TaxTMI 
TaxTMI 
TaxTMI 
2005 (9) TMI 622
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.... exercise of high due diligence and independent professional judgment and therefore any gaps in measuring up to the onus may be fraught with critical repercussions in the market. "11.2. In the light of the above and in exercise of the powers conferred on me in terms of Section 19 of the SEBI Act, 1992, read with Section 11(4) and 11B of SEBI Act, 1992, I hereby prohibit UBS / its affiliates / agents from issuing off-shore derivative instruments with underlying Indian securities against the positions held by UBS in the Indian securities market for a period of one year. I also prohibit UBS / its affiliates / agents from renewing or rolling over any of the ODIs already issued against the positions held by it in the Indian securities market for a period of one year. "11.3. I further direct UBS to establish highest standards of Customer Due Diligence process in line with the requirements of FII Regulations of SEBI. "11.4. This is without prejudice to any other action taken or to be taken by SEBI against UBS in accordance with the provisions of SEBI Act, 1992, the Regulations made thereunder or any other law as may be applicable. "This order shall come into force ....
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....e called for information from UBS relating to its major ODI clients in terms of their addresses, the names of their Directors, Fund Managers, Major Shareholders, Top 5 Investors, etc. It wanted to ascertain the details of the ultimate beneficiaries as to whom the ODIs were issued by UBS AG, London. There was a protracted correspondence between UBS and SEBI for obtaining the above mentioned information. UBS informed that this information was not readily available with them and they would have to get it from the clients of UBS AG, London because even UBS AG, London also did not have this information. It also informed SEBI that some of the clients might not give the information to UBS due to confidentiality reasons but they would prefer to give directly to SEBI which is a regulator. It was also because some of the clients were dealing with other FIIs also, therefore, they would feel more comfortable in giving this information to a Central Regulatory Authority, i.e., SEBI. SEBI felt that the flow of information from UBS was delayed and tardy and in some crucial cases the information was not forthcoming even after numerous exchange of e-mails and personal meetings by UBS representatives....
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....ion 20 and 20A of SEBI (Foreign Institutional Investors) Regulation, 1995. UBS has also violated clauses 1, 2, 5 and 6 of Code of Conduct as specified in Regulation 7A of SEBI (Foreign Institutional Investors) Regulation 1995." 8. The show cause notice stated that UBS failed to comply with the KYC (Know Your Clients) requirements as specified in Regulation 15A of the FII Regulations read with Circular No. IMD/Cust/8/2003 dated 08/08/2003. The show cause notice further stated that for not furnishing the information reasons were not satisfactory as Regulation 20A of FII Regulations clearly stated that FIIs are required to fully disclose information about "terms of and parties to" ODIs relating to any securities listed in stock exchanges in India as and when SEBI may need. 9. In view of what is stated above the show cause notice finally asked UBS to show as to why directions under Section 11(4) and 11B of SEBI Act, 1992 including directions to prohibit UBS from "dealing in securities on behalf of and/or its clients in respect of whom it does not have information on their underlying investors" should not be issued against it. UBS was asked to submit their rep....
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....er are based on the investigations, show cause notice, reply to the show cause notice, oral and written submissions by UBS and its Advocates including the written submission on 13th May, 2005 which was after the conclusion of the personal hearing on 05/05/2005. The order brings out following issues for consideration: i. UBS failed to comply with Know Your Client (KYC) requirement as laid down in Regulation15A of the FII Regulations. ii. UBS failed to furnish complete information about names and addresses of top five shareholders / investors of its clients on 17/05/2004 which was sought by SEBI during the course of investigation. iii. The flow of information from UBS to SEBI was tardy and came after repeated follow up by SEBI which scuttled the investigation by SEBI iv. In the process, UBS also violated the Code of Conduct as prescribed under the third schedule of Regulation 7A of the FII Regulations. v. UBS by its various acts of omission and commission was found guilty of non-compliance of Regulation 15A which required compliance of Know Your Client and Regulation 20 and 20A of FII Regulations i.e., non-submissions of information pertaining to top five investors / shareholders....
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....re derivative instruments such as participatory notes against underlying securities only in favour of those entities which are regulated by any relevant regulatory authority in the countries of their incorporation. It further says that it is subject to 'Know Your Client' (KYC) requirement. It was thought desirable not to allow any unregistered and unregulated entities to invest in the Indian market. 15. It is not sufficient that the entity be only a regulated entity. The order further takes note of the reply given by UBS that these entities to whom ODIs were issued by UBS AG, London were of 'Know Your Client' (KYC) compliant entities and UBS London is a FSA compliant organization. It is also necessary that when the ODIs have been issued against the securities listed in the Indian market, they should also comply with the requirements of Indian regulator i.e., 'Know Your Client' (KYC) requirement of Regulation 15A of FII Regulations. It should be possible to know the names and addresses of the investors and shareholders as and when asked for by the regulator. Whatever 'information' SEBI sought from UBS pertained to KYC - i.e., Regulation 15A of the FI....
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....stated above, it is obvious that UBS violated Regulation 15A of FII as it did not follow the KYC norms. 19. Non-Furnishing of Information: SEBI had asked in the show cause notice names and addresses of top five investors details of shareholders in respect of six of its clients. It is noticed that excepting Caxton International Limited, for which information had not been received till the date of impugned order, the information in respect of other five cases mentioned in the show cause notice had been provided to SEBI without the address. In respect of Caxton International Limited, UBS has neither provided the names of top five investors of the 100% shareholders nor their addresses. 20. A Question arises whether UBS was in possession of information or UBS could have accessed the information but it failed to obtain the same and submit to SEBI. In response to the request from SEBI to provide the names of ODI clients with Indian underlying securities UBS stated that all counter parties were major institutional investors and they were classified as regulated entities according to FII Regulation15A and on this basis information relating to Directors and major shareholders were not prov....
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.... in any stock exchange in India, as and when and in such form as the Board may require." 22. UBS had argued in its reply to show cause notice that as per Regulation 20A of the FII Regulations, the obligation of UBS is to disclose only the "terms and parties" to offshore derivative instruments such as participatory notes, equity linked notes entered into by it. There was no obligation to record / details of top five investors and major share holding of the clients. 23. The impugned order did not accept the interpretation in 20A concerning "terms and parties to offshore derivative instruments". It concluded that UBS should have information and details to enforce the agreements with their clients. 24. The impugned order further said that Regulation 20 of FII Regulations was of much wider scope which casts an obligation on the FII to submit to the Board / RBI "any information, record or documents in relation to his activities as a Foreign Institutional Investor". 25. In the light of aforesaid, the information sought by SEBI was well within the realm of Regulations 20/20A and UBS was obliged to supply the same under the FII Regulations. 26. Invest....
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....d Limited and Indea Absolute Return Fund only on April 29, 2005. Therefore it could not conduct a meaningful investigation in real time. UBS, therefore, according to SEBI, did not give the information timely and it virtually thwarted the investigation. If UBS had any doubt about the information, it could have sought clarification from SEBI regarding actual requirement of SEBI. The impugned order says "The conduct of UBS as narrated above speaks for itself and for the purpose of determining the Contumacious Conduct of UBS, I do not find it necessary to go into the notices of UBS for not-cooperating to the requests of the regulator. The egregious conduct of UBS is evident from the circumstances as mentioned above." The delay in the receipt of information erodes its value as an evidence in a real time enquiry. 27. Incidence of reporting lapses and mis-statement: UBS had cited confidentiality provisions in its client agreement as reasons for non-furnishing of information. The fact that it could provide information as sought by SEBI in respect of many of its client but did not provide similar information in respect of its other clients shows that client confidentiality provi....
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....t; "2. A foreign Institutional Investor shall, at all times, render high standards of service, exercise due diligence and independent professional judgment." 5. A foreign Institutional Investor shall maintain an appropriate level of knowledge and competency and abide by the provisions of the Act, regulations made thereunder and the circulars and guidelines, which may be applicable and relevant to the activities carried on by it. Every foreign Institutional Investor shall also comply with award of the Ombudsman and decision of the Board under Securities and Exchange Board of India (Ombudsman) Regulations, 2003. 30. According to SEBI, UBS should have been in a position to know the ultimate client for whom the ODIs have been issued by UBS AG, London against the underlying Indian securities held by it. It should have been able to ascertain from UBS AG, London, and give the information to the regulator in time. The claim of UBS that KYC norms are not applicable to UBS is not acceptable to SEBI. UBS has failed to give information about Caxton International Limited and timely information pertaining to other cases to the regulator and this frustrated the investigation. UBS eve....
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....hore derivative instruments such as Participatory Notes, Equity Linked Notes or any other similar instruments against underlying securities, listed or proposed to be listed on any stock exchange in India, only in favour of those entities which are regulated by any relevant regulatory authority in the countries of their incorporation or establishment, subject to compliance of "know your client" requirement : "Provided that if any such instrument has already been issued, prior to the 3rd February, 2004, to a person other than a regulated entity, contract for such transaction shall expire on maturity of the instrument or within a period of five years from the 3rd February, 2004, whichever is earlier. "(2) A Foreign Institutional Investor or sub-account shall ensure that no further down stream issue or transfer of any instrument referred to in sub-regulation (1) is made to any person other than a regulated entity". 33. The learned senior counsel for the appellant submitted that a plain reading of the Regulation 15A it makes quite clear that it does not call for knowing the ultimate beneficiary or the persons behind the client who has entered into an agreemen....
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....pproached its respective clients after SEBI sought information regarding these clients. This shows that UBS has failed to understand the essential meaning of 'know your client' requirements." 35. He submitted that SEBI has sought to impose an indeterminate standard as it expects the appellant to anticipate correctly all the questions that the respondent may "likely to ask or may ask in future." He submitted that it is impossible to satisfy such a requirement. SEBI should have made known questions which are likely to be complied with by the FIIs instead of leaving them to be imagined by the FII to respond when SEBI asked such questions. The KYC requirement in terms of Regulation 15A of FII Regulations should have been more exact and precise. 36. The learned senior counsel again pointed out to paragraph 6.23 of the impugned order which states that: "It is the duty of UBS / its affiliate that prior to issue of ODIs against underlying Indian securities, it should have completed the 'know your client' requirements by asking its clients all the questions that the regulations required." 37. The learned senior counsel submitted that the regulati....
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....FII Regulation has not stated any such requirement. The Regulation 15A(2) of the FII clearly states that only requirement for any further down stream issue or transfer of ODI is to ascertain that further down stream issue or transferring of such OID is only to be done to a regulated entity. Therefore the impugned order is beyond the scope of Regulation 15A of the FII Regulations. 39. The learned senior counsel submitted that the impugned order makes an allegation that UBS has not complied with its own internal KYC policies / guidelines. He submitted that ODIs were issued by UBS AG, London which is regulated by UK FSA. He submitted that all the clients of UBS AG, London have complied with the FSA,UK requirement of KYC and UBS AG London does not have the requirement of obtaining the names and addresses of five top investors / shareholders as part of the KYC requirement under the CIP. It was submitted that the appellant was required to provide a monthly undertaking as to the ODIs not being issued /subscribed / purchased directly or indirectly by Indian resident, NRIs, OCBs or PIOs. In this regard it was submitted that the appellant ensured that in all cases the ODIs were not issued /....
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....r the Regulation 15A of the FII Regulations clearly defines the KYC requirement nor the reporting format prescribed by SEBI circular dated 8th August, 2003, requires the details of top five investors / shareholders. The learned senior counsel further submitted that the KYC requirement of FSA, UK; SEC, USA and the Hong Kong Securities Futures Commission who are signatories to the FATF FORTY recommendations do not require ultimate beneficial owners' information or major shareholder or top five investors in all cases. 41. He also submitted that FII industry, even now, is not clear about the KYC requirement. He pointed out to the letters dated 08/06/2005 of ISDA which is a Global Trade Association representing over 600 institutions from 47 countries including India, letter dated 18/05/2005 of Merrill Lynch and Citi Group letter dated 16/05/2005 and it was pleaded that there were areas of uncertainty and ambiguity about the KYC requirement under Regulation 15A of the FII Regulation which are causing great concerns for market participants in the FII industry. They were not quite sure of the KYC requirement under FII Regulations. A request was made in the latter for "guidelines ....
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....m ODIs were issued were not NRIs or PIOs or OCBs with major shareholding of Indian origin persons. As per Regulation 15A(2) of the FII Regulations the only requirement for any further down stream issue or transfer of ODIs is to ascertain that further down stream issue or transferring of such ODIs is only to a "regulated entity". 43. The learned senior counsel argued that impugned order holds that appellant failed to satisfy SEBI that the warranties have not been complied with was not based on facts. It was mentioned in the order as "brazen tokenism without a modicum of compliance in substance". Such a finding was not correct. On the contrary the names or description of the top five investors of any client would indicate no one is PIO or NRI or an OCB. This allegation is not a part of the show cause notice. He argued that under CIP, UBS London was not required to obtain top five investor information. The clients were international investors. The non-availability of information was not because the appellant did not follow the KYC or its CIP procedures but because it believed along with the rest of the FII community that for compliance of KYC, the information soug....
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....espondence with the respondent. In fact the appellant had exercised high levels of care and effort in obtaining the information which is amply corroborated from the sizeable correspondence and numerous personal meetings with the respondent. Therefore, it is not correct to say that the appellant violated any requirement of Regulation 20 of the FII Regulations. It was argued by the learned Sr. Counsel that Regulation would entail the obligation on the FII Regulations only to the extent the information which was in the possession of the FII. It was contended by the learned senior counsel that the law did not compel one to give the information which it did not have or is not required to have. Where the law creates a duty but if the party is disabled from performing it without any default in him and has no remedy over it then the law would in general excuse such person. In support of this contention the learned senior counsel cited the following case laws: (i) Special Reference No. 1 of 2002 - ; (ii) Raj Kumar Dey and Ors. v. Tarapada Dey ; He argued and asked where had it been prescribed in the Regulations that particulars of the top five investors of the FII clients were normally....
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..... It had cooperated with the respondent in obtaining and submitting all information which was required by the respondent. It made necessary effort in getting the information as requested by the respondent. The appellant corresponded promptly with the clients and even suggested to the clients to provide necessary information to the respondent if they were prevented because of client confidentiality clause from disclosing the required information to the appellant. He further submitted that in law diligence meant doing all that which an ordinary man would do having regard to all the circumstances remaining within the parameters set out by the law. The appellant made sincere efforts to comply with every request and direction of the respondent. At times, the delay which occurred in submitting the information to the Respondent was mainly due to non-availability of information which the appellant was not required to maintain in the ordinary course of business or in terms of FII Regulations. Therefore it could not be said that the appellant had failed to exercise due diligence. The learned senior counsel argued that it would be wrong to say that the appellant did not maintain the appropria....
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.... / OCBs. The appellant followed up with Caxton International Limited to supply further information but it was not forthcoming. Caxton informed the appellant that it would deal directly with the respondent and even respondent had also clearly stated that the clients could deal directly with it. Since information to other five cases mentioned in the show cause notice of 24/11/2004 had been submitted by the appellant before the issuance of the impugned order, the appellant, therefore, thought that all requirements as sought by the appellant had been received by the appellant. 48. As regards non receipt of ISDA agreement, it was submitted by the learned senior counsel that on 11/01/2005 the respondent had received from SEC, New York, a copy of the ISDA agreement entered into between Caxton International Limited and UBS AG, London. During personal hearing on 1st February, 2005 the learned Whole Time member had made a request to provide him with the copy of agreement governing the relationship between the respective clients and UBS AG, London. The appellant thinking that the information sought by the Whole Time Member was the terms and condition had sent the "business terms and con....
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.... appellant communicated promptly with the clients. The appellant did not keep the respondent in the dark about the status of information and the difficulties it was encountering in obtaining the required information from the client. The representatives of the appellant had been meeting the officials of the SEBI on several occasions and explaining to them the difficulties being faced by them from the side of the clients in providing the requisite information to the respondent. 51. Misstatements and Reporting Lapses: It was submitted by the learned senior counsel that there was no evidence to suggest that the appellant did not want to submit the information to the respondent on account of client confidentiality. In fact it was the clients who were claiming difficulties in releasing the information to the appellant because of their own confidentiality obligations to their investors. It was not the suggestion of the appellant to the respondent that appellant was not providing information because of client confidentiality agreement between it and the clients. In fact there is always an exception to such confidentiality from the regulatory authorities. 52. On October 20, 2004 Indus pro....
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....ly as July 1, 2004. Even in case of Caxton International Limited where there was an Indian sounding names of signatory to ISDA agreement the respondent had received from SEC the copy of ISDA agreement on 11/01/2005. In such circumstances it would not be correct on the part of respondent to conclude that because of not providing the ISDA agreement between UBS London and Caxton International Limited, the appellant was responsible for delaying the investigations about the antecedents of the signatories to the ISDA agreement. 55. As regards the charge that Caxton International Limited's name was not included in the ODI statement submitted to the regulator from January, 2004, the appellant regretted this error which happened inadvertently due to incompatibility of the appellant's internal infrastructure and software system. The appellant had acknowledged error and amended the reports. Moreover these errors were not subject of the show cause notice dated 24/11/2004. 56. The learned senior counsel submitted that the impugned order contained observations which indicated that the appellant wrongly held to have engaged in actions requiring an element of intention or willfulness or ....
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....The learned senior counsel submitted that in para 8.1 and 8.2 of the impugned order an allegation has been made that on 17/05/2004 UBS was a major trading client in the cash and F&O segment and by its strategy it earned gross profit of ₹ 59.37 and it incurred loss of ₹ 17.54 on account of its sale in cash segment whereas it earned profit in Futures segment. It earned net profit of ₹ 41.83 crores. 58. The learned senior counsel contested the figures and the analysis as mentioned in the impugned order. He denied that there was any 'strategy' on the part of appellant to effect large scale sales in cash market to depress the market and simultaneously take short positions in the futures segment. He submitted that these allegations were not correct. The appellant was never informed of such allegations. It was not mentioned in the show cause notice. It amounted to pre-judging the issues which was in violation of principles of natural justice. 59. It was submitted by the learned senior counsel that the appellant was constantly keeping the respondent informed of the difficulties and delays being faced in obtaining the required information from the clients and as ....
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....ders should not be under Sections 11(4) and 11B of the SEBI Act, 1992. In fact if there was any violation of FII Regulations the action should have been taken under Regulation 21A under SEBI (Procedure for Holding Enquiry by Enquiry Officer and Imposing Penalties) Regulations, 2002. 64. The learned senior counsel submitted that 40% of the business of the appellant was from ODIs and ban on its ODI transaction would severely impact the income of the appellant. He further argued that the appellant was a global investment bank which operated in 40 countries with a strong institutional and corporate client base and enjoyed high reputation. It had a substantial business interest in India also. It had a Regulations / Law compliant culture. The present order would have an adverse impact on its working world wide. More over, the ban on roll-over of existing ODIs would mean that there would be a loss of existing clientele which would have adverse impact on its functioning if the ban was allowed to continue. Therefore, he pleaded, the impugned order should be set aside. 65. Mr. Rafique Dada, learned Senior Counsel for the respondent, while defending the impugned order submitted that it was ....
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....t issued / subscribed / purchased any of the offshore derivative instrument directly or indirectly to/from Indian residents / NRIs / PIOs / OCBs. The learned senior counsel submitted that from the above undertaking it could be seen that the FIIs or the appellants would have to know the ultimate beneficiaries of the respective clients on whose behalf the appellants were transacting in the capital market. 67. He also submitted that Joint Parliamentary Committee (JPC) which was appointed soon after the 1999-2001 scam also observed that through PNs various layers were created which made it easy for holders to keep their identities undisclosed and at the same time purchase shares in the Indian capital market. Participatory Notes are derivative instruments issued by FII against holding underlying Indian securities. An investor may collect funds from various retail investors to pool the funds against underlying Indian securities and the return could be linked to equity index. PNs are extra-territorial instruments. 68. The amendment to the existing format of circular of 31st October, 2001 was introduced on 8th August, 2003 which changed the reporting format for issuance / renewal / cance....
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.... 15A when it did not submit the required information about the names and addresses of top five investors / shareholders of clients to whom ODIs had been issued by the UBS AG, London. In spite of protracted correspondence, numerous emails and personal meetings the required information was not received by the respondent and show cause notice was issued to the appellant on 24/11/2004. He further submitted that in terms of the undertaking given as per the statement submitted vide circular dated 8th August, 2003, the appellant should have obtained the required information from UBS AG, London which issued the ODIs underlying Indian securities. The information sought by SEBI was only first level information whereas the appellant should have the information about the ultimate beneficiaries. He argued that KYC as part of Regulation 15A was not a newly introduced Regulation. In fact the requirement to comply with these conditions were existing even earlier as per Regulation 20 of FII Regulations. 71. He went on to argue that the appellants themselves have their own Customer Identification Program (CIP) which existed even before the introduction of Regulation 15A in 2004. In terms of the Cli....
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....information concerning "terms of and parties to" offshore derivative instrument like participatory notes, or equity linked notes which are entered into by the FII or its sub-account or affiliates relating to securities listed in any stock exchange in India. The appellant failed to supply the information when SEBI asked for it and went on to say that the information was not available with it and it has to access the same from the clients. On 24/11/2004 when the show cause notice was issued, the appellant could not give the information about the top five investors / shareholders (their names and addresses) of six major clients of UBS i.e., Caxton International Limited, Indus Asia Pacific Fund Limited, ROHATYN, Indea Capital Pte. Ltd., PMA Prospect Fund and Satva Asia Opportunities Master Fund. At the time of issuance of impugned order, excepting Caxton International Limited, most of the information had been submitted by the appellant vide its letter dated 8th January, 2005. This clearly points to the fact that UBS was in a position to access the information. The delay in submission of information obviously rendered the investigation difficult and ineffective. 74. Non-Furni....
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.... statement of May, 2004. The respondent placed on record that two of the appellant's clients i.e., ROHATYN and Satva Asia were also omitted. The appellant vide their e-mail dated 25/06/2004 admitted the omissions and thus explained that this happened due to changes in the internal operating systems. It was found that right from January 2004 the appellant failed to disclose the name of Caxton International Limited in the PN statements submitted by them to the respondent. The learned senior counsel submitted that, of course, it was not a part of the show cause notice but perhaps it indicated the intention of the appellant to avoid giving information to the respondent about a client which accounted for almost 50% of its transactions on 17/05/2004. 76. Hampering of Investigation by the Contumacious Conduct of the Appellant: The respondent could not get names of clients and addresses of major shareholders and major investors and the Fund Managers of Caxton International Limited even up to the date of impugned order on 17/05/2005 despite the fact that Caxton International comprises of over 50% of the transactions entered into by the appellants on 17/05/2004. The appellants stated th....
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.... the same to the respondent. 79. ROHATYN, Indea Capital Pte. Ltd. PMA Prospect Fund & Satva Asia Trading Master Fund: Information in all these cases were received after the issuance of the show cause notice. The appellant vide e-mail dated 14/01/2005 furnished further information regarding the names of the investors in the TRG Global Master Fund, Rohatyn and certain others were directors of Fund. 80. In case of Indea Capital Pte. Ltd., the appellants were informed on 1st February, 2005 during personal hearing with the Whole Time Member to furnish copy of client agreement with Indea Capital Pte. Ltd. The appellant sent the "terms and conditions" contained in the proforma agreement on 24/02/2005. The respondent again advised the appellant on 20/04/2005 to furnish the information which was sought by the respondent during the personal hearing on 1st February, 2005. It was only on 29th April, 2005 that ISDA master agreement between UBS AG, London and Idea Absolute Return Fund was submitted to the respondent. It was explained that the delay occurred due to misunderstanding about the requirement but it was significant that the agreement was signed by persons with Indian names.....
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....o needs to be stressed that any action taken under Section 11B by the regulator would invariably have some detrimental impact on somebody which could not be avoided in the interest of the security market. He referred to the view taken by Hon'ble Tribunal in cases such as Sterlite, BPL and Videocon. He also pointed out that where SAT had taken a view in Roop Ram Sharma's case similar to that of Sterlite Industries. The Hon'ble Supreme Court has stayed the judgment of SAT and therefore the earlier decisions of the Tribunal could not be operative in the present case. In any case, he submitted that the impugned order under Section 11(4) of the Act can independently be supported. The insertion of Section 11(4) in the Act expressly clarified the position and empowers SEBI to restrain persons from accessing the securities market and prohibit any person associated with the securities market either pending enquiry or investigation or on completion of such inquiry or investigation by recording the reasons in writing in the interest of investors or securities market. In the impugned order there is only limited prohibition or bar on the appellant from issuing fresh ODIs and rolling....
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....84. The appellant in the course of oral submission had argued that SEBI has made some changes in the SEBI (Stock Brokers and Sub-Brokers) Regulations, 1992 in August 2004. The appellant have submitted the format for individual client registration as of August, 2004 and uniform contemporary requirement and the form of individual client registration. He argued that this format is required to be understood as the format between a broker and its client in the Indian scenario. The appellant contended that in the event of an entity being registered as FII which is a client of a broker, the requisite information is not required to be furnished. The aforesaid exemption from furnishing information is granted in the case of FII as an FII would be required to comply with the disclosure requirement under the FII Regulations. In the case of the client of FII, there is no other Regulation which requires furnishing of information and therefore the KYC has to be understood in the case of a client of an FII to mean the ultimate client of the said FII. 85. The learned senior counsel for the respondent submitted that, the appellant, during the course of arguments sought to criticize the affidavit fi....
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....nd valid and should be sustained under the facts and circumstances of the case. 90. We have considered the impugned order, the appeal from the appellant, oral and written submissions by the learned senior counsel of appellant and the respondent and other documents submitted to the Tribunal. From the perusal of the documents and careful consideration of the written and oral submissions, we find that the impugned order passed by the respondent on 17/05/2004 was in response to an enquiry initiated due to the unprecedented crash in the Indian stock market reflected by 567.74 points fall in sensex and 196.90 points fall in NIFTY. SEBI as a regulator saddled with the responsibility of orderly and healthy growth of the securities market for protecting the investors interest was required to examine and investigate into the fall in the securities market. It, therefore, called for a host of information from the appellant which happened to be one of the major market participants on 17/05/2004. SEBI called for names and addresses of underlying clients, trade details, major shareholders / directors and investment advisors, fund managers and type of client in respect of trading in securities on....
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....r. "11.3. I further direct UBS to establish highest standards of Customer Due Diligence process in line with the requirements of FII Regulations of SEBI." 91. At the time of passing the final order almost entire information as sought by the respondent had been submitted by the appellant excepting the information about Caxton International Limited. SEBI did not receive the information with respect to names or holding details of qualified institutional investors of Caxton Global. Copies of ISDA master agreement between UBS AG, London and Caxton International were received through SEC, USA on SEBI's initiative during January, 2005. In the show cause notice six names of major clients were mentioned from whom information had not been received but after the issuance of show cause notice information pertaining to Indus Asia Specific Fund Limited, ROHATYN, Indea Capital Pte. Ltd., PMA Prospect Fund Limited and Satva Asia Opportunities Master Fund had been furnished. 92. From the perusal of the information and documents submitted by both the appellant and the respondent we find the only information which was delayed to be submitted pertains to the names and addresses of top....
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....t in the impugned order that KYC principle was well accepted internationally and even in case of KYC guidelines as accepted by the appellant, it was required under its CIP to know the ultimate beneficiaries of a client. If UBS, London had followed their own 'know your client' guidelines they would have submitted the information of top five investors as required by SEBI. It was submitted by the learned senior counsel that the respondent had asked only first level information of top five investors whereas the appellant should have information about the ultimate beneficiary of each individuals as required by the KYC norms in pursuance of Regulation 15A of FII Regulations. It is submitted that Regulation 15A of FII Regulations requiring Foreign Institutional Investors to comply with 'know your client' requirement came to be inserted in the FII Regulations w.e.f. 03/02/2004. It was observed by the JPC after the stock market crash of 2001 that while issuing Participatory Notes and ODIs by the FII real identities of the investors were hidden under different layers while dealing in the securities market. The JPC viewed the matter seriously and wanted suitable modification i....
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....erted or added the necessary words such as 'ultimate beneficiaries'. Alternatively, it could have been prescribed as a part of Compliance Report to be submitted by the FIIs. 97. In a circular issued by SEBI on 19/02/2004 the respondent has clearly defined the scope of the term 'regulated' by issuing a circular for the purpose of Regulation 15A of the FII Regulations. The circular inter alia states that any entity that is regulated, authorized or supervised by a Securities or Futures Commission, a Central Bank, Registrar of Companies, Securities and Exchange Commission, USA etc., is a regulated entity. It has not been disputed that all the clients of UBS are regulated entities in terms of the aforesaid circular of the respondent. It also needs to be mentioned that if law had desired that 'ultimate beneficiaries' of the ODIs should also be ascertained by the FII, FII Regulations would have specifically mentioned the same and the same should have been prescribed as a compliance report. There are no prescribed KYC requirement under Regulation 15A of the FII Regulations, neither has respondent issued any clarification or guidance in this respect. It may be menti....
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....ends on whether the client is situated in a sensitive or non-sensitive country. From the perusal of KYC requirement of FSA it is found that there is no obligation under the laws of UK for UBS AG, London to have ascertained the details of the top five investors in the client. It was sufficient for KYC requirement if it was a FSA regulated entity. The KYC requirements in USA, UK and Hong Kong Securities and Futures Commission "who are signatories to FATF FORTY recommendations" do not require ultimate beneficiary information or major shareholders / top five investors information. Thus we find, that neither Regulation 15A of the FII Regulations nor the prescribed internal KYC of the appellant required to have the information pertaining to top five investors / shareholders. It is quite clear that there is no mention of 'ultimate beneficiaries' in the Regulation 15A. 100. In any case it is the violation of FII Regulations of the country which would be relevant because there may be different Regulations and KYC requirements for different FIIs in their own countries which could not be subject to enforcement and monitoring or compliances in this country. SEBI circular dat....
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....KYC requirement. It says that there are various difficulties in identifying the ultimate beneficiaries in ODIs. It wants SEBI to let them know which are the minimum KYC requirement that FII should meet under the FII Regulations. 102. On 18/05/2005 i.e., next day after the impugned order was issued, Merril Lynch wrote to their clients that "you should be aware that in engaging in ODI trades you should be required to provide details of your ultimate benefit investors to SEBI as and when asked". It says that the scope of such information which SEBI expects could include details of ODI transactions as well as information relating to the clients and their ultimate investors. 103. On 16/06/2005 Citigroup has also written a letter. From the above correspondence it is quite evident that there is some vagueness about the KYC requirement under Regulation 15A of the FII Regulations which persists even today and in view of the established legal position that if a violation of such vague regulation occurs which can place the consequence of penalty, it could not be visited in favour of the accused. The Supreme Court in its judgment in the case of Tolaram Relumal and Anr. Vs. The Stat....
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.... future market, the names of the investors, addresses of investors, etc. There is a compilation of correspondence between the respondent and the appellant which is submitted to the Tribunal and the record of number of personal meetings which the appellant's representative had with the respondent, which clearly indicates that there was willingness and effort on the part of appellant to provide necessary information to the respondent for conducting the investigation into the market crash of 17/05/2004. 106. Mr. Sundaram, the learned senior counsel for the appellant relied on a chart which chronologically sets out the requests made by SEBI and the responses by the appellant. Since these details are factually not disputed by the respondent, we feel it appropriate to incorporate the chart submitted to the Tribunal, which reads as follows: May 27,2004 Respondent requests information on underlying clients; trade details; major shareholders/directors and investments advisors/funds manager; and type of client in respect of trading in securities on May 17, 2004 May 27,2004 Appellant provides a response to the request of May 27, 2004 May 28,2004 Respondent requests information on names ....
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.... June 21, 2004 Appellant provides a further response to the respondents request of June 17, 2004 June 21, 2004 Respondent requests (i) addresses, names of shareholders, directors and fund managers of clients on whose behalf the appellant had positions in the Indian derivatives market as of May 3, 14 and 20, 2004; (ii) buy/sell transaction details of clients on May 14, 2004 and May 17, 2004 in the derivatives market; names of clients; names of clients' directors, shareholders and fund managers' (iii) underlying securities holdings of all clients who had positions in the Indian derivatives market on may 3, 14 and 20, 2004; and (iv) the appellant's and client's trading strategies in securities on May 14, 2004 and May 17, 2004. June 22, 2004 Appellant provides an initial response to the respondents request of June 21, 2004 and further responses on June 30 and July 1, 2004 June 22, 2004 Respondent requests information on UBS group FIIs. June 22, 2004 Respondent refers to its request of June 21, 2004 and requests information in relation to one client as a priority. Respondent also requests information on proprietary trading for several days in May 2004 June 23, 2004 App....
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....) that responses may be sent by the investment managers directly to the respondent; and (v) the possibility of the investment managers being unable to respond and the reasons therefor. The appellant provides further responses to the respondents request of July 30, 2004 on August 11, 18 and 26, 2004 and September 8 and 10, 2004 each time providing additional information to the respondent as and when such information is received by the appellant from clients. August 9,2004 Respondent requests names of certain clients who traded on May 14, 2004. Aug. 11,2004 Appellant provides a further response to the respondents request of July 30, 2004. Aug. 11,2004 Appellant provides information requested on August 9, 2004 Aug. 13, 2004 Respondent requests names of directors and shareholders, addresses and names of fund managers of SFCML. Aug. 17, 2004 Appellant provides information requested on August 13, 2004 Aug. 18, 2004 Appellant provides a further response to the respondents request of July 30, 2004. Aug. 26, 2004 Appellant provides a further response to the respondents request of July 30, 2004. Aug. 30, 2004 Respondent requests certain outstanding information in relation to their requ....
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....provides a further response to the respondents request of August 30, 2004. September 21, 2004 Appellant provides a further response to the request of Sept. 9, 2004 following the receipt of information from clients. September 22 Appellant advises the respondent in response to its request of September 14, 2004 that it has written to clients seeking confirmation as to their major shareholders/investors and details of its top five investors. Information is provided that has been received from selected clients. Appellant also provides trading information for May, 2004 September 27, 2004 Respondent requests further trading information of one client. September 30, 2004 Appellant provides information requested on September 27, 2004 October 1, 2004 Respondent requests for twelve clients names of top 5 investors during May, 2004, names and addresses of directors and major shareholders/investors and information on the nationality of the client's investors; for ten clients, sought information on the value of the portfolio with underlying Indian securities held on May 14, 2004; for one client, sought information regarding the trading strategy on May 14, 2004; for twelve clients requested....
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....pondents request of October 1, 2004. November 4, 2004 Respondent requests trading information for 14 and 17 May 2004 November 5, 2004 Appellant provides requested trading information for 14 and 17 May 2004 requested on November 4, 2004 November 8, 2004 Respondent requests names of the qualified institutional investors of that client. November 17, 2004 Appellant requests an opportunity for a meeting to discuss the request. November 29, 2004 Appellant receives show cause notice. December 6, 2004 Appellant provides further response to the respondents request of October 1, 2004. 107. There is a disclosure requirement of ODIs as per SEBI circular IMD/Cust/8/2003 dated 08/08/2003 which is being regularly submitted by the appellant, but there is no requirement as per the circular to provide the details of the top five investors / major shareholders. We find that it was only the information pertaining to KYC particularly, Caxton International Limited that was not provided by the appellant and respondent has charged the appellant for violation of Regulation 20 of the FII Regulations for the aforesaid lapse. It needs to be stressed that it has already been dealt with by us while discuss....
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....ve referred circular, the "terms of and parties to" the offshore derivative instrument which are required to be disclosed are mentioned as under: "Terms i. Name of the Offshore Derivative Instrument; ii. Nature of underlying securities (Equity/Debt/ Derivatives); iii. Name of the Indian Company; iv. Issue Date of Offshore Derivative Instruments; v. Maturity Date of Offshore Derivative Instruments; vi. Face Value of Offshore Derivative Instruments; vii. Maturity Value of Offshore Derivative Instruments; viii. Opening Balance quantity and value of Offshore Derivative Instruments; ix. Issued/Renewed quantity and value of Offshore Derivative Instruments; x. Redeemed /Cancelled quantity and value of offshore Derivative Instruments; and xi. Outstanding quantity and value of Offshore Derivative Instruments. Parties i. Name and Location of the person to whom the offshore derivative instruments are issued; ii. Name and Location of other person in case back to back Offshore Derivative Instruments has been issued against the instrument mentioned in (i) (above) iii. Name and jurisdiction of the regulator by whom the offshore derivatives holder is regulated; iv. Type....
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....n the personal hearing on May 5, 2005 UBS had contended that all the information that SEBI had asked for has been provided even though belatedly. It is mentioned in the impugned order that information regarding the ultimate investors of Caxton International which had been sought by SEBI had also been furnished to the Investigating Officer. From record we find that since all information pertaining to other five cases mentioned in the show cause notice had been provided and Caxton International was being handled directly by the respondent it could have been a case of genuine misunderstanding on the part of UBS. The appellant could not have known which information was yet to be received from Caxton International Limited. The respondent had already received the copies of agreement and other information from SEC (USA) directly in the month of January, 2005. In view of the aforesaid, the appellant's belief that all information as sought by the respondent had been received by the respondent could not be considered as unjustified under these circumstances. 113. There is a mention in the impugned order that in the monthly ODIs statement furnished by UBS to SEBI, the name of Caxton Inte....
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.... its knowledge and belief none of the investors are Indian nationals, persons of Indian origin or OCBs which are majority owned by or controlled by NRIs. The Whole Time Member in the personal hearing on 1/02/2005 advised the appellant to furnish this specific names of the five largest investors in Indus. The appellant further corresponded with the Indus and obtained the information from them on 25/03/3005 which was promptly communicated to the respondent. From this it would be difficult to adduce that vague information was supplied deliberately by the appellant when we are aware that there has been a long and continuous correspondence with the respondent by the appellant. 116. The impugned order mentions that non-disclosure of Indian sounding names at an early stage of investigation frustrated the efforts of the respondent in conducting a meaningful investigation. It is mentioned in the impugned order as regards Indea Capital Pte. Ltd., the Whole Time Member advised UBS to furnish copy of its client agreement whereas UBS furnished only the "terms and conditions" contained in its proforma agreement on 24/02/2005. SEBI once again asked UBS on 20/04/2005 to furnish the ISDA....
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....ions to prohibit you from dealing in securities on behalf of your clients in respect of whom you do not have information on their underlying investors, should not be issued against you". 119. The impugned order has been issued under Section 11(4) read with 11B of the SEBI Act, 1992. Under Section 11B the power to issue directions by SEBI after making or causing to be made an enquiry, if Board is satisfied that in the interest of investors or orderly development of securities market. Section 11B reads as follows: "11B. Save as otherwise provided in section 11, if after making or causing to be made an enquiry, the Board is satisfied that it is necessary,- "(i) in the interest of investors, or orderly development of securities market; or "(ii) to prevent the affairs of any intermediary or other persons referred to in section 12 being conducted in a manner detrimental to the interest of investors or securities market; or "(iii) to secure the proper management of any such intermediary or person, "it may issue such directions,- "(a) to any person or class of persons referred to in section 12, or associated with the securities market; or "(b) to....
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....(f), in respect of any listed public company or a public company (not being intermediaries referred to in section 12) which intends to get its securities listed on any recognised stock exchange where the Board has reasonable grounds to believe that such company has been indulging in insider trading or fraudulent and unfair trade practices relating to securities market: "Provided further that the Board shall, either before or after passing such orders, give an opportunity of hearing to such intermediaries or persons concerned." 121. We do agree that Section 11(4) read with Section 11 B of SEBI Act, 1992 gives unrestricted power to SEBI to intervene for an orderly development / functioning of the market and in the interest of investors there is no doubt about the authority or power of SEBI Act, 1992 to issue orders under the above mentioned sections. The main rationale of taking action under Section 11(4) read with Section 11B would be emergent situation or impending dangers to the market conditions or security to the market. This provision is for safeguarding the market and not for penalizing the persons for any violation. From the impugned order which is issued one year....
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.... of General Act. 123. It may also be noted that under SEBI (Prohibition of Insider Trading) Regulations, 1992 and SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003, it is specifically mentioned in the Regulations that Board may issue directions under Regulations 10, 11, 11B and or under Regulations 12. What is more important is that on a careful perusal of the Regulations it is noticed that the intention of the legislature to include the right to act under the provisions of Section 11 of the Act with respect to violation of many other Regulations (e.g., SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003). On a careful perusal of the FII Regulations, one finds that Section 11 has been specifically excluded and the only recourse mandated under the Regulations is under the provisions of Securities and Exchange Board of India (Procedure for Holding Inquiry by an Inquiry Officer and Imposing Penalty) Regulations, 2002. In case of FII Regulations, it is clearly mentioned under Procedure for Action in case of Default: "21. A Foreign Institutional Investor who- (a) fa....