WTM/KMA/MRD/296/09/2010

BEFORE THE SECURITIES AND EXCHANGE BOARD OF INDIA
CORAM: DR. K. M. ABRAHAM, WHOLE TIME MEMBER

ORDER DISPOSING OF THE APPLICATION DATED APRIL 7, 2010
FILED BY MCX STOCK EXCHANGE LIMITED, UNDER SECTION 4 OF
THE SECURITIES CONTRACTS (REGULATION) ACT, 1956 READ
WITH SECTION 11(1) OF THE SECURITIES AND EXCHANGE BOARD
OF INDIA ACT, 1992

Date of Hearing: September 6, 2010

Appearance:

For MCX Stock Exchange Limited:

Mr. J.J. Bhatt, Senior Advocate
Mr. Nitin Poddar Advocate
Mr. Joseph Massey, Managing Director, MCX Stock Exchange Limited
and others

For Securities and Exchange Board of India:

Mr. J. N. Gupta, Executive Director,
Mr. S. V. Murali Dhar Rao, Chief General Manager
Mr. Rajesh K. Dangeti, Deputy General Manager
Mr. Vijayakrishnan G., Deputy Legal Adviser
1. MCX Stock Exchange Limited (hereinafter referred to as MCX-SX or
the Applicant) filed a letter with Securities and Exchange Board of
India (hereinafter referred to as SEBI) on April 7, 2010. This letter
(hereinafter referred to as the Application) inter alia seeks permission to
deal in interest rate derivatives, equity, futures and options on equity
and wholesale debt segments and all other segments permitted to the
Bombay Stock Exchange limited and the National Stock Exchange of
India Limited. MCX-SX also requested SEBI to consider its application
for SME Exchange as an additional segment within itself for operations.
Subsequently, MCX-SX filed a writ petition (No. 1440 of 2010) before
the Honourable High Court of Judicature at Bombay, which was
disposed of by the Honourable High Court, vide order dated August 10,
2010 with the following directions:
“(a) Respondent No.1 SEBI will take a final decision in the matter latest
by 30th September, 2010. In order to ensure that the aforesaid time limit is
treated as mandatory and peremptory, SEBI shall write letters to the
shareholders of the petitioner- company, from whom such information is
awaited, calling upon them to send necessary information to SEBI within
10 days from today.

(b) Respondent nos.2 and 3, through petitioner-company shall also convey
to SEBI the Board Resolution of the respective co-promoters i.e.
respondent nos.2 and 3 indicating their resolve to comply with the
requirement of statutory regulations regarding the shareholding not
exceeding the prescribed percentage.

(c) Upon receiving such information from respondent nos. 2 and 3 and
other shareholders of the petitioner-company, if SEBI requires further
information/clarification from petitioner or others, the same shall be
sought immediately and an opportunity of hearing shall be given to the
representatives of the petitioner-company within four weeks from today,
and thereafter a final decision shall be taken by SEBI latest by 30th
September, 2010.”

2. Having made necessary enquiry on the aforesaid Application filed by
MCX-SX, SEBI, prima facie, was not satisfied that it would be in the
interest of trade and also in public interest to allow the application.
Accordingly, a notice dated August 30, 2010 (hereinafter referred to as
the Notice) was issued to MCX-SX, inter alia in terms of Section 4(4) of
Securities Contracts (Regulation) Act, 1956 (hereinafter referred to as

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the SCR Act) read with Section 11(1) of the Securities and Exchange
Board of India Act, 1992 (hereinafter referred to as the SEBI Act)
detailing the prima facie observations of SEBI. An opportunity of
hearing was also afforded to MCX-SX on September 6, 2010, on which
date, Mr. J.J. Bhatt, Senior Advocate made elaborate submissions on
behalf of MCX-SX. Mr. Joseph Massey, Managing Director of MCX-SX
along with other officials of MCX-SX was also present during the
hearing. MCX-SX also filed its written submissions on September 16,
2010, as undertaken by it during the course of hearing.

3. I have considered the Notice dated August 30, 2010, the submissions
made by the Learned Senior Advocate on behalf of MCX-SX, the
written submissions of MCX-SX and other material available on record.
Before proceeding further, I would like to summarise the background to
the matter. MCX-SX was recognised as a stock exchange by SEBI
under Section 4 of the SCR Act, vide notification dated September 18,
2008, subject to the condition that it shall ensure full compliance with
the relevant provisions of Securities Contracts (Regulation) (Manner of
Increasing and Maintaining Public Shareholding in Recognised Stock
Exchanges) Regulations, 2006 (hereinafter referred to as the MIMPS
Regulations) within a period of one year. MCX-SX was also directed to
comply with such other conditions as may be prescribed by SEBI from
time to time. It was further communicated to MCX-SX that it had been
permitted to initially operationalize the Exchange Traded Currency
Derivative Segment, for one year only from the date of effective grant
of recognition. As MCX-SX did not comply with the requirements within
the said period, it had requested further time for compliance and
accordingly, its recognition was extended for a further period of one
year up to September 15, 2010, vide notification dated August 31,
2009, subject to a condition, in addition to those imposed earlier, vide
notification dated September 18, 2008 that it would operate only in
securities in which trading was permitted and shall not be eligible for
introduction of any new class of contracts in securities, till such time as

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the compliance referred to above are ensured. In the letter dated April
7, 2010 (the Application), MCX-SX had informed that it had
successfully achieved compliance with the MIMPS Regulations and
enclosed therewith a list of shareholders and the present shareholding
in the stock exchange and sought permission from SEBI to deal in new
classes of securities. It is this Application of MCX-SX, which would be
disposed of herein.

WRITTEN REPLY OF THE APPLICANT

4. I have perused the written submissions dated September 16, 2010 of
the Applicant. In the hearing on September 6, 2010, the Learned
Senior Counsel for the Applicant placed the facts of the case,
objectively elaborating the merits of the Application before me.
However I see a marked deviation in the written submissions. The
letter dated September 16, 2010, signed by Mr. Joseph Massey,
Managing Director of MCX-SX, presents me with an unusual situation.
His letter, raises several allegations of bias, and questions the conduct
with respect to the Applicant, of the Chairman and two of Members of
SEBI including mine. I note that the letter is accusative in tone and
raises several issues that are extraneous to the matter under
consideration. I further note that the Applicant had not, made any such
allegations or accusations of bias at the time of hearing. I also observe
that the Applicant did not raise any allegations in the aforesaid Writ
Petition filed by it before the Honourable High Court also.

5. Inter alia, Mr. Joseph Massey also raises the issue that the Applicant
had sent more than twenty letters to SEBI, to which SEBI had not
responded. It was further submitted that the idea of the Scheme of
Capital Reduction through warrants emanated from SEBI through the
conversations with an officer in SEBI, and that therefore SEBI is
estopped from questioning the Scheme.

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6. Mr. Joseph Massey further along with his letter and other written
submissions, has filed an Affidavit. This Affidavit is to the following
effect:
a. that he actually got the idea behind the Scheme of Capital
Reduction (viz. that of using warrants as against the practice
of selling shares) from oral conversations with an officer in
SEBI.
b. that there were other oral conversations in some of the
meetings between him and other representatives of MCX-SX
and SEBI (as also referred to in Paragraph 2.7 and 2.8 of the
Notice) where the Applicant had informed SEBI about the
Scheme.

7. I am unable to see the reason why, at this juncture, the Applicant in
his written submissions, at variance with its approach both at the time
of hearing on September 6, 2010 and in its writ petition before the
Honourable High Court, has raised allegations, in these proceeding
before me. However, as these are extraneous to the disposal of this
Application, I do not intend to dwell any further on these.

8. I shall, however, make the following observations for the record:
a. On the non-response by SEBI to the large number of letters
addressed by the Applicant, as mentioned above, I observe
that almost all of them are requests for allowing the
Applicant to operate in more segments and products. I note
that, by public notifications referred to in Paragraph 3 above,
SEBI had set the conditions for compliance that the
Applicant had to fulfil. I have examined these letters of the
Applicant, and find that they are simply repeated requests
made without any one of them addressing the relevant issue
– viz. whether the Applicant had complied with the
conditions publicly notified and had to be mandatorily
fulfilled.

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b. I further note that the Applicant has relied on a reference to
oral conversations with an officer of SEBI, as proof of the fact
that the Scheme had been brought to the attention of SEBI.
It would be beyond the scope of these proceedings and
outside the powers vested in me, to go into these alleged
conversations. But, on the face of it, there evidently seems
to be a piece missing, that for an Applicant who had
admittedly written more than twenty letters to SEBI, not one
of them referred to the Scheme that was devised to comply
with regulatory requirements or even to the alleged
conversation with the SEBI officers about the scheme. I find
it too far-fetched to believe that the Scheme for compliance
did not merit a letter to SEBI, but was referred to SEBI
through the alleged oral conversation.
c. I also note that SEBI has a well laid out procedure for
providing informal guidance. The Applicant has not sought
any guidance from SEBI even under this procedure, as to
whether the Scheme drawn up would be compliant with the
MIMPS Regulations. It would be difficult for me to accept a
premise that SEBI is estopped from objecting to the Scheme,
because the idea for the same, allegedly originated from an
officer in SEBI, in an oral conversation.

9. Having made these observations on the written submissions filed by
the Applicant, I shall now proceed to carefully examine these
submissions and try to sift the substantive grounds of fact and law
therein from what is extraneous, for examining the merits of the
Application before me.

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LEGAL FRAMEWORK
10. Before going into the merits of the Application, it is useful to briefly
set out the legal framework relevant to the same. Section 4(1) of the
SCR Act provides that
4. (1) If the Central Government is satisfied, after making such
inquiry as may be necessary in this behalf and after obtaining such
further information, if any, as it may require,—
(a) that the rules and bye-laws of a stock exchange
applying for registration are in conformity with such
conditions as may be prescribed with a view to ensure fair
dealing and to protect investors;
(b) that the stock exchange is willing to comply with any
other conditions (including conditions as to the number of
members) which the Central Government, after
consultation with the governing body of the stock exchange
and having regard to the area served by the stock exchange
and its standing and the nature of the securities dealt with
by it, may impose for the purpose of carrying out the
objects of this Act; and
(c) that it would be in the interest of the trade and also in
the public interest to grant recognition to the stock
exchange;
it may grant recognition to the stock exchange subject to the
conditions imposed upon it as aforesaid and in such form as may
be prescribed.”

11. The Legislature has conferred the powers to grant recognition to a
Stock Exchange under Section 4 of the SCR Act on the Central
Government. These powers were thereafter passed on to SEBI for
exercising the same. The aforesaid Section provides that the
authority granting such recognition, (the Central Government or
SEBI), should be “satisfied” that it would be in the interest of trade
and in public interest to grant such recognition. In arriving at its
satisfaction under Section 4 of the SCR Act, SEBI has to uphold the
highest standards of fairness in deciding inter alia, whether it would
be in the public interest and in the interest of trade to allow this
Application. The standard for how any authority should arrive at this
satisfaction is captured succinctly in the judgement of the Honourable
Supreme Court of India in S.R. Bommai v. Union of India (AIR 1994 SC
1918). The guiding principle enunciated by the Honourable Supreme

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Court is that it should not be “the personal whim, wish, view or opinion
or the ipse dixit” of the Authority “dehors the material but a legitimate
inference drawn from the material placed before him which is relevant for
the purpose.”

12. The matter here before SEBI, while disposing of the Application, is
not to consider whether recognition as a Stock Exchange should be
granted to MCX-SX. The Applicant is already a recognized Stock
Exchange. The recognition to MCX-SX as a Stock Exchange was
granted for a period of one year (further extended twice for periods of
one year each) and limited to operations in specific products. What
comes up for consideration is whether the Applicant should be
allowed to operate as a full fledged Stock Exchange in all segments
and products as requested by it. The request in this Application is
therefore to extend the scope of the recognition to the segments and
products requested by it. SEBI has to dispose of this Application, in
exercise of its powers under Section 4 of the SCR Act, the same
provision in law, wherefrom it derives its authority to grant recognition
to a Stock Exchange. In other words, the entire legal framework
under which SEBI grants recognition to Stock Exchanges or grants
extension of the operations of a Stock Exchange (as requested for in
the Application) emanates out of Section 4 in the SCR Act. At the
time of the hearing, the Learned Senior Counsel admitted that the
Notice could be at best be considered maintainable under Section
4(4) of the SCR Act, while disputing the applicability of the other
sections of law cited in the Notice. However, I note that in its written
submission, the Applicant has questioned the maintainability of all
sections cited in the Notice. The other provisions whose applicability
is challenged by the Applicant are Sections 11(1), and 11B of the
SEBI Act and Section 12A of the SCR Act. However, I do not think
that the Applicant, in disputing the applicability of these provisions
has advanced any valid arguments in support of its stand.
Nonetheless, I observe in passing that these Sections merely

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underpin the powers to administer the Securities Market. I further
note that the recognition conditionally granted to the Applicant was
under Section 4 of the SCR Act. Therefore, a review of whether
these conditions have been satisfied has to be done under the above
provisions.

13. In its Notice dated August 30, 2010, SEBI has set out five grounds,
why prima facie, it is not satisfied that it would be in the interest of
trade and in public interest to allow the Application. These grounds
in the Notice, in brief are the following:
i. There is an excessive concentration of economic interest in
the Stock Exchange, in the hands of the two promoters, Multi
Commodity Exchange of India Limited (hereinafter referred
to as MCX) and Financial Technologies (India) Limited
(hereinafter referred to as FTIL).
ii. The Applicant is not in full compliance with the MIMPS
Regulations.
iii. The conduct of the Applicant and its aforesaid promoters
lacks honesty and therefore they are not fit and proper for
the grant of the Application.
iv. The aforesaid promoters of MCX-SX are persons acting in
concert, and therefore they can together hold a maximum of
5% of shares in the Stock Exchange.
v. The aforesaid promoters have entered into certain contracts
with buy back arrangements that are in the nature of forward
contracts and these are illegal under the SCR Act.

14. I find that in the Notice issued by SEBI, in Paragraphs 3.1 to 3.16
(the fit and proper status of the Applicant) therein, certain prima facie
findings have been entered into, about the conduct and character of
the promoters of MCX-SX. I also find that this Notice, in the context
of disposing of the Application was issued only to the Applicant and
not to the promoters. The promoters MCX and FTIL have not been

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given an opportunity for representation and have not been heard.
Hence, I shall not discuss or enter into any findings on the individual
conduct of the aforesaid promoters, MCX and FTIL, and shall confine
myself to taking up this issue only to the extent that pertains to the
Applicant itself.

15. I propose to discuss these grounds in the following sequence firstly,
whether the Applicant is in full compliance with the MIMPS
Regulations (Paragraphs 2.1 to 2.27 in the Notice), secondly, whether
the two promoters of MCX-SX are persons acting in concert
(Paragraphs 4.1 to 4.7, in the Notice), thirdly, whether the buy back
arrangements referred to in the Notice are legal under the SCR Act
(Paragraphs 5.1 to 5.4 in the Notice), fourthly, whether the Applicant is
fit and proper (Paragraphs 3.1 to 3.16 in the Notice) and lastly, the
concentration of promoter’s economic interest in the Stock Exchange
and the consequences thereof (Paragraphs 1.1 to 1.8 in the Notice).

FULL COMPLIANCE WITH MIMPS REGULATIONS
16. In the Notice, SEBI has prima facie, found that the Applicant has not
fully complied with the MIMPS Regulations for the following reasons:
a. The Scheme of Capital Reduction adopted, is different from
the specific modes laid down in Regulation 4 of the MIMPS
Regulations and does not meet standards of “full”
compliance with the MIMPS Regulations.
b. The Scheme of Capital Reduction is contradictory to what
the Applicant had given SEBI to understand as to how they
would comply with Regulation 8(1) of the MIMPS
Regulations.
c. There are no valid reasons to allow the Applicant a different
means to comply with the MIMPS Regulations through the
Scheme of Capital Reduction, other than what has been
permitted for, or adopted by other Stock Exchanges in India.

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d. Given that the objective of the MIMPS Regulations is to
ensure diversified ownership, any shareholder holding right
to acquire equity share capital through warrants, in addition
to the maximum limits allowed for holding equity share
capital, runs contrary to the objectives of the MIMPS
Regulations.
e. The manner in which MCX-SX has attempted to comply with
Regulation 8(1), has not led to the diversification of
ownership and economic interest in the Stock Exchange in a
manner that is conducive to the development of a well-
regulated securities market in India.

17. The crux of the arguments of the Learned Senior Counsel for the
Applicant is the following:
a. The Applicant has complied with the shareholding
restrictions in Regulation 8(1) of the MIMPS Regulations.
b. The MIMPS Regulations refer to restrictions on equity
shareholdings alone and not on warrants.
c. Equity Shares and warrants are different, and there is no
legal bar in holding warrants by the promoters of MCX-SX.
d. The Notice attempts to circuitously bring in the modes
referred to in Regulation 4 into Regulation 8 of the MIMPS
Regulations.
e. The Applicant has not wrongly led SEBI to believe anything
about its divestment plans, as alleged in the Notice.
f. It might be true that when representatives of MCX-SX visited
SEBI, they may not have informed SEBI about the scheme,
but that does not vitiate its action.
g. The Scheme was public and advertised in the Newspaper –
and the Applicant was transparent about it.
h. The Applicant did not share what it proposed to do under
the Scheme of Capital Reduction with SEBI, because it was
not legally obliged to do so.

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i. The Applicant and the promoters have given a solemn
undertaking in the Scheme and before the Honourable High
Court that it would not breach its shareholding limits of 5%.
j. The Scheme of Capital Reduction, once approved becomes
compliant with public policy and law.
k. What is not explicitly prohibited under law is permissible and
the mode adopted by the Applicant is legal.

18. The Applicant in its written reply further submitted that Chapter II
including Regulation 4 of the MIMPS Regulations does not apply to it.
Hence, despite the Notice specifying that the “manner of achieving
shareholding restrictions specified in Regulation 8 have not been
specified explicitly”, an attempt is being made to bring in the
provisions of Regulation 4 to decide the recognised modes for
compliance.

19. The quintessential thread that runs through this set of arguments of
the Applicant is that the Scheme of Capital Reduction has made
MCX-SX fully compliant with the MIMPS Regulations. Therefore, it
becomes necessary to first consider the scope of the expression “full
compliance” itself. For appreciating the scope of this expression, the
relevant Statutes that govern Recognised Stock Exchanges have to
be carefully examined first.

20. As mentioned, Section 4(1) of the SCR Act is the relevant section
under law that deals with grant of recognition to a stock exchange. In
2004, about fifty years after the SCR Act was enacted, the
Legislature amended it by the Securities Laws (Amendment) Act,
2004, to provide for the corporatisation and demutualisation of stock
exchanges. By virtue of the said amendment a recognised stock
exchange had to be necessarily ‘a company incorporated for the
purpose of assisting, regulating or controlling the business of buying,
selling or dealing in securities carried on by such individuals or society.’

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and also had to be demutualised viz: that an exchange would have to
segregate “ownership and management from the trading rights of the
members of a recognised stock exchange in accordance with a scheme
approved by the Securities and Exchange Board of India”.

21. For the implementation of the corporatisation and demutualisation of
stock exchanges, the SCR Act was amended to incorporate Sections
4A and 4B in the same. Section 4B(8) interalia provides that:
“Every recognised stock exchange, in respect of which the scheme
for corporatisation or demutualisation has been approved under
sub-section (2), shall, either by fresh issue of equity shares to the
public or in any other manner as may be specified by the
regulations made by the Securities and Exchange Board of India,
ensure that at least fifty-one per cent of its equity share capital is
held, within twelve months from the date of publication of the order
under sub-section (7), by the public other than shareholders having
trading rights:
Provided that the Securities and Exchange Board of India may, on
sufficient cause being shown to it and in the public interest, extend
the said period by another twelve months.” (Emphasis supplied)

22. The MIMPS Regulations therefore is a Regulation that was framed
by SEBI, consequent to Section 4B (8) of the SCR Act, inter alia, to
ensure that 51% of the equity capital of a Stock Exchange is held by
non-trading members. The said Regulations is framed in exercise of
the powers conferred under Section 31 read with Section 4B(8) of the
SCRA. Section 4B only relates to the “Procedure for corporatisation
and demutualisation”. Clearly, neither does it lay down the conditions
precedent to or criteria to be adopted for recognition of a stock
exchange, nor was it meant to be for the same. Therefore, I observe
here, that save as provided for in Section 4(1) of the SCR Act, there
is no statute in law to this date, that has been enacted to lay down
the specific conditions that a Stock Exchange should fulfil to
determine as to whether the grant of recognition to a Stock Exchange
will be in public interest and in the interest of trade.

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23. MCX-SX was recognised as a stock exchange by SEBI under
Section 4 of the SCR Act in September 2008 subject to certain
conditions. At the time of recognition, MCX-SX was not compliant
with the requirements of MIMPS Regulations. It was given time of
one year for fully complying with the same. As it did not comply with
the requirements in this period of one year, and as requested by it,
the recognition of the exchange was further extended for a period of
one year up to 15th September 2010, vide notification dated August
31, 2009. In both the aforesaid notifications, SEBI imposed
conditions on the grant/renewal of recognition as follows:
“The Exchange shall ensure full compliance with the relevant
provisions of Securities Contracts (Regulation) (Manner of
Increasing and Maintaining Public Shareholding in Recognised
Stock Exchanges) Regulations, 2006 (MIMPS Regulations) within
a period of one year.
The Exchange shall comply with such other conditions as
may be prescribed by SEBI from time to time.”

24. At the time of application and recognition of MCX-SX as a stock
exchange, it was already a corporatised and demutualised stock
exchange. As seen from Regulation 3 of the MIMPS Regulations
(reproduced below), the MIMPS Regulations is not applicable to
stock exchanges that are already corporatised and demutualised.
“Applicability
3. These Regulations shall be applicable to all recognised stock
exchanges in respect of which the scheme for corporatisation or
demutualisation has been approved by the Board under section 4B
of the Act.”

The Applicant has contended that Regulation 4 of the MIMPS
Regulations does not apply to it. I note that, the MIMPS Regulations
automatically apply only to recognised stock exchanges which have
to be corporatized and demutualised. However, they are applicable
to MCX-SX, because SEBI specifically imposed the condition inter
alia, that the Applicant shall comply fully with the relevant provisions
of the MIMPS Regulations within a period of one year. This has

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never been disputed by the Applicant at any time in the past, when it
was granted recognition or renewal of its recognition.

25. The grant of recognition of a stock exchange is based on the
satisfaction of the authority granting the same, as envisaged under
Section 4(1) of the SCR Act. The determinants of how that
satisfaction should be arrived at, have not been specified in the
Statutes. MCX-SX was already corporatised and demutualised at
the time of its recognition. SEBI imposed the condition of “full
compliance with the relevant provisions of the MIMPS
Regulations” on the Applicant, both at the time of original
recognition and later at the time of the renewal. Clearly, there must
be a reason why this was done. As explained further, an obvious
inference that emerges is that SEBI recognised that the MIMPS
Regulations is one of the useful measures and a ready touchstone
for assisting it to arrive at the “satisfaction” prescribed in Section 4(1)
of the SCR Act.

26. The rationale for this is not hard to find. The MIMPS Regulations,
though formulated for an entirely different purpose (viz. for
corporatisation and demutualisation of Stock Exchanges)
encapsulates a wide range of principles and practices. Firstly, the
Regulations themselves had its origin in Government’s intention to
diversify ownership in stock exchanges through corporatisation and
demutualisation. Secondly, it lists (in the context of corporatisation
and demutualisation) all the admissible modes for increasing the
public shareholding. Thirdly it lays down the restrictions on
shareholders on the extent of shares that they could hold as well as
restrictions on how such shares could be transferred. Fourthly it
defines the eligibility criteria for persons acquiring or holding equity
shares in a recognised stock exchange above five percent including
the criteria for such a shareholder to be considered fit and proper.
Fifthly, it lays down the obligations of a Stock Exchange including the

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responsibility to monitor the sale and transfer of shares. Lastly it
provides for the powers of SEBI for inspections of stock exchanges
and initiating action in case of default. In a nutshell, the MIMPS
Regulations are a compendium of practices, procedures and
standards, which SEBI finds useful to gauge compliance. Further,
the MIMPS Regulations helps to ensure that the same set of
conditions are uniformly applied over all exchanges whether
corporatized and demutualized or not.

27. On the ambit of the expression “full compliance”, I therefore find that
when SEBI prescribes “full compliance”, it is not in the narrow and
restricted sense of Regulation 8(1) (i.e. shareholding limits) – as the
Applicant would want it to be understood. If one were to extend the
thread of this argument put forward by the Learned Senior Counsel, it
would lead to a specious conclusion. The Applicant seems to be
arguing that SEBI’s definition of “full” compliance should mean
compliance with Regulation 8 [shareholding restrictions] alone. The
Applicant conveniently ignores the question as to why then, if such
was the intention, SEBI did not say so in its notifications - that all that
is expected of the Stock Exchange is to comply with a specific
provision(s) in the MIMPS Regulations. Clearly, the Applicant as a
regulated Stock Exchange cannot prescribe what the scope of the
term “full compliance” or what “the relevant provisions” should be,
and how these should be circumscribed for the purpose of
interpretation. Neither has it come before SEBI seeking clarification
on what full compliance would be.

28. The next substantive argument of the Applicant is that by virtue of
the Scheme of Capital Reduction being implemented, the
requirements under the MIMPS Regulations will also stand complied
with. The Learned Senior Counsel for the Applicant has strenuously
argued that while approving a Scheme of Capital Reduction, the
Honourable Court approving the same looks into all issues of

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compliance with law. The Learned Senior Counsel, cited the
judgement of the Honourable Supreme Court in Miheer H. Mafatlal
vs. Mafatlal Industries Limited (AIR 1997 SC 506) on the duties of a
Court while approving a Scheme. As observed in this judgement of
the Honourable Supreme Court, the “Court has to consider the pros and
cons of the scheme with a view to finding whether the scheme is fair, just
and reasonable and is not contrary to any provisions of law and it does not
violate any public policy.” The Learned Senior Counsel submitted
that the approval of the Scheme is therefore in conformity with public
policy and law, including the MIMPS Regulations.

29. Needless to say, the submission of a Scheme under Sections 391 to
394 read with Sections 100 to 104 under Chapter V of the
Companies Act, 1956 to a Honourable High Court/Tribunal is not a
trivial matter. The reason is obvious. The powers given to
Tribunal/Courts by Parliament under the aforesaid sections for
arrangements and reconstruction of companies are exhaustive in
nature.

30. From the papers relating to the Scheme of Capital Reduction filed by
the Applicant, I observe that in the affidavit filed by the Regional
Director (Ministry of Corporate Affairs) in the Honourable High Court,
he has averred thus:
“6. That the Deponent further submits that:-
(a) The company is granted recognition as Stock Exchange
by the SEBI being the regulating authority. The company
has to inform to the SEBI about the proposed scheme of
reduction of capital cum arrangement under section 100 to
104 read with section 391 to 393 of the Companies Act,
1956. In this regard the deponent respectfully submits that
the company vide its letter dated 21-12-2009 has informed
to the SEBI and obtained acknowledgement; a copy of the
said letter is annexed and marked as Exhibit ‘D’.
(b)…..
Save and except as stated in para 6(a) & (b), it appears that the
Scheme is not prejudicial to the interest of shareholders and
public. In the light of aforesaid facts the Hon’ble Court may pass
such orders as deem fit and proper.” (Emphasis supplied)

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31. It follows that the Regional Director on behalf of the Central
Government has averred that “save and except as stated in para 6(a)
& (b)” (Emphasis supplied), the Scheme is not prejudicial to the
interest of shareholders and public. Paragraph 6(a) in the Affidavit,
(quoted above) refers to the regulatory authority for the Stock
Exchange viz. SEBI. The affidavit sworn by the Regional Director,
therefore was to the effect that the Scheme is not prejudicial to the
interest of shareholders and the public – ‘save and except’ in so far
as it relates to regulatory requirements, if any set by SEBI. In other
words, the Regional Director, with respect to the issues of complying
regulatory requirements cast on a Stock Exchange, very explicitly
abstained from making a submission that the Scheme was not
prejudicial to the interest of shareholders and the public in this
regard. Thus, there was no averment by the Central Government or
any other party before the Honourable Court as to whether the
Scheme filed did actually comply with the regulatory requirements, as
referred to in the objectives of the Scheme itself. What emerges is
that, whether the Scheme was in compliance with the requirements
arising out of the SCR Act or the MIMPS Regulations was at no time
the subject matter for the consideration of the Honourable High
Court. I also do not find any observations by the Honourable High
Court in its order on the Scheme, on the question of whether the
Scheme fully complies with the MIMPS Regulations.

32. The status of a Scheme approved under Sections 391 to 394 of the
Companies Act, 1956 vis-à-vis requirements under other laws and
statutes have been brought out vividly in the judgement of the
Honourable High Court of Madras in Pentamedia Graphics Ltd. vs. The
Bombay Stock Exchange 2008 (145)CC 327:
“41. In the face of such requirement, it must be noted that the
compliance of the provisions of Securities Laws, the Stock
Exchange requirements and the Listing Agreement is absolute if
any company wishes to have the shares listed thereon. While the

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requirement of No Objection is not a mandatory requirement for
granting a Scheme, at the same time, it must be noted that any
Scheme approved containing a clause for listing before an
Exchange must necessarily comply with the mandate of the
Securities Laws, rules and regulations and guidelines made under
the Acts and the Listing Agreement. Hence, even after the sanction
of the Scheme, it is open to the Stock Exchange to insist on
compliance of its Regulations as a condition for listing, and in the
event of any violation thereof, reject an application. By such
rejection, the Scheme, per se, does not become bad or the order of
this Court granting sanction violated. It must be noted that when
the Court grants an approval to the Scheme, it is on the satisfaction
that the arrangement or the compromise is not violative of the
provisions of the Companies Act and is not against public interest.
But where in the process of implementing the Scheme as approved
by the Court, an authority, in exercise of its statutory power or a
Regulation, finds that the implementation of a Clause in the
Scheme as approved may not be implemented for violation of the
Securities Laws and thus, the public interest would suffer, I do not
think any objection could be taken to such view taken by an
authority validly constituted. When an expert body assesses various
aspects as regards the requirement on listing as required under
law, it is well within its jurisdiction to pass an order rejecting the
plea for listing, if it is satisfied on the materials therein, such
listing is in violation of the Securities laws. In considering the
scope of the jurisdiction of the authorities functioning under the
Securities Act of this Court under Section 391, one must keep in
mind the clear-cut respective jurisdiction on matters before it.
(Emphasis supplied)

This principle has also been referred to by the Honourable High
Court of Madras in Shree Karthik Papers Ltd vs. SEBI [2010 (155) CC
201]. Hence, I am unable to accept the argument of the Learned
Senior Counsel, that by virtue of the Scheme being approved, it
would have also fulfilled all requirements of law including that of
compliance with MIMPS Regulations.

33. The Learned Senior Counsel for the Applicant has also argued that
the Scheme for Capital Reduction and Arrangement was not shared
with SEBI, because it was not necessary under law to do so. A
Scheme of Capital Reduction is filed under Sections 391 to 394 read
with Sections 100 to 104 of the Companies Act, 1956. So there can
be no quarrel with the contention of the Applicant that there was no

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obligation on its part, to consult SEBI on a scheme for reduction of its
capital. But in this instance, the Scheme of Capital Reduction filed
by MCX-SX had a sole and specific objective. This objective is set
out in Section III of the same. The Scheme is solely intended to
meet the requirement viz: “condition of recognition of the Company, as
stipulated by SEBI is that it has to ensure full compliance with the SCR
Regulations.” In fact, this Scheme of Capital Reduction has no other
objective defined therein. I further note that the letter of the
Applicant to SEBI dated December 21, 2009 mentions that the
“Scheme” visualized will be “in contrast to the normal practice” of
complying with the MIMPS Regulations. Thus, the Applicant
formulated a Scheme of Capital Reduction only to comply with the
MIMPS Regulations. Admittedly, the Applicant knows that the mode
for compliance with the Regulation is not normal. Therefore, it
defies understanding as to why the Applicant did not, at the least,
ask SEBI if the Scheme formulated solely to comply with MIMPS
Regulations in a manner that is admittedly not normal, was in full
compliance with the Regulations.

34. The Notice makes reference to meetings held between officials of
MCX-SX and SEBI, immediately prior to the formulation and approval
of the Scheme by its Board of Directors, and how even in these
meetings, the proposed Scheme to comply with MIMPS Regulations
was not disclosed. In the affidavit filed by Mr. Joseph Massey,
Managing Director of MCX-SX, he states that he had orally informed
officers in SEBI. However, in the absence of records on what
transpired in these meetings, I do not find it necessary to consider
this argument in the Notice any further.

35. I now go into the submission of the Applicant on the legality of
holding warrants by a shareholder in a Stock Exchange. The thrust
in the arguments of the Applicant is that, holding warrants should
not be objectionable because the warrant holders cannot convert the

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warrants into shares in breach of the MIMPS Regulations. Warrants
are the ‘right to equity shares’ in a company. It is not the case of
SEBI that holding warrants of a Stock Exchange is illegal. The
standard that SEBI has adopted here is simply that excluding the
warrants held by a shareholder in computing the limits of ownership
in an Exchange would violate the spirit of the MIMPS Regulations
and would not be in consonance with it. The question for me to
consider is whether it would be fair for SEBI to do so. I observe here
that the MIMPS Regulations do not explicitly provide that
shareholders of a stock exchange should not hold warrants. To that
extent, I agree with the argument of the Learned Senior Counsel.
But then equally, I cannot consider the holding of these warrants in
isolation or in a vacuum. It has to be viewed in the context of the
MIMPS Regulations itself and its objective of ensuring wider
ownership in a Stock Exchange. For the purpose of the MIMPS
Regulations, it would be fallacious to argue that holding ‘equity
shares’ (in excess of the shareholder limits) is not permissible, but
holding the ‘right to equity shares’ would be permissible. If
something is illegal under a certain statute, then it stands to good
reason that the ‘right’ to that something, which is illegal, should be
equally illegal under the same statute. I cannot therefore accept this
argument of the Learned Senior Counsel as a basis for finding that
the Applicant is not in breach of the MIMPS Regulations.

36. This leads to another substantive issue as to the manner in which a
shareholder holding shares in a stock exchange beyond the
permissible limits can reduce the holding to below the permissible
limits. As discussed above, the MIMPS Regulations embody the set
of principles and practices that assist SEBI to gauge the regulatory
compliance of a stock exchange and how full compliance goes
beyond Regulations 8 and 9. Therefore, SEBI will be justified in
using the MIMPS Regulations to determine the modes admissible to
the Applicant for complying with Regulation 8(1) of the same.

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Regulation 4 therein specifies four methods or their combination for
the purpose of how a Stock Exchange should raise the public (non
trading members) holding to 51%. These four methods are:
i. fresh issue of equity shares to the public,
ii. offer for sale,
iii. placement i.e. sale of shares by non compliant
members of the Exchange and
iv. issue of equity shares by private placement.
I also observe from the Notice and the documents submitted by the
Applicant, that it had informed SEBI that it would be “working towards
further broadbasing of our shareholding”. I further observe that initially,
MCX-SX and its two promoters had been adopting the methods
specified in the MIMPS Regulations. For instance, MCX-SX had
issued fresh shares to PNB. The two non-compliant promoters,
MCX and FTIL, had also sold their shares to other investors. Thus
the stock exchange and the two promoters had, at various stages
adopted two of the four methods specified above. I find that
subsequently, the Applicant abandoned the modes explicitly
provided in the MIMPS Regulations for broadbasing its shareholding,
and decided to convert the excess shares of non compliant
promoters into warrants. Clearly, conversion of shares into warrants
is not among the four modes contemplated in the MIMPS
Regulations. The Applicant has contended that Regulation 4 does
not apply to it, as it is already a corporatised and demutualised
exchange. I have dealt with this argument elsewhere herein. A plain
reading of Regulation 4 shows that it was intended to specify the
manner of broadbasing shareholding, albeit when member-
shareholders with trading rights hold excess shares. Clearly, the
principle remains equally applicable even in the context of
compliance by other shareholders without trading rights. If warrants
are not available as a permissible mode for shareholders with trading
rights to comply with shareholding restrictions, then unless there is
any particular reason to the contrary, it should not be treated as a

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permissible mode for shareholders without trading rights either. If the
MIMPS Regulations are used as a package of compliance standards,
imposed as a condition on a recognised stock exchange to comply
with, then I do not see how a mode not mentioned in the MIMPS
Regulations becomes admissible for such compliance. I therefore
find that SEBI is justified in concluding that there is no reason in
public interest to allow the Applicant to adopt a mode other than
what is specified in the MIMPS Regulations to achieve compliance.

37. The Applicant submits that it, along with its promoters and other
shareholders have undertaken not to violate the MIMPS Regulations
in the Scheme of Capital Reduction. The promoters have also
adopted shareholder resolutions stating that they will not breach the
MIMPS Regulations. I have taken careful note of these resolutions.
The restrictions on ownership in shares in a Stock Exchange have
been prescribed under the MIMPS Regulations. I am unable to see
how these assertions in the resolutions referred to above, will render
the Applicant fully compliant with the MIMPS Regulations.

38. In the Notice in Paragraph 2.11, SEBI has observed that all Stock
Exchanges in India have altered its capital structure consistent with
the manner outlined in the MIMPS Regulations and that it does not
find any reason to allow the Applicant to adopt a mode that is
contrary to such practice. The Applicant has not furnished any
particular reason, beyond maintaining its stand that it has not been
expressly prohibited under law. MCX-SX in the scheme for capital
reduction has cited the only reason for why it had to resort to such a
scheme for achieving the shareholding restrictions laid down in
Regulation 8 of the MIMPS Regulations. In Paragraph 2.4 of the
approved scheme, it is mentioned that “the conventional method of
bringing down the existing stake of Promoters by selling to investors may
substantially delay the regulatory compliance.” Furthermore, (as
averred in Paragraph 10(d) in its Writ Petition No.1440/2010 before

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the Honourable High Court), MCX-SX resorted to the scheme of
capital reduction, because their divestment process “received a set
back”, citing economic reasons for the same.

39. I note from the material referred to in Notice, that the sale in August
2009, of 44.2 million shares of MCX-SX by the promoter (FTIL) to
ILFS was at a price of Rs.36 per share, each of par value Re.1. I
further observe that the sale of shares by FTIL to IFCI of 71.875
million shares was at Rs.35 per share each of par value Re.1. I also
note that PNB purchased 40 million shares at Rs.10 per share each
of par value Re.1 in the fresh issue of shares. Thus the Applicant
has issued shares at Rs.10 each and the promoters have sold
shares at prices ranging from Rs.35 to 36 per share. The Scheme of
Capital Reduction, ostensibly intended to restructure the capital to
meet the stipulation of Regulation 8 was undertaken because, MCX-
SX and its promoters could not carry out the divestment. The
reasons for the delay and the inability to divest are not spelt out
clearly, though it is stated that the process received a setback
because SEBI did not allow new products to the Applicant. The
Applicant, in the documents available before, has also referred to
the losses being incurred in its operations. On August 30, 2010,
SEBI has, for the second time, on the request of MCX-SX renewed
its recognition by one more year till September 15, 2011, without
prejudice to the disposal of this Application, thereby allowing three
years in all from September 2008 to September 2011, to achieve the
required compliance. So, the difficulty to divest shares could not
therefore have been on account of any time restrictions that SEBI
imposed on the Applicant. What emerges from the submissions of
the Applicant is that the two promoters (holding shares in excess of
the prescribed limits) may not have been able to sell their shares at a
price that was satisfactory to them. SEBI grants the recognition to a
stock exchange. At what price a promoter or a shareholder wants to
sell its shares in a Stock Exchange, needless to say, should not be

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the concern of SEBI. These are purely commercial considerations of
the shareholders. However, I am of the considered view that SEBI’s
interpretation of “full compliance” under MIMPS Regulations should
not be tailored for meeting the business objectives of the promoters.
It would patently be a failure on the part of SEBI as a Regulator, were
it to do so.

40. As stated in the Notice, SEBI is of the view that merely converting all
the shares in excess of the limits prescribed, into warrants does not
constitute “full compliance” with the MIMPS Regulations. Allowing a
Stock Exchange to work around the MIMPS Regulations through a
scheme similar to the one adopted by the Applicant would have far
reaching implications for the regulation of the securities market. For
instance, assume that a single corporate entity promotes a stock
exchange and is allowed recognition by SEBI conditionally, subject to
compliance with the MIMPS Regulations and that the promoter owns
100% of the total issued shares (say 100) in the company. All that
the promoter would need to do would be to just issue 95 new shares;
find the required number of investors to buy these shares; then
switch an equivalent number of its 95 shares as warrants, and claim
compliance. In this exercise, all shareholders including the promoter
would arithmetically be brought within the limits on ownership set in
Regulation 8(1), but it would be difficult for a reasonable person to
accept that the Stock Exchange would have adequately satisfied the
objectives of diversification embodied in the MIMPS Regulations and
would be in full compliance of the same.

41. I am of the considered view that converting ‘equity shares’ into ‘right
to equity shares’ – is an attempt to work around the requirements
and attempting to merely meet the letter of Regulation 8(1). I note
that SEBI has never given the Applicant any assurance that “full
compliance” with the MIMPS Regulations will be achieved when the
shareholding restrictions under Regulation 8(1) are met in any

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manner that the Applicant deems appropriate. Neither has the
Applicant sought nor obtained any clarification from SEBI as to
whether the mode adopted by it is fully compliant, even though it
admits that the method adopted by it is not normal. I note that the
Applicant has not adduced any reasons in public interest, as to why
it is unable to adopt one of the methods specified in the MIMPS
Regulations. I further also note that other recognised stock
exchanges in India have neither sought permission nor adopted any
method other than one of the methods referred to in the MIMPS
Regulations.

42. SEBI has been mandated under the SEBI Act, 1992 to “protect the
interests of investors in securities and to promote the development
of, and to regulate the securities market, by such measures as it
thinks fit.” The SCR Act provides that the recognition of a stock
exchange should be based on the satisfaction of SEBI and that it
would be in public interest to grant such recognition. Based on the
reasons elaborated in the preceding paragraphs, I find that SEBI is
justified in holding that the Applicant has simply tried to work around
the condition of full compliance imposed on it. Therefore, it is fair
and reasonable on the part of SEBI to object to a mere substitution of
shares held by non-compliant promoters with warrants. I also find
that SEBI is reasonable in its stand that it does not find any reason in
public interest to allow a mode for compliance that has not been
mentioned anywhere in the MIMPS Regulations. The Act, Rules and
Regulations do not envisage a perfunctory and superficial approach
to the recognition of a regulatory institution like a stock exchange.
Cleary such an approach would amount to irresponsibly diluting the
standards for recognising stock exchanges in India. It will be fraught
with perilous possibilities of compromising the integrity of the
securities market. For the same reason, a mechanistic view that
anything that is not expressly prohibited in law is permissible – and
that hence the mode for compliance adopted by the Applicant is in

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order – is also not admissible. In the light of what has been
discussed in the preceding paragraphs, I find that the Applicant is
not fully compliant with the MIMPS Regulations.

PROMOTERS OF MCX-SX AS PERSONS ACTING IN CONCERT

43. In the Notice, it was prima facie, observed that MCX and FTIL, the
two promoters of MCX-SX are persons acting in concert,
conjunctively taking into account the following viz.
a. the conduct of the parties determining their identity,
b. that they are under the same management, and
c. that one has a dominant shareholding in the other.

44. The Learned Senior Counsel for the Applicant, has argued that by
the proviso to Regulation 8 of the MIMPS Regulations, the term
‘persons acting in concert’ has the same meaning as in Regulation
2(1) (e) of the Securities and Exchange Board of India (Substantial
Acquisition of Shares and Takeovers) Regulations, 1997 (“Takeover
Regulations”). In the Takeover Regulations, the necessary
ingredient is that the “persons acting in concert’ should have a
common purpose of acquisition. The Learned Senior Counsel
argued that since there is no such intent to acquire, they cannot be
“persons acting in concert”. The argument of the Learned Senior
Counsel essentially is that the definition “person acting in concert” is
acquisition-centric and since there is no active acquisition, MCX and
FTIL are not persons acting in concert. Regulation 2(1)(e)(2)(i) of the
Takeover Regulations, lays down that unless the contrary is
established, a company, its holding company or subsidiary or such
company or company under the same management either
individually or together with each other shall be deemed to be
“person acting in concert” with each other.

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45. The Applicant reiterates the same in its written submissions. It is
also submitted that none of the essential ingredients of Section
370(1B) is attracted in this case. There is no presumption in law or in
fact that MCX and FTIL once co-promoters of the Applicant shall
remain co-promoters or are persons acting in concert or deemed to
be acting in concert in all case. The extracts from the letters (quoted
in Paragraph 4.2 of the Notice) are extraneous and imprecise
considerations to decide on the question of whether FTIL and MCX
are ‘persons acting in concert’. It was further submitted that MCX
and FTIL who wish to sell their shares in the Applicant cannot be
persons acting or deemed to act in concert, firstly because their
objective is not to acquire shares but to divest its existing
shareholding in Applicant and secondly the objective is to ensure
compliance with the provisions of the MIMPS Regulations. Similarly,
Mr. Jignesh Shah holds executive position only in FTIL and his Vice
Chairmanship with MCX and in the Applicant are non-executive.

46. I shall now examine these arguments of the Applicant. Regulation 8
of the MIMPS Regulations prohibits persons resident in India on
holding more than five percent equity share capital in a recognized
stock exchange, at anytime, directly or indirectly, either individually or
together with persons acting in concert. Clearly, therefore, the
objective of this provision is to ensure wider participation of public
shareholders in the recognized stock exchanges, given the
importance of such institutions in the securities market.

47. I note here, that subsequently, Regulation 8 of the MIMPS
Regulations was amended on December 23, 2008, to specifically
limit the holding of individual persons along with “person acting in
concert” to five percent shareholding as contemplated under
Regulation 8. The amendment was made to ensure that the
objective of the MIMPS Regulations to ensure diversified ownership
in a Stock Exchange is not diluted or circumvented in any manner.

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For the purpose of the definition of “person acting in concert” as used
under Regulation 8 of the MIMPS Regulations, Explanation IV of
Regulation 8 provides that it shall have the same meaning as derived
from Regulation 2(1)(e) of the Takeover Regulations. The
expression “derived” was used in the MIMPS Regulations to explicitly
convey the intention that the meaning of “persons acting in concert”
(in the Takeover Regulations) shall not be pari materia applied but
should be read mutatis mutandis keeping in view the objective of the
MIMPS Regulations.

48. Under Regulation 2(1)(e) of the Takeover Regulations, “person
acting in concert” comprises persons who, for a common objective or
purpose of substantial acquisition of shares or voting rights or gaining
control over the target company, pursuant to an agreement or
understanding (formal or informal), directly or indirectly cooperate by
acquiring or agreeing to acquire shares or voting rights in the target
company or control over the target company. This requires that
there should be common objective or purpose of substantial
acquisition of shares or voting rights or gaining control over the target
company. For the purpose of the MIMPS Regulations, this definition
has to be read in the light of the amendment to Regulation 8 therein.
The objective of Regulation 8 in the MIMPS Regulations is to ensure
that the ownership of the exchange is not concentrated, whereas the
objective of the Takeover Regulations is to ensure that there is no
acquisition of substantial shares or control, without an open offer.
Further, Regulation 8 of the MIMPS Regulations uses the expression
‘hold’ in contrast to the Takeover Regulations which uses the
expression ‘acquire’. This would mean that the ‘common objective’
attaches itself to ‘holding’ the shares and not to ‘acquiring’ a target
company. Therefore, if a person holds equity shares in excess of the
permissible limits, in concert with others, he would be in violation of
Regulation 8 of the MIMPS Regulations.

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49. Applied in the context of a Stock Exchange, subsequent to
amendment of the MIMPS Regulations, the persons holding shares
in a recognized stock exchange with a common objective would be
“persons acting in concert” for the purpose of Regulation 8.
Accordingly, FTIL and MCX are de jure persons acting in concert for
the purpose of Regulation 8.

50. The Learned Senior Counsel also submitted that the two promoters
do not share a common management as defined in Section 370(1B)
of the Companies Act, 1956. Section 370 of the Companies Act,
1956 deals with loans etc. to companies under the same
management. Sub-Section (1B) of the said Section provides that for
the purposes of sub-sections (1) and (1A) two bodies corporate shall
be deemed to be under the same management:-
“(i) if the managing director or manager of the one body, is managing
director or manager of the other body; or
(ii) if a majority of the directors of the one body constitute, or at any
time within the six months immediately preceding Constituted, a
majority of the directors of the other body;
(iii) if not less than one-third of the total voting power with respect to
any matter relating to each of the two bodies corporate is exercised
or controlled by the same individual or body corporate; or
(iv) if the holding company of the one body corporate is under the same
management as the other body corporate within the meaning of
clause (i), clause (ii) or clause (iii); or
(v) if one or more directors of the one body corporate while holding,
whether by themselves or together with their relatives, the majority
of shares in that body corporate also hold, whether by themselves
or together with their relatives, the majority of shares in the other
body corporate.”

51. I have before me, the letters referred to in Paragraph 4.2 of the
Notice. Relevant portions from these are reproduced below for ease
of reference:
“We undertake for and on our behalf of FTIL, La-Fin and our
group companies, not to sell/issue any equity shares of MCX-
SX until the warrants issued on capital reduction are converted
into shares by the existing shareholders.” (Letter dated
December 14, 2009 addressed by MCX to IL&FS Financial
Services Limited)

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“5. We as promoters of MCX-SX shall ensure that, save and
except issuance of shares of MCX-SX to (a) banks as listed in
annexure to this letter to enhance its share capital to Rs.180
crores, and (b) to the employees of MCX-SX in terms of
employees stock options plans/schemes formulated by MCX-SX,
MCX-SX shall not issue any shares to any person at a price
below Rs.35/- per equity share, without the written consent of
IL&FS Financial Services Limited which consent shall not be
unreasonably delayed ordered by IL&FS Financial Services
Limited.

6. We agree that pursuant to purchase of the MCX-SX shares
from you as per point 1, we undertake for an on our behalf and
on behalf of FTIL, MCX and our group companies, not to
sell/issue any equity shares of MCX-SX for a period of three
months commencing from the date of purchase as per point 1
above, for a price exceeding the Buy Back Price.” (Letter dated
August 20, 2009 addressed by La-Fin to IL&FS Financial
Services Limited)

52. The letters referred to above are those of Mr. Jignesh P. Shah,
Director of La-Fin Financial Services Private Ltd., the promoter of
FTIL. I find that, as brought out in the Notice, Mr. Jignesh Shah
holds the positions of Chairman and Group Chief Executive Officer of
FTIL, (a promoter of MCX-SX) and the Vice Chairman of MCX (the
second promoter of MCX-SX). He is also the non-executive Vice-
Chairman of MCX-SX. The Applicant has in his written submissions
explained that he is only a non-executive Vice Chairman of MCX.
Mr. Jignesh Shah has issued the undertakings referred to on behalf
of MCX, FTIL, and other group companies that MCX-SX will not
issue shares except as provided for. He is in a position to issue an
undertaking not only for the company (FTIL) that he is managing
director of, but also for the Company (MCX) for which he is
designated as its non-executive Vice Chairman. I find that MCX, as
per publicly available information, has a regular Managing Director.
But it is Mr. Jignesh Shah and not the Managing Director who has
issued the undertaking on behalf of MCX. In fact, he has issued
these undertakings even on behalf of the Applicant as well – a fact

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that further brings out his position of dominance in the management
of all these three institutions. Furthermore, I notice, from the publicly
available information from the website of FTIL, that MCX is listed as
one of the group companies of FTIL and that Mr. Jignesh Shah is
designated as the Group CEO. One does not have to go farther, to
see that Mr. Jignesh Shah is de facto, a ‘manager’ for both the
promoter companies viz. FTIL and MCX. Using the test of common
management in Section 370(1B)(i) of the Companies Act, 1956, it is
reasonable to conclude that the two promoters are under a common
management.

53. It is also not disputed before me that FTIL holds 31.18% of the
shares in MCX. As on March 31, 2010, the rest of the shares are
held by a wide group of institutions, and the second biggest
shareholding is at 5.17% by an investment fund. Clearly FTIL enjoys
a position of dominance in MCX by virtue of this. There is no
denying that, at the least, FTIL has de jure, the right of negative
control in MCX. Negative control by virtue of holding 31.18% is
reactive in nature, and legally may not constitute control. But the real
test of control is whether it is effective in nature. The Honourable
Securities Appellate Tribunal in Subhkam Ventures (I) Private Limited
vs. SEBI, Appeal 8/2009 dated January 15, 2010, laid down the
essential ingredients for effective control, as follows:
“The test really is whether the acquirer is in the driving seat. To
extend the metaphor further, the question would be whether he
controls the steering, accelerator, the gears and the brake. If the
answer to these questions is in the affirmative, then alone would he
be in control of the company. In other words, the question to be
asked in each case would be whether the acquirer is the driving
force behind the company and whether he is the one providing
motion to the organization. If yes, he is in control but not
otherwise. In short control means effective control.”

The idea of effective control or de facto control has further been
clarified in the decision of the Honourable Securities Appellate
Tribunal in Ashwin K. Doshi and others vs. SEBI, Appeal 44/2001

Page 32 of 68
dated October 25, 2002 that de facto control can exist without any
legal power at all. Judged against this yardstick, it is quite too
obvious that Mr. Jignesh Shah is in effective control and clearly the
driving force for the affairs of both FTIL and MCX.

54. Regulation 8(1) of the MIMPS Regulations provides that “No person
resident in India shall at anytime, directly or indirectly, either individually
or together with persons acting in concert, hold more than five per cent. of
the equity share capital in a recognised stock exchange”. I observe that
the said Regulations do not allow even an indirect holding in excess
of five per cent of the shares of a stock exchange. Applied to the
MIMPS Regulations, indirect holdings can happen in two ways.
Firstly, as seen above, FTIL also indirectly holds shares in MCX-SX
through MCX, as FTIL and MCX, share a common manager and are
de facto controlled by the same entity. Therefore the holding of FTIL
together with that of MCX exceeds the permissible limit of 5 per cent
limit of ownership in a stock exchange. Secondly, FTIL holds
31.18% of shares in MCX. This implies that FTIL also indirectly
holds 31.18% of the shares of MCX-SX owned by MCX. Hence
indirectly FTIL holds 1.559% (viz. 31.18% of 5%). In this manner too,
FTIL holds, directly and indirectly more than the permissible limit of 5
per cent of shares in MCX-SX.

55. Therefore, I find that for the reasons discussed above, MCX and
FTIL are “persons acting in concert” in MCX-SX, and their present
combined equity shareholding (of ten percent of the total equity
shares) in MCX-SX is not in compliance with Regulation 8 of the
MIMPS Regulations.

BUY BACK ARRANGEMENTS IN VIOLATION OF THE SCR ACT

56. In its Notice, SEBI has observed that the promoters of MCX-SX and
their associates had arrangements with three shareholders of MCX-

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SX, (PNB, IL&FS and IFCI) where sale of shares between the
parties were based on offers to buy back the shares at or within
specified time in the future. The relevant details from the Notice, are
reproduced below (Para 5.1):
“a. PNB vide their letter dated August 19, 2010 has informed that the
buy back offer is implicitly extinguished in view of their agreement
to the Scheme of Capital Reduction, through which promoters of
MCX-SX viz. MCX and FTIL cannot hold more than 5% shares in
MCX-SX. They have further clarified that post this extinguishment,
no fresh buy back offer had been signed with any other entity.
However, they have not denied that there were buy back
arrangements in the first instance, prior to their being extinguished
by virtue of the Scheme of Capital Reduction.
b. In case of IFCI, MCX-SX in their letter dated 20th August , 2010
have confirmed that FTIL had signed a supplementary agreement
dated 16th December 2009 with IFCI offering an arrangement
which indicated a fixed return and price protection to the
purchaser i.e. IFCI. ………….
c. In case of ILFS it, vide their letter dated August 11, 2010 have
informed that the Committee of Directors in their meeting on
August 10,2010 resolved to implement interalia “to explore the
exit from the investment in MCX-SX which would interalia include
expediting the right to selling its investment in MCX-SX as per the
exit terms with the promoters of MCX-SX .”

As stated in its Notice, SEBI has found that the above arrangements
referred to are in the nature of forward contracts in securities and are
in contravention of the provisions of the SCR Act.

57. The main argument that the Learned Senior Counsel for the
Applicant has made, is that the SCR Act concerns only with
securities listed in Stock Exchanges, and that shares of MCX-SX is
therefore not covered under the provisions of the same.

58. In the written submissions of the Applicant the arguments were
a. The alleged buy back agreements have been extinguished
as they cannot be executed in violation of the MIMPS
Regulations.
b. In the light of the judgements in Brooke Bond India Ltd. vs. U B
Ltd. (1994) 3 Com LJ 279 (Bom) and Jagdishchandra Champaklal

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Parekh vs. Deccan Paper Mills Ltd. (1994) 80 Com Case 159
(CLB), the shares of the Applicant being unlisted do not fall
within the purview of the SCR Act.
c. Buy back or price protection is common across the market
even in the case of listed companies. SEBI has in the past
not objected to any such agreements that have been
disclosed in red herring prospectuses.
d. SEBI has also given legal sanction to similar agreements in
places such as in the Takeover Regulations, as seen, for
instance, from Regulation 3(1)(ia) therein.

59. I propose to examine whether SCR Act covers unlisted securities and
if so, whether these arrangements are legal. There cannot be any
serious dispute that these arrangements are in the nature of buy
back arrangements, as the parties, in the correspondence amongst
themselves have variously defined these contracts as buy back
arrangements. There cannot also be any doubts as to the
involvement of the Applicant itself in these arrangements as evident
from the letter, dated March 31, 2009, addressed by the Applicant to
PNB.

60. As per Section 13 of the SCR Act, contracts in securities, in notified
areas, shall be legal if they are executed between members or
through or with such member of a recognised stock exchange in
India. The Central Government by its notification dated November
29, 1957 extended the provisions of Section 13 of the SCR Act and
made it applicable to the area comprising Greater Bombay. Further,
the Central Government on June 27, 1969 issued a notification under
Section 16(1) of the SCR Act, viz:
“S.O.2561. In exercise of the powers conferred by sub-section (1)
of section 16 of the Securities Contracts (Regulation) Act, 1956 (42
of 1956) the Central Government being of opinion that it is
necessary to prevent undesirable speculation in securities in the
whole of India, hereby declares that no person in the territory to
which the said Act extend, shall save with the permission of the

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Central Government enter into any contract for the sale or
purchase of securities other than such spot delivery contract or
contract for cash or hand delivery or special delivery in any
securities as is permissible under the said Act and the rules, bye-
laws and regulations of a recognised stock exchange:” (Emphasis
supplied)

The above Notification was rescinded by Notification No.S.O.186(E)
dated March 1, 2000. The Central Government further issued a fresh
Notification No.S.O.184 (E) dated March 1, 2000, that
“Notification No. S.O. 184(E) dated 1st March, 2000.- In exercise
of the powers conferred by sub-section (1) of section 16 of the
Securities Contracts (Regulation) Act, 1956 (42 of 1956), read
with Government of India Notification No. S.O. 573(E), dated 30th
July, 1992, and Notification No. 183(E), dated 1st March, 2000,
issued under section 29A of the said Act, the Securities and
Exchange Board of India (hereinafter referred to as “the Board”)
being of the opinion that it is necessary to prevent undesirable
speculation in securities in the whole of India, hereby declare that
no person in the territory to which the said Act extends , shall, save
with the permission of the Board, enter into any contract for sale
or purchase of securities other than such spot delivery contract or
contract for cash or hand delivery or special delivery or contract
in derivatives as is permissible under the said Act or the Securities
and Exchange Board of India, Act, 1992 (15 of 1992), and the
Rules and Regulations made under such Acts and rules,
regulations and bye-laws of a recognized stock
exchange…”(Emphasis supplied)

The term ‘securities’, vide definition in 2(h) of the SCR Act include
“shares, scrips, stocks, bonds, debentures, debenture stock or other
marketable securities of a like nature in or any incorporated company or
other body corporate”. So from, a plain reading of these Notifications
along with the definition of the term Securities in this Act, it would
follow that the above notification would apply to shares and warrants
of MCX-SX also.

61. Having observed so, I also find that there have been, judicial
pronouncements in the past, in support of the view that the SCR Act
applies only to securities listed on a stock exchange. For example,
In the Brooke Bond India case cited by the Applicant in its written

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submissions, the Honourable High Court has held that “...., I consider
myself bound to take the view that the Securities Contracts
(Regulation) Act, 1956 is not intended to regulate private transactions
in shares of public limited companies, not listed on the stock
exchange.” Similarly in the Jagdishchandra Champaklal Parekh vs.
Deccan Paper Mills Ltd. case, also cited by the Applicant, the
Honourable High Court has held a similar view.

62. However, in the case of A K Menon v Fairgrowth Financial Services Ltd.
(1995) 2 Comp LJ 59, the Honourable Court differed with the
judgements in both the Brooke Bond and the Jagdishchandra
Champaklal Parekh vs. Deccan Paper Mills Ltd. cited above and held
that provisions of the Securities Act do not relate merely to securities
which are listed but relate also to securities which may not be listed
in any stock exchange, and that all that is required is that there must
be marketability of the security. The learned Judge arrived at the
finding that the provisions of the SCR Act embrace the transactions
and dealings in the securities of unlisted public limited companies
also.

63. In B.O.I Finance Ltd. v. Custodian [1997] 12 SCL 99 (SC), the Division
Bench of the Honourable Supreme Court examined the severability
of the two legs of a ready forward transaction. In the said case, the
Honourable Supreme Court, while concluding that the two legs of a
ready forward transaction are severable, recognised the findings of
the Special Court (whose order was appealed against), that the
contracts themselves were illegal under the provisions of the SCR
Act, and the notification issued under Section 16 thereof.

64. This position has been further affirmed, more recently by the
Honourable High Court of Mumbai in Mysore Fruit Products Ltd And
Others vs. The Custodian And Others (2005) 107 BOM LR 955. In this
case, the Honourable High Court considered both the judgements

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the Brooke Bond and the A.K. Menon vs. BOI cases. The Honourable
High Court observed thus:
“……To accept the argument of the learned Counsel for the
Petitioners, would amount to saying that in areas where there are
stock exchanges and the securities are listed on that stock
exchange, ready forward transactions would be prohibited in these
securities but in areas where there are no stock exchange, ready
forward transactions in the same security could be carried on.
This would be contrary to the plain reading of both Section 16 as
well as the said notification. Further, it is an admitted position
that the list of securities of the various stock exchanges will not be
identical. Some securities may be listed on one stock exchange, but
they may not be listed on other stock exchanges.” (Para 8)

“9. Thus it is clear that forward sale of shares even of the public
limited companies which are not listed on the stock exchange are
prohibited by the Securities Act.” (Para 9 ibid)

65. So, in view of the judgement of the Honourable Supreme Court and
the judgements of the Honourable High Court, it has become the
settled legal position in the Indian Securities market that such buy
back (forward contracts) arrangements in unlisted shares of public
limited companies are illegal under the SCR Act. I am therefore
unable to find any merit in the argument of the Applicant that the
SCR Act applies only to listed securities.

66. On the argument of the Applicant, that SEBI has not objected to
such arrangements in the past, I would not like to go into the same,
as this is irrelevant to the issue of whether the impugned buy back
arrangements are legal or not. I also find that Regulation 3(1)(ia) of
the Takeover Regulations cited by the Applicant refers to
agreements between funds and are not relevant to the issue under
consideration.

67. I find that that the buy back arrangements listed above are illegal for
the reasons discussed above, and further that the Applicant has
been instrumental to these contracts that were made in violation of
the SCR Act. It is germane in this context that this Application too

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has been made under the SCR Act. The Applicant has submitted
that these buy back arrangements were to help achieve compliance
with Regulation 8(1). But compliance with Regulation 8(1) has
certainly to be through legal means. I find that the Applicant has
been instrumental to contracts illegal under the SCR Act, and
therefore falls short of fair and reasonable standards of integrity
required of a Stock Exchange in India.

THE APPLICANT AS A FIT AND PROPER PERSON
68. Another ground on which SEBI is prima facie, is satisfied that it would
not be in public interest and in the interest of trade, to grant the
application is briefly stated below:
1. Promoters of MCX-SX or their related entities had
entered into buyback arrangements with a few investors
while selling their shares to them. MCX-SX had not
disclosed any details of such buyback arrangements to
SEBI, though such information is material to determining
whether the Applicant conforms to Regulation 8(1) of
MIMPS Regulations.
2. In the Notice, SEBI further found that MCX-SX had filed
the Scheme, as stated therein, to comply with the
regulatory requirements under the MIMPS Regulations
administered by SEBI. That being so, MCX-SX had not
informed the Honourable Court of Bombay, that
necessary regulatory approvals from SEBI had neither
been sought nor obtained. SEBI also observed that at
the time of filing the Scheme with the Honourable High
Court, MCX-SX had filed the mailing acknowledgement
on its letter to SEBI dated December 21, 2009 before the
Regional Director (Ministry of Corporate Affairs). Based
on this, the Regional Director subsequently, in his
affidavit, informed the Honourable High Court, that MCX-
SX had filed the Scheme with SEBI. SEBI found that

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MCX-SX, had by filing the mailing acknowledgement on
its letter with the Registrar, sought to convey the
impression to the Honourable High Court that the
Scheme complied with the Regulations applicable to it as
a Stock Exchange.
3. Based on the above, SEBI, prima facie, found that MCX-
SX cannot be considered fit and proper for the expansion
of the operations into other products and segments as
requested in their application dated April 7, 2010.

69. In response to this ground, the Learned Senior Counsel for the
Applicant submitted the following arguments which are summarised
below:
a. Any alleged buy back arrangement is immaterial to this case
now, as the Applicant cannot exercise any buyback in
breach of the MIMPS Regulations.
b. These buyback arrangements, if any, are all prior to the
scheme. These arrangements are extinguished with the
implementation of the Scheme.
c. MCX-SX, its promoters and associates have passed Board
Resolutions to the effect that they would be in compliance
with the MIMPS Regulation
d. The shareholders of MCX-SX had agreed to the Scheme of
Capital Reduction, and hence there are no buyback
arrangements now.
e. MCX-SX did not take approval for the Scheme of Capital
Reduction from SEBI, as no such approval was required
under law.
f. It was the Regional Director, Ministry of Corporate Affairs
and not MCX-SX that filed the affidavit in the Honourable
High Court that referred to the acknowledgement.

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g. Even after furnishing information with SEBI on December 21,
2009, about the Scheme filed before the Honourable High
Court, SEBI did not ask any further questions.
h. MCX-SX has been given renewal of recognition to function
as an Exchange for one year. This implies that it is a fit and
proper person.

70. In the written submissions, the Applicant has additionally made the
following submissions:
a. There were no buyback arrangements as provided for in
Section 77A of the Companies Act, 1956 and it was only in
the nature of an exit option in line with customary and
accepted market practice.
b. MIMPS Regulations do not require disclosure of the inter se
agreements between shareholders to SEBI.
c. The contracts referred to were all contingent in nature and
were subject to the MIMPS Regulations.
d. There is no suppression of information in the disclosures
made by the Applicant to SEBI.
e. The Applicant denies that it had used the mailing
acknowledgement issued by SEBI to convey misinformation.
f. The Applicant also submitted that there were some oral
conversations where SEBI was informed of the scheme.

71. Before carefully examining the substantive arguments of the
Applicant on their merits, it might be useful to briefly address the
question as to whether these buy back arrangements still subsist or
whether they have all been extinguished by virtue of all the parties
agreeing to the Scheme. Suffice it to say that one of the parties viz.
ILFS, in its letter to SEBI, has informed that it proposes to exercise
its rights under the agreement. So the claim of the Applicant that all
its buyback rights have been extinguished is not entirely borne out in
the facts and circumstances.

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72. The main plank in the arguments advanced by MCX-SX, is that even
if buy back arrangements have been entered into, the Applicant or
its promoters could not have done anything in violation of the
shareholder restrictions imposed under the MIMPS Regulations. The
argument seems to be that even if a regulated entity enters into
contracts which can potentially violate a law and does not disclose
the same, it should not be a cause for concern for its Regulator. I am
unable to find merit in this as such an argument would be quite
contrived. That is not a reasonable understanding of how a
regulatory system should work.

73. In this regard, what is more important is whether the information on
the buyback was material and should have been shared with SEBI to
determine whether Regulation 8(1) has been complied with or not.
Regulation 11 (1) obligates a Stock Exchange to monitor and ensure:
“(a) that no transfer or issue of equity shares therein is made
otherwise than in accordance with these regulations;
(b) that at least fifty-one per cent. of its equity share capital is
continuously held by the public; and
(c) that the restrictions contained in regulations 8 and 9 are
complied with in respect of the shareholding therein.”
Regulation 11(2) of the MIMPS Regulations makes it mandatory on a
recognised Stock Exchange to disclose every quarter, the names of
ten largest shareholders with the extent of the shares held by them,
the names of shareholders who had acquired shares in that quarter
and the shareholding pattern. Regulation 11(3) provides that a
recognised stock exchange shall submit an undertaking confirming
the compliance of the provisions of sub-regulation (1) to the Board on
a quarterly basis within fifteen days from the end of each quarter.
Regulation 11(5) requires that the recognised stock exchange shall
maintain and preserve all the books, registers, other documents and
records relating to, the issue or sale of equity shares under these
regulations for a period of ten years. Clearly Regulation 11 and its
various sub-regulations impose an important regulatory responsibility

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on a Stock Exchange for overseeing compliance of the MIMPS
Regulations. Such oversight is continuous [Regulation 11(1)(b)] and
compliance with the regulations have to be confirmed quarterly to
SEBI [Regulation 11(3)]. In fact, I also note here that other than this
disclosure and self-regulation by the Stock Exchange itself, there is
no other instrument under the Regulations that SEBI has designed to
monitor compliance with the shareholding restrictions under these
Regulations.

74. I have carefully examined the correspondence referred to in the
Notice, between MCX-SX, MCX, FTIL, La-Fin and a few of the
shareholders of MCX-SX. I have already considered the legality of
the buy back arrangements drawn up in these letters and have come
to the finding that these buy back arrangements are illegal under the
SCR Act. Without going any further into the contents of these letters,
I find that what emerges is that MCX-SX either had been
instrumental to the arrangements or was in the know of all such buy
back arrangements. These buy back arrangements allowed the
non-compliant promoters of MCX-SX, to retain a lien on the shares
sold or transferred to others in order to comply with the MIMPS
Regulations. If shares are sold or transferred with a lien on them to
buy it back in the future, then for the purpose of the MIMPS
Regulations, such sale or transfer would not be a true sale or
transfer. The information of buy back or any arrangement underlying
such sale or transfer is evidently material for the purpose of
determining compliance with the MIMPS Regulations.

75. The arrangements between the promoters and their associates with
investors in the Stock Exchange are material to SEBI for a
determination of compliance under Regulation 8(1). An analogy
might clarify this further. If (say) there is a restriction on an airline
passenger visiting India that allows him to carry five kilograms of gold
into the country and he is actually in possession of ten kilograms. He

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gives the excess of five kilograms to a fellow passenger to carry the
same across the Customs Line and enters into an agreement with
him to take it back some time thereafter (promising him a certain
incentive for doing so). Would such an airline passenger be in
violation of the law? The answer is self-evident. Would this
transaction become legal, if he takes the plea that after all there are
regulatory authorities that can apprehend him, when and if, he
actually repossesses the gold from the fellow passenger?

76. In this instant case, the similarities with the analogy above are only
too striking. In all buy back arrangements referred to above; there
was a promise of an incentive accompanying these arrangements.
In these transactions referred to:
“The price at which such shares will be offered to be purchased by
us will be at a price which will be higher of the following (“Buy
Back Price”):
(i) Price which provides an internal rate of return (“IRR”)
of 15% on the investment or
(ii) Price at which the most recent transaction of MCX-SX
equity shares is carried out by MCX-SX or MCX or FTIL
Group.” (Letter from La-Fin Financial Services Private
Ltd. to ILFS Financial Services Limited and others dated
August 20, 2009)

“We here by accept & agree the terms and conditions no. 1 to 3 as
mentioned in your letter dated July 20, 2009 which are:
1. PNB shall be entitled to simple rate of return @ 16% after
completion of three (3) years from the date of investment on
the total amount invested.
…….
2. Financial Technologies (India) Limited (FTIL) or its
appointed nominees have a right to buy back the shares
from PNB at any time after expiry of 1 year from the date of
investment with a notice to the investor. The simple rate of
interest will be paid on prorata basis @ 16%
p.a.………………………” (Letter from FTIL to PNB dated
August 12, 2009)

77. There has been serious failure of the Applicant as the first line
regulatory body in fulfilling its duties to disclose these transactions to
SEBI. The Applicant was aware that its promoter shareholders had

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while selling/transferring their shares retained a lien on the shares so
transferred. In fact, SEBI has little other means to verify such rather
elaborate arrangements underlying the ownership and transfer of
shares other than depend on the Stock Exchange itself. This also
reminds us of the critical position of an Exchange as a self-regulator.
Needless to say, regulatory arrangements on matters like this can
only be based on trust between the Regulator and a self-regulatory
organisation like a Stock Exchange. In none of the quarterly reports
[under Regulation 11(5)], has MCX-SX disclosed any of these buy
back/incentive arrangements to SEBI that underpinned the sale of
shares by promoters FTIL and MCX to other investors, admittedly to
comply with the MIMPS Regulations.

78. Equally reprehensible is the fact, that even after SEBI sought and
obtained disclosures on the buy back arrangement between FTIL
and PNB, the Applicant did not disclose but persisted in withholding
facts about a similar arrangement between MCX (through La-Fin)
with IL&FS. As pointed out in Paragraph 3.5 of the Notice, it needed
further enquiry by SEBI and a subsequent letter from SEBI to elicit
this. MCX-SX has not provided any cogent reason as to why it did
not disclose this information to SEBI.

79. It has already been brought out above that such buyback
arrangements were illegal. In addition, these arrangements are
directly material to a determination of whether the sale and transfer
of ownership by promoters or shareholders, who own in excess of
permissible limits, are in true and full compliance with Regulation 8(1)
of the MIMPS Regulations. I have little hesitation in holding that
MCX-SX has been dishonest in its disclosures to SEBI on material
information and has failed to fulfil its disclosure and fiduciary
responsibilities cast on it under Regulation 11 of the MIMPS
Regulations.

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80. I have perused the letter addressed by the Applicant to SEBI on
December 21, 2009, paying careful attention to the details therein.
As stated in the Notice, the letter states that “The “Scheme” visualized
will be in contrast to the normal practice of reducing holding by selling
shares and realizing value.” The letter contains a tabular summary of
the shareholding pattern under four groups (that of MCX, FTIL,
Banks and FIIs and MCX-SX ESOP Trust). As regards, what the
Scheme itself was all about, the letter had the following details to
offer:
“The main features of the Scheme are as under:
a) The shareholdings of FTIL and MCX each would not be
in excess of 5% (post reduction) and excess shares would
be extinguished by corresponding reduction of paid up
equity capital of the company.
b) One Financial Institution, which is not a PFI, and would
be in excess of MIMPS Regulation post implementation of
the Scheme and therefore, their partial shareholding will be
reduced under the scheme.
c) The Exchange shall be fully compliant to MIMPS
Regulations after implementation of the Scheme and shall
continue to have necessary networth as stipulated.
d) MCX, FTIL and the other shareholders whose equity
shares are extinguished as above shall be allotted an equal
number of warrants as part of the Scheme.
e) Promoters once having reduced their shareholding to
5% shall not be permitted to increase their holding beyond
limits specified under MIMPS Regulation, thereafter.”

The letter further stated that the proposal was unanimously
approved in an extraordinary general meeting held on 15th
December 2009, and necessary papers have been filed in the
Court. It further referred to its plans to complete the various steps
under the Companies Act and that it would report to SEBI further
developments in this regard. The letter did not seek any approval
from SEBI on whether the Scheme complied with the MIMPS
Regulations.

81. The Applicant has now filed a copy of its letter (Annexure 14A to its
written submissions) to the Regional Director, Ministry of Corporate

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Affairs. I have gone through the contents of this letter. The actual
scheme filed by the Applicant (thereafter made available in May
2010 to SEBI) is an extensive document that details out a complex
restructuring of the capital structure of MCX-SX, through the
conversion of shares into warrants, setting off the mutual liability of
the non-compliant shareholders against that of the company and
accompanied by a recasting of the Balance Sheet of the Company.
Despite having given the limited information on the Scheme to SEBI
contained in the few sentences quoted above, in the aforesaid letter
to the Regional Director, the Applicant notes that a “detailed” letter
on the Scheme has been filed with SEBI and that “SEBI has not
expressed any reservation or objection to the said scheme”.
Evidently, SEBI could not have objected to the Scheme, because it
does not enjoy any powers or have any locus under Sections 391 to
394 of the Companies Act, 1956. I have to note therefore that, even
without asking SEBI as to whether the Scheme was in full
compliance with the MIMPS Regulations, it represents before the
Regional Director in the aforesaid letter, that “SEBI has not
expressed any reservation or objection”. I have to observe here
that the Applicant clearly sought to convey an impression to the
Regional Director that the Scheme had complied with all the
applicable regulatory requirements.

82. I fail to understand, why the Applicant could not furnish a copy of the
Scheme itself to SEBI, even though the Scheme was ostensibly filed
with the objective (as stated in Section III of the Scheme) of
complying with the MIMPS Regulations; or why the Applicant had to
file with the Regional Director, Corporate Affairs, the mailing
acknowledgement issued by SEBI on its letter dated December 21,
2009 instead of seeking a letter of endorsement from SEBI and filing
the same, as would be expected in usual business practice; or why it
represented to the Regional Director that SEBI had expressed no
reservations or objections to the Scheme even without seeking

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SEBI’s views on compliance; or why, in fact, even a copy of the
Scheme was not furnished to SEBI at least along with the letter dated
December 21, 2009.

83. Even while submitting that MCX-SX was not legally bound to consult
SEBI prior to filing the Scheme, the Learned Senior Counsel for the
Applicant, has strenuously argued that nothing prevented SEBI from
seeking further details on the basis of the letter of the Applicant
dated December 21, 2009. The implication of this argument is
interesting. It would suggest that SEBI should have called for details,
conducted an inquiry, if necessary, and hurried to intervene in the
matter quick enough before the Scheme of Capital Reduction filed
before the Honourable High Court got approved. And as the
corollary thereto - because SEBI did not show this degree of alacrity
and nimbleness in pursuing the Applicant and seeking details, it
presumed that the Scheme complies with the applicable regulations
and that SEBI had no objections to its Scheme. I would be loathe to
think that the process of regulatory compliance of a stock exchange
is a trivial game of getting the ball past the post first.

84. I pause to reflect on what SEBI could have possibly done on the
letter dated December 21, 2009 on a matter that was before the
Honourable High Court. Section 391 to 394 of the Companies Act,
1956 makes it clear that the arrangement contemplated there under
is between the Company, its creditors and members. There is no
locus for any other party under these provisions. Neither the
provisions of the SCR Act nor the MIMPS Regulations can take away
the freedom of a company to restructure its capital through a scheme
under Sections 391 to 394 of the Companies Act. Clearly, all that
SEBI could have done under law would be to examine whether the
Applicant after the approval of the Scheme, complies with the
applicable Regulations.

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85. The Learned Senior Counsel for the Applicant has also argued that
SEBI has already granted the Applicant recognition for an additional
year to operate as a Stock Exchange in products already allowed to
it. This therefore implies that SEBI has already found and declared
the Applicant to be a fit and proper person. On a perusal of the
Notification dated 30th August, 2010, granting such renewal for a
further period of one year from September 16, 2010, I note that this
renewal has been granted without prejudice to the disposal of this
Application before me. The relevant clause of the Notification is
reproduced below:
“The renewal of recognition is without prejudice to the right of
SEBI to decide on the application of MCX-SX dated 7th April,
2010, on its merits in accordance with the relevant laws, rules and
regulations are applicable in stock exchange/trading in
securities.”
In fact, on the contrary, withholding this renewal of the Stock
Exchange without a proper examination would have been unjust in
law. So I therefore find no substance in this argument put forward
by the Applicant.

86. To sum up, in this instance a Scheme of Capital Reduction and
arrangement had been filed by a Stock Exchange before the
Honourable High Court with the declared objective of complying with
the MIMPS Regulations. The Stock Exchange, for reasons it knows
best, did not deem it necessary or appropriate to verify with SEBI the
proposed Scheme is in full compliance with these Regulations.

87. My concerns stated above in Paragraph 82 remain. I feel that the
Applicant should have sent the proposed scheme to SEBI, and
sought confirmation that it was fully compliant with the MIMPS
Regulations. But I cannot go as far to agree with what has been
stated in the Notice, that the Applicant has been dishonest in not
giving SEBI adequate information about the Scheme itself, for the
reason that it was not obliged to do so under law.

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88. However, as discussed above, on the issue of withholding
information on buyback arrangements from SEBI, I find that the
Applicant has clearly been dishonest in withholding material facts
about the arrangements underlying the ownership and sale of shares
by its promoters. It certainly should not have required, (as stated in
Paragraph 3.8 of the Notice,) a third party’s intervention under the
Right to Information Act, 2005 for SEBI to ferret out the information
from the Applicant, who evidently was reluctant to part with the
same. Given the position of a Stock Exchange as a first line
regulator, I find that this dishonesty on the part of the Applicant is
serious.

89. In the Notice, the charge has been raised that the above actions do
not make the Applicant ‘fit and proper’. The issue before me is not
to determine whether the Applicant is fit and proper to function as a
recognised stock exchange. But, I am of the considered opinion that
the Applicant has failed to adhere to fair and reasonable standards
of honesty that should be expected of a Stock Exchange.

CONCENTRATION OF ECONOMIC INTEREST OF THE
PROMOTERS IN A RECOGNISED STOCK EXCHANGE

90. This ground as set out in the Notice issued by SEBI is summarised
as follows. A Stock Exchange enjoys a special regulatory position.
SEBI is of the view that it is not in the interest of trade or in public
interest to allow the Applicant to operate as a full fledged stock
exchange, given that the total economic interest of two of its founder
promoters is in excess of seventy percent. In setting out this ground
in the Notice, SEBI has briefly outlined the manner in which a Stock
Exchange is conferred this position of primacy in the regulatory
framework that governs the securities markets in India.

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91. The Learned Senior Counsel for the Applicant has put forward a
threefold argument, which I shall consider on merits in the next few
paragraphs that follow:
i. the term ‘economic interest’ is not defined in the statutes,
ii. that the Notice merely makes conjectures, as regards the
possibility of deviant behaviour, and does not specify as
to how any concentration of such interest in MCX-SX has
had or will have any consequences as apprehended in
the Notice.
iii. there is no underlying principle of diversified ownership
for Stock Exchanges that has been violated as stated in
the Notice.

92. The written submissions of the Applicant are on the same line as in
the representations of the Learned Senior Counsel and are briefly
summed up below:
a. Concept of Economic interest has not been defined or
mandated in MIMPS Regulations or the SCR Act.
b. Diversification refers to diversification of the Equity Capital
and not of any assumed economic interest.
c. Framers of the Regulations have only limited the equity
share capital and not any form of economic interest.
d. The concept of economic interest has not been intimated to
it, at any time.
e. The alleged economic interest would not render the
Applicant vulnerable to any deviant commercial incentive.
f. Warrants do not have any voting rights or dividends and do
not confer any economic interest in the Company.

93. The first of these arguments is that the term ‘economic interest’ is not
defined anywhere in the statutes. As mentioned earlier, Section 4(1)
of the SCR Act is the relevant section under law that deals with grant

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of recognition of a stock exchange. The Legislature amended the
SCR Act by the Securities Laws (Amendment) Act, 2004, to provide
for the corporatisation and demutualisation of stock exchanges. The
SCR Act was further amended to incorporate Sections 4A and 4B in
the same for the implementation of the corporatisation and
demutualisation of stock exchanges. Section 4B in sub-section (8)
inter alia provides that:
“Every recognised stock exchange, in respect of which the scheme
for corporatisation or demutualisation has been approved under
sub-section (2), shall, either by fresh issue of equity shares to the
public or in any other manner as may be specified by the
regulations made by the Securities and Exchange Board of India,
ensure that at least fifty-one per cent of its equity share capital is
held, within twelve months from the date of publication of the order
under sub-section (7), by the public other than shareholders having
trading rights:
Provided that the Securities and Exchange Board of India may, on
sufficient cause being shown to it and in the public interest, extend
the said period by another twelve months.” (Emphasis supplied)

94. The recognition of a stock exchange is to be granted after arriving at
the satisfaction under Section 4(1) after a fair and reasonable
application of mind. However, there is no other statutory provision
that lays down the specific conditions that a Stock Exchange should
fulfil. As mentioned elsewhere herein, the MIMPS Regulations was
framed for stock exchanges that are not corporatised and
demutualised. Therefore, absent any statute(s) that explicitly provide
for how recognition should be granted under Section 4(1) of the SCR
Act, I do not see merit in the argument of the Applicant, that the
term ‘economic interest’ has not been defined in the Statutes and
therefore, the concentration of economic interest in the exchange
cannot be a valid reason for denial of the Application. I also note that
the idea of economic concentration is a very valid consideration in
similar financial regulations that are intended to ensure diversification
and prevent concentration. For instance, in Hindustan Motors Limited
vs. MRTP Commission (AIR 1973 Cal 450), the Honourable High Court
observed that “If that is object and the scheme of the Act, I find no reason

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why concentration of economic powers in de facto hands would not equally
come within the prohibition of the Statute. I think the object of the Statute
would be materially be frustrated if the Central Government or the
commission is made to go by the veil of incorporation in finding out the real
control and is not allowed to disregard the corporate personality.”
Therefore, I am of the view that the locus of the decision cannot lie
on whether the term ‘economic interest’ is in the statutes – as
evidently, there are no separate statutes that have been laid down
defining the manner in which recognition under Section 4(1) of the
SCR Act has to be granted to an exchange.

95. The second argument that the Learned Senior Counsel has made in
this regard is that SEBI has not specified what exactly is the deviant
behaviour that concentration of economic interest in a Stock
Exchange can possibly induce. The Notice refers to the importance
of ensuring that the “Stock Exchange is not vulnerable or appear to
be vulnerable even to the slightest degree, to any deviant
commercial incentive.” To spell out what deviant commercial
incentive is, would be merely a tautological exercise. However,
suffice it to say, that it is not hard to see that deviant commercial
incentive, in the context of the functioning of a stock exchange in the
securities market, means commercial benefits derived in any
unlawful manner and that is detrimental to the investors of the
market. Beyond this, I do not think it is necessary to spell out what
deviant commercial incentive is, for the purpose of this case.

96. The third argument put forward on behalf of the Applicant is that
there is no such underlying principle behind diversified ownership as
referred to by SEBI in Paragraph 1.7 of the Notice. The said
paragraph is reproduced below for greater clarity:
“The principle on which a diversified ownership for stock
exchanges has been mandated by law is that there should be no
perverse incentive for any promoter or shareholder in an
exchange, to derive any undue advantage based on any excessive

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concentration of ownership. This principle would have to
necessarily be held sacrosanct, regardless of whether such
concentration of interest comes through holding equity shares or
warrants convertible to equity shares.”

97. The issue that arises for my consideration is whether the Central
Government and/or SEBI has intended that stock exchanges should
have diversified ownership and if so what was the motivating
principle behind it. The answer to this is not too far to find. As stated
earlier, the Legislature amended the SCR Act to mandate that Stock
Exchanges shall be Companies. It further amended the same Act to
ensure that “at least fifty-one per cent of its equity share capital
is held”, by the “public other than shareholders having trading
rights.” Needless to say, corporatisation of a Stock Exchange
automatically provides for a legal structure that admits more
shareholders as owners. Furthermore, it is the expressed intention
of the Legislature that ownership in a Stock Exchange should be
diversified to the extent that there should be public (viz. non trading
members) shareholding of 51% in it. But Section 4B of the SCR Act
did not specify, how such 51% allocated to the public should be
distributed. Absent the MIMPS Regulations, the public shareholding
of 51% of shares in a Stock Exchange, could have been held by one
single individual or institution – the only rider would have been that
such individual or institution cannot hold rights to trade on the Stock
Exchange. Regulation 8(1) of the MIMPS Regulations provides as
follows:
“8. Shareholding and transferability restrictions.- 1[(1) No
person resident in India shall at anytime, directly or indirectly,
either individually or together with persons acting in concert, hold
more than five per cent. of the equity share capital in a recognised
stock exchange:
Provided that a stock exchange, a depository, a clearing
corporation, a banking company, an insurance company and a
public financial institution defined under section 4A of the
Companies Act, 1956 may hold, either directly or indirectly,
either individually or together with persons acting in concert,
upto fifteen per cent. of the paid up equity share capital of the
recognised stock exchange:”

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98. Therefore, Regulation 8(1) of the MIMPS Regulations lays down that
a person will be allowed to hold a maximum of 5% in the shares of
the Stock Exchange, while another select class of financial
institutions can own up to a maximum of 15% each in the shares of
the Stock Exchange. Parliament amended the SCR Act itself, to
corporatize Stock Exchanges and ensure a minimum of 51% of
public ownership in a Stock Exchange. SEBI widened the scope of
such public ownership through the MIMPS Regulations. This means
that it was the intent of public policy, to ensure that the public
shareholding (with the minimum being 51% as mandated under
Section 4B of the SCR Act) got widely distributed. It is not difficult to
see that the obvious principle behind this was that a wider ownership
in a public institution like the Stock Exchange is desirable in public
interest. This answers the third issue raised by the Applicant as to
whether there was in fact any such underlying principle behind
mandating diversified ownership in a Stock Exchange.

99. So clearly therefore, it is not the determination of whether the term
‘economic interest’ or ‘deviant commercial incentive’ have been so
defined or whether there is any underlying principle behind diversified
ownership in a Stock Exchange that is vital to disposing this
application. But, what is of paramount importance is whether, SEBI
would be reasonable if it concludes that it is not satisfied that such
concentration of economic interest of promoters in a Stock Exchange
is not in the interest of trade and in public interest. I propose to
consider this in the succeeding paragraphs.

100. To appreciate this, it will become necessary to first address an issue,
which is central to a decision on this Application: “What is the
position that a Stock Exchange holds in the financial markets in
India?” As brought out in the Notice vividly, the Stock Exchange
enjoys a special regulatory role in the Securities Market and

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consequently an exalted position among market participants. On
this, the Appellant does not have any dispute to the contrary.

101. This unique role has been brought out in Para 1.17 of the Notice and
is reproduced below:
“Every Stock Exchange provides the vital function of being the first
line of regulation in the securities market. Stock exchanges as
market regulatory institutions are the pillars on which the stability
and integrity of the financial market rests. By their very nature,
stock exchanges co-share the responsibility of regulating the
market along with SEBI. SEBI relies on the surveillance systems of
the Stock Exchange for an accurate assessment of fraud and
manipulation in the market. A Stock Exchange is also the
arbitrator in a dispute between clients and brokers and seeks to
protect the interest of investors and address regulatory concerns
ensuring compliance by Companies with the Listing Agreement
entered into by them. Further more, the Stock Exchange is in
possession of the entire trading information pertaining to clients.
Given this position of a Stock Exchange, it becomes necessary to
ensure that a Stock Exchange is not vulnerable or appear to be
vulnerable even to the slightest degree, to any deviant commercial
incentive on the part of its shareholders, big and small, promoters
and non promoters.”

In short, SEBI has in its Notice pointed out that a Stock Exchange is
also a regulatory body. It is the first line of regulation in the market.
It is an arbitrator committed to protection of the investors. It serves
as a market watchdog through its surveillance machinery and
monitoring mechanisms.

102. It is admittedly the position, that prior to the Scheme, the total
number of issued shares in MCX-SX was 173,99,33,000 in number.
The promoters, MCX and FTIL held 64,43,00,000 and 58,96,25,000
shares respectively. MCX held 37.03% of the equity shares and
FTIL held 33.89% of the equity shares, both together holding 70.92%
of the total issued capital.

103. Following the implementation of the Scheme of Capital Reduction,
the number of issued shares in MCX-SX is 54,33,03,000 and the

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number of warrants issued against the shares so reduced is
119,66,30,000, so that the total number of shares and warrants in
MCX-SX remains at the same number as before viz. 173,99,33,000.
MCX retained 2,71,65,000 shares and 61,71,35,000 warrants issued
in lieu of the shares reduced. So also, FTIL retained 2,71,65,000
shares and 56,24,60,000 warrants issued in lieu of the shares
reduced. Thus, after the implementation of the Scheme, MCX
(37.03%) and FTIL (33.89%) accounted for 70.92% of the total of
shares and warrants in the company, as was the situation when MCX
and FTIL held only equity shares of the company.

104. In March 2010, MCX purchased 1,70,35,000 warrants from IL&FS,
thus raising the number of warrants held by them to 63,41,70,000,
raising its stake in the combined shares and warrants issued from
37.03% to 38.01% of the total. I observe that, effectively therefore,
MCX and FTIL have together now a holding of 71.90% in the shares
and warrants issued by the company as against the 70.92% when
the two were holding only the shares of MCX-SX, prior to the
Scheme of Capital Reduction.

105. Article 12 of the Constitution of India reads thus:
“Definition.- In this Part, unless the context otherwise requires,
"the State" includes the Government and Parliament of India and
the Government and the Legislature of each of the States and all
local or other authorities within the territory of India or under the
control of the Government of India.”

The Honourable Supreme Court of India, in K.C.Sharma vs. Delhi Stock
Exchange and Others, (2005) 4 SCC 4, confirmed and upheld the finding
of the Honourable High Court of Delhi that a Stock Exchange is a
“State” within the meaning of Article 12 of the Constitution. In the
order of the Hon’ble High Court of Delhi (Delhi Stock Exchange and Anr.
Vs. K. C. Sharma and Ors.), the Honourable High Court observed thus:
“Having regard to the various decisions, we are of the opinion that
the appellant satisfies the following conditions laid down by the

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apex court in Ramana Dayaram Shetty v. The International Airport
Authority of India viz:
1. there is control over the management of the Corporation by
the State
2. the corporation enjoys state conferred or state protected
monopoly status; and
3. the functions carried out by the corporation closely relate
to the governmental functions in as much as
i. that is under deep rooted, all pervasive and
extensive control of the Government through the
Securities Exchange Board of India under the SEBI
Act of 1992 and SCR Act of 1956.
ii. It has a complete monopoly status within the
specified territorial limits.
iii. It carries out important public/state functions that of
completely controlling and regulating the
transactions in securities in the country.”

106. In the above case, the Honourable High Court of Delhi has laid down
an insightful and elaborate exposition as to why a Stock Exchange is
a “State” in fact in Paragraphs 13 to 61 of its judgement. I find these
very pertinent to the issue on hand. I also note that the Honourable
Delhi High Court in WP (Civil) No. 4748/2007, in National Stock
Exchange of India Limited v. Central Information Commission and Others,
has held that a Stock Exchange is a public authority as defined by
Section 2(h) of the Right to Information Act, 2005. I have relied on
the guidance that the Honourable High Court has set out in both
these cases even though I have not reproduced them here verbatim.
The short point that emerges is that the Honourable Supreme Court
has confirmed that a Stock Exchange enjoys state conferred or state
protected monopoly status; carries out important public/state
functions that of controlling and regulating the transactions in
securities in the country and is “State” under Article 12 of the
Constitution of India.

107. The realisation that a recognised stock exchange is “State” and is an
extended regulatory arm of the Central Government and SEBI, is
reflected in the provisions of the SCR Act itself. Section 8 therein,
provides for powers of the Central Government to make or direct the

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rule making process in a stock exchange. Section 9 vests SEBI with
powers to make or amend byelaws of a Stock Exchange. Section 11
arms the Central Government and SEBI the powers to supersede the
governing body of a recognised stock exchange. Section 12 vests
the Central Government with powers to even suspend the business
of recognised a stock exchange if it thinks that there is an
emergency.

108. In the light of the above discussion, I cannot adopt a view that the
recognition of a stock exchange is on par with granting of license or
registration to any market intermediary. The design of the process
attached to the recognition of a stock exchange is evidently for a
valid reason. The Legislature left it to the satisfaction of the Central
Government/SEBI. This is because financial institutions like Stock
Exchanges are central to the national economy and at the core, there
would be the issue of safety of the wealth of the citizens who avail of
the services they offer.

109. It is for precisely this reason, that the SCR Act and the Rules made
thereunder, did not specify a list of conditions that a stock exchange
has to comply with and left it to the satisfaction of Central
Government/SEBI, without defining what precisely that satisfaction is.
As is also evident from the SCR Act, Parliament has not imposed any
condition or any restraint on what should constitute the satisfaction of
the Central Government/SEBI. Neither has it defined any measure of
such satisfaction. I also observe apropos, that in contrast to most of
the provisions of the SCR Act, Section 4(1) therein, deliberately uses
the word “may” and not “shall” when it comes to granting of
recognition of an Exchange. Thus, the SCR Act leaves it to the
Central Government/SEBI to determine whether it is in public interest
to grant recognition to a stock exchange after fulfilling such
conditions, as it considers appropriate in public interest.

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110. The Applicant has submitted that warrants do not hold voting rights
and will not give rise to control of the company. Therefore, warrants
cannot be construed as economic interest in the company. In this
Notice, SEBI has used the percentage of the total of shares and
warrants issued as a measure of economic interest of the promoters
in the Stock Exchange. What SEBI has said in the Notice, is that the
promoters who hold 71.90% of the total of shares and warrants
issued by the Stock Exchange as a Company, will derive economic
benefit to that extent from any increase in the economic value of the
Stock Exchange. In other words, any economic gain arising from the
growth and profitability of the Stock Exchange accrues, in this case,
in proportion to the total of shares and warrants held by an investor.
A simple example will make this clear. For instance, if the price of a
share goes from (say) Rs.100 to Rs.101, then a person holding one
share and one warrant will see the a similar increase in the value of
his holding as a person holding two shares. In this case, the
promoters hold 71.9% of the shares and warrants of MCX-SX. So, in
the example above, the promoters would stand to benefit to the same
extent as they would, were they to hold the same percentage solely
as equity shares. Hence whether warrants hold voting rights or not,
or whether it will give rise to any control of the Stock Exchange is
clearly irrelevant to the consideration of the concentration of
economic interest.

111. India, in contrast to many other jurisdictions in the world, has a
predominant share of promoter run Companies. Indian Securities
Laws have recognised this position of dominance of a promoter in a
promoter set up company. In India, this understanding is best seen
reflected in the Takeover Regulations, which imposes disclosure
requirements on promoters, regardless of the extent of their
shareholding in the company and in the
Securities and Exchange Board of India (Issue of Capital and
Disclosure Requirements) Regulations, 2009, which stipulates that

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promoters be locked in from exiting their companies for a specified
period.

112. For a better appreciation of the issues involved, it is necessary to put
aside the corporate veil and take a closer look at MCX-SX as an
institution, pre and post, adopting the Scheme of Capital Reduction.
It is an admitted fact that MCX-SX as a Stock Exchange was created
by the two promoters, MCX and FTIL. The institution was set up by
the promoters, and managed by them. These promoters have
appointed all key personnel. The management and control of the
MCX-SX was fully with the two promoters, and both these promoters
together held 70.92% of the shares. After the adoption of the
Scheme and a subsequent purchase of warrants from another
shareholder, the two promoters now own 71.90% of the shares and
warrants together. All the other shareholders in the MCX-SX are
investors in the Exchange, with each of them owning shares at or
below the shareholding limit of 5/15% as applicable to them. They
have purchased the shares as part of their investment in their
portfolio. Effective control and management continues unchanged
with the promoters and promoter-appointed senior management of
the company. Further, in the case of a Stock Exchange, the
stipulated caps of 5/15% ownership naturally preclude the non-
promoter shareholders from assuming a significant role in the
management and control of the Stock Exchange. The observations
of the Honourable Securities Appellate Tribunal, reproduced below in
Ashwin K. Doshi and others vs. SEBI, Appeal 44/2001 dated October
25, 2002¸are pertinent to this discussion.
“But defacto control over the Board can exist without any legal
power at all. Thus it is well known that in a company with a large
and dispersed membership, a comparatively small proportion of
shares, if held in one hand may enable actual control to be
exercised.” (Emphasis supplied)

113. I am of the view that the adoption and implementation of the Scheme
can do little to change the intrinsic character of the institution. The

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relative roles of all persons, the promoters and those appointed by
the original promoters vis-à-vis the governance of the Exchange
remains unchanged. All that the Scheme has done is to repackage
the economic interest enjoyed by the promoters as ‘shares’ and give
it a new nomenclature as ‘warrants’. The Scheme has simply led to
a rearrangement of the Balance Sheet of the Company. It clearly
alters the form but not the substance of how the institution is
managed or governed or its commercial incentives. For all practical
purposes and intent, the institution continues to be the same. In this
instance, a new mode, no doubt clever, of financial engineering has
been adopted under the Scheme, to bring down the ownership of the
promoters in shares to 5%, converting the excess of shares beyond
5% into warrants. The character of the institution remains the same,
the institution marked with the same imprint as before on its
governance and profit making incentives. Equally important is it to
note that the share of economic gains of the promoters who have
created the exchange too remain exactly the same. I further note that
the Applicant is, even today, listed as one of the group companies of
FTIL, in the publicly disclosed information on its website. What is
evident here is that the two majority shareholders have garbed
themselves as minority shareholders continuing to hold majority
economic stake in the Stock Exchange.

114. I find it pertinent to observe here that a Stock Exchange is the only
regulated institution in the securities market in India in which the
extent of ownership by any single entity/persons acting in concert is
restricted by law. Given the character of corporate governance and
management that tends to get perpetuated in promoter run
organisations, often uncorrelated to their shareholding, the least that
should be done to safeguard the interests of the investors trading on
the exchange, is to ensure that the divestment in a recognised stock
exchange to comply with the MIMPS Regulations is real and fulfils
both the letter and spirit of the law. The considerations discussed

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above, on the character of an organisation, would not matter to SEBI
in the least, if the Applicant were merely a Company engaged in a
line of business not regulated by SEBI. They would matter little, if
the Applicant were a market intermediary like a broker, a depository
participant or a sub-broker. But these are considerations that are
directly relevant in deciding whether permission should be granted to
the Applicant to operate as a full-fledged stock exchange in India.

115. The role of a Stock Exchange has been defined lucidly by the
Honourable Supreme Court of India in Union of India v Allied
International Products Ltd [(1970) 3 SCC 594] in these words:
“A Stock Exchange fulfils a vital function in the economic
development of the nation: its main function is to ‘liquefy capital
by enabling a person who has invested money in, say a factory or a
railway to convert it into cash by disposing of his shares in the
enterprise to someone else’ …… To prevent malpractices,
Parliament enacted legislation which aimed at securing control
over the proper functioning of the stock exchange, and also placed
stringent restrictions upon the representations made by the
companies in issuing prospectus inviting subscriptions. The
Parliament enacted the Securities Contracts (Regulation) Act, (42
of 1956), and …….”

116. Dwelling upon the object of the institution of stock exchange, the
Honourable Supreme Court (Madhubai Amathalal Gandhi v Union of
India AIR 1961 SC 21), observed inter alia as follows:
“If the stock exchange is in the hands of unscrupulous members,
the second and third categories of contracts to buy or sell shares
may degenerate into highly speculative transactions or, what is
worse, purely gambling ones. …………..These mischievous
potentialities inherent in the transactions, if left uncontrolled,
would tend to subvert the main object of the institution of stock
exchange and convert it into a den of gambling which would
ultimately upset the industrial economy of the country.”

117. In a similar vein, commenting on the various transactions possible in
dealing in stocks and shares, and the manner that the securities
market could potentially be jeopardised by spurious transactions, the

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Honourable High Court of Karnataka in its judgement in R. Jagadeesh
Kumar vs. P Srinivasan and Others [1995 (2) Ka LJ 218) observed thus:
“If the stock exchange is under the influence of unscrupulous
members, the second and third categories of contracts to buy or
sell shares would lapse to highly degenerating and speculative
transactions amounting to pure gambling………..…Such obnoxious
potentialities are inherent in the transaction and if left
uncontrolled would tend to subvert the main object of the stock
exchange and convert it into a den of gambling which would
ultimately upset the economy of the country.”

118. The Indian Securities Market has allowed “for profit” stock
exchanges. The issue of conflict of interest that happens when
Stock Exchanges function as ‘for profit’ organizations has been
engaging the mind of SEBI in recent years. This has been discussed
extensively within SEBI and in December 2009, the full Board of
SEBI took up this matter for deliberation. Extracts from the relevant
Agenda Note to the SEBI Board, available in the public domain on its
website are instructive in this regard:
“2.4.4.1. Under the scheme of Corporatisation and
demutualization, most exchanges have adopted the route of
incorporating themselves as regular companies under the
Companies Act, 1956 and not as companies falling under Section
25 of the Act. The National Stock Exchange (NSE) was at its
inception itself formed as a company. Therefore, as regular
companies, stock exchanges are free to pursue commercial
interests, as long as this is not to the detriment of investors. This
extends to all aspects of their operations including the
determination of prices charged for various services offered by
them to investors and intermediaries, as long as it is done in a
manner that is fair, transparent and does not discriminate between
classes of investors and intermediaries. The pay and incentive
structure of the management/employees of Stock Exchanges is also
closely tied to the profits earned by the exchanges.

2.4.4.2. Exchanges have traditionally been the first line of
regulation in the securities market. It merits careful
consideration whether there is conflict between the ‘profit
maximization goal’ of an Exchange vis-à-vis its ‘regulatory
role’. With the growth of the securities market both in its depth
and breadth, more exchanges are likely to emerge. With growing
commercialisation of the exchanges, and the aggressive
competition between exchanges that will naturally ensue, there is a

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worry that exchanges might compromise on its regulatory role in
its urge to canvass larger volumes of business from intermediaries
and investors. The quest for profits might, along the way dilute the
unswerving commitment that is required from an Exchange to
uphold market integrity and the rules of the capital market.

2.4.4.3 In many jurisdictions across the world including India,
exchanges as part of the trading infrastructure are viewed as
public utilities. As a public utility, an Exchange becomes the
organization that maintains the infrastructure, (the trading
avenues and platforms and offers services incidental to this) for
a public service (running a market for securities trading). In this
view of an Exchange as a public utility, there is evidently a strong
reason why profit maximization cannot be allowed to become an
overriding priority for an exchange. Clearly, the goals of profit
maximization for an exchange and that of public welfare
maximization for the public (in this case the investors that make up
the securities market) may not always run parallel. Therefore an
equally important area that needs to be examined is whether there
is any inherent conflict of interest between the ‘profit
maximization’ imperative of a ‘for profit exchange’ vis-à-vis its
role as a ‘public utility’.”

At its Board Meeting on December 22, 2009, SEBI considered this
issue extensively. Recognising the vital importance of these issues,
the Board decided to constitute a High Level Committee on Market
Infrastructure Institutions to frame suitable recommendations on this
and other issues related to such institutions.

119. Thus a major issue of concern for SEBI, as stated in the Agenda
Note referred to above, is that the drive for profits by a Stock
Exchange might, along the way detract from the regulatory duty of an
Exchange to uphold market integrity and the rules of the capital
market. This is not for a moment to suggest that a Stock Exchange
with minority shareholders holding a majority economic stake in the
Stock Exchange, ipso facto, will necessarily imperil the functioning of
the Securities Market. Any Stock Exchange can, if it chooses to
violate the law, jeopardise the safety and integrity of the Securities
Market. But, when a small group of individuals stands to gain
disproportionately from the profit motive of a Stock Exchange, the

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risk is more real and enhanced. It would be a dereliction of duty on
the part of SEBI, if it were to wish it away.

120. The level of care and prudence that should accompany recognition of
stock exchanges is emphasized in the Report of the Joint
Parliamentary Committee on Stock Market Scam and related matters
presented to the Parliament in December 2002. The Committee
stressed the need for effective mechanisms for “the creation and
perpetuation of fair and transparent financial markets and institutions like
stock exchanges and banks”.

121. Therefore, in arriving at a decision on this application, I have to
necessarily bear in mind that SEBI is dealing with the formation of a
full-fledged Stock Exchange, whose impact extends, as the
Honourable Supreme Court (supra) points out, to the “economy of
the country” and the investors at large. The standards of prudential
safeguards and the level of stringency that SEBI adopts in
recognising stock exchanges have to reflect this. The various
provisions of the SCR Act, the judgements of the Honourable
Supreme Court and the Honourable High Court of Karnataka and the
Report of the Joint Parliamentary Committee cited in the previous
paragraphs, collectively affirm the need to safeguard the securities
markets from the risks arising from “malpractices” and the
“potentialities” of spurious transactions on any exchange. I am of
the considered view that every time, SEBI grants recognition to a
Stock Exchange, it has to keep in mind that this results in the birth
and creation of an institution that is recognised as “State” under
Article 12 of the Constitution. Under Section 4 of the SCR Act read
with Section 11 of the SEBI Act, SEBI in discharging its duty to
protect investors has to take into account these considerations, while
arriving at its decision on the Application. The prime concern of
SEBI should be to ensure, to the best of its ability, that the “State” so
created under its seal and authority is invulnerable and immune to

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these risks. Therefore, I find that SEBI is justified in its stand in the
Notice, that the concentration of economic interest in such an
institution is not acceptable to it.

122. In the light of the discussion above on the role and position of a
Stock Exchange as the first line regulator in the Securities market,
classified, pari passu with other public bodies, as “State” under
Article 12 of the Constitution, and based on all relevant material
before me, I am not satisfied that it will be in the interest of trade and
in public interest to allow the Application, for the reasons summarised
below:
a. The concentration of economic interest in a recognised stock
exchange in the hands of two promoters is not in the interest
of a well-regulated securities market.
b. The Applicant is not fully compliant with the MIMPS
Regulations as substitution of shares by warrants is an
attempt to work around the requirements of Regulation 8 of
the same and the same is not a mode recognised as falling
within the scope of the said Regulations.
c. The Applicant has been dishonest in withholding material
information on arrangements regarding the ownership of
shares of its shareholders and therefore has not adhered to
fair and reasonable standards of honesty that should be
expected of a recognised Stock Exchange.
d. The Applicant has failed to ensure compliance with
Regulation 8 of the MIMPS Regulations as its two promoters
(FTIL and MCX) are persons acting in concert and cannot
hold more than 5% in the equity shares of a recognised stock
exchange.
e. The Applicant is instrumental to buyback transactions that
are illegal under the SCR Act and cannot be considered to
have adhered to fair and reasonable standards of integrity
that should be expected of a recognised Stock Exchange.

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123. On the basis of the aforesaid findings, I, in exercise of the powers
conferred under Section 4 of the Securities Contracts (Regulation)
Act, 1956 read with Sections 11(1) and 19 of the Securities and
Exchange Board of India, 1992 hereby reject the Application of
MCX Stock Exchange Limited dated April 7, 2010.

DR. K. M. ABRAHAM
WHOLE TIME MEMBER
SECURITIES AND EXCHANGE BOARD OF INDIA

PLACE: MUMBAI
DATE: SEPTEMBER 23, 2010

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