SEBI thinks Adani did nothing shady

MYSTERY POST: If Shakespeare were around he'd call it a farce

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More than 2 years ago, Hindenburg Research published a report accusing the Adani Group of fraud. After the report, SEBI ran an investigation to figure whether any of Hindenburg’s claims were true.

If you’ve been along with Boring Money for a while, you might know that Hindenburg had quite a few claims. They weren’t particularly new claims, but they were all together in one place, easy to read, and easy to register the sheer shock value in some of the circumstances around the Adani Group. Of the many claims, the one that interested me the most and which seemed to be the most flagrant was of foreign funds which owned Adani stock—so much Adani stock, and no other stock!—that it seemed like a no-brainer to the people who used to work at those foreign firms that Adani was behind the funds.

Adani’s companies caught international interest because their stock prices shot up like mad. And the stock price shot up like mad, the accusation goes, because Adani Group was buying its own companies’ stock via these foreign funds.

Last month SEBI published two orders (here and here) related to Hindenburg and Adani. Neither of them address the foreign firms issue and pick much less significant claims. Both of them conclude that there was no evidence that Adani was committing fraud.

I read the orders and found no investigation. I don’t know how else to put it. SEBI spent 2.5 years investigating arguably the largest conglomerate in the country and seems to have forgotten to actually investigate the company.

The middling companies

The way a SEBI investigation works is that there are people who investigate a particular case, and there are other people who decide if their investigation makes sense. When SEBI’s investigation people decide that they have enough evidence, they send a show-cause notice to whoever they’ve been investigating.¹ The goal is to give them an opportunity to make their case about what the facts seem to say, and to clear any misinterpretations that might be happening. Once they respond to the notice, maybe even appear for in-person hearings, someone else at SEBI (usually one of the board members) plays judge. They take the call on whether the investigation made sense, if the company’s response made sense, and what the immediate action must be based on the facts at hand.

SEBI skipped the Adani foreign funds issue and instead picked two other issues that Hindenburg raised in its report. Both were about Adani companies borrowing money from or lending money to seemingly no-name companies. Here’s a quick rundown from Hindenburg’s report:

1. Rehvar Infrastructure and Milestone Tradelinks, two companies based in Gujarat, combined lent more than $300 million to Adani Infra. Both Rehvar and Milestone were supposedly silver merchants but there seems to be no evidence that there was any real business.

2. Separately, four Adani companies (Adani Enterprises, Logistics, Estates, Ports) lent $87.4 million to another small company called Adicorp Enterprises. Adicorp then lent $86 million (that’s nearly all of what it borrowed) to Adani Power.

3. Rehvar, Milestone, Adicorp all had some connections to Adani beyond the money lending. For instance, one of Milestone’s shareholders has been an employee with Adani for more than 40 years. And Adicorp’s owner has been a friend and employee for more than 30 years.

Every time a company lends to or borrows from someone that is closely related to the company’s owners, they must disclose the transaction as a “related party transaction”. This is important because it helps disclose any potential conflicts of interests and invites some scrutiny whenever there is such a transaction. That way, the owners can’t just keep “lending” money to themselves while pretending that they were legitimate business transactions.

Hindenburg’s point was that Rehvar, Milestone, Adicorp and whatever other companies were related to Adani and their transactions with Adani had to be disclosed as related party transactions, which Adani Group hadn’t done.

Now this is a narrow, securities law point of view. Kinda technical. Adani may have borrowed from a couple of companies owned by his employees. Pff, who cares? Put that one line in a financial statement and it would have been “disclosed”. Move on.

But the lack of a disclosure is just a start! Sure, Hindenburg’s point in the report was that the disclosure was missing. But the underlying, real point was that a missing disclosure is a starting point for a bunch of questions and scrutiny. For instance—

1. Where did Rehvar and Milestone get the $300 million they lent to the Adani companies?

2. Why did four Adani companies—whose business was not lending—lend $87 million to Adicorp, a company whose net profit was 0.1% that amount?

3. What did the Adani companies do with the money they borrowed from these random companies? Were they even correctly recorded as loans in its books?

I already gave the plot away in the last section, so you know what’s coming. Here’s a snippet from SEBI’s show-cause notice to Adani. This is the bit that’s supposed to be the investigation. From SEBI’s order:

a) The Noticee no.1 gave total loan of INR 1282 crores to the Noticee no.3 from December 27, 2012 to October 5, 2018 and in return received back INR 1376.15 crores from May 13, 2014 to September 25, 2020.

b) The Noticee no.3 gave total loan of INR 1282 crores to the Noticee no.2 from December 27, 2012 to October 6, 2018 and in return received INR 1453.87 crores from May 13, 2014 to September 25, 2020.

c) ALL gave loan of INR 495 crores to the Noticee no.3 on April 2, 2019 and in turn received back INR 568.26 crores on June 29, 2020 and September 25, 2020.

d) In the entire process, the Noticee no.1 got extra amount (interest) of INR 94.15 crores, ALL got extra amount (interest) of INR 73.26 crores and the Noticee no.3 got extra amount (interest) of INR4.46 crores.

SEBI describes the money trail that went from Adani to Adicorp and back to Adani. It looked at Adicorp’s bank statements and figured that Adicorp returned Adani Ports’ money with interest, and also received the money it lent to Adani Power with interest.

BUT THAT WAS NEVER THE POINT. Hindenburg didn’t flag these transactions because it claimed that Adani didn’t charge enough interest for the money it lent out. It flagged the transactions because they didn’t make sense and were an indication that there was something shady happening behind the scenes. I mean if you were using a shell company as a way to, I don’t know, inflate your revenues or to move money around and show more cash in your balance sheet, you might be careful enough to ensure that the bank statements of your shell company have a reasonable record of money coming back with interest. It seems like the kind of bottom-of-the-barrel precaution you might take. Its existence proves nothing.

In the same show-cause notice, here’s a point that SEBI made:

66% of the debit and 67% of credit transactions of the Noticee no.3 [Adicorp] were with Adani Group.

A normal person might read the above point and think “wow 66% is a lot from just one entity.” Here’s Adicorp’s response to this:

As SEBI itself has recorded in the impugned SCN that only 67% of debits and 66% of credits from the Noticee no.3 were associated with the Adani Group, which means remaining 33% and 34% of credits involved transactions with non-Adani entities. This demonstrates that the Noticee no.3 was engaged in legitimate business with a variety of entities and was not exclusively involved with the Adani Group.

Adicorp's response was “but what about the remaining 33% bro?”. SEBI’s board member who saw the show-cause notice and saw Adicorp’s response seems to have accepted this argument?²

SEBI needs to read SEBI’s orders

On the face of it, SEBI’s orders were about Adani. Yet SEBI didn’t even look at the Adani companies’ bank statements the way it did for the no-name middlemen companies. SEBI has done some wonderful investigations in the past, so it is certainly not the case that they don’t know how to.

So here’s a few things that SEBI could’ve done to really investigate the Adani issue, fully based on things it has already done in the past in other situations.

1. Retrieve all official and unofficial communication between Adani Group and the middleman companies.

The easiest way to prove fraud is when someone admits it themselves on text with a wink emoji. When Adani was lending money to Adicorp, what were the employees involved in this transaction saying to each other?

2. Doing a forensic audit of the Adani companies which borrowed from or lent to the no-name middlemen.

This is really just a way to answer the question: what in the heavens is Adani Group doing with the money that it’s borrowing from the no-name companies? Are we sure this money is not showing up as its income anywhere in its financials?

3. Physically visit the companies.

Rehvar Infrastructure is supposed to be a silver merchant. Go to its office, look for the silver bars. If you find them, great, if you don’t, ask why. (Hindenburg did do this, by the way, and found Rehvar’s office closed with an Adani employee’s contact attached on the door.)

4. Ask Adani questions! Why did it lend to a random company? Why did it borrow from a random company? Did it know that it was just lending to itself via a middleman?

Had SEBI asked questions of Adani, and Adani answered those questions, each response would serve as a thread to investigate and validate. Any lies here would be grounds for fraud.

Instead of investigating Adani, SEBI just picked up Hindenburg’s accusations, repackaged them, and sent them to Adani in a notice to refute. I think Adani does the best job here explaining why SEBI did a bad job. From SEBI’s order, here’s a bit of Adani’s response to SEBI:

The SCN has not clearly set out specific charges and the basis of allegations of the provisions of the SEBI Act and the PFUTP Regulations. The SCN is only based on suspicion and suspicion cannot be placed as proof or evidence.

SEBI’s job was to find the evidence.

Cover Photo by cottonbro studio/Pexels

1. Of course if the case is urgent or if the notice will cause damage, they might skip it, but in most cases they don’t.

2. I mean, this argument wasn’t accepted directly. More like a tacit acceptance that reflects in the direction of the order.