Quick Take

Lenders to Karvy are being unreasonable

December 4 | Updated on December 04, 2019

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The battle over collateral is unfortunate for retail investors

It is only very rarely that retail investors who are victims of securities market fraud in India receive swift justice. Investors afflicted by most past scams, from the Satyam accounting fraud to the NSEL scandal are still waiting for redress, with the resolution of their cases dragging on interminably in the Courts. Therefore, for a change, it was good to see the retail clients of Karvy Stock Broking which SEBI is investigating for wrongfully dealing in clients’ securities, receive quick redress of their grievances with concerted action by the regulators. The Securities Exchange Board of India (SEBI) did not hesitate to pass an ex parte interim order restraining the broker from continuing with business- as-usual, as soon it received preliminary evidence of Karvy’s wrongdoings from NSE.

The stock exchanges acted promptly to suspend the broker’s license and NSDL was also quick to swing into action, in initiating the restoration of securities lying in Karvy’s pooled account to investors to whom they originally belonged. Business Line has reported that, of the 90,000 clients who had their shares stuck in Karvy’s accounts on November 22 (when SEBI passed its order), those belonging to 82,599 clients had already been restored by NSDL by December 2. In making these transfers, NSDL has said that it relied on SEBI’s directions and NSE’s inputs to ensure that only clients who had no pending dues with the broker or the exchange, received credit of their shares.

Also read: Karvy suspension: what investors need to know

But this remedial process is now under a cloud with the lenders who extended loans to Karvy Stock Broking against shares – Bajaj Finance, HDFC Bank, ICICI Bank and IndusInd Bank - approaching the Securities Appellate Tribunal (SAT) for staying all transfers of securities. The lenders’ contention is that as Karvy has pledged the securities in its pooled account with them as collateral, NSDL cannot make ‘unilateral’ transfers of these shares. While SAT as well as SEBI are yet to have their final say in the matter, this turn of events is unfortunate for the retail investors who have become entangled in Karvy imbroglio for no fault of their own.

One of the fundamental principles of law is that no seller (pledgor in this case) can confer on a buyer (read lender here) a better title to an asset than he himself possesses. If it is indeed proved that Karvy had pledged fully-paid securities belonging to clients to raise loans, it should be possible to restore ownership of the pledged shares to their rightful owners. This may become evident only when ongoing investigations into this case are complete. One hopes that they are concluded quickly so that NSDL can ensure expeditious redress to Karvy’s clients.

That apart, this latest instance of lenders battling over the title and ownership of securities pledged with them also raises worrying questions about the amount of due diligence that Indian lenders – whether banks or NBFCs – put into the verification of collateral offered by corporate borrowers, when extending generous loans to them. A similar question on whether the company’s receivables belong to its NCD holders or banks has also been the subject of a heated legal battle in the Dewan Housing Finance case.

Published on December 04, 2019

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