PROJECT REPORT

On

‘Legal and Regulatory Aspects of Collective Investment Schemes’

By Students of

MET’s Institute of Management

Class: MMS 3nd Semester (2014-2016)

Finance Division B

Group Members:

Pratik Rathod - 129Pratik Savla - 135Mandar Shirke - 145Rahul Shirsat - 149Joney Thakur - 160Suraj Ugade - 162Monika Yadav - 177

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Table of Contents

1. Collective Investment Vehicle

2. Collective Investment Scheme

3. History of CIS in India

4. Securities and Exchange Board of India (Collective Investment Schemes) Regulations, 1999

5. Some of the definitions

6. Registration of Collective Investment Management Company

7. Grant of Certificate

8. Business Activities and Obligations of Collective Investment Management Company

9. Schemes of Collective Investment Management Company

10. General Obligations

11. Existing Collective Investment Scheme

12. Difference between mutual funds and CIS

13. Advantages of CIS

14. Disadvantages of CIS

15. Schemes disguised in CIS

16. Multi-level marketing or MLM schemes

17. Chit fund

18. Ponzi

19. Case Studies

20. Loopholes in the system

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Collective Investment Vehicles

A collective investment vehicle (CIV) is any entity that allows investors to pool their money and invest the pooled funds, instead of buying securities directly as individuals. The most common types of collective investment vehicles are mutual funds, exchange-traded funds, collective investment schemes and venture capital funds. Collective investment schemes are well established in many jurisdictions, and serve as an investment vehicle for a wide range of investment opportunities around the world. The International Organization of Securities Commission (IOSCO) in its Report on Investment Management of the Technical Committee defined a collective investment scheme (CIS) as “an open ended collective investment scheme that issues redeemable units and invests primarily in transferable securities or money market instruments.” In India, there are five distinct categories of collective investment vehicles in operation, such as mutual funds (MFs), index funds, exchange traded funds, CIS, and venture capital funds (VCFs), which mobilize resources from the market for investment purposes.

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Collective Investment vehicles

Mutual Funds

Index Funds

Exchange traded Funds

Collective Investment Schemes

Venture Capital Funds

Collective Investment Scheme

A Collective Investment Scheme (CIS), as its name suggests, is an investment scheme wherein several individuals come together to pool their money for investing in a particular asset(s) and for sharing the returns arising from that investment as per the agreement reached between them prior to pooling in the money. The term has broader connotations and includes even mutual funds. For instance, in UK, the unit trust scheme is a collective investment scheme. However, in India, as in US, the definition of CIS excludes mutual fundsor unit trust schemes etc and is given a strict definition in Section 11AA of the SEBI Act, 1992. CISs are regulated by the securities market regulator – SEBI- under SEBI (Collective Investment Scheme) Regulations, 1999.

According to Section 11AA of the SEBI Act, CIS is any scheme or arrangement, which satisfies the following conditions:

i. the contributions, or payments made by the investors, by whatever name called, are pooled and utilized solely for the purposes of the scheme or arrangement;

ii. the contributions or payments are made to such scheme or arrangement by the investors with a view to receive profits, income, produce or property, whether movable or immovable, from such scheme or arrangement;

iii. the property, contribution or investment forming part of scheme or arrangement, whether identifiable or not, is managed on behalf of the investors;

iv. the investors do not have day to day control over the management and operation of the scheme or arrangement.

Through the SEBI ordinance dated 18th July 2013, any pooling of funds under any scheme or arrangement, which is not registered with SEBI, involving a corpus amount of one hundred crore rupees or more shall be deemed to be a collective investment scheme.

However, as per the SEBI Act, the following activities have been exempted from the CIS Regulations. Any scheme or arrangement:

I. any scheme or arrangement made or offered by a co-operative society or a society being a society registered or deemed to be registered under any law relating to co-operative societies for the time being in force in any State;

II. any scheme or arrangement under which deposits are accepted by non-banking financial companies

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III. any scheme or arrangement being a contract of insurance to which the Insurance Act, applies;

IV. any scheme or arrangement providing for any Scheme, Pension Scheme or the Insurance Scheme framed under the Employees Provident Fund and Miscellaneous Provisions Act, 1952

V. any scheme or arrangement under which deposits are accepted under section 58A of the Companies Act, 2013 (1 of 2013);

#for the purposes of this section, “a small depositor” means a depositor who has deposited in a financial year a sum not exceeding twenty thousand rupees in a company and includes his successors, nominees and legal representatives. 

VI. any scheme or arrangement under which deposits are accepted by a company declared as a Nidhi or a mutual benefit society under section 620A of the Companies Act, 2013 (1 of 2013);

#notified by the Central / Union Government as a Nidhi Company. They are created mainly for cultivating the habit of thrift and savings amongst its members. The companies doing Nidhi business, viz. borrowing from members and lending to members only. The principal source of funds is the contribution from the members. The loans are given to the members at relatively reasonable rates for purposes such as house construction or repairs and are generally secured.

VII. any scheme or arrangement falling within the meaning of Chit business as defined in clause (d) of section 2of the Chit Fund Act, 1982 (40 of 1982);

#"chit amount" means the sum-total of the subscriptions payable by all the subscribers for any installment of a chit without any deduction of discount or otherwise;

VIII. any scheme or arrangement under which contributions made are in the nature of subscription to a mutual fund;

A registered Collective Investment Management Company is eligible to raise funds from the public for a particular Scheme and in turn issues them what are called “units” (which are essentially shares of that Scheme given in proportion to the contribution made by the investor). These units, by law, have to be compulsorily listed on the stock exchange platform.

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History of CIS in India

In 1990s there were various instances of collection of money by numerous agro-based and plantation companies, which eventually failed to provide any return on the investments (despite promising around 18-30% returns) including the repayment of principal amount. In this context, the Government of India, vide its press release dated November 18, 1997, decided that an appropriate regulatory framework for regulating entities which issue instruments like agro bonds, plantation bonds etc., will be put in place. The government decided that the schemes through which such instruments are issued would be treated as "Collective Investment Schemes" (CIS) coming under the provisions of the SEBI Act. Accordingly, SEBI vide its press release dated November 26, 1997 and December 18, 1997, prohibited collective investment schemes from sponsoring any new scheme till the CIS regulations are notified. The press releases further stated that instruments such as agro bonds, plantation bonds would be treated as CIS coming under the SEBI Act, 1992. All the companies having such activities were required to file information with SEBI. Moreover, general public was also informed that no person can sponsor or cause to be sponsored any new collective investment scheme and thereafter raise further funds.

Meanwhile, a committee was formed under Dr. S.A. Dave to examine and finalize the draft regulations for CISs. The committee submitted its report on 5th April 1999. Subsequently, the notification of SEBI (Collective Investment Schemes) Regulations 1999 was issued on October 15, 1999. As per the CIS regulations, any person who has been operating a Collective Investment Scheme at the time of commencement of the CIS Regulations was required to make an application to SEBI for the grant of registration under the provisions of the Regulation, within a period of two months from the date of the notification. In case, such an application is rejected, the entity was required to wind up its existing schemes in the manner as specified in the Regulations. No entity was / is allowed to run a CIS scheme without obtaining the Certificate of Registration from SEBI. In 2013, in the backdrop of Sahara / Sharada scams, SEBI modified the definition of CIS to include any scheme / arrangement floated by any person (instead of a company as was defined earlier); and any such scheme with corpus of more than Rs. 100 Crore shall also be deemed to be a CIS by SEBI

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Securities and Exchange board of India (Collective Investment Schemes) Regulations, 1999

Some of the definitions

“Certificate” means a certificate of registration granted under regulation 10 of these regulations;

”Collective Investment Management Company” means a company incorporated under the Companies Act, 2013 and registered with the Board under these regulations, whose objective is to organize, operate and manage a collective investment scheme;

“Offer document” means any document by which applications for subscribing to units of the scheme are invited from the public;

“Trustee” means a person who holds the property of the collective investment scheme in trust for the benefit of the unit holders, in accordance with these regulations;

“Unit” includes any instrument issued under a scheme, by whatever name called, denoting the value of the subscription of a unit holder; and

“Unit holder” means a person holding a unit in a scheme.

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Registration of Collective Investment Management Company

No person other than a Collective Investment Management Company which has obtained a certificate under regulations shall carry on or sponsor or launch a collective investment scheme.

Application for grant of certificate

Any person who is proposing to carry any activity as a Collective Investment Management Company on or after the commencement of regulations shall make an application to the Board for the grant of registration in Form A.

Application by existing Collective Investment Schemes

Any person who immediately prior to the commencement of these regulations was operating a scheme, shall subject to the provisions of these regulations make an application to the Board for the grant of a certificate within a period of two months from such date. An application under sub-regulation (1) shall contain such particulars as are specified in Form A and shall be treated as an application made in pursuance of regulation 4 and dealt with accordingly.

Application to conform to the requirement

An application, which is not complete in all respects or does not conform to the requirements given, shall be rejected by the Board Provided that before rejecting any such application, the applicant may be given an opportunity to remove within one month such objections as may be indicated by the Board Provided further that the Board may on sufficient reasons being shown extend the time in order to enable the applicant to remove such objections.

Conditions for eligibility

The Board shall not consider an application for the grant of a certificate unless the applicant satisfies the following conditions, namely:

a) the applicant is set up and registered as a company under the Companies Act, 2013;

b) the applicant has, in its Memorandum of Association specified the managing of collective investment scheme as one of its main objects;

c) the applicant has a net worth of not less than rupees five crores: Provided that at the time of making the application the applicant shall have a minimum net worth of rupees three

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crores which shall be increased to rupees five crores within three years from the date of grant of registration;

d) the applicant is a fit and proper person for the grant of such certificate;

e) the applicant has adequate infrastructure to enable it to operate collective investment scheme in accordance with the provision of these regulations;

f) the directors or key personnel of the applicant shall consist of persons of honesty and integrity having adequate professional experience in related field and have not been convicted for an offence involving moral turpitude or for any economic offence or for the violation of any securities laws;

g) at least fifty per cent of the directors of such Collective Investment Management Company shall consist of persons who are independent and are not directly or indirectly associated with the persons who have control over the Collective Investment Management Company;

h) no person, directly or indirectly connected with the applicant has in the past been refused registration by the Board under the Act.

Explanation : For the purposes of this clause, the Board shall take into account whether the previous application for a certificate of any person, directly or indirectly, connected with the applicant has been rejected by the Board or any disciplinary action has been taken against such person under the Act or any of the rules or any of the regulations made under the Act. At least one of the directors, on the Board of the Collective Investment Management Company, who is not subject to retirement, is a representative of the trustee;

i) the Collective Investment Management Company is not a trustee of any collective investment scheme;

j) In case the applicant is an existing collective investment scheme, it complies with the provisions of these regulations.

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Grant of Certificate

a) The Board may, on receipt of an application and on being satisfied that the applicant complies with the requirements specified in regulations, call upon the applicant to pay registration fee as specified in the Second Schedule.

b) On receipt of registration fee, the Board shall grant a certificate in Form B, on such terms and conditions as are in the interest of investors and as may be specified by the Board.

Procedure where registration is not granted

Where an application made for grant of registration does not satisfy the conditions specified in regulation, the Board may reject the application after giving the applicant a reasonable opportunity of being heard and inform the applicant of the same. The decision shall be communicated to the applicant by the Board within 30 days of such decision stating therein the grounds on which the application has been rejected.

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If rejected if not rejected

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CIMC with Certificate from SEBI under the regulations can launch a Scheme

Application can be made to SEBI in Form A of the Regulations to operate as a CIMC

Application for registration as CIMC to be accompanied with a non-refundable application for INR 25,000/-

SEBI may reject application if not in accordance to

Regulation 6 & 9

SEBI may give 30 days to Applicant to remove objections or extend

correction period if sufficient reasons are provided

SEBI will require Applicant to provide INR 10, 00,000/- as registration fees

If objections are cleared by Applicant, SEBI will provide certificate by

following the steps provided parallel if application is not rejected by SEBI;

If objections are not cleared no certificate will be granted

Upon submission of registration fee, SEBI shall grant certificate in FORM B of the Regulations.

Business Activities and Obligations of Collective Investment Management Company

Restrictions on business activities

The Collective Investment Management Company shall not:a) undertake any activity other than that of managing the scheme; b) act as a trustee of any scheme; c) launch any scheme for the purpose of investing in securities; d) Invest in any schemes floated by it.

Provided that a Collective Investment Management Company may invest in its own scheme,

i. if it makes a disclosure of its intention to invest in the offer document of the scheme, and ii. Does not charge any fees on its investment in that scheme.

Obligations of Collective Investment Management Company

Every Collective Investment Management Company shall:

a) be responsible for managing the funds or properties of the scheme on behalf of the unit holders;

b) take all reasonable steps and exercise due diligence to ensure that the scheme is managed in accordance with the provisions of these regulations, offer document and the trust deed;

c) exercise due diligence and care in managing assets and funds of the scheme;

d) be responsible for the acts of commissions and omissions by its employees or the persons whose services have been availed by it;

e) remain liable to the unit holders for its acts of commission or omissions, notwithstanding anything contained in any contract or agreement;

f) be incompetent to enter into any transaction with or through its associates, or their relatives relating to the scheme : Provided that in case the Collective Investment Management Company enters into any transactions relating to the scheme with any of its associates, a report to that effect shall immediately be sent to the trustee and to the Board.

i. appoint registrar and share transfer agents;

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ii. abide by the Code of Conduct as specified in the Third Schedule;

iii. give receipts for all monies received by it and give a report to the Board every month, particularly of receipts and payments;

iv. hold a meeting of the Board of Directors to consider the affairs of scheme at least twice in every three months;

v. ensure that its officers or employees do not make improper use of their position or information to gain, directly or indirectly, an advantage for themselves or for any other person or to cause detriment to the scheme;

vi. obtain adequate insurance against the property of the scheme;

vii. Comply with such guidelines, directives, circulars and instructions as may be issued by the Board from time to time, on the subject of collective investment schemes.

Submission of information and documents

a) The Collective Investment Management Company shall prepare quarterly reports (i.e., as at the end of March, June, September and December) on its activities and the position regarding compliance with these regulations and submit the same to the trustees within one month of the expiry of each quarter.

b) The Collective Investment Management Company shall file with the trustee and the Board—

a. particulars of all its directors along with their interest in other companies within fifteen days of their appointment; and

b. Any change in the interests of directors, within fifteen days of such change.

c) The Collective Investment Management Company shall furnish a copy of the Balance Sheet, Profit and Loss Account and a copy of the summary of the yearly appraisal report to the unit holders within two months from the closure of financial year.

d) The Collective Investment Management Company shall furnish to the Board and the trustee such information and documents to the Board and the trustee as may be required by them concerning the affairs of the scheme.

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Schemes of Collective Investment Management Company

Procedure for launching of schemes

No scheme shall be launched by the Collective Investment Management Company unless such scheme is-

a) Approved by the Trustee. b) Obtained rating from a credit rating agency. c) Appraised by an appraising agency. d) Obtain adequate insurance policy for protection of the scheme property.

A scheme launched by a Collective Investment Management Company shall only be a close ended scheme and the duration of the scheme shall not be of less than three calendar years.

No guaranteed returns

No scheme shall provide guaranteed or assured returns. Provided that indicative return may be indicated in the offer document only, if the same is assessed by the appraising agency and expressed in monetary terms.

Disclosures in the offer document

a) The Collective Investment Management Company shall before launching any scheme file a copy of the offer document of the scheme with the Board and pay filing fees as specified in the Second Schedule.

b) The offer document shall contain such information as specified in the Sixth Schedule.

c) The offer document shall also contain true and fair view of the scheme and adequate disclosures to enable the investors to make informed decision.

d) The Board needs to suggest any modifications to be made in the interest of the investors in the offer document within 21 days from the date of filing, after which the Collective Investment Management Company will issue the offer document to public.

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Advertisement material

The advertisement for each scheme shall disclose in addition to the investment objectives, the method and periodicity of valuation of scheme property.

Appraising Agency

The appraising agency is liable for any statement in the appraisal report which is misleading, incorrect or false.

Misleading Statements

The offer document and advertisement materials shall not be misleading or contain any statement or opinion which are incorrect or false. If it contains any statement or opinion which are incorrect or false or misleading, every person who is a director of the Collective Investment Management Company at the time of the issue of the offer document shall be punishable under the Act unless he proves either that the statement or opinion was immaterial or that he had reasonable ground to believe at the time of the issue of the offer document or advertisement that the statement was true.

Offer period

No scheme shall be open for subscription for more than 90 days.

Allotment of Units and refunds of money

a) The Collective Investment Management Company shall specify in the offer document,- a. The minimum and the maximum subscription amount it seeks to raise under the

scheme; and b. In case of oversubscription the process of allotment of the amount oversubscribed.

b) The Collective Investment Management Company shall refund the application money to the applicants, if the scheme fails to receive the minimum subscription

c) Any amount refundable shall be refunded within a period of six weeks from the date of closure of subscription list, by Registered A.D. and by cheque or demand draft marked “A/C Payee” to the applicants.

d) In the event of failure to refund the amounts within the period specified, the Collective Investment Management Company shall pay interest to the applicants at a rate of fifteen per cent per annum on the expiry of six weeks from the date of closure of the subscription list.

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Unit certificates

The Collective Investment Management Company shall issue to the applicant whose application has been accepted, unit certificates as soon as possible but not later than six weeks from the date of closure of the subscription list:Provided that if the units are issued through a depository, a receipt in lieu of unit certificate will be issued as per provisions of Securities and Exchange Board of India (Depositories and Participants) Regulations, 1996 and bye-laws of the depository.

Transfer of units

A unit certificate issued under the scheme shall be freely transferable. The Collective Investment Management Company shall, on production of instrument of transfer together with relevant unit certificates, register the transfer and return the unit certificate to the transferee within thirty days from the date of such production. Provided that if the units are held in a depository such units shall be transferable in accordance with the provisions of the Securities and Exchange Board of India (Depositories and Participants) Regulations, 1996 and the bye-laws of the depository

Money to be kept in separate account and utilization of money

a) The subscription amount received shall be kept in a separate bank account in the name of the scheme and shall be utilized for—

i. Adjustment against allotment of units ii. Or refund of money in case minimum subscription amount has not been received or in

case of over-subscription.

b) The moneys credited to the account of the scheme shall be utilised for the purposes of the scheme and as specified in the offer document.

c) Any unutilized amount lying in the account of the scheme shall be invested in the manner as disclosed in the offer document.

Investments and segregation of funds

The Collective Investment Management Company shall:

a) Segregate the scheme assets of different schemes.

b) Not invest corpus of a scheme in other schemes.

c) Not transfer funds from one scheme to another scheme

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Provided that inter-scheme transfer of scheme property may be permitted at the time of termination of the scheme with prior approval of the trustee and the Board.

Listing of schemes

The units of every scheme shall be listed immediately after the date of allotment of units and not later than six weeks from the date of closure of the scheme on each of the stock exchanges as mentioned in the offer document

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General Obligations

To maintain proper books of account and records, etc.

a) Every Collective Investment Management Company shall—

a. keep and maintain proper books of account, records and documents, for each scheme so as to explain its transactions and to disclose at any point of time the financial position of each scheme and in particular give a true and fair view of the state of affairs of the scheme, and

b. Intimate to the Board and the trustees the place where such books of account, records and documents including computer records are maintained.

b) Every Collective Investment Management Company shall continue to maintain and preserve, for a period of five years after the close of each scheme, its books of account, records, computer data and documents.

Financial year

The financial year for all the schemes shall end as on March 31 of each year.

Dispatch of warrants and proceeds

The Collective Investment Management Company shall: a) Dispatch to the unit holders the warrants within 42 days of the declaration of the

interim returns. b) Dispatch the redemption proceeds within 30 days of the closure or the winding up

of the scheme.

Statement of Accounts and Annual Report

The Collective Investment Management Company shall:

a) not exceed the ceilings on expenses or fees in respect of the scheme as specified in Part I of the Ninth Schedule;

b) prepare the accounts of the scheme in accordance with accounting norms as specified in Part II of the Ninth Schedule;

c) comply with format of balance sheet and profit and loss accounts as specified in Part III of the Ninth Schedule

An annual report and annual statement of accounts of each scheme shall be prepared in respect of each financial year.

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Every Collective Investment Management Company shall within two months from the date of closure of each financial year forward to the Board a copy of the Annual Report.

Auditor’s Report

Every scheme shall have the annual statement of accounts audited by an auditor who is empanelled with the Board and who is not in any way associated with the auditor of the Collective Investment Management Company.

The auditor shall be appointed by the trustee.

The auditor shall forward his report to the trustee and such report shall form part of the Annual Report of the scheme.

Publication of Annual Report and summary thereof

The scheme wise annual report or an abridged form thereof shall be published in a national daily as soon as possible but not later than two calendar months from the date of finalization of accounts.

Quarterly disclosures

A Collective Investment Management Company, on behalf of the scheme shall before the expiry of one month from the close of each quarter that is 31st March, 30th June, 30th September and 31st December publish its unaudited financial results in one daily newspaper having nationwide circulation and in a newspaper published in the language of the region where the Head Office of the Collective Investment Management Company is situated.

Disclosures to the investors

The trustee shall ensure that the Collective Investment Management Company shall make such disclosures to the unit holders as are essential in order to keep them informed about any matter which may have an adverse bearing on their investments.

Calling of meeting of unit holders, transfer and transmission of units

The calling of meeting of unit holders as well as transfer and transmission of units of scheme shall be as per the provisions of the Eighth Schedule.

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Action against intermediaries

The Board may initiate action for suspension or cancellation of registration of an intermediary holding a certificate of registration under section 12 of the Act who fails to exercise due diligence in the performance of its functions or fails to comply with its obligations under these regulations: Provided that no such certificate of registration shall be suspended or cancelled unless the procedure specified in the regulations applicable to such intermediary is complied with.

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Existing Collective Investment Scheme

Any person who has been operating a collective investment scheme at the time of commencement of these regulations shall be deemed to be an existing collective investment scheme

An existing collective investment scheme shall make an application to the Board for the grant of a certificate within a period of two months from such date. An application shall contain such particulars as are specified in Form A

The application made shall be dealt with in any of the following manner:a. By grant of provisional registration by the Board b. By grant of certificate of registration by the Board c. By rejection of the application for registration by the Board

No scheme to be launched until grant of registration

No existing collective investment scheme shall launch any new scheme or raise money from the investors even under the existing scheme, unless a certificate of registration is granted to it by the Board.

Example:

Sebi has asked Alchemist Infra Realty Ltd to wind up all such activities and refund the money collected from public investors, which could be more than Rs 1,000 crore, within three months. Besides, the company and its five directors have also been barred from the securities market till the time all its schemes are wound up and the money is refunded to investors. Sebi has also warned the company and its directors of initiating prosecution proceedings and a criminal case for "offences of fraud, cheating, and criminal breach of trust and misappropriation of public funds" if its orders are not complied with. Sebi probe also found that the investment application forms of the company also mentioned that it was part of 'Alchemist Group', which was engaged in diverse activities such as steel, food and beverages, IT, healthcare, media, aviation, realty, hospitality, education and tea estate, among others, with asset base of over Rs 5,000 crore. “Thus, an investor/applicant is misled to believe that the company, Alchemist Infra Realty Ltd, is part of the Alchemist Group, whereas the company has contended (before Sebi) that it is not associated with the Alchemist Group," the Sebi orders.

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Sebi began its investigations into the affairs of the company in 2011 after receipt of an anonymous complaint about Alchemist Infra Realty Ltd mobilising money from the public investors in breach of regulations.

The regulator later found that the company was running 'collective investment schemes' in the name of real estate business and had garnered Rs 1,087 crore as on March 31, 2011.

The company was charging up to 75 per cent as 'development charges' from the money collected from investors towards purchase of land.

During the initial probe, the company refused to provide details sought by Sebi, saying the regulator did not have a jurisdiction and it was not running any Collective Investment Scheme (CIS) business.

Alchemist Infra later provided some details to Sebi after repeated reminders and Sebi issued show-cause notices to the company and its directors in 2012.

In the meantime, the company sought to settle the case through Sebi's consent mechanism, but the plea was rejected by the regulator.

The company also approached Jharkhand High Court in Ranchi , but the court dismissed its petition through an order dated May 10 and asked Sebi to conclude its inquiry and pass an order within six weeks. The company filed another petition before the Delhi High Court on June 4 in the matter, after which it was asked to reply to Sebi's show-cause notice by June 11.

In its reply, the company maintained that Sebi did not have any juridiction over its activities and it was not running any CIS business.

Sebi, however, found that Alchemist was seeking investments of a minimum amount of Rs 1,000 and in multiples of Rs 1,000 thereafter, wherein investors were allotted immovable property that could be leased out to the company under 'fixed term tenancy agreement'.

The regulator said it was clear that the transactions of the company were "not at all a land purchase-sale transaction' and the only document that the purchases were getting was a 'certificate of property', which was rather like a certificate of investment.

Sebi said that the business schemes run by the company were entirely in the nature of CIS and were being operated without necessary regulatory approvals.

Accordingly, Sebi ordered that Alchemist Infra Realty cannot collect any money from investors or launch or carry out any scheme which could be identified as a CIS activity.

The regulator also asked the company and its directors to wind up all the existing CISs and refund the investors' money within three months.

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Sebi said it would initiate prosecution proceedings against the company and its directors, make reference to the state government and police to register a civil/criminal case, and ask the Corporate Affairs Ministry to initiate winding-up process for the company, if its orders are not complied with.

The regulator also barred the company and its five directors -- Brij Mohan Mahajan, Narayan Madhav Kumar, Balvir Singh, Chandra ShekharChauhan and Sunil KantiKar -- from the securities markets till the time all the CIS activities are wound up and the money collected from them are refunded with returns due to the investors.

Consideration of application for grant of provisional registration

The applicant for being considered as an eligible applicant for the grant of provisional registration shall satisfy the Board that

a. The schemes of the applicant should be of collective investment schemes; b. The affairs of the applicant are not being conducted in a manner detrimental to the

interest of existing investors; c. The applicant has at least 50% independent directors at the time of making the

application.

Explanation: “Independent directors” shall mean directors who are not associates of the persons operating the existing collective investment scheme.

Any person, directly or indirectly connected with it has not been granted registration by the Board under the Act.

The Board for the purposes of grant of provisional registration may, inter alia, inspect the schemes, books of account, records and documents of the applicant.

The Board shall recover from the applicant such expenses including fees paid to the auditor, appraising agency as may be incurred by it for the purposes of inspecting the schemes, books of account, records etc. of the applicant.

The Board on being satisfied that the requirements under sub –regulation are fulfilled shall accept the application and if the Board is not satisfied may reject the application and the applicant thereupon shall wind up its existing scheme(s) in the manner specified in regulation.

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Grant of provisional registration

The Board after being satisfied that the conditions specified in the above regulation are fulfilled may grant provisional registration to the applicant subject to the following conditions:

Within a period of two years from the date of provisional registration:

a. The applicant shall get the existing schemes rated by a credit rating agency. b. The applicant shall get the existing schemes audited by an auditor. c. The applicant shall get existing schemes appraised by an appraising agency. d. The applicant shall create a trust and appoint trustees in the manner specified in

regulations. e. The applicant shall comply with accounting and valuation norms in respect of schemes

floated before the commencement of these regulations as specified in Part II of the Ninth Schedule.

f. The applicant shall meet the minimum net worth of Rupees one crorewithin one year from the date of grant of provisional registration which shall be increased by Rupees one crore each within two years, three years, four years and five years from the date of grant of provisional registration.

The applicant shall not dispose of the scheme property except for meeting obligations arising under the offer document of the scheme.

The applicant shall give a written undertaking to the Board to comply with the conditions specified above.

o The applicant who has been considered eligible for the grant of

provisional registration by the Board shall pay provisional registration fee as per the Second Schedule.

An applicant who after grant of provisional registration fails to comply with the conditions as specified above shall not be considered eligible for the grant of certificate of registration and shall wind up the scheme in the manner specified.

Registration to existing scheme An existing Collective Investment Scheme which satisfies the Board shall be

granted a certificate of registration upon payment of registration fees. An existing Collective Investment Scheme which has been granted certificate of

registration may be allowed to float new schemes on such terms and conditions as may be specified by the Board.

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Differnce between Mutual funds and CIS

A mutual fund can be considered as a type of CIS but As per SEBI (CIS) Regulations 1999, a CIS cannot launch any scheme for the purpose of

investing in Shares & Securities. So the basic difference between a Mutual Fund & a CIS is that a CIS invests mainly into

Real Estate & Agri-products but a Mutual Fund invests majorly in Shares & Securities

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Advantages of CIS

1. Professional Investment Management

Collective Investment Schemes hire full-time investment professionals to manage the investment portfolios. These managers have real-time access to crucial market information and they are able to execute trades in a very quick and cost-effective manner.

2. Convenience and FlexibilityAn investor in a Collective Investment Scheme would invest in a single fund and yet they enjoy the benefits of a diversified portfolio with a wide range of services. Fund managers are also charged with the responsibility of deciding what securities to trade and they ensure that dividend payments are received and investor rights are exercised. Collective Investment Schemes also make use of the services of high quality custodians and registrars to make sure that investors have ease of mind.

3. LiquidityCollective Investment Schemes allow you to get your money back in a prompt manner at the relevant market related prices.

4. TransparencyYou get regular information on the value of your investment and you may be able to obtain information on the specific investments that are made by the Collective Investment Scheme

5. Spreading riskEven if you have only a small amount to invest, you can spread your money across a wide range of investments. This is a lower risk strategy than putting all your money into just one or two investments. This is referred to as diversification.

6. Reduced dealing costsIf you yourself were to buy a large number of different investments, you would probably only be able to invest a small sum in each. This means dealing costs would take a large chunk out of your profits. Pooling your money with that of other investors means you have the advantages of buying in bulk.

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7. Cost averaging

Investing regularly soothes out the effect of falls and rises in prices over the period of investment. If an investor regularly invests a fixed amount, this buys more shares or units when the price is lower, and fewer when the price is higher. This has the effect of making the average price paid lower than the average price over the same period. By comparison with investing the same amount in a lump sum at the beginning of the period, the regular contributions gains greater value when the price recovers.

8. Reduced administration

If you hold investments direct, there is often a lot of paperwork involved in buying, selling, collecting dividends, and so on. Also dealing with foreign stock exchanges and brokers can be tricky and time consuming. With a collective investment, the fund manager deals with all of that.

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Disadvantages of CIS

1. Paying for a fund manager:

The professional manager running the investment fund on behalf of all the investors takes a fee direct from the investment fund. This is a cost you’d avoid if youmanaged your own investments.

2. Lack of choice:

Although you can choose the type of fund you invest in, you have no control over the choice of individual shares, bonds and so on which go into the fund.

3. Loss of owner’s rights:

If you hold a company’s shares direct, you are sometimes entitled to shareholders’ perks. For example, discounts on the company’s products and you have the right to attend the company’s annual general meeting and vote on important matters. Investors in a collective investment have none of the rights connected with the individual investments in the fund.

4. Distrust due to Involvement of Scams:

Since 1999, when the Act was made, till now, a lot of scams have been caught by SEBI which has caused huge losses to a common man because of which the public has lost trust in such schemes which will cause problems to raise money through CIS in future.

5. Lack of control:

The investors do not have day to day control over the management and operation of the scheme or arrangement.

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Notable cases:

Sahara-SEBI case: SAT disposed off an appeal by the Sahara group saying that the matter was already pending before the Supreme Court. Two Sahara Group firms have been accused of raising money without regulatory approvals by the SEBI. The appeal related to the case involving two Sahara group firms raising money without regulatory approvals. The legal battle with market regulator SEBI is continuing in the Supreme Court over the refund of over Rs 20,000 crore to investors.

Reliance Industries-SEBI: An insider trading case is being heard by the SAT for the past seven years.

The Spice Telecom IPO case: the Tribunal barred one DiptiKirit Parekh from accessing the capital market for two years for cornering shares issued in the initial public offer (IPO) of Spice Communications back in 2007

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Schemes Disguised as CIS

Multi-level marketing or MLM schemes

An MLM company is one which is involved in multi-level marketing. It is a plan for the distribution of products whereby participants earn money by supplying products to other participants in the same plan. They, in turn, make their money by supplying the same products to other participants. It is possible for multi-level marketing businesses to generate funds by sale and distribution of genuine products or services – however, often MLM businesses generate money exclusively by charging enrolment or subscription fees from new participants, and the fraction of revenues generated from sale of products and services is nil or insignificant, in which case they become similar to ponzi schemes.

Most multi-level marketing schemes in India qualify as money circulation schemes under the Prize Chits and Money Circulation Schemes (Banning) Act, 1978 Act and are hence illegal, unless the schemes are carefully structured to be compliant with the law. The act defines money-circulation schemes as schemes for the making of quick or easy money on any event or contingency applicable to the enrolment of members into the scheme, irrespective of whether the money paid out is derived from the entrance money of the members of the scheme. Note that even if a particular MLM scheme has been structured to be compliant with the law, it does not prevent risk of investigative proceedings being initiated by the police against the promoters of such schemes

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Amway case study:

William S Pinckney, the chief executive officer of Amway India, was arrested by the crime branch of Kerala Police along with two other directors of the company.

A report in the Daily News and Analysis (DNA) quotes a top official of Economic Affairs Wing (EOW), Kerala as saying "With the call of easy money, they have been luring people to come and invest. And in turn, the new members had to get more people and this was leading to illegal money circulation. As a result, we had received several complaints against the company and we decided to arrest the officials." The company is said to have been violating the Prize Chits and Money Circulation Schemes (Banning) Act. More specifically, Pinckney and the two other directors were arrested in connection with a case filed by a certain Visalakshi of Kozhikode. She claimed to have incurred losses of Rs 3 lakh in trying to sell the products of Amway through its multi-level marketing network.

A report in The Mint quotes P AValsan of the EOW of Kerala Police as saying "They were charging 10 times the value of their product. For instance, they sold product priced at Rs 340 at anywhere between Rs 2,700 and Rs 3,400...Also, they were involved in money chain, which is prohibited under the Prize Chits and Money Circulation Schemes (Banning) Act 1978."

A money circulation scheme is essentially a Ponzi scheme. A Ponzi scheme is a fraudulent investment scheme where the money being brought in by newer investors is used to pay off older investors. The scheme offers high returns to lure investors in and it keeps running till the money being brought in by the newer investors is greater than the money needed to pay off the older investors whose investment is up for redemption. The moment this breaks, the scheme collapses.

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Before we get into a detailed discussion on whether Amway is a Ponzi scheme or not, it is important to understand how Amway and other multi-level marketing(MLM) companies go about their business.

As per the Amway Business Starter Guide there are three ways a distributor can make money. First and foremost he makes what the company calls the retail profit margin.

"Distributors buy Amway products at Distributor Acquisition Price (DAP) and may resell products at a retail price, not to exceed the maximum retail price, as published. In this case, the Distributor's income would be the difference between the DAP and retail price," the Business Starter Guide points out.

This is the way almost any distributor for any company makes money. He buys goods directly from the company at a certain price and then sells them at a higher price, which cannot be more than the maximum retail price.

The second way a distributor makes money is through what Amway calls the commission on personal purchases. "Distributor may earn commission on the volume of the Distributor's individual purchases of Amway products during the month," the Business Starter Guide points out.

The third way a distributor makes money is through earning commissions on group sales. "A Distributor may recruit a sales group and based on the success and productivity (as defined by product sales) of the sales group, a Distributor may earn commissions. It is important to note that a Distributor only earns commissions on the volume of Amway products actually sold," the Business Starter Guide points out.

So a distributor can sponsor other distributors and then make a certain commission on the amount of Amway goods sold by those distributors. The new distributors can appoint more distributors and so the chain grows. The original distributor gets a commission on all the products sold under his chain.

Prima facie this sounds like a perfectly legitimate though not a normal way of doing business. Amway products are not available in shops. If you want them, you have to buy them directly from Amway distributors.

There are many multi-level marketing companies in the market which claim to sell a certain product. These products include gold coins, holiday memberships and so on. These MLM companies appoint distributors who in turn appoint new distributors, with the idea of selling the product of the company.

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The catch here is that the product is just a faade. Nobody is really interested in selling the product. The money is made by distributors by appointing new distributors who are charged a certain commission for joining the MLM scheme. The new distributors in turn appoint newer distributors and so the chain continues.

The return to the upper levels comes from creating new levels rather than the sale of the product. The wealth gained by participants at the higher levels is the wealth lost by participants at lower levels. So these MLM schemes are essentially Ponzi schemes where money being brought in by newer distributors is paid off to older distributors. There is no legitimate business activity going on

The Federal Trade Commission in the United States looked at Amway in the 1970s and tried to answer the question whether Amway was a legitimate business or a Ponzi scheme?

The Commission held that, although Amway had made false and misleading earnings claims when recruiting new distributors the company's sales plan was not an illegal pyramid scheme (another name for a Ponzi scheme).

"Amway differed in several ways from pyramid schemes that the Commission had challenged. It did not charge an up-front "head hunting" or large investment fee from new recruits, nor did it promote "inventory loading" by requiring distributors to buy large volumes of nonreturnable inventory," said Debra A Valentine, a general counsel for the FTC, in a seminar organised by the International Monetary Fund in May 1998.

So that's another point in favour of Amway not being a Ponzi scheme.

But there is one thing that we need to understand here. Like in an MLM scheme which is a Ponzi scheme, the business that an Amway distributor does, depends on finding new distributors and then hoping that these new distributors sell Amway products and at the same time are able to appoint newer distributors. If a distributor is successful at this he makes more and more money. The trouble is that we go along it becomes more difficult to appoint new distributors. Let’s try and understand this through an example. Lets say the first distributor that a genuine MLM Company appoints, in turn appoints five distributors.

These five distributors now appoint five distributors each. So we now have 25 distributors at the second level. Each of these distributors now in turn appoints five distributors. So we now have 125 distributors at the third level. If the chain continues, at the 12th level we will have around 24.45 crore distributors. This is equal to around 20% of India's population. The total number of distributors will be around 30.51 crore.

What this simple example tells us is that it is difficult to keep appointing more and more distributors. This is similar to a Ponzi scheme, where for the scheme to keep going more and

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more new investors need to keep coming in, so that the older investors whose money is falling due can be paid off. The trouble of course is that that the number of people is not infinite, as the above example shows us.

The problem for Amway distributors (or any other genuine MLM company) entering the game late is that it is difficult for them to sponsor new distributors. It is also difficult for them to sell Amway products given that there are so many distributors already operating in the market and they have selling relationships in place. Also, products sold by MLM companies typically tend to be more expensive than similar products being sold in the open market, making it more difficult to get customers willing to buy.

Hence, even in a legitimate MLM business like Amway, it is important to enter early. Those entering the business at the lower levels, find it difficult to get on new distributors and also end up with a lot of unsold inventory, thus leading to losses. Amway requires its distributors to buy back unsold inventory from the new distributors that they sponsor. But that is easier said than done.

To conclude, an individual entering a legitimate MLM business at lower levels is likely to face losses and be unsuccessful at it. To that extent, even legitimate MLM businesses are similar to Ponzi schemes, where it is important to enter the scheme early. Also, like Ponzi schemes even legitimate MLM businesses project the prospect of unrealistically high returns while soliciting new distributors.

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Chit fund

According to the Chit Funds Act, 1982, a chit is an arrangement under which a person enters into an agreement with a specified number of persons that every one of them shall subscribe a certain sum of money by way of periodical instalments over a definite period and that each such subscriber shall, in his turn, as determined by lot or by auction or by tender or in such other manner as may be specified in the chit agreement, be entitled to the prize amount.

This can be complicated to understand – so let’s take a simple example:

A, B, C, D and E put in 10000 rupees each. They have an aggregate fund of rupees 50000 (10000 * 5). This fund is the chit fund. Now the fund will be auctioned to the person who is willing to give maximum discount. “B” is willing to give a discount of 2000 rupees, i.e. he wants 48000 rupees, “c” is willing to give a discount of 2500 rupees (he wants 50,000 – 2500 = 47,500 rupees) and “D” is willing to give a discount of 5000 rupees (he wants 50,000 – 5000 = 45,000 rupees), which is the maximum discount offered by any one of them. So, “D” will get the amount left after deducting the discount and organisational charges say 1000 rupees]. Therefore “D” will get 50,000 – 5000[discount] – 1000[organisational charges], that is, 44,000 rupees. The remaining 6000 will be divided equally among A,B,C,D and E.

Benefit: D gets a larger sum of money in hand than what he could have afforded which can be used for various purposes like taking a loan or buying a car, etc. This has been made possible by pooling of funds of several other people. In another cycle, the same money will be pooled for the benefit of another participant.

A chit fund does not have pre-determined return as in the case of corporate deposits and MLM schemes. The return depends on various factors like discount and organiser’s charges.

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Ponzi Schemes

The expression ‘ponzi scheme’ has been borrowed from US experiences, but businesses have used similar models across the world. Let’s refer to the definition given by the Securities and Exchange Commission (SEC):

A ponzi scheme is a fraudulent investment operation that pays returns to its investors from their own money or the money paid by subsequent investors, rather than from profit earned by the individual or organization running the operation.

The scheme is named after Charles Ponzi, who became notorious for using the technique in 1920. Ponzi's original scheme was based on the arbitrage of international reply coupons for postage stamps; however, he soon diverted investors' money to make payments to earlier investors and himself.

The expression ‘ponzi scheme’ has been borrowed from US experiences, but businesses have used similar models across the world. Let’s refer to the definition given by the Securities and Exchange Commission (SEC):

A ponzi scheme is a fraudulent investment operation that pays returns to its investors from their own money or the money paid by subsequent investors, rather than from profit earned by the individual or organization running the operation.

Typically, extraordinary returns are promised on the original investment and vague verbal constructions such as "hedge futures trading", "high-yield investment programs", or "offshore investment" might be used. The promoter sells shares to investors by taking advantage of a lack of investor knowledge or competence, or using claims of a proprietary investment strategy which must be kept secret to ensure a competitive edge.

Ponzi schemes sometimes commence operations as legitimate investment vehicles, such as hedge funds. For example, a hedge fund can degenerate into a Ponzi scheme if it unexpectedly loses money (or simply fails to legitimately earn the returns promised and/or thought to be expected) and if the promoters, instead of admitting their failure to meet expectations, fabricate false returns and (if necessary) produce fraudulent audit reports.

A wide variety of investment vehicles or strategies, typically legitimate, have become the basis of Ponzi schemes. For instance, Allen Stanford used bank certificates of deposit to defraud tens of thousands of people. Certificates of deposit are usually low-risk and insured instruments, but the Stanford CDs were fraudulent

Initially the promoter will pay out high returns to attract more investors, and to lure current investors into putting in additional money. Other investors begin to participate, leading to a

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cascade effect. The "return" to the initial investors is paid out of the investments of new entrants, and not out of profits.

Often the high returns encourage investors to leave their money in the scheme, with the result that the promoter does not have to pay out very much to investors; he simply has to send them statements showing how much they have earned. This maintains the deception that the scheme is an investment with high returns.

Promoters also try to minimize withdrawals by offering new plans to investors, often where money is frozen for a longer period of time, in exchange for higher returns. The promoter sees new cash flows as investors are told they cannot transfer money from the first plan to the second. If a few investors do wish to withdraw their money in accordance with the terms allowed, their requests are usually promptly processed, which gives the illusion to all other investors that the fund is solvent.

Unraveling of a Ponzi scheme

When a Ponzi scheme is not stopped by the authorities, it sooner or later falls apart for one of the following reasons:

1. The promoter vanishes, taking all the remaining investment money (which excludes payouts to investors already made).

2. Since the scheme requires a continual stream of investments to fund higher returns, once investment slows down, the scheme collapses as the promoter starts having problems paying the promised returns (the higher the returns, the greater the risk of the Ponzi scheme collapsing). Such liquidity crises often trigger panics, as more people start asking for their money, similar to a bank run.

3. External market forces, such as a sharp decline in the economy (for example, the Madoff investment scandal during the market downturn of 2008), cause many investors to withdraw part or all of their funds.

Speak Asia case study:

Every morning, just before breakfast, 44-year-old Mukesh Bisht opens his laptop and checks his email. He patiently reads every new message, including the spam posts.

Many of the messages are abusive; some threaten him with dire consequences; a very few are polite requests. Bisht doesn’t need to read the names. He knows who they are from — ‘down line’ investors, people he encouraged to sign up for what turned out to be the multi-crore SpeakAsia scam. Regardless of the tone, all the emails have a uniform demand: Bisht should compensate the senders for encouraging them to enroll in a get-rich-quick scheme with Singapore-based SpeakAsia Online Limited (SAOL).

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Bisht slips back into his chair, looks out of the window and curses. “I take a shower only after checking the email,” he says. “It helps me get over the abuse that is thrown at me every day. I feel duped and helpless.”

Bisht, based in Dehradun, is among the 2.4 million Indians who fell prey to SAOL’s scheme, only to be duped later after the promoters disappeared with their booty.

The company had asked investors or “panellists” to fill in online survey forms every week to earn Rs. 52,000 a year. To sign up, they said, you had to ‘invest’ Rs. 11,000 annually; you would recover that cost in less than three months, they promised.

SAOL promised additional commissions if you enrolled more members.

In reality, the consumer surveys had no end-user; SAOL had no business-linked revenue stream

“I recovered my initial capital at Speak Asia, but I am worried about the money of people who joined on my advice,” says Bisht. “What will I say to them if they never get their money back?”

Bisht’s only hope is the recent arrest of alleged scheme kingpin Ram Sumiran Pal in India, following a multi-agency probe into what experts say was a “systematic financial swindle” of Rs. 2,200 crore.

The Mumbai police recently filed a charge sheet against SpeakAsia’s promoters, detailing how unsuspecting investors were lured into parting with hard-earned savings. It contained 5,000 pages.

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Recent Developments

Sebi barred cash transactions for collective investment schemes (Jan 2104)

Sebi made it compulsory for all investments into CIS (Collective Investment Scheme) funds to be made through banking channels, and not in cash, to thwart any money laundering activities through such schemes.

Besides, the new norms would also help improve transparency in fund-garnering activities through CIS activities and would make it easier to identify the source of funds and real investors involved in such schemes.

A large number of cases have come to light in past few years where gullible investors have been defrauded through illegal CIS activities, while their operators claim to have returned the money when caught by regulators and law enforcement agencies.

The new norms, which have come into effect, will be called the Securities and Exchange Board of India (Collective Investment Schemes) (Amendment) Regulations, 2014.

As per the regulation, "monies payable towards subscription of units of collective investment scheme shall be paid through cheque or demand draft or through any other banking channel, but not by cash."

For launching any such scheme, a person needs to make an application for registration as a Collective Investment Management Company provided that any scheme which is otherwise regulated or prohibited under any other law will not be deemed to be a CIS.

The Collective Investment Management Company will enter into an agreement with a depository for dematerialization of the units of the scheme proposed to be issued.

Also, the regulator said that the Collective Investment Management Company will comply with Know Your Client guidelines.

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Securities law (amendment) bill 2014(aug 2014)

Parliament approved legislation aimed at giving the Securities and Exchange Board of India (Sebi) more powers to crack down on frauds such as Ponzi schemes and to protect investors, but stopping short of arming it with the right to tap phones and conduct searches without court approval. Securities Laws (Amendment) Bill 2014 was passed by the RajyaSabha, giving it the parliamentary seal of approval, after LokSabha passed it last week. It now needs the President’s signature to become law. “The Act has been fine-tuned and new architecture with wider language has been introduced...Sebi has no power to tap telephones...Sebi can call for information on call data records. The power to bug or intercept is not phone. He added through the past eight months, he had been running from pillar to post to recover the maturity amount of Rs 24,000.

Yadav had invested through an agent, who had returned to his native Jaunpur in Uttar Pradesh, citing illness. "Agent bhi UP wale, investor bhi UP wale zyaada the (both agents and investors were largely from UP)," Yadavsaid.given to Sebi within the Act,” finance minister ArunJaitley said. The bill was brought against the backdrop of thousands of small investors being duped by fraudulentinvestment schemes like the Rs.2,000-crore scam in West Bengal involving the Saradha Group, a deposit-taking firm, that came to light. Following the collapse of Saradha Group in April 2013, the Union government constituted interministerial group to look at ways to plug regulatory loopholes around such so-called multi-level marketing or pyramid schemes. The new law will empower Sebi investigators to conduct searches and seek

information from suspects, both within and outside the country. As a safeguard, any search operation can be conducted only after approval of a designated court in Mumbai, where Sebi headquarters is based. In an ordinance promulgated by the previous United Progressive Alliance (UPA) government, Sebi was vested with powers to conduct search and seizure operations without prior permission. “This is too arbitrary a power.... Therefore, this power had to be tapered down,” the finance minister said. The law will also cover multi-level marketing schemes, which are disguised as collective investment scheme (CIS), with a corpus of Rs.100 crore or more. The new powers will help Sebi recover dues from defaulters, search premises and seize documents relevant to any violation of capital markets laws. They will also allow Sebi to access call data records in insider trading investigations. In May 2013, Sebi sought powers to pass cease and desist orders on offenders. Sebi chairman U.K. Sinha had said that the regulator had asked for powers similar to regulators such as the Competition Commission of India to recover dues and take action against deposittaking firms illegally raising public money. “The move is in the

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right direction, though one may debate that a lot more could have been done,” said SudipBandyopadhyay, managing director and chief executive of Destimoney Securities Pvt. Ltd, a brokerage firm. “Tackling CIS and recovering money from defaulters will be easy with these additional powers,” Bandyopadhyay said. “Also, by amending the ordinance a bit and making it mandatory for Sebi to take a permission of a special court before conducting any search and seizure operation, the government has ensured that Sebi uses this power judiciously.

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CASE STUDIES

Saradha Group

The Saradha Group financial scandal is a financial scam that was caused by the collapse of a Ponzi scheme run by Saradha Group, a consortium of over 200 private companies that was believed to be running a wide variety of collective investment schemes (popularly but incorrectly referred to as chit fund) in Eastern India. The group collapsed in April 2013, causing an estimated loss of INR 200–300 billion (US$4–6 billion) to over 1.7 million depositors. In the aftermath of the scandal, the State Government of West Bengal, where the Saradha Group and the majority of duped investors were based, instituted an inquiry commission to investigate the collapse and also set up a fund of INR 5 billion (92 million USD) to ensure that low-income investors are not bankrupted. The Union Government through the Income Tax Department and Enforcement Directorate also launched a multi-agency probe to investigate the Saradha scam, as well as other similar Ponzi schemes. In May 2014, the Supreme Court of India citing inter-state ramifications, possible international money laundering, serious regulatory failures and alleged political nexus transferred all investigations in the Saradha Scam and other Ponzi schemes to Central Bureau of Investigation, the federal investigative agency

Background:

India has a large low-income rural population with low access to formal banking facilities. A web of parallel informal banking arose to fill the vacuum. At its centrewere moneylenders, who used to charge exorbitant rates of interest; to curb this practice several Moneylenders Acts were enacted by the state governments by the 1950s. However failure to replace the role of moneylenders gave rise to fly-by-night financial operators who ran Ponzi schemes in various disguises. However some commentators place the blame for these kinds of Ponzi schemes on greed rather than exclusion from formal banking systems.

The relatively prosperous rural economy of West Bengal had previously relied on small savings schemes run by Indian Postal Service. However, low rates of interest in the 1980s and '90s encouraged the rise of several Ponzi schemes in speculative ventures such as Sanchayita Investments, Overland Investment Company, Verona Credit and Commercial Investment Company. Together, these scams eliminated close to 10 billion INR in investor wealth teak bonds, potato bonds or fictitious ventures in agro-export, construction, manufacturing, etc. As of 2013, 8 out of every 10 multi-level marketing and finance schemes against which complaints have been received are based in West Bengal,

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giving the state the sordid title of 'Ponzi capital of India'.It is estimated that these Ponzi funds have altogether amassed around INR 10 trillion (short scale) (200 billion USD) from unsuspecting depositors in Eastern India.

In spite of this history of Ponzi schemes, the continuing decline in interest rates, rapid financialisation of household savings, lack of financial literacy and investor awareness, political patronage, absence of adequate legal deterrence, and regulatory arbitrage encouraged the growth of similar companies. These companies either raised their funds through legitimate channels such as collective investment schemes, nonconvertible debentures and preference shares, or illegitimately through hoax financial instruments such as teak bonds, potato bonds or fictitious ventures in agro-export, construction, manufacturing, etc. As of 2013, 8 out of every 10 multi-level marketing and finance schemes against which complaints have been received are based in West Bengal, giving the state the sordid title of 'Ponzi capital of India'.It is estimated that these Ponzi funds have altogether amassed around INR 10 trillion (short scale) (200 billion USD) from unsuspecting depositors in Eastern India.

Modus operandi of Saradha:

Financial operations

The companies that made up Saradha Group were incorporated in 2006. Its name is a cacography of Sarada Devi, a highly revered spiritual icon of the region and the wife and spiritual counterpart of Ramakrishna Paramahamsa, a nineteenth-century mystic of Bengal. This association gave Saradha Group a veneer of respectability.

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Money collected by Saradha Group of companies per year in billion INR. 95% of the fund was collected in the last three years of the scam.Like all Ponzi schemes, Saradha Group promised astronomical returns in fanciful but credible investments. Its funds were sold on commission by agents who were recruited from local rural communities. As much as 25–40% of the deposit was returned to these agents as commissions and lucrative gifts to quickly build up a wide agent pyramid. To keep ahead of regulators, the group used a nexus of companies to launder money.

Initially, the front-line companies collected money from the public by issuing secured debentures and redeemable preferential bonds.However, under Indian Securities regulations and section 67 of the Indian Companies Act, 2013 a company cannot raise capital from more than 50 people without issuing a proper prospectus and balance sheet. Its accounts must be audited. It must also have explicit permission from the market regulator Securities and Exchange Board of India (SEBI).

SEBI first challenged Saradha Group in 2009. Saradha Group responded by opening as many as 200 new companies to create more cross-holdings. This created an extremely complex tiered corporate structure which made it difficult to pin blame on any one company.

However, SEBI persisted in its investigation through 2010. In response, Saradha Group changed its methods of raising capital. In West Bengal, Jharkhand, Assam and Chhattisgarh, it now ran variations of collective investment schemes (CIS), such as tourism packages, forward travel and hotel booking timeshare credit transfer, real estate, infrastructure finance, and motorcycle manufacturing. The investors were rarely informed

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about the true nature of the investments. Instead, many investors were told only that they would get high returns after a fixed period. To other investors, the investment was fraudulently sold as a form of 'chit fund'. Under the Chit Fund Act (1982), chit funds are regulated by state governments rather than SEBI.

After SEBI warned the state government of West Bengal about Saradha Group's apparent chit fund activities in 2011, Saradha Group changed its methods again. This time, it acquired and sold large numbers of shares of various listed companies, siphoning off the proceeds of the sale to accounts which have not yet been identified.

By 2012, SEBI was able to identify the group's activities as CIS, not chit fund, and demanded that it immediately stop operating its investment schemes until it received proper permission from SEBI. However,Saradha Group ignored SEBI, and continued to operate in the same manner until it collapsed in April 2013.

Building brand and non-financial businesses

Like previous Ponzi schemes, Saradha Group invested strongly in building its brand. With enormous funds at its disposal, Saradha invested in high visibility sectors, such as the Bengali film industry, where it recruited famous actress and Trinamool Congress (TMC) Member of ParliamentSatabdi Roy as its brand ambassador. Sections of the media reported that famous actor and Member of Parliament from Trinamool Congress MithunChakraborty was the brand ambassador of Saradha Group's media platform.

Saradha Group also recruited KunalGhosh, another Trinamool Congress Member of parliament, to act as the CEO of the media group. Under KunalGhosh, the group went on a spree of buying and establishing local television channels and newspapers. By 2013 it employed over 1500 journalists and owned eight newspapers in five languages: Bengal Post, Seven Sisters Post (English dailies), Kalom (Bengali daily), PrabhatVarta (Hindi daily), AjirDainikBaturi (Assamese daily), Sakalbela, Azad Hind[ and Parama(Bengali dailies). It also owned two Bengali news channels (Tara Newz and Channel 10), two Bengali general entertainment channels (Tara Muzic and Tara Bangla) and one FM radio station.

In 2011, Saradha Group bought Global Automobiles, a heavily indebted motorcycle company, to front the latest version of its Ponzi scheme. Even though the company immediately stopped most production, it kept 150 workers on payroll who "pretended to work whenever truckloads and busloads of prospective depositors of Saradha Realty visited the plant for a first-hand check before investing." It also bought similar shell

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companies like West Bengal Awadhoot Agro Private Ltd in North 24-Parganas and Landmark Cement in Bankura to showcase them to agents and depositors and convince them that the Saradha Group had diversified interests.

As part of its corporate social responsibility program, Saradha Group donated motorcycles to the Kolkata Police. On 19 July 2011, it persuaded Mamata Banerjee, the Chief Minister of West Bengal to launch its ambulances and motorcycles for the Jangalmahal area of West Midnapore.

To further etch itself in the socio-cultural milieu of Bengal, Saradha Group invested in football rivals and the best known football clubs in Bengal: MohunBagan A.C. (INR 18 million in 2010–11) and East Bengal F.C. (INR 35 million since 2010).The group also generously sponsored various Durga Puja celebrations organised by local political leaders.

Political patronage

Several political leaders received financial support from Saradha Group, including several Members of Parliament of Trinamool Congress, the incumbent ruling party of West Bengal.

Member of Parliament KunalGhosh drew a salary of INR 1.6 million per month from Saradha Group. Member of Parliament Srinjoy Bose, son of SwapanSadhan Bose, was directly involved with the media operations of Saradha Group. Transport Minister MadanMitra headed the employees' union of Saradha Group, and publicly encouraged people to invest their savings with the company. SudiptoSen reportedly spent Rs 18.6 million to buy paintings by Mamata Banerjee, whose government later issued a notification that public libraries should buy and display newspapers of Saradha group. The loss making LamdmarkCementcompany co-owned by textiles minister Shyamapada Mukherjee, was bought at a premium by Saradha Group. The group also had financial dealings with Ganesh Dey, the confidential assistant of the finance minister of the erstwhile Left Front government, who was later expelled.

Politicians outside West Bengal also benefited from Saradha Group. The Health and Education Minister of Assam, HimantaBiswaSarma, may have profited personally from the Ponzi scheme. Sen had claimed of paying Rs 250 million to Manoranjana Singh, wife of former Congress Member of Parliament from Assam and Union Cabinet minister Matang Singh, Rs 30 million to her father K N Gupta to buy shares in a TV channel, allegedly at an inflated price. As per ED officials investigating the case, the actual amount paid could be almost double of what is being claimed.

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Some commentators also state that this Ponzi scheme only survived for so many years because of its heavy political patronage

Collapse and unravelling of the scam

The earliest public warnings about the reckless and fradulent CIS in West Bengal started in 2009, from members of parliament SomendraNathMitra and Abu Hasem Khan Choudhury and West Bengal Consumer Affairs Minister SadhanPande. However, apart from the SEBI investigation, no executive actions were taken at this time.

On 7 December 2012, RBI governor DuvvuriSubbarao stated that the West Bengal government should initiate suomotu action against companies that were indulging in financial malpractice. By that time, the Saradha Group Ponzi scheme was already beginning to unravel.

In January 2013, the cash inflow of Saradha Group was less than its cash payouts for the first time. This outcome is inevitable in a Ponzi scheme that is allowed to run full course. Although SudiptaSen tried to calm uneasy depositors and agents, the tide had irrevocably turned.

On 6 April 2013, SudiptoSen wrote an 18-page confessional letter to the Central Bureau of Investigation, in which he admitted that he had paid large sums of money to several politicians. He also stated that TMC leader KunalGhosh had forced him to enter into money-losing media ventures and blackmailed him into selling one of his channels at below market price. After posting this letter on 10 April, Sen fled.

In his absence, the Ponzi scheme unravelled into a full-blown crisis. On 17 April, approximately 600 collection agents claiming to be associated with Saradha Group assembled at the headquarters of TMC and demanded government intervention.

The mood of despondency quickly spread across Bengal. As described by a Times of India interviewee, "'The entire DakshinBarasat today looks like it was hit by a cyclone. Every home has a bankrupt depositor or a fugitive agent. People who were friends have turned enemies. Happy households have become miserable. Students have stopped going to school. Traders have lost interest in opening shutters. There is a sense of treachery that has replaced the warmth of a neighbourhood. Suddenly everything has become vicious." By this time, the Saradha Group financial scandal had colloquially become known as "Bonzi", a portmanteau of the words Ponzi and Bengal

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On 18 April, an arrest warrant was issued for Sudipto Sen. By 20 April, the news of potentially the largest Ponzi scheme ever seen in India had become ongoing headline news in West Bengal, and then front-page news nationally. After a massive manhunt, SudiptoSen, DebjaniMukhopadhdhay, and Arvind Singh Chauhan were arrested inSonmarg, Kashmir on 23 April 2013. On the same day, SEBI stated that both chain marketing and forward contracts are forms of CIS, and officially asked Saradha Group to immediately desist from raising any further capital and return all deposits by three months.

Aftermath and reactions

Why was it CIS and not Chit Fund?

A chit fund cannot declare in advance the return an individual is likely to make, given the way its structured. The fact that a rate of return was promised in advance clearly means that what SudiptoSen was not running a chit fund but something else. Moreover, the investors did not have day to day control over the scheme and the money would come to them only at maturity, which makes it a collective investment scheme.

Macroeconomic and microeconomic effects

Graph shows the fall of savings in government schemes with the rise of Ponzi funds (figures on y axis are in Crores INR)

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Companies illegally mobilising deposits diverted considerable funds (estimated to be around INR 240 billion in the last three years) from small savings funds promoted by state government. Official data show a steady slide in small-savings deposits and a spurt in withdrawals, which left a thin slice for the state government to borrow from to make ends meet. This had ripple effect on the overall macroeconomic situation of the state, as because instead of being used by government for public purpose the money went into Ponzi schemes which either were siphoned off to foreign locations or were put to use for private gains. On microeconomic front it is feared that legitimate Non-banking financial companies and micro finance institutions would be stigmatised and would lead to a vicious cycle of low depositor trust, higher interest rates, lower lending and a localised credit crunch. Furthermore as the majority of the depositors in Saradha group came from the lowest economic strata, the loss of the investment would result in a further decrease in social mobility. On the positive side, the scam has drawn attention on similar illegal deposit mobilising companies which are facing increasing regulatory heat. Many such companies which have been following variations of time share travel schemes on which there are little clear regulations are trying to register as cooperative societies to continue their financial operations.

On microeconomic front it is feared that legitimate Non-banking financial companies and micro finance institutions would be stigmatised and would lead to a vicious cycle of low depositor trust, higher interest rates, lower lending and a localised credit crunch. Furthermore as the majority of the depositors in Saradha group came from the lowest economic strata, the loss of the investment would result in a further decrease in social mobility. On the positive side, the scam has drawn attention on similar illegal deposit mobilising companies which are facing increasing regulatory heat. Many such companies which have been following variations of time share travel schemes on which there are little clear regulations are trying to register as cooperative societies to continue their financial operations.

Criminal prosecution and ongoing investigations

Central agencies

On 30 April 2013, Central Bureau of Investigation (CBI) started investigation into the scam in Assam at the request of the state government. It had been indicated by Chief Minister of Tripura that Tripura may also order CBI probe into Saradha chit fund scam.

In West Bengal as the criminal investigation had not been initially handed over to CBI, the Enforcement Directorate (a Central agency which primarily probes money laundering) led the investigation on behalf of the Central Government. In April, 2014 ED

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arrested the absconding wife, son and daughter-in-law of SudiptaSen all of whom were directors in various companies of Saradha Group at some point. ED also questioned two TMC MPs Ahmad Hassan and ArpitaGhosh about their financial transactions with Saradha Group. ED alleged that West Bengal police has not co-operated with it and has created hurdles in its investigation.

In May 2014, Supreme Court transferred all investigations into 44 deposit mobilising companies, including Saradha Group of Companies, suspected of running variations of Ponzi scams in the states of West Bengal, Odisha, Assam, Jharkhand and Tripura to CBI.

Special Investigation Team (SIT), West Bengal Police

FIR was filed against SudiptoSen and KunalGhosh on 14 April 2013. Around 6 officials from Saradha Group have been arrested. Numerous others from various illegal ponzi funds have also been arrested in several districts of West Bengal. The investigation is being headed by detective department of Bidhannagar police. The general ambit of investigation has also widened to include other Ponzi funds which has scripted rags to riches stories for their promoters. KunalGhosh along with other Ponzi fund officials from Saradha were repeatedly questioned by police to determine the true assets of the company and other facets of the fraud. KunalGhosh was arrested by SIT in November, 2013 after he named posted a list of 12 names on his Facebook page, there were names of at least four Trinamool MPs and Trinamoolsupremo and West Bengal Chief Minister Mamata Banerjee.

As per the initial SIT reports Saradha Group had mobilised an amount of Rs 2,459.59 crore through issuance of their policies. By April 2014 around 385 FIRs were filed against Sardha Group in which SIT managed to file 288 chargesheets, while 453 FIRs were filed against other money pooling companies and ponzi funds where 75 chargesheets were filed before the court.

Since 2 May 2013, after complaints from depositors, state government ordered SIT to increase its investigative ambit and conduct search and seizure at offices of two companies MPS Greenery Developers Ltd and PrayagInfotech Hi-Rise Ltd, both of whom were running unregistered collective investment schemes similar to Saradha group. By 6 May 2013 police had also arrested directors of two more similar Ponzi companies ATM group and Annex Infrastructure Pvt Ltd on charges of defrauding depositors.

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As per news-reports at the time of handing over all investigation proceedings in Saradha Scam to CBI, SIT had arrested eleven persons related to the scam, had traced 224 immovable properties, seized 54 vehicles and had managed to file chargesheet in close to 300 pending cases.

Justice ShyamalSen Commission

By mid-August 2013, Justice Sen Commission finished its initial compilation of the list of claimants. Around 1.74 million depositors filed claims with the Commission. Out of which 83 per cent invested Rs 10,000 or less. The Commission recommended the state government to sell the assets of the company and proportionally distribute it among duped investors. By April 2014, the Commission had refunded 0.4 million depositors of the Saradha Scam who had invested less than Rs. 10,000. The Commission received claims from 0.5 million depositors who were duped by ponzi funds other than Saradha, however the Commission did not refund any of these depositors, the Calcutta High Court in April 2014 sought a report from the Commission on the discriminatory yardstick being applied to refund the depositors.

Convictions and sentences

In February, 2014, SudiptaSen was convicted in a case where he was charged, under various provisions of employment law, as a Director of Saradha Group for his failure to deposit with the provident fund authorities Rs. 0.03 million that his firm owed to its employees; he was sentenced by the trial court to three years in jail, it was the first conviction in a series of civil and criminal cases, relating to corporate fraud and non-payment of deposits, pending against him.

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Sahara Case

What is the Sahara Case all about?

Sahara’s case is all about OFCD and its investor. But its root is in a ruling by the Reserve Bank of India in 2008. Here is a chronological list of how events unfolded from 2008 to the issuance of non-bailable warrant to Sahara chief.

1. In 2008, RBI debarred Sahara India Financial Corporation from raising fresh deposits. Growth of Sahara’s empire was always a mystery; many believed it ran a Ponzi scheme by collecting funds from investors. The group needed continuous flow of fresh funds to keep it afloat. With RBI closing a door on the group from collecting deposits from the people, the group needed a financial instrument that would be out of the purview of RBI but still get access to public funds.

2. Sahara decided to issue OFCDs by floating two companies – Sahara India Real Estate Corporation (SIREC) and Sahara Housing Investment Corporation (SHIC). It was the Registrar of Companies (ROC) that needed to clear these investment vehicles.

3. ROCs role in the entire episode is critical since it cleared the proposal without raising the most basic questions. Consider these facts. Both the companies had negligible net worth. SIREC had an equity capital of only Rs 10 lakh and a negative net worth at the time of issuance while the net worth of SHIC was around Rs 10 lakh. But both the companies planned to raise Rs 20,000 crore each. Imagine applying for a bank loan of Rs 20,000 crore with only Rs 10 lakh as your contribution. ROC allowed the Sahara Group companies to go ahead with the proposal. More than one law was flouted by Sahara in issuing these OFCDs, which it calls private placement.

4. Firstly the sheer size of the issue makes it a public issue. Any company seeking money from more than 50 persons have to take the approval of Sebi in doing so, in which case the company would have to make all the disclosures required as per Sebi norms. The Sahara group had sought money from nearly 30 million investors. Apart from the size and number of investors, another deliberate error was keeping the issue open ended; ideally such issues should be closed within six weeks. In fact a Sahara group company kept an issue of Rs 17,250 crore open for 10 years.

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5. Sahara’s money making machine could have continued had it not committed another major mistake. Sahara decided to tap the stock markets to raise money through Sahara Prime City. In doing so the company had to file a Red Herring Prospectus and disclose working and financials of other group companies. This is when KM Abraham spotted SIREC and SHIC and found that the money raised through OFCDs was camouflaged as private placements.

6. Abraham found out that even though the Sahara group companies collected money they did not have proper records of the identity of its investors. How and to whom would they then return the money? Even professional agencies were unable to locate the investors.

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7. The two companies, Abraham alleged, intended to rotate money between group companies. Though the OFCD instruments were issued in the name of the two companies, cheques were sought in the name of Sahara India.

8. When Sebi issued its order on the wrongdoings of the Sahara group on June 23, 2011, Sahara group took the matter with Securities Appellate Tribunal (SAT). But SAT held the Sebi findings to be correct. SAT in its order said “What it (Red Herring Prospectus) did not disclose was the fact that the information memorandum was being issued to more than 30 million persons inviting them to subscribe to the OFCDs and there lies the catch…This concealment is, indeed, very significant    and goes to the root of the controversy.”

9. Sahara group then approached the Supreme Court but in August 2012, the honourable court asked the group to repay an amount of over Rs 24,000 crore to Sebi within 90 days. The regulator will then distribute the money to bonafide investors. But suddenly Sahara said it had repaid most of the money over the last one year and an amount of just over Rs 5,000 crore was pending.

10. In the October hearing Supreme Court had clearly hinted that it was no longer amused by the delaying tactics of the Sahara group and would detain the group’s officials till the payments are made. The Supreme Court Bench had said that previous orders not been compiled with and that was why Roy and the directors were been summoned to explain the delay. Roy did not turn up, thus the non-bailable warrant with an order to appear before the court on March 4.

 Here is a time line of the Sahara-Sebi case

November 2010:The Securities and Exchange Board of India or SEBI, bars Sahara India Group

chief Subrata Roy and two companies from the Sahara stable - Sahara India Real Estate Corp and

Sahara Housing Investment Corp - from raising money from the public. The two companies had

raised several thousand crores through optionally fully convertible debentures.

SEBI deemed the fund-raising illegal, to which Sahara responded with full-page advertisements

in newspapers.

December 2010: On an appeal by Sahara on December 1, the Lucknowbench of the Allahabad

High Court orders the watchdog not to take any coercive action until an order is passed. 

January 2011: A Delhi court issues a bailable warrant against Sahara India Group's chairman

Subrata Roy and four other officials of the group on a complaint that they duped investors in a

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proposed housing project of Rs.25,000 crore, holding there was enough prima facie material to

proceed. 

February 2011: The Delhi High Court stays proceedings against Sahara India Group's chairman

Subrata Roy and four other officials in a Delhi court on a complaint that they duped investors in

a proposed housing project. 

 May 2011: The Supreme Court directs Sahara India Real Estate to furnish the format of the

application for an optionally fully convertible debentures (OFCD) scheme and a list of accredited

agents raising money on its behalf after the firm claimed it was not liable if investors provided

false address and other details.  

June 2011: Sebi directs Sahara firms to immediately refund the money collected through sales of

OFCDs with annual interest of 15 percent.

 October 2011:The Securities Appellate Tribunal (SAT) orders two unlisted Sahara Group

companies to refund within six weeks about Rs 24,000 crore that they had raised through a

controversial flotation of OFCDs three years ago.

November 2011: The Sahara group moves the Supreme Court challenging the SAT’s order

asking the company to refund the money raised through OFCD to investors within six weeks. 

November 2011: In a relief to Sahara group, the Supreme Court stays the SAT order directing

its two companies to refund around Rs 17,400 crore to their investors and asked for the details of

their assets and liabilities. 

January 2012: The SC gives Sahara Group companies three weeks’ time to choose between two

courses to secure the investments made by the public in the OFCD scheme -- either to give

sufficient bank guarantee or attach properties worth the amount. 

March 2011:Sahara India Real Estate Corp voices its grievance over a news channel reporting

its proposal made to the Securities and Exchange Board of India on securing the money it

mopped up from the market.  

April 2011: While protecting the rights of an accused to a free and fair trial not prejudiced by

media reporting, the Supreme Court should not cross the 'LakshmanRekha' of reasonable

restrictions provided in the constitution, a senior lawyer contends. 

May 2012: The Supreme Court is informed that the stock market regulator could not have taken

up the issue of Sahara group of companies mopping up Rs.17,400 crore through debentures and

ordered their refund.

Senior counsel FaliNariman, appearing for Sahara India Real Estate Corp, told the apex court

bench of Justice K.S. Radhakrishnan and Justice J.S. Khehar that the Securities and Exchange

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Board of India (SEBI) took up the matter even though there was no complaint from any

investor. 

June 2012: The SEBI tells the Supreme Court that the real estate arm of the Sahara group of

companies had no right to mobilise Rs.27,000 crore from 30 million investors through

debentures without complying with the regulatory regime. 

June 14, 2012: The Supreme Court reserves its verdict on a plea by Sahara group of companies,

dealing in real estate and housing, challenging a tribunal's direction to repay money collected

from investors through debentures.  

August 2012: The Supreme Court directs Sahara group's real estate company to return with a 15-

percent interest the Rs.17,000 crore ($3.5 billion) it had mopped up as debentures from

investors. 

October 2012: The Sahara group moved the Supreme Court, seeking the review of its Aug 31

verdict directing Sahara to return to investors Rs.17,400 crore with 15 percent interest that it had

mopped up through Optionally Fully Convertible Debentures (OFCDs) in 2008 and 2009. 

October 19, 2012: The Supreme Court tells market regulator SEBI that it was free to initiate

action against two real estate companies of the Sahara group if they fail to take steps for the

refund of investors' money as directed by the apex court. 

November 2012: Sebi files a contempt petition against Sahara claiming it had not furnished the

investor documents within the court stipulated time. The Sahara group in response moved the

Securities Appellate Tribunal (SAT) in protest against market regulator Sebi's refusal to extend

the deadline for the submission of documents relating to the bond flotations by two unlisted

group firms. 

November 29, 2012: GopalSubramaniam, senior counsel, appearing for the appellants (SIRECL

and SHICL)  argued in court that they were forced to approach the tribunal because of Sebi's

refusal to accept the documents tendered by the Sahara entities. He also expressed the

apprehension that a pay order of Rs 5,120 crore to repay the amount to the investors who

subscribed to the optionally fully convertible debentures (OFCDs) would not be accepted by

Sebi.

There is no clarity on how the Sahara group had arrived at the sum of Rs 5,120 crore when the

Supreme Court had directed it to refund Rs 17,400 crore along with 15 per cent interest. 

December 2012:Sahara Group moves the Supreme Court after SAT rejects its appeal against

SEBI. 

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The Supreme Court , however, lashed out at Sahara group's real estate companies saying their

conduct was "shady" in the matter of returning the investors' money mopped up under optionally

fully convertible debentures scheme. 

December 5, 2012: The Sahara Group gets a temporary reprieve from the SC. The Supreme

Court directed the Sahara group to refund Rs 24,000 crore to its three crore investors in nine

weeks amid stiff opposition from Sebi and depositors over staggered payments. The Supreme

Court asked market regulator SEBI to accept their pay order of Rs.5,120 crore as part payment of

the investors' money they had collected through optionally fully-convertible debentures (OFCD).

Sahara India Real Estate Corporation and Sahara Housing Investment Corporation - would

deposit remaining amount in two installments. The court said that Sahara would deposit a sum of

Rs.10,000 crore in the first week of January next year and the balance amount in the first week of

February. 

January 2013:  Sahara misses the repayment deadline set up by SC. The company fails to

deposit the second installment amount with market regulator. It was required to submit Rs

10,000 crore by January first week.The Supreme Court also dismissed the Sahara group's plea

for a review of its verdict directing two Sahara firms to refund around Rs 24,000 crore to their

investors with 15 per cent interest. 

February 2013: The Supreme Court tells market regulator Sebi that it was free to freeze

accounts and seize properties of Sahara group's two companies for defying court orders by not

refunding Rs. 24,000 crore to investors. 

Market regulator Securities Exchange Board of India also cautioned investors and the general

public against dealing with two Sahara group companies -- Sahara India Real Estate Corp and

Sahara Housing Investment Corp -- and their promoters. 

Sebi later sought the arrest of Sahara Subrata Roy.  

March 2013: Sebi’s whole time director Prashant Saran orders Subrata Roy and three other

directors of the Sahara group to appear before him at 3pm on April 10 and submit a list of all

their assets and copies of their income and wealth tax returns from financial year 2007-08. 

April 2013: The Lucknow bench of the Allahabad High Court seeks a response from Sahara

India and its chairman Subrata Roy on a PIL accusing them of denigrating SEBI through an

advertisement in newspapers March 17. 

Sahara chief SubrataRoy, however responds that his group had repaid Rs 20,000 crore to its

investors and it was the market regulator which was delaying repayments. He added that the

Securities and Exchange Board of India (Sebi) should refund the balance Rs 5,000 crore already

deposited with it to remaining investors. 

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July 2013: Sebi files a contempt petition against Sahara in SC. Says company flouting SC

direction to make refund. 

August 2013:The Securities and Exchange Board of India (SEBI) urges the Supreme Court to

award maximum punishment to Sahara India's head Subrata Roy. 

October 2013: The Supreme Court directs the Sahara Group to give original title deeds of its

assets worth Rs.20,000 crore to SEBI as a guarantee towards the payment of investors money.

January 2014: The Supreme Court Tuesday turns down the plea by Sahara India group chief

Subrata Roy to travel abroad to take care of his overseas business interests, saying that its nod

was tied to the company showing that investors' money has been repaid. For more on this story;

watch the video

February 26 2014: The Supreme Court Wednesday issued a non-bailable warrant against Sahara

group chief Subrata Roy for failing to appear before it in person as directed at the court's last

hearing. Roy was also given till March 4 to comply with the court's order.

February 28, 2014:Sahara India chief Subrata Roy surrenders before the police, a day after they

failed to trace him to execute a Supreme Court warrant for his arrest. 

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Samruddha Jeevan Case

MUMBAI: In a fresh crackdown on fraudulent investment schemes promising huge returns from 'cattle and goat farms', Sebi today barred their operators from raising funds from such schemes and began further proceedings.The company Samruddha Jeevan Foods India Ltd as well as its promoters and directors have also been asked to submit full details of assets owned by them through investor money and not to divert any funds or dispose any properties.

The crackdown against Samruddha group follows actions by the capital markets watchdog against similar schemes launched by at least two other entities HBN Dairies and Beetal Livestock, which were found to be raising money through unauthorised schemes with returns linked to 'cattle and ghee investments' and 'goat-rearing business', respectively.

Asking Samruddha and its three directors to reply within 15 days, Sebi said in an order that it began investigating the case after receipt of complaints about the company agents promising "more than 12 per cent fixed returns and other unusual returns on investments in cattle and goat farms".Subsequently, Sebi had sought details from the company, which submitted that it was engaged in the business of "trading in livestock and other allied products, the consideration for which is received either in installments or one-time (payment) at the option of the buyer".

Meanwhile, Sebi also received a reference from the Economic Offences Cell, CID Panaji (Goa) regarding an inquiry into activities of Samruddha, wherein it was found to be operating a cumulative investment scheme with the concept of livestock buying, rearing and paying the returns.Besides, a CBI investigation also found that the company had a livestock of only 16,876 as against a total of 6,48,406 customers, which indicated that it was not buying cattle against every deposit made by the investors.

Sebi probe further found that the company was collecting money from the public in order to carry out the business of "purchase and rearing of goats/buffaloes' and also of sheep farming. Under its various schemes, the company was offering to double the money in five and half years, while also promising an amount equivalent to 1.5 times of the contract value as 'accidental death help'.

Its financial statements showed that 'advance from customers' in fiscal year 2011-12 stood at over Rs 331 crore, at over Rs 163 crore in 2010-11 and Rs 36 crore in 2009-10.

It spent over Rs 56 crore towards 'advertisement and sales promotion (including commission)' in 2011-12, Rs 39.5 crore in 2010-11 and Rs 22 crore in 2009-10.

There were also several fund transfers between group companies and Sebi's probe found that the company was running illegitimate collective investment schemes.

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"The protection of interest of investors is the first and foremost mandate of Sebi and therefore, steps have to be taken in the instant matter to ensure that only legitimate schemes are carried on by Samruddha Jeevan Foods India Ltd and no investors are defrauded," Sebi said in its order. 

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LOOPHOLES IN THE SYSTEM

1. Regulatory hassles & High cost of compliance People are playing with the loopholes in the system."Even if the intention is not to cheat, many do not want to comply due to regulatory hassles as well the cost of compliance. More often than not the idea is to beat the norms. Though requirements for running a CIS are simple, they include such checks and balances that almost no ponzi scheme is possible. For instance, they require CISs to have Rs 5 crore of net worth and to be close-ended funds. Schemes also have to submit to rating."

2. Improper Infrastructure If SEBI has not been able to prevent the proliferation of unregulated CISs, it is because it does not have the teeth or the infrastructure to do so. Its staff and number of offices is severely limited, nor are its orders binding like those of courts. Most of the time it starts probes only after it has been tipped off by some enforcement agency. In the case of Saradha Realty, for example, SEBI got a reference in April 2010 from the Economic Offences Investigation Cell in the West Bengal government. Again, whenever SEBI has asked companies running CISs or related schemes to refund money to investors, the latter have contested the order in court saying passing such orders was beyond Sebi's legal authority.

3. Rose Valley Real Estate & Constructions, for instance, had raised Rs 1,272 crore as of March 31, 2010. Sitting in his office in Kolkata's Park Street, MPS Group Chairman P.N. Manna says in the last 13 years, his company, MPS Greenery Developers, collected Rs 1,765 crore from 1.8 million investors in West Bengal and neighbouring states such as Assam and Orissa, through a scheme that "fulfils all parameters". But he admits he is yet to get a registration certification from SEBI.

4. Delay in decision making Take the case of the Jaipur-based CIS Pearl Green Forest Ltd (PGFL). In 2002, SEBI pulled up the company and ordered it to return the money it had collected, but PGFL went to court and it was only in March this year, the Supreme Court finally decided SEBI did have the right to issue the order it had. The other problem is delay in decision making,SEBI needs to speed up its adjudication process. There has to be a central data information cell which is connected with all the law making agencies, there has to be coordination between them. There should be an investors' charter. It has been seen in the past that agencies like to pass the blame from one to the other

5. Ignorance on the part of Banks Banks too can be blamed for the malpractices. CISs get away with. In many ways this is a failure in the banking system. If banks had been alert in monitoring the money coming into an account they could have nipped this in the bud." Why was no alarm raised when crore of rupees were coming into certain accounts every day? One reason cited is the poor surveillance system in banks at the district levels as compared to the cities. According to the Corporate Affairs Ministry, there were 4,156 chit funds registered in India as of 2008, governed by the Chit Funds Act, 1961 (Madras Act) and the amended 1982 (Central) Act. However, unregistered chit funds would be several times the number. According to a January 2007 study by the Institute for Financial Management and Research, "the unorganised chit fund market is huge and growing". For instance, it noted that 6,000 of Hyderabad's total of 7,300 chit funds were unregistered.

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6. LACK OF OPTIONS

Two major reasons for the growth of chit funds, legitimate or otherwise, and other dubious collective investment schemes are the lack of safe savings schemes in rural areas, and a poor regulatory framework to check fraudulent companies. According to CPI(M) leader and former West Bengal housing minister Gautam Deb, small savings and post office collections in West Bengal from April to October 2012 were only Rs 194 crore, against the target of Rs 8,370 crore. "The state's small savings rate has fallen due to the thriving chit fund industry. But the chief minister is never heard speaking against chit fund companies," he said in December 2012. For the country as a whole, total deposits under small savings in the Public Provident Fund (PPF), National Savings Certificates (NSCs) and post office schemes, have fallen from Rs 1.65 lakh crore in November 2010 to Rs 1.22 lakh crore in November 2011. This is because many small investors moved into investing in chit funds and banks that offer higher interest, and also in gold and real estate. In September last year, Sachin Pilot, who was then Minister of State for Communications, acknowledged that post office deposits declined in 2011/12, but said the government had taken measures to stem the fall. These included raising the rate of interest on post office savings accounts from 3.5 to four per cent, reducing the maturity period for monthly income schemes and NSCs from six to five years, and raising the annual ceiling on investment in the PPF scheme from Rs 70,000 to Rs 1 lakh.

GAPS IN THE LAW

Another major reason for the proliferation of chit funds and fraudulent collective investment schemes is the absence of adequate regulations and, in some cases, the lack of clarity in laws. It is not clear who will regulate the schemes which takes various forms.

Chit funds are monitored by state governments.

Collective investment schemes monitored by SEBI & Nonbanking finance companies (NBFCs) are seen by the Reserve Bank of India (RBI).

SEBI has been fighting several court cases with the promoters of questionable schemes. For instance, the MPS Group had sought SEBI's nod for a collective investment scheme in March 2000. It was denied, after which MPS began a court battle with the regulator. "We've exchanged 100 to 200 letters with SEBI," says MPS Group's Manna. "Then they asked me to get a 'comfort letter' from any nationalized bank. But no bank is authorized to give such a letter. The Calcutta High Court has said we can continue the scheme if we have the requisite approval. Without waiting for SEBI's nod, Manna is back in the business after a brief hiatus, and says he has provisional registration from SEBI. But SEBI says an existing collective investment scheme cannot launch any new scheme or raise money from investors even under the existing scheme, unless SEBI grants it a certificate of registration.

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