RBI Panel Proposes Tighter Rules For Core Investment Companies

A Reserve Bank of India working group has proposed stricter rules for Core Investment Companies, including restricting the number of such layers that can exist in a group. The group has also suggested changes that are intended to reduce the build-up of leverage at complex groups via CICs.

CICs are a set of non-banking financial companies which hold a minimum of 90 percent of net assets in the form of investment in equity shares, preference shares, bonds, debentures, debt or loans in group companies.

In September 2018, Infrastructure Leasing and Financial Services Ltd., which was structured as a CIC, defaulted after a build-up of leverage within the group. The IL&FS collapse, which led to a shake-out in India's credit markets, prompted the RBI to set up a committee to review the performance and rules for CICs. The committee headed by Tapan Ray, a former public sector banker and secretary to the corporate affairs ministry, submitted its report to the regulator on Nov. 6.

Key Changes Recommended

The committee has recommended ways in which to prevent complex and opaque structures and also made suggestions to keep group-level leverage in check.

The committee suggested that:

• Capital contribution by a CIC in a step-down CIC, over and above 10 percent of its owned funds, should be deducted from its ‘adjusted net worth'. Further, step-down CICs may not be permitted to invest in any other CIC, but allowed to invest freely in other group companies. Existing entities can be given a two-year glide path to comply with the rules.
• The number of layers of CICs in a group should not exceed two, as in case of other companies under the Companies Act. Again, a two-year glide path has been suggested for existing firms.
• Every conglomerate with a CIC should have a Group Risk Management Committee. This committee should be responsible to monitor group-level leverage.
• One-third of the board should comprise of independent members if the chairperson of the CIC is a non-executive member, otherwise at least half of the board should comprise of independent members.
• Audit committee of the board should be chaired by an independent director who has oversight over the CIC's financial reporting process and policies.
• All CICs should prepare consolidated financial statements of all group companies in which the CICs have an investment exposure. Existing CICs have a two-year window to prepare these consolidated financial statements.
• Offsite returns may be designed by the RBI and prescribed for CICs on the lines of those submitted by other NBFCs.
• Annual submission of statutory auditors certificates may also be mandated and on-site inspection of the CICs may be conducted periodically.

Watch | RBI Panel proposes changes to rules for core investment companies.

Performance Of RBI-Registered CICs

The committee also reviewed the performance of existing CICs.

As of August 2019, there were 63 CICs registered with the RBI. The combined asset size of all CICs stood at Rs 2.63 lakh crore as of March 31, 2019, while their borrowings stood at Rs 87,048 crore. The top five CICs account for around 60 percent of the asset size and 69 percent of all borrowings, the report says.

CIC assets account for about 9 percent of all NBFC assets, the committee found.

The group noted that over time, CICs, which was established as a separate regulatory category in 2011, have become more and more complex.

“Certain groups have more than one CIC, like one CIC for each vertical of business, so that the entire vertical becomes self-contained for financing purposes. Each CIC of a group would raise funds independently and use it to invest in the group companies including for setting up another CIC in the group,” the committee highlighted. It added that such a structure has meant that funds can be raised by CICs, step-down CICs and individual group companies.

“At the Group level, it therefore led to over leveraging in certain cases,” the committee said, while adding that the level of control the CIC has over group companies is limited.

Further, while CICs have restrictions on the asset side, there are no restrictions on the liability side as funds can be borrowed from markets, mutual funds and other investors.

Restricting the number of CICs within a group, accounting better for capital contributions to step down businesses and subjecting them to stricter governance norms may help ease some of the concerns that have emerged, the committee suggested.

Comments on the report have been invited till end of November.