Securities and Exchange Board of India v. Terrascope Ventures Ltd. & Ors.

What happened

By notice of 3 September 2012 for the EoGM, Moryo Industries Limited (now Terrascope Ventures) proposed to allot up to 74,50,000 shares preferentially to 49 non-promoters for capital expenditure and acquisitions, long-term working capital, marketing, offices abroad and other approved corporate purposes. A special resolution of 1 October 2012 followed, and between 16 October and 8 November 2012 shares were allotted to 42 entities raising Rs. 15,87,50,000/-. SEBI said that from 17 October 2012 the funds were put into shares of other companies and loans without agreements to entities linked to a group promoter. The Whole Time Member passed an ad interim order of 4 December 2014 restraining the company and directors from the market, confirmed on 22 August 2016, and an order of 19 March 2019 imposing no further penalty since they had been restrained for over four years. The company amended its Memorandum on 12 March 2014 and shareholders passed a ratification resolution on 29 September 2017. Following a show cause notice of 27 April 2018, the Adjudicating Officer on 29 April 2020 held violations of Regulations 3(a) to (d), 4(1) and 4(2)(f), (k) and (r) and section 21 of the Securities Contracts (Regulation) Act with the listing agreement. The SAT by its order of 2 June 2022 held that ratification made the acts valid. The respondents did not appear and the Court appointed Mr. Mahfooz A. Nazki as amicus curiae.

Questions before the court

• Can shareholders retrospectively ratify the diversion of preferential allotment proceeds, and could the Adjudicating Officer impose a penalty after the Whole Time Member's order?

Why the court ruled this way

The objects stated in the EoGM notice are mandated by Regulation 73 of the ICDR Regulations; the funds were admittedly used for share investments and loans within days, which the company's market conditions plea did not explain (paragraphs 33 to 38, 50, 51). The definition of fraud in the PFUTP Regulations is broad and does not require deceit, as SEBI v. Kanaiyalal Baldevbhai Patel and SEBI v. Kishore R. Ajmera show, and clause 43 of the listing agreement, section 21 and section 23E of the Securities Contracts Act and later Regulation 32 of the LODR Regulations show how important the stated objects are (paragraphs 39 to 49). Section 27 of the Companies Act, 2013 applies to a prospectus and not to a private placement (section 42(8)) and section 62(1)(c) does not help; even Rule 7 of the Prospectus and Allotment Rules requires the unutilised amount and a postal ballot, whereas here the whole amount had already been spent (paragraphs 53 to 57). SEBI's regulations have a public law dimension and rights of several stakeholders; an illegality or ultra vires act cannot be ratified, as Lachoo Mal v. Radhey Shyam, Government of Andhra Pradesh v. K. Brahmanandam, and Dr. A. Lakshmanaswami Mudaliar v. LIC show, and the memorandum amendment and the ratification of 2017 came after the diversion (paragraphs 58 to 66). Before the Finance Act, 2018 amendment effective 8 March 2019, the Whole Time Member could only restrain market access and order disgorgement, and the penalty under section 15HA was for the Adjudicating Officer under section 15-I, so Ram Kishori Gupta (finality of the earlier order) and Nirmal N. Kotecha do not apply, and there was no disproportion (paragraphs 67 to 78).

Controlling point

The diversion violated the PFUTP Regulations and the listing agreement, ratification was of no effect, and the Adjudicating Officer's penalties were valid.

Order and next steps

The Securities Appellate Tribunal's order was set aside, the Adjudicating Officer's orders of 29 April 2020 restored, and the Court recorded its appreciation of the amicus.

Practical implications

A listed company raising funds by preferential allotment must use them for the objects stated in the EoGM notice or report any deviation as required, and cannot rely on a later special resolution or amendment of its objects clause to excuse a diversion.

Limits of this ruling

• The Court noted that the Nirmal N. Kotecha appeal is pending and expressed no view on it; the decision turned on the period before the 2018 amendment of section 11B on penalties and on the position that the funds were diverted at once; and it did not consider a variation of objects with prior approval.