Trustees to be watchdogs in the debt market

IBLJ | Aditya Vikra Dua and Aniket Sawant

With the aim of improving protection and transparency for investors in debt markets, the Securities and Exchange Board of India (SEBI) by its circulars of 8 October 2020 significantly amended the SEBI (Debenture Trustees) Regulations, 1993, the SEBI (Issue and Listing of Debt Securities) Regulations, 2008, and the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, collectively referred to as the debt regulations.

Under the amended debt regulations, debenture trust deeds will now be in two parts. Part A will contain statutory and standard information relating to the debt issue and part B will contain details specific to the particular debt issue. More clarity is required from SEBI in relation to the contents of each part, particularly those in part B. The approach taken by debenture trustees when reviewing the contents of each part will be crucial.

With respect to securities that back debt instruments, issuers shall either disclose in the information memorandum that the assets on which any charge is or will be created are unencumbered, or disclose that existing creditors have consented to the creation of subservient or equal ranking charges on such assets. Issuers will therefore have to obtain charge ceding letters from existing creditors before the issue of the information memorandum. Debenture trustees are required to perform independent due diligence before the creation of any charge to confirm that the issuers have complied with these requirements.

Issuers must create a recovery expense fund (REF), and debenture trustees must ensure compliance. The SEBI circular dated 22 October 2020, requires any issuer of debt securities to create an REF equal to 0.01% of the issue amount subject to a maximum of ₹2.5 million (US$33,000) per issuer. The information memorandum must also disclose the REF details and purpose. The debenture trustee may use the REF for such expenses as enforcing the security and the cost of calling meetings. Issuers listing debt securities on or after 1 January 2021 shall comply with the REF stipulation and issuers whose debt securities are already listed will have 90 days to create the REF. Whether the requirement to create the REF acts as a deterrent and results in issuers not opting for listed debt securities while raising funds remains to be seen.

In the case of listed non-convertible debt securities, the issuer shall maintain 100% asset cover or such higher cover as may be prescribed in the information memorandum or debenture trust deed. It is therefore important to set out clearly in information memorandums and debenture trust deeds the higher asset cover that investors require issuers to maintain in relation to non-convertible debt securities.

In its circular of 13 October 2020, the SEBI prescribed standard procedures to be followed by debenture trustees when the issuers of listed debt securities default, including seeking consent from the investors to enforce the security and entering into intercreditor agreements (ICA). When a default occurs, the debenture trustee shall within three days send a notice to all debenture holders. If the majority of debenture holders disagree with the intention to enforce securities as detailed in the notice, the debenture trustee shall not enforce the security. When 75% of the debenture holders by value of the outstanding debt and 60% of the debenture holders by number at the international securities identification number (ISIN) level, consent to the proposal in the notice to enter into an ICA the debenture trustee shall enter into the ICA.

Debenture trustees will be empowered to consider the resolution plan on behalf of the debenture holders. If the proposed resolution plan imposes conditions on the debenture trustee that are not in accordance with the regulations to which the debentures or debentures trustee are subject, the resolution plan is not implemented within 180 days from the end of the review period, or if the terms of the approved resolution plan are breached by any of the signatories, the debenture trustee has a right to exit the ICA. Debenture trustees therefore must ensure that their rights to exit the ICA under these circumstances are appropriately incorporated in the ICA.

The SEBI seems to expect debenture trustees to play a vital and more proactive role in protecting the interests of the debenture holders. Furthermore, the focus of the SEBI seems to be on ensuring that upfront disclosures are made and that stricter conditions apply to the issuers of debt instruments.