In the past, the Securities and Exchange Board of India (SEBI) has taken several initiatives to develop the stock markets in India. Continuing this trend, in SEBI’s recent board meeting held on 26 April 2017, a number of steps were approved in order to deepen the stock markets including (i) laying down the framework for consolidation and re-issuance of corporate debt securities; (ii) monitoring of utilisation of issue proceeds by reducing the size of the issue for which monitoring agency is to be appointed; (iii) expanding the definition of Qualified Institutional Buyers (QIBs) to include systemically important Non‑Banking Financial Companies (NBFCs); and (iv) extension of exemption given to mutual funds and insurance companies participating in preferential issue from the lock-in period and eligibility criteria requirements to banks and public financial institutions.
Consolidation and re-issuance of bonds to boost liquidity
Since the issuance of the SEBI (Issue and Listing of Debt Securities) Regulations 2008 (ILDS Regulations), the primary market for corporate debt securities has grown significantly by 328.9% from FY 2007-08 to FY 2016-17. However, secondary market for corporate debt securities has not grown at the same pace. Unlike equity issuances where the security is not fragmented in nature, in case of issuances of corporate debt securities, the securities are highly fragmented, with each type of bond issuance involving multiple instruments which are unique in terms of maturity, yield and other terms and conditions. Issuers are then required to obtain unique International Securities Identification Number (ISIN) for each type of corporate debt securities, which are listed and traded separately. This, in turn, results in non-availability of sufficient floating stock for each ISIN. Each new issuance from the same issuer receives a separate ISIN, making the older debt securities in the same maturity illiquid.
To overcome this issue, suggestions were made to cap fragmented issues by way of consolidation and re-issuance of corporate debt securities, which would aid in generation of liquidity through minimal number of ISINs. SEBI had amended the ILDS Regulations in FY 2015-16, wherein Regulation 20A was inserted, to provide for consolidation and re-issuance of debt securities (ILDS Amendment). This initiative being voluntary, met with limited success. SEBI floated a consultation paper on 2 February 2017 to seek comments from various stakeholders to ensure liquidity in the corporate debt market.
SEBI’s board has in its meeting approved the following:
For Primary Issuance
A cap of 12 ISINs maturing per financial year is proposed to be allowed for corporate debt securities per issuer and within the said bucket of 12 ISINs, the issuer can issue both secured and unsecured corporate debt securities. The issuers are also allowed to issue upto 5 additional ISINs per financial year for structured debt instruments of a particular\category (i.e., debt securities with call option or debt securities with both call and put option).
The above restrictions will not be applicable on debt instruments, which are used for raising regulatory capital such as Tier I, Tier II bonds, bonds for affordable housing and the capital gains tax bonds issued under Section 54EC of the Income Tax Act, 1961 (IT Act).
For existing corporate debt securities
SEBI’s Board has recommended active consolidation of existing outstanding debt securities through switches and conversion. Active consolidation of existing corporate debt securities has not been made mandatory as of now. Bond switching or conversion can be viewed as repurchase of the debt securities in advance of maturity where payment for these repurchases would be in terms of newly issued more-liquid benchmark securities. This can be undertaken though (i) tender offer, where the issuer will fix a particular price for the maximum number of debt securities it is willing to purchase and sends a letter of offer to all the holders of debt securities; or (ii) reverse auction conversion, where the market participants would submit various competitive rates of conversion as well as the amount they wish to convert to the issuers. SEBI would amend the ILDS Regulations to this effect.
While recommending passive consolidation, SEBI has restricted the number of ISINs that can be allowed per issuer and has recognised and rightly excluded the debt instruments which are used for raising regulatory capital such as Tier I, Tier II bonds, bonds for affordable housing and the capital gains tax bonds issued under Section 54EC of the IT Act. This was a concern raised by many when the consultation paper was issued, as this would restrict flow of much needed capital to various institutions who are regulatorily required to raise such capital. Further, SEBI has not made active consolidation, by switching or conversion of debt securities, compulsory. This is a welcome step as the bond market in India is still not mature and compulsory active consolidation may be counterproductive.
Strengthening the Monitoring of Utilisation of Issue Proceeds
The SEBI (Issue of Capital and Disclosure Requirements) Regulations 2009 (ICDR Regulations), requires that for issue of securities issued through initial public offering/follow-on public offer/rights issue, exceeding INR 500 crore, a “Monitoring Agency” shall be appointed to ensure adequate supervision of the utilisation of the funds raised. SEBI has now reduced the limit for appointment of monitoring agency to INR 100 crore.
Further, SEBI has also stipulated (i) an increase in the frequency of submission of Monitoring Agency report from every 6 months to every quarter; (ii) that such quarterly reports shall be submitted to the stock exchanges within 45 days from the end of the quarter and shall be uploaded on the website of the issuer for wider dissemination to public; and (iii) that the board of directors and the management will have to give their comments on the findings of the Monitoring Agency’s report and the same shall be uploaded on their website. SEBI is expected to amend the ICDR Regulations to this effect.
While the extension of the requirement of appointment of Monitoring Agency for all issues of size above INR 100 crore would help in SEBI keeping a check on how the funds raised from public is utilised, it would result in increase of cost of compliance for smaller issuers.
Inclusion of RBI registered systemically important NBFCs in the category of QIBs
The Finance Minister in his Budget Speech for the FY 2017-18, had proposed to allow systemically important NBFCs regulated by RBI and above a certain net worth, to be categorised as QIBs. The SEBI Board has considered and approved the proposal for inclusion of systemically important NBFCs registered with RBI having a net worth of more than INR 500 crore in the category of QIBs. SEBI is expected to amend the ICDR Regulations to this effect.
The systemically important NBFCs, being regulated entities, classifying them under the of QIBs is expected to give issuers access to a larger pool of capital from additional source funds and it would, in turn, strengthen the IPO market and allow NBFCs to participate in Qualified Institutions Placement.
Extending relaxation of lock-in period and eligibility criteria requirements for preferential share allotments to banks and public financial institutions
Regulation 72(2) of the ICDR Regulations prohibits issuers from making a preferential issue to any person who has sold any equity shares of the issuer during the period of 6 months prior to the relevant date. Moreover, Regulation 78(6) of the ICDR Regulations provides that the entire pre-preferential allotment shareholding of the allottees are locked-in for 6 months. While mutual funds and insurance companies have been exempt from the above requirements since January 2012, no such exemption was available for Scheduled Banks and Public Financial Institutions. SEBI Board has considered and approved the proposal for extending the exemption available to the mutual funds and insurance companies to scheduled banks and public financial institutions. SEBI is expected to amend the ICDR Regulations to this effect.
Considering that banks and public financial institutions, in their endeavour towards reducing NPAs and initiating recovery actions, have been opting for various restructuring schemes, some of which are getting restricted due to requirements of Regulations 72(2) and 78(6) of the ICDR Regulations, the SEBI Board’s decision to extend the exemption available to the mutual funds and insurance companies to scheduled banks and public financial institutions is a welcome step.