Because of Repealed Provisions, SEBI Hit 'Opaque Structure' Wall While Investigating Adani: SC Panel

The panel's report said there has not been any regulatory failure around the allegation of price manipulation.

New Delhi: In the wake of the Hindenburg Research report’s revelations creating a stir over how the Adani Group was running its affairs, a Supreme Court order had set up a five-member expert committee. “In order to protect Indian investors from the volatility of the kind witnessed in the recent past, we are of the view that it is appropriate to constitute an expert committee for assessment of the extant regulatory framework and for making recommendations to strengthen it,” a three-judge Bench led by Chief Justice of India D.Y. Chandrachud observed in its order on March 2.

The expert committee, headed by former Supreme Court judge A.M. Sapre, had as its members former SBI chairman O.P. Bhatt, Justice J.P. Devadhar (retired), veteran banker K.V. Kamath, Infosys co-founder Nandan Nilekani and advocate Somasekhar Sundaresan.

The Supreme Court’s expert committee on Friday, May 19, released its report, part of which dealt with the Securities and Exchange Board of India’s probe into allegations against the Adani Group made by US-based short seller Hindenburg Research.

Three issues are being investigated by SEBI, as ordered by the Supreme Court: 1) whether there has there been a violation of Rule 19(A) of the Securities Contracts (Regulation) Rules 1957; 2) whether there has been a failure to disclose information on related party transactions; and 3) whether there was any manipulation of stock prices.

SEBI was told by the court to keep the expert committee apprised of its investigation.

According to Rule 19A, every listed company shall maintain public shareholding of at least such percentage of shares as may be prescribed.

But how much of the information required to investigate these matters is actually available to SEBI? Let’s understand what the expert committee’s report says with respect to the first issue.

FPI rules

Earlier, it was assumed that information on ‘ultimate beneficiary owners’ of FPIs must be capable of being ascertained.

This is important because several news reports pointed to a possible violation of FPI regulations by the Adani Group.

For instance, after Adani Group had acknowledged that ‘Vinod Adani and Adani should be seen as one’, The Wire had analysed how this statement could possibly indicate Vinod Adani’s influence on the management of the company, in terms of ownership. And, how this raises questions on the company’s free float status.

A few offshore funds, whose ultimate beneficiary is unknown, because of the countries’ tax haven status, have immensely contributed to the growth of Adani Group companies. Bloomberg columnist Andy Mukherjee had in September 2022 written about these “silent soldiers”, or “Adani’s fortune drivers”, and that “they deserve some scrutiny”.

The Morning Context had reported, “if you remove these [offshore] funds, the effective [public] shareholding in Adani Enterprises comes down to only 10%.” In Adani Transmission, the “effective public float is about 7-8%.”

Free float refers to the shares of a company that can be publicly traded and are not restricted (i.e., held by insiders). According to SEBI rules, listed companies are required to maintain a minimum public holding (or free float) of 25%. This allows a company to raise money from the market. [Note that stock exchanges froze the promoter shareholding of Patanjali Foods after the company failed to meet the 25% public shareholding.]

But the Supreme Court’s expert committee report says that these provisions of requiring FPI to disclose “ultimate natural person” were done away with in 2018.

The report said that “in 2018, the provision of dealing with an ‘opaque structure’ and requiring an FPI to disclose every ultimate natural person at the end of the chain of every owner of economic interest with the FPI was done away with.”

“It is noteworthy that Sebi, in its legislative capacity, did away with the prohibition against any FPI having an ‘opaque structure’ on the premise that declarations of the beneficial owner flows from Rule 9 of the PMLA Rules and that such a stipulation is sufficient for its regulatory purposes. Such compliance having been affected by the FPIs, coupled with the repeal of the provisions on ‘opaque structure’, the chicken-and-egg situation of hoping to get evidence, can become a perpetual one,” stated the report.

The SEBI order in 2018 said “the wordsbeneficial ownership’ shall be substituted with the words ‘common ownership or control’.”

That’s why, despite all its efforts, SEBI drew a blank in this case, the report added.

It further said that the markets regulator suspects wrongdoing, but also finds compliance with various regulations.

Key issue

SEBI has found 42 contributories to the assets under management of 13 overseas entities. It has been pursuing various avenues to ascertain the ownership details through overseas regulators and other Indian enforcement agencies, the report said.

The overseas entities include Opal Investments Pvt. Ltd, LTS Investment Fund Ltd, APMS Fund Ltd, Cresta Fund Ltd, Albula Fund Ltd, etc.

The Wire had reported that several of these funds are related. For instance, at least four of these funds, namely Cresta Fund, Albula Investment, APMS Investment Fund, and LTS Investment Fund, have the same address: Edith Cavell Street, Port Louis, Mauritius, shows OpenCorporates.

“The key issue, therefore, is whether as the law stands, one could draw a conclusion that FPIs are fronts for the promoters of Adani Group,” says the report. “Indeed, what SEBI is investigating is whether one could make a case that the FPIs are in fact investing funds of the promoters of Adani Group and therefore could be regarded as a front for the promoters.”

The report says that if such an outcome in the probe would come about, then it would mean that the promoters are not compliant with the minimum public shareholding requirement.

Both the Adani promoters and the FPIs’ beneficial owners appear to have affirmed on oath that the FPI investments are not funded by the Adani Group. In the instant case, it appears that SEBI is not able to make out a case, and such a position of the case not being made out is presented as a prima facie position, which cannot be confirmed unless more investigation is done, the committee observes.

In any prosecution of proceedings, whether civil or criminal, the presentation of a “prima facie” case is the responsibility of the plaintiff or the prosecutor.  Once a prima facie case is made out, the burden shifts to the accused.

The inversion of the process of proving a charge, leaves the matter in the realm of suspicion. It is trite law that suspicion, however strong, cannot replace proof. However, the publication of the Hindenburg Research report has reinforced SEBI’s suspicion that perhaps there is something amiss and it desires to probe this further, and is seeking time. The report says the committee’s remit does not include whether extension of time to SEBI to accomplish this task is justified.

Simply put, SEBI has been suspicious of the 13 overseas entities being linked to the promoters of the Adani Group. Therefore, it suspects that the shareholding by these entities may not qualify as public shareholding. If this is true, then the listed Adani would have violated Rule 19(A) of the SCRR, the report adds.

Related party transactions

In terms of the related party transactions, the Supreme Court panel report observed the following:

* The allegation of non-disclosure is not sustainable since by the application of the legal definition of “related party” none of the counter-parties were related parties in the eyes of the law at the time of the transactions, the committee has found.

* SEBI’s pursuit of investigations is based on the premise that it is pursuing the “spirit of the law” which flies in the teeth of the prospective amendments with deferred effect that SEBI has made on the legislative side.

* Some transactions relate to the period of nearly a decade ago, which predate the Listing Obligations and Disclosure Requirements (LODR) regulations, when the listing agreement was the instrument of law that was applicable.

* Several transactions are evidently transactions with parties that do not fit the definition of “related party” but other transactions between such unrelated parties and related parties have led to the allegation of the spirit being violated.

* Some transactions are transactions between the subsidiary of the listed entity and the related party, which SEBI has brought under coverage of the law governing related party transactions only with effect from April 1, 2022 and that too with deferred prospective effect.

SEBI is still investigating the matter and is examining old transactions to arrive at a view on whether there was any fraud in the underlying facts and their depiction, the report said. The committee is, therefore, anxious not to comment on the merits of any fact under investigation, and has restricted itself to the law and its application.

Forbes had reported that Vinod Adani played a major role in conducting massive deals for the Adani Group. Bloomberg had also reported that despite no formal managerial positions, he manages a vast labyrinth of offshore shell entities.

On April 26, he stepped down as director of three companies connected to Adani’s coal mine in Australia, which involves billions of dollars of Adani money, Bloomberg reported. These resignations “happened just days before India’s Supreme Court ordered a committee to probe if regulators had failed to oversee Adani Group”.

Stock price manipulation

While the prices of shares of Adani Enterprises rose, no evident pattern of manipulative contribution to price rise could be attributed to any single entity or group of connected entities, the report says quoting what SEBI had submitted to the apex court panel.

“The committee remit was not to examine whether price rise was justified, whereas its remit is to ascertain if there was a regulatory failure,” says the report.

It adds that there has not been any regulatory failure around the allegation of price manipulation.

This stock price manipulation issue was examined with the help of “alerts generated by the algorithm that mines the traded data”. The information is analysed based on set criteria.

“If the trading pattern appears to be suspicious based on the…criteria, further examination is conducted. If the trading pattern does not arouse suspicion, then the alerts are closed,” the report added.

“In the case of the Adani stocks, 849 alerts were generated by the system and were considered by stock exchanges resulting in four reports to SEBI – two well prior to the Hindenburg Report and two after January 24, 2023,” it said, adding that “SEBI has explained the analysis done, taking the example of Adani Enterprises Ltd., breaking the trading data into four ‘patches’ (periods of time) where the stock price rose significantly”.

The report sets out the detail of the analysis across the multiple patches: “In a nutshell, no pattern of artificial trading or “wash trades” among the same parties multiple times was found. In one of the patches where the price rose, the FPIs under investigation were net sellers. One investing entity that had purchased across the patches had purchased far more of other securities. In a nutshell, there was no coherent pattern of abusive trading that has come to light.”

The opposition has been pressing for a Joint Parliamentary Probe, to widen the scope of the enquiry on Adani’s alleged wrongdoings. The Adani Group has denied allegations of impropriety levelled by the Hindenburg report.