ORDER
V.K. Chopra, Member
1. BACKGROUND
1.1 M/s MOH Ltd, an Ahmedabad based company was incorporated in February 1993 in the name of M/s MOH Granites Ltd and was engaged in business of granites Page 1 of 14 processing, mining and exporting. The name of the company was changed to M/s MOH Ltd. in the year 2000 when they entered into the information technology area. The company came out with public issue of 67,00,000 shares at par in August 1996 to part finance granite project located at Mahesana in Gujarat. However, after the issue, information about the implementation of the project was not available.
1.2 The MOH shares are listed at Bombay Stock Exchange Ltd. (BSE) and Ahmedabad Stock Exchange (ASE). The price of MOH scrip started increasing from a level of Rs. 240.50 on August 01, 2000 to a level of Rs. 799/- on September 19, 2000 with trading volumes ranging between 100 to 10,000 shares. Prior to this, the price of the scrip had fallen to Rs 223/- from Rs 270 during June 01, 2000 to July 26, 2000 with daily trading volume ranging between 12,500 to 1,23,000 shares.
1.3 After an internal investigation in the matter, BSE concluded that the price and volume of the scrip were manipulated by certain connected entities by entering into fictitious transactions in the nature of circular trading. It was also observed that there was no reason for the price of the scrip to go up considering the financial performance of the company. BSE imposed a special margin of 25% w.e.f. August 10, 2000 which was subsequently increased to 50% w.e.f. September 04, 2000. The daily circuit filter was reduced from normal 8% to 4% from August 10, 2000 in view of abnormal increase in price of the scrip.
1.4 In view of the above, Securities and Exchange Board of India (hereinafter referred to as “SEBI”) conducted investigation in the matter. Investigation inter alia revealed that M/s Kunvarji Finstock Pvt. Ltd., (hereinafter referred to as “Noticee”), a Sub-broker (SEBI Registration No. INS011043937) of SVS Securities Pvt. Ltd. (broker of BSE) had facilitated its client M/s Kajol Impex to manipulate MOH scrip. The Noticee was also registered as a sub-broker (SEBI Registration No INB02548214) of Active Finstock Pvt. Ltd. till October 28, 2002. Further, Noticee is also registered as broker of Ahmedabad Stock Exchange (SEBI Registration No. INB02548214) and by virtue of being member of ASE, it is also registered as sub-broker of ASE Capital Markets Ltd. (SEBI Registration. No. INS 011449233) at BSE.
2. ENQUIRY PROCEEDINGS
2.1 After considering the Investigation Report, an Enquiry Officer was appointed by SEBI vide Order dated July 24, 2003 under Securities and Exchange Board of India (Procedure for holding Enquiry by Enquiry Officer and Imposing penalty) Regulations, 2002 (hereinafter referred to as “Enquiry Regulations”) to enquire into the affairs of the Noticee in regard to his dealing in MOH scrip and possible violation of the provisions of SEBI (Stock Brokers and Sub-Brokers) Regulations, 1992 (hereinafter referred to as “Stock Brokers Regulations”).
2.2 The Enquiry Officer issued a notice of enquiry dated October 07, 2003 to the Noticee who in turn vide letter dated November 08, 2003 submitted its reply. Thereafter, Shri Nayan Thakkar attended the hearing before the Enquiry Officer on December 17, 2003.
2.3 The Enquiry Officer, after conducting an enquiry in accordance with the provisions of Enquiry Regulations submitted a report dated December 14, 2004 wherein he found that the Noticee had violated the code of conduct as specified in Schedule II of provisions as stated in the above paragraph. He recommended suspension of certificate of registration of the Noticee for a period of three months.
3. SHOW CAUSE NOTICE
3.1 Pursuant to the receipt of the said enquiry report, a show cause notice dated May 31, 2005 was issued to the Noticee, along with a copy of the said Enquiry Report, advising it to show cause as to why the action, as recommended by the Enquiry Officer or such other action as may be deemed appropriate should not be imposed on the Noticee.
4. REPLY OF THE NOTICEE TO THE SHOW CAUSE NOTICE
4.1 The Noticee submitted its reply to the said show cause notice, vide letter dated July 5, 2005, brief details whereof are given below:
4.1.1 It had more than 475 clients registered with them and their turnover was 205 crores. They had proper system in place to ensure that the clients are properly registered and their positions monitored at the end of each day. No client is allowed to trade beyond his financial capacity.
4.1.2 They have been in the business for over 15 years and till date there has been no investor compliant against them either with their main brokers or with the exchange.
4.1.3 They had not violated any provisions of the Code of Conduct for the sub-brokers. They have impeccable track record in the conduct of their business and they maintained high standard of integrity, promptitude and fairness in the conduct of their business.
4.1.4 They had exercised due skill, care and diligence in the conduct of their business and had obtained KYC form as prescribed duly filled in. Further, it is not practically feasible to get in to the details as to why a particular client was trading in particular scrip and with what intention. That at the relevant time when the client was trading with them, they were not aware who the counterparty broker / client was and they had no means to know also and as such they had not violated Clause A (2) of the Code of Conduct of the Stock Brokers Regulation.
4.1.5 They had no intention to commit any manipulation or malpractice in the MOH scrip and not violated Clause D (4) and D (5) of the Code of Conduct of the Stock Brokers Regulation.
4.1.6 The decision to buy sell is of the client and there is no way a sub-broker can stop a client from placing an order for purchase of any scrip. It is not for a broker to determine whether the scrip is liquid or illiquid and whether the share price is justified by the financials of the scrip or whether the client should trade in that particular scrip at the said price. Their role is to ensure that client does not place an order which is not in conformity with the prevailing market prices and that it honours delivery and payment obligations at all points of time.
4.1.7 There is not even a shred of evidence to indicate that the trades were not executed at the prevailing market price and that there is only a bald allegation that an order used to be placed 8% above the previous day’s closing price. The allegation that sub broker had permitted the client to buy shares when the scrip was rising is incorrect. The share price was moving irrespective of whether the client was buying, selling or was not active. The price movement of the scrip does not suggest that the trades done by the client had an impact on the prices.
4.1.8 Since the delivery was directly to the pool account of the broker, they were not aware that the shares have been delivered by a third party. Further, they had denied that they had delivered shares to third party account without written instruction, as alleged.
4.1.9 There was no reason for them to believe that the client was indulging in circular trading with other entities.
5. HEARING
5.1 The Noticee also sought for a personal hearing and accordingly, an opportunity of personal hearing was granted to the Noticee. The Noticee was advised to attend the personal hearing before me at SEBI’s Head Office at Mumbai on 9th February 2007. Shri Atul M. Choksi and Shri Nayan K. Thakkar, director appeared on behalf of the Noticee when they filed a post hearing written submissions dated February 19, 2007. The sum and substance of submissions of the Noticee are hereunder:
? It cannot be established that the rise in price was organized by them and that the intent and design of a group of person even before their act cannot be measured by anyone.
? The Noticee was not aware of any such design or intent on part of their client Kajol Impex or anyone else.
? The solitary instance of delivery from third party account is projected as a big game plan and the percentage contribution in scrip volume of 16% cannot be held against a market participant.
? Whenever a broker placed order on the exchange trading system, it was at the instruction of the client and the broker could not ask or understand rationale for orders.
? The price movements in different scrip over a day or over a period were regular phenomena. Merely because others acted with malicious intentions, cannot be held against them.
6. CONSIDERATION OF ISSUES & FINDINGS
6.1 After having carefully examined the enquiry report, show cause notice and submissions of the Noticee, I observe that the price of the scrip of MOH started increasing from a level of Rs. 240.50 on August 01, 2000 to a level of Rs. 799 on September 19. 2000. It was noticed that the following brokers had contributed 89% of the volumes in the scrip during this period.
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Name of the Qty % to the total Qty sold % to the total
Broker bought buy volume at sell volume at
the exchange the exchange
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Kantilal Mangaldas 18,939 25.43% 18,939 25.43%
Sec Pvt Ltd.
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SVS Securities Ltd. 16,248 21.82% 18,807 25.25%
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Prabhudas Lilladher 15,134 20.32% 12,970 17.42%
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BD Shah Sec Pvt Ltd. 8,451 11.35% 5,002 6.72%
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Active Finstock 3,800 5.10% 0 0%
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Acme Shares Pvt Ltd. 3,275 4.40% 10,650 14.30%
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65,847 88.42% 66,368 89.12%
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6.3 The aforesaid brokers had dealt for their ultimate clients through their sub brokers, whose details are also given.
Name of the broker Name of the sub broker Ultimate Client
Kantilal Mangaldas Abhilasha Securities Tannya Securities
SVS Securities Kunvarji Finstock Kajol Impex
Prabhudas Lilladher Jyotish Bhogilal Stk Brk Shri Parshwa Finance
BD Shah Sec. Pvt Ltd. Royal Investments A.M. Investments
(Ms. Alpa Shah/Bijal Mehta) Active Finstock Kunvarji Finstock Kajol Impex
Acme Shares Pvt Ltd. M.M. Consultancy Mahavir Investments
6.4 It is observed that Noticee had purchased 12,248 shares (approx. 16% of the total purchases) and sold 15,107 shares through the broker, SVS Securities Ltd. It may be pointed out here that Noticee had also traded on behalf of Kajol Impex through BSE broker Active Finstock when they had only purchased 3500 shares on August 18, 2000 and August 25, 2000. It was noticed that Noticee had received delivery of 3500 shares on behalf of Kajol Impex in their pool account, out of which they had delivered 1685 shares against the sale position of Kajol Impex (sold through broker SVS Securities).
6.5 Shri Hemrajsinh Vaghela, Director of Kajol Impex Ltd. in his statement recorded on November 18, 2002 stated that he is a Director in Kajol Impex as well as Ambica Seeds Pvt. Ltd. He had acquired in all 1,29,900 shares of MOH Ltd. in the public issue, in his name and in the name of his family members/related entities as per the following details:
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Hemrajsinh Vaghela 25,000 shares Pooja Vaghela (wife) 25,000 shares Ambica Seeds 59,900 shares Shailesh Patel (partner in Kajol Impex) 20,000 shares ---------------------------------------------------
6.6 I observe that Shri Vaghela, his family members/related entities, Kajol Impex Pvt Ltd., and Ambica Seeds did not appear among the top 50 share holders (at the time of allotment). However, from the copy of distribution schedule submitted by BSE, it is noticed that Kajol Impex and Ambica Seeds were among the top 50 shares holders as on September 1999 and September 2000 and were holding 99,000 shares each (of face value of Rs. 10/- each).
6.7 From the details submitted by Noticee, the net position in the scrip, settlement wise of Kajol Impex is given below:
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St 20 (-) 5,335 shares Received from the a/c of Shri Jitendra J. Shah -------------------------------------------------------------------------- St 21 (+) 3,000 shares Received in the pool a/c of sub broker -------------------------------------------------------------------------- St 22 (+) 900 shares Received in the pool a/c of sub broker -------------------------------------------------------------------------- St.23 (+) 261 shares Received in the pool a/c of sub broker -------------------------------------------------------------------------- St.24 (-) 1,685 shares Delivered out of the purchased made above --------------------------------------------------------------------------
6.8 From the above, it is clear that Kajol Impex had a net sale position of 5,335 shares in Settlement No. 20 of 2000 and they were asked to clarify regarding the source of these shares delivered by them. Since, Kajol Impex did not respond with the details, information was collected from Stock Holding Corporation of India Ltd. when it was observed that 5,335 shares were delivered directly to the broker – SVS Securities on behalf of Kajol Impex from the DP account of one Shri Jitendra J. Shah (Client ID 30079275). Analysis of the demat account of Shri Jitendra J. Shah revealed that, on August 01, 2000 (the day from which the price started moving up), Shri Jitendra J. Shah had converted 43,000 shares from physical form to demat form and these shares were off loaded in the market through these clients.
6.9 It was also observed that the shares moved from the demat account of Shri Jitendra J. Shall directly to the pool account of the main broker, against the sale position of the clients of the broker and not through the account of the respective clients. This way, Shri Jitendra J. Shall delivered 5335 shares directly to the pool account of broker SVS Securities against the sale position of their client – Kajol Impex Ltd.
6.10 Apart from the above, Shri Jitendra Shah transferred MOH shares to the demat account of Shri Anil Mistry of Tanya Securities and Shri Parshwa Profin Pvt. Ltd. Thus, it is very clear that the clients of the Noticee and others who transacted in MOH scrip during the relevant period in connivance with Shri Jitendra J. Shah, artificially manipulated the price of the scrip, which in fact caused the price of MOH to move upto unrealistic levels. Further, all other deliveries for purchase of shares, on behalf of Kajol Impex, were received in the pool account of Noticee and the shares were delivered from this pool account towards the sale position of Kajol Impex. The shares were not transferred to the individual DP account of Kajol Impex.
6.11 It is also seen from the analysis of the trade log and Order log during the period, August 01, 2000 to August 21, 2000 that on most of the days, the clients of the Noticee had purchased and sold shares at 8% higher than the previous day’s closing trades and that too among themselves in such a way that the buy orders of one client were getting matched with the sell order of another client in the same group giving thereby an indication of circular trading. This was possible because the scrip was illiquid. Once the trade was executed at this rate, the clients then traded among themselves to ensure that the price of the level is maintained at this rate. In this way, they managed to take the price to a level of Rs. 799 continuously. There was no basis or fundamentals to support such a hike in price as the profit and loss account of MOH for the financial year 2001-2002 had fallen drastically compared to previous financial year 2000-2001. By executing such artificial trades and giving an appearance of genuine trading in this scrip, the innocent investors were induced to start trading in this scrip. It has been observed from the price and volume data after the investigation period that the price came down to Rs 36.45 on March 2001 (face value Re 1/-), Rs 22.65 in April 2001, Rs. 10.40 in May 2001, Re 1 in August 2001 and went down further to Re 0.20 in December 2001. The genuine investors obviously must have suffered loss during this period. It clearly reveals that the above clients including the client of the Noticee, in connivance with Shri Jitendra J. Shah, artificially manipulated the price of the scrip to reach unrealistic levels. The Noticee had aided and abetted his client to execute manipulative trades. In view of the fact that the fundamentals of the scrip were not strong and since the scrip was considerably illiquid, any prudent stock broker/sub-broker could have doubted the intentions of the clients and stopped trading for them. On the other hand, the Noticee continued trading for number of settlements which resulted in building up of artificial market in the MOH scrip.
6.12 The Noticee stated that the show cause notice did not talk of the closing price of the previous day and does not state whether such orders resulted in a trade. This contention of the Noticee is not tenable as the Noticee being a sub-broker should get the details of volume, price and circuit filter level of a scrip etc. at least after the market time. Since the Noticee had executed trades for its client on several days, they should have been aware of its trade. It is pertinent to mention that at the relevant time BSE was taking many steps like levying special margins and consistently reversing circuit filter levels which ought to have sent a strong signal to the market that there is some thing suspicious in the trading in the scrip. The client Kajol Impex of the Noticee was trading only in this particular scrip and the pattern of trading was also suspicious. These details are enough to raise concern for a prudent and responsible sub-broker like Noticee. The stock market system depends a lot on such prudence of the intermediaries. The brokers/sub-brokers are the first line of monitoring and surveillance in the market. The failure at this level will weaken the fundamentals of the system and will harm its development as a safe market of international standards. In the instant case the Noticee did not exercise the due skill and diligence expected from them and failed to take any action even though there were enough and repeat indications suggesting clearly that the trading in the scrip by the client was not above board. Further, instead of stopping suspicious dealings of its client, the Noticee in fact tried to benefit out of the artificial market.
6.13 The Enquiry Officer observed that the client had started dealing in MOH shares in Settlement No. 20 and had sold a total quantity of 6,712 shares and purchased 1,377 shares. Therefore, the client had short sold 5,335 shares and delivery for the same was directly made to SVS Securities Ltd. by third party namely Shri Jitendra Shah. This lapse on behalf of the client should have also alarmed the Noticee and they should have asked his client to stop trading in the scrip. The Noticee in their reply stated that they were unaware of the same and admitted that they had advised their client that the said practice was unacceptable to them and the client should deliver shares to their account only and no sale transactions would be undertaken if the shares were first not delivered to their account. If in fact they had stopped the trade after they knew about this aspect, one could understand their good intentions. However on the contrary, it continued executing the transactions in MOH scrip on behalf of the client in subsequent settlements also.
6.14 The Noticee stated that they were not willing to monitor the trades executed by the clients as they have mentioned that no client would like his transactions to be monitored by the broker / sub-broker. The Enquiry Officer has also observed that no financial details of Kajol Impex were given in the client introduction form. I am of the view that a stock broker or sub broker has to compulsorily obtain financial details of their clients so as to satisfy that they are bonafide. The very purpose of such practice is to enable the stock brokers to evaluate client before they take up trading on their behalf. In this connection, it would be relevant to refer the following extracts of the order dated September 18, 2003 passed by the Hon’ble Securities Appellate Tribunal in the matter of Madhukar Sheth v. SEBI (Appeal No. 46 of 2002):
Before executing series of transactions for his client, any prudent broker would have gone a bit far to ascertain the goings around and also would have normally assessed the financial capability of the person for whom he was trading….
…The Appellant’s submission that he had taken client registration form, entered into agreement etc. by itself was not sufficient. Exercise of due diligence in ongoing transactions is a continuous process and it is not a one time measure to be adhered to while taking up the first transaction. The appellant’s submission that it was B’s dishonesty that created the problem did not absolve him of his failure to discharge his duties as a prudent broker….
…On the basis of the material available on record, it was difficult to conclude that the appellant had exercised due skill and care in dealing with ‘B’. It was not that the appellant had carried on only few trade transactions for ‘B’ for a short period. He had transacted in huge volumes for ‘B’ and the association dated back to August 2000. If the appellant could not see any design or pattern in the transactions which ‘B’ was executing through the appellant during the period, then the appellant certainly deserved to be blamed for being indifferent and unconcerned and for that reason he was at fault for the failure to exercise due skill and diligence….
…It is true that a broker cannot act of his own against the instructions of the client. But no one can compel him to be a party to manipulate the market. No doubt a broker is supposed to protect the interest of his client, but he is also expected to protect the interest of the securities market in which he operates. It is his duty to ensure not to be a party to any market manipulation and that the market in which he operates is run on a health and non-manipulative basis.
6.15 The Enquiry Officer has observed from the trading pattern of the Noticee for its client as also from the settlement of transactions in various settlements that Noticee had allowed the client to deal in an illiquid scrip like MOH in large quantity contributing approx. 16% of the trading volumes on the exchange. He further observed that the quantity traded by Noticee would have distorted the market equilibrium in the scrip.
6.16 Further, in the process of perpetuating these artificial trades, Noticee has also failed to exercise proper skill, care and diligence, required of a broker as already discussed earlier. The Noticee further failed to verify the bonafides and financial worthiness of the client, Kajol Impex as even admitted by them. As a registered sub-broker, Noticee was fully aware of the Rules and Regulations of SEBI. I find that Noticee had failed to observe the clauses of Code of Conduct by not maintaining the standards of integrity, promptitude and fairness required of a sub- broker. Further by entering such manipulative transactions on behalf of its client, Notice created artificial market which led to interference with the fair and smooth functions of the market mechanism of the stock exchanges. In view of all above issues of serious magnitude, it is clear that the Noticee violated the provisions of Clause A (1) & (2) and D (4) & (5) of code of conduct specified under Regulation 15(1)(b) of SEBI (Stock Brokers and Sub brokers) Regulations, 1992 which are extracted hereunder:
A. GENERAL
(1) INTEGRITY: A sub-broker, shall maintain high standards of integrity, promptitude and fairness in the conduct of all investment business.
(2) EXERCISE OF DUE SKILL AND CARE: A sub-broker, shall act with due skill, care and diligence in the conduct of all investment business.
D. SUB-BROKERS VIS-À-VIS REGULATORY AUTHORITIES.
(4) MANIPULATION: A sub-broker shall not indulge in manipulative, fraudulent or deceptive transactions or schemes or spread rumours with a view to distorting market equilibrium or making personal gains.
(5) MALPRACTICES : A sub-broker shall not create false market either singly or in concert with others or indulge in any act detrimental to the public interest or which leads to interference with the fair and smooth functions of the market mechanism of the stock exchanges. A sub-broker shall not involve himself in excessive speculative business in the market beyond reasonable levels not commensurate with his financial soundness.
6.17 Under Section 11 of the SEBI Act, SEBI can take steps to protect the interests of investors and to regulate the securities market inter alia by registering and regulating the working of stock brokers. If the regulatory requirements are violated by the stock brokers without attracting any action, the measures initiated by SEBI for regulation of the stock brokers would be rendered meaningless and the regulatory function would be jeopardized. It is to be noted that indulgence of the Noticee in the transactions which are prohibited can not be allowed as these transactions had a detrimental effect on the functioning and integrity of the securities market.
6.18 I have noted that the enquiry officer has recommended imposition of a penalty of suspension of three months on the Noticee. However, considering the submissions made by the Noticee that the transactions were not substantial on gross basis at BSE and also there is no charge under SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 1995, I feel a penalty of one month, as against the three months suggested by the Enquiry Officer, will meet the ends of justice.
7. ORDER
7.1 Taking into consideration all facts and circumstances of the matter and in exercise of the powers conferred upon me in terms of Section 19 of the Securities and Exchange Board of India Act, 1992 read with Regulation 13(4) of Securities and Exchange Board of India (Procedure for Holding Enquiry by Enquiry Officer and Imposing Penalty) Regulations, 2002, I hereby impose a minor penalty of suspension of certificate of registration issued to M/s Kunvarji Finstock Pvt. Ltd. as a sub-broker of SVS Securities Pvt. Ltd. (SEBI Registration no. INS011043937 and PAN No. AAACK8760E), for a period of one month.
7.2 This order shall come into force on the expiry of 21 days from the date of this order.