47. The Securities and Exchange Board of India – Business Environment

47

THE SECURITIES AND EXCHANGE BOARD OF INDIA

In this chapter, we study the Indian securities market before the SEBI Act, 1992, the objectives and functions of SEBI, its role in promoting corporate governance, its performance record, its role in the new era and finally SEBI’s shortcomings and suggestions for improvement. After reading this chapter, we will have a clear understanding of the functioning of the Indian capital market regulator.

One of the economic priorities of the government of independent India was to evolve a clear policy framework for the fast track industrialization of the country and to ensure that the scarce resources are properly channelled and directed. Private sector had a role to play, but only under the watchful eye of the state. Institutions were gradually built for this purpose. Before the establishment of the capital market regulator, the Securities and Exchange Board of India (SEBI), the Capital Issues (Control) Act (CICA), 1947 governed capital issues in India. The main objectives of this Act were (i) to ensure that investment in the private corporate sector does not violate priorities and objectives laid down in the Five Year Plans or flow into unproductive sectors; (ii) to promote the expansion of private corporate sector on sound lines in general, and further the growth of particular corporate enterprises having sound capital structure; and (iii) to distribute capital issues time-wise in such a manner that there is no overcrowding in a particular period. The Act was enacted to ensure sound capital structure for corporate enterprises, to promote rational and healthy expansion of joint stock companies in India and to protect the interests of the investing public from the fraudulent practices of fly-by-night operators. The authority for control of capital issues was the Controller of Capital Issues (CCI), according to the principles and policies laid down by the Central Government. However, the office of the CCI, which was functioning more like an extended arm of the government, controlled rather than guiding the orderly development of the capital market and became an anachronism in the new era of a liberalized economy.

The Narasimham Committee on the Reform of the Financial System in India recommended the abolition of the CCI. The committee in its report submitted in 1991 on the financial system argued that the capital market was tightly controlled by the government and there were a number of restrictions placed by the CCI on the operations of this market. The committee opined that this restrictive environment was neither in consonance of the new economic reforms nor favourable to the growth of the capital market. The committee strongly favoured substantial and speedy liberalization of the capital market by closing down the office of the CCI. It suggested that the SEBI, set up in 1988, should be entrusted with the task of a market regulator to see that the market is operated on the basis of well-laid principles and conventions. It was also recommended that SEBI should not become a controlling authority substituting the CCI. The Government of India accepted this recommendation, repealed the CICA and abolished the post of the CCI.

The significance of this step lies in the removal of bureaucratic hurdles in the way of capital issues. Earlier, In order to raise capital from the market, the companies were required to obtain consent from the CCI who decided the terms and conditions, the amount of capital to be raised and the pricing of public issues. With the abolition of the CCI, companies became free to issue capital and determine the issue prices based on market conditions. For this, however, they are expected to abide by guidelines prescribed by SEBI. In other words, SEBI has been empowered to control and regulate the new issue and old issues market, namely, the Stock Exchange. The following pages provide details of the objectives, powers, responsibilities, and success and failures of SEBI, India’s capital market regulator.

THE INDIAN SECURITIES MARKET BEFORE SEBI

Prior to the passing of the SEBI Act, the Indian securities market suffered from the following deficiencies:

  • Fragmented regulation; multiple and overlapping administration
  • Primary markets were not integrated with the country’s financial system
  • Poor disclosure norms prevailed and investors were not even supplied with prospectus and balance sheet
  • Investors found difficult to get refunds, get transfers and grievances addressed in time
  • No inspections of stock exchanges were undertaken by authorities
  • Stock exchanges were mostly run by brokers and the interests of the investors were not adequately taken care of
  • Merchant bankers and other intermediaries were unregulated
  • Capital adequacy norms were neither known nor enforced
  • Mutual funds were unregulated, causing often conflicts of interest in their structure
  • Poor disclosures by mutual funds; Net Asset Value (NAV) not published; no valuation norms were available to investors
  • Mutual funds run by private sector were not allowed
  • Takeovers regulated only through listing agreement between the stock exchange and the company concerned
  • Insider trading, fraudulent and unfair trade practices, etc. were common as they were not illegal.
THE SECURITIES AND EXCHANGE BOARD OF INDIA ACT, 1992

To address all these problems and issues found in the securities market in the absence of proper and appropriate legislation, the Securities and Exchange Board of India Act, 1992 was enacted by the Indian Parliament “to provide for the establishment of a Board to protect the interests of investors in securities and to promote the development of, and to regulate the securities market and for matters connected therewith or incidental thereto”.

It should be noted here that the SEBI existed as an organization even before the Act gave it a statutory status. “The SEBI was established on 12 April, 1988 through an administrative order but it became a statutory and really powerful organization only since 1992. The CICA was repealed and the office of CCI was abolished in 1992, and the SEBI was set up on 21 February, 1992 through an ordinance issued on 30 January, 1992”.1

On 4 April, 1992, the ordinance was replaced by the SEBI Act. Several powers enjoyed by the Securities Contracts (Regulation) Act and the Companies Act have been delegated to the SEBI to strengthen its hand as a capital market regulator. The SEBI now functions under the overall control and direction of the Ministry of Finance, Government of India.

OBJECTIVES AND FUNCTIONS

Section 11(1) of the Securities and Exchange Board of India Act, 1992 explains the powers and functions of SEBI. As per the Act, it shall be the duty of the Board to protect the interests of the investors in securities and to promote the development of, and to regulate the securities market by such measures as it thinks fit.

The statutory objectives of the SEBI as per the Act are

  1. Protection of investors’ interests in securities
  2. Promotion of the development of the securities market
  3. Regulation of the securities market
  4. Matters connected therewith and incidental thereto

To realize the above core objectives and to carry out its tasks, the Act spells out the functions of SEBI in greater details, as under:2

  1. Regulating the business in stock exchanges and any other securities markets
  2. Registering and regulating the working of stock brokers, sub-brokers, share transfer agents, bankers to an issue, trustees of trust deeds, registrars to an issue, merchant bankers, underwriters, portfolio managers, investment advisers and such other intermediaries who may be associated with securities markets in any manner
  3. Registering and regulating the working of the depositories, participants, custodians of securities, foreign institutional investors, credit rating agencies and such other intermediaries as the Board may, by notification, specify in this behalf
  4. Registering and regulating the working of venture capital funds and collective investment schemes including mutual funds
  5. Promoting and regulating self-regulatory organizations
  6. Prohibiting fraudulent and unfair trade practices relating to securities markets
  7. Promoting investors’ education and training of intermediaries of securities markets
  8. Prohibiting insider trading in securities3
  9. Regulating substantial acquisition of shares and takeover of companies
  10. Calling for information from, undertaking inspection, conducting inquiries and audits of the stock exchanges, mutual funds and other persons associated with the securities markets and intermediaries and self-regulatory organizations in the securities market
  11. Performing such functions and exercising such powers under the provisions of the Securities Contracts (Regulation) Act 1956 as may be delegated to it by the Central Government
  12. Levying fees or other charges
  13. Conducting research
  14. Calling from or furnishing to any such agencies, as may be specified by the Board, such information as may be considered necessary by it for the efficient discharge if its functions
  15. Performing such other functions as may be prescribed.

“SEBI has three functions rolled into one body quasi-legislative, quasi-judicial and quasi-executive. It drafts regulations in its legislative capacity, it conducts investigation and enforcement action in its executive function and it passes rulings and orders in its judicial capacity. Though this makes it very powerful, there is an appeals process to create accountability. There is a Securities Appellate Tribunal which is a three member tribunal”.4 A second appeal lies directly to the Supreme Court.

Powers

To carry out its responsibilities under the Act, the Board is clothed with the same powers as are vested in a Civil Court in respect of the following matters, namely:

  1. The discovery and production of books of account and other documents at such place and such time as may be specified by the Board
  2. Summoning and enforcing the attendance of persons and examining them on oath
  3. Inspection of any books, registers and other documents of stockbrokers, sub-brokers, and share transfer agents, etc.

Matters to be Disclosed by the Companies to the Board [Section 11A]

The Board may, for the protection of investors, specify by regulations,

  1. The matters relating to issue of capital, transfer of securities and other matters incidental thereto
  2. The manner in which such matters shall be disclosed by the companies.

Power to Issue Directions

Under section11B of the SEBI Act, the Board is empowered to issue directions to the following intermediaries:

  • Stock-brokers, sub-brokers, share transfer agent, banker to an issue, trustee of trust deed, registrar to an issue, merchant banker, underwriter, portfolio manager, investment adviser and such other intermediary who may be associated with securities market
  • Depository, depository participant, custodian of securities, foreign institutional investor, credit rating agency or any other intermediary associated with the securities market
  • Sponsors of venture capital funds, or collective investment schemes including mutual funds
  • And to any company with regard to matters to be disclosed by the companies as specified in section 11A.

Registration of Intermediaries

Different intermediaries mentioned above can commence functioning in their respective activities only after registration with the SEBI and complying with requirements as stated under specific regulations intended for each.

1. No stock-broker, sub-broker, share transfer agent, banker to an issue, trustee of trust deed, registrar to an issue, merchant banker, underwriter, portfolio manager, investment adviser, and such other intermediary who may be associated with securities market shall buy, sell or deal in securities except under and in accordance with the conditions of a certificate of regulations made under this Act.

(1A) No depository participant custodian of securities, foreign institutional investor, credit rating agency or any other intermediary associated with the securities market as the Board may, by notification in this behalf, specify, shall buy or sell or deal in securities except under and in accordance with the conditions of a certificate of registration obtained from the Board in accordance with the regulations made under this Act.

(1B) No persons shall sponsor or cause to be sponsored or carry on or cause to be carried on any venture capital funds or collective investment schemes including mutual funds unless he obtains a certificate of registration from the Board in accordance with the regulations.

SEBI has issued detailed rules and regulations to be adhered to by each of the intermediaries above specified.

Organization

Chapter II of the SEBI Act deals with the establishment, incorporation, administration and management of the Board of Directors, etc. the Act provides for the establishment of a statutory board comprising six members. The chairman and two members are appointed by the Central Government, one by the Reserve Bank and two members having experience of securities market are appointed by the Central Government.

SEBI’s activities are carried on four operational departments, viz. (i) Primary market department; (ii) Issue management and intermediaries department; (iii) Secondary market department and (iv) Institutional department, each of which is headed by an Executive Director. There are two other functional departments namely; (v) The Legal Department; and (vi) Investigation Department, both of which are also headed by Executive Directors.

Establishment of Securities Appellate Tribunals:   The SEBI Act also contained a provision for the establishment of an appellate authority to arbiter and exercise power in matters of disputes over SEBI’s decisions as a regulator. The Central Government shall by notification, establish one or more appellate tribunals to be known as the Securities Appellate Tribunal (SAT) to function as appellate authority and hear appeals.

Civil Court not to have Jurisdiction:   It is stipulated in the SEBI Act that under section 15Y that no civil court shall have jurisdiction to entertain any suit or proceeding in respect of any matter which an adjudicating officer appointed under this Act or a Securities Appellate Tribunal constituted under this Act is empowered by or under this Act to determine and no injunction taken or to be taken in pursuance of any power conferred by or under this Act. However, appeals against the decision of the Securities Appellate Tribunal can be preferred before a High Court.

Strengthening of SEBI

In January 1995, the Government of India promulgated an ordinance to amend SEBI Act, 1992 so as to arm the regulator with additional powers for ensuring the orderly development of the capital market and to enhance its ability to protect the interests of the investors. The following are the important features of this ordinance:

  1. To enable SEBI to respond speedily to market conditions and to reinforce its autonomy, it has been empowered to file complaints in courts and to notify its regulations without prior approval of the government.
  2. SEBI is now provided with regulatory powers over companies in the issuance of capital, the transfer of securities and other related matters.
  3. SEBI is now empowered to impose monetary penalties on capital market intermediaries and other participants for a listed range of violations. The amendment proposed to create adjudicating mechanism within SEBI for imposing penalties and also constituted a separate tribunal to deal with cases of appeal against orders of the adjudicating authority. Earlier, the SEBI Act provided for the suspension and cancellation of registration and for the prosecution of intermediaries, which led to the stoppage of business. The new system of monetary penalties constitutes an alternative mechanism for dealing with capital market violations.
  4. While investigating irregularities in the capital market, SEBI is now given the power to summon the attendance of and call for documents from all categories of market intermediaries, including persons from the securities market. Likewise, SEBI has now the power to issue directions to all intermediaries and persons connected with securities markets with a view to protecting the investors or secure the orderly development of the securities market.
  5. It was thought that SEBI has all necessary powers to control and regulate the securities market on the one side and effectively protect the interests of the shareholders on the other. However, the stock markets in India have gone through one of the worst and most prolonged crisis in their history, due to the inability of the market regulator to bring to book market violators.

The SEBI (Amendment) Bill, 2002

Notwithstanding the regulator’s best efforts, the stock market was plagued by price manipulations and insider trading. SEBI known for its low indictment rate of violators of its rules hardly penalized insider traders and was dubbed a toothless tiger. Unscrupulous players and fly-by-night operators abounded, manipulated the system and share prices with impunity, while the regulator watched helplessly from the sidelines. In its defence, SEBI has been pointing out that the law did not give it adequate powers and that the existing penalties (INR 5,000 to 500,000) were too meagre to deter violators. Taking cognisance of this constraint, the government introduced the Securities and Exchange Board of India (Amendment) Bill, 2002 in the Lok Sobha in November 2002. The Bill was passed by the Parliament on 2 December, 2002. It replaced the ordinance issued by the government on 29 October, 2002. The Bill made four key changes that gave SEBI extensive powers to regulate the market. The changes made under the amended Act were as under:

  1. Search and seizure powers: Earlier, a SEBI officer could only ask market players for specific documents, which allowed the latter to conceal incriminating documents. In the new Act, SEBI’s officers, armed with a search warrant from a judicial magistrate, can search the entity’s premises and even seize documents.
  2. Freeze bank accounts: SEBI can now impound cash proceeds and securities connected to any transaction it is investigating. It can also, with authorization from a judicial magistrate, freeze bank accounts for a duration of 1 month of any person or entity involved in any market violation.
  3. Greater monetary penalties: Earlier, the maximum fine that SEBI could impose on a violator was only INR 500,000. This limit has now been increased manifold in market manipulation or insider trading violations, the fine could go up to INR 250 million or three times the profits made by the entity concerned. For other violations such as non-disclosure, a fine up to INR 10 million could be levied on violators.
  4. More board strength: The strength of the SEBI’s board has been increased from six to nine of which three (excluding the Chairman) will have to be whole-time directors. Till the amendment of Act, the SEBI Chairman was the only whole-time director. The Securities Appellate Tribunal (SAT), the SEBI body that decides on appeals made by market intermediaries and companies against orders passed by the SEBI Chairman, has also been strengthened with an increase in number of members from one to three. The idea is to move from individual based to group-based decision making, thereby reducing the possibility of any error or bias.
SEBI’S ROLE IN PROMOTING CORPORATE GOVERNANCE

G. N. Bajpai, Chairman, Securities and Exchange Board of India, claimed in an international conference in 2003: “With the objective of improving market efficiency enhancing transparency, preventing unfair trade practices and bringing the Indian market up to international standards, a package of reforms consisting of measures to liberalise, regulate and develop the securities market was introduced in the 1990s. The practice of allocation of resources among different competing entities as well as its terms by a central authority was discontinued. The issuers complying with the eligibility criteria now have freedom to issue the securities at market-determined rates. The secondary market overcame the geographical barriers by moving to screen-based trading, which made trading system accessible to everybody anywhere in the Indian sub-continent. Trades enjoy counter-party guarantee. The trading cycle shortened to a day and trades are settled within 2 working days while all deferral products are banned. Physical security certificates have almost disappeared. A variety of derivatives are available. In fact, some reforms such as straight through processing in securities, T+2 rolling settlement, clearing corporation being the central counter party to all the trades on the exchanges, real time monitoring of brokers positions and margins, and automatic disabling of brokers’ terminals are singular to the Indian securities market. Indian disclosure and accounting standards are as modern, updated, potent and versatile as those of any other market. Today, the Indian securities market stands shoulder to shoulder with most developed markets in North America, Western Europe and Far East.” According to SEBI’s former Chairman: “the Securities and Exchange Board of India has been focusing on the following areas to improve corporate governance:

  1. Ensuring timely disclosure of relevant information
  2. Providing an efficient and effective market system
  3. Demonstrating reliable and effective enforcement
  4. Enabling the highest standards of governance
  1. Disclosure standards: SEBI Chairman, G. N. Bajpai claims quoting academicians and researchers that disclosure standard in the Indian regulatory jurisdiction are at par with the best in the world. According to him this is a feedback from several global organizations, both regulatory and market participants.

    SEBI has ensured that a company is required to make specified disclosures at the time of issue and make continuous disclosures as long as its securities are listed on exchanges. The standards for these disclosures including the content, medium and time of disclosures have been specified in the Companies Act, Disclosure and Investor Protection Guidelines, Listing Agreement Regulations relating to insider trading and takeover, etc. These disclosures are made through various documents such as prospectus, quarterly statements, annual reports, etc. and are disseminated through media, Web sites of the company and the exchanges, and through EDIFAR (Electronic Data Information Filing and Retrieval) System maintained by the regulator. These disclosures relate to financial performance, shareholding pattern, trading by insiders, substantial acquisitions, related party disclosures, audit qualifications, buyback details, corporate governance, actions taken against company, risk management, utilization of issue proceeds, remuneration of directors, etc. All listed companies and organizations associated with securities markets including the intermediaries, asset management companies, trustees of mutual funds, SROs, stock exchanges, clearing house/corporations, public financial institutions, professional firms such as auditors, accountancy firms, law firms, consultants, etc. assisting or advising listed companies are required to abide by the Code of Corporate Disclosure Practices specified in SEBI (Insider Trading) Regulations.

  2. Efficient and effective market system: In the opinion of the Chairman of SEBI, the Indian securities market has a large infrastructure to meet the demands of a sub-continental market. Presently, there are 24 stock exchanges and about 10,000 brokers, 15,000 sub-brokers, more than 10,000 listed companies, 500 foreign institutional investors, 400 depository participants, 150 merchant bankers, 40 mutual funds offering over 450 schemes and 20 million investors. Yet, there is only one regulator. Not only the numbers are gigantic but also the systems and infrastructure are equally Atlantean and sophisticated. All stock exchanges in India offer online, fully automated, nation-wide anonymous, order-driven screen-based trading system. It has a Comprehensive Risk Management System. The depositories legislation ensures free transferability of securities with speed, accuracy and security. The securities are transferred electronically in demat form. Further, Indian accounting standards follow International Accounting Standards (principle based) and are by and large aligned. In addition to creating an efficient trading platform and settlement mechanism, SEBI’s focus is substantially directed towards:
    1. Provision of timely availability of high quality price sensitive information to the market participants to enable them to take informed decision and ensure efficient price discovery.
    2. Maintenance of high quality of services and fair conduct for market participants. The regulations specify high standards to become market intermediaries and require them to abide by a code of conduct.
    3. Ensuring that the market is fair, transparent and safe so that issuers and investors are at ease to carry out transactions.
  3. Reliable and effective enforcement: SEBI aims at ensuring that no misconduct goes unnoticed or unpunished. It keeps an eye on the happenings in the market and identifies anything unusual or undesirable which may adversely affect the efficacy of the market. Every market participant, irrespective of his size and influence in the market or in the policy, is held accountable for his misdeeds. The proactive approach of the regulator in enforcement can be gauged from the fact that during the financial year 2002–03, SEBI passed 561 orders, out of which over 350 were punitive.
  4. Highest standards of governance: SEBI has avowed that its regulation and guidance of the country’s securities market would spell success in the area of corporate governance. The Kumar Mangalam Birla Committee of the Indian jurisdiction outlined a code of good corporate governance, which compared very well with the recommendations of the Cadbury Committee and the OECD codes. The code was operationalized by inserting a new clause (Clause 49) to the Listing Agreement (LA) and has been made applicable to all the listed companies in India in a phased manner. Following the implementation of the Birla Committee recommendations, substantial developments took place in the corporate world and securities market, which required revisit of the issue. The Narayana Murthy Committee has refined the corporate governance norms, which are proposed to be implemented through modification in the listing agreement. Government also appointed a few committees. Based on their recommendations, government is trying to provide statutory backup to corporate governance standards.

The initiatives for improvement in corporate governance, according to G. N. Bajpai, come mainly from three sources— market, regulator and legislature.

While the legislative initiative is directed towards bringing about amendments to the basic law, India’s Companies Act to include certain fundamental provisions related to corporate governance, dynamic aspects of corporate governance such as disclosures, accounting standards, etc. are being pursued through the regulatory initiatives by bringing about amendments to the Listing Agreement. Such an approach is aimed at because a comparatively more complicated and protracted process is involved in the amendments to legislation in a truly democratic society like India’s. The most important initiative comes from market forces and mechanisms, which encourage and insist on the management’s improving the quality of corporate governance. Indian market has formalized such forces in the form of a rating called ‘Corporate Governance and Value Creation Rating’, which according to SEBI Chairman is quite unique in the world and is sought after voluntarily by the companies.

PERFORMANCE RECORD

R. Rajagopalan in his book Directors and Corporate Governance makes the following observations on the role of SEBI: “The Securities and Exchange Board of India and its various committees should be complimented for many things happening in the capital market in India. Be it in the area of protection of small investors’ interests, or technology up gradation or development of securities market, SEBI has indeed been working with commensurate speed and efficiency in the last couple of years. There has, however, been a common perception that SEBI has not developed a cadre of regulatory personnel to effectively track violations: After the Harshad Mehta securities scam in the nineties which was blamed on a systemic failure, the system needed a thorough overhauling.”5 “However, nothing really happened. Later, Ketan Parikh made use of the loopholes in the system to his advantage. He was instrumental in rigging the prices of shares resulting in heavy losses to the investing public, which led to erosion of faith in the capital market. Over the years, quite a few companies raised money through IPOs and disappeared without a trace. It was not seen that the perpetrators of these frauds were promptly brought to book.”6

SEBI’S ROLE IN THE NEW ERA

In the changed environment of the Indian economy, when after more than four decades of heavy regulation and anaemic growth, the government is slowly opening the economy to market forces and promoting modification of financial institutions, SEBI has to play a proactive role as a capital market regulator. SEBI’s performance has to be judged in the context of its efficiency in this dynamic environment.

The SEBI has made progress in a number of areas:

  • Abolition of capital issues control and retaining the sole authority for new capital issues
  • Regulation and reform of the capital market by arming itself with necessary authority and powers
  • Regulating stock exchanges under Securities Contracts Regulation Act
  • Bringing all primary and secondary market intermediaries under the regulatory framework
  • Enforcing the companies to disclose all material facts and specific risk factors associated with projects while going in for public issues

The record of the SEBI, over the period, has indeed been encouraging. SEBI has sought to check and control unfair practices on the stock exchanges, acted against transgressing companies, brokers accused of rigging prices, and scrips showing large price movements. At the same time, SEBI has sought to reduce regulation, and instead to leave it largely to the players in the market.

The capital market is composed of two constituents: the primary market and the secondary market. While the primary market deals in with the issue of new stocks and shares, the secondary market deals in with the buying and selling of existing stocks and shares. SEBI, as a regulator of capital market, has to play a regulatory role in both these markets. With a view of improving practices and ensuring greater transparency in capital markets so as to have a healthy capital market development and promote corporate governance among companies, SEBI has taken several steps:

Primary Market Reforms

The primary capital market plays an important role in the overall functioning of securities market. Vibrancy of primary market, among other things, is a function of macro-economic factors, industrial output and demand. Over the years, Securities Exchange Board of India (SEBI), the market regulator, has taken several initiatives to improve the operational efficiency and transparency of the primary market, which provides investors with issues of high quality and for firms a market where they can raise resources in a cost-effective manner. However, despite these measures, the primary market remained lacklustre in recent years.

Bonds have been the primary instruments for the resource mobilization in the primary market followed by equity. Equity with premium compared to the previous year, more than doubled in 2002–03, while issues in the public sector were dominant during the year, compared to the issues in the private sector, which raised about 87 per cent in the previous year.

With regard to the primary market, the part of the capital market that concerns with the issues of new stocks and shares, the following major changes have been effected by SEBI:

  1. Relating to new issues: In case of new issues, SEBI has introduced various guidelines and regulatory measures for capital issues with the objective of strengthening standards of disclosures, and certain procedural norms for the issuers and intermediaries with a view of removing the inadequacies and systemic deficiencies in the issue procedures. Companies issuing capital in the primary market are now required to disclose all material facts and specific risk factors regarding the projects; they should also give information regarding the basis of calculation of premium. Companies are free to fix the premium. SEBI has also introduced a code of advertisement for public issues with a view of ensuring fair and truthful disclosures. The Prospectus should not contain statements that would mislead the investors. SEBI has also put in place a system of appointing its representatives to supervise the allotment process and to minimize malpractices in the allotment of over-subscribed issues. Prudential norms have also been laid down for right issues.
  2. Freedom to fix par value of shares: SEBI has dispensed with the requirement to issue shares with a fixed par value of INR 10 and INR 100 and has given the freedom to companies to determine the par value of shares issued by them. Companies with dematerialized shares have been allowed to alter the par value of a share indicated in the Memorandum and Articles of Association. The existing companies, which have issued shares at INR 10 and INR 100, can avail of this facility by consolidating or splitting their existing shares.
  3. Guidelines for tightening the entry norms: Guidelines for tightening the entry norms for companies accessing capital market were issued by SEBI on 16 April, 1996. Accordingly, a company should have a track record of paying dividend for a minimum 3 years out of the immediate preceding 5 years. If a manufacturing company does not have such a track record, it can access the public issue market subject to the condition that projects have been appraised by a public financial institution or a scheduled commercial bank and such appraising agency is also participating in the project fund.
  4. Relating to IPOs: To encourage Initial Public Offers (IPO), SEBI has let companies determine the par value of shares issued by them. SEBI has permitted issues of IPOs to go for “book building”, i.e., reserve and allot shares to individual investors. However, the issuer will have to disclose the price, the issue size and the number of securities to be offered to the public.
  5. Investor protection measures: On 15 June, 1998, SEBI advised investors to exercise a greater deal of caution while investing in plantation companies. At the same time, plantation companies and other collective investment schemes were directed to obtain credit rating from accredited agencies prior to the issue of advertisement.
  6. Cost reduction measures: To reduce the cost of issue, SEBI has made underwriting of issue optional, subject to the condition that if an issue was not underwritten and was not able to collect 90 per cent of the amount offered to the public, the entire amount collected should be refunded to the investors. The lead managers have to issue due diligence certificate, which has now been made part of the offer document.
  7. Relating to private placement market: Private placement market has become popular with issuers because of stringent entry and disclosure norms for public issues. Low cost of issuance, ease of structuring investments and saving of time lag in issuance has led to the popularity and rapid growth of private placement. Total resource mobilization through private placement market had more than trebled between 1995–96 and 1998–99.
  8. Banker to the issue under SEBI’s purview: The “Banker to the Issue” is now brought under the purview of SEBI for investor protection. The Unit Trust of India (UTI) has been brought under the regulatory jurisdiction of SEBI.
  9. Regulations on acquisitions and takeovers: SEBI has raised the minimum application size and also the proportion of each issue allowed for firm allotment to institutions such as mutual funds. SEBI has also introduced regulations governing substantial acquisition of shares and takeovers and lays down the conditions under which disclosures and mandatory public offers have to be made to shareholders.
  10. Merchant banking under SEBI’s jurisdiction: Merchant banking has been statutorily brought under the regulatory framework of SEBI. Merchant bankers are now to be authorized by SEBI and have to adopt the stipulated capital adequacy norms, abide by a code of conduct which stipulates a high degree of responsibility towards inspectors in respect of the pricing and premium fixation of issues. Merchant bankers will also have to adhere to provisions relating to disclosures or offer letters for issues.
  11. Permission to set up private mutual funds: The government has now permitted the setting up of private mutual funds. A few have already been set up. All mutual funds are allowed to apply for firm allotments in public issues. To improve the scope of investments by mutual funds, the latter are permitted to underwrite public issues. SEBI has relaxed the guidelines for investment in money market instruments. The market regulator has issued fresh guidelines for advertising by mutual funds.
  12. Making companies provide authentic information: SEBI has advised stock exchanges to amend the listing agreements to ensure that a listed company furnishes annual statement to the stock exchange showing the variations between financial projections and the projected utilization of funds in the offer documents and the actual utilization. This would enable shareholders to make comparisons between promises and performance of companies they invested in.
  13. Making companies comply with issue norms: In order to make companies exercise greater care and diligence for timely action in matters relating to the public issues of capital, SEBI has advised stock exchanges to collect from companies making public issues, a deposit of 1 per cent of the issue amount which could be forfeited in case of non-compliance of the provisions of the listing agreement and non-dispatch of refund orders and share certificates by registered post within the prescribed time.
  14. Scrutiny of offer documents: SEBI scrutinizes offer documents to ensure that the company in the offer document has made all disclosures. All the guidelines and regulatory measures of capital issues are meant to promote healthy and efficient functioning of the issue market.
  15. Access to international capital market: Since 1992, the government of India has permitted Indian companies to access international capital markets through Euro equity shares. Initially, the Euro-issue proceeds were to be utilized for approved end uses within a period of 1 year from the date of issue. Since there was continued accumulation of foreign exchange reserves with the Reserve Bank and there were long gestation periods of new investments, the government allowed the issuing companies to retain the Euro-issue proceeds abroad and repatriate them to the country only as and when expenditure for the approved end uses were incurred.

The government of India has also liberalized investment norms for Non-Resident Indians (NRIs) so that they and overseas corporate bodies can buy shares and debentures without prior permission of the Reserve Bank of India which has been the practice followed hitherto.

Secondary Market Reforms

In the matter of reform of the secondary market, a market that is engaged in the buying and selling of old stocks and shares, SEBI has initiated the following measures:

  1. Registration of intermediaries: SEBI has started the process of registration of intermediaries, such as the stockbrokers and sub-brokers under the provisions of the Securities and Exchange Board of India Act, 1992. The registration is on the basis of certain eligibility norms such as capital adequacy, infrastructure, etc. There has been much opposition and resistance to this step of SEBI. The capital market regulator has also made rules for making client–broker relationships more transparent, particularly with reference to the segregating client and broker accounts.
  2. Reconstitution of stock exchange governing bodies: To make the governing body (GB) of a stock exchange more broad based, SEBI has issued guidelines for its composition. According to these guidelines, the governing body of a stock exchange should have five elected members, of which not more than four should be nominated by the government or SEBI and three or fewer persons nominated as public representatives. During 1994–95, SEBI has reconstituted the governing bodies of stock exchanges.
  3. Measures to speed up settlements: SEBI has prohibited “renewal” of transactions in “B” group securities, so that transaction could be settled within 7 days.
  4. Regulations on insider trading: SEBI has notified regulations on insider trading under the provisions of SEBI Act. Such regulations are meant to protect and preserve the integrity of stock markets and, in the long run, to help inspire investor confidence in them. Despite these regulations, insider trading is rampant in our stock exchanges, and rigging the market and manipulating stock market price quotations are quite common. M.S. Shoes East Ltd. fiasco was an example of market rigging in March 2001; SEBI could do nothing about it though it was known that coteries of stockbrokers connived to hammer the Bombay Stock Exchange with rigging.
  5. Simplification of procedure: Since 1992, SEBI has constantly reviewed the traditional trading system in Indian stock exchanges. SEBI is simplifying procedures and achieving transparency in costs and prices at which customer orders are executed, speeding up clearing and settlement and finally transfer of shares in the names of buyers. SEBI is setting up depositories, which would immobilize securities and help eliminate paper work—this would give impetus to the growth of stock markets.
  6. Regulation of collective investment schemes: SEBI’s regulations for collective investment schemes (CIS) were notified on 15 October, 1999. CIS includes any scheme, or arrangement with respect to property of any description, which enables investors to participate in the scheme by way of subscription and to receive profits or income or produce arising from the management of such property. Under the SEBI Act and Regulations framed thereunder, no person can carry on any CIS unless he obtains a certificate of registration from SEBI. All existing CISs were required to apply for registration by 14 December, 1999.
  7. Regulation of foreign investments: The government has allowed foreign institutional investors (FIIs) such as pension funds, mutual funds, investment trusts, asset or portfolio management companies, etc. to invest in the Indian capital market provided they are registered with SEBI. Till January 1995, as many as 286 FIIs have been registered with SEBI. There were only 10 in January 1993. The cumulative net investment of FIIs has increased from USD 200 million in January 1993 to USD 3 billion in January 1995, reflecting the healthy impact of economic liberalization policy of the country and to some extent, the prevalence of low rates of interest abroad. The Government of India has now permitted joint venture stock broking companies to have non-Indian citizens on their boards of directors.
  8. Introduction of compulsory rolling settlement: In keeping with international best practice, SEBI has introduced compulsory rolling settlement of select scrips on 10 January, 2000. In June 2000, SEBI introduced derivatives trading. As far as Internet trading is concerned, SEBI has prescribed minimum technical standards to be enforced by stock exchanges for ensuring safety and security of transactions via the Internet. Rolling settlement has been extended to all scrips on all the stock exchanges with effect from 31 December, 2001. SEBI has further decided to shorten the rolling settlement cycle from present T + 5 to T + 3 for all listed securities from 1 April, 2002. The markets have now moved to T + 2 settlement from 1 April, 2003.
  9. One point access to investors: In July 2002, SEBI launched a centralized Internet-based filing system for listed companies. Called EDIFAR (Electronic Data Information Filing and Retrieval System), it requires companies to post disclosures as per the listing agreement with the stock exchange on the EDIFAR web site at the same time as they submit them to the exchange. The objective of EDIFAR is to provide investors simultaneous, one-point access to key information on all listed companies.

    Beginning July 2002, SEBI has been posting all orders passed by its Chairman against errant companies and market intermediaries on its web site. This provides useful information to investors.

  10. Introduction of takeover codes: With regard to Mergers and Acquisitions, SEBI has made several investor-friendly amendments to the takeover code in recent months. For example, preferential allotments were brought under the ambit of takeover code in September 2002. This would stop the practice of promoters making preferential allotments to avoid making an open offer to other shareholders. Acquirers also have to disclose their holding more frequently, which increases transparency.
  11. Trading of government securities through order-driven screen-based system: With a view to encourage wider participation of all classes of investors, trading in government securities through a nation-wide, anonymous, order-driven, screen-based trading system of the stock exchanges, in the same manner in which trading takes place in equities, was launched on 16 January, 2003, initially on Bombay Stock Exchange (BSE) National Stock Exchange (NSE) and Over the Counter Exchange of India (OTCEI.)
  12. Delisting guidelines: The market regulator has issued the SEBI (Delisting of Securities) Guidelines, 2003 on 17 February, 2003. The guidelines provide that companies can delist only by offering an exit route to remaining shareholders through a “reverse book building” process. This mechanism would leave the option of pricing to the investors and would be totally transparent to the market. Further, the promoter shall offer a floor price on the basis of average of previous 26-weeks high and low prices to investors.
  13. Central listing authority: To bring about the uniformity in scrutinizing listing applications across the stock exchanges and to strengthen the listing agreements, SEBI has, in April 2003, established the Central Listing Authority in Mumbai. Former Chief Justice of India, Justice M. N. Venkatachelliah, has been appointed as the President of the Authority. There shall be eight other members of the Authority, all of whom shall hold office for a period of 3 years. They shall discharge the following functions: (i) Processing the application made by corporates, mutual fund or collective investment schemes; and (ii) Making recommendations as to listing conditions.
  14. Derivative trading: The Central Government lifted the prohibition on forward trading in securities by a notification issued on 1 March, 2000 rescinding the 1969 notification. With the enabling enactment of the Securities Laws (Amendment) Act, 1999 in December 1999, trading in stock index futures started in June and July 2001. Single stock futures have also been introduced since 9 November, 2001.

    Interest rate derivatives trading was formalized on the stock exchanges with the launch of futures on 10-year zero yield coupon bond and zero-coupon notional T-Bill in June 2003.

  15. Demutualization and corporatization of regional stock exchanges: In 2004, the Securities Contract (Regulations) Act (SCRA) was amended through the promulgation of an ordinance to make corporatization and demutualization of stock exchanges mandatory. The ordinance has been issued on the basis of the recommendation of a group under the Chairmanship of Justice M. H. Kania, former Chief Justice of India, to advise the government on the issue of corporatization of stock exchanges. The amendment not only requires separation of ownership and trading rights, but also requires that the majority ownership rest with the public and those without any trading rights. Also through these conditions, the government has signalled a major shift in its earlier stand that stock exchanges should be self-regulating agencies of their members. It now desires that they should be externally regulated.

Traditionally, the regional stock exchanges (RSEs) functioned as mutual societies owned and operated by member brokers. A few of them have already switched to the corporate form. The new action plan now requires them to segregate ownership rights from trading rights. Professionals rather than broker representatives will conduct the affairs of the exchanges. Can the RSEs come together, as has been proposed many times, and transform themselves into country’s third exchange along with the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE)? That is a moot question, though few will question the need for increased competition that will give greater choice to investors.

However, in practice, it has always been difficult to form a third all India exchange. Despite the current moves to restructure the RSEs, there is no guarantee that a demutualized and corporate exchange by itself will be the recipe for survival and eventual success. On the contrary, in the opinion of experts, there are valid reasons to be sceptical. The RSEs, in their new form, will require a large number of stock market professionals who are a scarce commodity. Besides, an exchange operating for profit may sacrifice regulatory concerns for commercial gains.

At present stock exchanges in India are “mutual” and non-profit organizations enjoying tax exemption. The trading members are stockbrokers who also own, control and manage such exchanges for their mutual benefit. The ownership rights and trading rights are combined together in a membership card, which is not freely transferable.

On the other hand, a “demutual” exchange is one in which three distinct sets of people own the exchange, manage it and use its services. The three stakeholders are shareholders, brokers and investing public. The management is vested in a board of directors, assisted by a professional team. A demutualized exchange is generally a for-profit organization and a tax-paying entity. The ownership rights are freely transferable and there is no membership card.

A typical mutual exchange managed by broker’s representatives is not an ideal model for an enlightened self-regulatory organization. In this regard, a demutualized framework is expected to have a balanced approach without the inherent conflict of interest. It can generate greater management accountability. In a competitive environment, stock exchanges require funds. In the matter of raising funds, mutualized organizations suffer from their own limitations, whereas a demutualized set up can tap capital markets. A publicly held organization is in a position to ensure greater transparency in dealings, accountability and market discipline and is amenable to changes.

However, a demutualized and corporate form of stock exchange is not an unmixed blessing either. According to C. R. L. Narasimhan of The Hindu, they have the following disadvantages:7

First, it is not as though the new governance structure will automatically be free from pitfalls and there may arise a different conflict of interest. The new-look demutualized exchange operating on profit considerations may opt for a course that may conflict with the regulatory role expected of it.

Second (although, unlikely to happen immediately in India) a corporate stock exchange may be listing its shares on an exchange possibly with its own self.

Third, while a demutualized structure segregates the different roles of owner’s controllers and traders, it is still necessary it invite eminent people on its board. That is to ensure that the exchanges also take care of public interest and not merely ensure their commercial character.

Fourth, the demutualized exchanges share capital will be subscribed for by different investors including the trading members. It may become necessary to prescribe a ceiling on voting powers somewhat akin to what obtains today in banking regulation and law.

This, of course, is a handicap that has to be overcome by anybody concerned with capital market.

Fifth, an amendment to the Securities Contracts Regulation Act is on the cards; other legal changes/concessions are also necessary before demutualization takes place.

Last, as in many other areas of the capital market, it has been easy to identify what is wrong with the existing system of stock exchange governance. It has been only slightly more difficult to suggest an alternative system, in this case the demutualized exchange. It is also likely that the government will push for a speedy transition to the new mode of governance. However, even if the board objectives are achieved, it is likely that the perception of the exchange may not improve dramatically over the short term.

SHORTCOMINGS

Though SEBI has come a long way in acquiring more powers and wielding great authority in regulating the Indian capital market, it also suffers from a number of shortcomings, which are described below:

  1. Lack of adequate required power: While creating SEBI, the Government of India seems to have been influenced by regulatory measures adopted in the USA to guide the country’s securities market into orderly development. The counterpart of SEBI in the USA is the Securities and Exchange Commission (SEC). However, SEC is clothed with more penal powers to discipline recalcitrant traders in the market. To make SEBI perform and act like SEC, the Government of India should have provided it with powers to penalize and debar offenders. The Indian government should also consider granting powers for suo moto action on any matter concerning the capital market. If SEBI is an intrinsic part of the process of economic structuring, as it is made out to be, then there is every reason to stress that it should be empowered to play an active role in the capital market.
  2. Buckles under pressure: Even while analysts bemoan SEBIs lack of empowerment to wield any power with authority in bringing to book wrongdoers, it is a moot point whether the organization is really interested in exercising its existing authority. It seems to buckle under pressure when there is every reason to be firm. The M.S. Shoes East Ltd fiasco in which SEBI remained a moot spectator is a case in point. A recent (04 October) revision of Clause 49 of the listing agreement (LA) is another point in question. Bowing to intense pressure from corporate and industry chambers against its earlier mandatory requirement with regard to independent directors and whistle-blower policy, the market regulator has now considerably diluted this clause by issuing a master circular which supersedes all earlier ones. Earlier, as part of the mandatory requirement under Clause 49 of LA, SEBI had asserted that independent directors might have tenure, not exceeding in the aggregate, for a period of 9 years on the board of a company. Had SEBI insisted on the independent directors issue which was an essential ingredient of promoting better governance practices among Indian corporates, many companies would have been forced to remove passive directors appointed by them and bring in new faces to the board.

    Likewise, another mandatory requirement for the corporates was to have the whistle-blower policy. SEBI’s earlier circular had provided for a whistle-blower policy through which a company might establish a mechanism for employees to report to the management concerns about unethical behaviours, actual or suspected fraud, or violation of the company’s code of conduct or ethics policy. This mechanism could also provide for direct access to the Chairman of the Audit Committee in exceptional cases. Once established, the existence of the mechanism may be appropriately communicated within the organization. The provision of having a whistle-blower policy also has now been made a non-mandatory requirement. In this context, SEBI watchers argue: “Its sad that SEBI buckled under pressure from the intense lobbying by corporates. Some of the promoters are against the whistle-blower policy. This doesn’t suit their working style.”8 Such fickle-minded approach on the part of the regulator not only brings to the fore the SEBI’s inability to enforce well-intentioned regulations evolved out of considerable experience, thought, and deliberation, but it also is not believed to promote corporate governance practices with any degree of commitment to the cause.

  3. The legacy of Nehruvian socialism dies hard: For most of the problems SEBI faces, and with its current positioning and dispensation, it is unable to find solutions to, are part of the legacy of Nehruvian Socialism. A regulatory framework that works like an appendage or an extended arm of a government department in a free and a fiercely competitive environment is bound to face serious problems.
  4. Mammoth size of the market and inefficient handling: Regulation of the Indian capital market poses a number of problems. The value of transaction is very large and its close day-to-day supervision is impossible. The original conception embodied in the Securities Contracts (Regulation) Act, was that stock exchanges were self-governing associations of brokers, which would be given a local monopoly of the city in which they were situated in return for providing public services of a certain minimum standard. The standard was to be defined by the rules and practices of the stock exchange, and regulated by instructions from the government (i.e., the Finance Ministry). In practice, however, this model of regulation had worked very badly, and the government had been quite unable to improve its working. The standard practice of the Controller of Capital Issues in respect of these shortcomings was to issue instructions to the stock exchange, but to do nothing further to ensure compliance, and consequently compliance was minimal. SEBI, after the abolition of the office of the Controller of Capital Issues, has taken over supervision of stock exchanges, and has not brought any new fresh initiatives to its job as a capital market regulator.

    As a result, SEBI’s initiatives to regulate stock exchange too have been ineffectual; they were involved in considerable wrangles without significantly improving the working of the stock exchange. This is because SEBI’s approach is as bureaucratic as its predecessor. Both are of the same type; they involve rule making without much thought of rationale or consequences.

  5. Inefficient standard regulatory model: The standard model on which SEBI operates is that of the country’s central bank, namely the Reserve Bank of India (RBI), which is similar to that of many regulatory authorities abroad including the Bank of England and the Federal Deposit Insurance Corporation and the Securities Exchange Commission of the USA. For every agent in the capital market, SEBI lays down a number of dos and don’ts of various degrees of seriousness. It prescribes two degrees of penalty: suspension and cancellation of registration. To discover delinquency, SEBI requires that the agent maintain certain records and reserves the right to inspect the records, either after giving notice or in a simple raid. This model of regulation has actually been seen to work very badly in the case of banks; they have been routinely inspected by RBI for decades, and have steadily deteriorated in spite of it. SEBI’s inspection may work even less well, for SEBI cannot afford the vast labour force RBI has acquired over time.
  6. SEBI should identify delinquents speedily and penalize them: Further, no thought has been given in or outside SEBI about the effectiveness of regulation, which depends on the speed and certainty with which delinquencies are discovered and punished, and the matching of the severity of the crime and the degree of punishment. SEBI should distinguish between substantial delinquencies, e.g., fraud, insider trading delays, or failure to address customers’ complaints, and procedural deficiencies, e.g., failure to keep account books in particular forms. It should concern itself only with the first, and should not spend too much of its time and efforts on the second. It should spend a great deal of energy on complaints to discover delinquencies; and it should take much more frequent and quicker action against such delinquencies. It should employ a broader range of graduated penalties instead of just suspension and cancellation of registration; in particular, it should more frequently use heavy financial penalties commensurate with the crime.
  7. Problems that SEBI has not tackled: While the capital market reforms are impressive, there are still areas that present major problems. The market has still not recovered from its skittishness about IPOs. The debt market presents the biggest problems. While there is an active debt market, the longest maturities are less than 7 years. Consequently, many large Indian companies look to foreign capital markets for longer- term debt and equity. On the domestic debt side, the lacks of a debt yield curve, and a stamp tax on debt transactions have prevented a secondary-debt market from developing. Finally, the fact that pension funds and banks cannot invest freely in private sector debt or equity eliminates major demand from the market.
  8. There is a long way to go: Indian capital market institutions are still not completely up to world standards. Settlement of stock transactions takes place 5 days after agreement while the international standard is for settlement by the third day. The use of a securities depository has not been fully adopted. The regulators have also held back the creation of specialized products, such as index futures and other derivatives that can add liquidity to the market.

Critics of SEBI’s role and the way it has been functioning point out that India’s capital markets so far are neither sufficiently mature, nor do they guarantee sufficient levels of investor protection to constitute an effective governance mechanisms as they do in Anglo-American countries. Besides, unlike the US Securities and Exchange Commission (SEC), SEBI does not have direct oversight over the auditing and accounting profession. SEBI has left it to the Institute of Chartered Accountants of India to set and monitor standards closer to international norms. This dichotomy in authority in enforcing auditing and accounting standards so essential for promoting corporate governance also make SEBI as a less powerful market regulator vis-à-vis SEC of United States.

The Dhanuka Committee

The Dhanuka Committee was appointed to examine all current capital market regulations and to suggest amendments to them. In its report, the Committee recommended that SEBI’s powers be enlarged to enable it to be a effective market regulator. It has recommended the following:

  • All provisions related to listed companies referring to capital market and insurance or dealing in securities wherever found in Companies Act are administered by SEBI.
  • SEBI should be the sole authority for framing regulations for all matters related to such issues.
  • SEBI should be authorized to frame regulations relating to transfer of securities and must be vested with powers of investigation and enforcement.
  • The scope of powers and functions of the SEBI board be enlarged and a new definition of issues be drafted because the definition under the Companies Act is far too limited as all issuers are not companies but other forms of legal entities which currently do not come under its purview.

Suggestions for SEBI’s Improvement

In the light of recommendations of various committees and criticisms of analysts of capital market, a number of suggestions can be made to improve SEBI’s performance in future.

SEBI need be vested with more powers; among these we may mention the following important ones:

  • To effectively monitor the working of stock exchanges
  • To insist on companies for the supply of extensive information on a regular basis
  • To penalize members of stock exchanges who were found to violate securities laws
  • To debar the offenders from any activity in the stock market and impose civil penalties on them and initiate criminal proceedings
  • To make rules about the manipulative practices
  • To move to court for checking insider trading
  • To prosecute a company and its directors suo moto, even without receiving complaints by an aggrieved investor in respect of supplying inadequate, incomplete and incorrect information.

To make SEBI perform and act like the Securities Exchange Commission of USA, the government should provide it with more powers to penalize and debar the offenders. Further, the government should also consider granting powers for suo moto action on any matter connected with the capital market. Thus, if the SEBI is to be successful in its role as a regulator, it needs to have more powers to prosecute the errant members of the system. If every announcement could be taken to court and eventually changed, there is no case for setting up of a separate regulatory body like SEBI. However, the consolation is that things are changing albeit slowly. Critics also have to appreciate the fact that in a developing economy such as ours where almost all economic institutions are nascent or just evolving and in transition, immediate and appropriate responses to fast-changing and dynamic, economic and commercial situations—good or bad for the over all development of the economy—may not be forthcoming in a measure that is available in mature and developed economies. This is exactly the crux of the problem that developing economies face and that is one of the reasons why they are poor and impoverished. It may take some more time and efforts for them to catch up with more efficient and mature institutions of developed countries. The deficiencies of SEBI as a capital market regulator have to be understood and appreciated in such a context.

SUMMARY
  • The Securities and Exchange Board of India Act, 1992 was enacted by the Indian Parliament with the following objectives: (i) Protection of investors’ interests in securities; (ii) Promotion of the development of the securities market; (iii) Regulation of the securities market and (iv) Matters connected therewith and incidental thereto. To realize the above core objectives and to carry out its tasks, the Act spells out the functions of SEBI in greater details: (a) Regulating the business in stock exchanges and other securities markets; (b) Registering and regulating stock brokers, sub-brokers, share transfer agents, bankers to an issue, trustees of trust deeds, registrars to an issue, merchant bankers, underwriters, portfolio managers, investment advisers such other intermediaries; (ba)registering and regulating depositories, participants, custodians of securities, foreign institutional investors, credit rating; (c) Registering and regulating venture capital funds and collective investment schemes including mutual funds; (d) Promoting and regulating self-regulatory organizations; (e) Prohibiting fraudulent and unfair trade practices relating to securities markets; (f) Promoting investors’ education and training of intermediaries of securities markets; (g) Prohibiting insider trading in securities; (h) Regulating substantial acquisition of shares and takeover of companies; (i) Calling for information from, undertaking inspection, conducting inquiries and audits of the stock exchanges, mutual funds and other persons associated with the securities markets and intermediaries and self-regulatory organizations in the securities market; (j) Performing such functions and exercising such powers under the provisions of the Act; (k) Levying fees or other charges; (l) Conducting research; (m) Calling from or furnishing to any such agencies, as may be specified by the Board, such information as may be considered by it for the efficient discharge if its functions and (n) Performing such other functions as may be prescribed.
  • To carry out its responsibilities under the Act, the Board is clothed with the same powers as are vested in a Civil Court. The SEBI Act also contained a provision for the establishment of an appellate authority to arbiter and exercise power in matters of disputes over SEBI’s decisions as a regulator.
  • The Central Government shall by notification, establish one or more Appellate Tribunals to be known as the Securities Appellate Tribunal (SAT) to function as Appellate Authority and hear appeals. It is stipulated in the SEBI Act that under Section 15Y that no Civil Court shall have jurisdiction to entertain any suit or proceeding in respect of any matter which an adjudicating officer appointed under this Act or a SAT constituted under this Act. However, appeals against the decision of the SAT can be preferred before a High Court. In January 1995, the Government of India promulgated an Ordinance to amend SEBI Act, 1992 for the orderly development of the capital market and to enhance its ability to protect the interests of the investors. The important features of this Ordinance are: (i) To enable SEBI to respond speedily to market conditions and to reinforce its autonomy; (ii) SEBI is provided with regulatory powers over companies in the issuance of capital, the transfer of securities and other related matters; (iii) SEBI is empowered to impose monetary penalties on capital market intermediaries and other participants for a listed range of violations; (iv) While investigating irregularities in the capital market, SEBI is given the power to summon the attendance of and call for documents from all categories of market intermediaries, including persons from the securities market.
  • Notwithstanding the regulator’s best efforts, the stock market has been plagued by price manipulations and insider trading. The government introduced the Securities and Exchange Board of India (Amendment) Bill, 2002 in the Lok Sobha in November 2002. The Bill made four key changes that gave SEBI extensive powers to regulate the market. The changes made under the amended Act were (i) search and seizure powers; (iii) power to freeze bank accounts; (iii) impose greater monetary penalties and (iv) more board strength.
  • The SEBI has made progress in a number of areas such as: (i) Abolition of capital issues control and retaining the sole authority for new capital issues; (ii) Regulation and reform of the capital market by arming itself with necessary authority and powers;(iii) Regulating stock exchanges under Securities Contracts Regulation Act; (iv) Bringing all primary and secondary market intermediaries under the regulatory framework and (v) Enforcing the companies to disclose all material facts and specific risk factors associated with projects while going in for public issues.
  • With regard to the primary market, the following major changes have been effected by SEBI: (i) SEBI has introduced various guidelines and regulatory measures relating to new issues; (ii) Freedom to fix par value of Shares, SEBI has dispensed with the requirement to issue shares; (iii) Guidelines for tightening the entry norms; (iv) To encourage Initial Public Offers (IPO), SEBI has let companies determine the par value of shares issued by them; (v) Investor Protection Measures: On 15 June, 1998, SEBI advised investors to exercise a greater deal of caution while investing in plantation companies; (vi) To reduce the cost of issue, SEBI has made underwriting of issue optional; (vii) Private placement market has become popular with issuers because of stringent entry and disclosure norms for public issues; (viii) The “Banker to the Issue” is now brought under the purview of SEBI to guarantee investor protection; UTI has been brought under the regulatory jurisdiction of SEBI; (ix) SEBI has raised the minimum application size and also the proportion of each issue allowed for firm allotment to institutions such as mutual funds; (x) Merchant banking has been statutorily brought under the regulatory framework of SEBI; (xi) The government has permitted the setting up of private mutual funds. SEBI has relaxed the guidelines for investment in money market instruments; (xii) SEBI has advised stock exchanges to amend the listing agreements to ensure that a listed company furnishes annual statement to the stock exchange showing the variations between financial projections and the projected utilization of funds in the offer documents and the actual utilization; (xiii) In order to make companies exercise greater care and diligence for timely action in matters relating to the public issues of capital; (xiv) SEBI scrutinizes offer documents to ensure that the company in the offer document has made all disclosures; and (xv) Access to International Capital Market: Since 1992, the government of India has permitted Indian companies to access international capital markets through Euro equity shares.
  • In the matter of reform of the secondary market; SEBI has initiated the following measures: (i) It has started the process of registration of intermediaries; (ii) To make the governing body of a stock exchange more broad based, SEBI has issued Guidelines for its composition; (iii) SEBI has prohibited “renewal” of transactions in ‘B’ group securities, so that transaction could be settled within 7 days; (iv) SEBI has notified regulations on insider trading under the provisions of SEBI Act; (v) Since 1992, SEBI has constantly reviewed the traditional trading system in Indian stock exchanges; (vi) SEBI’s regulations for collective investment schemes (CIS) were notified on 15 October, 1999; (vii) The government has allowed foreign institutional investors (FIIs) such as pension funds, mutual funds, investment trusts, asset or portfolio management companies, etc. to invest in the Indian capital market provided they are registered with SEBI; (viii) In keeping with international best practice, SEBI has introduced compulsory rolling settlement of select scrips on 10 January, 2000; (ix) In July 2002, SEBI launched a centralized Internet-based filing system for listed companies. Called EDIFAR (Electronic Data Information Filing and Retrieval System), it requires companies to post disclosures as per the listing agreement with the stock exchange on the EDIFAR web site; (x) With regard to Mergers and Acquisitions, SEBI has made several investor-friendly amendments to the takeover code in recent months; (xi) With a view to encourage wider participation of all classes of investors, trading in government securities through a nation-wide, anonymous, order-driven, screen-based trading system of the stock exchanges was launched; (xii) The market regulator has issued the SEBI (Delisting of Securities) Guidelines, 2003 on 17 February, 2003. The Guidelines provide that companies can delist from stock exchanges only by offering an exit route to remaining shareholders through a “reverse book building” process; (xiii) To bring about the uniformity in scrutinizing listing applications across the stock exchanges and to strengthen the listing agreements, SEBI has, in April 2003, established the Central Listing Authority in Mumbai; (xiv) The Central Government lifted the prohibition on forward trading in securities by a notification issued on 1 March, 2000 rescinding the 1969 notification and (xv) In 2004, the Securities Contract (Regulations) Act (SCRA) was amended through the promulgation of an ordinance to make corporatization and demutualization of stock exchanges mandatory.
  • SEBI’s shortcomings: (i) Lack of adequate required power; (ii) Buckles under pressure in matters concerning whistle blowing; (iii) The legacy of Nehruvian socialism dies hard; (iv) Mammoth size of the market and inefficient handling; (v) Inefficient standard regulatory model; (vi) SEBI should identify delinquents speedily and penalize them; (vii) Problems are galore that SEBI has not tackled; (viii) There is a long way to go for SEBI to discipline the market.
  • To improve SEBI’s performance, it needs to be vested with more powers; the important ones being: (i) To monitor effectively the working of stock exchanges; (ii) To insist on companies for the supply of extensive information on a regular basis; (iii) To penalize members of stock exchanges who were found to violate securities laws; (iv) To debar the offenders from any activity in the stock market and impose on them civil penalties and initiate criminal proceedings; (v) To make rules about the manipulative practices; (vi) To move to court for checking insider trading; and (vii) To prosecute a company and its directors suo moto, even without receiving complaints by an aggrieved investor in respect of supplying inadequate, incomplete and incorrect information.
KEY WORDS
corporatization demutualization depositories
disclosure standards EDIFAR effective enforcement
intermediaries primary market SAT
search and seizure powers SEBI secondary market
statutory objectives    
DISCUSSION QUESTIONS
  1. Explain in detail the SEBI guidelines for primary market.
  2. Explain the powers and functions of SEBI.
  3. How does SEBI protect the interests of investors?
  4. Why did the Government of India allow SEBI to supersede the Controller of Capital Issues? From the hindsight viewpoint, was it justified in doing so?
  5. There is considerable criticism in the financial sector that SEBI is not capable of regulating the capital market. What reasons do they adduce for such criticism? What is your personal opinion on this issue?
SUGGESTED READINGS

Economic Survey for the relevant years.

Fernando, A. C. Corporate Governance, Principles, Practices and Polices. New Delhi: Pearson Education, 2008.

Gupta, L. C. Stock Exchange Trading in India: An Agenda for Reform. New Delhi: Society for Capital Market Research & Development, 1992.

Narasimham Committee (ii). Report of the Committee on the Financial System (1991), Mumbai: Reserve Bank of India, November 1991.

Reserve Bank of India, Report on Currency and Finance (1998–99). Vol. 1, Chapter 8.

Shleifer, A. and R. Vishney. “A Survey of Corporate Governance”, Journal of Finance, 52(2) (1997): 737–83.