In recent years, asset management in India has seen significant traction with the capital markets regulator Securities and Exchange Board of India (SEBI) enacting regulatory reforms governing private investment funds, managers portfolio and investment advisers.
Interestingly, what started out as an interventionist regulatory framework intended to provide investor protection, now appears to be evolving into a cautionary or “watch out for buyers” regime, relying on the well-informed decision-making from sophisticated, high-priced investors. with a higher risk appetite.
The principle of caveat emptor is embodied in SEBI’s recent introduction of the concept of Accredited Investors (ACI) into its regulatory regimes governing investment funds, portfolio managers and investment advisers.
The concept of ACI is well established in advanced asset management jurisdictions such as Singapore, Hong Kong and the United States of America, for which certain regulatory requirements are relaxed due to their higher risk appetite and possession of sector-specific knowledge.
While close regulatory oversight has been a defining feature of SEBI regulations in the past, the introduction of ACIs is a welcome step, in line with the industry’s longstanding demand to differentiate retail and sophisticated investors. .
In this update, we analyze the recent Gazette notifications of August 3, 2021 amending the SEBI (Alternative Investment Funds) Regulations of 2012 (FIA Regulations), the SEBI (Investment Advisers) Regulations 2013 (IA Regulations) and The SEBI (Portfolio Managers) Regulations, 2020 (PM regulations) (collectively, the amendments) which introduced the concept of ICA into all three regulations.
What is an ACI?
In February 2021, SEBI released a consultation document outlining the construction of ACIs seeking public comment (consultation document). The culminating changes to the FIA ââRules provide a broad definition of AICs, summarized below, subject to their proper certification by an accreditation agency (being a subsidiary of a recognized stock exchange or custodian or other entities that may be specified by SEBI):
The AI ââRules also adopted the above construction of AIC (as enshrined in the AIF Rules). However, a slightly modified approach has been taken for the purposes of the PM Regulation, which defines ACIs as persons who meet the eligibility criteria as prescribed by the SEBI and who have obtained a certificate of accreditation by an agency of accreditation.
We anticipate that SEBI will soon issue circulars detailing the conditions governing accreditation agencies and the granting of certification to ACIs for each of the aforementioned regulations.
Specific relaxations for AIFs, PMs and IAs
The amendments make the following changes to the regulatory regime:
The amendment to the AIF Regulations introduces the concept of high value funds for qualified investors (LVFAI), which are AIFs raising funds only from ACI (except commitments of their manager, sponsor or employees or directors of the manager) , each of which commits a minimum of Rs 70 crore to the fund.
LVFAIs will benefit from relaxed diversification standards – allowing Category I and II AIFs to invest up to 50% of their investable corpus in a single portfolio company (compared to the 25% limit for other AIFs in the same category) and category III AIFs to invest up to 20% of their investable funds (compared to the limit of 10% for other AIFs of the same category). This allows LVFAIs to explore arrangements with double the size of the ticket that is otherwise allowed for other IFAs of the same category.
Additional exemptions available to LVFAIs include the ability to extend their tenure beyond the two-year limit in accordance with their fund documents. End-of-term AIFs face typical challenges due to the strict deadlines of AIF regulations, and are required to enter the liquidation phase after exhausting the two-year extension allowed under AIF regulations. , even when commercially investors and the manager do not see it as the best option for the fund.
Failure to do so may be considered a violation of the FIA ââRegulations. LVFAIs, however, can now extend their tenure in accordance with their fund documents, providing greater flexibility in defining the path of the fund.
LVFAIs are also exempt from the obligation to file private placement memorandums of their subsequent schemes with SEBI thirty days before the launch of a scheme, which facilitates regulatory control once AIF registration has been granted.
In accordance with the SEBI standards in force, LVFAI will also benefit from the exemption from the PPM format prescribed by SEBI and may obtain an exemption from liability prescribed for the AIF investment committee, under certain conditions.
Building on the changes made to the AIF Regulations, the PM Regulations have now introduced the following concepts:
- High Value Accredited Investors (LVAI) who invest at least Rs 10 crore with the portfolio manager: The requirement to enter into an agreement to provide services to these investors in the prescribed format with SEBI has been removed for LVAIs.
In addition, a portfolio manager may provide services for investments in unlisted securities of up to 100% of the assets under management of an LVAI, subject to adequate information and a contractual agreement; and
- ACI: As noted above, a slightly modified definition of ACI has been adopted by the PM Regulations, extending to any person who meets the eligibility criteria that may be specified by the SEBI and who has obtained a certificate of ‘accreditation of an accreditation agency. Portfolio managers who accept money from ACIs are not required to meet the minimum investment amount (Rs 5 million), which applies to other PM clients.
The consultation document envisioned exempting IAs working with IAs from the requirement to incorporate the mandatory terms of the client-IA agreement and the limits and fee modes charged by the IA.
Although the changes simply recognized the concept of ICA for the purposes of the IA Regulations without providing specific benefits, it is expected that the benefits discussed in the consultation document will soon be notified by SEBI.
Global comparison and way forward
A quick review of the regulatory regime in a few mature and mature asset management jurisdictions (such as Singapore and the United States of America) reveals one thing in common: the governance of an investment fund or advisory platform. is generally governed by the terms of the contractual agreement. agreement between an investor and the advisor.
It goes without saying that if India is to compete with its counterparts in terms of providing a strong and conducive environment for asset management, it should allow sufficient leeway for accredited investors to negotiate the terms of their engagement. with their professional advisers. For this reason, the absence of regulatory formats, agreements and documentation is a welcome step.
Specifically for LVFAIs, a case to exempt them from the conditions prescribed by the SEBI for the exercise of leverage and borrowing by AIFs, and restrictions on the issuance of units to specific investors with separate portfolios also seems justified.
In our view, the Amendments are a further change of direction in the approach of regulators to the regulation of Indian asset management and advisers.
Vivaik Sharma is a partner and Rohan Priyadarshi and Swaha Sinha are partners at Cyril Amarchand Mangaldas. Opinions are personal.