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TMI Blog2003 (6) TMI 427X X X X Extracts X X X X X X X X Extracts X X X X ..... ent in the attached account of the notified party and in all these petitions the only one notified party included is Hiten P. Dalal. All these petitions were heard as a group on certain common points of law, by consent of learned counsel appearing for the parties, with a view to decide common points of law first and thereafter, if necessary, to hear each of the petition separately on the facts. The facts in almost all the petitions are similar although not common and give rise to similar questions of law. In order to appreciate the points of law involved and the controversies, it would be necessary to refer to facts of one or two matters at least. Petition No. 28 of 2002 is filed by Standard Chartered Grindlays Bank. As the show-cause notices issued in all the above proceedings are common, it would be worthwhile to refer in detail to the show cause-notice issued in the matter of Standard Chartered and Grindlays Bank. The show-cause notice dated January 17, 2002, in substance is as below : Whereas Shri Hiten P. Dalai (HPD) is a person notified by the Custodian on June 8, 1992, under the provisions of the Special Court (Trial of Offences Relating to Transactions in Securities) Act ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ANZ. (vii)BOA has confirmed having received a sum of Rs. 30,59,85,141 from ANZ as full and final settlement by the aforesaid bonds and delivered SGL on November 2,1991, favouring ANZ and have stated that BOA is not aware of payment of Rs. 1,00,37,400 made by HPD to ANZ and they have nothing to do with it. (viii)Sharp and Tannan, chartered accountants, who conducted the audit of securities transactions of ANZ have confirmed that the difference amount of Rs. 1,00,37,400 was received by ANZ from HPD and is claimed to be relating to this transaction. They have further observed in respect of the above transaction leading to payment of difference that these do not appear to have taken place during the normal course of business. (ix)HPD was asked as to why pay order was issued by debit to his account with Andhra Bank. No reply was received, no document was furnished. Considering the facts and circumstances of the case, the Custodian is of the opinion that the difference payment of Rs. 1,00,37,400 received by ANZ by debit to the account of HPD, a notified party, is illegal and fraudulent transaction and appears to have been entered into to defeat the provisions of the Act. The allege ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ving been used to bring an element of difference to enable transaction of monies to the bank; (ii) comments contained in the report of the Jankiraman Committee wherein it is stated that the above type of difference represent fixed returns against contracts where the risk was carried by the broker but the bank used its own investment portfolio and invested its own funds ; and (iii) the IDG report which corroborates the report of Jankiraman Committee. The aforesaid comments or opinions or even findings rendered in the said reports suggest that the reason or object of recording a difference in the contract and delivery rates of the transaction was with a view to either transfer monies of the notified party to the bank or the differential payment represented fixed returns in respect of contracts undertaken by the brokers on behalf of the banks. Rs. 1,00,37,400 was recovered by ANZ from HPD and ANZ in fact paid the said amount to BOA on the same date and towards consideration payable in respect of the very same transaction. It is therefore not possible to accept that the alleged reason for the differential payment is either illegal or fraudulent. There is no substance in the allegation ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oker HPD. There was a rise in the price of the said security and the company therefore instead of taking delivery asked the bank to dispose of the same on the same day resulting in a difference of Rs. 2 crores which was credited to the account of the company maintained with Citibank. Similarly the company directed Citibank to purchase one crore units of UTI 64 on December 16, 1991, which was purchased by the bank through HPD. Since there was also a rise in the price of the said units, the company instead of taking delivery of the units directed to dispose of the same on the same day resulting in a difference of Rs. 50 lakhs which was credited to the account of the company maintained with Citibank. Thus the total difference of Rs. 2.50 crores was paid by HPD to the petitioner Oswal Agro. Citibank denied to have received any such instructions and the Custodian therefore concluded that the company engaged in fictitious transactions with the notified party HPD in the absence of contract notes and supporting bills and that it was a fraudulent transaction entered into in order to defeat the provisions of the Act. There was violation of the provisions of the Securities Contract (Regulatio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ions of the Special Courts Act No 13 What is the meaning of the expression with an intent to defeat the provisions of the said Act as appearing in section 4? As per discussion 14 Whether the show cause notice issued by the custodian lacks in material particulars of the alleged fraud. If yes, what is its effect on the present application? Yes 15 Whether the burden of establishing the ingredients of section 4(1) is on the Custodian? Yes 16 Whether the Custodian's satisfaction is required to be objectively established, on the basis of material whose authenticity and correctness is either admitted/undisputed or established ? Yes 17 Whether the Custodian can rely on any material/ reports whose correctness is not admitted, only if he establishes the correctness thereof and affords an opportunity to cross examine the person/party affected ? Yes. The reports are not a piece of evidence. If at all it is to be used the authors will have be offered for cross examination and as it is not possible they are not to be treated as statements of proved facts. They are opinions expressed. 18 Whether the Custodian has only cancelled the payment and not the contract and if so whether ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n the nature of a decree of civil court and therefore, during the course of argument it was suggested to learned counsel that these orders of the Custodian can at the most be treated as demand notices claiming various amounts from the parties with interest as a result of cancellation of contract and on failure of the parties to comply with the same, even if notices are justified, the only remedy available to the Custodian is to approach the Special Court by filing a petition or suit for recovery of the said amount. The above issues are therefore answered accordingly. Issues Nos. 1, 2, 9 to 21 : All the remaining issues are interconnected and can be conveniently 15 considered together. In order to appreciate as what are the requirements of a show-cause notice issued under section 4 of the Act by the Custodian and whether the show-cause notice on the basis of which the impugned orders have been passed are in conformity with the requirements of law and principles of natural justice, it would be appropriate to refer to the legal position of show-cause notices issued under different statutes by the administrative authorities. In order to decide whether the impugned orders are within t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o be clarified that since the transactions as reported tally in totality, there does not appear to be any case where the transactions reported by one bank/institution are not responded by some other bank/institution, though as explained in Chapter III, the actual counter party bank/institution responding to a transaction may be different from the bank/counter party as reported (emphasis supplied). As mentioned in the second report, there are a number of transactions where purchases and sales have been booked by banks/institutions at what appear to be artificial rates and differences running into crores of rupees have accrued to the accounts of brokers. No satisfactory explanation has been given as to why these huge losses have been borne by the brokers or such huge gains to brokers have been allowed to accrue. It is possible that these losses and gains are compensatory adjustments for other transactions or that the banks/institutions had informal arrangements with brokers whereby the brokers guaranteed to the banks/institutions a specified rate of return on funds deployed through them. A pattern also seems to be emerging in respect of several of the banks referred to in this repor ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... often running into crores of rupees has been received from the brokers. It is obvious that sales have been booked at artificial rates to book a profit or avoid a loss. It is also obvious that the broker would not have paid the difference unless he had been compensated in some fashion. The matter is under further investigation (emphasis supplied). 11. There are a number of instances where with the full knowledge of the management, banks/financial institutions have issued SGL forms against SGL forms brought by brokers. In some cases, these are reflected as purchases/sales of the banks/financial institutions but in other cases there is no such entry made. For these services rendered to the brokers, the banks/financial institutions have charged a fee, normally 0.01 per cent of the face value of the securities involved." At page 268 in the 6th and final report, it is stated in paras. 5 and 6 as under: "5. Thus the stage was set for an era of irregular dealings in money disguised as securities transactions. There was a triple coincidence of wants : first, the PSUs who, after the withdrawal of the Government budgetary support, had to raise funds massively in the market and had short t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... broker ADN and for the benefit of brokers HPD and other brokers. Similarly, BRs appear to have been issued by SBI for the benefit of broker HSM. (c)As has already been pointed out BRs were almost used as negotiable instruments and transferred from bank to bank and "third party" BRs were accepted by banks. (d )These lax practices gave considerable scope to banks and bro kers to indulge in a number of irregularities in the guise of securities transactions. The indiscriminate use of BRs without security backing created a kind of paper money which circulated from bank to bank like a stage army of soldiers and provided an opportunity to brokers to avail of funds of increasingly larger amounts, (underlining is mine). 22(a) A second key element in the perpetration of the irregularities was the complete breakdown of internal control in a number of banks. (b)It is an essential element of internal control in securities transactions that there should be a clear segregation between the front office and the back office. The front office consists of the dealers who actually negotiate the deals. The back office has the responsibility to complete the paper work, receive and effect delivery of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... appreciated that should the movement of monies, whether from banks or PSUs, through brokers, be traced to the end user than the entire inter connected ramifications of the Scam would be revealed. In pursuance of this the Committee examined in detail voluminous transactions of various brokers and some of the banks. The Committee also sought co-operation and assistance of the CBI and the RBI in this regard. It advised the CBDT also to undertake a similar exercise. The Committee regret that it has not been possible to complete this task to their own satisfaction." (underlining is mine). The Inter Disciplinary Group pointed out difficulties in tracing at para. 22 4.7.1, page C5-21, as under: "4.7.1. The identification of end use of funds was a laborious process involving examination and correlation of every investment transaction of the brokers and banks. The following were among the more important constraints: Entries in the books of one counter-party bank did not correspond with that of the other counterparty. There was mismatch between seller and payee or buyer and payer. The investment records did not depict the true character of the deals. Actual recipients and issuer of cheq ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... progress. Stanchart also appropriated Rs. 77.85 crores from HPD in "kind". The details have been indicated at para. 8.1.1, Chapter II of JRC report No. 4. As explained therein an aggregate amount of Rs. 107.31 crores was credited by Stanchart to P.O. Received account and dummy entries passed to recover from HPD Rs. 63 crores in respect of SLR securities and Rs. 14.85 crores in respect of non-SLR securities. 6.7.4. Though the analysis of the bank account, bank/FIs and other entities who received and paid moneys were asked to explain the underlying transactions. On the basis of information received effort was made to compute the assets generated in the form of an asset ledger with the details of individual securities/stocks and balances. The closing positions are given at annexures VIII-A, B, C, D and E. While auditors have been appointed to establish the deliveries in respect of securities traded by banks/FIs with ADN/HPD as indicated in the asset ledger created for the purpose, prima facie it appears that certain banks had not delivered the securities to the brokers against payments received from their accounts. These banks appear to have delivered the securities to their parties ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le some gained thousands of crores, millions of investors lost their savings. The criminality of the perpetrators of the scam becomes all the more despicable as it was during this period that the country was passing through most trying times, economically and financially. An observation that the Committee has been constrained to make at a number of places in the succeeding chapters is that for all these not many have yet been identified and effectively punished." This background is necessary to be considered while appreciating the factual aspects and legal issues involved in these petitions. Section 4(1) of the Act, with proviso reads as below : "4. Contracts entered into fraudulently may be cancelled.-(1) If the Custodian is satisfied, after such inquiry as he may think fit, that any contract or agreement entered into at any time after the 1st day of April, 1991, and on and before the 6th June, 1992, in relation to any property of the person notified under sub-section (2) of section 3 has been entered into fraudulently or to defeat the provisions of this Act, he may cancel such contract or agreement and on such cancellation such property shall stand attached under this Act ; P ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n particulars of fraud. A reference to any of the show-cause notice would clearly -show that the Custodian has not even alleged as to who has' practiced fraud and what are the facts constituting the fraud, who are the parties to the fraud, who are the perpetrators of the fraud and who is the victim of the fraud. Unless the show-cause notice gives these particulars, it is not possible for any party to meet the allegations of fraud. In case allegation is of defeating the provisions of the Act or defeating the purpose of the Act, a specific case will have to be made out in the show-cause notice. Mr. Aspey Chinoy, learned counsel appearing for the petitioners in 27 some of the matters, contended that section 4(1) of the Act confers powers on the Custodian to cancel a contract or an agreement on being satisfied that it has been entered into fraudulently or to defeat the provisions of the Act, and requires the Custodian to give a reasonable opportunity of being heard. The power of the Custodian is conditional in that the Custodian has to satisfy himself on two jurisdictional facts, namely (i) the contract has been entered into fraudulently and (ii) it was to defeat the provisions of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... amount to a proof of it or of the truth of the entries therein. If these entries are challenged the appellant must prove each of such entries by producing the books and speaking from the entries made therein." In the case of S.L. Kapoor v. Jagmohan, AIR 1981 SC 136, 145, the 30 Supreme Court observed in para. 16 as under : "Thus on the consideration of the entire material placed before us we do not have any doubt that the New Delhi Municipal Committee was never put on notice of any action proposed to be taken under section 238 of the Punjab Municipal Act and no opportunity was given to the Municipal Committee to explain any fact or circumstance on the basis (of which) that action was proposed. If there was any correspondence between the New Delhi Municipal Committee and any other authority about the subject-matter or any of the allegations, if information was given and gathered it was for entirely different purposes. In our view, the requirements of natural justice are met only if opportunity to represent is given in view of proposed action. The demands of natural justice are not met even if the very person proceeded against has furnished the information on which the action is ba ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing hands with the notified party or otherwise by fraudulently inducing the notified party to part with the money. Show-cause notices miserably fail to make out any such case. The allegations are too vague and general. In most of the notices reference is made to the report of the chartered accountants M/s. Sharp and Tannan or M/s. Amit Ray and Co. and it is pointed out that this payment of difference, according to the chartered accountants, do not appear to have taken place in the normal course of business. The Custodian thereby wants to allege that what is not in normal course of business is either fraudulent or is meant or intended to defeat the provisions of the Act. It is not possible to accept that merely because it is a payment which does not appear to the chartered accountants to be in normal course, it can be said to be fraudulent or as a result of fraudulent contract between the parties. A mere perusal of Jankiraman Committee Report and the Joint Parliamentary Committee Report would show that in the period of scam most of the transactions which had taken place were such which cannot be said to be in the normal course of business. The banks were issuing SGLs and selling sec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sufficient to make out a case of fraud. What was expected of the Custodian is to have a deep probe into the matter and if possible to make out a case of fraud having been practiced. It was also necessary to allege whether the petitioners have practiced fraud on the notified party or whether the notified party and the petitioners joined hands in practicing fraud and if so who was the target or victim of the said fraud. Another aspect of the matter is what are the powers conferred by section 35 4 on the Custodian and what in fact the Custodian has done in all these cases. What is envisaged by section 4 is cancellation of contract or agreement. Mr. Virag Tulzapurkar, learned counsel appearing for some of the petitioners has contended that under section 4 of the Act only a contract or agreement can be cancelled and not a concluded transfer. That is to say, the contract which has been completely executed and transfer of property has taken place as a result, then the same cannot be cancelled. Learned counsel drew my attention to the different terminology used in the Transfer of Property Act and Sale of Goods Act, viz., sale and contract of sale, sale and agreement of sale. Learned cou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 4 was to confer power of cancellation of a contract or agreement simplicitor. It is not possible to accept that by giving restricted meaning to the words "contract" or "agreement" and not including completed transfers or executed contracts in the said term, the section would be rendered nugatory. In my view, these powers were expected to be exercised with due diligence and within reasonable period of coming into force of the Act. The entire records of the notified party were either with the Custodian or with the CBI. Extensive reference to various transactions was made by the Jan-kiraman Committee, Joint Parliamentary Committee, C.B.I., and I.D.G. and if for a period of about 9 to 10 years after such contracts, no action was taken and action was taken after such a long lapse of time, then it would be unjust to say that section would be rendered meaningless if completed transfers or executed contracts are not included in the terms of contract or agreement. Another aspect of the matter is that if a contract has resulted in transfer 37 of property then it is not possible to set aside the contract or to cancel the contract. In this connection it is worthwhile to refer to the Supreme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ctions were contrary to the provisions of section 49 of the Tenancy Act and was, therefore, void. Taking note of the fact that the Act did not prohibit the transfer of the proprietary interest, because on such transfer the proprietor becomes an occupancy tenant of the 'sir', the Full Bench considered whether, in such a case, section 24 of the Contract Act became applicable. While dealing with the case where the contract consisted of legal and illegal parts Mr. Justice Vivan Bose at page 343 observed as under : 'Therefore if this transaction had consisted of a single consideration for the two objects contemplated, namely, the sale of the proprietary rights (as distinguished from the occupancy rights) together with the occupancy rights (which we usually somewhat inaccurately call cultivating rights in these provinces), then the whole would have fallen to the ground under this section unless the transferee had been content to accept the proprietary rights alone for the entire consideration and forgo the occupancy rights. But since the transaction consists of two separate considerations for two severable objects we are left with a contract consisting of legal and illegal parts in whic ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... CA), Bowmakers Ltd. v. Bar-net Instruments Ltd. [1944] 2 All ER 579 ; [1945] KB 65 (CA) and Sajan Singh v. Sardara Ali [1960] 1 All ER 269 at 272-273 ; [1960] AC 167 at 176 (PC)). To the extent, at least, of his third proposition it would appear that there has been some modification over the years of Lord Eldon LC's principles." In the course of the judgment the House of Lords has enunciated the following principles from various authorities at para. 54 (page 104) : "From these authorities the following proposition emerges : (1)Property in chattels and land can pass under a contract which is illegal and therefore would have been unenforceable as a contract. (2)A plaintiff can at law enforce property rights so acquired pro vided that he does not need to rely on the illegal contract for any purpose other than providing the basis of his claim to a property right. (3)It is irrelevant that the illegality of the underlying agreement was either pleaded or emerged in evidence ; if the plaintiff has acquired legal title under the illegal contract that is enough." Now in the present case, it is necessary to consider as to what has been 41 done by the Custodian as a matter of fact. The e ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd it is obvious that such payments of differences were being made by him because in return he was to gain huge advantage and if he had paid Rs. 1,037 odd crores, then it is obvious that in turn he must have earned huge profits at least 20 times. If the end use of the money that has been siphoned out from the system has to be found out what is required is to find out the end use of the money so earned by the brokers by illegally siphoning off funds from banks and financial institutions and not by calling upon banks to pay him the difference amount which he paid to the banks 10 years ago in different transactions. If one refers to the part of the report of the JPC indicated above and the Statement of Objects and Reasons of the Special Courts Act, it will be clear that the Act was enacted for the reason as set out in the Objects and Reasons, which are as under : "(1)In the course of the investigations by the Reserve Bank of India, large scale irregularities and malpractices were noticed in transactions in both the Government and other securities, indulged in by some brokers in collusion with the employees of various banks and financial institutions. The said irregularities and malpr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rs and their orders should not be scrutinised as if they are passed by a judicial body. There can be no dispute a bout the proposition in reply. That however is not a complete reply. When the custodian claims that he is entitled to raise a statutory presumption, he obviously means to say that the burden to disprove fraud is on the otherside. He can then ignore his duty of even alleging fraud which law requires of him. There being no provision for any such presumption in law the custodian has misled himself by the use of such terminology in the impugned orders. The Standard Chartered Bank (SCB) has claimed that there was a arrangement between the bank and HPD whereby bank was assured 15 per cent, return on the sales and purchases through HPD. This contention was raised even in the earlier litigation between Canara Bank and SCB. The Supreme Court has referred to this arrangement in the judgment reported in Canara Bank v. Standard Chartered Bank, AIR 2002 SC 132. In para. 8 Supreme Court observed (page 136) : "8. In our opinion, the decision of the Special Court calls for no interference. The plea which had been taken in the written statement essentially was that there was a squarin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the conclusion that fraud has been practiced. The Custodian has not even contended that this fraud was practiced by the petitioners on the notified party nor is it contended by him that the notified party (HPD) and the petitioners jointly practiced fraud and if so who was the victim of this fraud. The most important question as to who was the victim of the fraud remains unanswered. The reports of various committees and the Statement of Objects and Reasons of the Act clearly show that the fraud was practiced on the entire banking system by the brokers and the brokers siphoned off money from the banks and financial institutions and ultimately that money was used in the stock market for speculation. To accept the contention of the Custodian that the fraud was practiced by the petitioners which include various banks and financial institutions and monies were diverted from the accounts of the brokers by the banks and financial institutions is not only contrary to the Objects and Reasons of the Act but on the face of it unacceptable. In any case no material is placed on record to support the contention. To hold that there was fraud practiced by the petitioners merely because the audit ..... X X X X Extracts X X X X X X X X Extracts X X X X
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