Sebi to clamp down on illicit nexus between brokers, promoters

The market regulator is looking into a proposal to bar the depository participants from entering into such arrangements

Capital markets regulator Sebi may soon frame a new set of norms to check illicit nexus between market intermediaries and promoters of listed firms, where shares are used informally as collateral for trades.

Taking benefit from the regulatory gaps, some depository participants enter into tripartite arrangements with the promoters of listed companies and the traders for lending or borrowing of shares without using the formal pledging or encumbrance of such securities.

However, such arrangements can lead to possible frauds and multiple pledging of shares and there have been cases where any default on part of any of the three parties has resulted into a massive fall in the share price -- thus hurting the interest of minority shareholders.

To check this menace, the Securities and Exchange Board of India (Sebi) is now looking into a proposal to bar the depository participants (DPs) from entering into such arrangements, a senior official said.

The DPs in the Indian stock market include stock brokers, registrar and transfer agents and NBFCs. They act as intermediaries between the depository and the investors, who need to open their demat accounts with these DPs for trading.

A recommendation in this regard has also been made by the Sebi's Depository System Review Committee and the regulator has sought comments from the two depositories -- NSDL and CDSL -- after discussing these recommendations, the official added.

This panel, comprising of independent experts and Sebi officials, is tasked with the mandate to conduct overall assessment and adequacy of existing depository framework and identify areas for review.

It also identifies areas for improvement of systems, procedures and practices and suggest necessary changes.

The panel has noted that certain depository participants "allow the promoters of companies to use tripartite agreements usually referred to as Non-Disposal Agreement/Non-Disposal Undertaking (NDU) to extend facilities to its clients for lending or borrowing of shares instead of following the pledging facility available in the depository system.

Consequently, it recommended that "DPs should not be party to such arrangements as there is no regulatory mechanism whereby depositories and DPs can treat shares covered by NDU as pledged or encumbered, leading to potential for fraud and multiple pledging".

Sebi has earlier also sought to check the NDU menace by putting in place a stronger set of disclosure norms for pledging of shares by the promoters of the company, wherein they were asked to disclose all kinds of pledging or encumbrance through such NDUs.

However, many entities have been avoiding such disclosures and those cases have come to the notice of the regulators only after complaints or during some probes.

An NDU typically involves shares being transferred to a new demat account without change in the beneficial ownership with an undertaking that the transferee would not sell those shares. At times, special purpose vehicles are floated to such share transfers to avoid making any disclosures.