integrity. SEBI has framed internal guidelines to determine whether an intermediary is a fit and proper person, and thus it cannot be said that there is absolute or unfettered discretions in SEBI while declaring whether a person is fit and proper in the capital market. We have also perused the rejoinder affidavit and other affidavits. The first question which arises in this case is whether the activities of the petitioner are covered by the Securities and Exchange Board of India Act, 1992 (SEBI Act). It may be mentioned that....
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....d by any company under which,- "(i)the contribution, or payments made by the investors, by whatever name called, are pooled and utilized for the purposes of the scheme or arrangement; (ii)the contributions or payments are made to such scheme or arrangement by the investors with a view to receive profits, income, produce or property, whether movable or immovable, from such scheme or arrangement; (iii)the property, contribution or investment forming part of scheme or arrangement, whether identifiable or not is managed on behalf of the investors; (iv)the investors do not have day-to-day control over the management and operation of the scheme or arrangement." 56. Shri S.S. Ray, learned Senior Counsel for the petitioner submitted that the above definition requires pooling of resources, but the petitioner did not pool the resources of its investors, and hence the scheme was not a Collective Investment Scheme. However, there is no such averment in the writ petition that there was no pooling of resources, rather the averment in para 4 of the writ petition is to the contrary. 57. In the supplementary affidavit filed by the petitioner in September 2002 no doubt there is an averment in ....
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....idavit was filed after the arguments at the stage of final hearing had begun before us. No such ground had been taken initially nor any amendment application was filed nor any relief sought in this connection. The respondent SEBI has seriously disputed this averment of fact disclosed in the corrected supplementary affidavit. The SEBI admits that if it is a genuine sale or purchase transaction of land and the SEBI will not interfere with the same. All that the SEBI desires is that the petitioner and other parties doing this business should report this matter to the SEBI so that it can be verified whether it is a genuine transaction of sale or purchase of land or not. Moreover, if the decision of the SEBI on this issue is incorrect there is a right of appeal under section 20 of the SEBI Act. Hence we cannot see what grievance the petitioner can have in this connection. 58. As regards the business of Collective High-Tech & High-brid Agro-Plantation the petitioner has alleged that that has been closed down by the petitioner from 1998. In this connection the stand of the SEBI is that it will verify whether in fact the business has been closed or not. The procedure for closing the busin....
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....petitioner that Regulations made under an Act cannot be retrospective unless the parent Act so permits vide State of Bihar v. K.K. Kalra [1997] 9 SCC 763. Vested rights of a company cannot be disturbed retrospectively by subordinate legislation vide Beggam v. State of A.P. [1998] 1 SCC 563; State of M.P. v. G.S. Dhall Flour Mills [1992] Suppl. 1 SCC 150; Eicher Motors Ltd. v. Union of India [1999] 2 SCC 361; Pawan Alloys v. U.P. State Electricity Board [1997] 7 SCC 251 etc. Regulations are only delegated legislation, and unless permitted by the parent Act they cannot be retrospective. 62. However, learned Counsel for the respondents has submitted that neither the directive issued under section 16 of the SEBI Act (vide Annexures 3 and 5 to the writ petition) nor the Regulations made under section 30 are being enforced retrospectively. As regards the argument that these Regulations of 1999 are being applied to a business which has been closed in 1998, it is submitted by learned Counsel for the respondents that this factual averment has to be examined by SEBI and cannot be accepted on its face value. Admittedly, the petitioner No. 1 has not returned the entire money to the investors ....
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....eal lies against the decision of the Board. We fail to see how any of these Regulations can be called retrospective. 64. The petitioner-company was admittedly operating before the impugned Regulations of 1999 were made. In view of section 12(1B), which came into force in 1995 it could continue its business of collective investment scheme only after getting a certificate of registration from the Board in accordance with the regulations. Hence, regulations had to be framed and the petitioner could continue its operations only after applying under Regulation 5 and obtaining a certificate under Regulation 12. If its application was rejected it could appeal under section 20. 65. As regards the public notice copy of which is Annexure 3 of the writ petition (and which has been quoted in entirety of this judgment) we are of the opinion that this has been issued by the Central Government under its power in section 16(1) of the SEBI Act, and it is perfectly valid. It refers to section 12(1B) which had come into force on 25th January, 1995. SEBI has only acted in accordance with this directive of the Central Government, which indeed it was bound to do in view of section 16. 66. It is true....
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....ry 48 reads: "Stock exchanges and futures markets." In our opinion these entries in List I give legislative competence to Parliament to enact the SEBI Act. The Statement of Objects and Reasons of the Act states that it is being enacted to protect the investors. The capital market has witnessed tremendous growth in recent times, characterised particularly by the increasing participation of the public, and hence, it was necessary to regulate the same so as to instill a sense of confidence in the public. 67. The impugned Regulations have been made under section 30 of the Act, and we find no illegality in the same. Their object is to protect the investors in Collective Investment Management Schemes, and this is a landable object. 68. However, even if the impugned regulations incidentally touch on some matter that will not invalidate them because we have to see the pith & substance of the Regulations, and not the incidental matters. Hence, the impugned Regulations are not invalid on this account. The object of making the Regulations was to bring transparency in the 'Collective Investment Schemes' introduced to check and regulate various 'Fly by Night' companies and make such compani....
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....utory provision. There is no doubt that the interest of investors needs to be safeguarded against unscrupulous persons because of whom a large number of people have lost their hard earned money all over the world. Even in the U.S.A. we have seen how persons in charge of certain companies e.g. Enron, Worldcom, etc. had by unscrupulous methods duped their shareholders and the general public and thus caused the loss of entire lives savings of a large number of people. It may be mentioned that one of the main reasons for the 1929 Wall Street slump in America and the Great Depression thereafter and in that country was that there was no effective Regulation of the securities market and no protection of the interest of the investors. That is why the Security and Exchange Commission was created subsequently in America also. 72. In our opinion, the impugned Regulations are reasonable restrictions and were in fact very much needed to protect the public against many finance companies which recently have duped the investors and then disappeared. Even the Government of India in the Companies (Amendment) Act, 2000 has introduced the concept of having 50 per cent independent directors in the 'Au....
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....e that the Board can register and regulate the working of Collective Investment Schemes. The Rules and Regulations made by SEBI have to be placed before Parliament as mentioned in Section 31 of the SEBI Act. 77. It may be mentioned that Section 12 of the SEBI Act was amended in 1995 and Section 12(1B) was incorporated which specifically stated that no person can sponsor or cause to be sponsored or carry on any venture capital funds or collective investment schemes unless he obtained a certificate of registration from the Board in accordance with the Regulations. Thus after 1995, nobody could have carried on a collective investment scheme unless he obtains a certificate of registration from the Board. 78. In our opinion the impugned public notice, copy of which is Annexure-3 to the writ petition and the letter to the petitioner from SEBI dated 27-2-1998 vide Annexure-4 to the writ petition were both issued under section 12(1B) read with section 16 of the SEBI Act and hence they cannot be said to be ultra vires. 79. It may be mentioned that before making the impugned Regulations SEBI undertook a survey of some of the entities issuing instruments, such as Agro-Bonds and Plantation ....
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....y 1998, the Dave Committee held a meeting and desired that the existing Collective Investment Scheme should be allowed to continue to raise or mobilize moneys from the public provided that the instruments of such Collective Investment Scheme are rated by the Credit Rating Agencies and the schemes are insured. On the basis of these recommendations of the Dave Committee, the SEBI on 24-2-1998 in exercise of its powers under section 11B read with proviso to section 12(1B) of the SEBI Act issued a direction to the effect that all existing Collective Investment Schemes can mobilize money only after obtaining a rating from one of the four Credit Rating Agencies indicated therein. 81. On 23-1-1998 SEBI decided to undertake a special audit of those Collective Investment Schemes which had mobilized an amount of more than Rs. 5 crores from the public, which included the petitioner. SEBI identified the Plantation Companies after seeking information from the Registrar of Companies and then initiated a process of classifying those companies which had mobilized money through Collective Investment Schemes. In pursuance of the notices issued by SEBI on 17-4-1998, 478 Companies field returns with ....
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....rates harshly vide State of Gujarat v. Shantilal Mangaldas AIR 1969 SC 634 (vide para 52). As observed by the Supreme Court in Laxmi Khandsari v. State of U.P. AIR 1981 SC 873; D.K. Trivedi & Son's case (supra); State of Madras v. Row 1952 SCR 597; Peerless General Finance & Investment Co. Ltd. v. Reserve Bank of India AIR 1992 SC 1033; Harakchand Ratanchand Banthia v. Union of India AIR 1970 SC 1453 etc., the nature of the right alleged to have been infringed, the underlying purpose of the restriction imposed and the extent and urgency of the evil sought to be remedied thereby, disproportion of the imposition, prevailing conditions at the time etc. are the relevant considerations for determining whether the restrictions is reasonable. Further, as held in Jyoti Pershad v. Administrator for the Union Territory of Delhi AIR 1961 SC 1602, the standard of reasonableness must also vary from age to age and be related to the adjustments necessary to solve the problems which communities face from time to time. In adjudging the validity of the restriction the Court has necessarily to approach the question from the point of view of the social interest which the legislation intends to promot....
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....panies set their unrealistic targets very high, and, hence, the Committee strongly felt a need for defining regulatory mechanism to safeguard the interest of investors and eliminate the fraudulent companies. The Committee noted that most of the companies do not have qualified personnel with forestry background for proper execution of a technical project dealing with forestry. There was no system to see that the funds of the depositors are invested properly. As stated in Paragraph 21 of the counter-affidavit, these companies promised very high returns which were wholly unrealistic. Details are given in Paragraphs 21 and 22 of the counter-affidavit. 86. In para 23 of the counter-affidavit it is stated that the SEBI started receiving a deluge of complaints from across the country informing that the cheques issued by the plantation companies were bouncing, and the companies were not responding to the letters. Sometime they were requesting for surrender of the cheques in return for which fresh cheques or promissory notes would be issued. Often sale deeds were executed in the individual names of the directors and their relatives. A huge amount was given by these companies to the sister....
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....eld of economic regulation than in other areas where fundamental human rights are involved. Nowhere has this admonition been more felicitously expressed that in Morey v. Doud 354 US 457 where Frankfurter, J.said in his inimitable style: "In the utilities, tax and economic regulation cases, there are good reasons for judicial self-restraint if not judicial deference to legislative judgment. The Legislature after all has the affirmative responsibility. The Courts have only the power to destroy, not to reconstruct. When these are added to the complexity of economic regulation, the uncertainty, the liability to error, the bewildering conflict of the experts, and the number of times the Judges have been overruled by events all these show that self-limitation can be seen to be the path to judicial wisdom and institutional prestige and stability." (p. 690) 92. In Prag Ice & Oil Mills v.Union of India AIR 1978 SC 1296 the Supreme Court observed: "We do not think that it is the function of the Court to sit in judgment over such matters of economic policy as must necessarily be left to the government of the day to decide. Many of them are matters of prediction of ultimate results on which....
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.... substituting its judgment for that of the administrator." In our opinion there should be judicial restraint in fiscal and economic regulatory measures. The State should not be hampered by the Court in such measures unless they are clearly illegal or unconstitutional. All administrative decisions in the economic and social spheres are essentially ad hoc and experimental. Since economic matters are extremely complicated, this inevitably entails special treatment for distinct social phenomena. The State must therefore be left with wide latitude in devising ways and means of imposing fiscal regulatory measures, and the Court should not, unless compelled by the statute or by the Constitution, encroach into this field. 96. As Justice Frankfurter of the U.S. Supreme Court observed in American Federation of Labour v. American Sash & Door Co. 335 US 538 (1949): "Even where the social undesirability of a law may be convincingly urged, invalidation of the law by a Court debilitates popular democratic government. Most laws dealing with social and economic problems are matters of trial and error. That which before trial appears to be demonstrably bad may belie prophecy in actual operation. ....