14 A Detailed Guide to Constituting Investment Committees for Alternative Investment Funds

Key Takeaways:

- AIFs have the option to constitute an Investment Committee to approve investment decisions, subject to SEBI's conditions.

- Investor consent is required for appointing external members not disclosed in the Private Placement Memorandum (PPM) or agreement.

- Clarification is pending from SEBI regarding the inclusion of non-resident external members in Investment Committees with approval authority.

- Interim guidelines are provided for processing applications involving Investment Committees with resident and non-resident external members.

Detailed Narrative:

The formation of an Investment Committee is a pivotal aspect for Alternative Investment Funds (AIFs) seeking to streamline their investment decision-making processes. The Securities and Exchange Board of India (SEBI), the regulatory authority overseeing AIFs, has established a comprehensive framework to govern the constitution and functioning of these committees.

Under Regulation 20(7) of the SEBI (Alternative Investment Funds) Regulations, 2012, AIFs have the flexibility to establish an Investment Committee, referred to by any name, to approve investment decisions. However, this provision is subject to certain conditions stipulated by SEBI from time to time.

One of the key considerations is the composition of the Investment Committee. While AIFs have the autonomy to include internal members, such as employees, directors, or partners of the fund manager, the appointment of external members is subject to specific guidelines. Regulation 20(10) mandates that external members not disclosed in the Private Placement Memorandum (PPM) or agreement can only be appointed to the Investment Committee with the consent of at least 75% of the investors by value.

Furthermore, SEBI has addressed the scenario where the Investment Committee is granted the authority to approve investment decisions, and its composition includes external members who are not resident Indian citizens. In such cases, SEBI has sought clarification from the Government and the Reserve Bank of India (RBI) regarding the applicability of clause (4) of Schedule VIII under the Foreign Exchange Management (Non-debt Instruments) Rules, 2019.

Pending this clarification, SEBI has provided interim guidelines for processing applications involving Investment Committees. Applications where the proposed Investment Committee includes external members who are resident Indian citizens will be processed as usual. However, applications involving non-resident external members with approval authority will be considered only after receiving the necessary clarification from the relevant authorities.

It is crucial for AIFs to meticulously adhere to these guidelines and ensure compliance with the regulatory framework while constituting their Investment Committees. Failure to do so may result in regulatory scrutiny and potential consequences.

FAQs:

Q1: What is the purpose of constituting an Investment Committee for AIFs?

A1: The primary purpose of an Investment Committee is to streamline and oversee the investment decision-making process for AIFs. By delegating approval authority to the committee, AIFs can ensure a structured and well-governed approach to investment decisions.

Q2: Can AIFs include external members in their Investment Committees?

A2: Yes, AIFs can include external members in their Investment Committees. However, the appointment of external members not disclosed in the PPM or agreement requires the consent of at least 75% of the investors by value.

Q3: What is the significance of the pending clarification from SEBI regarding non-resident external members?

A3: The pending clarification from SEBI relates to the applicability of certain foreign exchange regulations when non-resident external members are part of Investment Committees with approval authority. This clarification is crucial to ensure compliance with relevant laws and regulations.

Q4: How are applications involving Investment Committees with non-resident external members being handled currently?

A4: Until the clarification is received, SEBI has provided interim guidelines. Applications involving Investment Committees with resident Indian external members will be processed as usual, while those with non-resident external members will be considered only after receiving the necessary clarification.

Q5: What are the potential consequences of non-compliance with SEBI's guidelines on Investment Committee formation?

A5: Non-compliance with SEBI's guidelines on Investment Committee formation may result in regulatory scrutiny, potential penalties, or other consequences as deemed appropriate by the regulatory authority. It is essential for AIFs to adhere to the prescribed norms to maintain regulatory compliance.

Key Precedents:

1. SEBI (Alternative Investment Funds) Regulations, 2012:

- Regulation 20(7):

Allows AIFs to constitute an Investment Committee to approve investment decisions, subject to SEBI's conditions.

- Regulation 20(10):

Mandates investor consent for appointing external members not disclosed in the PPM or agreement.

2. Foreign Exchange Management (Non-debt Instruments) Rules, 2019:

- Clause (4) of Schedule VIII: SEBI has sought clarification on the applicability of this clause when non-resident external members are part of Investment Committees with approval authority.

3. SEBI Circular No. SEBI/HO/IMD-I/DF6/P/CIR/2021/584 dated June 25, 2021:

- Provides guidelines for processing applications involving Investment Committees with resident and non-resident external members.

4. SEBI Circular No. SEBI/HO/IMD/DF6/CIR/P/2020/209 dated October 22, 2020:

- Addresses the requirement of investor consent for appointing external members not disclosed in the PPM or agreement.

These precedents, including the relevant regulations, rules, and circulars, form the foundation for the guidelines governing the constitution of Investment Committees for AIFs. They outline the regulatory framework, address specific scenarios, and provide clarity on compliance requirements.

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Here's AIF Master Circular's verbatim Chapter 14.

Chapter 14 - Constitution of investment committee43

14.1. In terms of Regulation 20(7) of AIF Regulations, Manager may constitute Investment Committee (by whatever name it may be called) to approve decisions of the AIF, subject to certain conditions. In terms of proviso to Regulation 20(8) of AIF Regulations, there is a requirement to furnish a waiver to AIF in respect of compliance with the said Regulation pertaining to responsibility of members of Investment Committee. The format for waiver to be furnished by the investors in this regard is specified in Annexure 11.

14.2. For the purpose of Regulation 20(10) of AIF Regulations, consent of the investors of the AIF or scheme may not be required for change in ex-officio external members (who represent the sponsor, sponsor group, manager group or investors, in their official capacity), in the investment committee set up by the Manager.

14.3. While processing applications for registration of AIFs and launch of new schemes, it has been observed that the Manager of AIF often proposes to set up an Investment Committee with the mandate to provide investment recommendations or advice to the Manager. In some applications, the Investment Committee is mandated to approve the investment decisions of the AIF. Such Investment Committees may consist of internal members (employees, directors or partners of the Manager) and/ or external members. In this regard, SEBI has written to Government and RBI seeking clarity on the applicability of clause (4) of Schedule VIII under Foreign Exchange Management (Non-debt Instruments) Rules, 2019, to investment made by an AIF whose Investment Committee approves investment decisions and consists of external members who are not ‘resident Indian citizens’.

14.4. Pending clarification as mentioned at Para 14.3 above, the applications for registration of AIFs and launch of new schemes shall be dealt with as under:

(i) The applications wherein Investment Committee proposed to be constituted to approve investment decisions of AIF includes external members who are ‘resident Indian citizens', shall be duly processed.

(ii) The applications wherein Investment Committee proposed to be constituted to approve investment decisions of AIF includes external members who are not ‘resident Indian citizens’, shall be considered only after receipt of clarification as stated in Para 14.3 above.

Note:-

{43}SEBI Circular No. SEBI/HO/IMD-I/DF6/P/CIR/2021/584 dated June 25, 2021 and SEBI circular No. SEBI/H0/IMD/DF6/CIR/P/2020/209 dated October 22, 2020