REIT, InvIT Subordinate Units: Examining SEBI’s Additional Proposals

On 10 January 2024, the Securities and Exchange Board of India (“SEBI”) released a consultation paper, titled “Additional Proposals Regarding Framework for Issuance of Subordinate Units–REITs and InvITs”.[i] This paper adds on to the proposals suggested by SEBI in its consultation paper on the same subject, issued last month (“2023 Proposals”).[ii] The latest consultation paper by SEBI suggests substantial changes to the regulatory framework regarding subordinate units issued by Real Estate Investment Trusts (“REITs”) or Infrastructure Investment Trusts (“InvITs”), which have been discussed in this article.

Background

The existing framework governing REITs and InvITs provides for all unit holders to have equal rights, as regards voting rights and right of distribution. However, it is permissible to issue “subordinate units” exclusively to sponsors or their associates. Sponsors under the SEBI (REIT) Regulations, 2014, are those persons who set up the REIT.[iii] The subordinate units issued to sponsors have inferior voting rights or any other rights compared to ordinary units.[iv] The consultation paper, thereby, proposes changes to three aspects linked to the issuance of subordinate rights by REITs and InvITs. These are (i) incorporating a ceiling on subordinate units which can be issued to sponsors or their associates; (ii) bringing uniformity in the nature of rights conferred by subordinate units; and (iii) dealing with changes in terms and conditions of the subordinate units after issuance.

Additional Proposals

The first proposal deals with the specification of a ceiling (in percentage) on subordinate units issued by REITs or InvITs. The paper acknowledges that subordinate units are primarily issued to bridge the difference in the valuation of an asset, as perceived by the sponsor and the REIT or InvIT. This point is explained with an illustration, wherein the sponsor’s asset valuation and the REIT’s asset valuation have a difference of INR 100 crores. In such a case, the REIT can issue subordinate units for this amount. The terms of issuance of such REITs may also provide for the conversion of the subordinate units into ordinary units after 5 years if specific pre-decided performance benchmarks are satisfied.

The problem identified by SEBI with the existing framework is two-fold. Firstly, if the performance benchmarks are met, the units will automatically be converted into ordinary units, resulting in the benefits of capital appreciation accruing only to the sponsor. Secondly, the conversion to ordinary units would necessarily dilute the holding of the existing unit holders of the REIT or InvIT. Keeping this in mind, the proposal seeks to limit the issuance of subordinate units at the time of acquisition to 10% of the price at which the asset is acquired.

The second aspect covered in the paper deals with bringing uniformity in the nature of rights that subordinate units confer on the sponsors or their affiliates. Owing to the lack of clarity on what kind of rights the subordinate units confer on the unit holders, it is proposed that the subordinate units shall only carry inferior voting rights, inferior distribution rights, or both. In addition to this, REITs will not be permitted to issue multiple classes of subordinate units. This means that an REIT would not be able to issue one class of subordinate units with 40% distribution rights and another class with 70% distribution rights.

The third aspect revolves around the permissibility of changing terms and conditions after the issuance of the units. The 2023 Proposals envisaged a one-time extension of the entitlement date, which is the date on which the subordinate units get converted into ordinary units if the required benchmarks are satisfied. However, this one-time extension of the entitlement date was subject to stringent conditions. Recognising the importance of the terms and conditions of the issuance of the subordinate units, which include inter-alia the performance benchmark agreed upon for conversion into ordinary units, SEBI proposes to prohibit any amendment to the terms and conditions of the subordinate units after their issuance. 

Conclusion

SEBI’s consultation paper seeks to expand on the 2023 Proposals and make it even more comprehensive and detailed. The proposals aim to prioritise the interests of the individual unit holders of the REITs and InvITs, especially retail investors. This is evident from the consultation paper, with many of the proposed changes being put forth with the intention of putting investors or unit holders on the same pedestal as the sponsor, a case in point being the capped limit proposed for issuance of subordinate units so that the holding of the investors is not diluted by a sizeable margin. Additionally, the proposals concerning the nature of rights emanating out of subordinate units, and prohibition on changing vital terms and conditions after the issuance of the units, are an effort to bring in much-needed uniformity and clarity to the framework for issuance of subordinate units by REITs and InvITs.

References:

[i] Available at: https://www.sebi.gov.in/reports-and-statistics/reports/jan-2024/consultation-paper-on-additional-proposals-regarding-framework-for-issuance-of-subordinate-units-reits-and-invits_80548.html.

[ii] Consultation Paper on Framework for issuance of subordinate units and Unit Based Employee Benefits –REITs and InvITs; available at: https://www.sebi.gov.in/web/?file=https://www.sebi.gov.in/sebi_data/attachdocs/dec-2023/1702062121907.pdf#page=1&zoom=120,-6,792

[iii] Regulation 2(zt) of the SEBI (REIT) Regulations, 2014; available at: https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-real-estate-investment-trusts-regulations-2014-last-amended-on-february-14-2023-_68061.html

[iv] Regulation 4(2)(g) of the SEBI (REIT) Regulations, 2014; available at:  https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-real-estate-investment-trusts-regulations-2014-last-amended-on-february-14-2023-_68061.html

Image Credits:

Photo by Pasqualino Capobianco on Unsplash

SEBI’s proposals aim to prioritise the interests of the individual unit holders of the REITs and InvITs, especially retail investors. This is evident from the consultation paper, with many of the proposed changes being put forth with the intention of putting investors or unit holders on the same pedestal as the sponsor, a case in point being the capped limit proposed for issuance of subordinate units so that the holding of the investors is not diluted by a sizeable margin. Additionally, the proposals concerning the nature of rights emanating out of subordinate units, and prohibition on changing vital terms and conditions after the issuance of the units, are an effort to bring in much-needed uniformity and clarity to the framework for issuance of subordinate units by REITs and InvITs.

Related Posts

POST A COMMENT

Fast Track Public Issue of Debt Securities: Analysing SEBI’s Paper

Recently, the Securities and Exchange Board of India (“SEBI”) published a consultation paper[1] on the review of provisions under the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015[2] (“LODR Regulations”) and the SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021[3] (“NCS Regulations”). This consultation paper seeks to promote ease of doing business (“EODB”) and reduce compliance burdens on corporate entities by suggesting certain amendments to the LODR Regulations and NCS Regulations. In addition to the proposed amendments, the consultation paper also introduces the concept of ‘fast track’ public issuance and listing of debt securities.

In the Union Budget for Financial Year (“FY”) 2023-24, one of the announcements was regarding the need to carry out a comprehensive review of existing regulations to ease, simplify and reduce the cost of compliance. To implement the same, SEBI constituted a working group to suggest measures to promote EODB for listed debt issuers and review the LODR and NCS Regulations.

Proposed Relaxations to the LODR and NCS Regulations

Last year, a circular[4] issued by SEBI mandated the face value of each debt security[5] or non-convertible redeemable preference share (“NCRPS”) issued on a private placement basis to be Rs. 1 Lakh, which has now been proposed to be reduced to Rs. 10,000.00. The reasoning behind this proposal is to promote investments by non-institutional investors for whom such a high ticket size would act as an impediment to accessing the market for such securities. 

Clause 3.3.10 of Schedule I of the NCS Regulations mandates that the debt issuer company has to disclose its audited financial statements for the last three FYs in its offer document.[6] To reduce the file size of the offer document, the consultation paper provides that the statements should be accessible through a QR Code which opens the web link to the audited financial statements on the stock exchange’s website.  

Further, the said Schedule states that corporate entities should provide specified information for the preceding three financial years and the current financial year.[7] The consultation paper proposes that instead of providing the information for the current financial year (i.e. as on date) it shall be limited to the latest quarter of that financial year. This is to make it easier for debt issuers to close books of account to finalise certain information such as related party transactions and borrowings.

Schedule I of the NCS Regulations also specifies that the disclosures with respect to record date have to be made as part of the summary sheet in the offer document.[8] In market parlance, the shut period refers to the number of days between the record date and the interest payment or redemption date. The consultation paper proposes to standardise the record dates at 15 days before the due date of payment of interest or redemption.

According to Regulation 40 of NCS Regulations, the debt issuer is required to obtain a due diligence certificate from the debenture trustee at the time of filling of the draft offer document and at the time of listing.[9] The consultation paper provides a format for the due diligence certificate which appears to be aimed at harmonising the formats for the certificate under Chapter II of SEBI’s Master Circular for Debenture Trustees and the NCS Regulations.

Regulation 52(8) of LODR Regulations[10] requires a listed entity to publish financial results within two working days (on conclusion of the board of directors’ meeting) in newspapers. SEBI’s paper proposes to leave it to the discretion of the listed entity to decide whether or not to publish the results in newspapers. The reasoning seems to be that the financial results will already be sent to stock exchanges within 30 minutes of the closure of board meetings, and on board approval, the results get published on the websites of the entity and the stock exchange.

Fast Track Public Issuance and Listing of Debt Securities

The consultation paper notes that approximately 98% of the funds raised through the issuance of debt securities are on a private placement basis and nearly 95% of the issuers utilise the private placement route to meet their debt fund requirements. At present, Regulation 5 of the NCS Regulations provides that an issuer can raise funds through a public issuance of debt securities or by way of a private placement of non-convertible securities.[11] In India, the corporate bond market is largely a private placement market. Moreover, the non-institutional participation in the corporate debt market has been less than 2%. Thus, the present framework is introduced to promote public issuances in the corporate debt market and to boost the participation of non-institutional investors.

Eligibility Criteria for the Fast Track Issue Process

  • The issuer should be eligible as per Regulation 5 of the NCS Regulations.
  • The issuers NCSs or specified securities or units of REITs or InvITs should be listed on a stock exchange for a minimum period of three consecutive years.
  • The issuer should be in compliance with the LODR, REIT, and InvIT Regulations at the time of making the issue.
  • Debt securities being issued should have been assigned a rating of not less than “AA-” or equivalent.
  • There has been no downgrade in the rating of the issuer, by two notches or more in the last 2 financial years.
  • No regulatory action under such regulations, as specified from time to time, is pending against the issuer or its promoters or directors, sponsors, or investment managers, as applicable, before the Board. The issuer will be subject to such requirements as may be specified by its own principal or other financial regulator.
  • The issuer shall not be in default of:
    • Repayment of deposits or interest payable or any term loan or interest payable thereon.
    • Redemption of preference shares or debt securities and interest payable thereon.
    • Payment of dividend to any shareholder.

Proposed Fast Track Issue Process

Sr. No.

Key Steps

Recommendations regarding Fast Track Public Issue

1.       

Requirement of Prospectus

It is proposed to extend the applicability of the GID[12] and KID[13] concepts for the introduction of a common document for both fast track public issues and private placements.

2.       

Filing time for Draft GID

Comments need to be sought from the public on a draft offer document within 2 working days.

3.       

Disclosures in GID and KID

GID should consist of all the disclosures as mentioned under Schedule I of NCS Regulations.

KID should contain: Part A (all relevant disclosures not in GID) and Part B (details of the offer of debt securities)

4.       

Digital Statutory Advertisement

Newspaper advertisements could be done away with and issuers may be allowed to utilise electronic modes including advertisements on relevant websites.

5.       

Period of Subscription

Fast Track Public Issue shall be kept open for a minimum of 1 working day and a maximum of 10 working days, with an extension of 1 working day.

6.       

Minimum Subscription

The requirement of minimum subscription for banks and entities in the financial sector may be done away with.

7.       

Retention of Over Subscription

Retention limit is to be fixed at a maximum of 5 times of base issue size.

8.       

Timeline for Listing

3 days from the date of closure of the issue.

9.       

Preparation of Offer Document

Timeline brought down to 2 – 3 weeks.

Conclusion

The consultation paper demonstrates a strong commitment towards increasing the ease of doing business and improving disclosure requirements. Further, SEBI has addressed specific issues to enhance the participation of retail investors and facilitate public issuances in the debt market. While provisions pertaining to QR code for accessing audited financial statements and discretion to publish financial results in newspapers will be of immense help to stakeholders, the same are likely to have positive spillover effects of promoting digitisation as well.

References:

[1]Consultation paper on review of provisions of NCS Regulations and LODR Regulations for ease of doing business and introduction of fast-track public issuance of debt securities, available at https://www.sebi.gov.in/reports-and-statistics/reports/dec-2023/consultation-paper-on-review-of-provisions-of-ncs-regulations-and-lodr-regulations-for-ease-of-doing-business-and-introduction-of-fast-track-public-issuance-of-debt-securities_79762.html

[2]https://www.sebi.gov.in/legal/regulations/oct-2023/securities-and-exchange-board-of-india-listing-obligations-and-disclosure-requirements-regulations-2015-last-amended-on-october-23-2023-_78921.html

[3]https://www.sebi.gov.in/legal/regulations/jul-2023/web-upload-of-the-securities-and-exchange-board-of-india-issue-and-listing-of-non-convertible-securities-regulations-2021-last-amended-on-july-6-2023-_73664.html

[4] SEBI vide circular dated October 28, 2022, specified provisions pertaining to denomination of issuance and trading of Non-convertible Securities (now incorporated in Chapter V of the Operational Circular no. SEBI/HO/DDHS/P/CIR/2021/613 dated August 10, 2021).

[5] ‘Debt Securities’ are defined under Section (2)(k) of the NCS Regulation as non-convertible debt securities with a fixed maturity period which create  or  acknowledge  indebtedness  and  includes debentures,  bonds  or  any  other security whether  constituting  a  charge  on  the  assets/properties  or  not, but  excludes security  receipts,  securitized  debt instruments, money  market  instruments  regulated  by the Reserve Bank of India, and bonds issued by the Government or such other bodies as may be specified by SEBI.

[6] 3.3.10 (a) The audited financial statements (i.e. profit and loss statement, balance sheet and cash flow statement) both on a standalone and consolidated basis for a period of three completed years, which shall not be more than six months old from the date of the issue document or issue opening date, as applicable. Such financial statements shall be audited and certified by the statutory auditor(s) who holds a valid certificate issued by the Peer Review Board of the Institute of Chartered Accountants of India (“ICAI”).

[7] Schedule – I of Securities and Exchange Board of India (Issue and Listing of Non-Convertible Securities) Regulations 2021.

[8] Summary of terms – Terms to be included in the issue document.

[9] 40. The debenture trustee shall, at the time of filing the draft offer document with the stock exchange(s) and prior to opening of the public issue of debt securities, furnish to the Board and stock exchange(s), a due diligence certificate: (a) in case of secured debt securities, in the format as specified in Schedule IV of these regulations; and (b) in case of unsecured debt securities, in the format as specified in Schedule IVA of these regulations.

[10] 52 (8) The listed entity shall, within two working days of the conclusion of the meeting of the board  of  directors,  publish  the  financial  results  and the  line  items referred  to  in  sub-regulation (4), in at least one English national daily newspaper circulating in the whole or substantially the whole of India; Provided that if the listed entity has submitted both standalone and consolidated financial results, to the stock exchange(s), it shall publish consolidated financial results along with the line items referred to in sub-regulation (4), in the newspaper.

[11] Regulation 5 of Securities and Exchange Board of India (Issue and Listing of Non-Convertible Securities) Regulations 2021.

[12] GID (General Information Document) will be common for all issues made by the issuer for the year (public or private).

[13] KID (Key Information Document) for the private placement will be sent only to a select group of persons for subscription, whereas the KID for a fast-track public issue will be made available to the public.

Image Credits:

Photo by freedomz on Canva

The consultation paper demonstrates a strong commitment towards increasing the ease of doing business and improving disclosure requirements. Further, SEBI has addressed specific issues to enhance the participation of retail investors and facilitate public issuances in the debt market. While provisions pertaining to QR code for accessing audited financial statements and discretion to publish financial results in newspapers will be of immense help to stakeholders, the same are likely to have positive spillover effects of promoting digitisation as well.

Related Posts

POST A COMMENT

REIT, InvIT Subordinate Units: Insights into Proposed Framework

The Securities and Exchange Board of India (“SEBI”) recently issued a consultation paper dated December 9, 2023 (“Consultation Paper”)[1], that deals with the lacunae in the SEBI (Real Estate Investment Trusts) Regulations, 2014 (“REIT Regulations”)[2] and SEBI (Infrastructure Investment Trusts) Regulations, 2014 (“InvIT Regulations”)[3] regarding the issuance of subordinate units and employee benefits. The objective of the Consultation Paper is to propose a regulatory framework for issuing subordinate units of REITs and InvITs to sponsor(s), their associates and sponsor group. Vide this Consultation Paper, SEBI also seeks opinion on the framework for unit-based benefits for the employees of the Manager of REIT and the Investment Manager of InvIT.

Framework for Issuing Subordinate Units

Regulation 4(2)(g) of the REIT Regulations and Regulation 4(2)(h) of the InvIT Regulations provide for equality among unit holders, ensuring no superior voting or additional rights for any individual. However, the proviso to these regulations allows for the issuance of subordinate units exclusively to sponsors and their associates. These subordinate units, while maintaining an overall sense of equality, have inferior voting or other rights compared to regular units, establishing a distinct category for sponsors and associates within the regulatory framework. Nevertheless, SEBI, to date, has not prescribed a mechanism for the mode and conditions of issuing subordinate units to sponsors and their associates.

SEBI’s Hybrid Securities Advisory Committee (“HySAC”)[4] has proposed several significant norms central to the fact that subordinate units are issued only to the sponsor(s), its associates and sponsor group and these units are designed to bear inferior voting or other rights compared to regular units. Three significant aspects highlighted in the consultation paper are noteworthy. Firstly, these subordinate units can be issued during the initial or subsequent offerings, but any post-initial issuance necessitates prior approval from 75% of unitholders by value, excluding votes from sponsors, associates, and related parties. Secondly, subordinate units come with a mandatory lock-in period until conversion to ordinary units or extinguishment, with a minimum one-year gap between issuance and conversion. The regulation prescribes that converted units shall be listed and tradeable on the stock exchanges only upon approval from the stock exchanges. Finally, following the issuance of subordinate units, any proposed modifications to their terms and conditions highlighted in the REIT or InvIT Trust Deed require approval from 75% of ordinary unitholders by value and unanimous approval from subordinate unitholders. The framework also covers the recommendation and conversion process, performance benchmarks the requirement of audit, and the need for unitholder approvals in case of changes to the terms and conditions of subordinate units.

Employee Incentives for REIT or InvIT Management

Any company or LLP or body corporate incorporated in India which manages assets and investments of the REIT or InvIT and undertakes operational activities of the trust constitutes a manager of the REIT[5] or Investment manager of InvIT[6] (collectively referred to as “Management”), respectively. In its Consultation Paper[7], SEBI proposes Unit Based Employee Benefits (“UBEB”) catered toward Employees of the Manager of REIT or Investment Manager of InvIT (“REIT or InvIT Employees”), in the hope that structure would foster better alignment of REIT or InvIT Employee interests with the respective trust.

Key elements of this framework include the creation of a distinct Employee Benefit Trust (“EBT“) at the discretion of the Management of the respective trusts. EBTs are designed to acquire units of REIT or InvIT from the shareholders of the Management or via subscription in lieu of management fees. If units are allotted to the EBT in exchange for management fees, specific conditions come into play, including the requirement for approval by 75% of unitholders and considerations for pricing based on factors like net asset value and market price. Importantly, units of such nature cannot be sold or transferred for purposes other than that of employee benefit. The framework additionally ensures regulatory compliance by imposing SEBI restrictions[8] on the Manager, Investment Manager, and associated businesses. The Nomination and Remuneration Committee is responsible for creating guidelines that guarantee conformity to securities regulations, with a focus on legal compliance and transparency.

Analysis

The proposed framework under the consultation paper appears to be comprehensive and addresses several important aspects such as eligibility, voting rights, approval processes, and disclosure requirements, providing a robust structure for market participants.  Also, the proposal regarding the creation of a separate EBT and mechanisms for it to receive REIT or InvIT units is aimed at balancing overall trust interest with employee incentives, emphasising transparency and accountability of management. While the framework aligns interests and emphasises transparency, it allows for the issuance of units to be done only once a year, within sixty days after the completion of the annual valuation exercise, which seems excessive in light of the rapid real estate market fluctuations, potentially leading to the EBT acquiring the unit at a price higher than market value. 

References:

[1] Consultation paper on Framework for issuance of subordinate units and Unit Based Employee Benefits – REITs and InvITs, available at https://www.sebi.gov.in/reports-and-statistics/reports/dec-2023/consultation-paper-on-framework-for-issuance-of-subordinate-units-and-unit-based-employee-benefits-reits-and-invits_79760.html

[2] Securities and Exchange Board of India (Real Estate Investment Trusts) Regulations 2014 [Last amended on February 14, 2023], available at https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-real-estate-investment-trusts-regulations-2014-last-amended-on-february-14-2023-_68061.html

[3] Securities and Exchange Board of India (Infrastructure Investment Trusts) Regulations, 2014 [Last amended on February 14, 2023], available at https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-infrastructure-investment-trusts-regulations-2014-last-amended-on-february-14-2023-_68062.html

[4] SEBI’s Hybrid Securities Advisory Committee (“HySAC”) deliberated on November 15, 2022

[5] Reg. 2(1)(w) of the Securities and Exchange Board of India (Real Estate Investment Trusts) Regulations 2014 [Last amended on February 14, 2023], available at https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-real-estate-investment-trusts-regulations-2014-last-amended-on-february-14-2023-_68061.html

[6] Reg. 2(1)(zf) of the Securities and Exchange Board of India (Infrastructure Investment Trusts) Regulations, 2014 [Last amended on February 14, 2023], available at https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-infrastructure-investment-trusts-regulations-2014-last-amended-on-february-14-2023-_68062.html

[7] Decided on the basis of deliberations of SEBI’s Hybrid Securities Advisory Committee (“HySAC”) on February 28, 2023 and June 1, 2023

[8] Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations, 2015 [Last amended on November 24, 2022], available at https://www.sebi.gov.in/legal/regulations/nov-2022/securities-and-exchange-board-of-india-prohibition-of-insider-trading-regulations-2015-last-amended-on-november-24-2022_65864.html and the Securities and Exchange Board of India (Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations, 2003 [Last amended on January 25, 2022], available at https://sebi.gov.in/legal/regulations/jan-2022/securities-and-exchange-board-of-india-prohibition-of-fraudulent-and-unfair-trade-practices-relating-to-securities-market-regulations-2003-last-amended-on-january-25-2022-_55604.html

Image Credits:

Photo by Christian Wiediger on Unsplash

The proposed framework under the consultation paper appears to be comprehensive and addresses several important aspects such as eligibility, voting rights, approval processes, and disclosure requirements, providing a robust structure for market participants.  Also, the proposal regarding the creation of a separate EBT and mechanisms for it to receive REIT or InvIT units is aimed at balancing overall trust interest with employee incentives, emphasising transparency and accountability of management. While the framework aligns interests and emphasises transparency, it allows for the issuance of units to be done only once a year, within sixty days after the completion of the annual valuation exercise, which seems excessive in light of the rapid real estate market fluctuations, potentially leading to the EBT acquiring the unit at a price higher than market value. 

Related Posts

POST A COMMENT

Insider Trading Regulations: SEBI’s Proposals at a Glance

On November 24, 2023, the Securities and Exchange Board of India (SEBI) released a consultation paper with proposals to facilitate the adoption of trading plans (TPs) by insiders (such as individuals who are part of senior management or key managerial personnel, etc.) who may be perpetually in possession of Unpublished Price Sensitive Information (UPSI).

The Board considered it necessary to bring in changes to the 2015 Regulations, in light of the submission of a meagre number of TPs (i.e., 30) by insiders to stock exchanges over the last five years. In its report, the Working Group constituted by SEBI has zeroed in on existing provisions that deter insiders from adopting TPs and suggested certain amendments to the SEBI (Prohibition of Insider Trading) Regulations, 2015.

The recommendations contained in the consultation paper are as follows: –

  • Cool-off period to be brought down

Presently, a TP can be executed only after 6 months from the date of its public disclosure. However, market conditions while implementing the TP may be highly distinct from the time it was formulated, therefore, the consultation paper proposes to reduce the cool-off period, i.e., the period between the public disclosure of the TP and its execution, from 6 months to 4 months.

  • Reduction of the minimum coverage period

The consultation paper envisages reducing the minimum period of trading from 12 months to 2 months, as market uncertainty makes it difficult for insiders to plan 12 months in advance.

  • Removal of the black-out period requirement

Another major amendment proposed is the removal of the black-out period requirement. As per Regulation 5(2)(ii) of the 2015 Regulations, a TP should “not entail trading for the period between the twentieth trading day prior to the last day of any financial period for which results are required to be announced by the issuer of the securities and the second trading day after the disclosure of such financial results”. SEBI noted in its consultation paper that such a restriction considerably reduces the number of trading days available in the year for trading using a TP. Accordingly, the consultation paper has proposed that this provision be deleted in order to enable flexibility to execute trades.

  • Insiders can set price limits for trades

As per the draft amendments, an insider would be eligible to set price limits during the formulation of a TP. This is to protect insiders from the adverse effects of fluctuations in the price of securities, which would need to be within +/-20% of the closing price on the date of submission of the TP. In case of price fluctuations beyond the limit, the trade cannot be executed, i.e., an insider with a TP cannot go beyond the limit.

The limits so specified have to be within the stipulated range to ensure that insiders don’t misuse the provision and set unrealistic price limits to influence market participants.

  • Contra-trade restrictions to apply to trades executed under TP

Noting that the necessity to carry out contra-trade within a short period of time arises only on account of personal exigencies which cannot be planned in advance through TPs, it has been proposed to withdraw the exemption granted in this regard.

  • Disclosure of TP

  1. After approval of TP, the compliance officer has to notify the plan to stock exchanges (on which the securities are listed) within 2 days. Currently, there is no time limit in place for the same.
  2. The Working Group has further proposed certain suggestions to protect the privacy of insiders by masking their personal details while disclosing the TP to stock exchanges, as it may potentially lead to misuse or abuse of TPs by other insiders. Three such alternatives have been put forward with respect to the furnishing of personal details of insiders such as name, designation and PAN – a) masking of personal details b) continuing the existing procedure c) making two separate disclosures; one containing the full disclosure to be kept confidential by stock exchanges and the other without personal details to be publicly made available. A common reference number with a time stamp is proposed to be added on filings which will act as a unique identifier to prevent any possible misuse arising from masking of names from the public.
  3. Additionally, it is recommended that a format for reporting details of TP be prepared in consultation with market participants.

Remarks

Overall, the proposals suggested in the consultation paper are broadly positive, since it appears that SEBI has received and appreciated the challenges faced by insiders using trading plans. We will need to wait to see what public comments are received, and whether SEBI implements these proposed changes by notifying amendments to the SEBI (Prohibition of Insider Trading) Regulations soon.

Image Credits:

Photo by uschools on Canva 

As per the draft amendments, an insider would be eligible to set price limits during the formulation of a TP. This is to protect insiders from the adverse effects of fluctuations in the price of securities, which would need to be within +/-20% of the closing price on the date of submission of the TP. In case of price fluctuations beyond the limit, the trade cannot be executed, i.e., an insider with a TP cannot go beyond the limit.

Related Posts

POST A COMMENT

SEBI’s Order Underlines the Importance of Disclosures

On September 12, 2023, the Securities and Exchange Board of India (SEBI) passed an adjudication order against Reliance Home Finance Limited (“RHFL”).[i] The order brings forth the crucial role of SEBI’s disclosure norms, and how non-compliance can cost entities dearly.

The order deals with findings against four entities – the first of which is RHFL. The other three being the key managerial personnel (“KMP”) of RHFL during the examination period. The order revolved around violation of SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015[ii] (“LODR Regulations”), SEBI (Issue and Listing of Debt Securities) Regulations, 2008[iii] (“ILDS Regulations”) and SEBI (Debenture Trustee) Regulations, 1993[iv] (“DT Regulations”).

Issues Involved

The primary issues in consideration before the Adjudicating Officer (“AO”) against RHFL can be summarised below:

S. No.

Violated Regulation(s)

Issue Description

1.       

Regulation 32 of the LODR Regulations

Statement of deviation, i.e., any deviation in the use of the proceeds from the objects stated in the offer document must be submitted to the stock exchange.

2.       

Regulation 30(10) of the LODR Regulations

The listed entity must reply to all queries raised by stock exchange(s).

3.       

Regulation 54 of the LODR Regulations

Maintenance of 100% asset cover sufficient to discharge the principal amount at all times.

4.       

Regulation 56(2) of the LODR Regulations

Submission of documents/ disclosures to the Debenture Trustee (“DT”).

5.       

Regulation 16(1) of the ILDS Regulations

Creation of debenture redemption reserve as per the Companies Act, 2013.

SEBI’s Findings and Analysis

  1. The primary contention by SEBI was that RHFL diverted the proceeds raised from the issue of non-convertible debentures (“NCDs”) to certain body corporates including group companies of RHFL. SEBI relied on the qualified opinion of the statutory auditor’s report which stated “Loan advanced under the ‘General-Purpose Corporate Loan’ product with significant deviations to certain bodies corporate including group companies and outstanding as on 31 March 2020 aggregating to Rs. 7,965.24 crores…majority of Company’s borrowers have undertaken onward lending transaction and end use of the borrowings from the Company included borrowings by or for repayment of financial obligation to some of the group companies.”
  1. The AO thus held that the onward lending transaction which resulted in borrowings by or for repayment of obligations to some group companies clearly deviated from the objects of the issue of the NCDs. Consequently, the failure to report such a deviation to stock exchanges on a quarterly basis violated Regulation 32 of the LODR Regulations.
  1. Issue number 2 pertains to the failure to provide a specific and adequate reply to all queries of the stock exchanges. The background behind this issue was the issuance of a press release by RHFL, in which it indicated that there were no adverse findings in the forensic audit report carried out. RHFL claimed that it had disclosed details of lending to the tune of Rs. 7, 984 crores to indirectly linked entities. Later, a media article was published titled “RHFL gave Rs 12,000 crore loans to ‘indirectly linked’ borrowers: Forensic audit.” Questions were raised by stock exchanges about these contradicting figures, which were not answered by RHFL. Thus, as per the AO, there was a failure to adequately and specifically respond to all queries raised by exchanges, in violation of Regulation 30(10) of LODR Regulations, which mandates that a listed entity has to provide “specific and adequate reply to all queries raised by stock exchanges.”
  1. SEBI also alleged that RHFL failed to maintain 100% asset cover sufficient to discharge the principal amount at all times for NCDs issued, as mandated under Regulation 54 (1) and (2) of the LODR Regulations. The order noted how the Notes to the financial statements for the financial year (FY) 2019-20, RHFL disclosed that it could not maintain the required security cover. Additionally, RHFL responded to SEBI’s allegation by submitting that “on account of adverse conditions in the financial sector in the FY 2018-2019, (RHFL) was unable to comply with the requirement for maintenance of 100% of asset cover.” Owing to the admission of default by RHFL, the AO held that the allegations by SEBI stand clearly established.
  1. As per Regulation 56(2) of LODR Regulations, read with Regulation 15(1)(t) of the DT Regulations, periodical reports/ documents/ disclosures have to be submitted by the DT. RHFL claimed to have submitted all necessary disclosures, albeit with delay. However, they provided no documentary evidence of having done so, except from mere statements, as per the AO. Additionally, RHFL contended that due to the sudden onset of the COVID-19 pandemic and subsequent lockdown, they were unable to submit the documents to the DT. However, the AO rejected this contention as well, stating that the failure to submit documents sought by the DT extended even prior to the onset of the pandemic and nationwide lockdown.
  1. SEBI alleged that RHFL violated Regulation 16(1) of ILDS Regulations, which mandates the creation of a Debenture Redemption Reserve (DRR) as per Rule 18(7) of Companies (Share Capital and Debentures) Rules, 2014. However, the AO noted in the order, that these rules were amended on August 16, 2019. This amendment removed the requirement of maintaining a DRR for housing finance companies registered with the National Housing Bank. Thus, it was held that the non-creation of DRR was not a violation of the ILDS Regulations.

Conclusion

Finally, the AO imposed a penalty of Rs. 15,00,000 against RHFL, under Section 15A(b) and Section 15HB of the SEBI Act. This order brings to the fore the importance of complying with disclosure norms for listed entities. Of late, SEBI has focused on tightening disclosure norms for companies. This is evident from the recent amendments to the LODR Regulations which mandate strict timelines and criteria for determining materiality of events. Non-compliance with SEBI regulations can and will invite strict action from SEBI, as seen from this adjudication order.

References:

[i] Adjudication Order in the matter of Reliance Home Finance Limited; available at: https://www.sebi.gov.in/enforcement/orders/sep-2023/adjudication-order-in-the-matter-of-reliance-home-finance-limited-_76787.html

[ii] Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations 2015; available at: https://www.sebi.gov.in/legal/regulations/aug-2023/securities-and-exchange-board-of-india-listing-obligations-and-disclosure-requirements-regulations-2015-last-amended-on-august-23-2023-_76498.html

[iii] https://www.sebi.gov.in/sebi_data/commondocs/ilds.pdf

[iv] SEBI (Issue and Listing of Debt Securities) Regulations, 2008; available at Securities and Exchange Board of India (Debenture Trustees) Regulations, 1993; available at: https://www.sebi.gov.in/legal/regulations/aug-2023/securities-and-exchange-board-of-india-debenture-trustees-regulations-1993-last-amended-on-august-18-2023-_76330.html

Image Credits:

Photo by Kubra Cavus: https://www.canva.com/photos/MAEEZhVPcRI-home-finance/

The order passed by the AO brings to the fore the importance of complying with disclosure norms for listed entities. Of late, SEBI has focused on tightening disclosure norms for companies. This is evident from the recent amendments to the LODR Regulations which mandate strict timelines and criteria for determining materiality of events. Non-compliance with SEBI regulations can and will invite strict action from SEBI, as seen from this adjudication order.

Related Posts

POST A COMMENT

Tackling Issues under Social Stock Exchange Framework: SEBI’s Recommendations

On August 29, 2023, the Securities and Exchange Board of India (“SEBI”) published a consultation paper in relation to easing the funding process for Non-Profit Organisations (“NPOs”) through Social Stock Exchanges (“SSE”) (“Consultation Paper”). SSE represents a groundbreaking initiative that intertwines capital markets with a resolute commitment to addressing social and environmental challenges.  Unlike conventional stock exchanges that predominantly focus on financial performance, entities listed on an SSE are required to adhere to comprehensive social and environmental criteria.

Background

SSEs were mentioned in the Union Budget speech for the financial year 2019-20 with the objective of creating a SEBI-regulated electronic fund-raising platform for listing social enterprises and voluntary organizations working for the realization of a social welfare objective so that they can raise capital as equity, debt or as units like a mutual fund.[1] Accordingly, SEBI prescribed the regulatory framework that governed SSEs through its circular dated September 19, 2022 (“Circular”).[2] An NOP may raise funds on SSE through (i) issuance of Zero Coupon Zero Principal Instruments (“ZCZP”); (ii) donations through mutual fund schemes; or (iii) any other means that SEBI may specify in future.[3] ZCZPs are issued to NPOs registered with SSEs, without any coupon and no principal amount is payable on its maturity.[4] At its core, the SSE is a specialized platform that connects conscientious investors with organizations dedicated to effecting positive social and environmental change.

The Existing Framework: Key Issues

The framework prescribed under the Circular had certain challenges, including the following: –

  • the minimum issue size and minimum application size for NPOs INR 1,00,00,000 and INR 2,00,000 were found to be quite high and deterred investors likely to subscribe to ZCZPs of more NPOs or who donate on a regular basis;
  • education institutions established under Section 10 (23C) of the Income Tax Act 1961, or institutes established or constituted by the Central or State government with the object of regulating or administrating any activity for the benefit of the general public under Section 10 (46) of the Income Tax Act 1961 may not be registered under Section 80G of the Income Tax Act 1961, and therefore could not register as an SSE under the existing framework;
  • SSE registrations required NPOs to not have any pending notice or ongoing income tax scrutiny, which could potentially block registration even for relatively minor income tax issues;
  • in terms of Section 292K(1) of the SEBI (Issue of Capital and Disclosure Requirements) Regulations 2018 read with paragraph D(5) of the Circular, an NPO is required to file a fundraising document with the SSE and should include details of social impact in terms of parameters which cover aspects prescribed under the AIR such as “Strategic Intent and Planning”, “Approach” and “Impact Score Card”. However, since most of the NPOs have carried out social impact assessments in the past, and in a format different from that prescribed by SEBI, duplicating the same in the SEBI-specified format would be a costly and time-consuming affair.

Changes Proposed under the Consultation Paper

Given the above, the Social Stock Exchange Advisory Committee (“SSEAC”), constituted by SEBI proposed the following measures: –

  • to reduce the minimum issue size and minimum application size to INR 50,00,000 and INR 10,000, respectively;
  • entities registered under Section 10(23C) and Section 10(46) of the Income Tax Act, 1961 may be considered eligible for registration as NPOs with SSE;
  • NPOs that received income tax notices or were subject to income tax scrutiny could still be considered for registration if such details were disclosed during the application process (along with any penalties being disclosed as paid or appealed within 7 days). However, an SSE could reject applications from NPOs if the disclosed income tax notices had grave implications; and
  • to enable time and cost efficiencies, NPOs should be allowed to provide the social impact assessment carried out by them in the past.

Conclusion

The changes proposed for discussion under the Consultation Paper (for which comments can be provided up to September 19, 2023) appear to be progressive and should open up more routes for the growth of SSEs in India, increased participation of a wider category of investors and provide an impetus to NPOs registering with SSEs.

References:

[1] https://www.indiabudget.gov.in/budget2019-20/doc/Budget_Speech.pdf.

[2] SEBI/HO/CFD/PoD-1/P/CIR/2022/120

[3] National Stock Exchange FAQs on SSE- https://static.nseindia.com//s3fs-public/inline-files/Social%20Stock%20Exchange%20FAQs_0.pdf.

[4] Section 292I of the SEBI (Issue of Capital and Disclosure Requirements) Regulations 2018.

Image Credits:

Photo by Thx4Stock: https://www.canva.com/photos/MAE56lfC6w8-hand-of-human-holding-earth-ecology-and-world-sustainable/

The changes proposed for discussion under the Consultation Paper (for which comments can be provided up to September 19, 2023) appear to be progressive and should open up more routes for the growth of SSEs in India, increased participation of a wider category of investors and provide an impetus to NPOs registering with SSEs.

Related Posts

POST A COMMENT

SEBI’s Paper on Finfluencers as Unregistered Investment Advisors

Recently, the Securities and Exchange Board of India (SEBI) floated a consultation paper proposing to limit the association of registered intermediaries or regulated entities with unregistered financial influencers.

Why is SEBI proposing action?

Of late, financial influencers have come under the radar of SEBI, owing to multiple instances of influencers selling pipe dreams to their viewers and advocating for various brands online. In May, SEBI barred a famous finfluencer from trading in the market for a year and ordered his firm to pay settlement and disgorgement fees.[i] The finfluencer was offering investment advisory services without being registered in violation of the Investment Advisers Regulations.[ii]

Most of these finfluencers have been successful in churning out content on often mundane financial topics for mass consumption, with their content being produced and edited to perfection. Their loyal “fan following” allows them to tender advice regarding investment opportunities. Thus, SEBI is now aiming to control financial advice by finfluencers not having the requisite expertise or knowledge, to protect the interests of retail investors. 

SEBI’s Proposal

SEBI’s consultation paper explains how finfluencers’ “referral business model” works. The primary concern of SEBI is that as finfluencers are not registered with the relevant financial sector regulator, they may lack “requisite qualifications or expertise on the subject.” Additionally, they may not even disclose any potential conflict of interest with brands or services that they promote. Influencers may be attempting to induce viewers to avail of certain products or services in return for (a) a referral fee for usage from the promoted entity (either a fixed fee or variable); (b) non-cash benefits; (c) compensation directly from the social media platform where content is shared; (d) profit sharing agreement with the underlying platform or product.

The regulator seeks to remedy this problem by limiting the association of SEBI-registered intermediaries/ entities and their agents with unregistered entities (which includes finfluencers). The goal of this step is to “disrupt the revenue model for such finfluencers, so that the perverse incentives in the ecosystem reduce.”[iii] It is proposed to bar SEBI-registered entities and their agents from having any association in any form with unregistered finfluencers. Registered entities will not be allowed to share any confidential information of their clients with any unregistered entity, including finfluencers. Finfluencers who have registered with SEBI, stock exchanges, or the Association of Mutual Funds India (AMFI) must display their registration number, contact details, and investor grievance redressal helpline, and make appropriate disclosures and disclaimers on all posts.[iv] In what will be a blow to finfluencers, SEBI plans to bar registered entities from paying trailing commissions based on the number of referrals as a referral fee while only allowing “limited” referrals from retail clients and payments for it.

Comments

SEBI’s proposal effectively directs regulated entities to dissociate themselves from any unregistered entity, while also actively reducing the scope for finfluencers to make profits through their referral-based business model. This step is in line with guidelines released by other entities like the Advertising Standards Council of India (ASCI), which recently revised its influencer advertising guidelines to place more responsibility on finfluencers. The amended ASCI guidelines mandate finfluencers operating in the Banking, Financial Services, and Insurance (BFSI) sector to have SEBI registration. Moreover, they must display their registration numbers clearly alongside their names and qualifications. In January 2023, the Department of Consumer Affairs released guidelines[v] for preventing misleading advertisements and endorsements, with a focus on celebrities, influencers, and virtual influencers.[vi] These guidelines mandated that disclosures about endorsements must be made in simple, clear terms and be prominently visible making them hard to miss. Failure to disclose any material connection would make violators liable for penalties. False and misleading advertisements can attract penalties of up to INR 50 lakhs under the Consumer Protection Act, 2019.[vii]

The proposal is a good step to ensure that the growing cases of fraud and misrepresentation in the online realm are controlled. Additionally, mandating finfluencers to register themselves with the market regulator will ensure accountability is affixed in case of any wrongdoing. A more subliminal impact would be recalibrating the expectations of retail investors with the market reality, as many finfluencers set wrong expectations from the market, which leads to eventual disappointment.

References:

[i] Settlement Order in respect of Mansun Consultancy Private Limited, Mr. P.R.Sundar and Ms. Mangayarkarasi Sundar; available at: https://www.sebi.gov.in/enforcement/orders/may-2023/settlement-order-in-respect-of-mansun-consultancy-private-limited-mr-p-r-sundar-and-ms-mangayarkarasi-sundar_71701.html

[ii] SEBI (Investment Advisers) Regulations, 2013; available at: https://www.sebi.gov.in/legal/regulations/feb-2023/securities-and-exchange-board-of-india-investment-advisers-regulations-2013-last-amended-on-february-07-2023-_69ss215.html

[iii] Clause 4.1; Securities and Exchange Board of India; “Consultation paper on Association of SEBI Registered Intermediaries/Regulated Entities with Unregistered Entities (including Finfluencers).

[iv] Clause 4.4; Securities and Exchange Board of India; “Consultation paper on Association of SEBI Registered Intermediaries/Regulated Entities with Unregistered Entities (including Finfluencers).

[v] Guidelines for Prevention of Misleading Advertisements and Endorsements for Misleading Advertisements, 2022; available at: https://consumeraffairs.nic.in/sites/default/files/CCPA_Notification.pdf

[vi] Endorsements For Celebrities, Influencers & Virtual Influencers on Social Media Platforms; available at: https://consumeraffairs.nic.in/sites/default/files/filefield_paths/Endorsement_Know-Hows.pdf

[vii] Section 21(2); Consumer Protection Act, 2019; available at: https://www.indiacode.nic.in/show-data?actid=AC_CEN_21_44_00007_201935_1596441164903&sectionId=50136&sectionno=21&orderno=21

Image Credits:

Photo by ktasimarr: https://www.canva.com/photos/MADm9NnOmUQ-digital-data-security-and-mobile-phone-security-technology/

SEBI’s consultation paper explains how finfluencers’ “referral business model” works. The primary concern of SEBI is that as finfluencers are not registered with the relevant financial sector regulator, they may lack “requisite qualifications or expertise on the subject.” Additionally, they may not even disclose any potential conflict of interest with brands or services that they promote. Influencers may be attempting to induce viewers to avail of certain products or services in return for (a) a referral fee for usage from the promoted entity (either a fixed fee or variable); (b) non-cash benefits; (c) compensation directly from the social media platform where content is shared; (d) profit sharing agreement with the underlying platform or product.

Related Posts

POST A COMMENT