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23 April 2010 TAX

RBI brings Core Investment Companies under its regulatory framework releases draft guidelines Background Under the extant regulations governing Non-Banking Financial Companies (NBFC), a company having its principal business as acquisition of shares/ stocks/ bonds/ debentures is required to obtain registration with the Reserve Bank of India (RBI) and comply with certain conditions. Further, non-deposit taking NBFCs with an asset size of INR 100 crore and more as per the last audited balance sheet are classified as systemically important (NBFC-ND-SI) and are required to comply with stringent capital adequacy and credit concentration norms. In the past, holding companies having stake in shares/ debentures etc. of other companies for the purpose of investment, took a view that they are not carrying on business but merely holding such securities as investments and therefore, are not required to be registered with RBI as NBFC. In some cases, pure holding companies approached RBI to seek exemption from NBFC registration and such cases were considered by RBI on a case-by-case basis. Proposed Regulatory Framework In line with Monetary Policy Statement for FY 2010-11, RBI has issued Draft Guidelines for Core Investment Companies 1 (CICs) i.e. companies which have their assets predominantly as investments in shares, not for trading but for holding stakes in group companies. In view of systemic implications of access to public funds 2 by CICs, RBI has decided to bring CICs under its regulatory framework and proposed that all CICs having an asset size of INR 100 crore or more will be required to obtain Certificate of Registration from RBI, even if they have been advised in the past that registration is not required. Thus, holding companies of financial conglomerates, infrastructure groups and other industry groups are likely to fall within the purview of CIC regulations and may be required to obtain registration with RBI. The draft guidelines have been placed on RBI's website for public comments. The following regulatory framework has been prescribed for CICs:

1 2

DNBS (PD) CC.No. / 03.10.001/2009-10 dated 21 April, 2010 Public funds are defined as funds raised either directly or indirectly through public deposits, Commercial Paper, debentures, inter-corporate deposits, bank finance and other borrowings.

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Particulars

CIC (Asset size less than INR 100 crore)

Systemically Important CIC (CICs-ND-SI) (Asset size of INR 100 crore or more)

Registration requirements Registration with RBI Time limit for obtaining RBI registration Not required Required (irrespective of whether they were specifically exempted in the past from registration with the RBI or not) Existing CICs-ND-SI: Within six months from date of the Notification. CICs-ND-SI can continue existing business till disposal of their application by the RBI. CICs whose asset size would cross INR 100 crores at a later date: Within three months of crossing the asset limit

Not Applicable

Consequences of non-registration Conditions Investments

Not Applicable

Will be regarded as contravening the provisions of Section 45IA of the RBI Act, 1934

90 per cent of their total assets are in investments in shares of investee companies for holding stake in the said investee companies

90 per cent of the total assets are investments in equity, debt, or loans in group companies and Investment in equity shares of group companies for holding stake in these companies is not less than 60 per cent of total assets.

Embargo on trading in shares Accepting or holding Public Deposits Carrying out other Financial Activities

Cannot trade in shares except for block sale to dilute or divest the holding Barred from accepting or holding Public Deposits

Cannot trade in shares except for block sale to dilute or divest the holding Barred from accepting or holding Public Deposits

Cannot carry on any other financial activities 3 except investments in bank deposits, Govt. securities, loans to and investments in debt issuances of group companies, or guarantees

Cannot carry on any other financial activities3 except investments in bank deposits, Govt. securities, loans to and investments in debt issuances of group companies, or guarantees issued on

Financial activities referred to in Section 45 I (c) and 45 I(f) of the RBI Act, 1934

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Particulars

CIC (Asset size less than INR 100 crore) issued on behalf of group companies

Systemically Important CIC (CICs-ND-SI) (Asset size of INR 100 crore or more) behalf of group companies Ongoing maintenance of a minimum Capital Ratio whereby its Adjusted Net Worth 4 (ANW) shall be at least 30 percent of its aggregate risk weighted assets on balance sheet and risk adjusted value of off balance sheet items as on the date of the last audited balance sheet. Outside liabilities 5 shall not exceed 2.5 times of its ANW calculated as on the date of the last audited balance sheet Exemption available provided all above conditions are complied with 6 . CICs-ND-SI which do not meet the above conditions may approach RBIs Regional Office in whose jurisdiction they are registered, with an action plan for compliance with these conditions, in order to avail the exemption. RBI may examine the action plan of such CICsND-SI and impose such conditions and restrictions as it deems fit.

Capital requirement

Not Applicable

Leverage ratio

Not Applicable

Exemption from : (i) maintenance of statutory minimum Net Owned Fund (NOF); and (ii) requirements of Non-Banking Financial (NonDeposit Accepting or Holding) Companies Prudential Norms (Reserve Bank) Directions, 2007 including requirements of capital adequacy and exposure norms Submission of statutory auditors certificate for

Not Applicable

Not Applicable

Annually

Adjusted Net Worth have been defined in Draft regulations as Owned Fund + 50 percent of Revaluation reserve arising from valuation of shares (if any) as per latest audited Balance sheet + 50 percent appreciation in the book value of quoted investment ()diminution in the aggregate book value of quoted investments as per latest audited Balance sheet. Outside Liabilities means total liabilities other than paid up capital and reserves but including bank borrowings, all forms of debt, obligations having characteristics of debt whether created by issue of hybrid instruments or otherwise, and value of guarantees issued. It may be interesting to note while the extant NBFC regulations provided that exemption from expsoure norms is available only if public funds have not been accessed by the NBFC, this condition is relaxed under the Draft CIC Guidelines. Thus, CICs are exempted from exposure norms, even when public funds are accessed.
6 5

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Particulars

CIC (Asset size less than INR 100 crore)

Systemically Important CIC (CICs-ND-SI) (Asset size of INR 100 crore or more)

compliance with the guidelines

Our Comments Hitherto, there was uncertainty whether holding companies are governed by NBFC regulations. The Draft CIC Guidelines provide a framework for supervision/ regulation of holding companies in India. Further, exemption from extant NOF requirements and exposure norms applicable to NBFCs would support the peculiar business model of CICs viz: holding stake in group companies. However, there are some areas which require clarity from RBI before the final guidelines are issued: CICs have not been specifically defined in the Draft CIC Guidelines. It is not clear whether holdingcum-operating companies, which do not fall within the definition of NBFC because they do not satisfy the 50:50 financial asset/ income criteria 7 , are governed by the Draft CIC Guidelines. While granting exemption to CICs having asset size of less than INR 100 crore, the qualifying criteria is 90 percent investment in shares of investee companies. However, in respect of CICs-ND-SI, the qualifying criteria is 90 percent investment in equity/ debt/ loan in group companies. The objective of RBI appears to regulate only CICs-ND-SI primarily holding stake in investee companies. Thus, holding companies with asset size of INR 100 crore or more and investing in nongroup companies may continue to subject to NOF requirements and exposure norms under the NBFC regulations.

RBI has clarified that a company will be treated as an NBFC if its financial assets are more than 50 percent of its total assets (netted off by intangible assets) and income from financial assets is more than 50 percent of the gross income. Both these tests are required to be satisfied as the determinant factor for principal business of a company (Press Release dated April 8, 1999)

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