This article is written by Ms. Somya Jain, from the Vivekananda Institute of Professional Studies. It analyses the various laws and regulations concerning the stock market along with relevant provisions.
A stock market is referred to as a public market that encourages the buying, selling and issuing of stocks of a publicly held company. It is a platform that facilitates trading in financial instruments by engaging investors in such transactions. Stocks represent the fractional ownership in a registered company and therefore, a stock market is a place where one can buy and sell ownership of such assets. The purpose served by the stock market is bilateral and forms the basis of the regulatory framework governing the market.
- The first purpose of the stock market is to realize the capital requirements of the companies. By raising capital from the general public, the companies can undertake expansion and development activities. It is a much more viable source of acquiring capital as compared to borrowing as it avoids incurring debts.
- Secondly, the stock market provides an opportunity to investors to acquire a share of profits in public companies. Investors can earn profits by either selling their stocks at an increased price or by earning regular dividends.
Generally, the said trading is conducted via an electronic trading platform under a defined set of regulations. The stock market in India is governed majorly by two stock exchanges, the Bombay Stock Exchange (hereinafter called BSE) and the National Stock Exchange (hereinafter called NSE). Companies list their shares for the first time on a stock exchange through an IPO. Investors may then trade in these shares through the secondary market. To compute the performance of the stock market various indices have been formulated. The index is said to act as an indicator of the performance of the market in its entirety or a sector within the market. The two prominent indices in the Indian stock market are Sensex and Nifty. Sensex is the oldest market index for equities, which includes shares of the top 30 companies listed on the BSE. Similarly, Nifty comprises the top 50 shares listed on the NSE.
Regulatory framework concerning the stock market
The stock market is a major player in the financial sector constituting both small and large companies. Therefore, it becomes substantial to regulate the markets so that it would serve the interest of both the corporate sector and the investors. Further, the stock market is also exposed to the detriment of the larger interest of the public. Thereby, several legislations have been established to protect investors and ensure the fair exchange of corporate ownership in the open markets. Some of the prominent statutes and regulations governing the securities market in India are:
- Securities Contracts (Regulation) Act, 1956
The Securities Contracts (Regulation) Act, 1956 (hereinafter called SCRA) and the corresponding Securities Contracts (Regulation) Rules 1957 were formulated with the objective to regulate stock exchanges and the transactions in such securities with a view to prevent undesirable speculations in them. The Act also seeks to regulate the buying and selling of securities outside the limits of stock exchanges, through the licensing of stock dealers.
The Act outlines the various terms related to securities and establishes the detailed procedure for the stock exchanges to get recognised by the Central Government/ SEBI, the procedure for listing securities of companies and the transactions relating to purchasing and selling securities on behalf of investors. It provides for direct and indirect control over all the aspects of trading in securities. Largely, the Central Government has the regulatory jurisdiction over:
- Regulating and supervising the stock exchanges
- Contracts in securities
- Listing of securities on stock exchanges
For a better understanding of the Act in regulating the stock market, it is pertinent to analyse the relevant provisions of the Act. Some of the material provisions are:
Recognition of stock exchanges
The Act emphasises the need to trade securities only on recognised stock exchanges to reduce the risks associated with it. As per Section 3 of the SCRA, every stock exchange desirous of being recognised has to submit an application before the Central Government. Along with the application, bye-laws of the stock exchange for the regulation and control of contracts and also a copy of the rules relating in general to the constitution of the stock exchange should be submitted.
Section 4 of the Act deals with granting such recognition to the stock exchange. If the Central Government, after making a detailed inquiry, is satisfied that the stock exchange is willing to comply with all the requirements of the government and all the rules and the bye-laws of the stock exchange is in harmony with investors interests and are in conformity with the conditions appropriated for fair dealings, then the Central Government may grant recognition to the stock exchange. However, the government can impose certain conditions before granting recognition to the stock exchange like qualification for membership, the manner in which contracts will be entered by the stock exchange etc.
Section 19 of SCRA clearly specifies that only recognised stock exchanges will function in the stock market and any person trading or entering into a contract with a non recognised stock exchange is prohibited.
The Act also includes provisions for withdrawing the recognition granted to the stock exchange. According to Section 5 of the Act, if the Central Government is of the opinion that a stock exchange is undermining the interest of trade or the public interest, then the government shall withdraw the recognition granted to the stock exchange by serving a notice and providing an opportunity to be heard to the stock exchange.
Corporatisation and demutualisation
Section 4A of the SCRA makes it compulsory for every recognised stock exchange to be corporatised and demutualised. As far as corporatisation is concerned, Section 2(aa) of the Act defines corporatisation to mean a succession of a recognised stock exchange which is a body of individuals or society to another stock exchange that is an incorporated company to assist, regulate and control the dealing of securities. Section 2(ab) defines demutualisation as segregating ownership and management from the trading rights of the members of a recognised stock exchange as per the approved scheme.
Section 4B of the Act sets forth the procedure for corporatisation and demutualisation. It states that all the recognised stock exchanges as per Section 4A should submit a scheme for corporatisation and demutualisation to the Securities and Exchange Board of India (hereinafter called SEBI) for its approval. Following this, if SEBI is satisfied that the scheme is favourable to the trading interest as well as public interest then such scheme will be published by SEBI in the Official Gazette and by the recognised stock exchange in two daily newspapers. But if SEBI is of the opinion that the scheme is detrimental to the public interest it may reject the scheme and notify the same in the Gazette after providing the concerned stock exchange with an opportunity of being heard. Further, SEBI, while approving the scheme, is empowered to apply necessary restrictions like restricting the voting rights and the power of appointing representatives by the shareholders who are also the stockbrokers of the concerned stock exchange etc. Every recognised stock exchange, by way of fresh issue of equity shares to the public, must ensure that at least 51 percent of its equity share capital is held by the public other than shareholders having trading rights within a period of 12 months.
Listing and delisting
Listing refers to the admission of securities to trading on a stock exchange. Every Public Limited Company desirous of issuing shares or debentures to the public has to be listed on a recognised stock exchange. By listing securities on a stock exchange, the exclusive privilege of raising capital is provided to the companies. But before listing their securities, companies are required to comply with the prescribed requirements of the stock exchange. The listing provides several benefits to the concerned company, investors and public at large as it ensures easy accessibility to funds, provides liquidity to securities, effective control and supervision of trading etc.
Section 21 of the SCRA makes it essential for any person who, by way of an application to any recognised stock exchange, wants to get its securities listed, to comply with all the conditions of the listing agreement with that stock exchange. Thus, the issuer company is obliged to fulfil the requirements of the listing agreement. Rule 19 of the SCRR states the list of documents and other particulars that are essential to be submitted to the recognised stock exchange while applying for listing its securities.
As far as delisting is concerned, it is the permanent removal of securities from the recognised stock exchange. The delisting can be undertaken when the company failed to comply with the requirements of the concerned authority, or the company has not observed trading for a prolonged period of time or the company voluntarily desires to get delisted from the recognised stock exchange. Therefore, the delisting can be classified into two types:
- Compulsory delisting-
Compulsory delisting refers to the permanent delisting of securities from the recognised stock exchange as a penalising measure at the behest of the stock exchange for not complying with the pre-conditions notified by the concerned authority.
Section 21A of the SCRA empowers the recognised stock exchange to delist the securities from any recognised stock exchange on any ground as prescribed under the Act, provided that a reasonable opportunity of being heard is granted to the company.
Rule 21 of the SCRR sets forth various grounds that are responsible for delisting securities of a company. Grounds like non-compliance with listing agreement, suspension of trading for more than 6 months, continuous loss for 3 years, infrequent trading during preceding 3 years, percentage of public holding is less than the required minimum standards, etc. are enumerated in this provision.
Further, SEBI (Delisting of Equity Shares) Regulation 2009 seeks to establish a detailed procedure for delisting securities. It states that initially, a panel of the recognised stock exchange, after deciding on delisting the securities, will issue a public notice to invite representation by aggrieved persons. After passing the delisting order and issuing a public notice of the same, an independent valuer will be appointed who will determine the fair value of shares and at last, the shares are acquired by the promoters at fair value.
- Voluntary delisting-
Voluntary delisting refers to the permanent delisting of securities on the wishes of the company itself from the recognised stock exchange. Such delisting largely takes place when there is a merger or amalgamation or due to non-performance of shares.
The SEBI Regulation 2009 establishes the entire process of delisting securities through voluntary delisting. Initially, the company is required to obtain prior approval of the shareholders before delisting the securities through a special resolution at a General Meeting of the company. The shareholders will also be given an exit option whereby all the shareholders will get an opportunity to exit the investment made by them. Following this, the company or promoters of the company will make an offer at which they are willing to acquire shares held by the shareholders and then the bidders pitch their price of surrendering the shares. The cut off price will be then decided by the company with the help of investment bankers and merging bankers. If at last, the shareholders agree to the cut off price, the company will acquire a minimum of 90 percent of the shares and the final application will be made to the stock exchange within 1 year of the special resolution, otherwise, the entire delisting will fail.
- SEBI Act, 1992
The Securities and Exchange Board of India is the regulatory body for the securities and commodity market in India. As per the definition enumerated under Section 3 of the Securities and Exchange Board of India Act, 1992 (hereinafter SEBI Act), SEBI is a corporate body having perpetual succession and a common seal with power to acquire, hold and dispose of property, both movable and immovable and to contract, and shall sue and be sued in its own name. The SEBI Act empowers SEBI to protect the interest of the investors in securities, to promote the development of and regulate the securities market.
Section 11 of the SEBI Act enumerates several functions or roles played by SEBI in protecting and regulating the securities market. Some of the functions are:
- Regulation of business in stock exchanges and other securities markets.
- Regulating and registering intermediaries such as brokers, sub-brokers, underwriters, merchant bankers etc.
- Prohibiting fraudulent and unfair trade practices like price rigging, manipulations etc. and controlling insider trading.
- Promoting investors’ education and training of intermediaries of securities markets.
- Regulating take over bids and substantial acquisition of shares.
- Levying fees, inspecting books, conducting research are some other functions of SEBI.
The Act also endows upon SEBI several powers related to the securities market. SEBI has been empowered to make orders relating to conducting an investigation, issuing directions and levying penalties if any act of the company is detrimental to the interest of the investors. It can pass orders like suspension of trading, restraining market access, attaching bank accounts of the intermediaries etc. SEBI also has the power to cease or desist any person from committing any violation of the provisions of the Act. further, SEBI can adjudicate, make regulations and also delegate its powers and functions.
SEBI’s strategy is governed by four elements namely:
- It aims to build the capacity of the investors through education and awareness to enable an investor to make informed investment decisions.
- To make available every relevant detail for investment in the public domain. SEBI has adopted a disclosure-based regulatory regime where every intermediary and issuer is expected to disclose relevant information regarding investments, markets, products etc. so that the investors can make informed decisions.
- The aim is to make the market safe for transactions through secured systems and practices. Therefore, SEBI has taken measures such as T+2 rolling settlement that states that the entire settlement of the securities takes place within 2 days preceding the transaction date, screen-based trading system, dematerialisation of securities etc.
- Lastly, it facilitates the redressal of investor grievances. As per the Securities Law (Amendment) Act 2014, a comprehensive arbitration mechanism has been established in stock exchanges and depositories for resolving investor disputes. Further, a provision for stock exchanges to block resources as investor protection funds was made.
Time and again SEBI has undertaken to introduce several regulations on different aspects dealing with securities. They were initiated to safeguard the integrity of the securities market and promote and develop the same on a proactive basis. Some of these regulations are- SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018, SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, SEBI (Prohibition of Insider Trading) Regulations, 2015, SEBI (Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations, 2003 etc.
- Companies Act, 2013
The Companies Act, 2013, manifests dealings in the issue, allotment and transfer of securities and aspects of company management. It demonstrates standards of disclosure in public issues relating to the capital, company management, listed companies and perceptions of risk factors. It also regulates underwriting, the use of premium and discounts on issues, rights and bonus issues, payment of interest and dividends, supply of annual reports and other information.
Section 40 of the Act makes it mandatory for every company, making a public offer, to submit an application to one or more recognised stock exchanges for requesting permission for the securities to be dealt with in the stock exchange.
The Act discusses the intricacies of issuing shares and debentures by the companies. It further explains the process of issuing securities by way of a public offer, private placement, bonus issue, rights issue etc.
- Depositories Act, 1996
A depository is an organisation where the securities of a shareholder are held in an electronic form through the help of a depository participant. A depository participant can be a bank, financial institution, broker, or any other entity eligible as per SEBI guidelines. The Depositories Act, 1996 provides a legal framework for the establishment of depositories. The objective of the Act is to dematerialize the securities held by the investors, making the securities available in a fungible form that would be freely transferred and to make the transfer of shares free from stamp duty. There are two types of depositories functioning in India- National Securities Depository Limited (NSDL) and Central Depository Services (India) Limited (CDSL).
Section 3 of the Act specifies that in order for a depository to be established as a depository, a certificate of commencement of business from SEBI is required. The depository can be registered under SEBI (Depositories and Participants) Regulations, 2018 and the certificate of commencement can be accorded with the prescribed conditions under the Act.
Section 8(1) of the Act makes it optionable for the investors to hold the securities either in physical form or in dematerialised form. However, SEBI has brought an amendment in the relevant provisions of SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 through which it had disallowed listed companies from accepting requests to transfer securities that are held in physical form from 2019. Therefore, trading in dematerialised form has become the new norm as per the guidelines issued by SEBI.
Section 9 of the Act states that all the securities that are held by the depositories will be fungible in nature. This means that if the investor wishes to obtain the security certificate he will lose the right to obtain the exact same certificate that he surrendered.
Section 10 of the Act enumerates various rights of the depositories and the beneficial owners of the securities. The beneficial owner will enjoy all the rights and benefits and will be subjected to all the said liabilities in respect of securities held by the depository. Depositories, on the other hand, will be considered as registered owners for the purpose of effecting transfer of ownership and will not have any voting rights over the securities of the beneficial owners.
- Other Acts
Apart from the above-discussed Acts, the Prevention of Money Laundering Act, 2002 also plays a vital role in protecting the investors from potential fraudulent conduct of the companies while dealing in securities. The primary aim of the Act is to prevent money laundering which means any transaction related to proceeds from crime or concealment of such proceeds. As per Section 12 of the Act every banking company, financial institution or intermediary being registered under the SEBI Act will have to ensure the record of all transactions, furnish information of transactions to the director and verify and maintain the records of the identity of all its clients.
The securities market is vital for the growth, development and strength of market economies and the maturity of an economy is decided based on the robustness of the securities market. Therefore, it becomes pertinent to analyse various laws and regulations relating to the securities market. The intermediaries of the securities market including the listed companies, investors, stock exchange and depositories should be well aware of the laws governing the market of securities without which the institution will fail to streamline its major source of economy.
- The Four Main Legislations Governing the Securities Markets of India (yourarticlelibrary.com)
- Equity capital markets in India: regulatory overview | Practical Law (westlaw.com)
- Government Regulations on the Stock Market (chron.com)
- Stock Market – What is the Stock Market and How it Works (corporatefinanceinstitute.com)
- Listing and Delisting of Securities (legalserviceindia.com)
- The Indian Stock Market Saga | SCC Blog (scconline.com)
- ICSI Study Material- Securities Laws and Capital Markets
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