Mumbai: Market regulator Securities and Exchange Board of India (Sebi) on Wednesday banned seven firms from issuing equities and equity-related instruments.
It also banned 10 other entities, including some foreign institutional investors (FIIs) and sub-accounts, from trading securities for allegedly manipulating markets through issuances of global depository receipts (GDRs).
The capital market regulator has also referred the matter to the Enforcement Directorate (ED) as it doesn’t have direct powers to investigate alleged money laundering activities.
According to Sebi, Asahi Infrastructure and Projects Ltd, IKF Technologies Ltd, Avon Corp. Ltd, K Sera Sera Ltd, CAT Technologies Ltd, Maars Software International Ltd and Cals Refineries Ltd had issued large amount of GDRs to FIIs and sub-accounts through initial subscribers between 2007 and 2009.
The GDRs were mostly issued at a premium to the prevailing market price of their underlying shares in India, but subsequently, they were converted into shares through a counter-party group of five Indian entities, leading to a loss for retail investors on account of a sudden surge in publicly tradable shares and fall in share prices.
Foreign investors including India Focus Cardinal Fund, MAVI Investment, KII Ltd, Sophia Growth (part of Somerset India Fund), European American Investment Bank AG and counter-parties including Basmati Securities Pvt. Ltd, Oudh Finance and Investment Pvt. Ltd, Alka India Ltd, SV Enterprises, and JMP Securities Pvt. Ltd. have been barred from dealing in domestic securities.
They were found to be violating certain sections of FII regulations and involved in unfair trade practices.
A depository receipt is a negotiable instrument issued abroad, often in lightly regulated markets such as Luxembourg, to represent underlying domestic shares, making it easier for foreign investors to take an exposure to the issuing company without moving money across borders.
When subscribers to GDRs convert them to shares in the Indian market, there is a sudden surge in supply of shares similar to the listing and trading of additional shares after a follow-on public offer (FPO) or qualified institutional placement (QIP) with a difference that in case of FPOs and QIPs local investors are aware of fresh inflow of shares in the market.
According to Sebi, retail investors were drawn to buy shares of the seven companies, assuming their prospects to be good due to large holdings by FIIs and their sub-accounts. Due to trading between the foreign investors and the domestic counter parties, the shares looked liquid and the prices were inflated. When foreign investors exited, a large amount of GDRs were converted to shares, leading to a sudden surge in publicly tradable shares and fall in share prices, resulting in losses for retail investors.
Sebi said that subscription in GDRs escapes the radar of the regulators, since disclosure of GDR holders can be protected by taking defence of secrecy laws in foreign jurisdictions. Further, in jurisdictions where anti-money laundering norms are not strong, companies may act as conduits to the persons who wish to launder their funds by allowing such persons to subscribe to GDRs.
At the second stage, such investors sell these in the Indian market where liquidity exists and the sale proceeds are repatriated through legitimate channels while the company benefits with a huge growth in market capitalization.
According to Bloomberg data, there have been 457 overseas GDR listings by Indian companies since 1993.
“They (Sebi) seem to have detected this through their surveillance system. As long as the Indian surveillance mechanism is enough to detect such episodes, I don’t think there is a need to change anything in the regulatory framework,” said professor Jayanth R. Varma of Indian Institute of Management, Ahmedabad.
Mint, in July, had reported that Indian financial regulators are planning to impose stringent conditions on Indian companies issuing GDRs, over concerns of reputational risks and possible market manipulations by GDR issuing firms.
“We have found there are several Indian firms which have been increasing their net worth undesirably through issuance of GDRs,” a government official had said, according to the July report.
The fresh regulations will seek to ensure that only companies meeting minimum norms are allowed to issue GDRs.
The Sebi order said that from the structure of GDRs, its trading and existing relevant laws in concerned countries, it is not possible to ascertain the identity of GDR holders except the identity of initial investors in the company.
The new regulations may mandate the issuing companies to disclose the names of the end-beneficiaries of the GDR holdings, according to another government official quoted in Mint’s July report.
Vyas Mohan contributed to this story.