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The Reserve Bank of India (RBI) on Wednesday tweaked rules governing investments in alternative investment funds (AIFs), offering some relief for lenders forced to make large provisions, and investors suddenly facing a drought of capital.

In December, RBI ordered banks and non-bank lenders to sell their investments in AIFs, which had further invested in companies to which the lenders had given loans in the previous 12 months; otherwise, they had to make 100% provisions against them.

On Wednesday, the central bank clarified that lenders need to provide for only the amount the AIF invested in the debtor company, and not the entire amount the lender invested in the AIF. RBI also said its directive does not cover equity shares of the debtor company, but all other investments, including hybrid instruments.

Dipen Ruparelia, head of products at Vivriti Asset Management, said that earlier, if a bank or a non-banking financial company (NBFC) had a 100 crore investment in an AIF, which further makes a 50 crore investment in a debtor entity, then the lender had to make a provision for the entire 100 crore; with the latest tweak, the provisioning requirement will be only 50 crore.

“This is a welcome change to that effect,” Ruparelia said.

The central bank’s December action had come in the wake of concerns that some lenders were misusing the AIF route for evergreening loans, a practice where lenders extend new loans to pay off old ones. However, this forced banks and NBFCs to make steep provisions, and tightened capital flows for AIFs. On 26 February, Mint reported that top banks, including State Bank of India, HDFC Bank and Axis Bank, had walked back on capital commitments to avoid falling foul of rules.

RBI on Wednesday said it has made the change after receiving representations from various stakeholders, and to ensure uniformity in implementation among regulated entities (REs).

However, at least two industry executives were unhappy about the central bank keeping hybrid instruments out of the purview of the relaxation.

According to Siddharth Pai, executive council member of the PE/VC industry body Indian Venture and Alternate Venture Capital Association, while the changes provide some operational and regulatory clarity, they also raise new questions.

“The exclusion of equity shares from the definition of downstream investments works only for investments in listed companies. It fails to account for private equity and venture capital investments, which are in the form of compulsory convertible instruments such as CCPS and CCDs. The industry is debating as to whether they would need to convert all their hybrid secured to equity to allow REs to stay invested in their funds,” said Pai.

“Furthermore, there is still ambiguity as to whether existing REs can still honour capital calls to AIFs who do not meet the specific criteria in the new circular. The industry will reach out for further clarity on the matter,” he added.

Gopal Srinivasan, chairman of TVS Capital Funds said the changes provide a boost to fund of funds (FoFs), which will provide additional comfort for the banks’ investment in AIFs. 

“We are also hoping that RBI will treat compulsory convertible instruments in accordance with Fema (Foreign Exchange Management Act) definition and treat them as equity, which can then be excluded from these guidelines, as hybrid instruments seem to be. Additionally, we expect all new funds sanctioned for AIFs from banks, as well as drawdowns held up due to the  December circular to go through.”

RBI also excluded lenders investing in AIFs through intermediaries such as fund of funds or mutual funds.

In the third quarter, five private banks made provisions worth 2,334 crore against their AIF portfolios, with HDFC Bank setting aside maximum of 1,220 crore, followed by ICICI Bank with 627 crore. State Bank of India had made a provision of 240 crore against its total exposure of 1,000 crore.

Among non-banks, Piramal Enterprises had written down its entire investment in AIFs, resulting in a consolidated loss of 2,377.59 crore.

Experts believe the entire provisioning made by these entities may not be reversed as some of them are in the form of hybrid securities. However, the provisioning burden will reduce to the extent of their investment.

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Published: 27 Mar 2024, 09:32 PM IST

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