SEBI plans to tighten encumbrance disclosure norms

Capital markets regulator SEBI plans to tighten its norms for encumbrance disclosure by promoters of listed firms, amid growing number of cases of shares seeing a free fall due to post-default distress sale of pledged securities by lenders.

The proposed norms would cover disclosure about all direct and indirect pledging of all types of securities and undertakings in their group or associate entities by promoters of listed companies, officials said.

The matter is likely to be discussed by the SEBI board at its meeting later this week.

Increased concern

While the regulator already has a robust set of regulations regarding encumbrance disclosure, concerns have been raised recently with regard to exposure of mutual funds to debt and money market instruments through structured obligations, pledge of shares, non disposal undertakings, related party transactions, corporate or promoter guarantees and other complex structures.

According to a CRISIL report, the total value of shares pledged by promoters is more than Rs 2 lakh crore and involve over 800 companies. Moreover, this data is only for loans against pledged shares and does not include other encumbrances such as NDUs.

This has implications for the lending community, for such debt is backed by equity shares that are inherently volatile as against cash flows.

CRISIL has said the pledged debt is exposed to high level of equity risk and the cover through pledged shares is usually small to cover that risk.

The proposal

To tackle these risks, the new disclosure requirements would cover all kinds of encumbrances including NDUs and all kinds of complex structures whether involving equity linked products, debt or money market instruments, relating to even private limited companies of the promoters of listed firms.

Accordingly, encumbrance would be defined as any restriction on the free and marketable title of shares, by whatever name, and whether executed directly or indirectly.

It will also include pledge, lien, negative lien and non disposal undertakings (NDUs), as also any covenant, condition or arrangement in the nature of direct or indirect encumbrance.

All such disclosures need to be made within 7 days of creation, invocation or release of encumbrance to the stock exchanges and to the target company.

The proposed norms would also mandate that all shareholders, including the minority ones, must know detailed reasons for any encumbrance by the promoters, particularly in situations like defaults as this may lead to distress sale by lenders and an eventual fall in share prices.

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