Banker Can Enforce Pledged Shares for An Overdraft If Broker Defaults; SEBI Can’t Declare Pledge As Illegal | SAT

Case Details: [2023] 157 taxmann.com 575 (SAT-Mumbai)[20-12-2023]

Judiciary and Counsel Details

• • Justice Tarun Agarwala, Presiding Officer & Ms Meera Swarup, Technical Member
  • Gaurav Joshi, Neville Lashkari, Chaitanya D. Mehta, Ms Sonali Aggarwal & Ms Pranvi Jain, Advs. for the Appellant. & Others.
  • Shiraz Rustomjee, Darius J. Khambata, Sr. Advs. Manish Chhangani, Ms Samreen Fatima, Sumit Yadav, Somasekhar Sundaresan, Ms Kinjal Shah, Ms Etika Srivastava, Somasekha Sundaresan, Indranil Deshmukh, Animesh Bisht, Ms Drishti Das, Ms Vidhi Shah, Ms Roma Bhojani, Karan Sangani, Garima Jain & Amarchand Mangaldas, Advs. for the Respondent. & Others.

Facts of the Case

In the instant case, Axis Bank Limited (hereinafter referred to as the appellant), filed an appeal against the order of the SEBI. Axis Bank had provided the over-draft facility to Karvy Stock Broking Ltd, which was secured by shares pledged by Karvy from its demat account.

The said pledge complied with the SEBI circulars issued from time to time. However, the SEBI vide its circular dated June 20, 2019, issued directions to the participants in the securities market, Stock Exchanges, Clearing Corporations, Depositories, Trading Members, Clearing Members and Depository Participants requiring all clients’ securities which were pledged earlier under the earlier circulars to be either unpledged or returned to the clients upon fulfilment of pay in obligation or dispose of after giving five days notice to the clients. Such unpledging of the clients’ shares was to be done by August 31, 2019, which was subsequently extended to September 30, 2019.

Karvy failed to do so and, accordingly, the SEBI passed an order against Karvy. As per the said order, the clients’ securities that were pledged with the Bank would remain in a state of abeyance.

The appellant filed an appeal against the order of the whole time member of the SEBI which was rejected stating that the shares pledged by Karvy were invalid and therefore could not be invoked by Axis Bank.

The appellants argued that these circulars apply to stock brokers and related entities, not to them. They contend that even if a broker violated the circulars, the SEBI should take action against the broker, stock exchanges, depositories, and clearing corporations, but not prevent them from invoking pledged securities.

The appellants further argue that if a broker violated the circular, it’s the responsibility of the depository to ensure proper utilization of clients’ securities. They emphasize that the creation of a pledge, even if violated, doesn’t render it invalid. The appellants assert that SEBI’s claim of lack of due diligence on their part is erroneous, and they were not alerted to the categorization of Karvy’s account.

The appellants assert that their due diligence was based on the depository’s register, indicating Karvy as the beneficial owner. They claim that the pledge was valid according to the Depositories Act and Regulation 58 of the DP Regulations.

Regarding the transfer of pledged shares, the appellants argue that if there was a violation, the depository should have filed an application before the NCLT for rectification, and the unilateral action taken by NSDL, under SEBI’s direction, was illegal. They demand the restitution of the shares or compensation.

SAT Held

In conclusion, the Court permitted the Axis Bank to invoke the pledged shares and directs SEBI, NSE, and NSDL to restore the pledge or compensate the appellants within four weeks.