SEBI Regulatory Update

There have been significant changes to the regulatory regime governing alternative investment funds (“AIFs”)[1] in the past year and a half. In its Board Meeting dated August 06, 2021, the Securities and Exchange Board of India (“SEBI”) approved a fresh set of amendments to the SEBI (Alternative Investment Funds) Regulations, 2012 (“AIF Regulations”), governing AIFs, intended to ease compliance requirements, provide greater investment flexibility and streamline regulatory processes. A regulatory circular giving effect to these proposed amendments is awaited.

In this regulatory update, we explore the changes to be brought about by these proposed amendments and its implications on the overall landscape for AIFs in India:

(a) Investment restrictions for Category I AIF – VCF

Venture capital funds, a sub-category of Category I AIFs (“VCFs”), are currently mandated by the AIF Regulations to invest at least two-thirds of their investable funds in unlisted equity shares or equity linked instruments of a venture capital undertaking or in companies listed or proposed to be listed on a SME exchange or SME segment of an exchange. This threshold has been proposed to be increased to seventy-five per cent of investable funds.

Further, amendments have also been proposed to remove the restriction, whereby not more than one-third of the investable funds of a VCF could be invested in initial public offerings of unlisted entities, debt instruments of venture capital undertakings, preferential allotment of shares of a listed entity and equity shares of a financially weak company or sick company whose shares are listed. This existing restriction with respect to investment of the residual portion of investable funds has been done away with.

(b) Minimum grants to Social Venture Funds

The regulatory minimum of INR 25 lakh that investors must grant in social venture funds, a sub-category of Category I AIFs has been done away with for accredited investors[2]. SEBI had earlier provided a similar exemption for accredited investors, wherein they would not be required to invest amounts higher than the prescribed minimum of INR 1 crore. Accordingly, this revision is consistent with the regime being developed by SEBI for accredited investors – those individuals or entities that are assumed to have a sophisticated and well-informed outlook towards investments in AIFs by virtue of their net-worth and/or annual income.

(c) Permission to issue partly paid up units

SEBI has proposed to allow allotment of units by AIFs in lieu of partial payment of consideration by investors. Accordingly, units may now be allotted on acceptance of an investor’s capital commitment, demonstrated through the execution of a contribution agreement as against actual receipt of monies. This welcome move by SEBI lays to rest the long-standing debate on permissibility of partly paid up units.

(d) Merchant Bankers to make PPM filings

Finally, SEBI has proposed that all private placement memoranda, the document required to be made available to investors prior to accepting capital commitments, be filed with SEBI through a merchant banker registered with the market regulator. Adding an extra layer to this regulatory process is intended to boost investor protection, bringing the process of private placement by an AIF closer to that of public issue of shares by companies, where merchant bankers play a crucial intermediary role. Accordingly, the addition of another player to the private placement process is expected to ensure closer scrutiny of the private placement memoranda filed with SEBI by merchant bankers. However, this change raises questions about time lags and increased compliance costs that fund managers may expect before they are able to launch their schemes, and the overall impact that this change could have on ease of doing business in India.

As noted above, the regulatory circular bringing these proposed amendments in force is awaited. Ultimately, since the devil lies in the details, it would be important to review the precise conditions laid down by SEBI under the awaited circular.

[1] An AIF is a professionally managed, privately placed pooled investment fund which raises money from investors to make investments in accordance with a defined investment policy.

[2] An accredited investor means any person who is granted a certificate of accreditation by an accreditation agency who,

(i) in case of an individual, Hindu Undivided Family, family trust or sole proprietorship has: (A) annual income of at least two crore rupees; or (B) net worth of at least seven crore fifty lakh rupees, out of which not less than three crores seventy-five lakh rupees is in the form of financial assets; or (C) annual income of at least one crore rupees and minimum net worth of five crore rupees, out of which not less than two crore fifty lakh rupees is in the form of financial assets.

(ii) in case of a body corporate, has net worth of at least fifty crore rupees;

(iii) in case of a trust other than family trust, has net worth of at least fifty crore rupees;

(iv) in case of a partnership firm set up under the Indian Partnership Act, 1932, each partner independently meets the eligibility criteria for accreditation.