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The Securities and Exchange Board of India (SEBI) is deliberating on allowing brokers to invest in non-securities or unrelated businesses, said three people in the know.
Brokers are keen to use their surplus net worth or reserves to invest in fintech, technology and even real estate companies. Some want to lend to their NBFC arms.
Rule 8 (1)(f) and Rule 8 (3)(f) of the SCRR require that members of a stock exchange, including brokers, do not engage in businesses other than securities or commodity derivatives.
“Brokers have a lot of surplus which can be deployed in fintech and technology companies engaged in activity related to the capital market. There is a case for simplifying approval for the same,” said an industry official.
SEBI is in favour of investments being done through a holding company that is not the broking entity, said sources. Most brokers today act as the parent entity with distribution, wealth management, NBFC, PMS and investment banking subsidiaries.
The other option suggested by the regulator is to pay dividends and use that to invest in non-core businesses. This option, however, would result in a tax outgo in the form of a dividend distribution tax.
“At present, the broking entity practically serves as the holding company for other related businesses. There have been instances of brokers giving loans to their NBFC arms or investing in real estate firms. The regulator is not comfortable with this arrangement,” said another official.
In a January 7, 2022 circular, the National Stock Exchange (NSE) spelt out the list of activities in contravention of Rule 8(3)(f). These include corporate guarantees towards credit facilities, borrowing funds for granting loans to group companies, issuing commercial papers to raise money, investments in businesses such as real estate or NBFC, collecting money in the form of deposits and buying and selling digital gold.
It is unclear if the regulator will give a leeway on some of these activities post deliberations and if there will be a cap on the investment in non-securities businesses. An email sent to SEBI did not get a response.
“There are concerns on how the broker will meet its daily margin or liquidity needs in case of an emergency. At best, 5-10 per cent of the surplus net worth could be allowed to be invested in non-core areas,” said the first official quoted above.
The issue assumes significance given the appeal filed by Kotak Securities with the Bombay High Court in November last year to set aside the January 7 circular and another order issued by the NSE.
The broker has argued that the exchange has no authority to issue the January circular since it modified the statutory SCRR rules framed under Section 30 of the Security Contract Regulation Act, 1956.
An October 13 NSE order issued last year directed Kotak Securities to submit a plan within 45 days on the divestment of its investments amounting to ₹624.6 crore in four group entities Kotak Mahindra Prime, Kotak Mahindra Financial Services, Kotak Mahindra Investments and Kotak Infrastructure Debt Fund. These investments were reportedly in the form of equity and debentures acquired by Kotak Securities between 2007 and 2017.
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