Will SEBI succeed in trying to create a much needed vibrant Bond Market?

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By Rajeev Jhawar (rajeev@vinodkothari.com) [Updated as on November 27, 2018]

In a vibrant market, resides a healthy economy. On the Budget day, India sought to expand its bond market beyond the traditional ambit of sovereign debt. In pursuant to this, Securities and Exchange Board of India(SEBI) has initiated to diversify borrowings of Indian corporates by mandating to raise at least a quarter of their incremental funds from the bond market.

The regulator came out with a circular dated 26 November 2018, based on the concept paper released on 20 July,2018; targeting all listed entities (whose specified securities, or debt securities or non-convertible redeemable preference share are listed on SEBI’s recognized stock exchange) thereby addressing the liquidity problem persisting in the bond market, with an intention to create a robust secondary market for the debt securities in India.

For the entities following April-March as their financial year, the framework shall come into effect from April 01, 2019 and for the entities which follow calendar year as their financial year, the framework shall become applicable from January 01, 2020.

The requirements brought by SEBI and corresponding inferences

The regulator proposes that the Large Corporates (LC) that are listed companies (whose specified securities or debt securities or non- convertible redeemable preference shares are listed) (excluding Scheduled Commercial Banks) will have to compulsorily raise 25% of their incremental borrowings (being fresh long term borrowings during the FY) from the bond market in the financial year for which they are being identified as LC, as a part of corroborating the same. The term financial year here would imply April-March or January-December as may be followed by the entity.

As per the circular,large corporates would refer to entities

  • having outstanding long-term borrowings of Rs. 100 crores or above.Further, long term borrowings would mean any outstanding borrowing with original maturity of more than 1 year excluding external commercial borrowings(ECBs) and inter corporate borrowings between a parent and subsidiary and,
  • a credit rating of “AA and above”, where credit rating shall be of the unsupported(unsecured) bank borrowing or plain vanilla bonds of an entity, which have no structuring/ support built in; and in case, where an issuer has multiple ratings from multiple rating agencies, highest of such rating shall be considered for the purpose of applicability of this framework.

Lower rated corporates have been exempted from the framework for the time being due to the limited demand for such securities. It is believed that if the 25% norm is followed religiously, it would tantamount to increase bond flotation as more companies would be able to access the debt market. Besides, the government might limit corporates’ dependence on banks and the risk associated with it. However, there is a need for an expansion in the investor base for implementation of these rules.

Rationale

There is no secondary market for corporate bonds in India to speak of. The sorry state of affair could be because of illiquid debt market, bad press in case of default, risk averse attitude as well as dearth of investor’s awareness. On the bright aspect, bonds are ideal way to raise financing for a certain kind of long-gestation infrastructure project. Typically, infrastructure projects are capital-intensive and long-gestation. It takes years to roll out toll-roads, build flyovers and set up massive power generating plants. The project developer has no cash flow to service debt until the project is running and banks may not be considered a viable source as bank funding is short tenure, which would result in asset-liability mismatch.

It is also believed that a sound corporate bond market, would take a lot of pressure off banks, which are reeling under bad debts. Retail investors will also get a chance to invest in such projects via debt funds. In short, large exposure to risk would be substantiated with huge rewards.

Further, in order to ensure investors faith in the company, the rating of ‘AA and above’ has been given preference as corporates with such high rating would have less chance to default on its obligations towards the investors which was demonstrated in the consultation paper also.

Impact on Financier’s Interest

The entry barrier for lower rated corporate bonds would be demolished because the proposal might escalate the pool of investment grade issuers. So far, the small borrowers resorted mostly to institutional finance and inter-corporate deposits. The bond avenue would serve as an alternative for them to raise finance at a reasonable price keeping in mind investor’s perpetual keenness to diversify their investments. It may be useful to classify BBB-rated corporate bonds as investment grade and thus allow pension funds and insurance companies to enter that space.

Disclosure requirements for large entities [1]

A listed entity, identified as a Large Corporate(LC) under the instant framework, shall make the following disclosures to the stock exchanges, where its security(ies) are listed:

  • Within 30 days from the beginning of the FY, disclose the fact that they are identified as a LC, in the format as provided in the circular;
  • Within 45 days of the end of the FY, the details of the incremental borrowings done during the FY, in the formats as provided in the circular;
  • The disclosures made shall be certified both by the Company Secretary and the Chief Financial Officer, of the LC;
  • Further, the disclosures made shall form part of audited annual financial results of the entity.

Compliance

The LCs would need to disclose non-compliance as part of “continuous disclosure requirements”.For FY 19-20 & 20-21, the aforesaid requirement has to be met on an annual basis as on the last day of the FY.In case of failure, explanation as regards to the shortfall has to be made to the stock exchange (SE).

For FY 19-20 & 20- 21, no penalty but explanation will be required.From FY 21-22 onward, the minimum funding requirement has to be met over a block of 2 years. In case of any shortfall of the first year of the block is not met as on the last day of the next FY of the block, a monetary penalty of 0.2% of the shortfall amount shall be levied and paid to SE.The manner of payment of the penalty has not been provided in the Circular but SEs are expected to bring the same.The entity identified as a  large corporate  shall choose any one of the Stock Exchanges (where the securities are listed) for payment of the penalty.

The Stock Exchange(s) shall collate the information about the Large Corporates, disclosed on their platform, and shall submit the same to the Board within 14 days of the last date of submission of annual financial results.

Whether SEBI’s attempt would prove to be a boon or a bane, is likely to be seen as days unfold.

[1] https://www.sebi.gov.in/legal/circulars/nov-2018/fund-raising-by-issuance-of-debt-securities-by-large-entities_41071.html

Cross-Breeding of Entities: NCLT upholds the view!

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Pammy Jaiswal

Partner, Vinod Kothari and Company

[corplaw@vinodkothari.com]

Background

Even though each time when law is amended, the stakeholders do expect the change will be a gap filing exercise or a step towards making it more liberal or strict, as the case may be. However, sometimes such amendment comes with a lacuna. Earlier under the Companies Act, 1956 (‘Act, 1956’), sections 391 – 394 dealt with the provisions of compromises, arrangements, amalgamation and reconstruction. The said provisions were re-casted under the Companies Act, 2013 (‘Act, 2013’) under sections 230 – 234. The said provision under the Act, 2013 suffers from a significant gap.

This write-up is an attempt to foreclose the lacuna under the new provision under law and how the quasi-judicial body has correctly interpreted the said gap in law. Read more →

New KYC norms for directors make a cell-phone, email & DSC mandatory for directors

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Vinod Kothari

corplaw@vinodkothari.com

 

If you ever thought your life will be much better and tranquil without a cellphone on you, and without an email to stay connected, well, you may be right, but you cannot function as a director in companies. This is the fallout of the new DIR-3-KYC norms brought by the MCA[1]. The Rules require every director to file the KYC form by 31st August, 2018, post which the Directors’ Identification number (DIN) granted to the director shall be “de activated”. The Rules also lay that such de-activated DIN shall be re-activated only after the person has filed the KYC form.

One of the mandatory requisites of the new KYC form is that the director shall provide his cellphone number, his email id and file the eForm with his/her own digital signature (DSC). If you thought you may provide the cellphone number and email id of your children, or your assistants, you are mistaken, because the form goes on to say that the cellphone number and the email id shall be of the director himself.

Section 153 of the Companies Act makes it mandatory for any prospective director to apply for DIN. While there is nothing in the statute to say that on de-activation of the DIN, the director will lose his office as such, technically called vacation of office, it will not be surprised, if the Government, in its recent impetus to weed out shell companies and dummy directors, barges ahead and challenge the very directorship of such directors whose DINs stood deactivated.

Result – you cannot be a director, unless you have a cellphone number and email id. Legal experts may argue that being director in companies is basic freedom to carry business, as the right to carry business includes the right to carry it in corporate form as well, and there is nothing in the law of the land to make a cellphone or an email an existential necessity. Therefore, if there is a law that forces a corporate professional to have a personal cellphone number/ email- id, the law needs to be questioned.

Not having a personal cellphone is neither an evidence of laity nor anachronism. Several people use a limited insulation from communications technology as a way of life. There is no basis to contend that such persons are not fit to be corporate directors.

It may be argued that the qualifications of a director and the circumstances in which a director automatically vacates his office are all well defined in the law. De-activation of the DIN is not one of such circumstances. It may also be argued that there is an assurance in the MCA DIN rules that the DIN once granted has lifetime validity, and the question of its de-activation does not arise at all.

In order to file this eForm, all directors (Indian and foreign national) will have to obtain/ have their own email id, mobile number, specify the OTP in the eForm and sign with their own DSC. The consequence of false declaration is that the Director shall be liable under section 448 of the Act and under relevant provisions of the Indian Penal Code, 1860 and any other law as applicable, if any statement in the application is found to be false or any material fact is found to be have been omitted.

The MCA rules come in the wake of the Government’s resolve to weed out shell companies and dummy directors. It is apprehended that the 10-lakh odd companies have lots of directors who are men of straw, even though the requirement for DIN was introduced sometime in 2006.

[1] Insertion of new rule 12A in Companies (Appointment and Qualification of Directors) Rules, 2014 vide MCA notification dated 5th July, 2018

FAQs on SBO Rules – Version 3

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Investor awareness by BSE & NSE- forceful dematerialization

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By Munmi Phukon, Smriti Wadehra and Shreya Jain 

corplaw@vinodkothari.com

Currently, the provisions of Regulation 40 of Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015, facilitate transfer of securities both in physical and dematerialized form. However, SEBI vide its notification dated 8th June, 2018 had notified the Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) (Fourth Amendment) Regulations, 2018[1] by virtue of which it has mandated the processing of transfer of securities only when such securities are held in dematerialised form. The aforesaid amendment shall come into force on the 180th day from the publication of the Amendment Regulations i.e. 5th December, 2018.

Considering the need of the hour, BSE and NSE on 5th July, 2018[2] and 9th July, 2018[3], respectively, has issued two Circulars requiring companies and their RTAs to set up a mechanism for dissemination of information and spreading awareness among various investors about mandatory dematerialization of securities. Though some of the companies have already placed this information in the AGM notices, based on the aforesaid Circulars, the companies are also required to put in place a mechanism including the following in order to spread awareness about the proposed change:

  • The companies through their RTA should send a letter through post to the holders of physical shares and reminding them about the said amendment and also about the impact of the said regulation on transfer of the said physical format shares w.e.f. December 5th, 2018.
  • Atleast two reminders by RTAs is advised to be sent to in a gap of 30 days to the all those shareholders who are holding their shares in physical format, to get it dematerialized.
  • Companies to disseminate such information on their website intimating the investors about the proposed change and provide appropriate guidance on how to dematerialize their shares.
  • Companies should ensure that the signature cards of all the holders of physical securities are handed over to its RTA at the earliest.

It is understood that the intent of the aforesaid Circulars is to provide for the actionable on the part of the companies so as to inform their respective shareholders to convert their physical shares into demat form at the earliest so that the liquidity of the securities does not get affected. Further, though the NSE Circular is silent but BSE may require a reporting to be made by the companies to the effect of compliance of the aforesaid requirements in a specified format to be prescribed by it by end of September 2018.

To conclude we may say that through such automation the burden of compliance shall be reduced on the part of the Company and in this regard SEBI is enhancing the role of depositories in various activities of the Company. Therefore, the companies should take adequate steps to ensure dematerializing the physical shares before the commencement of this Regulation so as to avoid any last minute hassle.

[1] https://www.sebi.gov.in/web/?file=https://www.sebi.gov.in/sebi_data/attachdocs/jun-2018/1528952919510.pdf#page=1&zoom=auto,-23,792

[2] https://www.bseindia.com/corporates/Displaydata.aspx?Id=cd22b184-1153-4b05-8ad9-d04699161f89&Page=cir

[3] https://www.nseindia.com/corporates/content/eq_listcompanies.htm

Corporatisation Prospects for Unregistered Entities – Amendment in Section 366 of the Companies Act, 2013

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By Pammy Jaiswal (corplaw@vinodkothari.com)

Partner, Vinod Kothari and Company

Background

By virtue of the enforcement notification of MCA dated 5th July, 2018[1], the proposed change under section 75 of the Companies (Amendment) Act, 2017 (‘Amendment Act’) relating to section 366 of the Companies Act, 2013 (‘Act, 2013’) has been notified with effect from 15th August, 2018. Further, MCA vide its notification dated 5th July, 2018[2] has also brought the Companies (Authorised to Register) Second Amendment Rules, 2018 (‘Amendment Rules’). The said Amendment Rules shall also come into force from 15th August, 2018.

The section deals with registration of unregistered entities like partnership firms, LLPs, cooperative societies and such other entities, as a company under the Act, 2013. The amendment paves way for such entities having two or more members to get themselves registered under the Act, 2013 either as a company limited by guarantee, company limited by shares or unlimited companies. Read more →