India: SEBI Order Against DLF: Reversed

DLF Limited (Delhi Land & Finance) is one of the largest commercial real estate developers in India. DLF's primary business is development of residential, commercial and retail properties. The company has a unique business model with earnings arising from development and rentals. Its exposure across businesses, segments and geographies, mitigates any down-cycles in the market. From developing 22 major colonies in Delhi, DLF is now present across 15 states-24 cities in India.

Ingredients of the Case

The company and its directors along with the Chief Financial Officer (CFO) came into the clutches of SEBI (Securities Exchange Board of India), when the Board passed an order against it dated October 10, 2014, restraining them to access the securities market and also prohibiting from buying, selling and otherwise dealing in any manner for a period of three years. The company preferred an appeal to Securities Appellate Tribunal (SAT), against the impugned order.

The order was passed by SEBI pursuant to the issue of a SCN dated June 25, 2013, alleging that DLF has violated clauses of SEBI (Disclosure and Investor Protection) Guidelines, 2000, ("DIP Guidelines") read with the regulations of SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009, ("ICDR Regulation, 2009") read with sections of SEBI Act, 1992, read with regulations of SEBI (Fraudulent and Unfair Trade Practices) Regulations, 2003 ("PFUTP Regulations, 2003").

Securities Appellate Tribunal, on March 13, 2015 passed its decision to dispose of the appeal, by terming the impugned order of SEBI as totally unjust, unfair, arbitrary and even irrational.

DLF, with an intention to make an public issue, filed the first Draft Red Herring Prospectus (first DRHP) on 11.05.2006. The first DRHP was withdrawn by the company and a second DRHP was filed on 02.01.2007 with SEBI. DLF has three wholly owned subsidiaries (WOS) namely- DLF Estate Developers Ltd; DLF Home Developers Ltd and DLF Retail Developers Ltd. These three WOS, however, incorporated three more companies, namely- Sudipti Estates Private Limited, Felicite Builders & Construction Pvt. Ltd. and Shalika Estate Developers. A month before the second DRHP was filed, the WOSs of DLF, transferred their shares in such a way that the entire exercise led to Sudipti becoming the subsidiary of Shalika and Shalika as the subsidiary of Felicite, which finally became the holding company.

SEBI made exhaustive observations for making suitable modifications in the offer document in its letter dated May 7, 2007. The company complied with such modifications and thereafter filed the RHP with the Registrar of Companies (ROC). The IPO was, accordingly, opened for public subscription, final prospectus was filed with the ROC and the shares were ultimately listed on BSE and NSE by July 5, 2007.

In the meanwhile, the seeds of the present controversy were sown by some other person when he filed a complaint with SEBI, alleging that he had lodged an FIR against Sudipti and being the sister concern of DLF Home and DLF Estate, DLF Ltd should have disclosed about it in the Prospectus. The FIR was registered on April 26, 2007, by the person claiming that Sudipti had given oral understanding that it would undertake the development project with him. DLF was not a party to this complaint and hence came to know of it on June 25, 2007. Based on the complain of the person made on June 4, 2007, SEBI issued the SCN dated June 25, 2013 which followed by the order against DLF.

Matters looked into by SAT

The whole controversy could be crystallized in the form of three issues:

i. Whether the entire share transfer process in Sudipti, Shalika and Felicite was executed through sham transactions by DLF and they continued to be subsidiaries of DLF? And if yes, whether the company and its directors employed a scheme by camouflaging the association of Sudipti with DLF as disassociation.

ii. Whether DLF have failed to assure that the RHP/ Prospectus contained the material information which is true and adequate, so as enable the investors to make an informed investment decision in the IPO? And

iii. Whether the company and its directors actively and knowingly suppressed several material information and facts in the RHP/Prospectus so as to mislead and defraud the investors in the securities market in connection with the issue of shares of DLF?


Issue No. 1 mainly concerns with the allegation that the transaction of transfer of shares was not genuine and that the DLF continued to control the same despite disinvestment. The SAT, for the sake of convenience, looked for the different definitions of "Control" which SEBI considered in the impugned order.

  • As per Section 4(1)(a) of Companies Act, 1956, a company shall be deemed to be a subsidiary of another if, that other controls the composition of its Board of Directors; sub-section (2) specifies that composition of BOD shall be deemed to be controlled by another company if, but only if, that other company by the exercise of some power exercisable by it at its discretion without the consent or concurrence of any other person, can appoint or remove the holders of all majority of the directorships;

    DLF, could be said to control the three companies- Shalika, Sudipti and Felicite, only if it can be proved that DLF had exclusive power or sole discretion to appoint or remove the Directors of these three companies. SEBI couldn't demonstrate that DLF had such unbridled discretion. None of the above ingredients as culled out of sections 4(1) and (2) of the Act have been fulfilled. A holding company, after it has sold its 100% shares in a subsidiary, practically becomes functus-officio qua the management and control of the erstwhile subsidiary.

  • SEBI also emphasized on the definition of "control" given in the SAST Regulations, 1997 (Takeover Code), in its order. SAT held that these regulations have no application in the context of unlisted companies which propose to undertake an initial public offering (IPO). This act of SEBI to shop for clauses and provisions in different statutes was considered arbitrary and thus condemned. SAT here invoked the pari materia principle to promote uniformity and predictability in law in order to supplement and not supplant a rule of law by another.
  • "Control" as given in AS-23 was also relied upon in the impugned order by SEBI. It provides that-(a) the ownership, directly or indirectly through subsidiary(ies) of more than half of the voting power of an enterprise; and (b) control of the composition of the board of directors so as to obtain economic benefits from its activities. The definition makes it clear that both the conditions need to be present for control to be established. The fact that once a policy decision had been taken by DLF to divest all of its subsidiaries, followed by the actual divestment of its interest in about 281 companies, there was no occasion for DLF to mention the three companies as subsidiaries or associates as that would have been patently false statement on part of DLF. AS-23 in its totality, deals with Accounting for Investments in Associates in Consolidated Financial Statements. It thus defines an associate company as an enterprise in which the investor has "significant influence". For significant influence, an investor should hold, directly or indirectly, through subsidiaries, 20% or more of the voting power of the investee. In the absence of a 20% shareholding, no existence of the component of "significance influence" could be established against DLF.

Disclosure Guidelines

In the 2nd and 3rd issue, DLF is alleged to have made disclosure of the subsidiaries because of alleged control over them and thus as per SEBI had violated DIP Guidelines. The relevant chapter of the Guidelines deals with "Contents of the Offer Document" and emphasizes the disclosure of "material information" in the Prospectus which should be true and adequate to enable the investors to make an informed decision to invest or not to invest in the IPO. DLF filed the "Delta View" document along with the second DRHP, clearly indicating all the differences between the second DRHP and the first DRHP. It remained with SEBI and in the public domain at least for five months before SEBI could issue detailed and exhaustive observations. SAT held that if DLF had any intention to withhold from SEBI or from public about Shalika, Sudipti and Felicite being subsidiaries, it would not have mentioned the same in the second DRHP altogether. SEBI should have called upon DLF or its Merchant Bankers at that time to incorporate some more facts regarding it. Sebi, therefore, cannot suddenly be allowed to take a contrary view after seven years. SAT highlighted that once an informed and well decision has been arrived by the Sebi, the threat of the decision being overturned, cannot be allowed to hover over the heads of companies, except in circumstances where the interest of the investors were concerned. No loss was caused to the investors by allowing the IPO to proceed as planned. The losses occurred only after Sebi passed the adverse Impugned order.

The findings in the impugned order regarding violation of DIP Guidelines by DLF are mainly two-fold. Firstly, regarding the non-disclosure of FIR dated 26.04.2007 and secondly, regarding the Related party Transactions. SAT viewed that the DIP regulations primarily require disclosure of outstanding litigations, default, etc., pertaining to matters which are likely to affect the operation and finances of the issuer company. Sebi passed the order based on the assumption that the DLF had the knowledge of FIR as the director of the Sudipti was a close relative of the Chairman of DLF. SAT stated regarding this, "we are not living in the Vedic ages, when the bonds between relatives were genuinely strong so that the knowledge of one could tantamount to the knowledge of another". SAT also construed from decision of a case by Bombay High Court that as the knowledge of the directors of the company is not the knowledge of the company, then the knowledge of a relative of a director can certainly not be the knowledge of the company. Also, in this regard SAT noted that the FIR in any case does not amount to litigation in law, because in the case of criminal proceeding, a case can said to be initiated only when a competent court takes cognizance of the offence alleged in the charge sheet and not mere filing of an FIR. Therefore, it would not mean "litigation" for the purposes of the DIP Guidelines. Moreover, the particular FIR in no means would affect the operation and finances of DLF just because the development rights of the DLF over Sudipti's land were not to be affected at all by the outcome of the said FIR. Findings of SEBI in this regard were held totally perverse because such an FIR had been filed for an individual's own interest to enforce a claim of Rs. 34 crore against Sudipti and not complaints by investors.

The second argument related to non-disclosure was the relationship of DLF with Shalika, Sudipti and Felicite due to alleged control exercised by the DLF as a result of the transfer being in the nature of Related Party Transactions is material information and that it should have found a place in the Offer Documents. SAT held that the relationship of holding/subsidiary had come to an end in the year 2006 on 29th/30th November itself. There was no reason therefore to give a wrong picture in the Offer Documents. SAT also stated SEBI misconceived in terming these transactions as 'sham transactions'. 'Sham' means a deliberate and "intentional act" of misguiding certain people or even the court by camouflaging the parties' legal rights and obligations and giving them a misleading appearance.

SEBI also alleged that Shalika, Sudipti and Felicite were related parties of DLF in terms of AS-18 and their nondisclosure violated the DIP clauses. SAT looked into the scope and the objective of the standard AS-18 and did a five-part test laid down under it:

a) enterprises that directly or indirectly through one or more inter-mediaries, control, or are controlled by, or are under common control with, the reporting enterprise (this includes holding companies, subsidiaries and fellow subsidiaries);

b) associates and joint ventures of the reporting enterprise and the investing party or venture in respect of which the reporting enterprise is an associate or a joint venture;

c) individuals owning, directly or indirectly, an interest in the voting power of the reporting enterprise that gives them control or significant influence over enterprise, and relatives of any such individual;

d) key management personnel and relatives of such personnel; and

e) enterprises over which any person described in (c) or (d) is able to exercise significant influence. This includes enterprises owned by directors or major shareholders of the reporting enterprise and enterprises that have a member of key management in common with the reporting enterprise.

The requirement laid down in sub-para (a) talks of 'control'. Sat had already settled in this relation that DLF did not have any control over the composition of the Board of Directors of Shalika, Sudipti and Felicite in terms of section 4 of Companies Act, 1956. Sub-para (b) is not applicable in instant case as the allegation states that DLF had control over subsidiaries and not over associates.

Similarly sub-para (c) and (d) are also not attracted because they are preferable to individuals only. Regarding sub-para (e), SAT noted that no KMP of DLF had any influence over these three companies. SAT also, highlighted the difference between the two categories of 'Key Managerial Personnel' as defined in DIP Guidelines and in AS-18. DLF, as far as AS-18 is concerned, made disclosure of KMPs in the Offer Documents. SEBI for the test of related party transactions under AS-18, erroneously took the acronym KMPs as per DIP Guidelines and applied it to employees. The transfer of equity stake, held by the WOSs of DLF in Felicite, were made to the wives of the DLF employees. Thus the spouses of shareholders of Felicite and the directors of Felicite, Shalika and/or Sudipti were not KMPs for the purpose of AS-18 but KMPs as per DIP clauses. Accordingly, DLF clearly disclosed such persons in its financial statement and is duly reflected in the prospectus. Therefore it was held that the charge of non-disclosure of related party transaction against DLF was not established.

Role of Merchant Banker

SAT also highlighted the importance and obligations of the Merchant Banker. It stated that DIP Guidelines has been framed by SEBI and one of its chapter deals with the Eligibility Norms for companies 'Issuing Securities'. Regulation in it specifically provides that a company can bring IPO only after submission of a Draft Prospectus with the SEBI through an eligible Merchant Banker (MB). It also mandates that the MB shall exercise due diligence by satisfying himself about all aspects of the offering, veracity and adequacy of disclosure in the offer documents. This liability of the MB continues even after the completion of the issue process. In case of DLF, experts were performing the role of Merchant Banker. Not even once had they bought up any lacuna persisting in the Disclosures made.

PFUTP Regulations, 1995

DLF was also alleged by SEBI to violate the Prohibition of Fraudulent and Unfair Trade Practices (PFUTP) Regulations, 1995. Such regulations have been framed to prohibit fraudulent and unfair trade practices relating to the securities market. They are a selfcontained code and prescribe a detailed procedure for investigation of any fraudulent act by a person. PFUTP would trigger where the Chairman, a Member or the Executive Director of SEBI has "reasonable ground to believe" and in any manner detrimental to the investors' interest. The due procedure established in the PFUTP Regulations has been blatantly violated by the SEBI. SAT cited a well established by the law in a case by the Hon'ble Apex court that "...where a power is given to do a certain thing in a certain way, the thing must be done in that way or not at all and that other methods of performance are necessarily forbidden".

DIP Guidelines, 2000 Rescinded and Replaced by ICDR Regulations, 2009

SAT also brought in view that although the DIP Guidelines, 2000 have been rescinded and replaced by ICDR Regulations, 2009, any SCN issued in respect of the said Guidelines shall be deemed to have been done or taken under the corresponding provisions of ICDR Regulations.


It cannot be denied that the power invoked under section 11 of SEBI Act, 1992, is in investors' interest and the regulation of the capital market. Therefore, particularly when such a remedial power is being used for punishing the company by debarring it from entering the capital market for three years, Sebi, in all fairness, should have brought on record some complaint by actual investors to the effect that they were misguided by any alleged non-disclosure/wrong disclosure/inadequate disclosure.

SAT stated: In the economic process like IPO, not only companies but public at large are involved. Therefore, there has to be expediency and finality in the actions of an enlightened and reputed Regulator like Sebi. Indecisiveness, untimely and highly belated actions will only lead to uncertainty in the minds of companies, shareholders, investors and other intermediaries in the Capital Market.

SAT stated: In the economic process like IPO, not only companies but public at large are involved. Therefore, there has to be expediency and finality in the actions of an enlightened and reputed Regulator like Sebi. Indecisiveness, untimely and highly belated actions will only lead to uncertainty in the minds of companies, shareholders, investors and other intermediaries in the Capital Market.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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