Mumbai: The Securities and Exchange Board of India (Sebi) is developing a system for selective review of listed company reports, based on parameters such as financial health, debt levels, disclosure lapses, governance shortfalls and investor complaints, two people with direct knowledge of the matter said.
“Many times, the annual reports have information that companies typically tend to hide in notes to accounts, such as related-party transactions, higher liabilities or debt. These parameters can many times fall under the category of disclosure lapses,” one of the persons said. Both spoke on condition of anonymity.
The proposed policy review comes after alleged governance lapses at some Nifty 50 companies and increasing complaints of misappropriation of funds. It follows increased scrutiny of suspected shell companies.
“Selective review would help ensure corrective actions such as insisting on more disclosures; audit committee reviews are initiated before the situation ends up causing loss to investors,” said the second person.
On 7 August, Sebi put restrictions on trading of 331 company stocks based on a ministry of corporate affairs (MCA) letter stating that they were suspected to be shell companies. Among these companies, shares of only 162 were being actively traded. An email sent to a Sebi spokesperson on Thursday seeking comments was not answered.
This would be one of the first instances in which Sebi is considering actively looking at companies. Typically, the market regulator has in the past adopted the stance that the board of directors performs the first check on companies, followed by the exchanges on which they are traded.
Sebi steps in when the surveillance department comes across price discrepancies and when it receives complaints against companies from investors or other regulators.
“A second motive behind selective review is to improve regulatory supervision and to take up systemically important cases and not bog down Sebi resources with smaller market infractions. Risk profiling and generating red flags will be the important aspects to such reviews,” said the first person. Sebi’s surveillance system generates up to 30,000 alerts per year of which less than 1% are taken up for further examination. Less than half of them result in regulatory action.
To be sure, Sebi already has such a system in place for market intermediaries such as brokers to determine whether they are misusing clients’ funds and securities. The red flag indicators include a percentage change in the net worth of the broker and his liability to clients, among other things.
Sebi has also set up a framework of “enhanced supervision of stock brokers” in consultation with exchanges and other market participants to protect clients’ interests, and promote and ensure compliances by stock brokers. The increased reporting by brokers under the framework was implemented by exchanges in July this year.
“Every measure that improves confidence of investors or consumers of financial information is a welcome step. However, the challenge always is to implement the provision into practice in an effective manner. If Sebi can implement it effectively, it will be an informal message to the industry that it can step in, even when it typically wouldn’t,” said J.N. Gupta, managing director and co-founder, Stakeholder Empowerment Services, a proxy advisory firm.
While the regulator wants a selective review of annual reports, it is the availability of reports that remains a concern. Many listed companies send annual reports to shareholders but do not upload them on exchange websites and company websites. This is despite the fact that it is a requirement under the Companies Act 2013.
“For better enforceability the annual reports should be made public as soon as these reach the shareholders,” the second person said. “Sebi will make it a part of compliance requirement as a governance measure.”