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10/15/2020 Capital Markets – Vinod Kothari Consultants
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COVERED BONDS –

SURVIVING ISSUER
DEFAULTS
June 19, 2020 / 0 Comments / in Bond Market, Covered
Bonds, Financial Services / by Vinod Kothari Consultants
vinodkothari.com/category/capital-markets/ 1/74
COVERED BONDS

AND THE COVID
DISRUPTION
June 15, 2020 / 0 Comments / in Bond Market, Capital
Markets, Covered Bonds, Financial Services / by Vinod
Kothari Consultants
-Vinod Kothari
nserv@vinodkothari.com
[mailto: nserv@vinodkothari.com]
Last year, the European Covered Bonds
Council celebrated 250th anniversary of

covered bonds[1] [#_ftn1] . That year also
marked a substantial increase in global
volumes of covered bonds issuance, which had
been at for the past few years. However, no
one, joining the 250 years’ celebration, would
have the COVID disruption in mind
With a history of more than 250 years now,

covered bonds would have withstood various
calamities and disruptions, both economic and
natural, over the years. Covered bonds have
not seen defaults over all these years. Will they
be able to sustain the COVID disruption as well,
given the fact that the major countries where
they have been used extensively, have all
su ered COVID casualties or infections, in
varying degrees? In addition to the challenging
credit environment, covered bonds will also be
put to another question – does this device of
re nancing mortgages in Europe hold the
answer to sustaining continuous funding of
home loans, thereby mitigating the impact of
the crisis?
While, over the years, the instrument has been

talked about (and less practiced) in lots of
jurisdictions over the world, EU countries are
still the bastion for covered bonds. About 82%
of the world’s Euro 2.50 trillion dollar
outstanding covered bonds are issued by EU
entities.
European banks’ dependence

on covered bond funding
European banks have a substantial
dependence on covered bonds. Germany,
where covered bonds have widely been
regarded as a “ xture of German banking”,
account for nearly 32% of the total capital
market funding. In some countries, albeit with
smaller bank balance sheets, the number goes
up to as high as 78 – 81% [See Graph].
[http://vinodkothari.com/wp-
content/uploads/2020/06/Covered-Bonds-
Image-1.png]
Figure 1 source:
https://www.spglobal.com/_media/documents/spglobal
coveredbondsprimer_jun_20_2019.pdf
If covered bonds were to prove resilient to the

crisis, the investors’ con dence in these bonds,
which have so had several regulatory privileges
such as lower risk weights, will stand justi ed.
On the other hand, if the bonds were to prove
as brittle as some of their issuing banks, the
claim to 250 years of unblemished vintage will
be put to question.
Robustness of covered bonds

Covered bonds have a dual recourse feature –
the issuer, and the underlying pool, in that
order. Covered bonds are generally issued by
mortgage-lending banks in Europe. Therefore,
a default of covered bonds may occur only the
issuing banks face the risk of default. Even if
that were to happen, the extent of over-
collateralisation in the cover pool may be
su cient to hold the bondholders safe. The

recourse that the bondholders have against
the loan pool is further strengthened by
inherent support in a mortgage loan in form of
the LTV ratio.
After the Global Financial Crisis and the

introduction of Basel III norms, the capital of
EU banks has generally strengthened. Data
published by European Central Bank shows
that European banks have a common equity
tier 1 [CET 1] ratio of about 14.78%, as against
the regulatory minimum of 4.5%. Therefore,
the issuer banks seem to be poised to
withstand pressure on the performance.
Past instances of default

Robustness of covered bonds is not the only
factor which has kept them standing over all
these years – another very important factor is
sovereign support. European sovereigns have
been sensitive to the important of covered
bonds as crucial to maintain the ow of funds
to the housing sector, and hence, they have
tried to save covered bonds from defaulting.
In the period 1997 to 2019, out of covered

bonds, there have been 33 instances of default
by covered bond issuers, in various other on-
balance sheet liabilities. However, these issues
did not default on their covered bonds[2]
[#_ftn2] .
There are several regulatory incentives for

covered bonds. Central banks permit self-
issued covered bonds to be used as collateral
for repo facilities. ECB also permits covered
bonds as a part of its purchase program. In
addition, there are preferential risk weights for
capital requirements.
Rating downgrades in
covered bonds correlate with
sovereign downgrades
Rating agency Moody’s reports [16th April,

2020 report][3] [#_ftn3] that the potential for
rating downgrades for covered bonds was
strongly correlated with the ratings of
sovereigns. “for countries with Aaa country
ceilings, the average 12-month downgrade rate
between 1997 and 2019 was 6.5% for covered
bonds and 15.5% for covered bond issuers.
However, in countries with lower country
ceilings, representing lower sovereign credit

quality, the average 12-month downgrade rate
increased to 24% for covered bonds and 25%
for covered bond issuers”.
Rating agency Fitch also had a similar

observation – stating that the rating
downgrades for covered bonds were mostly
related to sovereign downgrades, as in case of
Greece and Italy.
Risk of downgrades in
covered bonds
Risk of downgrades in covered bonds arises
mainly from 2 reasons: weakening health of
issuer banks, and quality of the underlying
mortgage pools. Mortgage pools face the risks
of reducing property prices, strain on urban
incomes and increase in unemployment levels,
etc. Over-collateralisation levels remain a
strength, but unlike in case of MBS, covered
bonds lean primarily on the health of the
issuer banks. As long as the bank in question
has adequate capital, the chances that it will
continue to perform on covered bonds remain
strong.
At the loan level, LTV ratios are also su ciently

resilient. Moody’s report suggests that in
several jurisdictions, the LTV ratios for
European covered bonds are less than 60%.
Additionally, in several European jurisdictions,

the regulatory requirement stipulate non-
performing loans either to be replaced by
performing loans, or not to be considered for
the purpose of collateral pool.
Unused notches of rating

upliftment
A covered bond rating may rise by several
notches, because of a combination of factors,
including issuer resolution framework,
jurisdictional support, and collateral support[4]
[#_ftn4] . Either because of the strength of the
pool, or because of the legislation support, or
because of both. However, in any case the
issuer’s credit rating is already strong, say, AAA,
the notching up that could potentially have
come has not been used at all. This is what is
referred to as “unused notches”.
In order to assess the ability of covered bonds

to withstand the pressure on the issuer bank’s
rating will be the extent of unused notches of
rating upliftment. In a report dated 25th March,

2020[5] [#_ftn5] , rating agency S&P gave data
about unused notches of rating upliftment of
covered bonds in several jurisdictions. These
ranged between 1 to 6 in many countries, thus
pointing to the ability of the covered bond
issuances to withstand rating pressures.
Conclusion
We are at the cusp of the disruption in global
economies caused by the COVID pandemic.
Any assessment of the impact of the crisis on
capital market instruments may verge on being
speculative. However, current signals are that
the 250 years of history of performance does
not face the risk of a collapse.
Links to our other resources on covered

bonds –
http://vinodkothari.com/wp-
content/uploads/Introduction-to-Covered-
Bonds-by-Vinod-Kothari.pdf
content/uploads/Introduction-to-Covered-
Bonds-by-Vinod-Kothari.pdf]
vinodkothari.com/wp-
content/uploads/covered-bonds-article-by-
vinod-kothari.pdf [http://vinodkothari.com/wp-
content/uploads/covered-bonds-article-by-
vinod-kothari.pdf]
Securitisation and covered

bonds for housing nance
[http://vinodkothari.com/2019/05/securiti
and-covered-bonds-for-housing-
nance/]
Conditional Pass-Through
Covered Bonds: A New
Innovation
[http://vinodkothari.com/2017/05/conditio
pass-through-covered-bonds-a-
new-innovation/]
Some notable structured

covered bonds globally
[http://vinodkothari.com/2017/05/some-
notable-structured-covered-
bonds-globally/]
Comparative table on key

legislative features on covered
bonds in di erent countries
[http://vinodkothari.com/2017/05/compar
table-on-key-legislative-
features-on-covered-bonds-in-
di erent-countries/]
MBS and covered bonds after

the crisis for APUHF conference
[http://vinodkothari.com/2017/05/mbs-
and-covered-bonds-after-the-
crisis-for-apuhf-conference/]
[1] [#_ftnref1] 29th August, 1769, Frederick the

Great of Prussia signed an order permitting the
issuance of a landowners’ cooperative. It was
in 1770 that the rst German pfandbrief was
issued. Going by this, the 250th anniversary
should actually be this year.
[2] [#_ftnref2] See Moody’s report here:

https://www.moodys.com/researchdocumentcontentpa
docid=PBS_1117861
[https://www.moodys.com/researchdocumentcontentpa
docid=PBS_1117861]
[3] [#_ftnref3]
https://www.moodys.com/researchdocumentcontentpa
docid=PBS_1221857
[https://www.moodys.com/researchdocumentcontentpa
docid=PBS_1221857]
[4] [#_ftnref4] Rating agency Standard and

Poor’s, for example, considers at least 2
notches for resolution framework, three
notches for jurisdictional support, and four
notches for collateral support.
[5] [#_ftnref5]
https://www.spglobal.com/ratings/en/research/articles/
global-covered-bonds-assessing-the-credit-
e ects-of-covid-19-11402802
[https://www.spglobal.com/ratings/en/research/articles/
global-covered-bonds-assessing-the-credit-
e ects-of-covid-19-11402802]
NEW CSR

AVENUES,
INNOVATIVE
BONDS AND MUCH
MORE IN THE
SOCIAL STOCK
EXCHANGE
PACKAGE!
June 4, 2020 / 0 Comments / in Capital Markets,
Corporate Laws, SEBI / by Vinod Kothari Consultants
Timothy Lopes, Executive, Vinod Kothari

Consultants
In the Union Budget of 2019-2020

[https://www.indiabudget.gov.in/doc/bspeech/bs201920
the Hon’ble Finance Minister proposed “to
initiate steps towards creating an electronic
fund raising platform – a Social Stock Exchange
(‘SSE’) – under the regulatory ambit of
Securities and Exchange Board of India (‘SEBI’)
for listing social enterprises and voluntary
organizations working for the realization of a
social welfare objective so that they can raise
capital as equity, debt or as units like a mutual
fund.”
A Working Group was subsequently formed on
19th September, 2019

[https://www.sebi.gov.in/media/press-
releases/sep-2019/sebi-constitutes-working-
group-on-social-stock-exchanges-sse-
_44311.html] to recommend possible
structures and mechanisms for the SSE. We
have tried to analyse and examine what the
framework would look like based on global
SSEs already prevalent in a separate write up
[http://vinodkothari.com/2019/09/social-stock-
exchange-a-guide/] .
On 1st June, 2020, the Working Group on Social

Stock Exchange published its report
[https://www.sebi.gov.in/reports-and-
statistics/reports/jun-2020/report-of-the-
working-group-on-social-stock-
exchange_46751.html] for public comments. In
this write up we intend to analyse the
recommendations made by the working group

along with its impact.
The idea of a Social Stock

Exchange
Social enterprises in India exist in large
numbers and in several legal forms, for e.g.
trusts, societies, section 8 companies,
companies, partnership rms, sole
proprietorships, etc. Further, a social
enterprise can be either a For-Pro t Enterprise
(‘FPE’) or a Non-Pro t Enterprise (‘NPO’). The
ultimate objective of these enterprises is to
create a social impact by carrying out
philanthropic or sustainable development
activities.
Certain gaps exist for social enterprises in

terms of funding, having a common repository
able to track these entities and their
content/uploads/2020/06/Social-Stock-
Exchange-Image-1.png]
performance. The sources of funding for social
enterprises have been philanthropic funding,
CSR, impact investing, government agencies,
etc.
Funding is important in terms of the

e ectiveness of NPOs in creating an impact.
The funding, however, is contingent upon

demonstration of impact or outcomes.
Here comes the idea and role of a social stock

exchange. An SSE proposed to be set up is
intended to ll the gaps not only in terms of
funding, but also to put in place a
comprehensive framework that creates
standards for measuring and reporting social
impact.
Who is eligible to be listed on the SSE?
The SSE is intended for listing of social

enterprises, whether for-pro t or non-pro t.
Listing would unlock the funds from donors,
philanthropists, CSR spenders and other
foundations into social enterprises.
There is no new legal form recommended by

the working group which a social enterprise
will have to establish in order to get listed.
Rather, the existing legal forms (trusts,
societies, section 8 companies, etc.) will enable
a NPO or FPE to get listed through more than
one mode.
Is there any minimum criteria for listing on

the SSE?
In case of NPOs, the minimum reporting

standards recommended to be implemented,
require the NPO to report that it has received
donations/contributions of at least INR
10,00,000 in the last nancial year.
Further, in case of FPEs, it must have received

funding from any one or more of the impact
investors who are members of the Impact
Investors Council. Certain eligibility conditions
for equity listings would also apply in case of
FPEs, as per the SEBI’s Issue of Capital,
Disclosure Requirements (ICDR).
The working group has requested SEBI to look

into the following aspects of eligibility and
recalibrate the existing thresholds in the ICDR:
Minimum Net Worth;
Average Operating Pro t;
Prior Holding by QIBs, and;
Criteria for Accredited Investor (if a role for

such investors is envisaged).
Listing, compliance and penalty provisions

must be aptly stringent to prevent any misuse
of SSE platform by FPEs.
What is a social enterprise? Is the term

de ned?
Social enterprises broadly fall under two forms

– A For-Pro t Enterprise and a Non-Pro t
Enterprise.
For-Pro t Enterprise – A FPE generally has a

business model made to earn pro ts but does
so with the intent of creating a social impact.
An example would be creating innovative and
environmental friendly products. FPEs are
generally in the form of Companies.
Non-Pro t Enterprise – NPOs have the

intention of creating a social impact for the
better good without expecting any return on
investment. These are generally in the form of
trusts, societies and Section 8 companies.
These entities cannot issue equity. The
exception to this is a section 8 company which
can issue equity shares, however, there can be
no dividend payment.
The working group de nes a social enterprise

as a class or category of enterprises that are
engaging in the business of “creating positive
social impact”. However, the group does not
recommend a legal/regulatory de nition but
recommends a minimum reporting standard
that brings out this aspect clearly, by requiring
all social enterprises, whether they are FPEs or
NPOs, to state an intent to create positive
social impact, to describe the nature of the
impact they wish to create, and to report the
impact that they have created. There will be an
additional requirement for FPEs to conform to
the assessment mechanism to be developed
by SEBI.
Therefore, an enterprise is “social” not by

virtue of satisfying a legal de nition but by
virtue of committing to the minimum reporting
standard.
Since there would be no legal de nition to

classify as a social enterprise, a careful
screening process would be required in order
to enable only genuine social enterprises to list
on the exchange.
Who are the possible participants of the SSE?
What are the instruments that can be listed?

What are the other funding structures? What
is the criteria for listing?
In case of Section 8 companies, there is no

restriction on issue of shares or debt.
However, there is no dividend payment
allowed on equity shares. Further, there is no
real regulatory hurdle in listing shares or debt
instruments of Section 8 companies. However,
so far listing of Section 8 companies is a non-

existent concept, as these avenues have not
been utilized by Section 8 companies
apparently due to their inherent inability to
provide nancial return on investments.
The working group recognises that trusts and

societies are not body corporates under the
Companies Act, and hence, in the present legal
framework, any bonds or debentures issued by
them cannot qualify as securities under the
Securities Contracts (Regulation) Act 1956
(SCRA).
In this regard the working group suggests

introducing a new “Zero Coupon Zero
Principal” Bond to be issued by these entities.
The features and other speci cs of these
bonds are discussed further on in this write up.
Further, it is recommended that FPEs can list

their equity on the SSE subject to certain
eligibility conditions for equity listings as per
the SEBI’s Issue of Capital, Disclosure
Requirements (ICDR) and social impact
reporting.
Funding structures and other instruments are

discussed further on in the write up.
What are the minimum reporting standards?
One of the important pre-requisites to listing

on the SSE is to commit to the minimum
reporting standards prescribed. The working
group has laid down minimum reporting
standards for the immediate term to be
implemented as soon as the SSE goes live. The
minimum reporting standards broadly cover
the areas shown in the gure below –
The details of the minimum reporting standard

are stated in Annexure 2 to the working group
report. The working group states in its report
that over time, the reporting requirements can
begin to incorporate more rigour in a graded
and deliberate manner.
Overall, it seems as though the reporting

framework at the present stage is su cient to
measure performance and identify truly
genuine social enterprises. The framework sets
a benchmark for reporting by NPOs and FPEs
and will provide the requisite comfort to
investors.
Innovative bonds and

funding structures
The SSE’s role is clearly not limited to only
listing of securities and trading therein. The
working group has recommended several
innovative funding mechanisms for NPOs that
may or even may not end up in creation of a
listable security. Following are the highlights of
the proposed structures –
1. Zero coupon zero principal bonds –
The exact modalities of this instrument are yet

to be worked out by SEBI.
2. Mutual Fund Structure –
Under this structure, a conventional closed-

ended fund structure is proposed wherein
the Mutual Fund acts as the intermediary
and aggregates capital from various
individual and institutional investors to
invest in market-based instruments;
The returns generated out of such fund is

will be channelled to the NPOs who in turn
will utilise the funds for its stated project;
The principal component will be repaid

back to the investors, while the returns
would be considered as donations made by
them;
There could also be a speci c tax bene t

arising out of this structure;
The other bene t of this structure is that

the role of the intermediary can be played
by existing AMCs.
3. The Social/ Development Impact Bond/

Lending Partner Structure –
These bonds are unique in a way that they

returns on the bonds are linked to the success
of the project being funded. This is similar to a
structured nance framework involving the
following –
Risk Investors/ Lenders (Banks/ NBFCs) –

Provide the initial capital investment for the
project;
Intermediary – Acts as the intermediating

body between all parties. The intermediary
will pass on the funds to the NPO;
NPO (Implementing Agency) – will use the

funds for achieving the social outcomes
promised;
3rd party evaluator – An independent

evaluator who will measure and validate
the outcomes of the project;
Outcome Funder – Based on the third

party evaluation the outcome funders will
pay the Principal and Interest to the risk
investors/ lending partners in case the
outcome of the project is successful. In case
the outcome is not successful the outcome
funders have the option to not pay the risk
investors/ lending partners.
Although banks may not be looking into risky

lending, the structure provides incentive to the
bank in the form of Priority Sector Lending
(PSL) quali cation. In order to meet their PSL
targets, banks may choose to lend under this
structure.
4. Pay-for-success through grants –
This structure is where a new CSR aspect

comes in. The working group recommends a
structure which is similar to the pay-for-
success structures stated earlier however, this
required the CSR arm of a Company to select
the NPO for implementation of the project. The
CSR funds are then kept in an escrow account
earmarked for pay-for-success, for a pre-
de ned time period over which the impact is
expected to be created (say 3 years).
The initial capital required by the NPO to

achieve the outcomes, will be provided by an
interim funding partner (typically a domestic
philanthropic organization, and distinct from
the third-party evaluator).
If the CSR funder nds that the NPO has

achieved the outcomes, then it pays out the
CSR capital from the escrow account partly to
the interim funding partner (similar to the
earlier mentioned pay-for success structures),
and partly to the NPO in the form of an
accelerator grant up to 10% of the program
cost in case the NPO exceeds the pre-de ned
outcome targets. The grant to the NPO is
designed to provide additional support for
non-programmatic areas such as research,
capacity building, etc.
If the CSR funder nds that the NPO has not

achieved the outcomes, then it either rolls over
the CSR capital in the escrow account (if the
pre-de ned time period is not yet over), or
routes the CSR capital to items provided under
Schedule 7 of the Companies Act such as the
PM’s Relief Fund (if the pre-de ned time period
is over).
An avenue for Corporate

Social Responsibility
The implementation of the SSE will provide a
new platform, not just for CSR spending but
also a trading platform for trading in a “CSR
certi cates” between corporates with excess
CSR expenditure and those with a de cit in a
particular year.
Investment in securities listed on the SSE are

likely to qualify as CSR expenditure. However,
necessary amendments in the Companies Act,
2013 will also be required to permit the same
to qualify as CSR expenditure. The working
group has made the necessary policy
recommendations in its report.
Trading platform for CSR spending –
India is one of the only countries that has

mandated CSR spending. In a particular year, a
Company may fail to meet its required
spending obligations owing to several reasons.
The High Level Committee on CSR
[https://www.mca.gov.in/Ministry/pdf/CSRHLC_1309201
had recommended the transfer of unspent
CSR funds to a separate account and the said
amount should be spent within 3 years from
the transfer failing which the funds would be
transferred to a fund speci ed in Schedule VII.
The necessary provisions were inserted by the
Companies (Amendment) Act, 2019
[http://ebook.mca.gov.in/noti cationdetail.aspx?
acturl=6CoJDC4uKVUR7C9Fl4rZdatyDbeJTqg3c+9Unnk2x
, however, the same is yet to be noti ed.
The working group has proposed a new model

that could solve the issue of unspent CSR
funds. It is recommended that CSR Certi cates
[may be negotiable instruments, somewhat
similar to Priority Sector Lending Certi cates
(PSLCs)], be enabled to be bought and sold on
a separate trading platform. This will allow
Companies which have unspent CSR funds to
transfer these funds to those Companies that
have spent excess for CSR in a particular year.
This in turn motivates Companies to spend
more than the minimum required CSR amount

in a particular year.
The certi cates are recommended to have a

validity of 3-5 years but may be used only
once. In order to avoid any pro t making on
excess CSR spends, it is recommended that
these transactions must involve only a at
transaction fee that gets charged to the
platform and involves actual transfer of funds.
Further, the working group has recommended

that If the platform as described above
succeeds in facilitating the trading of CSR
certi cates, the government might then
consider licensing private platforms that
provide an auction mechanism for the trading
of CSR certi cates (similar to the RBI’s licenses
for Trade Receivables Discounting Systems or
TReDS). However, this would require additional
clari cations on whether CSR certi cates must
have the status of negotiable instruments or
not and on how companies are to treat any
pro ts from the sale of such certi cates.
Conclusion
The recommendations of the working group
has given an expanded role to the SSE. The
working group also attempted to address the
role of the SSE in terms of COVID-19 by
proposing the creation of a separate COVID-19
Aid Fund to activate solutions such as pay-for-
success bonds which can be used to provide
loan guarantees to NBFC-MFIs that wish to
extend debt moratoriums to their customers.
Necessary changes in law have also been

recommended, while several other tax
incentives have been recommended by the
working group.
The SSE framework seems to be interesting in

the Indian context. Nevertheless, the
implementation of the same is yet to be seen.
PCG SCHEME 2.0


FOR NBFC POOLED
ASSETS, BONDS
AND COMMERCIAL
PAPER
May 25, 2020 / 0 Comments / in Bond Market, Financial
Services, Financial services/ NBFCs/Fin-tech - Covid-19,
Housing nance, NBFCs / by Vinod Kothari Consultants
-Financial Service Division

( nserv@vinodkothari.com)
Updated as on August 18, 2020
The write-up below covers version 2.0 of the

Partial Credit Guarantee Scheme [PCG Scheme,
or PCGS, or simply, the Scheme; version 2 is
referred to herein as PCG 2.0 for the sake of
distinction from its earlier version, which we
refer to PCGS 1.0].
PCGS 1.0 was announced by the Finance

Minister, during the Union Budget 2019-20,
introducing a partial credit guarantee scheme
so as to extend relief to NBFCs during the on-
going liquidity crisis. The proposal laid down in
the Budget was a very broad statement. On
13th August, 2019 the Ministry of Finance
came out with a Press Release to announce the
noti cation in this regard, dated 10th August,

2019, laying down speci cs of the scheme.
PCGS 1.0 was only a moderate success, as

literally no transactions were conducted under
the Scheme until November, 2019. Various
stakeholders[1]
[http://vinodkothari.com/2019/08/dissecting-
the-gois-partial-credit-guarantee-
scheme/#_ftn1] represented to the MOF to
remove the bottlenecks in the structure.
Subsequently, on 11th December, 2019, the
Union Cabinet approved amendments[2]
scheme/#_ftn2] to the Scheme (Amendments).
The scheme, known as “Partial Credit

Guarantee o ered by Government of India
(GoI) to Public Sector Banks (PSBs) for
purchasing high-rated pooled assets from
nancially sound Non-Banking Financial
Companies (NBFCs)/Housing Finance
Companies (HFCs)”, is referred to, for the
purpose of this write, as “the Scheme”.
PCGS 2.0 was introduced by the Finance

Minister as a part of her Rs 20-lakh Crore
stimulus packag
[https://static.pib.gov.in/WriteReadData/user les/Aatma
1%20Business%20including%20MSMEs%2013-
5-2020.pdf] e, announced on 13th May, 2020 to
provide liquidity to NBFCs, HFCs and MFIs with
low credit rating. The Union Cabinet approved
[https://pib.gov.in/PressReleasePage.aspx?
PRID=1625321] the sovereign portfolio
guarantee of up to 20% of rst loss for
purchase of Bonds or Commercial Papers (CPs)
with a rating of AA and below (including
unrated paper with original/ initial maturity of
up to one year) issued by NBFCs/ MFCs/MFIs,
by Public Sector Banks through an extension of
the PCGS 1.0. PCGS 2.0 has been put in the
form of FAQs
[https:// nancialservices.gov.in/sites/default/ les/FAQS%
as well as press-release
[https:// nancialservices.gov.in/sites/default/ les/Extend
on the website of the Ministry of Finance.
While PCGS 1.0 was intended to address the

temporary liquidity crunch faced by solvent
HFCs/ NBFCs, PCGS 2.0 is premised on the
continuing problems faced by
NBFCs/HFCs/MFIs. The Press Release of the
GoI says: “COVID-19 crisis and consequent
lockdown restrictions are likely to have a
negative impact on both collections and fresh
loan disbursements, besides a deleterious
e ect on the overall economy. This is
anticipated to result not only in asset quality
issues for the NBFC/ HFC/ MFI sector, but also
low loan growth as well as higher borrowing
costs for the sector, with a cascading e ect on

Micro, Small and Medium Enterprises (MSMEs)
which borrow from them. While the RBI
moratorium provides some relief on the assets
side, it is on the liabilities side that the sector is
likely to face increasing challenges. The
extension of the existing Scheme will address
the liability side concerns. In addition,
modi cations in the existing PCGS will enable
wider coverage of the Scheme on the asset
side also. Since NBFCs, HFCs and MFIs play a
crucial role in sustaining consumption demand
as well as capital formation in small and
medium segment, it is essential that they
continue to get funding without disruption,
and the extended PCGS is expected to
systematically enable the same.”
PCGS 2.0 covers both the asset side as well as

the liability side. PCGS 1.0 was limited to the
asset side, for guaranteeing the purchase of
“pooled assets” from NBFCs. PCGS 2.0 covers
the liability side as well – permitting banks to
purchase CPs/ bonds issued by
NBFCs/HFCs/MFIs (Finance Companies).
Therefore, both the banks as well as Finance
Companies will have to make a careful
comparison between pool assignments, versus
liability issuance. We intend to provide a
comparative view of the same in our analysis
below.
In this write-up we have tried to answer some

obvious questions that could arise along with
potential answers. This write-up should be
read in conjunction with our earlier write ups
on the PCGS 1.0 here
[http://vinodkothari.com/2019/09/partial-
credit-guarantee-scheme/] .
Scope of applicability
1. When does this scheme come into force?
The Scheme was originally introduced on 10th

August, 2019 and has been put to e ect
immediately. The modi cations in the Scheme
were made applicable with e ect from 11th

December, 2019.
PCGS 2.0 was announced by the GoI vide a

note dated 20th May, 2020.
2. Currently, the Scheme has two distinct

elements – purchase of asset pools, and
purchase of CPs/bonds issued by nance
companies. How do these di erent
funding options compare for both the
nance companies, and the investing
banks?
PCGS 2.0 has added the CP/bond element into

the Scheme basically for providing short-term,
sovereign-guaranteed liquidity support for
redeeming liabilities maturing within 6 months
from the date of issue of the CP/bonds.
Therefore, the CP/bond guarantee is
essentially a liability management option.
On the other hand, the asset pool purchase

gives ability to NBFCs to release liquidity locked
in assets, and gives them long-term resources
for on-lending.
CP is typically issued for a tenure upto 12

months. Bonds for the purpose of the Scheme
are also short-term bonds, with a maturity of 9
to 18 months. Hence, in either case, the
nance company is simply shifting its existing
redemption liability by 9 to 18 months.
Asset pools will have a minimum rating

requirement, whereas in case of short-term
paper issuance, there is a maximum rating
requirement. In fact, PSBs are allowed to
purchase unrated paper as well, if the tenure is
within 12 months.
A tabular comparison between pool purchases

and paper purchase may run as follows:
Pool Paper
Purchases Purchases
Nature of the Sale of pool Acquisition

transaction of loans by of a pool of
nance CP/bonds
companies (paper) by
to PSBs. PSBs, issued
PSBs get a by nance
rst loss companies.
guarantee PSBs get a
from GoI rst loss
guarantee
from GoI
Eligible nance NBFCs and MFIs are

companies HFCs. MFIs also eligible
are not
eligible
Purpose/purport The nance The

of the company purported
transaction re nances use of the
its pool, funding is
thereby for meeting
releasing an
liquidity. imminent
The liability
liquidity can redemption.
be used for The
on-lending issuance of
the paper is
connected
with
liabilities
maturing
within next
6 months.
The liability
itself may
be either
repayment
of a term
loan,
redemption
of any debt
security, or
otherwise.
Rating Minimum Maximum
requirement rating of rating of AA.

BBB+ Unrated
paper also
quali es
Tenure of the There is no Paper

loans/paper stipulation should have
of the maturity of
tenure of 9 to 18
the months.
underlying
loans. The
guarantee
is valid for a
period of
24 months
only.
Extent of cover 10% of the 20% of the

by GoI pool portfolio of
purchased paper
by PSBs purchased
by the PSBs
Ramp up period Loan pools Paper may

may be be acquired
acquired within 3
upto 31st months
March,
2021
Impact on asset Repayment Repayment

liability of the pool will be on a
mismatch is on a bullet
pass- maturity
through basis.
basis to the Hence,
PSB. Hence, there will be
there is no an ALM
ALM issue.
Bankruptcy Pool Paper

remoteness purchases purchase is
take paper
exposure issued by
on the the NBFC
underlying and hence,
pool, and the PSB

are takes
therefore, exposure in
bankruptcy- the issuer.
remote qua
the NBFC.
2A. Will bonds or CPs issued in secondary

market be eligible for purchase under the
Scheme?
The Scheme speci cally mentions that the
bonds/CPs issued by nancial companies shall
be eligible assets to be purchased under the
Scheme. The term ‘issue’ clearly indicates that
the bonds/CPs shall be purchased from the
primary market only.
3. How long will this Scheme continue to be

in force?
Originally, PCGS 1.0 was supposed to remain

open for 6 months from the date of issuance
of this Scheme or when the maximum
commitment of the Government, under this
Scheme, is achieved, whichever is earlier.
However, basis the Amendments discussed
above, the Scheme was extended till 20th June,
2020. The Amendments also bestowed upon
the Finance Minister power to extend the
tenure by upto 3 months.
PCGS 2.0 has two distinct elements – (a)

Purchase of Pooled assets; (b) Purchase of
bonds/CPs issued by Finance companies. For
Part (a), that is, purchase of pooled assets, the
Scheme is now extended to 31st March, 2021.
For purchase of paper by the PSBs, the PSB
has to acquire the paper within 3 months of
the announcement. Taking the announcement
date of the Scheme to be 20th May, the paper
should be acquired by the PSBs within 20th
August, 2020.
4. Who is the bene ciary of the guarantee

under the Scheme – the bank or the
NBFC?
The bank (and that too, PSB only) is the

bene ciary. The NBFC is not a party to the
transaction of guarantee. This is true both for
pool purchases as well as paper purchases.
5. Does a bank buying pools from

NBFCs/HFCs (Financial Entities)
automatically get covered under the
Scheme?
No. Since a bank/ Financial Entities may not

want to avail of the bene t of the Scheme, the
Parties will have to opt for the bene t of the
guarantee. The bank will have to enter into
speci c documentation, following the
procedure discussed below.
6. In case of Paper Purchases, is the

guarantee applicable to paper issued by
di erent nance companies?
Yes. The guarantee is for a portfolio of nance

company paper acquired by the PSB. For
example, a PSB buys the following paper
issued by di erent nance companies:
X Ltd bonds with maturity of 18 months Rs

200 crores
Y Ltd CP having maturity of 9 moths Rs

100 crores
C Ltd bonds having maturity of 12 moths Rs

450 crores
D Ltd CP having maturity of 6 months Rs

50 crores
Total portfolio Rs
800 crores
The bank may get the entire paper, adding to

Rs 800 crores, guaranteed by GoI. The
guaranteed amount is Rs 800 crores, and the
maximum loss payable by the GoI is 20%, that
is, Rs 160 crores.
7. What is the relevance of pooling of

paper, in case of paper purchases?
In case of paper purchases, the guarantee is

on a pool of paper, that is, on an aggregate
basis. In all such aggregation transactions,
unless the pool becomes granular, the rst loss
guarantee may become highly inadequate.
For example, in the illustration taken in Q5

above, the loss is limited to Rs 160 crores,
being 20% of the guaranteed amount. If the
bonds issued by C Ltd default, Rs 450 crores
would be in default, while the guarantee by the
GoI will be only upto Rs 160 crores.
In the same case, had the total portfolio of Rs

800 crores were, say, to consist of 10 issuances
of Rs 80 crores each, 2 out of the 10 issuers will
be fully covered by the guarantee. Though the
conditions of a binomial distribution are
inapplicable in the present case (as the pool
has a high level of correlation risk), but the
probability of more than 2 defaults in a pool of
10 issues seems much lower than the
probability of a major issuer out of a non-
granular pool defaulting. Hence, PSBs, in their
own interest, may want to build up a granular
pool consisting of several issuers.
Of course, the ramp up time for all that is

highly inadequate – only 3 months from the
scheme announcement. From past experience,
it should be clear that that much time is lost
even in dissemination of understanding –
from MOF to SIDBI to the PSBs, and more so
because of communication di culties in the
present situation.
8. What does the Bank have to do to get

covered by the bene t of guarantee
under the Scheme?
The procedural aspects of the guarantee under

the Scheme are discussed below.
9. Is the guarantee speci cally to be sought

for each of the asset pools acquired by
the Bank or is it going to be an umbrella
coverage for all the eligible pools
acquired by the Bank?
The operational mechanism requires that

there will be separate documentation every
time the bank wants to acquire a pool from a
nancial entity in accordance with the Scheme.
Hence it appears that the guarantee is for a
pool from a speci c nance company.
In case of paper purchases, the situation is

di erent – there, the guarantee is for a pool of
paper issued by di erent nance companies.
10. How does this Scheme, relating to asset

pool purchases, rank/compare with
other schemes whereby banks may
participate in originations done by
NBFCs/HFCs?
The RBI has lately taken various initiatives to

promote participation by banks in the
originations done by NBFCs/ HFCs. The
following are the available ways of
participation:
Direct assignments
Co-lending
Loans for on-lending
Securitisation
Direct assignments and securitisation have

been there in the market since 2012, however,
recently, once the liquidity crisis came into
surface, the RBI relaxed the minimum holding
period norms in order to promote the
products.
Co-lending is also an alternative product for

the co-origination by banks and NBFCs. In
2018, the RBI also released the guidelines on
co-origination of priority sector loans by banks
and NBFCs. The guidelines provide for the
modalities of such originations and also
provide on risk sharing, pricing etc. The
di culty in case of co-origination is that the
turnaround time and the exibility that the
NBFCs claimed, which was one of their primary
reasons for a competitive edge, get
compromised.
The third product, that is, loans for on-lending

for a speci c purpose, has been in existence
for long. However, recent e orts of RBI to
allow loans for on-lending for PSL assets have
increased the scope of this product.
This Scheme, though, is meant to boost

speci c direct assignment transactions, but is
unique in its own way. This Scheme deviates
from various principles from the DA guidelines
and is, accordingly, intended to be an
independent scheme by itself.
The basic use of the Scheme is to be able to

conduct assignment of pools, without having
to get into the complexity of involving special
purpose vehicles, setting enhancement levels
only so as to reach the desired ratings as per
the Scheme. The e ective cost of the Financial
Entities doing assignments under the Scheme
will be (a) the return expected by the Bank for
a GoI-guaranteed pool; plus (b) 25 bps. If this
e ectively works cheaper than opting for a
similar rated pool on a standalone basis, the
Scheme may be economically e ective.
11. How does this Scheme, relating to paper

purchases, rank/compare with other
schemes whereby PSBs may provide
liquidity to NBFCs/HFCs/MFIs?
The Scheme should be compared with Special

Liquidity Scheme for NBFCs/HFCs. From the
skeletal details available
PRID=1625310
PRID=1625310] ], the Special Liquidity Scheme
may allow an NBFC/HFC to issue debt
instruments by a rating notch-up, based on
partial guarantee given by the SPV to be set up
for this purpose.
It may seem that the formation of the SPV as

well as implementation of the Special Liquidity
Scheme may take some time. In the meantime,
if a nance company has immediate liquidity
concerns for some maturing debt securities, it

may use the PCG scheme.
However, a fair assessment may be that the

PCGS 2.0 will be largely useful for pool
purchases, rather than paper purchases. This
is so because in case of paper purchases, the
ramp up period of 3 months will elapse very
soon, giving PSBs very little time to approach
SIDBI for getting limits. In any case, the ramp
up of the pool of paper has to happen rst,
before the PSB can get the guarantee. This
may demotivate PSBs from committing to buy
the paper issued by nance companies.
12. Is the Scheme for Pool Purchases an

alternative to direct assignment covered
by Part B of the 2012 Guidelines, or is it
by itself an independent option?
While intuitively one would have thought that

the Scheme is a just a method of risk
mitigation/facilitation of the DA transactions
which commonly happen between banks and
Financial Entities, there are several reasons
based on which it appears that this Scheme
should be construed as an independent option
to banks/ Financial Entities:
This Scheme is limited to acquisition of

pools by PSBs only whereas direct
assignment is not limited to either PSBs or
banks.
This Scheme envisages that the pool sold to

the banks has attained a BBB+ rating at the
least. As discussed below, that is not
possible without a pool-level credit
enhancement. In case of direct
assignments, credit enhancement is not
permissible.
Investments in direct assignment are to be

done by the acquirer based on the
acquirer’s own credit evaluation. In case of
the Scheme, the acquisition is obviously
based on the guarantee given by the GoI.
There is no question of an agreement or

option to acquire the pool back after its
transfer by the originator. The Scheme talks
about the right of rst refusal by the NBFC
if the purchasing bank decides to further
sell down the assets at any point of time.
Therefore, it should be construed that the

Scheme is completely carved out from the DA
Guidelines, and is an alternative to DA or
securitisation. The issue was clari ed by the
Reserve Bank of India vide its FAQs on the
issue[3]
scheme/#_ftn3] .
13. Is this Scheme applicable to

Securitisation transactions as well?
Assignment of pool of assets can be happen in

case of both direct assignment as well as
securitisation transaction. However, the
intention of the present scheme is to provide
credit enhancements to direct assignment
transactions only. The Scheme does not intend
to apply to securitisation transactions;
however, the credit enhancement
methodology to be deployed to make the
Scheme work may involve several structured
nance principles akin to securitisation.
14. In case of Paper Purchases, does the PSB

have the bene t of security from
underlying assets?
In case of CP, the same is unsecured; hence,

the question of any security does not arise. In
case of bonds, security may be obtained, but
given the short-term nature of the instrument,
and the fact that the security is mostly by way
of a oating charge, the security creation may
not have much relevance.
15. Between a bond and a CP, what should a

PSB/ nance company prefer?
The obvious perspective of the nance

company as well as the bank may be to go for
the maximum tenure permissible, viz., 18
months. CP has a maturity limitation. Hence,
the obvious choice will be to go for bonds.
16. A nance company has maturity

liabilities over the next few months.
However, it has su cient free assets
also. Should it prefer to sell a pool of
assets, or for a short-term paper
issuance?
The question does not have a straight answer.

In case the nance company goes for paper
issuance, it keeps its assets still available, may
be for using the same for a DA/securitisation
transaction. However, from the viewpoint of
exibility in use of the funds, as also the
elimination of ALM risk, a nance company
should consider opting for the pool sale
option.
16A. As per the Scheme documents

pertaining to Paper Purchase, the issuance of
Paper may be done for repaying liabilities.
What is the construct of the term “liability”?
Can it, for example, include payment to
securitisation investors?
Securitisation is a self-liquidating liability which

liquidates based on the pool cash ows. The
issuer does not repay securitisation liability.
However, the facility may otherwise be used
for payment of any of the nancial obligations
of the issuer.
Risk transfer
17. The essence of a guarantee is risk
transfer. So how exactly is the process of
risk transfer happening in case of pool
purchases?
The risk is originated at the time of loan

origination by the Financial Entities. The risk is
integrated into a pool. Since the transaction is
a direct assignment (see discussion below), the

risk transfer from the NBFC to the bank may
happen either based on a pari passu risk
sharing, or based on a tranched risk transfer.
The question of a pari passu risk transfer will

arise only if the pool itself, without any credit
enhancement, can be rated BBB+. Again, there
could be a requirement of a certain level of
credit enhancements as well, say through over-
collateralisation or subordination.
Based on whether the share of the bank is pari

passu or senior, there may be a risk transfer to
the bank. Once there is a risk transfer on
account of a default to the bank, the bank now
transfers the risk on a rst-loss basis to the GoI
within the pool-based limit of 10%.
18. How does the risk transfer happen in

case of paper purchase?
In case of paper purchase, the risk will arise in

case of “failure to service on maturity”. As we
discussed earlier, it is presumed that the paper
will have a bullet maturity. Hence, if the nance
entity is not able to redeem the paper on
maturity, the PSB may claim the money from
the GoI, upto a limit of 20% for the whole of
the pool.
19. Let us say, at the time of original

guarantee for Paper Purchase, the Pool
of paper had a total exposure of Rs 800
crores. Out of the same, Rs 100 crores
has successfully been redeemed by the
issuer. Is it proper to say that the
guarantee now stands reduced to 20% of
Rs 700 crores?
No. The guarantee is on a rst loss basis for

the whole pool, amounting to Rs 800 crores.
Hence, the guaranteed amount will remain
20% of Rs 800 crores.
20. What is the maximum amount of

exposure, the Government of India is
willing to take through this Scheme?
Under this Scheme, the Government has

agreed to provide (a) 10% rst loss guarantee
to pool purchase; and (b) 20% guarantee for
paper purchases. The total exposure of the
Govt has been xed at a cap of ₹ 10,000 crores.
With the 20% rst loss cover in case of paper, it

may be seem that the paper will eat the up the
total capacity under the Scheme fast. However,
as we have discussed above, we do not expect
the paper purchases will materalise to a lot of
extent in view of the ramp up time of 3
months.
21. What does 10% rst loss guarantee in

case of Pool Purchase signify?
Let us rst understand the meaning for rst

loss guarantee. As the name suggests, the
guarantor promises to replenish the rst
losses of the nancier upto a certain level.
Therefore, a 10% rst loss guarantee would
signify that any loss upto 10% of the total
exposure of the acquirer in a particular pool
will be compensated by the guarantor.
Say for example, if the size of pool originated

by NBFC N is Rs. 1000 crores, consisting of
1000 borrowers of Rs. 1 crore each. The terms
of the guarantee say that the PSB may make a
claim against the GoI once the PSB su ers a
loss on account of the loan being 91 DPD or
more.
Since the GoI is guaranteeing the losses

su ered by the PSB, one rst needs to
understand the terms between the PSB and
the nance company. Quite likely, the nance
company will have to provide at least 2 pool
level enhancements to lift the rating of the
pool sold to the bank to the BBB+ level –
excess spread, and some degree of over-
collateralisation or rst loss support. Hence, to
the extent the loans in the pool go delinquent,
but are taken care of by the excess spread
present in the pool, or the over-
collateralisation/ rst loss support available in
the pool, there is no question of any loss being
transferred to the PSB. If there is no loss taken

by the PSB, there is no question of reaching
out to the GoI for the guarantee. It is only
when the PSB su ers a loss that the PSB will
reach out to the GoI for making payment, in
terms of the guarantee.
22. When is a loan taken to have defaulted,

in case of Pool Purchases, for the
purpose of the Scheme?
Para D of the Scheme suggests that the loan

will be taken as defaulted when the interest
and/or principal is overdue by more than 90
days. It further goes to refer to crystallisation
of liability on the underlying borrower. The
meaning of “crystallisation of liability” is not at
all clear, and is, regrettably, inappropriate. The
word “crystallisation” is commonly used in
context of oating charges, where the charge
gets crystallised on account of default. It is also
sometimes used in context of guarantees
where the liability is said to crystallise on the
guarantor following the debtor’s default. The
word “underlying borrower” should obviously
mean the borrower included in the pool of
loans, who always had a crystallised liability. In
context, however, this may mean declaration
of an event of default, recall of the loan, and
thereby, requiring the borrower to repay the
entire defaulted loan.
23. On occurrence of “default” as above, will

be the Bank be able to claim the entire
outstanding from the underlying
borrower, or the amount of defaulted
interest/principal?
The general principle in such cases is that the

liability of the guarantor should crystallise on
declaration of an event of default on the
underlying loan. Hence, the whole of the
outstanding from the borrower should be
claimed from the guarantor, so as to indemnify
the bank fully. As regards subsequent
recoveries from the borrower, see later.
24. Does the recognition of loss by the bank

on a defaulted loan have anything to do
with the excess spreads/interest on the
other performing loans? That is to say, is
the loss with respect to a defaulted loan
to be computed on pool basis, or loan-
by-loan basis?
A reading of para D would suggest that the

claiming of compensation is on default of a
loan. Hence, the compensation to be claimed
by the bank is not to be computed on pool
basis. However, any pool-level enhancement,
such as excess spread or over-collateralisation,
will have to be exhausted rst.
25. Can the guarantee be applicable to a

revolving purchase of loans by the bank
from the NBFC, that is, purchase of loans
on a continuing basis?
No. The intent seems clearly to apply the

Scheme only to a static pool.
26. If a bank buys several pools from the

same NBFC, is the extent of rst loss
cover, that is, 10%, fungible across all
pools?
No. The very meaning of a rst loss cover is

that the protection is limited to a single, static
pool.
27. What will the 20% rst loss guarantee in

case of Paper Purchase signify?
The meaning of rst loss guarantee will be the

same in case of Paper Purchases, as in case of
Pool Purchases. The di erence is clearly the
lack of granularity in case of Paper purchases,
as the exposure is on the issuer NBFC, and not
the underlying borrower.
Hence, if the issuer NBFC fails to redeem the

paper on maturity, the PSB shall be entitled to
claim payment from the guarantor.
28. From the viewpoint of maximising the

bene t of the guarantee in case of Pool
Purchase, should a bank try and achieve
maximum diversi cation in a pool, or
keep the pool concentric?
The time-tested rule of tranching of risks in

static pools is that in case of concentric, that is,
correlated pools, the limit of rst loss will be
reached very soon. Hence, the bene t of the
guarantee is maximised when the pool is
diversi ed. This will mean both granularity of
the pool, as also diversi cation by all the
underlying risk variables – geography, industry
or occupation type, type of property, etc.
29. Is the same principle of pool

diversi cation applicable to a Paper
purchase also?
Yes, absolutely. The guarantee is a tranched-

risk cover, upto a rst loss piece of 20%. In
case of all tranched risk cover, the bene t can
be maximised only if the risk is spread across a
granular pool.
30. Can or should the Scheme be deployed

for buying a single loan, or a few
corporate loans?
First, the reference to pools obviously means

diversi ed pools. As regards pools consisting
of a few corporate loans, as mentioned above,
the rst loss cover will get exhausted very
soon. The principle of tranching is that as
correlation/concentricity in a pool increases,
the risk shifts from lower tranches to senior
tranches. Hence, one must not target using the
Scheme for concentric or correlated pools.
31. In case of Pool Purchases, on what

amount should the rst loss guarantee
be calculated – on the total pool size or
the total amount of assets assigned?
While, as we discussed earlier, there is no

applicability of the DA Guidelines in the
present case, there needs to be a minimum

skin in the game for the selling Financial Entity.
Whether that skin in the game is by way of a
pari passu vertical tranche, or a subordinated
horizontal tranche, is a question of the rating
required for attaining the bene t of the
guarantee. Therefore, if we are considering a
pool of say ₹ 1000 crores, the originator should
retain at least ₹ 100 crores (applying a 10% rule
– which, of course, will depend on the rating
considerations) of the total assets in the pool
and only to the extent the ₹ 900 crores can be
assigned to the purchasing bank.
The question here is whether the rst loss

guarantee will be calculated on the entire ₹
1000 crores or ₹ 900 crores. The intention is
guarantee the purchasing banks’ share of cash
ows and not that retained by the originator.
Therefore, the rst loss guarantee will be
calculated on ₹ 900 crores in the present case.
Scope of the GoI Guarantee

32. In case of Pool Purchases, does the
guarantee cover both principal and
interest on the underlying loan?
The guarantee is supposed to indemnify the

losses of the bene ciary, in this case, the bank.
Hence, the guarantee should presumably
cover both interest and principal.
33. Does the guarantee cove additional

interest, penalties, etc.?
Going by Rule 277 (vi) of the GFR, the bene t of

the guarantee will be limited to normal interest
only. All other charges – additional interest,
penal interest, etc., will not be covered by the
guarantee.
34. In case of Paper Purchases, what all does

the guarantee cover?
Once again, the guarantee seems to be for the

maturiing amount, as also the accumulated
interest.
35. How do the General Financial Rules of

the Government of India a ect/limit the
scope of the guarantee?
Para 281 of the GFR provides for annual review

of the guarantees extended by the
Government. The concerned department, DFS
in the present case, will conduct review of the
guarantees extended and forward the report
to the Budget Division. However, if the
Government can take any actions based on the
outcome of the review is unclear.
BANKRUPTCY
REMOTENESS
36. Does the transaction of assignment of
pool from the Financial Entity to the
bank have to adhere to any true
sale/bankruptcy remoteness conditions?
The transaction must be a proper assignment,

and should achieve bankruptcy remoteness in
relation to the Financial Entity. Therefore, all
regular true sale conditions should be
satis ed.
37. Can a Financial Entity sell the pool to the

bank with the understanding that after 2
years, that is, at the end of the
guarantee period, the pool will be sold
back to the NBFCs?
Any sale with either an obligation to buyback,

or an option to buy back, generally con icts
with the true sale requirement. Therefore, the
sale should be a sale without recourse.
However, retention of a right of rst refusal, or
right of pre-emption, is not equivalent to
option to buy back. For instance, if, after 2
years, the bank is desirous of selling the pool
at its fair value, the NBFC may have the rst
right of buying the same. This is regarded as

consistent with true sale conditions.
38. If o -balance sheet treatment from

IFRS/Ind-AS viewpoint at all relevant for
the purpose of this transaction?
No. O balance sheet treatment is not relevant

for bankruptcy remoteness.
39. Is the Pool Purchase transaction subject

to bankruptcy risk of the issuer nance
company?
Yes, absolutely. There is no bankruptcy

remoteness in case of paper purchases.
Short term bond instrument

regulations
40. What are the speci c regulations to be
complied with in case of PAPER
issuance?
The issuing NBFC/HFC will have to comply with

the provisions of Companies Act, 2013.
Additionally, depending on the tenure and
nature of the PAPER, the regulations issued by
RBI for money market instruments shall also
be applicable.
41. Given the current regulatory framework

for short term instruments, is it possible
to issue unrated instruments with
maturity less than 12 months?
As per the RBI Master Directions for Money

Market Instruments, the issuers is required to
obtain credit rating for issuance of CP from any
one of the SEBI registered CRAs. Further, it is
prescribed that the minimum credit rating
shall be ‘A3’ as per rating symbol and de nition
prescribed by SEBI.
Similarly, in case of NCD issuance with tenure

upto one year, there is a requirement to obtain
credit rating from one of the rating agencies.
Further, the minimum credit rating shall be ‘A2’

as per rating symbol and de nition prescribed
by SEBI.
Buyers and sellers

42. Who are eligible buyers under this
Scheme?
Both in case of Pool Purchases as also Paper

Purchases, only Public Sector Banks are eligible
buyers of assets under this Scheme. Therefore,
even if a Private Sector Bank acquires eligible
assets from eligible sellers, guarantee under
this Scheme will still not be available.
This may be keeping in view two points – rst,

the intent of the Scheme, that is, to nudge
PSBs to buy pools from Financial Entities. It is a
well-known fact that private sector banks are,
as it is, actively engaged in buying pools.
Secondly, in terms of GFR of the GoI, the
bene t of Government guarantee cannot go to
the private sector. [Rule 277 (vii)] Hence, the
Scheme is restricted to PSBs only.
43. Who are eligible sellers under the

Scheme in case of Pool purchases?
The intention of the Scheme is to provide relief

from the stress caused due to the ongoing
liquidity crisis, to sound HFCs/ NBFCs who are
otherwise nancially stable. The Scheme has
very clearly laid screening parameters to
decide the eligibility of the seller. The
qualifying criteria laid down therein are:
NBFCs registered with the RBI, except Micro

Financial Institutions or Core Investment
Companies
HFCs registered with the NHB
The NBFC/ HFC must have been able to

maintain the minimum regulatory capital as
on 31st March, 2019, that is –
For NBFCs – 15%
For HFCs – 12%
The net NPA of the NBFC/HFC must not
have exceeded 6% as on 31st March, 2019
The NBFC/ HFC must have reported net

pro t in at least one out of the last two
preceding nancial years, that is, FY 2017-
18 and FY 2018-19.
The Original Scheme stated that the NBFC/

HFC must not have been reported as a
Special Mention Account (SMA) by any bank
during the year prior to 1st August, 2018.

However, the Amendment even allows
NBFC/HFC which may have slipped during
one year prior to 1st August, 2018 shall also
be allowed to sell their portfolios under the
Scheme.
44. Who are eligible issuers under the

Scheme in case of PAPER purchases?
The intention of the Scheme is to provide relief

from the stress caused due to the ongoing
liquidity crisis, the eligible issuers are as follow:
NBFCs registered with the RBI except

Government owned NBFCs
All MFIs which are members of a Self-

Regulatory Organisation (SRO) recognized
by RBI shall be eligible for purchase of
Bonds/ CPs.
HFCs registered with the NHB except

Government owned HFCs.
45. In case of pool purchases, can NBFCs of

any asset size avail this bene t?
Apparently, the Scheme does not provide for

any asset size requirement for an NBFC to be
quali ed for this Scheme, however, one of the
requirements is that the nancial institution
must have maintained the minimum
regulatory capital requirement as on 31st
March, 2019. Here it is important to note that
the requirement to maintain regulatory capital,

that is capital risk adequacy ratio (CRAR),
applies only to systemically important NBFCs.
Only those NBFCs whose asset size exceeds ₹

500 crores singly or jointly with assets of other
NBFCs in the group are treated as systemically
important NBFCs. Therefore, it is safe to
assume that the bene ts under this Scheme
can be availed only by those NBFCs which – a)
are required to maintain CRAR, and b) have
maintained the required amount of capital as
on 31st March, 2019, subject to the ful llment

of other conditions.
46. In case of issuance of bonds/commercial

papers, is there a similar capital
requirement?
There is no such condition in case of bond and

CP issuance.
47. In case of pool purchases, the eligibility

criteria for sellers state that the nancial
institution must not have been reported
as SMA-1 or SMA-2 by any bank any time
during 1 year prior to 1st August, 2018–
what does this signify?
As per the prudential norms for banks, an

account has to be declared as SMA, if it shows
signs of distress without slipping into the
category of an NPA. The requirement states
that the originator must not have been
reported as an SMA-1 or SMA-2 any time
during 1 year prior to 1st August, 2018, and

nothing has been mentioned regarding the
period thereafter.
Therefore, if a nancial institution satis es the
condition before 1st August, 2018 but becomes

SMA-1 or SMA-2 thereafter, it will still be
eligible as per the Scheme. The whole intention
of the Scheme is to eliminate the liquidity
squeeze due to the ILFS crisis. Therefore, if a
nancial institution turns SMA after the said
date, it will be presumed the nancial
institution has fallen into a distressed situation

as a fallout of the ILFS crisis.
Eligible assets
48. What are the eligible assets for the
Scheme in case of Pool Purchases?
The Scheme has explicitly laid down qualifying

criteria for eligible assets and they are:
The asset must have originated on or
before 31st March, 2019.
The asset must be classi ed as standard in

the books of the NBFC/ HFC as on the date
of the sale.
The original Scheme stated that the pool of

assets should have a minimum rating of
“AA” or equivalent at fair value without the
credit guarantee from the Government.
However, through the Amendment, the
rating requirement has been brought down
to BBB+.
Each account under the pooled assets

should have been fully disbursed and
security charges should have been created
in favour of the originating NBFCs/ HFCs.
The individual asset size in the pool must

not exceed ₹ 5 crore.
The following types of loans are not eligible

for assignment for the purposes of this
Scheme:
Revolving credit facilities;
Assets purchased from other

entities; and
Assets with bullet repayment of both

principal and interest
Pools consisting of assets satisfying

the above criteria qualify for the
bene t of the guarantee. Hence, the
pool may consist of retail loans,
wholesale loans, corporate loans,
loans against property, or any other
loans, as long as the qualifying

conditions above are satis ed.
49. Should the Scheme be deployed for

assets for longer maturity or shorter
maturity?
Utilising the Scheme for pools of lower

weighted average maturity will result into very
high costs – as the cost of the guarantee is
computed on the original purchase price.
Using the Scheme for pools of longer maturity

– for example, LAP loans or corporate loans,
may be lucrative because the amortisation of
the pool is slower. However, it is notable that
the bene t of the guarantee is available only
for 2 years. After 2 years, the bank will not
have the protection of the Government’s
guarantee.
50. If there are corporate loans in the pool,

where there is payment of interest on
regular basis, but the principal is paid by
way of a bullet repayment, will such
loans qualify for the bene t of the
Scheme?
The reference to bullet repaying loans in the

Scheme seems similar to those in DA
guidelines. In our view, if there is
evidence/track record of servicing, in form of
interest, such that the principal comes by way
of a bullet repayment (commonly called IO
loans), the loan should still qualify for the
Scheme. However, negatively amortising loans
should not qualify.
51. Is there any implication of keeping the

cut-o date for originations of loans to
be 31st March, 2019?
This Scheme came into force with e ect from
10th August, 2019 and remained open till 30th

June, 2020. The original Scheme also had this
cut-o of 31st March, 2019.
Due to the extension, though the timelines

have been extended by one year till 31st
March, 2021, however, the cut o date has not
changed. Therefore, in our view, this scheme
will hold good only for long tenure loans, such
as mortgage loans.
52. Is there any maximum limit on the

amount of loans that can be assigned
under this Scheme?
Yes, the Scheme has put a maximum cap on

the amount of assets that can be assigned and
that is an amount equal to 20% of the
outstanding standard assets as on 31st March,

2019, however, the same is capped to ₹ 5000
crores.
53. Is there a scope for assigning assets

beyond the maximum limits prescribed
in the Scheme?
Yes, the Scheme states that any additional

amount above the cap of ₹ 5,000 crore will be
considered on pro rata basis, subject to
availability of headroom. However, from the
language, it seems that there is a scope for sell
down beyond the prescribed limit, only if the
eligible maximum permissible limit gets
capped to ₹ 5,000 crores and not if the
maximum permissible limit is less than ₹ 5000
crores.
The following numerical examples will help us

to understand this better:
Total ₹ ₹ ₹ 30,000
outstanding 20,000 25,000 crores
standard crores crores
assets as
on 31st
March,
2019
Maximum ₹ ₹ ₹ 6,000
permissible 4,000 5,000 crores
limit @ 20% crores crores
Maximum ₹ ₹ ₹ 5,000
cap for 5,000 5,000 crores
assignment crores crores
under this
Scheme
Amount ₹ ₹ ₹ 5,000
that can be 4,000 5,000 crores
assigned crores crores
under this
Scheme
Scope for No No Yes, upto

further sell a
down? maximum
of ₹ 1,000
crores
54. When will it be decided whether the

Financial Entity can sell down receivables
beyond the maximum cap?
Nothing has been mentioned regarding when

and how will it be decided whether a nancial
institution can sell down receivables beyond
the maximum cap, under this Scheme.
However, logically, the decision should be
taken by the Government of India of whether
to allow further sell down and closer towards
the end of the Scheme. However, we will have
to wait and see how this unfolds practically.
55. What are the permissible terms of

transfer under this Scheme?
The Scheme allows the assignment agreement

to contain the following:
Servicing rights – It allows the originator to

retain the servicing function, including
administrative function, in the transaction.
Buy back right – It allows the originator to

retain an option to buy back its assets after
a speci ed period of 12 months as a
repurchase transaction, on a right of rst

refusal basis. Actually, this is not a right to
buy back, it is a right of rst refusal which
the NBFC/ HFC may exercise if the
purchasing bank further sells down the
assets. See elsewhere for detailed
discussion
Rating of the Pool in case of

Pool Purchases
56. The Scheme requires that the pool must
have a rating of BBB+ before its transfer
to the bank. Does that mean there be a
formal rating agency opinion on the
rating of the pool?
Yes. It will be logical to assume that SIDBI or

DFS will expect a formal rating agency opinion
before agreeing to extend the guarantee.
57. The Scheme requires the pool of assets

to be rated at least BBB+, what does this
signify?
As per the conditions for eligible assets, the

pool of assets to be assigned under this
Scheme must have a minimum rating of
“BBB+” or equivalent at fair value prior to the
guarantee from the Government.
There may be a question of expected loss

assessment of a pool. Initially, the rating
requirement was pegged at “AA” or higher and
there was an apprehension that the originators
might have to provide a substantial amount of
credit enhancement in order to the make the
assets eligible for assignment under the
Scheme. Subsequently, vide the Amendments,
the rating has been brought down to BBB+.
The originators may also be required to
provide some level of credit enhancements in
order to achieve the BBB+ rating.
Unlike under the original Scheme, where the

rating requirement was as high as AA, the
intent is to provide guarantee only at AA level,
then the thickness of the guarantee, that is,
10%, and the cost of the guarantee, viz., 25

bps, both became questionable. The thickness
of support required for moving a AA rated pool
to a AAA level mostly is not as high as 10%.
Also, the cost of 25 bps for guaranteeing a AA-
rated pool implied that the credit spreads
between AA and a AAA-rated pool were at least
good enough to absorb a cost of 25 bps. All
these did not seemed and hence, there was
not even a single transaction so far.
But now that the rating requirement has been

brought down to BBB+, it makes a lot of sense.
The credit enhancement level required to
achieve BBB+ will be at least 4%-5% lower than
what would have been required for AA pool.
Further, the spread between a BBB+ and AAA
rated pool would be su cient to cover up the
guarantee commission of 25 bps to be
incurred by the seller in the transaction.
Here it is important to note that though the

rating required is as low as BBB+, but there is
nothing which stops the originator in providing
a better quality pool. In fact, by providing a
better quality pool, the originator will be able
to fetch a much lower cost. Further, since, the
guarantee on the pool will be available for only
rst two years of the transaction, the buyers
will be more interested in acquiring higher
quality pools, as there could be possibilities of
default after the rst two years, which is
usually the case – the defaults increase
towards the end of the tenure.
57A. Will investment grade debt paper of

NBFCs/HFCs/MFIs be determined without
adjustments for the COVID scenario
considering the grading may have been
downgraded?
As per the Scheme, the rating of debt paper as
on date of transaction would apply. In this
regard, a circular issued by SEBI on March 30,
2020
[https://www.sebi.gov.in/legal/circulars/mar-
2020/relaxation-from-compliance-with-certain-
provisions-of-the-circulars-issued-under-sebi-
credit-rating-agencies-regulations-1999-due-to-
the-covid-19-pandemic-and-moratorium-
permitted-by-rbi-_46449.html] maybe
considered, which directs rating agencies to
not consider delay in repayments owing to the
lockdown as ‘default’. Thus, the rating issued
by the credit rating agencies would already
adjust the delays owing to COVID disruptions.
Risk weight and capital

requirements
58. Can the bank, having got the Pool
guaranteed by the GoI, treat the Pool
has zero% risk weighted, or risk-
weighted at par with sovereign risk
weights?
No. for two reasons –one the guarantee is only

partial and not full. Number two, the
guarantee is only for losses upto rst 2 years.
So it is not that the credit exposure of the bank
is fully guaranteed
59. What will be the risk weight once the

guarantee is removed, after expiry of 2
years?
The risk weight should be based on the rating

of the tranche/pool, say, BBB+ or better.
Guarantee commission
60. Is there a guarantee commission? If yes,
who will bear the liability to pay the
commission?
As already discussed in one of the questions

above, the Scheme requires the originators to
pay guarantee commission of 25 basis points
on the amount of guarantee extended by the
Government. Though the originator will pay
the fee, but the same will be routed through
purchasing bank.
61. The pool is amortising pool. Is the cost of

25 bps to be paid on the original
purchase price?
From the operational details, it is clear that the

cost of 25 bps is, in the rst instance, payable
on the original fair value, that is, the purchase
price.
Invocation of guarantee and

refund
62. When can the guarantee be invoked in
case of Pool Purchases?
The guarantee can be invoked any time during

the rst 24 months from the date of
assignment, if the interest/ principal has
remained overdue for a period of more than
90 days.
63. When can the guarantee be invoked in

the case of Paper Purchases?
There is no maximum time limit in case of

Paper Purchases. Hence, the guarantee can be
invoked upto maturity. The maximum
maturity, of course, is limited to 18 months.
64. In case of Pool Purchases, can the

purchasing bank invoke the guarantee
as and when the default occurs in each
account?
Yes. The purchasing bank can invoke the

guarantee as and when any instalment of
interest/ principal/ both remains overdue for a
period of more than 90 days.
65. In case of PAPER Purchases, can the

purchasing bank invoke the guarantee
as and when the default occurs?
Assuming the instruments will have bullet

repayment of principal, the answer is yes.
66. To what extent can the purchasing bank

recover its losses through invocation of
guarantee?
When a loan goes bad, the purchasing bank

can invoke the guarantee and recover its entire
exposure from the Government. It can
continue to recover its losses from the
Government, until the upper cap of 10% of the
total portfolio is reached. However, the
purchasing bank will not be able to recover the
losses if – (a) the pooled assets are bought
back by the concerned NBFCs/HFCs or (b) sold
by the purchasing bank to other entities.
67. Within how many days will the

purchasing bank be able to recover its
losses from the Government?
As stated in the Scheme, the claims will be

settled within 5 working days.
68. In case of pool purchase, what will

happen if the purchasing bank recovers
the amount lost, subsequent to the
invocation of guarantee?
If the purchasing bank, by any means, recovers

the amount subsequent to the invocation of
the guarantee, it will have to refund the
amount recovered or the amount received
against the guarantee to the Government
within 5 working days from the date of
recovery. However, if the amount recovered is
more than the amount received as guarantee,
the excess collection will be retained by the
purchasing bank.
69. In case of PAPER Purchase, what will

happen if the purchasing bank recovers
the amount lost, subsequent to the
invocation of guarantee?
If the purchasing bank, by any means, recovers

the amount subsequent to the invocation of
the guarantee, it will have to refund the
amount recovered or the amount received
against the guarantee to the Government
within 5 working days from the date of
recovery. However, if the amount recovered is
more than the amount received as guarantee,
the excess collection will be retained by the

purchasing bank.
Modus operandi
70. What will be the process for a bank to
obtain the bene t of the guarantee?
While the Department of Financial Services

(DFS) is made the administrative ministry for
the purpose of the guarantee under the
Scheme, the Scheme involves the role of SIDBI
as the interface between the banks and the
GoI. Therefore, any bank intending to avail of
the guarantee has to approach SIDBI.
71. Can you elaborate on the various

procedural steps to be taken to take the
bene t of the guarantee?
The modus operandi of the Scheme is likely to

be as follows:
An NBFC approaches a bank with a static

pool, which, based on credit enhancements,
or otherwise, has already been uplifted to a
rating of BBB+ or above level.
The NBFC negotiates and nalises its

commercials with the bank.
The bank then approaches SIDBI with a

proposal to obtain the guarantee of the
GOI. At this stage, the bank provides (a)
details of the transaction; and (b) a
certi cate that the requirements of Chapter
11 of General Financial Rules, and in
particular, those of para 280, have been
complied with.
SIDBI does its own evaluation of the

proposal, from the viewpoint of adherence
to Chapter 11 of GFR and para 280 in
particular, and whether the proposal is in
compliance with the provisions of the
Scheme. SIDBI shall accordingly forward the
proposal to DFS along with a speci c
recommendation to either provide the
guarantee, or otherwise.
DFS shall then make its decision. Once the

decision of DFS is made, it shall be
communicated to SIDBI and PSB.
At this stage, PSB may consummate its

transaction with the NBFC, after collecting
the guarantee fees of 25 bps.
In case of PAPER Purchase, the NBFC/HFC

shall have to comply with the extant
regulations for issuance of bonds/CPs,
under Companies Act, 2013 and as issued
by the regulators- RBI or NHB, as the case
may be.
PSB shall then execute its guarantee

documentation with DFS and pay the
money by way of guarantee commission.
72. Para 280(i)(a) of the GFR states that

there should be back-to-back
agreements between the Government
and Borrower to e ect to the transaction
– will this rule be applicable in case of
this Scheme?
Para 280 has been drawn up based on the

understanding that guarantee extended is for
a loan where the borrower is known by the
Government. In the present case, the
guarantee is extended in order to partially
support a sale of assets and not for a speci c
loan, therefore, this will not apply.
Miscellaneous
73. Is there any reporting requirement?
The Scheme does provide for a real-time

reporting mechanism for the purchasing banks
to understand the remaining headroom for
purchase of such pooled assets. The
Department of Financial Services (DFS),
Ministry of Finance would obtain the requisite
information in a prescribed format from the
PSBs and send a copy to the budget division of
DEA, however, the manner and format of
reporting has not been noti ed yet.
74. What are to-do activities for the sellers

to avail bene ts under this Scheme?
Besides conforming to the eligibility criteria

laid down in the Scheme, the sellers will also
have to carry out the following in order to avail
the bene ts:
The Asset Liability structure should

restructured within three months to have
positive ALM in each bucket for the rst
three months and on cumulative basis for
the remaining period;
At no time during the period for exercise of

the option to buy back the assets, should
the CRAR go below the regulatory
minimum. The promoters shall have to
ensure this by infusing equity, where
required.
Amendments to the Scheme

With an intent to extend the bene ts of the
scheme during the current crisis, a noti cation
[https://pib.gov.in/PressReleseDetail.aspx?
PRID=1646470] dated August 17, 2020 was
released by the MoF making certain
amendments to the scheme. Through the
amendment, the tenure of the scheme has
been extended by 3 months. Hence, PSBs can
purchase the pools till 19th November, 2020.
The crystallisation for the purpose of
determining the guarantee shall be done on
19th November, 2020.
Further, investments in bonds/CPs of rating AA

and AA- have been allowed upto 50% of the
total portfolio of bonds/CPs purchased by the
PSB under the scheme. The limit earlier was
25%. This increase would allow more
bonds/CPs to come under the scheme and
would enable the NBFCs/HFCs/MFIs with
investment grade ratings but not very high
ratings to procure funding to an
extended limit.
Other related articles-
Government Credit enhancement scheme for

NBFC Pools: A win-win for all
[http://vinodkothari.com/2019/08/govtcreditschemeenh
GOI’s attempt to ease out liquidity stress of

NBFCs and HFCs: Ministry of Finance launches
Scheme for Partial Credit Guarantee to PSBs
for acquisition of nancial assets
[http://vinodkothari.com/2019/08/gois-
attempt-to-ease-out-liquidity-stress-of-nbfcs-
and-hfcs-ministry-of- nance-launches-scheme-
for-partial-credit-guarantee-to-psbs-for-
acquisition-of- nancial-assets/]
Government credit enhancement for NBFC

pools: A Guide to Rating agencies
[http://vinodkothari.com/2019/08/government-
credit-enhancement-for-nbfc-pools-a-guide-to-
rating-agencies/]
http://vinodkothari.com/2019/09/partial-credit-
guarantee-scheme/
[http://vinodkothari.com/2019/09/partial-
credit-guarantee-scheme/]
[1]
scheme/#_ftnref1] Including Indian
Securitisation Foundation
[2]
scheme/#_ftnref2]
https://pib.gov.in/PressReleseDetailm.aspx?
PRID=1595952
[https://pib.gov.in/PressReleseDetailm.aspx?
PRID=1595952]
[3]
scheme/#_ftnref3]
https://www.rbi.org.in/Scripts/FAQView.aspx?
Id=131
[https://www.rbi.org.in/Scripts/FAQView.aspx?
Id=131]
SPECIAL

LIQUIDITY
FACILITY FOR
MUTUAL FUNDS
April 27, 2020 / 0 Comments / in Capital Markets,
Financial Services, RBI / by Vinod Kothari Consultants
By Anita Baid ( nserv@vinodkothari.com)
[Posted on April 27, 2020 and updated on April

30, 2020]
The Reserve Bank of India (RBI) has been

vigilantly taking necessary measures and steps
to mitigate the economic impact of Covid-19
and preserve nancial stability. The capital
market of our country has also been exposed
to the disruption. The liquidity strains on
mutual funds (MFs) has intensi ed for the
high-risk debt MF segment due to redemption
or closure of some debt MFs. This was
witnessed when Franklin Templeton Mutual
Fund[1] [#_ftn1] announced the winding up of
six yield-oriented, managed credit funds in
India, e ective April 23, citing severe market
dislocation and illiquidity caused by the
coronavirus. Sensing the need of the hour and
in order to ease the liquidity pressures on MFs,
RBI has announced a special liquidity facility
for Mutual Funds (SLF-MF)[2] [#_ftn2] of Rs.
50,000 crore.
Under the SLF-MF, the RBI shall conduct repo

operations of 90 days tenor at the xed repo
rate. The SLF-MF is on-tap and open-ended,
wherein banks shall submit their bids to avail

funding on any day from Monday to Friday
(excluding holidays) between 9 AM and 12.00
Noon. The scheme shall be open from April 27,
2020 till May 11, 2020 or up to utilization of the
allocated amount, whichever is earlier. An LAF
Repo issue will be created every day for the
amount remaining under the scheme after
deducting the cumulative amount availed up to
the previous day from the sanctioned amount
of Rs. 50,000 crores. The bidding process,
settlement and reversal of SLF-MF repo would
be similar to the existing system being
followed in case of LAF/MSF. Further, the RBI
will further review the timeline and amount,
depending upon market conditions.
As per the press release, the RBI will provide

funds to banks at lower rates and banks can
avail funds for exclusively meeting the liquidity
requirements of mutual funds in the following
ways:
extending loans, and
undertaking outright purchase of and/or

repos against the collateral of investment
grade corporate bonds, commercial papers
(CPs), debentures and certi cates of
Deposit (CDs) held by MFs.
Accordingly, the funds availed by banks from

the RBI at the repo window will be used to
extend loans
to MFs, buy outright investment grade
corporate bonds or CPs or CDs from them or
extend the funds against collateral through
a repo.
The RBI has further vide its noti cation dated

April 30, 2020
[https://rbidocs.rbi.org.in/rdocs/PressRelease/PDFs/PR2
, extended the regulatory bene ts under the
SLF-MF scheme to all banks, irrespective of
whether they avail funding from the RBI or
deploy their own resources under the scheme.
Banks meeting the liquidity requirements of
MFs by any of the aforesaid methods, shall be
eligible to claim all the regulatory bene ts

available under SLF-MF scheme without the
need to avail back to back funding from the RBI
under the SLF-MF.
It is important to note that in terms of

regulation 44(2) of the SEBI (Mutual Funds)
Regulations, 1996[3] [#_ftn3] , a MF shall not
borrow except to meet temporary liquidity
needs of the MFs for the purpose of
repurchase, redemption of units or payment of
interest or dividend to the unit holders and,
further, the mutual fund shall not borrow
more than 20% of the net asset of the scheme
and for a duration not exceeding six months.
As per the aforesaid SEBI regulations, MFs

should normally meet their
repurchase/redemption commitments from
their own resources and resort to borrowing
only to meet temporary liquidity needs.
Therefore, under the SLF-MF scheme as well
banks will have to be judicious in granting
loans and advances to MFs only to meet their
temporary liquidity needs for the purpose of
repurchase/redemption of units within the
ceiling of 20% of the net asset of the scheme
and for a period not exceeding 6 months.
While banks will decide the tenor of lending to
/repo with MFs, the minimum tenor of repo
with RBI will be for a period of three months.
Similar to the incentives given to the banks in

case of LTRO schemes, the following shall be
available for banks extending funding under
the SLF-MF-
1. the liquidity support availed under the

SLF-MF would be eligible to be classi ed
as held to maturity (HTM) even in excess
of 25% of total investment permitted
2. Exposures under this facility will not be

reckoned under the Large Exposure
Framework (LEF)
3. The face value of securities acquired

under the SLF-MF and kept in the HTM
category will not be reckoned for
computation of adjusted non-food bank

credit (ANBC) for the purpose of
determining priority sector targets/sub-
targets
4. Support extended to MFs under the SLF-

MF shall be exempted from banks’ capital
market exposure limits.
The RBI’s move is much needed to ease the

liquidity stress on the MF industry. However, as
has been seen in the TLRTO 2.0 auctions,
banks are taking a cautious approach before
using this facility provided by RBI. However, it
is expected that this will ensure easing of
liquidity and also boost investor sentiment.
[1] [#_ftnref1] With assets worth more than Rs

86,000 crore as of the end of March, Franklin
Templeton is the ninth largest mutual fund in
the country
[2] [#_ftnref2]
https://www.rbi.org.in/scripts/BS_PressReleaseDisplay.a
prid=49728
[https://www.rbi.org.in/scripts/BS_PressReleaseDisplay.a
prid=49728]
[3] [#_ftnref3] Last updated on March 6, 2020-

https://www.sebi.gov.in/legal/regulations/mar-
2020/securities-and-exchange-board-of-india-
mutual-funds-regulations-1996-last-amended-
on-march-06-2020-_41350.html
[https://www.sebi.gov.in/legal/regulations/mar-
2020/securities-and-exchange-board-of-india-
mutual-funds-regulations-1996-last-amended-
on-march-06-2020-_41350.html]
INVESTMENT IN G-

SECS- FULLY
ACCESSIBLE
ROUTE FOR
INVESTMENT BY
NRIS
April 10, 2020 / 0 Comments / in Bond Market, Capital
Markets / by Vinod Kothari Consultants
Read more →
[http://vinodkothari.com/2020/04/investment-
in-g-secs-fully-accessible-route-for-investment-
by-nris/]
SEBI INTRODUCES

ENHANCED
DISCLOSURE AND
STANDARDIZED
REPORTING FOR
AIFS
February 24, 2020 / 0 Comments / in Alternative
investment Vehicles, Financial Services, SEBI / by Vinod
Kothari Consultants
Timothy Lopes, Executive, Vinod Kothari

Consultants Pvt. Ltd.
SEBI has vide circular dated 5th February,

2020[1] [#_ftn1] introduced a standard Private
Placement Memorandum (PPM) and
mandatory performance bench-marking for
Alternative Investment Funds (AIF). The move
is part of SEBI’s initiative to streamline
disclosure standards in the growing AIF space.
The changes are made based on the

recommendations of the SEBI Consultation
Paper[2] [#_ftn2] on ‘Introduction of
Performance Bench-marking’ and
‘Standardization of Private Placement
Memorandum for AIFs’.
Template for Private

Placement Memorandum
(PPM)
The SEBI (AIF) Regulations, 2012 speci ed
broad areas of disclosures required to be
made in the PPM. This led to a signi cant
variation in the manner in which various
clauses, explanations and illustrations are
incorporated in the PPMs. Hence, this led to
concerns that the investors receive a PPM
which provides information in a manner which
is too complex to easily comprehend or with
too little information on important aspects of
the AIF, e.g. potential con icts of interests, risk
factors speci c to AIF or its investment
strategy, etc.
Thus, SEBI has mandated a template[3]

[#_ftn3] for the PPM providing certain
minimum level of information in a simple and
comparable format. The template for PPM
consists of two parts –
Part A – Section for minimum disclosures,

which includes the following –
Executive Summary –
This lays down the summary of the parties and

terms of the transaction. In e ect, it is a
summary term sheet of the PPM, laying down
essential features of the transaction.
Market opportunity / Indian Economy /

Industry Outlook;
The theme of this section includes a general

economic background followed by investment
outlook and sector/ industry outlook. This
section may include any additional information

as well which may be relevant. An illustrative
list of additional items which may be included
has been speci ed in the template.
Investment Objective, Strategy and

Process;
A tabular representation of the investment

areas and strategy to be employed is laid down
in under this head. Further, a ow chart
depicting the investment decision making
process and detailed description of the same is
required to be speci ed. This will give investors
a comprehensive idea of the ultimate
investment objective and strategy.
Fund/Scheme Structure;
A diagrammatic structure of the Fund/ Scheme

which discloses all the key constituents and a
brief description of the activities of the Fund/
Scheme.
The diagrammatic representation shall specify,

for instance, the sponsor, trustee, manager,
custodian, investment advisor, o shore feeder,
etc.
Governance Structure;
To enhance the governance disclosures to

investors and ensure transparency this section
mandates disclosures of all details of each
person involved in the Fund/ Scheme
structure, including details about the
investment team, advisory committees,
operating partners, etc.
Track Record of the Manager;
The track record of the Fund Manager is of

great signi cance since investors would like to
know the skill, experience and competence of
the Manager before making an investment.
The template mandates disclosures about the

manager including explicit disclosure of
whether he is a rst time manager or

experienced manager.
Principal terms of the Fund/ Scheme;
Explicit disclosures about the principal terms

such as minimum investment commitment,
size of the scheme, target investors, expenses,
fees and other charges, etc. are required to be
disclosed as per the template.
Major terms and disclosures are covered

under this section.
Principles of Portfolio Valuation;
This section would broadly lay down the

principles that will be used by the Manager for
valuation of the portfolio company.
The investors would get a fair idea of the

manner in which valuation of the portfolio
would be undertaken, in this section.
Con icts of interest;
All present and potential con icts of interests

that the manager would envisage during the
operation of the Fund/ Scheme at various
levels are to be disclosed under this section.
This would enable investors to factor in the

con icts of interests existing or which may
arise in the future of the fund and make an
informed decision.
Risk Factors;
All risk factors that investors should take into

account such as speci c risks of the portfolio
investment or the fund structure are required
to be disclosed in the PPM.
These risks would include operational risks, tax

risks, regulatory risks, etc. among other risk
factors.
Legal, Regulatory, and Tax Consideration;
This section shall include standard language

for legal, regulatory and tax considerations as
applicable to the Fund/Scheme, including the
SEBI (AIF) Regulations, 2012, Takeover
Regulations, Insider Trading Regulations, Anti-
Money Laundering, Companies Act, 2013.
Taxation aspects of the fund are also to be
disclosed.
Illustration of fees, expenses and other

charges;
A tabular representation of the fees and other

charges along with the expenses of the Fund
are required to be disclosed for transparency
of investors and no hidden charges.
Distribution Waterfall;
The payment waterfall to di erent classes of

investors is required to be disclosed in detail.
Disciplinary History.
Any prior disciplinary action taken against the

sponsor, manager, etc. will be required to be
disclosed for better informed decision making
of investors.
Part B – Supplementary section to allow full

exibility to the Fund in order to provide any
additional information, which it deems t.
The template requires enhanced disclosures

mandatorily required to be made by the AIF,
such as risk factors, investment strategy,
con icts of interest and several other areas
that may a ect the interest of the investors of
AIFs.
This will standardize disclosures across the AIF

space and increase simplicity of information to
investors in a standard reporting format.
Enhancing disclosure requirements will
increase investor understanding about AIF
schemes.
Further there is a mandatory requirement to

carry out an annual audit of the compliance of
the PPM by either an internal or external

auditor/ legal professional. The ndings arising
out of the audit are required to be
communicated to the Trustee or Board or
Designated Partners of the AI, Board of the
Manager and SEBI.
Exemption has been provided from the above

PPM and audit requirements to the following
classes of funds:
1. Angel Funds as de ned in SEBI (Alternative

Investment Funds), Regulations 2012.
2. AIFs/Schemes in which each investor

commits to a minimum capital
contribution of Rs. 70 crores (USD 10
million or equivalent, in case of capital
commitment in non-INR currency) and
also provides a waiver to the fund from
the requirement of PPM in the SEBI
prescribed template and annual audit of
terms of PPM, in the manner provided at
Annexure 3 of the SEBI Circular.
These requirements are however applicable
from 01st March, 2020.
Bench-marking for disclosure

of performance
Considering that investments by AIFs have
grown at a rate of 75% year on year in the past
two years, a need was felt to introduce
disclosures by AIFs indicating returns on their
investments. Prior to the SEBI circular there
was no disclosure requirement for AIFs on
their investment performance.
There was no bench-marking of returns

disclosed by AIFs to their prospective or
existing investors. However, returns generated
on investment is one of the most important
factors taken into consideration by potential
investors and is also important for existing
investors in order to be informed about the
performance of their investment in
comparison to a benchmark.
Therefore, it is felt that there is a need to

provide a framework to bench-marking the
performance of AIFs to be available for the
investors and to minimize potential misselling.
In this regard SEBI has introduced the

following –
1. Mandatory bench-marking of the

performance of AIFs (including Venture
Capital Funds) and the AIF industry.
2. A framework for facilitating the use of

data collected by Bench-marking Agencies
to provide customized performance
reports.
The new bench-marking framework prescribes

that each AIF must enter into an agreement
with a Bench-marking Agency (noti ed by an
AIF association representing at least 51% of the
number of AIFs) for carrying out the bench-
marking process.
The agreement between the Bench-marking

Agencies and AIFs shall cover the mode and
manner of data reporting, speci c data that
needs to be reported, terms including
con dentiality in the manner in which the data
received by the Bench-marking Agencies may
be used, etc.
Reporting to the Bench marking Agency –
AIFs are required to report all the necessary

information including scheme-wise valuation
and cash ow data to the Bench-marking
Agencies in a timely manner for all schemes
which have completed at least one year from
the date of ‘First Close’. The form and format of
reporting shall be mutually decided by the
Association and the Benchmarking Agencies.
If an applicant claims a track-record on the

basis of India performance of funds
incorporated overseas, it shall also provide the
data of the investments of the said funds in
Indian companies to the Benchmarking
Agencies, when they seek registration as AIF.
PPM and Marketing material –
In case past performance of the AIF is

mentioned in the PPM or any marketing
material the performance versus benchmark
report provided by the benchmarking agencies
for such AIF/Scheme is also required to be
provided.
Operational Guidelines for the benchmarking

criteria is placed in Annexure 4 to the SEBI
Circular.
Further there is an exemption from the above

requirements to Angel Funds registered under
sub-category of Venture Capital Fund under
Category-1 AIF.
Conclusion
These changes are likely to bring about higher
disclosure and transparency in the AIF space,
especially for existing as well as potential
investors of AIFs. Standardization of PPM will
eliminate any variance from the manner of
disclosures made by various AIFs.
Links to related write ups –
http://vinodkothari.com/2018/03/can-aif-grant-
loans/ [http://vinodkothari.com/2018/03/can-
aif-grant-loans/]
http://vinodkothari.com/wp-
content/uploads/2018/03/PPT-on- nancial-
and-capital-markets_27-02-18_ nal.pdf
content/uploads/2018/03/PPT-on- nancial-
and-capital-markets_27-02-18_ nal.pdf]
http://vinodkothari.com/aifart/
[http://vinodkothari.com/aifart/]
[1] [#_ftnref1]
https://www.sebi.gov.in/legal/circulars/feb-
2020/disclosure-standards-for-alternative-
investment-funds-aifs-_45919.html
[https://www.sebi.gov.in/legal/circulars/feb-
2020/disclosure-standards-for-alternative-
investment-funds-aifs-_45919.html]
[2] [#_ftnref2] https://www.sebi.gov.in/reports-

and-statistics/reports/dec-2019/consultation-
paper-on-introduction-of-performance-
benchmarking-and-standardization-of-private-
placement-memorandum-for-alternative-
investment-funds_45215.html
[https://www.sebi.gov.in/reports-and-
statistics/reports/dec-2019/consultation-paper-
on-introduction-of-performance-
benchmarking-and-standardization-of-private-
placement-memorandum-for-alternative-
investment-funds_45215.html]
[3] [#_ftnref3]
https://www.sebi.gov.in/sebi_data/commondocs/feb-
2020/an_1_p.pdf
[https://www.sebi.gov.in/sebi_data/commondocs/feb-
2020/an_1_p.pdf]
PRESENTATION ON

CORPORATE BOND
MARKET IN INDIA
January 21, 2020 / 0 Comments / in Bond Market,
Capital Markets, Financial Services / by Vinod Kothari
Consultants
Read more →
[http://vinodkothari.com/2020/01/presentation-
corporate-bond-market-india/]
MUNICIPAL

BONDS-WAY
FORWARD
N b 16 2019 / 0 C / i B dM k
November 16, 2019 / 0 Comments / in Bond Market,
Capital Markets, SEBI / by Vinod Kothari Consultants
Read more →
[http://vinodkothari.com/2019/11/municipal-
bonds-way-forward-2/]
FAQS ON

COMMERCIAL
PAPER
November 2, 2019 / 0 Comments / in Capital Markets,
Companies Act 2013, Corporate Laws, RBI, SEBI / by
Vinod Kothari Consultants
 

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10/15/2020 Capital Markets – Vinod Kothari Consultants

Bonds, Financial Services / by Vinod Kothari Consultants

Markets, Covered Bonds, Financial Services / by Vinod

Last year, the European Covered Bonds

Council celebrated 250th anniversary of

With a history of more than 250 years now,

While, over the years, the instrument has been

European banks’ dependence

If covered bonds were to prove resilient to the

Robustness of covered bonds

su cient to hold the bondholders safe. The

After the Global Financial Crisis and the

Past instances of default

In the period 1997 to 2019, out of covered

There are several regulatory incentives for

Rating agency Moody’s reports [16th April,

ceilings, representing lower sovereign credit

Rating agency Fitch also had a similar

At the loan level, LTV ratios are also su ciently

Additionally, in several European jurisdictions,

Unused notches of rating

In order to assess the ability of covered bonds

rating upliftment. In a report dated 25th March,

Links to our other resources on covered

Securitisation and covered

Some notable structured

Comparative table on key

MBS and covered bonds after

[1] [#_ftnref1] 29th August, 1769, Frederick the

[2] [#_ftnref2] See Moody’s report here:

[4] [#_ftnref4] Rating agency Standard and

Corporate Laws, SEBI / by Vinod Kothari Consultants

Timothy Lopes, Executive, Vinod Kothari

In the Union Budget of 2019-2020

A Working Group was subsequently formed on

19th September, 2019

On 1st June, 2020, the Working Group on Social

recommendations made by the working group

The idea of a Social Stock

Certain gaps exist for social enterprises in

Funding is important in terms of the

The funding, however, is contingent upon

Here comes the idea and role of a social stock

Who is eligible to be listed on the SSE?

The SSE is intended for listing of social

There is no new legal form recommended by

Is there any minimum criteria for listing on

In case of NPOs, the minimum reporting

Further, in case of FPEs, it must have received

The working group has requested SEBI to look

Minimum Net Worth;

Average Operating Pro t;

Prior Holding by QIBs, and;

Criteria for Accredited Investor (if a role for

Listing, compliance and penalty provisions

What is a social enterprise? Is the term

Social enterprises broadly fall under two forms

For-Pro t Enterprise – A FPE generally has a

Non-Pro t Enterprise – NPOs have the

The working group de nes a social enterprise

Therefore, an enterprise is “social” not by

Since there would be no legal de nition to