It is interesting to increasingly see several adverse actions being taken by SEBI, specifically against professionals such as Chartered Accountants and Company Secretaries. It is one thing where the adverse action is for violating the law by carrying out or conniving in certain practices such as insider trading, price manipulation, etc. where professionals are not dealt with specially and separately on account of their qualifications. But it becomes an area of interesting development in law when specific action is taken against professionals on account of the position they occupy in the company, say as CFOs, company secretary/compliance officers. Another category of such actions is in case of professionals who act as independent directors, particularly as member/chairman of audit committees. And, finally, it is even more so noteworthy when practising professionals are acted against when they are acting as such, as in the case of auditors.
While this is nothing new, recent times have seen increasing number of such cases. As will be discussed later, this aspect has been discussed in individual cases earlier here, but it was felt that it is worth having an update and review of the happenings thereafter.
However, let us first make a preliminary overview of the matter before going to specific cases.
Nature of violations and actions against professionals
Professionals like chartered accountants, company secretaries and even lawyers have a special relation and status with listed companies. The simplest case of violation/wrong-doing by such persons is where such professionals are found to have actively indulged in illegal practices such as insider trading, price manipulation, etc. Though their special position in the listed company may place them in a fiduciary position with access to such information or with special knowledge and skills to carry out such acts, such practices do not necessarily set professionals apart or treat them differently beyond a point. Such illegal acts can be committed by anyone and an analogy is of, say, a robbery. Hence, they have no cause for grievance if they are punished like anyone else. Indeed, such acts are rightly viewed relatively more seriously when committed by professionals than by others. After all, generally, such professionals not only have more information in a fiduciary capacity, but they ought to know the law and its consequences.
The other case is where a professional occupies a statutory or contractual position within a company — that is — where his rights and obligations are either statutorily recognised or contractual with the company and thus he is required to perform certain duties. And if he fails to do so, direct action against him could be taken. These are positions like that of the CFO or company secretary/compliance officer. Analogous to this is also the position of independent directors that many such professionals occupy, more so when they are part of the audit committee either as member or chairman.
Finally, there are external professionals such as auditors and action is often sought to be taken against them for certain acts or omissions while performing their duties.
This subject was broached upon at least twice earlier in this column. In the December 2010 issue, we considered the Bombay High Court decision in the Price Waterhouse/Satyam case, where the court considered whether auditors can be acted against directly by SEBI. In April 2011, we discussed a SEBI decision where independent directors/audit committee members were specifically acted against. Before taking a few recent examples, these earlier decisions are being briefly summarised here.
Bombay High Court’s decision in Satyam auditors’ case
The Bombay High Court’s decision was a milestone in at least two aspects. Firstly, it held that auditors can be investigated by SEBI to decide if they have duly performed their duties as auditors of the listed company or not. It held this matter is not within the sole and exclusive province of the ICAI. Secondly, if it is found by SEBI that they have connived with the management in carrying out accounting/ auditing manipulations, then SEBI can act itself against the auditor without reference to ICAI. The point in law to be particularly noted is that the Court held that auditors were persons ‘associated with the capital markets’, a common term of securities law. The importance of this point lies in the fact that this gives SEBI direct jurisdiction over auditors since many provisions of securities laws use this term for various purposes and effects. Moreover, I would even venture to propose that once independent auditors are so held to be persons associated with the capital markets, professionals even more closely associated with or employed by the company are clearly covered. However, the Court has also observed:
“In a given case, if ultimately it is found that there was only some omission without any mens rea or connivance with anyone in any manner, naturally on the basis of such evidence the SEBI cannot give any further directions.”
A question arises is would mere knowledge of a wrong-doing make a person liable? While much would depend on facts on this untested issue, a professional knowing of a wrong-doing in his area of duties would obviously place a higher onus of obligation and liability.
SEBI decision against Independent Directors/Audit Committee members
SEBI’s decision discussed in the April 2011 issue (SEBI Order No. WTM/MSS/ID2/92/2011, dated March 11, 2011) also held that if independent directors/audit committee members participated in accounting manipulation or other illegal practices, they too can be acted against directly by SEBI.
Some recent developments
Now let us consider some recent cases to have an update.
In the Satyam alleged scam that readers are well aware of, there was a finding that a merger of a large sister company with Satyam was proposed. As per the Code of Conduct under the SEBI (Prohibition of Insider Trading) Regulations 1992, during such period while it is proposed (as determined in the prescribed manner), the trading window should be closed and this should be duly announced. This would prohibit specified officers, etc. from dealing in the shares of the company. This was not done and it appeared that many officers did sell the shares apparently on the basis of this pricesensitive information. Under the Code of Conduct, it is the compliance officer who is responsible for the implementation of the provisions of the Code under the supervision of the Board of Directors. When asked by a show-cause notice, the compliance officer inter alia replied that he was required by the chairman not to announce the closure of the trading window. Further, he said that he needed approval from the Board of Directors to go ahead with the announcement of the same. SEBI did not accept this reply and held the compliance officer liable for non-compliance of the Code. It observed:
“The Noticee has contended that since there was no direction from the Board of Directors of SCSL to close the trading window, the same was not closed by the Noticee. I observe that the Noticee is the compliance officer of SCSL responsible for closing the trading window whenever issues specified in clause 3.2-3 of Code and other similar issues are under consideration. Matters like consideration of accounts, declaration of dividend, bonus, acquisition of entities, etc. are put up as proposals before the Board. From the proposal stage itself, such information becomes price sensitive and remains so till decision thereon is disseminated to the public. As the proposal is not in public domain, it is imperative on the compliance officer to close the trading window so that insiders and connected persons do not take advantage of such information. In case any internal approvals are required, he may take them, but ensure that the trading window is closed on time. As compliance officer, he cannot raise the defence that internal approvals were not available. Such contention, if accepted, would render the concept of appointment of compliance officer meaningless and is therefore not acceptable.”
Accordingly, a penalty of Rs.5 lakh was levied on the compliance officer for the same.
Some observations can be made. This is a case where the compliance officer had a direct responsibility under law to carry out certain duties, albeit under the overall supervision of the Board. Several other persons are similarly given duties in one or the other manner under securities laws — for example — Independent directors and members of committees formed under Clause 49 of the Listing Agreement have certain obligations. The CFO is also required to also sign a statement regarding compliance of laws, absence of frauds, etc. under such Clause 49. In fact, it is likely that the duties of the CFO, compliance officer, independent directors, members of audit committee, auditors, etc. will increase by such provisions under securities laws as well as amendments/ re-enactment of the Companies Act. Thus, direct action by SEBI may be possible against them for failure in performing their duties.
The next recent example is decisions of SEBI in the last week of December 2011 where in the context of alleged manipulations in an IPO, interim orders were issued not only against the company but many other persons including independent directors, audit committee members, manager (finance), etc. The nature of directions varied, but it included directions prohibiting the persons from buying, selling or dealing in any securities. An example of this is the decision in the case of Bharatiya Global Infomedia Limited (dated 28th December 2011) where it was alleged that there were false and misleading disclosures in the red herring prospectus, misuse of issue proceeds, and other lapses in connection with the IPO. The company was debarred from raising further capital from the securities markets, till further directions and its directors including independent directors and members of the audit committee as also the manager (finance) were prohibited from buying, selling or dealing in securities markets in any manner, till further directions. Another example is the SEBI decision in Tijaria Polypipes Limited of 28th December 2011 where similar directions were given to the company, its directors including independent directors, its finance manager and company secretary and several other entities/ persons.
There are newspaper reports that Mahindra Satyam has initiated action against its erstwhile directors, auditors, etc. for damages. Though this seems to be a generic action, the outcome of this suit will be interesting.
Thus, it appears that over a period of time, there will be more instances of action taken against professionals, whether auditors, CFOs, company secretary/ compliance officers, independent directors, audit committee members, etc. A debate is required on this issue from various angles.
The issue is: Do the Indian circumstances demand a separate and special uniquely tailored set of legal provisions so as not only to ensure proper fixing of blame and responsibility, but also to provide for due powers? In India, almost as a rule, listed companies are promoter-dominated not only in terms of shareholding, but in terms of overall and day-to-day management control. The concepts of independent directors, audit committee, etc. are arguably western concepts where there exists a very diffused shareholding pattern and there is a need of placing an independent Board including its chief executive to ensure that matters such as remuneration, etc. are approved by such independent directors. There, the senior executives as CFOs also in contrast have independent powers. In In-dia, however, the domination of shareholding and management control of the promoters makes a significant difference. There is of course no excuse or defence for a person who actively connives in wrong-doings. However, as the case of Satyam’s company secretary shows, the reality is that it is an illusion that such professionals operate with the level of freedom that the law assumes they have. And apart from freedom, even the real scope of work, powers and information of such professionals may be limited and often it may be ad hoc. There is a case for holding a person from the promoter group primarily and specifically liable and responsible for compliances under law, though he may take external or internal professional advice on technical matters. In this case, in my view, the company secretary should have resigned if (as he states) he was not a party to non-compliance and, depending upon the stage at which the non-compliance had reached, should have reported the same too.
Another example of such mismatched powers and responsibilities is the widely-worded CEO/CFO certification under Clause 49 of the Listing Agreement. It is required that they certify, inter alia, that the financial statements do not contain any materially untrue statement, that there have not been any fraudulent or illegal transactions, etc. In
a typical promoter-dominated company, it is not only unrealistic, but even a mismatch of powers/ freedom and duties/liabilities to expect that such persons accept such wide responsibility.
In absence of clearer powers and obligations of professionals, uncertainty may continue to prevail. It is possible that many professionals may not be willing to come forward and help SEBI and the securities markets and take responsibilities that SEBI would like them to bear without such clarity in law.
It’s good to have money and the things that money can buy, but it’s good, too, to check up once in a while and make sure that you haven’t lost the things that money can’t buy.
— George Horace Lorimer
