Adani-Hindenburg case: Lack of requirement to disclose ‘last natural person above every person’ owning economic interest in FPIs is the challenge, SEBI to SC

The Supreme Court-appointed Justice Sapre committee had said the market regulator had “drawn a blank” in its investigation into the Hindenburg allegations against the Adani Group. File.
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The Securities and Exchange Board of India (SEBI) clarified in the Supreme Court on July 10 that “challenges” presented by it before the six-member Justice A.M. Sapre expert committee in the Hindenburg-Adani allegations case did not emanate from the repeal of the “opaque structure” provisions from the Foreign Portfolio Investors (FPI) Regulations in 2019.

The Supreme Court-appointed Justice Sapre committee, in a 173-page report in May, had said the market regulator had “drawn a blank” in its investigation into the Hindenburg allegations against the Adani Group. The committee had said the SEBI was in a “chicken-and-egg situation” in its investigation into the “ownership” of 13 overseas entities, including 12 FPIs.

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The market regulator contended that the issue primarily arose from the existence of thresholds for the determination of beneficial owners (BO) of these FPIs. In addition, the SEBI said, the core problem lay in the fact that there had never been any requirement to disclose the last natural person above every person owning any economic interest in the FPI.

“Since granular details of all underlying investors with ownership, economic, or control interest in entities below the threshold was never required to be made available to the Designated Depository Participants/Custodian of Securities, there was a possibility that the same natural person could hold a significant aggregate economic interest in the FPI via different investing entities, each of which were individually below the threshold for identification as a BO,” SEBI, represented by advocate Pratap Venugopal, explained in a 46-page report filed through M/s K.J. John and Co.

The market regulator said there was also “ambiguity” regarding entities with economic interest but no ostensible control in an FPI. Even the Prevention of Money Laundering Act (PMLA) required BO identification only on the basis of control or ownership.

“Thus, the investment manager/ trustee, etc, acting through arrangements such as voting shares/ management shares, is then identified as the B0 of the FPI. Consequently, while in compliance with the regulations, the actual investing constituents with economic interest may not be identified as B0s of the FPI. This issue is further accentuated if holdings of such investors are spread through multiple FPIs,” the SEBI highlighted.

SEBI said even the Financial Action Task Force, the global money laundering and terrorist financing watchdog, had identified the nebulousness over the “last natural person above every person owning any economic interest in an FPI” as a global challenge.

“The SEBI Board in meeting dated June 28, 2023 has approved the proposal for additional granular disclosures to the last investor from specified types of FPls that either hold more than 50% of their Assets Under Management (AUM) in a single corporate group, or have a total AUM of over Rs. 25,000 crore, subject to certain exemptions,” the report informed.

SEBI differed with the conclusion of the Justice Sapre committee that the market regulator had hit a wall due to amendments made in 2018 in the FPI Regulations of 2014. “In 2018, the very provision dealing with ‘opaque structure’ and requiring an FPI to be able to disclose every ultimate natural person at the end of the chain of every owner of economic interest in the FPI was done away with,” the report had observed. It had said for the SEBI to put to rest its suspicions in the Adani-Hindenburg case, its investigation would require information about the “ultimate economic ownership”, and not just the “beneficial owners”, of the 13 overseas entities.

“In 2018, since upfront BO was made mandatory for all FPI, the question of permitting such structures to register as FPI by undertaking to provide BO later was rendered redundant… Thus, across the changes in 2018 and 2019 FPI Regulations, the framework around FPI disclosures were continuously tightened… This strengthening rendered the concept of ‘opaque structures’ (as defined under FPI 2014 Regulations) redundant, since upfront compliance with disclosure as per PMLA was now mandated for all FPIs irrespective of structure (the only exception being government and government-related entities),” the SEBI report said.

SEBI objected to the prescription of timelines for initiation of its investigation and proceedings. The decision of the Board to appoint an investigating authority was dependent on many factors, including when the alleged violation was observed or came to the knowledge of SEBI, analysis of the information and material available on record, etc.

The market regulator however said that securities laws’ violations were “economic offences having a direct bearing on the economy of the country”.