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About Unfair Leverages

Did India's most admired company, Lever, cheat the public through insider trading?

About Unfair Leverages
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SUSIM Mukul Dutta, chairman, Indal, and arguably the country's most respected manager, was to address a press conference in Mumbai on March 12 at 3 pm.Hours before the press conference, however, frantic messages reached media houses that the meet had been cancelled due to unavoidable circumstances, and Indal would soon be sending a press release detailing the board's decision.

No one was surprised. Indal's affairs would have been the last thing on Dutta's mind since the night before. The former chairman of Hindustan Lever, along with four current directors of the company, including chairman Keki B. Dadiseth, had just been indicted by the Securities and Exchanges Board of India (SEBI) for insider trading, and the maximum punishment could be a year in jail or fine or both. Though it was public knowledge that SEBI was investigating Lever, the final indictment was the sort of bombshell corporate India had not been hit with since November 1996, when the Enforcement Directorate arrested two former ITC chairmen on FERA violation charges.

The reasons are simple. One, the Rs 7,820-crore Lever is undisputedly the most admired company in India: seen as a paradigm of competence and integrity. And two, this is the first case of SEBI actually indicting a company for insider trading (see box), a practice that is suspected to be rampant in the Indian stockmarkets.

In 1996, Lever decided to merge its own sister company, Brooke Bond Lipton India Ltd (BBLIL), with itself. While British-Dutch parent Unilever held 51 per cent in Lever, it had only 50.2 per cent equity of BBLIL. If the two companies merged, Unilever's stake in the new bigger Lever would have come down below 51 per cent. In March 1996, Lever bought 8 lakh shares of BBLIL from UTI at Rs 350 per share, 10 per cent higher than the market price. A month later, Lever announced the merger.Within days, the BBLIL share went up to Rs 410. According to SEBI, Lever bought the shares with the express purpose of maintaining Unilever's post-merger stake at 51 per cent. Since, according to SEBI, no one but Lever knew at that point of time that the merger was coming, Lever acted "on the basis of unpublished price-sensitive information" violating insider trading regulations. UTI, not knowing about the merger, sold the shares at Rs 350 instead of a far higher price. SEBI has thus directed Lever to pay UTI a compensation of Rs 3.04 crore.

SEBI has also nailed R. Gopalakrishnan, then vice-chairman and managing director of BBLIL who bought 2,500 BBLIL shares in August 1995, seven months before the merger announcement. At that time, BBLIL share traded at around Rs 250. Gopalakrishnan, however, has clarified that the purchase was out of his personal savings after his return from Saudi Arabia mainly to prove his commitment to the new company he was joining. According to him, the purchase was also approved by then chairman S.M. Dutta.

What is Lever's defence? It says it is not an insider but a party to the merger itself. That could sound like just a technicality, but it could turn out to be a tenable legal argument.

Lever also says it was not the only one who had knowledge of the merger. The possibility of the merger had been widely speculated on and reported in the national media. Therefore, it was not "unpublished" information. As regards doing the deal to maintain Unilever's 51 per cent stake, Lever says that this could be done only if it knew the share exchange ratio between Lever and BBLIL for the merger, and this had not been recommended by the valuers at that time.

But isn't insider trading finally about certain people having some information not available with the public at large and using that information to their advantage? Lever is not even denying that it was decided on the merger when it bought the shares. The merger decision was communicated to the core team of directors on January 17, 1996, by Unilever representative C.M. Jem-mett. But Lever says that "the company did not buy the shares on the basis of knowledge of possibility of the impending merger."

What about Lever's claim that the merger was public knowledge? "A stray article or speculation in the press does not amount to the information becoming public knowledge. Unless a company director authenticates the validity of the information, it remains just speculation and cannot be public information," say Hemant Batra, partner, Kesar Dass B & Associates. "There is a definite difference between speculative knowledge and the certainty of knowledge. This seems prima facie a case of insider trading as the directors acted on certain information as distinct from speculative information in the media," opines Sudhir Mulji, economist and director, Great Eastern Shipping.

Lever sympathisers argue that even if the indicted directors had non-public price-sensitive information, it was not insider trading in the strict sense, since they did not stand to gain anything personally (unless the charge against Gopalakrishnan is true), and they were acting in their shareholders' interest. But detractors contest that personal gain shouldn't be an issue at all, and if the average Lever shareholder knew about the upcoming merger, he could have also bought more Lever shares and gained more.

And what about UTI's role? UTI says it had no knowledge of the impending deal. "If Lever is right in saying that press reports made the impending merger common knowledge, and UTI senior officials say they did not know, they should be sacked," says a corporate lawyer. And if UTI had no inkling of the merger, why did it extract a 10 per cent premium over the market price? he asks. Indeed UTI never complained to Lever or SEBI even after the merger was announced a month after they sold BBLIL shares.

So did UTI also use privy information to its benefit? A section of experts feels if UTI knew about the merger, it did not act in the best interest of its stakeholders; it could have waited for the share price to rise and sell rather than arrive at a quick deal with Lever.

But as charges fly, most experts are unanimous that SEBI may have overstepped its brief in acting like a overzealous protector of UTI by talking of compensations. "SEBI has acted as arbitrator and not stuck to its legitimate role of commissioner.

This might give Lever a handle to challenge the foundation of the order itself. So while a definite case of insider trading exists, a poor judgement in a clear-cut case can make Lever go scot-free," says Batra.

Lever has decided to fight SEBI's order. It will approach the Appellate Authority, a two-member bench comprising the fina-nce secretary and another secretary in the Finance Ministry. In a press communique, Lever refuted SEBI's order: "What SEBI does not take into account is that Lever had actually paid Rs 350.35 per share...against the ruling market price of Rs 318. Lever fails to understand how a transaction nine months later could form the basis for determining the compensation. The interest alone on the payment of Rs 350.35 per share (Rs 28 crore) for the nine-month period at a rate of 18 per cent per annum is Rs 3.78 crore and is much more than the compensation SEBI has fixed. SEBI has totally overlooked this aspect." In fact, SEBI may have complicated the simple issue of insider trading by trying to paint UTI as the losing party (while if there was insider trading, every Lever shareholder other than those who had inside knowledge has actually been hurt), and trying to decide a compensation figure for UTI. This could lead to technicalities taking precedence over the spirit of the law.

Market functionaries, though, are glad that the watchdog agency has finally started baring its fangs. Says Nimesh Kampani, chairman, JM Financials: "Without getting into the merits of the case, SEBI has declared its message loud and clear: that it means to implement its regulations in earnest." It means to, yes. But is it smart enough to do it?


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