SEBI Can Impose Penalty For PFUTP Violations Even If WTM Proceedings Exist; Illegal Diversion Of Funds Not Curable By Ratification: Supreme Court
Court upholds parallel jurisdiction of Adjudicating Officer, says post-facto shareholder approval cannot validate fraudulent diversion of preferential issue proceeds.
Justice J.B. Pardiwala, Justice K.V. Viswanathan, Supreme Court
The Supreme Court has restored penalties imposed for fraudulent diversion of funds raised through preferential allotment, holding that such illegality cannot be cured by subsequent shareholder ratification and that parallel proceedings by different SEBI authorities are permissible. The Bench observed that restricting consequences for such conduct to market debarment and disgorgement alone would undermine deterrence, holding that absence of monetary penalty in cases of fraud would be “very unfortunate”.
On the issue of jurisdiction, the Court clarified that proceedings before the Whole Time Member (WTM) under Sections 11 and 11B of the SEBI Act, 1992 and those before the Adjudicating Officer under Section 15HA operate in distinct fields, one being preventive and the other punitive. It noted that prior to the 2018 amendment, the WTM did not have the power to impose penalties under Section 15HA, therefore, the AO’s exercise of jurisdiction in a case where inquiry had already commenced was valid.
The Division Bench while setting aside the order of the Securities Appellate Tribunal (SAT), upheld the findings of the Adjudicating Officer (AO), who had imposed monetary penalties on the company and its directors for violations of the SEBI (Prohibition of Fraudulent and Unfair Trade Practices) Regulations, 2003 (PFUTP Regulations).
Justice J.B. Pardiwala and Justice K.V. Viswanathan observed, “It will be very unfortunate if the only punishment a person who has committed fraud under PFUTP Regulation is an order restraining access from market and disgorgement of profit or the loss averted. There would be no deterrence. When the matter was clear during the inquiry that there was a clear case for penalty, the AO stepped in and exercised jurisdiction and passed an order for penalty. We find nothing wrong in the course of action adopted in the impugned order. It is only that two authorities vested with different powers operating in separate fields have exercised jurisdiction during the period in question”.
Senior Advocate Navin Pawha appeared for the appellant and Advocate Hemant Gupta appeared for the respondent.
As per the facts, in 2016, the company- Terrascope Ventures Limited raised funds through a preferential allotment for specific disclosed purposes such as business expansion and capital expenditure; however, soon thereafter, the funds were diverted towards investments in shares and loans to connected entities.
An inquiry was initiated by the Adjudicating Officer on April 27, 2018, during which these irregularities surfaced. Although the company later sought to justify the diversion through a 2017 shareholder ratification, SEBI proceeded against it for fraudulent and unfair trade practices.
The Securities Appellate Tribunal had held that since the company had passed a shareholder resolution on September 29, 2017 ratifying the diversion of funds, the acts of the company stood validated and authorized, and therefore there was no actionable violation in the utilization of preferential issue proceeds. On this reasoning, it set aside the penalties imposed by the Adjudicating Officer.
It also accepted the broader contention that the issue largely concerned shareholder interests, and since there were no complaints and disclosures were made, the diversion could not be treated as fraudulent in the manner alleged by SEBI.
The Court noted that funds raised through preferential allotment for specified purposes, such as capital expenditure and business expansion, were almost immediately diverted towards investments in shares and loans to connected entities, contrary to disclosures made to shareholders.
This, the Court held, amounted to a clear case of fraud under PFUTP Regulations, even in the absence of traditional deceit.
"We have no semblance of doubt in our mind that the diversion of the funds raised for an object not set out in the notice of EoGM was clearly in breach of Regulation 3 as well as Regulations 4(2)(f), 4(2)(k) and 4(2)(r) of the PFUTP Regulations. Further, the very purpose of notice of EoGM and the notice informing the objects of preferential issue is also traceable to Regulation 73 of the ICDR Regulations, 2009 which mandate that the objects for the preferential issue have to be set out..", the Court said.
The Bench rejecting the company’s reliance on the 2017 shareholder resolution ratifying the diversion, held that “illegality cannot be ratified”, especially where violations have public law implications affecting market integrity and investor confidence.
"When matter involves public interest it cannot be deemed as private waivable right. What applied to waiver will also apply to ratification. No condonation or ratification on aspects opposed to public policy can be made, as it will seriously jeopardize public interest.", the Court added.
Accordingly, the Court held that the SAT erred in relying solely on post-facto ratification and reinstated the penalties imposed by the Adjudicating Officer.
Cause Title: Securities And Exchange Board Of India v. Terrascope Ventures Limited [Neutral Citation: 2026 INSC 245]
Appearances:
Appellant: Navin Pawha, Sr. Adv. M/S Ads Legal, AOR, Dhaval Mehrotra, Aditi Desai, Advocates.
Respondent: Mahfooz Ahsan Nazki, Amicus Curiae, Vivek Rajan D.b, Hemant Gupta, Advocates.