By Jayant M. Thakur
Chartered Accountant
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As discussed in immediately preceding article, SEBI rehauled the Guidelines for Consent Order and Compounding for settlement of violations of specified securities laws. An important aspect of the revised Guidelines is that SEBI has attempted to quantify the settlement amount for most types of violations. The objective is not only let the parties know what the indicative settlement amount would be, but more importantly, to also remove a lot of the discretion and discrimination involved in settlement. Thus, SEBI has laid down a very elaborate formula and quantification process which, though not inflexible, gives a good benchmark amount at which a party may expect that the settlement may take place.
The formula, parameters, etc. are quite complex, but since now these would be the very basis of the settlement process, an introduction to the process is worth considering.
The quantification process, formula, parameters, etc. are aimed at making the settlement and perhaps even the penal process rational rather than subjective and discretionary. An attempt has been made by SEBI to find out what are the losses that the investors/public/markets face, what are the gains made by the parties, etc. and then relate the settlement amount to such amounts rather than an arbitrary figure arrived on a caseto- case basis. However, the qualitative aspect has also been considered by providing for a varying base settlement amount depending upon who is the person accused. For example, promoters of a company face a higher base penalty as compared to others and so do asset management companies, etc. Thus, on the one hand, the losses/ gains are taken into account duly quantified, and on the other hand higher punishment is ensured on those who should know the law better.
Under the earlier Guidelines, there was no basis for an applicant to even arrive at a preliminary amount, much less know at what amount the final settlement could take place. Other orders of similar facts often showed a wide variance in the settlement amount and the rationale for such different settlement terms were not known. To worsen this, SEBI often took a stand that other consent orders were not relevant and are not to be taken as a benchmark which an applicant could use. However, now, SEBI has provided a fairly detailed and complex method of determining the indicative settlement amount. Unless the facts are special or serious, it would appear that the settlement would be at or nearabout this amount arrived as per the prescribed formula.
However, as stated, the formula and parameters are fairly complex to determine. There are other concerns too, but first, a broad description of how the settlement amount is arrived is made. Thereafter, a specific type of violation is taken and the formula and parameters applied.
Let us first understand the broad sequence of steps to arrive at the final settlement amount.
The basic objective is to determine the Indicative Amount. This is the basic amount that is arrived at without negotiation and purely as a result of applying quantitative parameters to the particular set of violations.
Included in Indicative Amount are the legal costs that appear to be on actuals and hence do not require further consideration here.
Indicative amount is arrived at by taking into account various parameters, weights, etc. There is a Proceeding Conversion Factor (PCF) and the Regulatory Action Factor (PCF) and there is a Benchmark Amount. The Benchmark Amount is an absolute rupee amount that is worked out by applying certain factors depending upon the nature of the violation. The PCF and RAF are then applied to this Benchmark Amount as qualitative weights to increase or decrease it.
Thus, for example the PCF applies weights ranging from 0.75 to 1.20 depending upon when the initiative is taken for coming forward to settle the proceedings. Thus, if a party comes forward for settlement even earlier to the issuance of the showcause notice, then, the settlement amount would be just 0.75 times the Benchmark Amount. However, if he delays the matter to passing of the order by the SAT or the Court, then the settlement amount actually increases by 20% by it being multiplied by a factor of 1.20.
To the above factor, PCF, the Regulatory Action Factor is added. The objective is to further give due weight to earlier adverse actions taken by SEBI against the party in the past. For each such action, a certain weight, depending upon the nature of adverse direction given, is added. For example, if a warning was given, then 0.015 is added. In certain cases of suspension order, the factor can be as high as 0.3.
Next comes the ‘Benchmark Amount’. This can be viewed as the basic settlement amount. This amount varies depending upon the nature of violations alleged. It would be different for, say, non-disclosure of certain information or non-filing of information, for price manipulation, etc.
For price manipulation, it is arrived at by taking into account several factors involved in each case, such as volumes traded, price change during the relevant period, adding a time value for money for the illegal gains, the profits made/losses avoided and even a reputation risk.
Where parties have aided/abetted the price manipulation including intermediaries, promoters, etc. a separate formula is provided.
For non-disclosure of information as for example under the Takeover Regulations, the Benchmark Amount is calculated as the product of a Base Value and a Base Amount. The Base Value is a weight that takes into account qualitative factors such as multiplicity of violations, size of company, etc. The ‘Base Amount’ is calculated as the higher of a certain fixed amount depending on factors such as percentage of holding not disclosed and period of delay.
Similarly, for other types of violations, certain factors are laid down to help calculate the Benchmark Amount.
It is provided that the minimum Indicative Amount shall be Rs.2 lakh for persons seeking consent application for the first time and Rs.5 lakh for others. Arguably, such a large minimum amount is unfair. Irrespective of the seriousness of the offence, the smallness of the amounts involved, etc. this minimum amount is paid and would obviously affect only small violators. Further, increasing the minimum settlement to Rs.5 lakh for those who are not firsttime applicants is also unfair since the applicant may be coming for a wholly different violation. Securities laws are fairly voluminous and complex and routine violations may happen for which no purpose may be served to either carry out costly adjudication proceedings or levy a heavy penalty.
For residuary cases, where none of the specified parameters apply, the amount would be decided on the facts and circumstances of the case by HPAC/SEBI.
The Guidelines, however, still provide a lot of leeway for SEBI to go away from the quantified parameters. Firstly, in case of serious violations, it can fall back on the maximum penalty that can be levied. Further, there is another provision that says that the settlement amount can be increased or decreased since the amount worked out as above is only the Indicative Amount. Even after this, the final amount so worked out can be reduced, increased or even the proposal rejected outright by SEBI’s Panel of WTM.
The orders are required to be a little more detailed giving the facts and circumstances of the case, the allegations, etc. However, one is not clear how much detailed would the actual orders be till we see a few orders.
There is a fair concern that even now, substantial discretion still remains and is possibly even further entrenched. However, considering that very specific parameters have been laid down, SEBI may need to apply its mind why it accepted a higher or lower settlement amount in a particular case.
Interestingly, now, a host of non-monetary adverse directions can be made part of the settlement including voluntary debarment, sale of shares, dis-gorgement, voluntary surrender of certificate of registration. Thus, the settlement need not be purely on monetary terms, but non-monetary terms may also be added to the settlement amount.
An interesting thing to watch for as the new settlement scheme is applied in various cases is – will SEBI levy penalty that is higher than the amount as per formula under the Consent Guidelines? There are two ways to view this issue. One way is that SEBI should levy higher penalty than the minimum amount as per the Consent formula. The party who makes SEBI go through the whole adjudication process makes it incur additional costs and efforts. Further, in such a case, the charges were proved by SEBI while in case of consent, there is no proof or admission of proof of the violation. The other way to look at it is that the minimum settlement amount as per Consent formula takes into account the fact that the party goes free from stigma. There should be a cost to this. Further, while SEBI saves time, the party also saves time and efforts.
However, there is also a case for delinking the two processes. Settlement is under a different principle and, further, it takes into account only the allegations. However, the adjudication process should not be burdened with this formula. It should examine the exact nature of the facts and circumstances that are found to be proved and the other surrounding circumstances including those statutorily prescribed (such as repetitive nature of violation, gains made, losses caused to public, etc.) and then levy appropriate penalty. If, for example, the violation is proved to be serious and intentional, a high penalty may be levied. If, however, it is technical without any gains to the person or losses to the public, and there are mitigating circumstances, then the penalty may be lower or none.
In the end, the issue that arises is, should a person opt for settlement or not? While obviously the answer will vary from case to case, some general thoughts can be shared. Some parties may not want any stigma of contravention of law on the record and for them, settlement is the only choice except of course where the violation is not permitted under the Guidelines to be settled or where they are fairly confident that they will eventually win, even if appeal is required. For some others, if the violation is technical in nature, it can be explained to concerned parties such as shareholders, etc. and thus they may not opt for settlement if it entails a higher penalty. For most people, it would have to be a careful evaluation of the settlement amount that can be worked out from the formula and the facts of the case. It would also be a matter of principle for parties to clear its name when the allegation is misconceived.
