SEBI proposal on alternative fund rules elicits mixed views

There has been a mixed reaction to markets regulator SEBI's proposed alternative investment fund (AIF) regulations, among legal advisors to private equity (PE) and venture capital funds.

Some say the regulations impose quite a few restrictions on how such funds will function; others say the regulations create confusion, and still others say they merely add to the formalities and make no substantial difference either way.

Negative impact possible

“SEBI's intent is to bring in all the prevailing fund/ investment structures (other than the already regulated mutual funds, CIS and a portion of PMS) under its regulatory umbrella. The way it is proposed to be done under the proposed regulations will materially change the scenario of the fund management industry in India, and unfortunately in a negative manner,” said Mr Tejesh Chitlangi, Senior Associate, Finsec Law Advisors.

“Multiple registrations would be required; compliances would not only be onerous but would be highly impractical. Within one set of regulations, several sub-sets are proposed to be fit in (that is, private equity fund, VC fund, real estate fund amongst a total of nine categories), all with different onerous investment restrictions and compliances, which will damage the Indian fund industry,” said Mr. Chitlangi.

PMS confusion

There would also be implications on the PMS industry. There are many portfolio managers in India who currently manage monies of their clients like a typical private equity fund, by investing in unlisted securities and pooling such investments made on behalf of their clients. This will no longer be permissible under PMS Regulations and would be separately governed under the proposed AIF Regulations (if implemented), said Mr. Chitlangi.

There is some confusion regarding existing portfolios under PMS; they will either have to be divested or be guided by two sets of regulation (PMS and AIF), the latter of which is not possible, say legal experts.

The other formality to be observed will be that a fund would have to specify which of the nine categories of AIF it seeks to register under. Many of the funds, because of their different investment horizons, may like to invest in listed securities, debt securities, complex structured products, real estate products etc.

They would have to accordingly select the best category — PIPE fund, Debt Fund, private equity fund, venture capital fund — under which they seek to register under proposed regulations. Depending upon their investment horizon they may have to seek multiple registrations to achieve their varied investment objectives.

Unlisted securities

The other point is that funds investing in unlisted securities, which can currently divide the securities and distribute them in proportion among their investors, will no longer be able to pay “in kind,” wherever such unlisted securities are illiquid. The sponsor of the fund will have to buy out the securities.

There is some confusion regarding many of the regulations, said another regulatory expert: “Since SEBI says it will maintain the Foreign Venture Capital (FVCI) funds regulations along with the AIF regulations, will funds that are currently not registered under any category come under the purview of the FVCI or the AIF regulations?”

After all, the purpose of the regulations is to bring several unregulated entities into the fold of registration, he said.

Ambiguous on AIF

The scope of the regulations also do not make it clear whether a foreign fund — with foreign investors managed outside by a foreigner and investing in India — will have to register as an AIF. After all, well over 50 per cent of private equity investors are from overseas and if it is SEBI's intention to bring them under their regulatory umbrella, then it should be clear.

The regulations are also not clear on whether there will be tax exemptions for AIFs, he added.

Mr Akil Hirani, managing partner of law firm Majmudar & Co, said the regulations simply add another layer of formalities.

Already, foreign investment regulations restrict investments in certain sectors where government or FIPB approval is required. Then, the Department of Company Affairs (DCA) is proposing new regulations for money being raised by private companies that would make government approval mandatory.

“I don't think the regulations will constrain private equity investments, I think ultimately business will determine their investments. The market will regulate itself,” he said.

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