Indian capital market regulator SEBI has proposed to bring all alternate investment funds active in the country, including private equity and real estate funds, under its regulatory ambit, with sweeping changes in the way various private pools of capital are formed and find their way to local investment targets.
In a nutshell, it proposes to classify all such alternative investment funds under nine categories including a separate category for social ventures, besides SMEs, PIPE, real estate, etc. (see highlights for each fund category in this report down below); seeks to raise the minimum investment threshold in PMS fivefold to Rs 25 lakh and other alternate investment funds to Rs 1 crore to keep out retail investors from riskier investments, but leaves a big question mark on the future of private equity investment in bulk of Indian firms listed on the stock exchanges besides the operational leeway for funds that have sector-agnostic investment strategy.
According to the proposals, funds shall be close-ended and the duration of a fund shall be determined at the time of registration, with a minimum tenure of five years. However, tenure extension of the fund may be permitted up to two years only at a time when it is approved by three-fourth of the beneficiary or the unit holders. In the absence of consent of unit holders, the fund shall fully liquidate within a one-year period, following expiration of the fund term.
The fund shall not invest more than 25 per cent corpus of the fund in one investee company and shall not invest in (i) NBFC (excluding Infrastructure Finance Company, Asset Finance Company, Core Investment Company or companies engaged in microfinance activity in case AIF is not a strategy fund); (ii) Gold Financing (excluding gold financing for jewellery); (iii) Activities not permitted under Industrial Policy of the Indian government; (iv) Any other activity which may be specified by SEBI.
An alternative investment fund, which has been granted registration (that would cost Rs 6 lakh including Rs 1 lakh as an application fee) under a particular category, cannot change its category subsequent to registration.
The manager or sponsor or designated partner shall have an interest not less than 5 per cent of the fund, which should be contributed by them and not through the waiver of management fees.
More importantly, the manager, sponsor or designated partner shall not co?invest in select underlying deals but rather the entire equity interest shall be via the pooled fund vehicle. This may derail some future transactions as we have witnessed a slew of such co-investments in India.
The new norms will cover all Alternative Investment Funds in securities market, irrespective of their legal domicile which collects its fund from institutional or high net worth investors in India or the manager of such fund who manages the fund for investments in India.
The funds already registered as VCF under SEBI (VCF) Regulation, 1996, shall continue to be regulated by the said regulations till the existing fund or the scheme managed by the fund is wound up.
The idea behind the move is novel. For one, at present some funds are registered as a VCF under SEBI (VCF) Regulation, 1996, while some invests through the FII route.
SEBI proposes to create a structure where regulatory framework is available for all shades of private pool of capital or investment vehicles, so that such funds are channelised in the desired space in a regulated manner without posing systemic risk.
“Making clear distinction among the various types of private-pooled investment vehicles of institutional or sophisticated investors will allow the Government/ Regulator to have tailor-made concessions/relaxations that may be desirable for individual kinds of funds such as VCF or SME funds, Social Venture Funds, etc. These concessions/relaxations will be tied to investment restrictions for special kinds of funds and funds like private equity, PIPE or strategic fund may not be allowed to avail such concessions,” it said.
Private pools of capital of institutions or sophisticated investors can also potentially employ leverage. “At this end, regulation does not try to regulate the business risks but would like to provide some minimum ground rules for disclosures and governance practices to minimise conflict. In between, there would be various specialised funds where risks are graded and investment portfolios are designed to suit specific regulatory/other incentives,” according to the SEBI concept note.
SEBI has sought opinion from stakeholders, to be sent till end of this month to take forward the proposals.
Venture Capital Funds
The objective of a Venture Capital Fund (VCF) shall be to promote new ventures using new technology or with innovative business ideas at early stage or start-up stage, primarily through acquisition of equity seed capital or minority stake.
Total investment in the VCF shall not be more than Rs 250 crore and it shall not invest in any company that is promoted, directly or indirectly, by any of the top 500 listed companies by market capitalisation or by their promoters.
At least two-thirds of the Investment shall be made in the unlisted equity shares of the investee company.
Not more than one third of VCF can be invested in the unlisted debt or debt instruments of the investee company where equity investment has been made; preferential allotment of equity shares of a listed company subject to lock?in?period of one year; the equity shares or equity linked instruments of financially weak company or a sick industrial company whose shares are listed.
The VCF shall not subscribe to warrants of the investee company.
PIPE fund shall invest in shares of small-sized listed companies which are not part of any market indices in exchanges having nationwide terminals.
At least two-thirds of the investment shall be made in equity shares of such investee company and not more than one-third of the fund shall be invested in the debt or debt instruments of such companies where equity investment has been made.
PIPE fund may acquire securities of investee company and may be given access to non?public information, subject to following conditions; access to non?public information is given only for the purpose of carrying due diligence for PIPE transactions under a confidentiality agreement; the PIPE fund shall be prohibited from selling or dealing in securities of investee company for a period of five years; the investee company and the PIPE fund shall disclose any acquisition or dealing in securities, pursuant to such due?diligence as per the applicable regulations.
A Private Equity Fund may invest in unlisted equity, equity-linked instruments of companies which require funding to develop and grow with the primary focus on matching medium-to-long-term capital of investee companies.
They shall invest at least half of the fund in equity shares or equity-linked instruments of an unlisted company, and shall not invest more than half in the equity or equity-linked instruments of a company which is proposed to be listed.
A PE fund shall not invest more than 50 per cent in unlisted debt of a company where the fund has already made equity investment.
Debt Fund shall invest at least 60 per cent of the corpus in debt or debt instruments of unlisted companies, not more than 25 per cent of which may be in convertible debt, with a minimum maturity of 5 years.
It may invest the remaining 40 per cent in securitised debt instruments, debt securities of listed company and equity shares of unlisted company where debt fund has invested in unlisted debt instruments.
The Debt Fund will have a system of credit assessment, irrespective of the fact whether the investment is rated or unrated.
An Infrastructure Fund shall invest at least two-thirds of its corpus in the equity or equity-linked instruments of infrastructure companies or SPVs of infrastructure projects, as defined by the central government or the Planning Commission.
It may invest up to one-third of its corpus in debt instruments of investee company where it has made equity investment or in securitised debt instruments of an infrastructure company or SPV of infrastructure project.
It shall invest primarily in the unlisted equity or equity-linked instruments of SMEs in manufacturing, services sector, as also businesses providing infrastructure or other support to SMEs, as defined by the Ministry of Small and Medium Enterprises.
The SME fund may also invest in equity or equity-linked instruments of SME companies which are listed or proposed to be listed in SME exchange or SME segment of RSE.
It may enter into an agreement with merchant banker to subscribe to the unsubscribed portion of a public issue or to receive or deliver securities in the process of market making.
Real Estate Funds
It shall invest at least 75 per cent of its corpus in real estate projects or fully built properties or in the SPVs engaged in real estate projects, and up to 25 per cent of corpus in allied sectors of real estate.
It shall invest at least two-thirds of its corpus in equity or equity-linked instruments, and up to one-third in debt or debt instruments of real estate projects or SPVs engaged in real estate projects.
Social Venture Funds
Targeted at investors willing to accept muted returns of 10% to 12%.
The fund shall invest in social enterprises such as MFIs.
The Strategy Fund may specify any strategy in any class of financial instruments, and may invest in derivatives and complex structural products, subject to requirement of suitability and disclosure to investors.
It may leverage or float long or short strategy fund, subject to consent from the investors in the fund, subject to a maximum leverage as may be specified by SEBI.
The Strategy Fund which employs leverage, shall disclose information regarding the overall level of leverage employed, the leverage arising from borrowing of cash or securities and the leverage arising from position held in derivatives, the reuse of assets and the main source of leverage in the fund. It shall also ensure that the leverage limits are reasonable and shall demonstrate how it complies at all times with those reasonable limits.