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Open in new tab Disclosure of ESG ratings – automated or still needs manual disclosure?
Ankit Singh Mehar, Assistant Manager | corplaw@vinodkothari.com
Background
Pursuant to the recommendations of the Expert Committee and as discussed in the SEBI Board meeting held on Sep 30, 2024 and outlined in SEBI Circular dated December 31, 2024, stock exchanges (‘SEs) were mandated to specify the process and timelines for system-driven disclosure (‘SDD’) for any new ratings or revision in ratings. Pursuant to this, NSE and BSE issued their respective circulars specifying the procedural requirements with respect to system-driven disclosures for the ratings (‘SDD Circulars’) on August 1, 2025.
The receipt and/ or change in ESG ratings is a disclosable event in terms of Regulation 30 of the Listing Regulations read with clause (3) of Sch. III.A.A thereof. Hence, a question arises on whether or not the same is also covered by the SDD Circulars, or whether a manual disclosure is still required on receipt/ change of ESG ratings.
What is an ESG rating?
ESG rating is defined under Reg 28B(1)(b) of SEBI (Credit Rating Agencies) Regulations, 1999. To put it simply, an ESG rating is essentially an opinion about (a) either an ‘issuer’ or (b) a security. The ESG ratings provide an opinion on the ESG profile or characteristics, and may either refer to the ESG risks faced by the entity or the impact it may have on the environment and the society, or both.
As per SEBI’s framework for ESG rating provider, an ESG rating provider (‘ERP’) uses either of the below-mentioned models:
- Subscriber-pays model – wherein ratings are solicited by the subscribers that may include banks, insurance companies, pension funds, or the rated entity itself.
- Issuer-pays – wherein the ratings are solicited by the rated entity, in terms of a written contractual agreement between such entity and the rating provider.
Disclosure requirement under Reg 30 of Listing Regulations
Any receipt of rating or revision in existing ESG rating is a ‘deemed material event’ and covered under clause (3) of Sch. III.A.A of Listing Regulations. Since the event emanates from outside the listed entity, such event is required to be disclosed to the SEs within 24 hours of such receipt / information.
Here, the following needs to be noted w.r.t. the disclosure requirements under Reg 30:
- Ratings received under both subscriber-pays and issuer-pays model (solicited as well as unsolicited) are required to be disclosed.
- Both upward and downward revision in ratings is required to be informed.
- Withdrawal of an existing rating is required to be disclosed
- Re-affirmation of an existing rating is required to be disclosed as well.
Automation of ESG rating disclosure
The SDD Circulars referred above, are applicable to both credit ratings and ESG ratings. Pursuant to the same, the ERPs are required to report the ESG ratings provided by them to the SEs. The manner of reporting by ERPs has also been provided in the SDD Circular itself. Once reported to the SEs, the ESG rating shall be automatically reflected on the website of the BSE and NSE.
Therefore, since SEs will get the ratings from the ERPs itself, both solicited and unsolicited ratings will be disclosed on the SE platform.
When does this SDD come into effect?
In terms of SDD Circulars, the disclosure of credit and ESG rating has become effective from August 2, 2025.
Actionable for the LEs?
Since the ESG rating shall be consumed by the SEs from the ERPs and auto disseminated on the website, there is no actionable for the LEs in relation to the disclosure of ESG rating under reg 30. However, LEs should monitor whether the ratings provided to them are reflected on SEs. In case any rating is not reported by the ERP, the LE may proactively disclose the same at its end.
Refer our resources below:
SEBI facilitates EODB for HVDLEs
Regulatory threshold enhanced to Rs. 5000 crore, misalignments in CG norms with equity listed cos straightened
– Payal Agarwal, Partner | corplaw@vinodkothari.com
– Updated on January 23, 2026
Since the introduction of High Value Debt Listed Entities (HVDLEs) as a category of debt-listed entities placed on a similar pedestal to equity-listed entities in terms of corporate governance norms, the regime has undergone several rounds of extensions and regulatory changes. After several extensions towards a mandatory applicability of corporate governance norms, a new Chapter V-A was introduced in LODR, vide amendments notified on 27th March 2025 (see a presentation here), amending, amongst others, the thresholds towards classification of an entity as HVDLE (increased from Rs. 500 crores to Rs. 1000 crores). The new chapter, however, was not updated for the changes brought for equity-listed entities vide the LODR 3rd Amendment Regulations, 2024 and required some refinement, particularly, in respect of provisions pertaining to related party transactions (see an article – Misplaced exemptions in the RPT framework for HVDLEs and the representation made to SEBI).
In order to address the gaps as well as providing some relaxations to HVDLEs, SEBI released a Consultation Paper on 27th October, 2025 (CP) primarily proposed an increase in the threshold for identification as HVDLEs and alignment of provisions of Chapter V-A with the corresponding provisions in Chapter IV subsequent to LODR 3rd Amendment Regs, 2024 facilitating ease of doing business, including measures related to RPTs. The proposals were approved by SEBI in its Board Meeting held on 17th December, 2025.
SEBI vide Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) (Amendment) Regulations, 2026 (‘LODR Amendment 2026’), has notified the following amendments effective from January 22, 2026.
Threshold for identification of HVDLEs
- Increased from extant Rs. 1000 crores to Rs. 5000 crores . Further, the sunset clause of 3 years as per Reg 15 (1AA) & Reg. 62C(2) will not be applicable to entities that cease to be HVDLE due to revised thresholds.
- Based on the data of pure debt listed entities as on June 30, 2025, revision in threshold will reduce the number of HVDLE entities from 137 to 48 entities (apprx. 64% entities)
- VKCO Comments: The increase in the threshold was necessitated on account of the huge compliance burden placed on HVDLEs coupled with the fact that such threshold is disproportionately low for NBFCs engaged in substantial fundraising through debt issuances. Further, the proviso to Reg. 15 (1AA) & Reg. 62C (2) expressly clarifies the position for entities ceasing to be an HVDLE as on January 22, 2026 with the revised threshold coming into effect, that it need not continue to comply with the CG requirements for a period of 3 years. Earlier there had been instances of entities that ceased to be HVDLEs due to outstanding value of listed debt securities as on March 31, 2025 receiving notices from SEs for non-compliance with CG norms despite such entities ceasing to meet the revised threshold.
Alignment of corporate governance norms for HVDLEs with that for equity-listed entities
Board composition, committees, filing of vacancy of director/ KMPs etc.
- Insertion of proviso to clarify that prior approval of shareholders is required for directorship as NED beyond the age of 75 years at the time of appointment or re-appointment or any time prior to the NED attaining the age of 75 years to ensure alignment with similar amendment made for equity listed entities [Reg 62D(2)/ Reg 17(1A)]
- Time taken to receive approval of regulatory, government or statutory authorities, if applicable, to be excluded from the 3 months’ timeline for shareholders’ approval for appointment of a person on the Board [Reg 62D(3)/ Reg 17(1C)]
- Exemption from obtaining shareholders’ approval for nominee directors of financial sector regulators or those appointed by Court or Tribunal, since such nomination is for the purpose of oversight and upholding public interest, and by SEBI registered Debenture Trustee registered under a subscription agreement for debentures issued by HVDLEs [Reg 62D(3)/ Reg 17(1C)]
- Any vacancy in the office of a director of an HVDLE resulting in non-compliance with the composition requirement for board committees i.e., AC, NRC, SRC and RMC to be filled within 3 months [Proviso to Reg 62D(5)/ Reg 17(1E)]
- Any vacancy in the office of a director of an HVDLE on account of completion of tenure resulting in non-compliance with the composition requirement for board committees i.e.. AC, NRC, SRC and RMC to be filled by the date such office is vacated [Second proviso to Reg 62D(5)/ Reg 17(1E)]
- Additional timeline of 3 months for filling vacancy in the office of KMP in case of entities having resolution plan approved, subject to having at least 1 full-time KMP [Reg 62P (3)/ Reg 26A (3)]
Secretarial Audit
- Alignment of the provisions of Secretarial Audit and Secretarial Compliance Report with Reg 24A as applicable to equity listed entities, to strengthen the secretarial audit and to prevent conflict of interests, which mandates the following: [Reg 62M(1)/ Reg 24A]
- An individual may be appointed for a term of 5 years and a firm may be appointed for a maximum of 2 terms of 5 years each subject to approval of shareholders in the annual general meeting. Thereafter a cooling-off period of 5 years will be applicable;
- Requirements relating to eligibility (being a Peer Reviewed Company Secretary) and disqualifications, removal of secretarial auditors prescribed.
- The Secretarial Compliance Report also to be submitted by a Peer Reviewed Company Secretary or Secretarial Auditor fulfilling the eligibility requirements indicated in Reg. 24A.
VKCO Comments: Further disqualifications for Secretarial Auditor and list of services that cannot be rendered by the Secretarial Audit was prescribed vide Annexure 2 and Annexure 3 of SEBI Circular dated December 31, 2024 and further clarified vide SEBI FAQs on Listing Regulations (FAQ no. 5) and list of services provided by ICSI.
The amendments made in Reg 24A in December, 2024 were required to be ensured by the equity listed companies with effect from April 1, 2025 for appointment, re-appointment or continuation of the Secretarial Auditor of the listed entity. Therefore, it was amply clear that the applicability is prospective and to be ensured while appointing Secretarial Auditor for FY 2025-26 onwards. Reg. 24A (IC) clarifies that any association of the individual or the firm as the Secretarial Auditor of the listed entity before March 31, 2025 is not required to be considered for the purpose of calculating the tenure.
Pursuant to LODR Amendment 2026, Reg. 62M (1) cross refers to the requirements under Reg 24A which in turn mandates compliance with effect from April 1, 2025. However, it may not be practically feasible for HVDLEs to ensure compliance towards the end of the financial year and a transition time may be required by such HVDLEs. In our view, the requirements should be applicable for Secretarial Auditor appointments with effect from April 1, 2026 which will be required to be done with shareholders’ approval at the AGM 2026 and not impact the existing tenure/ appointments already done by HVDLE.
Related Party Transactions
- Alignment of RPT related provisions with Reg 23, instead of reproducing each of the amendments made in Reg 23 effective from December 13, 2024 and November 19, 2025 [Reg 62K (1)]
- Turnover scale based materiality thresholds for RPTs and other amendments applicable to equity-listed entities are now applicable to HVDLEs (see an article on the approved amendments here)
- NOC of debenture-holders through DT to be obtained in the manner prescribed by SEBI [Reg 62K (5)] (see our FAQs here)
- Aligning the exemptions from RPT approval and clarification on ‘listed’ holding company, with amendments made in Reg. 23 (5) [Reg 62K (7)]
VKCO Comments: Pursuant to the above amendments, HVDLEs will be able to avail the benefits of recent amendments made in Reg 23 as detailed below:
- Remuneration and sitting fees paid by the listed entity or its subsidiary to its director, key managerial personnel or senior management, except who is part of promoter or promoter group, shall not require audit committee approval or disclosure if it is not material.
- Independent directors of the audit committee, can provide post-facto ratification to RPTs within 3 months from the date of the transaction or in the immediate next meeting of the audit committee, whichever is earlier, subject to certain conditions like transaction value does not exceed rupees one crore, is not material etc. The failure to seek ratification of the audit committee can render the transaction voidable at the option of the audit committee and if the transaction is with a related party to any director, or is authorised by any other director, the director(s) concerned shall indemnify the listed entity against any loss incurred by it. Audit committee can grant omnibus approval for RPTs to be entered by its subsidiary in addition to listed entity subject to the certain conditions.
- Exemption for RPTs in the nature of payment of statutory dues, statutory fees or statutory charges entered into between an entity on one hand and the Central Government or any State Government or any combination thereof on the other hand or transactions entered into between a public sector company on one hand and the Central Government or any State Government or any combination thereof on the other hand.
- Scale based threshold for determining material RPTs ranging from minimum of 10% of annual consolidated turnover to Rs. 5000 crore based on the consolidated turnover of the HVDLE.
- Prior approval of the audit committee of the listed entity required for a subsidiary’s RPTs above Rs. 1 crore if it exceeds the lower of 10% of the annual standalone turnover of the subsidiary (or 10% of paid-up share capital and securities premium, if no audited financials of at least one year) or the listed entity’s material RPT threshold under Regulation 23(1) of LODR.
- Omnibus shareholder approvals for RPTs granted at an AGM shall be valid up to the next AGM held within the timelines prescribed under Section 96 of the Companies Act, 2013 (currently maximum 15 months), while such approvals obtained in general meetings (other than AGMs) shall be valid for a maximum of one year
The most critical point that remains pending to be addressed is the nature of disclosures to be made before the audit committee and shareholders while approving RPTs – as to whether the existing disclosure requirements as per Chapter VIII of SEBI Master Circular dated July 11, 2025 will apply or the threshold based disclosure requirement as applicable to equity listed companies i.e. disclosure as per Annexure 13A of SEBI Circular dated October 13, 2025 for RPTs not exceeding 1% of annual consolidated turnover of the listed entity as per the last audited financial statements of the listed entity or ₹10 Crore, whichever is lower, and disclosure as per ISN on Minimum information to be provided to the Audit Committee and Shareholders for approval of Related Party Transactions for RPTs exceeding the aforesaid limit. Considering that HVDLEs will be proceeding with obtaining omnibus approval for RPTs proposed to be undertaken during FY 2025-26, in the absence of any clarification or amendment in the Master Circular, the HVDLEs will continue to follow the existing disclosure requirements.
Other amendments
- Recommendations of board to be included along with the rationale in the explanatory statement to shareholders’ notice [Reg 62D(17)/ Reg 17(11)]
- Exemption from shareholders’ approval requirements for sale, disposal or lease of assets between two WoS of the HVDLE [Reg 62L (6)/ Reg 24(6)]
- Minor terminology changes from year to financial year, income to turnover etc.
- Disclosure requirement of material RPTs in quarterly corporate governance report omitted. Format and timeline of period CG compliance report to be prescribed by SEBI [Reg 62Q(2)/ Reg 27(2)]
VKCO Comments: For equity-listed entities, reporting on compliance with corporate governance norms are a part of Integrated Filing – Governance, required to be filed within 30 days from end of each quarter. The move to provide flexibility to SEBI in prescribing timelines for corporate governance filings may be in order to extend the applicability of Integrated Filing requirements to HVDLEs as well.
Conclusion
While the present amendment strictens the compliance requirement for the HVDLEs with outstanding listed debt securities of Rs. 5000 crore or more, it also provides the ease of compliance as provided for certain matters to equity listed companies. The actionable for HVDLEs will be mainly amending the RPT policy to align with the amended requirements, evaluate the eligibility of the existing secretarial auditor in the light of amended requirements. The entities that cease to be HVDLEs can evaluate the need to retain the committees and policies, in the light of applicable laws.
Our other resources:
SEBI says SWAGAT to investors
– Team Corplaw | corplaw@vinodkothari.com
– Approves major proposals easing institutional investments in IPOs, minimum offer size for larger entities, AIF entry, increased threshold for related party transaction approvals etc.
Relaxed norms for Related Party Transactions
- Introduction of scale-based threshold for materiality of RPTs for shareholders’ approvals based on annual consolidated turnover of the listed entity
| Annual Consolidated Turnover of listed entity (in Crores) | Approved threshold (as a % of consolidated turnover) |
| < Rs.20,000 | 10% |
| 20,001 – 40,000 | 2,000 Crs + 5% above Rs. 20,000 Crs |
| > 40,000 | 3,000 Crs + 2.5% above Rs. 40,000 Crs |
- Revised thresholds for significant RPTs of subsidiaries
- 10% of standalone t/o or material RPT limit, whichever is lower.
- Simpler disclosure to be prescribed by SEBI for RPTs that does not exceed 1% of annual consolidated turnover of the listed entity or Rs. 10 Crore, whichever is lower. ISN disclosures will not apply.
- ‘Retail purchases’ exclusions extended to relatives of directors and KMPs, subject to existing conditions
- Inclusion of validity of shareholders’ approval as prescribed in SEBI circular dated 30th March 2022 and 8th April, 2022
- Rationale (See Consultation Paper)
- Read detailed article – Relaxed Party Time?: RPT regime gets lot softer
Relaxation in thresholds for Minimum Public Offer (MPO) and timelines for compliance Minimum Public Shareholding (MPS) for large issuers (issue size of 50,000 Cr and above)
- Reduction in MPO requirements for companies with higher market capitalisation
- Relaxed timelines for complying with MPS
- Post listing, the stock exchanges shall continue to monitor these issuers through their surveillance mechanism and related measures to ensure orderly functioning of trading in shares
- Applicable to both entities proposed to be listed and existing listed entities that are yet to comply with MPS requirements
- Following changes recommended in Rule 19(2)(b) of Securities Contracts (Regulation) Rules, 1957:
| Post-issue market capitalisation (MCap) | MPO requirements | Timeline to meet MPS requirements (25%) | ||
|---|---|---|---|---|
| Existing provisions | Post amendments | Existing provisions | Post amendments | |
| ≤ 1,600 Cr | 25% | NA | ||
| 1,600 Cr < MCap ≤ 4,000 Cr | 400 Crs | Within 3 years from listing | ||
| 4,000 Cr < MCap ≤ 50,000 Cr | 10% | Within 3 years from listing | ||
| 50,000 Cr < MCap ≤ 1,00,000 Cr | 10% | 1,000 Cr and at least 8% of post issue capital | Within 3 years from listing | Within 5 years from listing |
| 1,00,000 Cr < MCap ≤ 5,00,000 Cr | 5000 Cr and atleast 5% of post issue capital | 6, 250 Cr and 2.75% of post issue capital | 10% – within 2 years 25% – within 5 years | If MPS on the date of listing <15%, then15% – within 5 yrs25% – within 10 yrs If MPS >15% on the date of listing, 25% within 5 yrs |
| MCap > 5,00,000 Cr | 15,000 Cr and 1%of post issue capital, subject to minimum dilution of 2.5% | If MPS on the date of listing <15%, then15% – within 5 yrs25% – within 10 yrs If MPS on the date of listing >15%, 25% within 5 yrs | ||
- Rationale (see Consultation Paper):
- Mandatory equity dilution for meeting MPS requirement may lead to an oversupply of shares in case of large issues;
- Dilution may impact the share prices despite strong company fundamentals.
Broaden participation of institutional investors in IPO through rejig in the anchor investors allocation
- Following changes recommended in Schedule XIII of ICDR Regulations.
- Merge Cat I and II of Anchor Investor Allocation to a single category of upto 250 crores. Minimum 5 and maximum 15 investors subject to a minimum allotment of ₹5 crore per investor.
- Increasing the number of permissible Anchor Investor allottees for allocation above 250 crore in the discretionary allotment – for every additional ₹250 crore or part thereof, an additional 15 investors (instead of 10 as per erstwhile norms) may be permitted, subject to a minimum allotment of ₹5 crore per investor.
- Life insurance companies and pension funds included in the reserved category along with domestic MF; proportion increased from 1/3rd (33.33%) to 40%
- 33% for domestic MFs
- 7% for life insurance companies and pension funds
- In case of undersubscription, the unsubscribed part will be available for allocation to domestic MF.
- Rationale (See Consultation Paper)
- Increase in permitted investors:
- To ease participation for large FPIs operating multiple funds with distinct PANs, which currently face allocation limits due to line caps
- Given the recent deal size, most issuances fall within the threshold of Cat II or higher, limiting the relevance of Cat 1, therefore merge Cat 1 and Cat II
- Including life insurance companies and pension funds:
- Growing interest in IPOs, the amendment will ensure participation and diversify long term investor base.
- Increase in permitted investors:
Clarifications in relation to manner of sending annual reports for entities having listed non-convertible securities [Reg 58 of LODR]
- For NCS holders whose email IDs are not registered
- A letter containing a web link and optionally a static QR code to access the annual report to be sent
- Instead of sending hard copy of salient features of the documents as per sec 136 of the Act
- Aligned with Reg 36(1) (b) of LODR as applicable to equity listed cos
- Currently, temporary relaxation was given by SEBI from sending of hard copy of documents, provided a web-link to the statement containing the salient features of all the documents is advertised by the NCS listed entity
- A letter containing a web link and optionally a static QR code to access the annual report to be sent
- Timeline for sending the annual report to NCS holders, stock exchange and debenture trustee
- To be specified based on the law under which such NCS-listed entity is constituted
- For e.g. – Section 136 of the Companies Act specifies a time period of at least 21 days before the AGM.
Light touch regulations for AIFs that are exclusively for Accredited Investors and Large Value Funds
- Introduction of new category of AIFs having only Accredited Investors
- Reduction of minimum investment requirements for Large Value Funds (LVFs) from Rs. 70 crores to Rs. 25 crores per investor
- Lighter regulatory framework for AIs – only/ LVFs
- Existing eligible AIFs may also opt for AI only/ LVF classification with associated benefits
- Rationale: see Consultation Paper
Read detailed article: Proposed Exclusivity Club: Light-touch regulations for AIFs with accredited investors
Facilitating investments in REITs and InVITs
- Enhanced participation of Mutual Funds through re-classification of investment in REITs as ‘equity’ investments, InVITs to continue ‘hybrid’ classification
- Results in REITs becoming eligible for limits relating to equity and equity indices
- Entire limits earlier available to REITs and InVITs taken together now becomes available to InVITs only
- Rationale (see Consultation Paper)
- In view of the characteristics of REIT & InVITts and to align with global practice
- Expanding the scope of ‘Strategic Investor” & aligning with QIBs under ICDR
- Extant Regulations cover: NBFC-IFCs, SCB, a multilateral and bilateral development financial institution, NBFC-ML & UL, FPIs, Insurance Cos. and MFs.
- Scope amended to include: QIBs, Provident & Pension funds (Min Corpus > 25Cr), AIFs, State Industrial Development Corporation, family trust (NW > 500 Cr) and intermediaries registered with SEBI (NW > 500 Cr) and NBFCs – ML, UL & TL
- Relevance of Strategic Investors:
- Invests a min 5% of the issue size of REITs or INVITs subject to a maximum of 25%. Investments are locked in for a period of 180 days from listing
- Such subscription is documented before the issue and disclosed in offer documents
- Rationale: see Consultation Paper
- to attract capital from more investors under the Strategic Investor category
- to instil confidence in the public issue
SWAGAT-FI for FPIs: relaxing eligibility norms, registration and compliance requirements
- Registration of retail schemes in IFSCs as FPIs alongside AIFs in IFSC
- Both for retail schemes and AIFs, the sponsor / manager should be resident Indian
- Alignment of contribution limit by resident indian non-individual sponsors with IFSCA Regs
- Sponsor contributions shall now be subject to a maximum of 10% of corpus of the Fund (or AUM, in case of retail schemes)
- Overseas MFs registering as FPIs may include Indian MFs as constituents
- SEBI circular Nov 4, 2024 permitted Indian MFs to invest in overseas MFs/UTs that have exposure to Indian securities, subject to specified conditions
- SWAGAT for objectively identified and verifiably low-risk FIs and FVCIs
- Introduction of SWAGAT-FI status for eligible foreign investors
- Easier investment assess
- Unified registration process across multiple investment routes
- Minimize repeated compliance requirements and documentation
- Eligible entities (applicable to both initial registration and existing FPIs):
- Govt and Govt related investors: central banks, SWFs, international / multilateral organizations / agencies and entities controlled or 75% owned (directly or indirectly) thereby
- Public Retail Funds (PRFs) regulated in home jurisdiction with diversified investors and investments, managed independently: MFs and UTs (open to retail investors, operating as blind pools with diversified investments), insurance companies (investing proprietary funds without segregated portfolios), PFs
- Relaxation for SWAGAT-FIs
- Option to use a single demat account for holding all securities acquired as FPI, FVCI, or foreign investor units, with systems in place to ensure proper tagging and identification across channels
- Introduction of SWAGAT-FI status for eligible foreign investors
India Market Access – dedicated platform for current and prospective FPIs
To tackle the problem of global investors in accessing Indian laws and regulatory procedures across various platforms, citing the absence of a centralized and comprehensive legal repository.
Read More:
Decoding “Control” in Pooled Investment Funds: Manager, Investors, or no one?
– Sikha Bansal, Senior Partner and Payal Agarwal, Partner | corplaw@vinodkothari.com
Corporate relationships and hierarchies are prone to misuse and hence, there are regulatory prescriptions to ascertain and address the areas of conflict. This is usually done through identification of control and/or significant influence, if any, existing between the parties. If there is an element of control /significant influence, the parties may be required to follow a host of protocols – including but not limited to being identified as a promoter, to put in place related party controls, to disclose their transactions and even go for consolidation of accounts, etc.
While in simple structures, it is still possible to objectively conclude the existence of control/significant influence (or the absence of it); in certain complex structures, particularly where unincorporated entities are involved, the determination can be quite subjective and dependent on multiple factors. For instance, in the case of pooled investment schemes (called “funds” henceforth) like mutual funds, AIFs, ReITs, InVITs, etc., the entity would often be formed as a trust which would hold the common hotchpot of funds contributed by investors. Besides investors, there would be multiple parties involved, viz., the fund sponsor, fund manager, and the trustee. Mostly, the fund may not be a legal entity[1]; however, it is segregated from the funds of either the manager or trustees. If there is any element of control or even significant influence on the funds, by any of these investors/parties, it would necessitate treatment of such funds in accordance with regulatory protocols as discussed above. Further, at the next level, if there is any element of control by such funds on other entities, then there would be concerns around indirect control of investors/parties on such other entities as well, percolating through the fund. Therefore, whether the fund is being controlled or significantly influenced by any person, becomes a pertinent question.
In this article, we attempt to analyze the same and try to frame some guiding principles for ascertaining circumstances in which a fund would be said to be controlled or significantly influenced.
Meaning of control
Depending on the specific nature and characteristics, pooled investment funds in India are governed by distinct SEBI regulations, such as, SEBI (Alternative Investment Funds) Regulations 2012, SEBI (Infrastructure Investment Trusts) Regulations 2014, SEBI (Mutual Funds) Regulations 1996, etc. These regulations define the terms “control” or “change in control” in the context of either the sponsor or the manager or both, but not in the context of the fund. Hence, one will have to look towards accounting standards – namely IFRS 10 which sets out guidelines for the assessment of control in the hands of a fund manager. In India, Ind AS 110 replicates the guidance provided under IFRS 10. Detailed discussion on the principles discussed under IndAS 110 is as below.
Components of control
Ind AS 110 refers to three cumulative components of control, viz.,
- Power over the investee,
- Exposure or rights to variable returns from its involvement with the investee, and
- The ability to use its power over the investee to affect the amount of the investor’s returns.
As evident, the Standard assumes a relationship of investor and investee. In case of funds, while there would be investors; however, the asset manager too, may be required to hold a certain percentage in the fund as skin-in-the-game, pursuant to applicable regulations. Therefore, in the case of funds, the asset manager is also in the position of an investor, besides being in the position of a manager.
Here, it is significant to note that the “existence of power” or “exposure to returns” individually does not indicate an existence of control, unless there is a link between power and returns, that is, the power can be used to direct the relevant activities, which would affect the returns of the investee.
| Component of control | Test for existence |
| Existence of power over the fund | Ability to direct the relevant activities, i.e., activities that significantly affect the investee’s returns. |
| Exposure to or rights over variable returns | Potential to vary investor’s returns through its involvement as a result of investee’s performance |
| Link between power and returns |
Ability to use its powers (of directing relevant activities) to affect the investor’s returns from its involvement with the investee, i.e., the investor shall hold decision-making rights as a principal. Also, note that what matters is “ability”, whether there is actual use of such power or not, becomes irrelevant. |
As power arises from rights, the investor must have existing rights that give the investor the current ability to direct the relevant activities [para B14]. Such rights have been briefly discussed in the later part of this write-up.
Power to direct relevant activities of the Fund
In the context of a fund, the relevant activity would be the management of the asset portfolio of the fund. The said function is primarily performed by the fund manager, albeit, the same may be in the capacity of an agent to the unitholders. Hence, Para 18 of Ind AS 110 requires a decision-maker to determine whether it is a principal or an agent for the fund, since a delegated power cannot signify control.
Fund manager – a principal or an agent
IndAS requires that an investor with decision-making rights (called as “decision maker”), when assessing whether it controls the investee, shall determine whether it is a principal or an agent. An investor shall also determine whether another entity with decision-making rights is acting as an agent for the investor [para B58]. The investor shall treat the decision-making rights delegated to its agent as held by the investor directly [para B59].
Thus, in cases where the fund manager is acting as a mere agent of the investor (that is, the fund manager is under the control of the investor), the decision-making rights of the fund manager are treated as that of the investor itself, and control is assessed accordingly. Therefore, to say that an investor has control over the fund, it is important to establish that the investor has control over the fund manager, who in turn, is acting as an agent of the investor. Here, whether the fund manager itself is able to control the fund or not also becomes a pertinent point for determination.
Para B60 of Ind AS 110 specifies the factors that need to be considered in order to determine whether the fund manager in its capacity of a decision maker, is merely an agent to the principal (other investors) or exercises its decision-making rights in the capacity of a principal to the fund.
The primary factor, holding the highest weightage, in making such determination – is the kick-out rights available with other investors. However, where the same does not conclude fund manager as an agent, various other factors require consideration.
Determination of fund manager as a principal v/s agent
Determining ‘control’ of the investor
Various tests are relevant for determining the control of the investor over the Fund. A summary view of the same is given below:
The table below shows a detailed analysis of each relevant test for assessing the existence of control:
| Sl. No. | Test of control | Assessment Remarks |
| Power to direct relevant activities | ||
| 1. | Nature of rights | The nature of rights shall be substantive, i.e., providing an ability to direct relevant activities and not merely protective. Protective rights apply only to protect an investor from fundamental changes in the funds’ activities or in exceptional circumstances and do not imply power over the fund. |
| 2. | Majority voting rights |
An investor holding more than 50% of voting rights in the fund would generally be considered to have power over the fund, unless such voting rights do not signify substantive decision-making rights. Mention is also made of the SEBI Circular dated 8th October, 2024 that requires conducting due diligence for every scheme of AIFs where an investor, or investors belonging to the same group, contribute(s) 50% or more to the corpus of the scheme. |
| 3. | Ability to influence other investors into collective decision-making | Where a right is required to be exercised by more than one party, whether the investor has the practical ability to influence other rights holders into collective decision-making is relevant in assessment of control of the said investor over the fund. |
| 4. | Contractual arrangements with other investors | Voting rights as well as other decision-making rights may arise out of contractual arrangements giving an investor sufficient rights to have power over the fund. |
| 5. | Size of an investor’s holding relative to size of holding of other parties |
An investor holding substantially higher stake, where other investors are holding fragmented holdings, such that a large number of parties are required to outvote the investor, will give the first investor power over the other investors, even in the absence of majority voting rights. |
| 6. | Exercise of voting rights by other investors |
Where the stake held by an investor is relatively higher from other investors but not significantly higher to indicate existence of power, however, the other investors do not actively participate in the meetings – the same indicates the unilateral ability of the first investor to direct the relevant activities. |
| Exposure to, or right over variable returns | ||
| 7. | Dividend and distributable profits proportionate to holdings | This is directly proportional to the holding of an investor in a fund. Where the holdings of an investor does not comprise a sizable portion of the fund, the same does not indicate a significant exposure to variable returns earned by the fund. |
| 8. | Remuneration for servicing the assets and liabilities of the fund |
In the context of a fund, the fund manager provides services w.r.t. the management of its assets and liabilities. The remuneration may contain a fixed as well as a variable component, generally, a percentage based fees based on performance of the fund. However, the same does not indicate an existence of control, if the following elements are present:
|
| 9. | Returns in other forms | In addition, there might be returns available in other forms providing a right over variable returns of the Fund. |
Analysis of examples contained in Ind AS 110
Below, we discuss the examples explained under Ind AS 110 in the context of funds:
| Illustration | Facts | Analysis |
| 13 |
|
Fund manager is an agent, so question of holding control does not arise |
| 14 |
|
Fund manager is an agent, so question of holding control does not arise |
| 14A |
|
Fund manager is an agent, so question of holding control does not arise |
| 14B |
|
Decision-making rights are exercised by the fund manager in the capacity of principal. Variability of returns appears significant to conclude an existence of control. |
| 14C |
|
While variability of returns appears significant to indicate control with the fund manager, more weightage is given on substantive removal rights held by other investors. Hence, the fund manager is considered as an agent, and does not control the fund. |
| 15 |
|
Considering the significant level of exposure to variability of returns, the fund manager is considered principal and controls the fund. |
| 16 |
|
Considering the significant level of exposure to variability of returns, the sponsor is considered principal and controls the fund. The obligation to act in the best interests of the investors is not significant. |
The “trust” angle
Funds are usually constituted in the form of a trust, where there is an independent trustee. Further, the investment manager is under an obligation to act in a fiduciary capacity towards the investors of AIF, in the best interest of all investors and manage all potential conflicts of interest [Reg 20(1) of AIF Regulations r/w the Fourth Schedule]. In such a scenario, can it be argued that there can be no element of control over a fund, irrespective of who the contributor is?
In SREI Infrastructure Finance Limited vs Shri Ashish Chhawchharia, the NCLAT, in view of the specific facts and circumstances of the case, held the existence of control of the contributor of the AIF over the investee company of the AIF through the AIF. The matter pertained to identification of the appellant as a related party of the corporate debtor in the context of IBC. The surrounding facts and circumstances are briefly put forth as under:
Therefore, in a given set of facts and circumstances, it might be possible to contend that the fund is being controlled by an investor/group of investors.
Conclusion
In questions involving conflict of interest, control, and relationships, Courts have often adopted purposive interpretation in such cases rather than literal interpretation. As held in Phoenix Arc Private Limited v. Spade Financial Services Limited, AIRONLINE 2021 SC 36, albeit in the context of section 21(2) of IBC would still be relevant. Referring to an authoritative commentary by Justice G.P. Singh which states that the terms may not be interpreted in their literal context, if the same leads to absurdity of law, the Supreme Court held: “The true test for determining whether the exclusion in the first proviso to Section 21(2) applies must be formulated in a manner which would advance the object and purpose of the statute and not lead to its provisions being defeated by disingenuous strategies.” Therefore, whether the fund is being controlled by any person/entity is to be seen in the light of all facts and circumstances, and there can be no straight-jacket formula to arrive at a conclusion.
Other resources on AIFs:
[1] For example, it may be a trust. However, it is possible to envisage funds held in LLP or company format, in which case the fund becomes a separate entity. This article does not envisage a fund formed as a body corporate.
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Should you expect adjustment in profits for “Expected Credit Loss”?
– Customised profits for CSR and managerial remuneration under Section 198 of the CA, 2013
– Pammy Jaiswal and Sourish Kundu | corplaw@vinodkothari.com
Background
The presentation of the profit and loss account has been outlined under the Schedule III of the Companies Act, 2013 (‘Act’) and the profit computation method has been provided for under the applicable accounting standards [See IND AS 1]. The basic principle is to showcase a true and fair view of the financial position of a company. Having said that, it is also significant to mention that the Act provides for an alternative method for computing net profits, the basic intent of which is to arrive at an adjusted net profit which does not have elements of unrealised gains or losses, capital gains or losses and in fact any item which is extraordinary in its very nature. The same is contained under the provisions of section 198 of the Act. This section, unlike the general computation method, has a limited objective i.e., calculation of net profits for managerial remuneration as well as corporate social responsibility.
There are four operating sub-sections under section 198 which provides for the adjustment items:
- Allowing the credit of certain items – usual income in the form of govt subsidies
- Disallowing the credit given to certain items – unrealised gains, capital profits, etc.
- Allowing the debit of certain items – usual working charges, interests, depreciation, etc
- Disallowing the debit of certain items – capital losses, unrealised losses, usual income tax, etc
It is important to note that items other than those mentioned above need not be specifically adjusted unless their nature calls for adjustment under the said section. Now if we discuss specifically for items in the nature of Expected Credit Loss (‘ECL’) for companies following IND AS, it is important to understand the nature of ECL in the context of making adjustments under section 198 of the Act. See our write on Expected Credit Losses on Loans: Guide for NBFCs.
Understanding ECL and Its Accounting Treatment
Reference shall be drawn from Ind AS 109 which defines ‘credit loss’ as ‘the difference between all contractual cash flows that are due to an entity in accordance with the contract and all the cash flows that the entity expects to receive (i.e. cash shortfalls), including cash flows from the sale of collateral held.’ ECL is essentially a way of estimating future credit losses, even on loans that appear to be fully performing at the time of such analysis (Stage 1 assets). It is based on expected delays or defaults, and the estimated loss is recorded as a charge to the profit and loss account, based on a 12-month probability of default.
As per Ind AS 109, ECL is used for the recognition and measurement of impairment on financial assets both at the time of origination as well as at the end of every reporting period. ECL is a forward-looking approach that requires entities to recognize credit losses based on the probability of future defaults/ delays.
However, this does not result in a reduction in the carrying value of the asset (unless the asset is already credit-impaired, i.e., Stage 3). In that sense, while ECL reflects asset impairment, it does not operate like a direct write-down. And unlike conventional provisioning, ECL is not a “provision” under traditional accounting – it is a loss allowance rooted in forward-looking estimations. Further, it is also important to understand that the booking of ECL does not mean that there has been a credit loss in the actual sense, the same is a methodical manner of estimating the probable default risk association with the asset value.
Treatment of ECL under Section 198
Section 198 requires excluding unrealised or notional adjustments, such as fair value changes or revaluation impacts in terms of Section 198(3) of theAct.
The section also refers specifically to actual bad debts, under Section 198(4)(o). This raises the natural interpretational question: should model-driven, probability-weighted ECL charges – which do not reflect realised losses – really be allowed to remain deducted while computing such customised profits? Well, the answer lies in the requirement and nature of such an item being required to be deducted from the profit and loss account under IND AS 109.
Alternative approaches -Treatment of ECL
The question around the treatment of ECL can be viewed from two perspectives. The first being the nature of ECL and the second on the routine treatment and calculation of ECL. If we look at the nature, it is clear that while it is imperative for companies to compute ECL at the time of origination as well as at the end of every reporting period, it is important to note that there is no loss or default in the actual sense. This means that the amount computed as ECL has not been an actual default.
On the other hand, if we look at the need for such computation and the methodical approach to arrive at the value of ECL, the same is likely to be considered as a usual working charge which is charged to the profit and loss account. Accordingly, we have come across two possible and permissible approaches to the treatment of ECL while computing the profits under section 198. The same has been discussed below with the help of illustrations.
Approach 1: Disallowing ECL in the year of its booking and subsequent adjustment of bad debt
| Year 1 | Year 2 |
| PBT – 1000 Depreciation – 20 ECL – 40 Loss on sale of fixed asset – 15 | PBT – 1200 Depreciation – 20 ECL – 35 Actual Bad Debt – 15 Profit on sale of equity shares – 25 |
| Year 1 | Amount | Year 2 | Amount |
| PBT | 1000 | PBT | 1200 |
| Depreciation | – | Depreciation | – |
| Add: ECL | 40 | Add: ECL | 35 |
| Add: Loss on sale of fixed asset | 15 | Less: Profit on sale of equity shares | (25) |
| PBT u/s 198 | 1055 | PBT u/s 198 | 1210 |
Notes:
- ECL has been ignored in profit computation u/s 198 considering the same is an unrealised loss and therefore reversed.
- Depreciation and actual bad debt has not been adjusted again as it has already been deducted under normal profit computation.
- Capital gains and losses have been adjusted/ reversed under the computation.
Approach 2: Allowing ECL in profit computation and netting off actual bad debt from the same in subsequent period
| Year 1 | Year 2 |
| PBT – 1000 Depreciation – 20 ECL – 40 Loss on sale of fixed asset – 15 | PBT – 1200 Depreciation – 20 ECL recovered – 35 Actual Bad Debt – 15 Profit on sale of equity shares – 25 |
| Year 1 | Amount | Year 2 | Amount |
| PBT | 1000 | PBT | 1200 |
| Depreciation | – | Depreciation | – |
| ECL | – | ECL | – |
| Add: Loss on sale of fixed asset | 15 | Actual bad debt | – |
| ECL recovered | – | ||
| Less: Profit on sale of equity shares | (25) | ||
| PBT u/s 198 | 1015 | PBT u/s 198 | 1185 |
Notes:
- ECL has been considered in profit computation u/s 198 and therefore, not adjusted to reverse the impact
- Similarly, ECL recovered has been considered part of normal or routine adjustment and hence, not reversed.
- Actual bad debt is not to be considered at the time of profit computation under the regular computation since it can be adjusted from the ECL already booked.
- Capital gains and losses have been adjusted/ reversed under the computation.
Concluding remarks
All listed companies are required to comply with Ind AS and given that an instance of a company having nil receivables is a rare occurrence, the discussion on how ECL is to be treated while computing net profit in terms of Section 198 becomes more than just an academic debate.
As long as the impact of any P&L item being extra ordinary in nature is taken off from the profits computed u/s 198, the same serves the purpose and intent of section 198 of the Act. ECL, while valid for accounting, is fundamentally an estimated, non-actual loss. It exists because accounting standards demand alignment of income with credit risk and not because a real outflow has occurred. However, it cannot be said that ECL already deducted while calculating profit before tax as per applicable accounting standards will be reversed while calculating profits in terms of Section 198.
Further, given that ECL is based on expectation calculated using due accounting principles, the actual bed debt, if within the ECL limit, does not impact the P&L. On the contrary, in case of the actual bad debt being in excess, the P&L warrants a subsequent debit of the net amount. For example, under approach 2 if the actual bad debt would have been 50, i.e. in excess of the ECL booked in the previous period by 10, the normal profit computation would have allowed a debit of 10.
In fact, both the approaches lead to the fulfilment of the intent of section 198 and hence, it is not necessary to consider any one approach as correct. Having said that, it is imperative to follow uniform practice in this regard in the absence of which the profits u/s 198 may be impacted.
Therefore, where the statutory and accounting frameworks intersect – but are not necessarily aligned – companies must adopt a carefully considered, principle-based approach as even a single line item like ECL can materially influence the base for managerial remuneration and CSR spending unlike other estimate based items such as revenue deferrals viz. sales returns or warranties, which are made as a matter of accounting prudence, but does not represent outflows for statutory computation purposes. Accordingly, there is no reason for deviating from the Indian GAAP principles for the purpose of customised calculation of net profits for specific purposes.
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