Regulatory framework for Online Bond Platform

– Abhirup Ghosh, Principal Advisor | abhirup@vinodkothari.com

Regulatory Framework for Online Bond Platform

Securities and Exchange Board of India (‘SEBI’) on November 14, 2022, notified the circular, ‘Registration and regulatory framework for Online Bond Platform Providers’^[1] (‘Circular’) for regulating online bond trading platforms, applicable immediately. The notification comes in the backdrop of several unregulated online platforms offering services relating to dealing and transfer of listed/ unlisted securities between investors (mostly non-institutional). On the path to introduce the regulatory framework, the SEBI first issued Consultation Paper on Online Bond Trading Platforms – Proposed Regulatory Framework on July 21, 2022^[2] (‘Consultation Paper’), a detailed write up on which can be found in another article named, ‘SEBI proposes to regulate private debt platforms’.^[3] After gathering comments from public, the SEBI issued a couple of notifications – the first one is SEBI (Issue and Listing of Non-Convertible Securities) (Second Amendment) Regulations, 2022 (‘Amendment Regulation’) on November 09, 2022^[4] to bar the intermediaries from facilitating transactions in listed debt securities without a stock broker license, and second one is the aforementioned Circular, which is the subject matter of discussion in this case.

This write-up tries to discuss the implications of the Circular, but before getting into that discussion, it is important to first understand the meaning and scope of the term, “online bond trading platform”.

Meaning and scope of “online bond trading platform”

 The term ‘online bond platform’ and has been defined under the SEBI NCS Regulations to mean: “online bond platform” means any electronic system, other than a recognised stock exchange or an electronic book provider platform, on which the debt securities which are listed or proposed to be listed, are offered and transacted.”

If we were to break down the definition, we will get the following components:

• It has to be an electronic system;
• It is not a recognised stock exchange or an electronic book provider platform;
• It facilitates transactions in listed or to be listed debt securities – the platform cannot facilitate transaction of unlisted debt securities. Further, the Circular does not differentiate between the mode of original issuance; that is, the irrespective of whether the securities were originally issued through private placement or public issue, once listed, they can be placed on the platform for secondary trading.

Therefore, entities which are dealing with unlisted debt securities will not be covered under this.

Subsequently, the SEBI came out with another circular on June 16, 2023 (Amendment Circular) to clear some of the ambiguities that arose from the original framework.

The Amendment Circular clearly lays down the types of securities, the OBPP can deal in, and includes in addition to what was already allowed under the original framework:

• Listed municipal debt securities (including which are proposed to be listed through public offering ),
• Listed securitised debt securities (including which are proposed to be listed),
• Listed Government Securities,  State Development Loans. Treasury Bills, Listed Sovereign Gold Bonds.

Fate of existing platforms

Probably the most important question – what will be the fate of the platforms which were offering these services at the time of issuance of this Circular. As per the Consultation Paper, some of the platforms operating at the time were:

PLATFORM	BACKED UP	NO. OF REGISTERED USERS
GoldenPi	GoldenPi Technologies Private Limited	1,18,350
BondsIndia	Launchpad Fintech Private Limited	437
Harmoney	Wealthsigns Fintech Private Limited	632
Altifi	Northern Arc Capital Limited	867
Wintwealth	Fourdegreenwater Capital Private Limited	9766
Bondskart	JM Financial Products Ltd	6133
Indiabonds	India Bond Private Limited	5192

These platforms that existed at the time of this Circular acted as a sourcing platform, as well as, a market place for secondary trading of both, listed and unlisted debt securities. These platforms were not regulated, or registered with any authority.

After this Circular, the platforms will not be allowed to offer listed securities for trading on their platform, without complying with the provisions of this Circular. However, a transition period of 3 months from the date of the Circular has been allowed. However, platforms facilitating transactions involving unlisted debt securities only will fall outside the purview of this Circular.

Will it vitiate the private placement norms?

As noted earlier, the provisions of this Circular will become applicable, so long the debt securities being dealt with in the platforms, irrespective of whether they are originally issued publicly or privately. A lot of inquisitive minds would raise this question: can debt securities issued through private placement be transacted with in open platforms such as this?

The Companies Act 2013 defines “private placement” in the following manner:

(ii) “private placement” means any offer of securities or invitation to subscribe securities to a select group of persons by a company (other than by way of public offer) through issue of a private placement offer letter and which satisfies the conditions specified in this section.

This implies that in a private placement, the initial offer of securities or invitation to subscribe the securities have to be done privately. Once the debt securities are issued, they are freely transferable. Even for private companies, the restriction on transferability applies only on shares and not on any other securities

However, the Consultation Paper highlighted that during the course of study the Committee analysed the data of issuance of listed debt securities on private placement basis subscribed by and further offered for sale by some bond platforms, and it observed that in some instances, the entire issuance was down sold to more than 200 investors within 15 days from the date of allotment. This in essence, violates the private placement. To arrest situations such as these, the Committee suggested that a lock-in period of six months may be introduced, and down selling of these securities may be permitted only after expiration of the lock-in period.

Based on the comments SEBI received from the public, on the Consultation Paper, it dropped the idea of inserting a lock-in, and provided the following argument in a published document[5]:

The concept of deemed public issue comes from section 25(2) of the Companies Act, and is not originated from any of the SEBI regulations. The SEBI regulations on issue and listing of privately placement debt securities, provide for furnishing of private placement memorandum (which itself is very elaborate), memorandum of association, articles of association, requisite resolutions from the board or committees authorising such listing of securities on Stock Exchanges. Once listed, the issuer has to follow elaborate disclosure requirements. In essence, once the securities are listed, there would be no circumvention of certain key public issue requirements.

Further, inserting the lock-in, may rob the investors from liquidity and the opportunity to exit their investments, if so desired. These investors could also involve mutual funds or other institutional investors. Not allowing them to liquidate the investments could have ramifications which could have large scale implications.

Therefore, it was felt prudent to not to include the lock-in provisions. While it is understandable for listed bond issuances, however, for unlisted debt securities placed through these platforms, this question still remains unanswered.

Key compliance requirements for registered Online Bond Platforms

As already noted, an Online Bonds Platform can operate as such only after obtaining stock broker registration. It may be worthwhile to note that such a registration be subjected to the following net-worth requirements[6]:

Type of member	Base Networth (within 1 year of the date of notification of the SEBI (Stock Brokers)(Amendment) Regulations, 2022   (in ₹)	Base Networth (within2 years of the date of notification of the SEBI (Stock Brokers)(Amendment) Regulations, 2022   (in ₹)	Variable   Networth   {within 1 year of the date of notification of the Securities and Exchange Board of India (Stock Brokers) (Amendment) Regulations, 2022} #
Trading member	–	1 crore	10% of average daily cash balance of clients retained with member across segments/exchanges in the previous 6 months
Self-clearing member	3 crores*	5 crores
Clearing member	10 crore*	15 crores
Professional clearing member	25 crores	50 crores

* In Currency Derivative Segment, Self-Clearing Member and Clearing Member shall have minimum networth of Rs. 5 crores and Rs. 10 crores, respectively.

# Networth requirement for members shall be Base Networth or Variable Networth, whichever is higher

Once registered as a stock broker, the entity will have to comply with the following:

1. Appointments: Appointment of a company secretary as compliance officer and two Key Managerial Personnel with the experience of at least three years in the securities market;
2. Grievance Redressal: The entity shall have to obtain a SEBI Complaints Redress System (‘SCORES’) authentication and a well-defined mechanism to address grievances that may arise in the course of carrying out OBP operations. The online bond platform is required to adopt the redressal mechanism as specified in the Master Circular for Stock Brokers.
3.  Technology Infrastructure: The entity must deploy robust technology infrastructure for supporting its operations as OBP, disseminating information in real time basis to other entities in the system, maintaining investor privacy, ensuring open access to potential investors;
4. Agreement with sellers of debt securities: Where the entity allows third party sellers of debt securities to use the OBP to sell such securities, the entity shall, before taking up an assignment of offering of such securities on its OBP, enter into an agreement in writing to define the inter-se relationship, rights, liabilities and obligations;
5. Issue of receipts: Entity shall issue the following:
   1. Order receipt to investor on placement of order;
   2.  Deal Sheet to investor post execution of the order; and
   3. Quote receipt to seller post execution of the order
6. Disclosure: The entity must undertake to identify and disclose on its OBP, all instances of conflict of interest, if any, arising from its transactions or dealings with related parties. Further the entity shall comply with minimum disclosure requirements with respect to securities offered for sale, as prescribed in the Circular, which are as follows:

Further, in case of any reference to other platform which offers products or services regulated by the financial sector regulators then the following disclaimer shall be shown:

“<Name of the product> is regulated by <RBI/ IRDAI/ PFRDA>”

7. Risk Profiling:  The entity may circulate a questionnaire to ascertain the optimum level of investment risk that an investor or seller is seeking to take;
8. Alerts to sellers or investors: The entity shall ensure that investors and sellers are updated on a regular basis by the help of SMS, emails, etc., with respect to the status of their respective transactions; and
9. Safeguards: Entity undertakes to establish appropriate safeguards and procedures to deal with exigencies like suspension or cessation of trading in debt securities.
10. Exhaustive list of products: Bar to offer products and services other than those   listed in Clause 5.2 of the circular.
11. Restriction on utilization of name/ brand name/ or any name resembling the OBP or OBPP for undertaking any products (including restricted products) or services which are not regulated by the financial sector regulator.
12. Reference to other platforms: The OBP shall not have reference to other platforms which offer any products (including restricted products) or services which are not regulated by the financial sector regulator.
13. Restricted access and cross selling: The OBP shall not provide access / provide information / cross sell the products or services offered by its  holding company or subsidiary or associate which are not regulated by the financial market regulators.

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^[1]https://www.sebi.gov.in/legal/circulars/nov-2022/registration-and-regulatory-framework-for-online-bond-platform-providers_65014.html

^[2]https://www.sebi.gov.in/reports-and-statistics/reports/jul-2022/consultation-paper-on-online-bond-trading-platforms-proposed-regulatory-framework_61087.html

^[3]https://vinodkothari.com/2022/07/sebi-proposes-to-regulate-private-debt-platforms/

^[4]https://egazette.gov.in/WriteReadData/2022/240162.pdf

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Our related write-ups:

• SEBI proposes to regulate private debt platforms
• Recent changes in the regulatory framework for the long-term bond market
• SEBI approves amendments: Online bond trading platform