Introduction of SSFs : A game changer for Indian Insolvency Regime

INTRODUCTION

On January 27, 2022 , Securities and Exchange Board of India (SEBI) released a circular notifying the salient features of SSFs which are a class of AIFs to exclusively deal with distressed asset market with the motive to help the financial institutions release the money stuck in the stressed assets by reducing the load of ARCs in acquiring such stressed assets and facilitating the process. The circular mentions that the schemes of SSF have a corpus of at least One Hundred Crore rupees and if it intends to act as a resolution applicant, it shall comply with the eligibility requirements as specified under the Insolvency and Bankruptcy Code, 2016. Moreover, it may acquire stressed loan in terms of Clause 58 of the Master Direction – Reserve Bank of India (Transfer of Loan Exposures) Directions, 2021 (“RBI Master Direction”)

Security Exchange of India[Image Source: Freepic]

UNLOCKING INVESTMENT IN DISTRESSED DEBT MARKET

Countries around the world has been recognizing the concept of investing in SSFs for a while now, especially USA. Special situation investing means investing during a specific occurrence/event which can be during the time of distress, delisting, merger, liquidity issues etc. Distress debt investing is one such branch of special situation investing and is also called Vulture Investing denoting the investors/vultures who specifically aim for investing in distressed debts and securities to buy them at extremely low prices in the secondary market and utilize several means to obtain a price higher than the purchase amount from these assets.

The Indian financial system has been suffering due to its persistent bad debt problem as many financial institutions are readily selling their Non-Performing Assets creating a system with financial institutions not able to deal with their stressed assets. A greater amount of bad debt necessitates a greater provision, which locks up more capital in the financial system. This limits loan availability and hinders economic expansion. Banks and other financial institutions were initially limited to selling their stressed loans to ARCs in order to solve this issue.

This is when the Indian financial market felt the need to introduce the Special Situation Funds as they can now sell to SSFs as well. Transferring troubled loans to ARCs and SSFs would free up capital that has been held locked in the banking sector and increase the availability of credit. SSFs basically are the funds collected from various institutions and affluent individuals to be invested in the stressed assets to help with the resolution process. It is registered with SEBI as Alternative Investment Funds (AIFs) but its introduction fixed one major issue with the framework of AIFs as SSFs can participate in secondary market which wasn’t the case prior to its introduction. AIFs had a limited role in secondary market for corporate loans even though it played an important role in equity markets. With the new regulations being introduced, SSFs as a sub category of AIFs is allowed to participate in the secondary market to give out loans to the institutions struggling with mounting debt.

Though there is a catch within the new framework as firstly, it only allowed SSFs to come into play after the default stage. In order to create an efficient system to deal with the distressed debt market in India, SSFs must be given open access in the secondary market i.e. it should be allowed to participate in pre-default stage, providing an opportunity to the firms to discharge stressed assets to SSFs even before they default. This would lead in reducing the collective load of the problems on financial institutions during restructuring or insolvency. The involvement of ‘Vultures’ in the pre-default stage in America proved to be beneficial in dealing with the distressed debt market. Secondly, unlike SSFs, ARCs have been accorded the tag of ‘secured creditors’ which allows more freedom in terms of buying stressed assets. The market size for stressed asset sales might increase if SSFs are given more freedom to acquire debt through the assignment of debt in the regular course of business rather than through bankruptcy. It will help expand the investor pool and assist stressed asset resolution in a more proficient manner.

Moreover, regardless of whether a default has occurred or not, Indian lenders and investors should have complete freedom to sell their loans or bonds in the secondary market at the best price feasible in order to reduce risks of future insolvency or restructuring. SSFs must be given seamless access to the entire secondary market for investment and non-investment corporate debt in order to achieve this result.

Banks had historically originated loans and retained them until they were repaid. With the development of syndicated lending, lending shifted from involving a single lender to a group of lenders. Demand for secondary trading also grew as primary syndication market volumes rose, enabling risk, liquidity and portfolio management. Thus it can be said that the secondary market for corporate loans would have more liquidity if SSFs were permitted to buy investment-grade loans.

The secondary loan market has now been far from a novel concept in global financial markets. These markets maintain liquidity when many non-bank investors like private equity funds, insurance firms, etc. are able to participate. Consequently, allowing SSFs access to the secondary market in India as well would be consistent with the global trend.

CONCLUSION

As SEBI introduce a new player to the Indian insolvency system, it should be considered an indicator of the beginning of a new age for the distressed debt market in India. The expansion of “vulture funds” and the distressed debt market in India would undoubtedly benefit from SSFs’ increased presence in secondary markets during the pre-default stage. It will be prominent to see how SEBI and the insolvency regime would cooperate to let SSFs establish themselves in the secondary market. With the launch of SSFs, distressed debt investing in India will enter the contemporary era. SSFs must be permitted full involvement in the whole secondary market for corporate debt, not only the post-default phase, in order to reach its full potential.

Author: Chitrangda Saini IIIrd Year, B.A., LL.B., A Student of  National Law University Odisha, in case of any queries please contact/write back to us via email to chhavi@khuranaandkhurana.com or at  Khurana & Khurana, Advocates and IP Attorney.

 

 

 

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