This article is written by Tarini Kalra, a BBA-LL.B. student from Fairfield Institute of Management and Technology affiliated to Guru Gobind Singh Indraprastha University, New Delhi. The article discusses the Ketan Parekh Scam, its timeline of events and the legal consequences that it attracted.

It has been published by Rachit Garg.

Introduction 

A share market is a locus where financial instruments such as stock, derivatives, mutual funds, or bonds are traded between buyers and sellers on public listed shares and security. The Indian stock market is monitored by the Securities and Exchange Board of India (SEBI). Presently, there are seven recognized stock exchanges in India: Bombay Stock Exchange, National Stock Exchange, Calcutta Stock Exchange Ltd., Indian Commodity Exchange Ltd, Metropolitan Stock Exchange of India Ltd., Multi Commodity Exchange of India Ltd., and National Commodity and Derivatives Exchange Ltd. 

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SEBI held Ketan Parekh, a former stockbroker guilty of stock manipulation and insider trading. He was named as one of the key culprits in Sensex’s 176-point fall, which caused the 2001 Budget to collapse. He used to artificially rig the prices of handpicked shares referred to as K-10 stocks, by obtaining loans from banks such as Global Trust Bank and Madhavpura Mercantile Cooperative Bank. He has been also convicted for the Canfina mutual fund scam, a fraud of more than Rs 47 crores. Ketan Parekh’s scam was estimated at more than 40,000 crores by the Serious Frauds Investigation Office (SFIO).

Who is Ketan Parekh 

Ketan Parekh is a Chartered Accountant by profession. The institutional brokerage business under the name of Narbheram Harakchand Securities (NH Securities) was a family business of Mr. Parekh which he inherited from his father. He was a trainee in Harshad Mehta’s company, GrowMore. He was a suspect in numerous frauds that Growmore was involved in, although he was never found guilty. With the emergence of the dot com boom in the late 1990s, he began investing in low-liquidity IT and telecom firms, which were known as the ‘K-10’ stocks. K-10 stocks were Pentamedia Graphics, HFCL, GTL, Silverline Technologies, Ranbaxy, Zee Telefilms, Global Trust Bank, DSQ Software, Aftek Infosys and SSI. He owned roughly 16 percent of Global’s floating shares, 25 percent of Aftek Infosys, and 15 percent of Zee and HFCL, respectively. As a result of the significant growth in the value of K-10 stocks, brokers and fund managers began to invest extensively in K-10 stocks. Ketan Parekh and Vinay Maloo along with Kerry Packer launched KVP Ventures primarily focusing on information technology software, internet, e-commerce, media and entertainment, and telecommunications with an initial capital of $250 million on 27 March 2000. For fraudulently rigging the pricing of K-10 shares, he was barred from trading in the Indian stock market for 14 years. 

Parekh’s Modus Operandi 

Ketan Parekh’s initial step was to pick up the substantial stakes from promoters at large discounts and shifted his focus primarily on institutional investors. He was bullish in nature regarding the stock market. He required three elements to boost the market: stocks, the stock exchange, and finance. The Bombay Stock Exchange (BSE) grew more cautious after the 1992 Securities Scam and increased security and fraud detection. Thus, Ketan Parekh traded on the Kolkata Stock Exchange, which lacked rigorous and important restrictions. Ketan Parekh’s stock selection was based on four key factors:

  1. the business must be small; 
  2. the company must have a low volume;
  3. the company’s future prospects must be high; and
  4. the company’s market capital must be low.

His stock portfolio was mostly focused on the technology, communication, and entertainment industries after the emergence of the dot com boom, popularly known as the ICE sector. He referred to them as ‘K-10’ stocks. Funds were raised through promoters such as Global Telesystems, Himachal Futuristic Communications Ltd, and Zee Telefilms or by his own money. Some funds were also raised through institutional investors through mutual funds, Hedge funds, Insurance companies, P/E funds, or banks such as Global Trust Bank and Madhavpura Mercantile Cooperative Bank in the form of loans and pay orders without providing sufficient securities. He purchased some shares of  Madhavpura Mercantile Cooperative Bank to sway the bank’s loan decision in his favour. Back then, RBI permitted traders to acquire loans of about 15 crores. 

In March 2001, MMCB issued Pay Orders of Rs. 137 Crores for Ketan’s Companies: 65 crores to Classical Share and Stockbrokers, 20 crores to Panther Investrade, and 52 crores to Panther Fincap which were discounted by Bank of India and all these companies had their accounts in Bank of India as well. However, the Reserve Bank of India intervened in 2001 and returned the bounced pay orders to the Bank of India. MMCB was unable to clear the payments because it lacked adequate money. RBI labelled MMCB a defaulter, and BOI suffered a loss of Rs. 137 crores. 

Ketan Parekh paid back only Rs. 7 crores, which led to the filing of a 130 crore Rupees fraud case against him. The entire scheme was exposed after Ketan was detained by the Central Bureau of Investigation. He adopted two methods for his operation, pump and dump scheme, and circular trading. 

  1. Pump and Dump Scheme

The initial stage of the pump and dump strategy was to inflate stock value artificially. He invested in K-10 stocks by acquiring about 20-30% of the company’s stock which was less well-known in the stock market and inflated the price of the shares, which eventually became overvalued leading to enticing the institutional brokers and investors to invest in the shares. Then he dumped the shares, causing the stock prices to fall drastically.

2.  Circular Trading

In circular trading also known as the “badla system”, he traded the stocks between his entity and other friendly entities. Prices of the stock valuation were raised by luring investors and traders for high liquidity through his operational team’s large volume of trading of similar sell orders for the same number of stocks and at the same price and at the same time which showed the high demand and created large volumes of the stock in the market. 

Timeline of the case

The timeline of the scam of Ketan Parekh is as follows: 

2nd March 2001: The K-10 shares were the major reason for Sensex’s 176-point loss. The irregularity in the payment by Ketan Parekh accelerated the stock market and SEBI initiated an investigation into the fall.

8th March 2001: SEBI banned short sales and rumours were in the stock market regarding the payment crisis on the Calcutta Stock Exchange. 

9th March 2001: The Sensex fell by 175 points, and three famous brokers were held in default against the Calcutta Stock Exchange, one of them was Ketan Parekh.

30th March 2001: Bank of India filed a criminal case against Ketan Parekh for his involvement in the pay order scam of Madhavpura Mercantile Cooperative Bank and he was arrested by CBI.

4th April 2001: SEBI prohibits Ketan Parekh’s broking and merchant banking firms to start a fresh business. 

9-11th April 2001: Ketan Parekh admitted acquiring funding from Zee and HFCL. However, Zee denied lending any money to any broker but admitted to advancing the acquisition of 28.5% in AB Corp and 15% in B4U. 

26th April 2001: A committee of SEBI was inaugurated to abolish circular trading and the Government joined Parliamentary Committee to probe the scam.

14th March 2001: SEBI approved JR Varma Committee’s agenda on ban on circular trading from 2nd July onwards, introduced options on individual stocks, and shifted all stock into the rolling settlement from 2nd January 2002. 

18th May 2001: Ketan Parekh was released by the Bombay High Court for a bond of Rs. 5 lakhs and he was directed to present himself to the CBI’s office twice a week.

10th August 2001: Ketan Parekh was arrested by CBI for fraud and misappropriation of public funds and the case was filed by Madhavpura Mercantile Cooperative Bank.

24th August 2001: Ketan Parekh was released on the grounds that he will deposit Rs. 16 crores within 6 months.

6th September 2001: Zee sued Ketan Parekh to recover Rs. 90 crores from him. 

7th February 2002: A case was filed by Ketan Parekh’s broking and merchant banking firms to lift the ban from starting a fresh business. The case was dismissed by the Securities Appellate Tribunal until the inquiry was completed in the specified time frame.

11th February 2002: Ketan Parekh was served with a notice by Global Trust Bank (GTB) to recover Rs 180 crore outstanding to the bank.

15th April 2002: Ketan Parekh failed to pay the amount due to Madhavpura Mercantile Cooperative Bank. 

2nd December 2002: Calcutta police arrested Ketan Parekh but bail was granted to him as he fell ill. 

20th January 2003: Ketan Parekh turned himself in at Chief Metropolitan Magistrate Calcutta Court.

6th June 2003: SEBI directed Ketan Parekh’s companies to not buy, sell or transfer any shares of Global Trust Bank till investigations.  

19th June 2003: Ketan Parekh agreed to pay dues to the Bank of India. 

12th December 2003: SEBI banned Ketan Parekh and his associates for 14 years from the stock market.

8th March 2004: SEBI cancelled the registration of Ketan Parekh’s broking entities. 

15th June 2004: Central Government filed a petition against M/S Kopran Limited, a company of Ketan Parekh for recovering Rs. 28 crores from him.

13th May 2005: A debate in Lok Sabha was initiated to consider the bill of Credit Information Companies (Regulation) which primarily focused on the regulation of credit information companies and facilitating efficient distribution of credit and for matters connected

23rd June 2005: The Act of Credit Information Companies (Regulation) came into force. 

20th April 2006: A case was filed to investigate the nature and mode of operation of the transactions by the company, Shonkh Technologies International Ltd, as Ketan Parekh acquired shares of Shonkh Technologies International through his company, Panther Fincap and Management Services, which was beyond the permissible limit and without the required disclosures.

14th July 2006: A petition was filed by Ketan Parekh against the order of SEBI dated 12th December 2003 which debarred him and his associates from the stock market for 14 years. The petition was dismissed considering the huge scam. 

14th November 2006: A petition was filed by Panther Fincap and Management Services Ltd and Classic Credit Ltd. against the penalty imposed on them. The petition was dismissed by the Court and directed to pay the penalty within 45 days from the date of the case.

2nd August 2007: The Appellate Tribunal ordered M/s. Panther Fincap and Management Services to pay 50% of the penalty sum, with the condition that if they fail to do so, the appeals would be rejected.

16th January 2008: NH Securities Ltd challenged an order of CIT(A)  which affirmed the loss disallowance. For statistical reasons, the appeal was allowed.

29th January 2008: M/s.Triumph International Finance India Ltd. challenged an order issued by the Commissioner of Income-tax (Appeals) on 13.11.2007 sustaining the penalty. The impugned judgment on this issue was quashed and the appeal was permitted.

13th March 2009: Ketan Parekh filed an appeal against a CIT(Appeals), Central-VII, Mumbai judgment dated 13-03-2009 for Rs.3,00,000/- in unexplained spending from income in his capital account. The appeal was allowed because after being declared an offender under the Prohibition of Fraudulent and Unfair Trade Practices Regulations Act, 2003, the appellant had to rely on other family members for personal costs.

29th November 2011: A petition was filed by Ketan Parekh for dismissing the order of the Division Bench of the Bombay High Court due to financial hardships. The appeal was dismissed by the court and directed to comply with the order and pay off the penalty of Rs. 80 crores within four weeks.

3rd March 2014: Ketan Parekh was sentenced to imprisonment for 2 years with a fine of Rs 50,000  by a special CBI court in Mumbai for cheating.

4th November 2017: Ketan Parekh was sent to judicial custody for non-appearance in court. 

27th February 2018: Ketan Parekh and his cousin were found guilty of fraud under the SEBI Act by a special SEBI Court and were given three years in prison and a penalty of Rs. 10 lakhs.

Laws surrounding the Ketan Parekh scam

The Securities Appellate Tribunal’s (SAT) key responsibility is to review appeals against findings obtained by the SEBI (Securities and Exchange Board of India) or by evaluating matters in compliance with the Securities Exchange Board of India Act, 1992. The establishment of Securities Appellate Tribunals is discussed in Section 15K of the Securities and Exchange Board of India Act, 1992. Within the ambit of Section 195 and Chapter XXVI of the Code of Criminal Procedure, 1973, the Securities Appellate Tribunal is considered to be a civil court. The SEBI (Securities and Exchange Board of India) Special Courts is formed under Section 26A for speedy trials of offences.

In the case of Sebi v. Ketan V. Parekh and Others (2003), Ketan Parekh and his associates were debarred from the stock market under the Sections 11 and 11B of the Act read with Regulation 11 of SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations, 2003 and Regulation 11 of SEBI (Prohibition of Insider Trading) Regulations, 1992 which deals with dismissing the investing of any security in a recognized stock exchange, prohibiting any person associated with the securities market from buying, selling, or dealing in securities, any office-bearer of any stock exchange or self-regulatory organization can be suspended from their position, seize and hold the proceeds or securities in respect of any transaction under investigation attach after passing an order on an application or instruct any intermediary or anyone in any way affiliated with the securities market not to sell off or transfer an asset constituting part of any transaction under inquiry.

In the case of Securities and Exchange Board of India v. Panther Fincap and Management Services Limited and Ors (2018), Ketan Parekh was found guilty of the offense and he was imprisoned for a term of 3 years with a fine of Rs.5,00,000­ under Section 24(2) of the Securities and Exchange Board of India Act, 1992. This Section deals with the punishment imposed by the adjudicating officer on anyone who fails to pay or comply with any of the directions or orders, which may include imprisonment for a term of one month that may extend to ten years or a fine that may extend to twenty-five crore rupees or both and under Section 235(2) in the Code Of Criminal Procedure, 1973 states that if the defendant is found guilty, the judge follows the guidelines under Section 360, hear the defendant on the issue of sentencing before passing judgment on him in accordance with the law. He was also directed to compensate an amount of Rs.3,25,000 to the Securities and Exchange Board of India.

Legal provisions and implications relating to financial fraud under the Securities Exchange Board of India Act, 1992

Chapter VI-A deals with the penalties and adjudication under the Securities Exchange Board of India Act, 1992. Section 12A prohibits the manipulation and use of fraudulent methods, insider trading, and the direct or indirect acquisition of securities or control by any individual. 

Section 15A deals with penalties for failure to furnish information, return, etc. Section 15B deals with the penalty for failure by any person to enter into an agreement with clients. Section 15C deals with penalties for failure to redress investors‘ grievances. Section 15D deals with a penalty for certain defaults in the case of mutual funds. Section 15E deals with penalties for failure to observe rules and regulations by an asset management company. Section 15H deals with penalties for non-disclosure of acquisition of shares and takeovers.  

In the case of stock brokers, the penalty for default is dealt with under Section 15F. If an individual fails to issue contract notes stipulated by the stock exchange of which he is a member, he is subject to a penalty of up to five times the amount for which the contract note was required. If any individual fails to deliver any security or fails to pay the sum due to the investor in the way prescribed in the rules, he shall be subject to a penalty of one lakh rupees for each day that such failure persists, or one crore rupees, whichever is less. If an individual charges more than the amount provided in the regulations for brokerage, he will be penalised 1 lakh rupees or five times the amount charged more than the specified brokerage, whichever is higher. 

Insider trading is punishable under Section 15G. If any individual deals in securities of a body corporate listed on any stock exchange on his behalf or behalf of any other person based on any unpublished price sensitive information, or advises, or acquires for any other person to deal in securities of any or causes any person to trade in any securities of any body corporate based on undisclosed price sensitive information, will be subject to a penalty of twenty-five crore rupees or three times the amount of profits gained through insider trading, whichever is higher.

Section 15HA establishes a penalty for fraudulent and unfair trade practices that may not be less than five lakh rupees and extend to twenty-five crore rupees, or three times the amount of profits derived from such practices, whichever is higher.

Legal provisions and implications relating to financial fraud under the Indian Penal Code, 1860

Section 405 deals with criminal breach of trust. When a person dishonestly expressly or impliedly misappropriates or converts any property to his use, or dishonestly uses or disposes of property in contempt of any legal order regulating how such trust is to be discharged, or of any legal contract is in violation under criminal breach of trust.  Punishment of criminal breach of trust is mentioned under 

Section 406 with imprisonment of a term which may extend to three years, with a fine, or both. 

Section 409 deals with a criminal breach of trust committed by a public servant or by a banker, merchant, or agent. It is punishable for a term of ten years or which may extend to life imprisonment, or fine, or both. 

Section 415 deals with cheating.

The essential requirements of cheating are: 

1)When someone deceives another person, intentionally or unintentionally, or coerces the victim into giving away any property or consenting to its retention 

2) When someone persuades the victim to act in a way which causes or is likely to cause injury to the victim’s body, mind, or reputation. 

3) When the victim is compelled into acting in a way that he or she would not ordinarily act in if he or she were not being coerced.

Section 416 deals with cheating by personation. Cheating by personation occurs when an individual pretends to be another person, consciously or unknowingly substitutes one person for another, or represents that he or any other person is someone different from him or another person,  comes within the ambit of cheating by personation. 

Section 417 deals with the punishment of cheating with imprisonment for a term which may extend to one year, or with a fine, or both. 

Section 418 deals with cheating with knowledge that wrongful loss may result to a person whose interest in the transaction to which the cheating relates he was bound, either by law or by a legal contract, to protect, shall be punished with imprisonment of either description for a term which may extend to three years. 

Section 420 deals with cheating and dishonestly inducing the delivery of property. When an individual cheats, alters or dishonestly obtains the transfer of property or any portion of valuable security, or anything that is signed or sealed and can be transformed into valuable security carry a sentence of up to seven years in jail and a fine.

Section 467 deals with forgery of valuable security, will, or other documents by any individual who will be punished with imprisonment of either description for a term that may not exceed 10 years and shall also be subject to a fine.

Section 468 deals with a person who commits forgery with the intent to cheat are subject to imprisonment for a maximum of seven years and a fine.

A forged document or electronic record used as a genuine document or record is prohibited under Section 471 and is punishable in the same way as forging such a document or electronic record.

Legal provisions and implications relating to financial fraud under the Companies Act, 2013 

Under Section 447, ‘fraud’ is defined as “any act, omission, concealment of any fact, or abuse of position committed by any person with the intent to mislead, obtain an unfair advantage, or harm the interests of the company, its shareholders, its creditors, or any other person, whether or not there is any wrongful gain or loss.” 

Any person found guilty of fraud faces a fine of at least ten lakh rupees or 1% of the company’s annual revenue, whichever is lower, as well as a term of imprisonment that must not be less than six months but may not exceed ten years. They are also subject to a fine that must not be less than the amount involved in the fraud but may not be less than three times the amount involved in the fraud. If the fraud concerns a matter of public interest, the sentence cannot be less than three years.

Section 36 deals with the punishment for fraudulently inducing someone to invest money by making false statements, promises, or forecasts that are false, deceptive, or misleading, or knowingly conceals any material facts, in order to persuade someone to enter into or offer to enter into any agreement with a view to purchasing, selling, subscribing for, or underwriting securities or any agreement that is purportedly intended to secure a profit for any party or fraudulently obtaining credit facilities from any bank or financial institution will be punished under Section 447.

Section 38 deals with the punishment for personation for acquisition, etc., of securities. Any person who submits an application to a company in a false identity to purchase or subscribe to its securities, or who submits multiple applications to the same company under different variations of name for acquiring or subscribing for its securities, or induces the company, directly or indirectly, to allot securities to him or any other person in a fictitious name will be punished under Section 447.

Section 229 deals with penalties for providing false information, document mutilation, and document destruction. When a person tampers, conceals, mutilates, misrepresents, or removes documents that pertain to the company’s or body corporate’s property, assets, or business, or when they are involved in any of these actions, or when they make false entries in documents pertaining to the company or body corporate, or when they provide an explanation that is false or that they know to be false,  shall be punishable under section 447.

Section 251 deals with the fraudulent applications for removal of name. If an application by a company under Section 248(2) has been made to evade the liabilities of the company, or to deceive the creditors or to defraud any other persons.,  The person in control of the management of the company is jointly and severally liable to any person or persons who had suffered loss or damage as a result of the company being notified as dissolved, and are punishable for fraud in the manner prescribed by law in Section 447.

Section 448 deals with punishment for false statements. Any person who makes a statement that is false in any material particulars and knows it to be false or omits any material fact and knows it to be material in any return, report, certificate, financial statement, prospectus, statement, or other required document is subjected to punishment under Section 447.

Conclusion 

The second-largest fraud in India was the Ketan Parekh scam. In the aftermath of the fraud, SEBI incorporated Clause 49 to the Listing Agreement to make sure that businesses behave in the best interests of the market by adhering to excellent corporate governance principles. To stop these frauds, RBI has also sought to make the laws and regulations better. To assist banks in finding cases of borrower fraud at an early stage, the RBI has established a Central Fraud Registry Portal, a searchable database and all Indian banks have access to the platform.

Frequently Asked Questions (FAQs) 

What are pay orders?

A financial instrument that the bank issues on the client’s behalf directing the payment of a specific amount to a specific recipient.

What is Sensex?

A figure illustrating shares priced with one another on the Mumbai (Bombay) Stock Exchange.

What was the dot com boom?

The emergence of sectors of technology, internet, communication, and entertainment was the dot com boom. 

How did Ketan Parekh scam happen?

Ketan Parekh was involved in cheating with banks by presenting misleading facts, rigging off the stock market prices, exploiting investors’ decisions, misusing public funds and engaging in insider trading.

What was the impact of the Ketan Parekh scam on the economy?

The Sensex fell by 175 points and Madhavpura Mercantile Co-operative Bank collapsed. According to RBI data, the cooperative banking sector has accrued losses of about Rupees 1598 crore.

References 

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