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The Satyam Case: Insider Trading and Pledge

Finsec Law Advisors

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A SEBI Whole Time Member recently passed an order inter alia against relatives of Mr. Ramalinga Raju and entities belonging to the promoter group of Satyam Computers for violation of SEBI regulations on insider trading and fraudulent market practices. The impugned acts involved selling and pledging of shares of Satyam Computers held by them based on unpublished price sensitive information in their possession.

One of the entities against whom the order was passed was SRSR Holdings Pvt. Ltd., a holding company, which owned almost all of the shares held by the promoter group of Satyam. During the period between August 2007 and November 2008, various promoter group entities of Satyam had taken loans amounting to Rs. 1,258 crore from financial institutions and SRSR Holdings had pledged the shares of Satyam on their behalf as security for the loans. The lenders started invoking the pledge between December 23, 2008 and January 7, 2009, on account of shortfall in the margins. It may be recalled that Mr. Ramalinga Raju issued the now infamous letter disclosing financial irregularities in Satyam on January 7, 2009. The WTM in his order stated that SRSR Holdings was an “insider” and since SRSR Holdings could not have pledged the shares without Mr. Ramalinga Raju and Mr. Rama Raju's active connivance, SRSR Holdings had knowledge of financial irregularities in Satyam, which was an UPSI at that time. Lastly, the WTM concluded that the definition of “dealing in securities” included within it all commercial dealings related to the securities and consequently, pledging of shares amounted to “dealing in securities”. The WTM held that pledging of shares by SRSR Holdings when under the possession of UPSI amounted to insider trading. SEBI has ordered SRSR Holdings along with the Rajus to disgorge Rs. 1,258 crore which according to SEBI was a wrongful gain made by the entity.

The SEBI order does not lay down a test for distinguishing genuine pledge transactions from fraudulent ones. Further, the SEBI order is based on the premise that it was reasonably expected that the promoter group entities had knowledge of fraud committed by Mr. Raju, but does not provide any instance to prove that the relatives and promoter group entities had actual knowledge of the fraud.

An appeal was filed against this order and SAT passed an order in 2017. That article can be accessed here.