First Custodian Fund (India) Ltd., In Re (Non-Compliance With The Statutory Requirements)

Background

First Custodian Fund (India) Limited (hereinafter referred to as “the said broker”) is a member of National Stock Exchange, Mumbai (hereinafter referred to as “NSE”) and a stock broker registered with SEBI under certificate of registration bearing No. INB 230638130.

The Reserve Bank of India (hereinafter referred to as RBI) vide their letter dated 27.4.2001 informed the Securities and Exchange Board of India (hereinafter referred to as “SEBI”) that Nedungadi Bank Ltd. (hereinafter referred to as “NBL”) had approved in September, 1999, a scheme for arbitrage dealings through three stock brokers viz. Harvest Deal Securities Limited, Shrikant G. Mantri and the said broker.

Based on the complaint from RBI, SEBI conducted an investigation into the matter. The findings of the investigation are as under:

1. Shri Rajendra K Banthia (hereinafter referred to as “R.K Banthia”), Managing Director of Harvest Deal Securities Limited and persons associated with him held 8.41%, the said broker held 3.28% and Shrikant G. Mantri held 10.51% of the equity shareholding of NBL

2. the Board of Directors of NBL in its meeting held on 26.6.1999 took the following decisions:

i. To allow purchase and sale of shares in various markets and stock exchanges.

ii. To vest to Chairman and General Manager (P&D), powers to the extent of Rs. 5.00 crore and Rs. 2.00 crore respectively to purchase and sell shares to the stock brokers namely Shrikant G. Mantri, Harvest Deal Securities Ltd. and the said broker and other recognized brokers and pay brokerage.

iii. To permit Chairman to ratify loss, if any, in any transactions upto a maximum of 5% of the price.

iv. To permit the bank to open DP accounts with Standard Chartered Bank and Global Trust Bank, Mumbai.

3. Even prior to the aforesaid decision of the Board of NBL, the bank had allowed the said three stock brokers to undertake the following transactions:

Date Purchase in Rs. Sales in Rs. Gross Income in Rs. 14.09.99 1,90,17,389 1,92,03,740 1,86,351 20.9.99 4,45,15,443 4,48,51,270 3,35,827 21.9.99 2,15,67,8665 2,17,94,508 2,26,643

As per the decision taken by the Board of NBL in its meeting held on 26.6.1999, the following reporting system was decided to be followed in respect of the arbitrage transactions:

Sr. No. Particulars By whom To whom Periodicity 1. Statement of purchase and sale Senior Manager, Investment Dept., Mumbai Assistant General Manager (F&A) Daily 2. Statement of purchase and sale Assistant General Manager(F&A) The Chairman through General Manager(P&D) Daily 3. Purchase and sale statement Chairman The Board Monthly 4. Brokerage paid at Mumbai Senior Manager, Fort, Mumbai Branch Assistant General Manager(F&A) Monthly 5. Statement brokerage Chairman The Board Quarterly 6. Sale or purchase ended in loss Senior Manager, Fort, Mumbai Branch Assistant General Manager (F&A) On the date of occurrence 7. Sale or purchase ended in loss Assistant General Manager(F&A) The Chairman Through General Manager (P&D) On the date of occurrence 8. Sale or purchase ended in loss Chairman The Board Monthly

However, it was observed that this reporting system was not observed in practice and the Chairman and other officers of NBL who were mandated to decide on the scrips to be purchased or sold, had delegated these decisions to the three stock brokers.

An analysis of the transactions entered into by NBL through the above brokers till 31.3.2001, revealed that:

Most of the transactions were not executed as arbitrage transactions i.e purchases/sales of equal quantity of the particular shares were not executed simultaneously through different exchanges.

The purchases and sales had been effected in different exchanges through these brokers' mutual co-ordination.

The bank had made purchases in shares of Inf Tech companies such as HFCL, DSQ, Global Tele etc. during first week of March, 2000 to an extent of Rs. 84.9 crores through these brokers. But during this time the prices of shares of all these companies were at their highest levels. Further, the sales during the last week of March, 2000 mostly in the above scrips amounted to Rs. 58.7 crores. The above purchases and sales were well in excess of the approved limits of the bank.

It was observed from the statement of account of the dealings of the bank and the broker's books of accounts with regard to their dealings with NBL that the three brokers including the said broker failed to make payments towards the sale of shares by the Bank in time on several instances. These three brokers withheld the payments due to the bank for considerable period of time and thereby delayed the payments to the clients.

There were some instances of delay in delivery of securities by the brokers to the bank towards their purchases. Similarly it was noticed that the bank had not delivered the shares of HFCL which were sold in March 2000 to the brokers in time. The reason for the late delivery on part of the bank was explained as the subsequent delay in payment of funds by the brokers after the sale of securities.

The transactions which were said to have taken place in the last week of March 2000 were bogus transactions. The contract notes issued by the said broker and others in respect of the said transactions did not contain the time of transaction and these transactions were not done through the stock exchanges. Further on investigating into mthe dealings of March, 2001 it is observed that these transactions were effected not through the exchange but through off market one sided deals wherein there were no selling clients. From an examination into the statements of the broker it is observed that these brokers i.e HDSL, SGM and the said broker had these stocks in their portfolio which they had offloaded to the bank in order to mobilize funds from these purchasers.

Based on the above, findings as an emergent measure vide an interim order dated 14.7.2003, the said broker and its directors viz. Surendra Kumar Banthia, Manish Banthia and Sushil Mantri were prohibited from dealing in securities till further orders.

Enquiry Proceedings

1. In view of the irregularities noted in the course of investigation, vide Order dated 5.12.2002 an Enquiry Officer was appointed under Regulation 5(1) of the SEBI (Procedure For Holding Enquiry by Enquiry Officer and Imposing Penalty) Regulations, 2002, (hereinafter referred to as Enquiry Regulations) to enquire into the irregularities allegedly committed by the said broker in its dealings in securities on behalf of NBL. The Enquiry Officer issued notice to the said broker on 8.7.2003 to which it replied vide letter dated 13.8.2003 Thereafter, personal hearings were held by the Enquiry Officer on 26.8.2003, 10.10.2003, 10.11.2003 and 28.12.2003 Shri R.K Banthia, Managing Director of the said broker appeared before the Enquiry Officer and made submission:

2. The Enquiry Officer after considering the facts of the matter and reply and submissions of the said broker submitted his report to SEBI on 12.1.2004 recommending that a major penalty of suspension of certificate of registration for a period of 12 months be imposed on the said broker.

Show cause notice and personal hearing

1. Pursuant to the submission of report by the Enquiry Officer, show cause notice was issued to the said broker on 22.1.2004 forwarding a copy of the Enquiry Officer's report and also advising him to show cause in terms of Regulation 13(2) of the Enquiry Regulations as to why the penalty recommended by the Enquiry Officer should not be imposed on him. The said broker submitted his reply to the show cause notice vide letter dated 5.2.2004

2. In his reply the said broker submitted as under:

3.2.1 The said broker submitted that the Enquiry Officer has erred in relying upon the statements of A.R Moorthy and H. Ganesh while preparing the Enquiry Report. The said broker further submitted that the Enquiry Officer erred in coming to a conclusion that the Noticee had submitted that the aforesaid statements could not be relied upon since the Enquiry Officer had become functus officio on conclusion of the enquiry proceedings since the Noticee had, on receipt of the Show Cause Notice dated 8.7.2003, requested the Ld. Enquiry Officer vide letter dated 24.7.2003, to furnish copies of the documents being relied upon by SEBI in support of the allegations and/or contentions made in the said Show Cause Notice and the Enquiry Officer vide his letter dated 5.8.2003 intimated that, apart from the Investigation Report, the Enquiry Officer would be relying upon the following documents only:

i. Copy of Board Resolutions of NBL and its annexures (9 pages)

ii. Details of trade done by NBL through FCFL (30 pages)

iii. Details of deliveries made by NBL and deliveries to NBL (9 pages)

iv. Details of payments between NBL & FCFL (2 pages)

v. Copy of Ledger of NBL(10 pages)

3.2.2 The said broker submitted that vide their letter dated 9.8.2003 they had acknowledged receipt of the relied upon documents referred to in letter dated 5.8.2003 and further submitted that, it would prepare its reply to the Show Cause Notice on the premise that no other documents, save and except those mentioned in the letter dated 5.8.2003, were being relied upon by SEBI. Copies of the aforesaid letters were annexed.. It may therefore be seen that the said statements of A.R Moorthy and H. Ganesh did not form part of the documents that are being relied upon by the Ld. Enquiry Officer. The said broker further submitted that, it is a fact that the said statements form part of the documents forwarded by the Investigating Officer under cover of his letter dated 9.4.2003 It is pertinent to mention that there were 155 number of documents forwarded by the Investigating Chief Officer under cover of his letter dated 9.4.2003 Out of the said number of documents, the Enquiry Officer specified in his letter dated 5.8.2003 that only 5 documents would be relied upon. Since the said statements did not form part of the documents that were being relied upon by the Enquiry Officer, it would be against natural justice for the Enquiry Officer to thereafter, and that too after conclusion of the enquiry proceedings, seek reliance upon the said documents. It is respectfully submitted that, in view of the foregoing, no reliance on the said statements can be made and no inference adverse or otherwise can be drawn for the said statements as the same would be against natural justice.

3.2.3 The said broker submitted that, the statements of A.R Moorthy and H. Ganesh were furnished in completely different manner and the proceedings concluded. The Show Cause Notice of 11.3.2003 and the Written Submission given vide our letter dated 22.4.2003 in which although personal hearing was requested, the same was not given and the subsequent Order passed by the Chairman on 14.7.2003 form a part of the said concluded proceedings. The said proceedings stand concluded by the passing of the Order by the Chairman on 14.7.2003 In the said circumstances, the Ld. Enquiry Officer cannot rely upon the documents furnished in the said concluded proceedings which are completely different and distinct from the present proceedings. As such, the Ld. Enquiry Officer in relying upon the said documents admittedly after the conclusion of hearing, is against natural justice and therefore, bad in law.

3.2.4 The said broker further submitted that the Enquiry Officer was aware of the fact that the Hon'ble SAT vide its Order dated 27.10.2003, had fixed time bound schedule within which the enquiry proceedings should be concluded. The belated reliance on the documents by the Ld. Enquiry Officer after the conclusion of the enquiry proceedings, deprived the Noticee of a reasonable opportunity to rebut the contents of the same, in view of the time constraint ordered by SAT. In the said circumstances, it is humbly requested that the Enquiry Report should be considered as if there were no statements given by A.R Moorthy and H. Ganesh.

3.2.5 The said broker also submitted that they were not given a fair and reasonable opportunity to defend themselves and to explain the circumstances appearing against them hence, non-furnishing of statements along with Show Cause Notice vitiated the proceedings.

The said broker further submitted that the Enquiry Officer has erred in coming to the conclusion that the they, Harvestdeal Securities Ltd. and Shrikant G. Mantri constitute one group and has overlooked that the said Companies are not associate companies within the definition of Sec. 370(1B) of the Companies Act, 1956 and that there merely being common Directors in companies, does not qualify the said Companies as Associate Companies. The said broker further submitted that the present case is not a fit and proper case requiring the lifting of the Corporate Veil. The said broker submitted that the purpose of lifting of the Corporate Veil is to determine the persons who are in actual management and control of the Company. The said broker also submitted Enquiry Officer has nowhere in his Report come to the conclusion that the management and control of the said three companies vests in persons other than the duly construed Board of Directors and the concerned Managing Director of the respective company, much less has the Enquiry Officer come to the conclusion that the said entities have acted in a fraudulent manner. The said broker further submitted that, the Enquiry Officer on his own admission, has stated that there are 3 distinct groups

3.2.6 The said broker also submitted that, even assuming without admitting that the said entities are indeed one group as erroneously concluded by the Enquiry Officer, even then that does not constitute any violation of the SEBI Act, Rules and Regulations and in any case, it not the case of the Enquiry Officer that the said entities by acting in concert have violated the SEBI Act or any of the rules and regulations framed there under.

3.2.7 The said broker has mentioned that the Enquiry Officer has quoted an extract from the statement of A.R Moorthy which read as under:

“as the investment proposal was not approved by the Board in the earlier meeting”.

However, pertinently no details of the alleged earlier meetings in which the investment proposals were discussed were mentioned and nor were any questions asked by the Investigation Officer to Shri A.R Moorthy. It was further submitted that the Enquiry Officer has mistakenly chosen to rely upon the purported statements of A.R Moorthy and H. Ganesh in support of his findings that “Mr. R.K Banthia was choosing the various shares, timing the trades, putting it through the Brokers etc.” The Enquiry Officer has totally overlooked the statements given by Shri T.R Narayanan, Dy. Gen. Mngr of Nedungadi Bank Ltd. (NBL) to SEBI on 23.10.2002 In the said statement, Shri T.R Narayanan has very categorically stated the then Chairman, Shri Moorthy was placing orders with the Brokers on behalf of the Bank. The said broker has therefore, contended that the said statements of Shri T.R Narayanan were in total variance of the statement of Shri A.R Moorthy available with the Enquiry Officer and which formed a part of the documents of the Investigation Report. Thus, they have stated that the Enquiry Officer had not considered all the facts of the case.

3.2.8 The said broker also submitted that, the Enquiry Officer had chosen to rely upon the statements which purportedly went against them and ignored statements which were in favour of them. Therefore, the Enquiry Report suffers from the vice of bias.

3.2.9 The said broker has made the following detailed submissions in respect of the charges mentioned in the show cause notice:

1) With regard to the finding that client registration and agreement not obtained, the member submitted that Enquiry Officer is not satisfied with the explanation of the Noticee that non-obtaining of the Client Registration Form and no formal Agreement entered into, was a mere clerical and venial lapse in as much as the main purpose of the same has been fulfilled since the client is a reputed commercial Bank. They submitted that Enquiry Officer stated that the member client agreement throws light on the terms and conditions that binds the parties to the contract, the rights and liabilities of the parties and the consequences of breach. They contended that on a perusal of the proforma client agreement, it could be seen that the main purpose is to determine the credit worthiness of the client. It is further submitted that due diligence is required to be exercised qua somebody and that a failure to do so cannot be a case to impose penalty unless it is established that somebody has been adversely effected. Member submitted that, as a result of the alleged failure to exercise due diligence, the client did not suffer, the Stock Exchange did not suffer and even the counter party did not suffer.

2) With regard to transactions other than arbitrage, member submitted that the Enquiry Officer erred in coming to the conclusion that there were some instances when the Noticee carried out transactions other than arbitrage and thereby acted beyond the mandate of the client and violated Clause A(1)(2)(3) & (5) and B(1) of the Code of Conduct as specified in Schedule 2 read with Regulations 7 of SEBI Stock Broker and Sub-Broker Regulations 1992, besides acting beyond the scope of authority. The said broker has also submitted that the Enquiry Officer has not found single instance in support of his conclusion that the Noticee has violated the Code of Conduct and hence the conclusion arrived at by the Enquiry officer is erroneous in as much as it is not supported by any facts. The said broker also submitted that they were members of only the NSE and could not have done arbitrage transactions. They executed transactions, either purchase and/or sale on the NSE as and when instructed to do so by NBL. All transactions executed by them were duly paid for and shares delivered either in physical form or in demat form to NBL and payments received and shares credited/debited to their demat account in the case of purchase and sales respectively. All transactions executed by them on behalf of NBL were mandated. Further, even the statement of the erstwhile Chairman and the Board Resolutions confirmed that NBL also took position in shares for the reasons specified in the various Board memoranda. In view of the foregoing, they submitted that no adverse inference could be drawn.

3.3 A personal hearing was granted to the said broker on 12.2.2004 which was attended by Shri Sushil Mantri, Director of the said broker and also by Advocates authorized by them. In the course of the said hearing, the said broker also submitted a request to summon Shri A.R Murthy, and Shri H. Ganesh, Former Chairman and Manager of NBL respectively and also requested for an opportunity to cross examine the said officials. They also submitted an affidavit in this regard. In the said affidavit, the said broker submitted the following in respect of the charges against them:

A) ISSUE OF FICTITIOUS CONTRACT NOTES

The said broker submitted that they had not issued fictitious contract note dated 14.03.2001 They contended that it was only an offer made to NBL to sell 13,65,000 shares of Monet Ispat and 29,500 shares of Ranbaxy Labs in order to regularise/comfort the Bank for the temporary overdrawing in the Noticee's cash credit account. They submitted that since the Bank declined the same, nothing thereafter survived and no gain or loss caused to either party or at all. They contended that this was strictly a private accommodation offer made by the Noticee to the Bank and no impact or effect on the market would have entailed. They further admitted that it would have been the correct procedure to have mooted a proposal to this effect rather than issuing contract notes. Broker submitted that the offer for sale given in the form of a contract note, could at best be termed as a venial defect and even the Enquiry Officer has not attributed any malafides for issuing the said contract notes and in the said circumstances, a lenient view of the matter should be taken.

B) With regard to delay in making payment broker submitted that, only two instances of delay of 2 days and 25 days were mentioned in the report. As regards the delay in Sr. no. 5 of 2 days, broker submitted that 8 January 2000 the pay-out date, was a Saturday and as such the time limit for payment to be effected was 12.01.000, the date on which the cheque had been issued. There was no delay. As regards the delay of 25 days in Sr. no. 6, broker submitted that the cheque for the same was issued on 12.01.000, the pay-out date. Broker contended that NBL had deposited the same only on 08.02.2000 Broker therefore submitted that it is not the Ld. Enquiry Officer's case or contention that the said cheque was deposited by NBL on 08.02.2000 at the instance of the Noticee and as such, they could not be held responsible or liable for the delay by NBL in depositing the said cheque. Broker therefore stated that it cannot be concluded that there has been violation of Clause B(1) of the Code of Conduct as specified in Schedule 2 read with Reg. 7 of SEBI Stock Broker and Sub-Broker Regulations 1992 read with SEBI circular SMD/SED/Cir/93/23321 dated 18.11.1993 as erroneously found by the Ld. Enquiry Officer.

3.4 Thereafter, vide letter dated 16.2.2004, the said broker made further submissions. The submissions of the said broker were as under:

1) The subject Show Cause Notice is bad in law in as much as it is violative of the provisions of Regulation 13(2) of the Securities and Exchange Board of India (Procedure for Holding Enquiry by the Enquiry Officer and Imposing Penalty) Regulations, 2002. The said Regulation makes it mandatory that the Chairman or the member of the Board shall issue Show Cause Notice to the intermediary only after a consideration of the Report fr the Enquiry Officer. As such, it enjoins that the application of mind on the Enquiry Report has necessarily to be made by the Chairman or Member of the Board before a Show Cause Notice can be issued. Therefore, no person other than the Chairman or a Member can issue Show Cause Notice under Regulation 13(2) of the Securities and Exchange Board of India (Procedure for Holding Enquiry by the Enquiry Officer and Imposing Penalty) Regulations, 2002. The subject Show Cause Notice has been issued by the Div. Chief and not by the Chairman and/or Member of the Board. Thus, the same is bad in law and therefore is non-est. This is a well settled law as laid down in the following cases that “where a power is given to do a certain thing in a certain manner, the thing must be done in that way or not at all

i) Dhanajaya Reddy v. State of Karnataka, (2001) 4 SCC 9 — Para 23

ii) K. Prasad v. union of India and Ors., 1988 Supp SCC 269 — Para 23

iii) Commissioner of Income Tax, Mumbai v. Anjum M.H Ghaswala, (2002) 1 SCC 633 — Para 27

iv) Bhavnagar University v. Palitana Sugar Mill (P) Ltd., (2003) 2 SCC 111 — Para 40

2) The Noticee had during the course of personal hearing submitted Affidavit dated 12.02.2004 denying all the allegations made in the subject Show Cause Notice and specifically denying the allegations that the Noticee, Harvest Deal Securities Ltd. and Shrikant G. Mantri constitute one group and that they are associate companies for the following reasons:

a) The First Custodian Fund (India) Ltd. is a widely held Public Limited Company having about 2000 shareholders and is listed on the Bombay Stock Exchange.

b) The First Custodian Fund (India) Ltd. had 5 Directors during the relevant period i.e Sept. 1999 to March 2000 and that there was only one common Director i.e Shri Manish Banthia between. The First Custodian Fund (India) Ltd. and Harvestdeal Securities Ltd. Shrikant G. Mantri was never a Director of The First Custodian Fund (India) Ltd.

c) The First Custodian Fund (India) Ltd. has separate office premises and only certain infrastructure facilities are shared for reasons of economy. The First Custodian Fund (India) Ltd. is a member of the National Stock Exchange having Regn. No. INB 230638130 and is separately assessed for turnover tax by SEBI. For purposes of assessment of turnover tax, SEBI does not aggregate the turnover of The First Custodian Fund (India) Ltd. with that of any other entity much less Harvestdeal Securities Ltd. and Shrikant G. Mantri.

d) The First Custodian Fund (India) Ltd. is separately assessed to Income Tax and has its PAN No. AABCT2088 F. The First Custodian Fund (India) Ltd. is separately registered under the Shop & Establishment Act and has its Regn. No. AII18632.

The Noticee during the course of personal hearing, had also offered the deponent to the said affidavit for cross examination.

3) The Ld. Enquiry Officer in his Enquiry Report has relied heavily on the statements of Shri A.R Moorthy and Shri H. Ganesh. The Noticee would like to recapitulate the following sequence of events.

The Noticee, vide its letter dated 09.08.2003 acknowledged receipt of the relied upon documents referred to in letter dated 05.08.2003 and further submitted that, it would prepare its reply to the Show Cause Notice on the premise that no other documents, save and except those mentioned in the letter dated 05.08.2003, were being relied upon by SEBI. Copies of the aforesaid letters were annexed. It may therefore be seen that the said statements of Mr. A.R Moorthy and Mr. H. Ganesh did not form part of the documents that were being relied upon by the Ld. Enquiry Officer. It is further submitted that, it is a fact that the said statements form part of the documents forwarded by the Investigating Officer under cover of his letter dated 09.04.2003 It is pertinent to mention that there were 155 number of documents forwarded by the Investigating Officer under cover of letter dated 09.04.2003 Out of the said number of documents, the Enquiry Officer specified in his letter dated 05.08.2003 that only 5 documents would be relied upon. Since the said statements did not form part of the documents that were being relied upon by the Enquiry Officer, it would be against natural justice for the Enquiry Officer to thereafter, and that too after conclusion of the enquiry proceedings, seek reliance upon the said documents. It is respectfully submitted that, in view of the foregoing, no reliance on the said statements can be made and no inference, adverse or otherwise, can be drawn from the said statements as the same would be against natural justice.

In the said circumstances, it is once again reiterated that the said statements cannot be relied upon.

It is further submitted that the cross examination of Shri A.R Moorthy and Shri H. Ganesh are all the more necessary, since they are not only in total variance with the Affidavit of the Deponent who has offered himself for corss examination, but also contrary to the statements of Shri T.R Narayanan, Dy. Gen. Manager of Nedungadi Bank Ltd. (NBL). This is a well settled law and it has been held that “testimony of witness is not legal evidence unless it is subject to cross examination”.

1) Ramkumar v. King Emperor, AIR (1936) 12 Lucknow 553

2) Manganlal v. King Emperor, AIR 1946 Nagpur 173

3) Neminath Appayya v. Jamburao, AIR 1966 Mysore 154

4) Pyarelal Sakseria v. Devi Shankar Parashar, AIR 1994 MP 155

4) With regard to charge of non obtaining of client registration form broker stated that Enquiry Officer has cited only one solitary instance of non-obtaining Client Registration Form and that too of a Scheduled Bank listed on the Bombay Stock Exchange while recommending major penalty. It is respectfully submitted that the entire purpose and spirit of the Client Registration Form is to ascertain the bonafides and credit worthiness of an investor and protect the securities market from being assessed by fly-by-night operators. It is submitted that, as a result of the alleged failure to exercise due diligence, the client did not suffer, the Stock Exchange did not suffer and even the counter party did not suffer.

It was further contended that Enquiry Officer did not hold that the Noitcee was a habitual offender in not obtaining Client Registration Form hence the harsh penalty is not justified since there has been only one instance cited of not obtaining Client Registration Form and that too from a Schedule One Bank.

5) With regard to the finding that the broker had acted beyond the mandate by undertaking transactions other than arbitrage. Broker submitted that, there were no complaint made by the client NBL. Broker argued that Enquiry Officer his own accord has come to the conclusion that since this specific transaction was not squared up, the Noticee had acted beyond mandate.

6) Broker contended that Enquiry Officer has completely ignored the facts that in respect of all purchase of shares made for NBL, payment had been tendered by NBL and the shares transferred by the Noticee to NBL, accepted without demur. The converse held true in respect of shares sold by the Noticee on behalf of NBL. Broker argued that such action would not have been done by NBL if broker had acted beyond mandate as concluded by Enquiry Officer. Broker contended that, out of the 13 instances cited in the Show Cause Notice, Enquiry Officer absolved the broker of any wrong doings in 7 instances by stating that from the implied conduct of NBL of making the payment, evidences that the Noticee had not acted beyond mandate. The very same logic should have been applied to the other 6 instances but had not been done because, Shrikant G. Mantri was not able to produce the contracts evidencing the same. Broker submitted that, in these cases, the Noticee had purchased shares for NBL for which payments had been made and shares accepted by NBL and the broker cannot be held responsible in any manner whatsoever for the inaction of any other entity. Broker further submitted that Enquiry Officer in his Report has stated that it had been recorded in the Agenda paper to the Board that NBL used to take position in shares and the outstanding position in the shares at the end of each month have been reported and ratified by the Board. However, the Ld. Enquiry Officer has stated that since these 13 instances specified in the Show Cause Notice have not been specifically reported to the Board, it cannot be inferred that the same has been ratified by NBL's Board. The broker contended that Enquiry officer while coming to this conclusion ignored the fact that:

a) The 13 instances occurred during a particular month and the shares were not in stock as at the end of the month and as such, could not have been reported to the Board as stock of shares were held at the end of the month.

b) Vide Resolution No. 479/99-2000 the Board of NBL held a meeting on 9/10 December 1999 and passed the following Resolution:

“To note the trading transactions carried out in equity shares and the profit earned in the transactions during the months of September, October and November, 1999.

Noted the purchase and sale transactions in equity shares carried out during the months of September, October and November, 1999 and the profits carried in the trading transactions”.

Similarly, the purchase and sale transactions in December 1999, January 2000 for the period 1 Feb. 2000 to 18 March, 2000 have also been approved by the Board of NBL vide their Resolution no. 666/99-2000 dated 23/24th March 2000.

7) Enquiry officer also ignored the fact that in the Agenda papers, the Board meeting held on 23.03.2000 specifically recorded that “The entire transactions carried out during the current financial year with particulars of scripwise purchase, sales, profit and transactions are carried through the two brokers, brokerage paid, etc. will be placed before the Board in the month of April 2000.”

The said Agenda paper was annexed.

In view of the fact that the Board of NBL have by specific Resolutions approved all the share transactions done during the period Sept. 1999 to March 2000, it cannot be said that the Noticee has acted beyond mandate as erroneously concluded by the Ld. Enquiry Officer. In view of the same, major penalty of suspension is not justified.

8) With regard to finding that there was delay in making payment, broker reiterated their reply.

9) With regard to issue of fictitious contract notes broker submitted that there could be no such thing as Fictitious Contract Notes. The adjective Fictitious is superfluous and contended that there can either be a Contract or no Contract. Broker contended that the broker had not issued fictitious contract note dated 14.03.2001 and that it was only an offer made to NBL to sell 13,65,000 shares of Monnet Ispat and 29,500 shares of Ranbaxy Labs in order to regularise/comfort the Bank for the temporary overdrawing in the Noticee's cash credit account. Since the Bank declined the same, nothing thereafter survived and no gain or loss caused to either party or at all. This was strictly a private accommodation offer made by the Noticee to the Bank and no impact or effect on the market would have entailed.

10) With regard to lifting the corporate viel, broker contended that Enquiry Officer had given quite an erudite essay on Corporate Veil quoting passages from English Law, American Law and citing various Case Laws on the subject matter and submitted that the same hadno bearing or relevance in the instant case, especially as no wrong doings much less fraudulent action concluded/reported from such action.

4.0 Consideration of issues:

4.1 I have considered the investigation report, the report submitted by the Enquiry Officer, the replies and submissions of the said broker and other material on record. I find that the following issues arise for consideration:

i. Whether the said broker had acted beyond the mandate given to him by NBL.

ii. Whether the said broker had engaged in transactions other than arbitrage transactions.

iii. Whether the said broker had acted in concert with Harvest Deal Securities Limited and Shrikant G. Mantri

iv. Whether the said broker had failed to obtain client registration and to enter into broker client agreement with NBL.

v. Whether the said broker had delayed making payment to NBL.

vi. Whether the said broker had issued fictitious contract notes

vii. Other issues.

The above issues are dealt with as under:

1. Whether the said broker had acted beyond the mandate given to him by NBL.

1. I note that as per the minutes of the meeting of the Board of Directors of NBL held on 26.9.1999, the bank had approved arbitrage transactions in securities through 3 brokers including the said broker. However, I also note that the said brokers have executed transactions on behalf of the bank even prior to the mandate issued to them vide the Board meeting dated 26.9.1999

2. I note that he Enquiry Officer in his report has noted that in case these transactions had been done in an unauthorized manner, NBL would not have given an acknowledgement in the contract notes issued by them. Further, as noted by the Enquiry Officer, NBL, in its investment policy dated 25.9.1999 had noted that some brokers were allowed to make purchases and sale on an experimental basis. It further acknowledges that these experimental transactions were carried out through 3 stock brokers including the said broker.

3. In view of the above, I agree with the findings of the enquiry officer and hold that the said broker had not acted beyond the mandate given to him.

2. Whether the said broker had engaged in transactions other than arbitrage transactions.

1. I note that the specific transactions that were alleged to be other than arbitrage transactions are as under:

2. An examination of the transactions carried out by the said broker on behalf of NBL reveals that the sale and purchase are not simultaneous across exchanges for the same quantity on the same date.

3. In his reply the said broker has submitted that the enquiry officer has not even cited a single instance that he carried out which was other than arbitrage transactions. In this regard, during the course of hearing the said broker submitted that if indeed he had acted beyond the mandate given to him by NBL to enter into arbitrage transactions on their behalf, there would have been a complaint made by the Bank. The said broker has submitted that there is no such complaint made by NBL and the Enquiry Officer has on his own accord come to a conclusion that he had entered into transactions other than arbitrage transactions since certain transactions were not squared up.

4. I find that the transactions described in para 3.4.1 above were transactions other than arbitrage transactions. Arbitrage transactions take advantage of prevailing price differences between stock exchanges and so sale and purchase transactions that are not simultaneous across exchanges for the same quantity on the same date cannot be described as arbitrage transactions within the meaning of the term as contemplated in the Board meeting of NBL held on 26.6.1999 In view of the above, I find that the said brokers had entered into transactions that were not arbitrage transactions and had therefore had failed to faithfully execute the orders of their client viz. NBL. Therefore, I find that the said broker has violated Clause B (1) of the Code of Conduct for Stock Brokers that is laid down in Schedule II to the SEBI (Stock Brokers and Sub-Brokers) Regulations, 1992 (hereinafter referred to as “the broker regulations”)

3. Whether the said broker had acted in concert with Harvestdeal Securities Ltd. and Shrikant G. Mantri

1. I note that in the instant case, R.K Banthia along with his wife, held 8.08%; First Custodian Fund (India) Ltd. held 3.28% and Shrikant G. Mantri held 10.51% equity shares in NBL. Further, Shri Surinder K. Banthia, the brother of R.K Banthia is the Chairman of First Custodian Fund (India) Ltd. and Manish Banthia the son of R.K Banthia is a director. Shri Sushil Mantri, brother of Shrikant G. Mantri is the Executive Director of First Custodian Fund (India) Ltd. I also note that the First Custodian Fund (India) Ltd. Shrikant G Mantri and the said broker functioned out of the same premises and had common fax and telephone connections.

2. I also note that in his statement to SEBI on 30.09.3002, Shri H. Ganesh, Senior Manager of the Investment Cell of NBL had mentioned that:

“There was a blanket permission given by the Chairman and GM of NBL to Shri Banthia who was well known to them to decide and execute the transactions. To my knowledge, selection of securities, orders and the timing were decided by Shri Banthia. Mr. Banthia was the sole representative of all the 3 broking firms viz. HDSL, FCIL and Shrikant G Mantri for all these transactions of the bank… All the contracts/communications of these of these 3 brokers were delivered by a common messenger”.

3. In this regard, the said broker, in their reply have stated that the companies are not associated companies within the definition of S. 370(1B) of the Companies Act, 1956 and merely because there are common directors, it cannot be said that they are associated companies. The said broker has also submitted that Shrikant G Mantri is a sole proprietorship concern and that the shareholding of First Custodian Fund (India) Ltd. and the said broker are distinct. Further, the said broker is a closely held company. The said broker has also submitted that during the relevant period, none of the members of the Board of Directors of First Custodian Fund (India) Ltd. were nominees of the said broker. Therefore, the said broker had submitted that it cannot be said that the three brokers have acted in concert and upon the directions of RK Banthia.

4. I find that there is sufficient evidence to suggest that the three broker including the said broker have acted together in carrying out transactions on behalf of and with NBL. The fact that all the three share office space and even fax and telephone lines only reinforces this finding. The statement of Shri H. Ganesh, the Senior Manager of NBL corroborates the finding. In this regard, the said broker has submitted that the statement of Shri H. Ganesh should not be relied upon; this has been separately dealt with.

4.5 Whether the said broker had failed to obtain client registration and to enter into broker client agreement with NBL.

1. I note from the investigation report that the said broker did not obtain client registration forms and Broker client agreement duly filled in by NBL. In this regard, the said broker in their reply have submitted that the lapse was merely clerical in nature and that the purpose of taking the client registration form i.e to determine the credit worthiness is fulfilled since the client in this case was a Scheduled Commercial Bank. They further submitted that as a result of the alleged failure to exercise due diligence, neither the client nor the stock exchange nor the counter party has suffered any damage and since there was no deliberate defiance of the law, the penalty of suspension is harsh and disproportionate and hence not liable to be imposed.

2. I find that the said broker has admitted to the lapse of not obtaining the client registration form and entering into the broker-client agreement with NBL. I agree with the broker that there was no other incident of non obtaining of chart/registration form. Since this is a single isolated incident, I take a lenient view and hold that the said broker has not violated the directive of SEBI vide Circular No. SMDRP/Policy/Cir/5-97 dated 11.4.1997

2. Whether the said broker had delayed making payment to NBL.

1. I note that the said broker has delayed in making payments to NBL and that as on 31.3.2000, an amount of Rs. 2,97,410.00 was outstanding to the bank. Details of the delay in payment are as under:

2. I note that the said broker has submitted that, as could be seen only two instances of delay of 2 days and 25 days have been mentioned in the enquiry report. As regards the delay in Sr. no. 5 of 2 days, it is submitted that 8th January 2000 the pay-out date, was a Saturday and as such the time limit for payment to be effected was 12.01.000, the date on which the cheque had been issued. As such there is not delay. As regards the delay of 25 days in Sr. no. 6, it was submitted that the cheque for the same was issued on 12.01.000, the pay-out dated and NBL had deposited the same only on 08.02.2000, and as such, they Noticee cannot be held responsible or liable for the delay by NBL in depositing the said cheque.

3. I note from the above that admittedly said broker has delayed making payments to NBL and has therefore violated Clause B (1) of the Code of conduct for stock brokers laid down in Schedule II to the Broker Regulations which provides that a stock broker shall make prompt payments in respect of securities sold.

3. Whether the said broker had issued fictitious contract notes

1. It is alleged that the said broker had issued fictitious contract notes in respect of purchase of 13,65,000 shares of Monet Isspat and 29,500 shares of Ranbaxy Labs on 14.3.2001 In their reply before the Enquiry Officer, the said broker submitted that NBL had sent the said shares along with contract on an offer basis in order to regularize their overdraft account and that the transaction however did not materialize.

2. In their reply dated 4.2.2004, the said broker submitted that they had only made an offer to NBL to sell the aforementioned shares in order to regularize the temporary over drawing in their cash credit account. Since the bank declined the same, nothing survived thereafter and hence no loss or gain accrued to either party. They also submitted that the offer for sale given in the form of a contract note could be treated as only a venial defect and not a more serious violation/irregularity of issuing fictitious contract notes.

3. In the personal hearing and in the affidavit filed thereafter, the said broker has submitted that there can be no fictitious contract notes since there was no contract at all. The said broker also submitted that they had only made an offer to NBL to sell the aforementioned shares in order to regularize the temporary over drawing in their cash credit account. Since the bank declined the same, nothing survived thereafter and hence no loss or gain accrued to either party. They also submitted that the offer for sale given in the form of a contract note could be treated as only a venial defect and not a more serious violation/irregularity of issuing fictitious contract notes. The said broker also submitted that the Enquiry Officer has not attributed any malafides for the issuance of the said contract notes and hence lenient view may be taken of the matter.

4. I find that the said broker had indeed issued the contract note on 14.3.2001 and proposed to regularize the overdrawing in his cash credit account by sale of the aforementioned shares. However the Bank declined the offer.

5. In view of the above, I find that the said broker has issued fictitious contract notes and thereby violated Clauses A(1), (3) and (5) of the Code of Conduct for Stock Brokers and Regulation 6(a) and (d) of the SEBI (Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations, 1995.

4. Other issues.

1. Whether the show cause notice issued to the said broker was non est in law since it was not issued by either the Chairman or Member

1. In their reply dated 5.2.2004 and in the course of oral submissions and vide their letter dated 16.2.2004, the said broker has contended that Show Cause Notice under Regulation 13(2) of the Enquiry Regulations can be issued only by. The Chairman or Member of SEBI. They have submitted that since, in the instant case, the Show Cause Notice has been issued by the Division Chief, Integrated Surveillance Department and not by the Chairman or Member, the notice is bad.

2. In this regard, I note that although Regulation 13(2) of the Enquiry Regulations do provide that the Chairman or Member shall issue the show cause notice, as a measure of administrative convenience, the Board of SEBI, vide order dated 21.4.2003 had delegated the power to affix signature on show cause notices to officers of rank Deputy General Manager and above. I note that this is not a delegation of the power to issue a show cause notice to intermediaries, but rather a delegation of the procedural function of signing the show cause notice. Thus, while the show cause notice is signed by the Division Chief, the decision to issue the show cause notice having been taken by the me, the show cause notice is valid and there has not been any delegation of powers in violation of the principle of “Delegatus non potest Delegare”

2. Whether the request of the said broker for cross examination of Shri A.R Moorthy and H. Ramesh needs to be acceded to

1. It is contended by the said broker in their reply that the Enquiry Officer has placed great reliance on the statements of Shri A.R Moorthy and H. Ramesh, Former Chairman and Manager, Investment Cell of NBL respectively. They have also submitted that the said statements did not form part of the documents furnished to them by the Enquiry Officer and rather formed part of a separate proceeding pursuant to show cause notice dated 11.3.2003; reliance should not be placed on the same. They have also submitted that they were not given a reasonable opportunity to rebut the purported statements.

2. In this regard, I find that although the statements of Shri Moorthy and Shri Ganesh were not given to the said broker in the course of enquiry proceedings, it is an undeniable fact that they had notice of them. Further, although the said statements could not be rebutted by them before the Enquiry Officer, it was open to them to make suitable rebuttals before me. As for their request for cross examination of Shri Moorthy and Shri Ganesh, I find that the same is neither specifically provided for under the Enquiry Regulations nor do the facts of the case call for it and therefore, I decline the said request.

5. Order

6. In the light of the above, I find that besides violation of the Code of conduct, the said broker has indulged in grave irregularities including issuing fictitious contract notes and thereby violated the SEBI (Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations, 1995. Therefore, I find that the present case is a fit one for imposition of a major penalty. In this regard, I note that the enquiry officer, in his report has recommended that the certificate of registration granted to the said broker be suspended for a period of 12 months. I also note that the said broker has already been prohibited from dealing in securities for a period of 8 months vide the interim order dated 14.7.2003 In view of the above, I find that a suspension for a period of 12 months is appropriate in the facts of the matter.

7. In view of the above, I in exercise of powers conferred on me under Section 4(3) of the SEBI Act read with Regulation 13(4) of the Enquiry Regulations hereby suspend the certificate of registration bearing No. INB 230638130 granted to First Custodian Fund (India) Limited for a period of 12 months from 14.07.03 i.e the date on which the interim order was passed.