The Securities and Exchange Board of India (SEBI) is considering permitting alternative investment funds (AIFs) to choose a dissolution period for handling unliquidated investments rather than mandating a distinct liquidation scheme.
The new proposals come in the backdrop of pushback from the industry given the hurdles in setting up and managing liquidation schemes and potential tax implications on account of transfer of assets.
Last year the regulator had allowed illiquid investments to be sold to a new scheme of the same AIF (liquidation scheme) or to be distributed in-specie to investors.
Currently, AIF schemes that have surpassed their liquidation period before June 15, 2023, lack the choice to initiate a liquidation scheme. However, they can utilize the dissolution framework, as indicated by the regulatory consultation paper.
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AIF schemes, whose liquidation period has already expired or would be expiring within a month from the date of notification in this regard, will be given a fresh one-time liquidation period of one-year.
SEBI has further proposed that the flexibility available for AIFs to deal with unliquidated investments at the end of their tenure be extended to venture capital funds (VCFs) even if their tenure has expired. As per current norms, VCFs are required to liquidate their investments within three months ofthe expiry of their tenure (AIFs get 12 months).
Accordingly, a new framework may be specified to facilitate VCFs to migrate into AIF Regulations, and register as Category 1 AIF – VCF, or Migrated VCFs. Such VCFs can opt for a dissolution period akin to AIFs and will be exempt from minimum investment requirement, corpus size and other requirements of AIFs.
At present, 89 VCFs that were to complete their tenure (or extended tenure) are continuing beyond the period disclosed in the private placement memorandum, according to SEBI.
Subramaniam Krishnan, Partner, Private Equity Tax, EY India, said, “Venture Capital Funds launched under the erstwhile VCF Regulations now have a clear path forward to deal with unliquidated investments in their portfolio. The proposals seem to be pragmatic and, with a few tweaks, can be a win-win for all stakeholders.”
Dissolution rules
The dissolution period can be opted after obtaining positive consent of 75 per cent of investors by value of their investment in the scheme. No management fee will be imposed, and no new commitments will be accepted during this duration.
The period will commence from the expiry date of liquidation period and will not be more than the original tenure of the scheme. If the scheme fails to sell the unliquidated investments by the expiry of this period, such investments shall be distributed in-specie to the investors.
The AIF will arrange bids for a minimum of 25 per cent of the value of the unliquidated investment. The AIF will disclose the bid value, along with the valuation of the unliquidated investments carried out by two independent valuers. The dissenting investors can fully exit the scheme out of the 25 per cent bid arranged by the AIF.
“The period post the term of the fund will in effect become the dissolution period. No one will opt for the liquidation scheme if they are allowed to continue in the same fund. So the new framework could serve as a replacement for the liquidation scheme,” said Yashesh Ashar, Partner, Illume Advisory.
He believes that the proposal recommending an additional year to AIFs for liquidation may have to be cautiously implemented for only those AIFs whose managers are confident of winding up during the extended period.