India's financial crime agency has asked Walmart's Flipkart and its founders to explain why they shouldn't face a penalty of $1.35 billion for alleged violation of foreign investment laws, three sources and an agency official told Reuters.

The Enforcement Directorate agency has been investigating e-commerce giants Flipkart and Amazon.com Inc for years for allegedly bypassing foreign investment laws that strictly regulate multi-brand retail and restrict such companies to operating a marketplace for sellers.

The Enforcement Directorate official, who declined to be named, said the case concerned an investigation into allegations that Flipkart attracted foreign investment and a related party, WS Retail, then sold goods to consumers on its shopping website, which was prohibited under law.

A so-called “show cause notice” was issued in early July by the agency's office in southern city of Chennai to Flipkart, its founders Sachin Bansal and Binny Bansal as well as current investor Tiger Global, to explain why they should not face a fine of 100 billion rupees ($1.35 billion) for the lapses, said the agency official and the sources, who are all familiar with the content of the notice.

A Flipkart spokesperson said the company is “in compliance with Indian laws and regulations”.

“We will cooperate with the authorities as they look at this issue pertaining to the period 2009-2015 as per their notice,” the spokesperson added.

The Indian agency does not make public such notices issued to parties during an investigation.

One of the sources said Flipkart and others have around 90 days to respond to the notice. WS Retail ceased operations at the end of 2015, the person added.

Tiger Global declined to comment.

Binny Bansal and Sachin Bansal did not respond to requests for comment.

The Enforcement Directorate also did not respond to a request for comment.

Walmart took a majority stake in Flipkart for $16 billion in 2018, its biggest deal ever. Sachin Bansal sold his stake to Walmart at the time, while Binny Bansal retained a small stake. Walmart did not respond to a request for comment.

Flipkart's valuation doubled to $37.6 billion in less than 3 years at a $3.6 billion funding round in July, during which SoftBank Group reinvested in the company ahead of an expected market debut.

The notice is the latest regulatory headache for the online retailer, which is already facing tougher restrictions and antitrust investigations in India, and a growing number of complaints from smaller sellers.

India's brick-and-mortar retailers say Amazon and Flipkart favour select sellers on their platforms and use complex business structures to bypass the foreign investment laws, hurting smaller players. The companies deny any wrongdoing.

Small retailers welcome move

The Indian agency's move was welcomed on Thursday by Praveen Khandelwal, secretary general of the Confederation of All India Traders. “We urge the ED (Enforcement Directorate) to not only impose a heavy fine but recommend the government ban both these portals unless they follow the law in letter and spirit,” said Khandelwal.

The confederation represents millions of mom-and pop stores in India.

In February, a Reuters investigation based on Amazon documents showed it had given preferential treatment for years to a small group of sellers, publicly misrepresented ties with them and used them to bypass Indian law. Amazon says it gives no preferential treatment to any seller.

After the story, the Enforcement Directorate sought information and documents from Amazon about its business operations.