SEBI Adjudication Order: Disclosure of Encumbrances Over Shares

The SEBI (Substantial Acquisition
of Shares and Takeovers) Regulations, 2011 (the “SAST Regulations”) contains
provisions in Reg. 31 that requires promoters of a company to disclose to the
company and the stock exchanges the details of shares encumbered by them and
also any invocation or release of encumbrance. The genesis of the requirement
to disclose pledge and other encumbrances arose after the Satyam scandal where
promoter shares were pledged to financial institutional unbeknownst to the
remaining shareholders. The drastic fall of the promoter shares upon invocation
of the pledge adversely affected the shareholders. Hence, if a pledge or other
encumbrance is likely to result upon invocation in a divestment of promoter
share, then that is information worthy of disclosure to the other shareholders.
Recently, SEBI had occasion in an adjudication
to consider the nature of such disclosure obligations. The case
involved United Breweries (Holding) Ltd. and Kingfisher Finvest India Ltd.,
being the promoters of United Spirits Limited (“USL”). The brief facts are that
SEBI’s investigation led to its allegation that, during 2012, the promoters of
USL did not disclose the creation, invocation or release of certain pledges in
respect of USL shares in a timely manner.[1]
In this post, I confine myself to
one legal issue pertaining to promoters’ disclosure obligations. It was argued
on behalf of the promoters that in case of invocation of the pledge, it is
possible for them to discharge their disclosure obligation only when they
themselves are made aware of the invocation by the lenders. In other words, the
time period for disclosure must ought to be triggered only when the promoters
become aware of the invocation. However, the Adjudicating Officer did not
accept the argument and applied a strict interpretation of the disclosure
obligation under Reg. 31 of the SAST Regulations. The order states:
Here, I do not
agree with the aforesaid plea / contention of “knowledge/intimation” of
invocation of pledge transactions on the two following grounds. Firstly, as per
the bare reading of regulation 31(3) of the SAST Regulations, the disclosures
are required to be made “within seven
working days from the creation or invocation or release of encumbrance
The said regulation clearly stipulates the mandatory requirement of disclosures
to be made from the date of creation / invocation / release of the
pledge and does not leave any scope of “knowledge/intimation
as prior condition for the person who is required to make such disclosures. Had
the “knowledge / intimation” been the intent of the statute then, it would have
been very well incorporated in the SAST Regulations itself. Secondly, while
making / creating pledge of shares by the borrower, certain terms / condition
as well as the timeline of invocation of pledged shares in case of breach in
making payment/loan are pre fixed between the borrower and the lender. Needless
to say that if such time line towards the pledged shares are there, then, the
borrower … is supposed to know the last day after which invocation of pledged
share may take place by the lender upon breach of payment.
Following this, the Adjudicating
Officer also dealt with the fact that under the SEBI (Depositories and
Participants) Regulations, 1996, the depository participants had an obligations
towards the pledgor / pledgee to immediately notify any invocation of a pledge.
For these reasons, the Adjudicating Officer came to the conclusion that information
or knowledge of the invocation of the pledge is not a precondition for
disclosure obligations on the part of the promoters to arise.
While this approach is consistent
with the text and intent of the SAST Regulations, it does impose significant
obligations on the part of the promoters to notify in a timely manner the
creation, invocation and release of pledges. The knowledge of the promoters as
to the invocation or release of the pledge does not come in the way of the
disclosure obligation. As before, SEBI treats the disclosure obligation as an
inherent aspect of securities market efficiency. As the Adjudicating Officer’s
order observes:
Before arriving to
the quantum of penalty in the matter, it is necessary to refer [to] the
importance of such disclosures. The main objective of the SAST Regulations is
to achieve fair treatment by inter alia
mandating disclosure of timely and adequate information to enable shareholders
to make an informed decision and ensuring that there is a fair and informed
market in the shares of companies affected by such change in control. Correct and
timely disclosures are also an essential part of the proper functioning of the
securities market and failure to do so results in preventing investors form
taking well informed decision.
Hence, in respect of one of the promoters,
viz. United Breweries (Holding) Limited, the Officer imposed a penalty of Rs.
15,00,000, after taking into account the circumstances of the case. In respect
of the other promoter, viz. Kingfisher Finvest India Ltd., the Officer found
that the delay in disclosure was minimal, and hence no penalties were imposed.

Pages 3 and 4 of the Adjudicating Officer’s order has a table carrying the
details of the delays

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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