Funds and Asset Managment

The past quarter witnessed key regulatory and legislative developments in the funds and asset management space. SEBI introduced special situation funds and provided clarity on provisions related to change in control of sponsor and/or manager of an AIF. The International Financial Services Centres Authority released regulations for setting up AIFs in GIFT City, Gujarat.

Pallabi GhosalPartner

Ananya SonthaliaCounsel

Hetvi DoshiAssociate

During the last quarter of 2022, to ensure greater transparency and homogeneity in operations of Alternative Investment Funds (AIFs), SEBI and the International Financial Services Centres Authority (IFSCA) introduced various regulatory amendments. In response to the demands of the industry for dispensation in respect of AIFs investing in stressed assets, SEBI introduced a separate category of AIFs under venture capital funds (VCFs) – special situation fund (SSF), in addition to operational clarifications regarding the process to be followed while applying for change in control of AIFs through a scheme of merger/arrangement.

In view of the government’s effort to incentivise fund managers to set up funds in GIFT City, Gujarat, the IFSCA released the IFSCA (Fund Management) Regulations, 2022 (Regulations).

Key Developments

  • Introduction of Special Situation Funds as a sub-category of Category I-AIFs

    SEBI has amended the SEBI (Alternative Investment Funds) Regulations, 2012 (AIF Regulations) on 24 January 2022, to introduce SSFs as a sub-category of Category I-AIFs. SSFs are AIFs set up for investment in ‘special situation assets’ which include:

    • Stressed loans available for acquisition pursuant to the Master Direction – Reserve Bank of India (Transfer of Loan Exposures) Directions, 2021 (Loan Transfer Master Directions), or as part of a resolution plan approved under the Insolvency and Bankruptcy Code, 2016 (IBC), or under any similar policy that may be issued.
    • Security receipts issued by an asset reconstruction company.
    • Securities of investee companies (i) whose borrowings are available under the Loan Transfer Master Directions, (ii) against whose borrowings security receipts have been issued by an asset reconstruction company, (iii) whose borrowings are subject to the corporate insolvency resolution process under the IBC, and (iv) who have disclosed payment defaults continuing for a period of at least 90 days.

    SSFs must have a corpus of INR 100 crore with each investor’s contribution being at least INR 10 crore. Further, SSFs are exempt from certain investment conditions applicable to other AIFs in the same category, such as restrictions on investing more than 25% of its funds in a single company.

  • IFSC Guidelines for GIFT AIFs

    In May 2021, the IFSCA constituted a committee to make recommendations regarding the development of investment funds in the International Financial Services Centre (IFSC). Based on the recommendations of this committee, on 7 February 2022, the IFSCA released the draft form of the Regulations followed by the finalised version on 19 April 2022.

    Under these Regulations, fund managers will have to obtain registration as a fund management entity (FME) with the IFSCA either as:

    • Authorised FME – these are FMEs that pool capital from investors above a certain threshold by private placement.

      Such FMEs can invest in start-ups or early-stage ventures through venture capital schemes. The net-worth requirement for such FMEs is USD 75,000.
    • Registered FME (non-retail) – these are FMEs that pool capital from investors above a certain threshold by private placement for investing in securities, financial products and such other permitted asset classes through restricted schemes.

      Such FMEs can also undertake portfolio management services and act as investment managers for private placement of REITs and InvITs. The net-worth requirement for such FMEs is USD 500,000.
    • Registered FME (retail) – these are FMEs that pool capital from retail and non-retail investors under schemes for investing in securities, financial products and other permitted classes through retail or restricted schemes.

      This category is more relevant for mutual funds and exchange-traded funds. The net-worth requirement for such FMEs is USD 1,000,000.

    The Regulations prescribe certain onerous requirements such as the principal officer and key managerial personnel (KMP), with relevant experience, to be based out of IFSC. Given the geographical location of IFSC, identifying KMPs who are based out of IFSC would be a significant challenge.

    Indian fund managers who were keen to explore the GIFT structure through the establishment of a branch must ensure ring-fencing of operations of the IFSC branch. Additionally, the net-worth requirement will be applicable at the branch level in addition to minimum capital requirements for FME, as may be prescribed by the IFSCA.

    The Regulations propose a green channel for VCFs whereby the scheme can be open for subscription immediately on filing with the IFSCA and provide greater flexibility in terms of instruments of investment. Further, with respect to Category II AIFs and Category III AIFs, the scheme can be open for subscription within 21 days from filing, but such placement memorandum will be valid only for 6 months which is not the case for domestic AIFs. Having said that, the Regulations propose greater flexibility to a GIFT AIF in terms of waiver of sponsor commitment and borrowings in addition to the fact that a GIFT AIF can invest in Indian and offshore securities.

  • Change in control of Sponsor and/or Manager of AIF

    On 23 March 2022, SEBI released a circular clarifying certain aspects regarding change in control of the sponsor and/or manager of the AIF (Change in Control) in case of a scheme of arrangement under the (Indian) Companies Act, 2013 (Companies Act). Under the AIF Regulations, any Change in Control requires prior approval of SEBI. Further, SEBI circulars issued in 2014 laid out the entire process to be followed in case of Change in Control. However, there was no specific clarification regarding a Change in Control involving a scheme of arrangement. Typically, the manager and/or sponsors would run the process with SEBI in parallel after filing the scheme of arrangement with the NCLT. SEBI has now clarified that in case of a scheme related to Change in Control, the applicant should apply to SEBI for an in-principle approval before filing with NCLT. Upon SEBI’s satisfaction, it will grant in-principle approval to the applicant manager/sponsor, which will be valid for 3 months, within which the application should be made to NCLT. Upon receipt of the NCLT order, the applicant will submit an application to SEBI for final approval.

In the coming months, we expect to see further developments in the policy on SSFs basis market reaction as various fund managers evaluate options between SSF, Asset Reconstruction Company and Category II-AIFs. The IFSC Fund Management Regulations have been released with few changes from the draft form. It will be interesting to see the response of existing fund managers managing AIFs in GIFT City and fund managers proposing to set-up AIFs in GIFT City.

More in this issue