The Australian Securities and Investments Commission (ASIC) recently announced a number of proposals to strengthen the regulation of the debenture sector minimum capital and liquidity requirements, with a view to:
- focus on the debenture sector following the recent collapses, i.e. Banksia Securities Limited;
- improve the financial strength of debenture issuers; and
- better investor understanding about debenture investments being paramount.
What are debentures?
Debentures are an undertaking by the body to repay as a debt money deposited with or lent to the body. It may include a security interest over property of the body to secure repayment of the money.
What requirements apply?
- An offer document is required for offers of debentures to new retail investors.
- Companies that offer debentures to retail investors must have a trustee.
The new proposals will be focusing on:
- Disclosure to potential investors and existing investors by the debenture issuers; and
- oversight of the debenture issuer’s obligations by the debenture trustee.
ASIC has issued a Consultation Paper 199: Debentures: Reform to Strengthen Regulation focusing on the following issues:
- The mandatory minimum capital and liquidity requirements for debenture issuers;
- The proposal to strengthen disclosure to investors by debenture issuers;
- Clarifying the powers and duties of debenture trustees, and the role of auditors.
The Australian Prudential Regulation Authority (APRA) will also propose that a clearer distinction be made between debentures and ADI deposits.
1. Mandatory minimum capital and liquidity requirements for debenture issuers
Presently, certain debenture issuers that accept retail investments and then on-lend are required to have a minimum capital ratio of 8% of their total risk-weighted assets. This ratio is calculated as:
Risk-based capital ratio = capital base / total risk-weighted asset
It is proposed that this be changed so:
- debenture issuers will be required maintain a minimum holding of 9% of their liabilities in high quality liquid assets;
- debenture issuers should have sufficient liquidity to meet short-term obligations to investors;
- ASIC will have a discretionary power to raise or lower the 8% capital ratio on a case-by-case basis; and
- If debenture issuers breach the capital or liquidity ratios, then they will be prevented from raising further funds.
2. Strengthen disclosure to investors about debenture issuers
Certain debenture issuers that accept retail investments and then on-lend will be required to provide disclosure by prospectus when existing retail investors make further debenture investments or “roll over”.
3. Clarifying the powers and duties of debenture trustees, and the role of auditors
Trustees have an important role for monitoring the financial position of the debenture issuer.
It is proposed that:
- The trustee must regularly express a view in writing on the debenture issuer’s financial position and on-going viability. This will apply to all kinds of debenture investments involving retail clients;
- Express powers will be given to trustees to obtain information from an issuer on an ‘as needed’ basis;
- debenture issuers will be required to engage their auditors to report directly to the trustee twice per year and respond to any reasonable questions by the trustee;
- An auditor will be required to report directly to the trustee any matters that would be likely to be prejudicial to debenture holders or relevant to the exercise of the trustee’s powers.
It is far from certain whether these proposed reforms will help prevent any more failures in this sector, particularly when for example accountants fail to comply with their duties such as properly undertaking their audits of companies and report breaches of the law that might have been committed.
However strengthening the current regulations of this sector should provide more benefits than harm.