Introduction
The Securities and Exchange Board of India (“SEBI”), vide its settlement order dated May 06, 2025 (“Order”), has accepted a settlement application filed by the investment manager (“Manager”) of a real estate fund (“Fund”), sponsored by a related sponsor entity (“Sponsor”), for breach of various provisions of the SEBI (Alternative Investment Funds) Regulations, 2012 (“AIF Regulations”)[1], and the SEBI Master Circular for Alternative Investment Funds, dated May 7, 2024 (“Master Circular”)[2], subject to a payment of INR 36 lakh by the Manager on behalf of itself and the Fund. The Settlement Order emanated from a suo-moto application, seeking settlement of issues pertaining to conflict of interest and non-compliances in operations of the Fund.
The Order highlights the governance mechanisms of AIFs, especially the role of investment committees in handling transactions involving conflicts of interests and ensuring compliance with the AIF’s internal conflict of interest policy.
Brief Facts & Allegations
The Fund has invested through NCDs in certain companies of a group. The amounts invested by the Fund were alleged to be utilized by certain investee group entities not only for construction costs/project expenses but also for interest and debt repayments through transfer to the line of credit accounts of the Fund’s Sponsor / Sponsor group.
The Investment Advisory Board (“IAB”) of the Fund (consisting solely of the Sponsor’s senior personnel) had approved the said investments on their own even though the intention to use the proceeds to repay the outstanding loans and interests was disclosed to them and presented a conflict of interest.
The said investments were not referred to the Conflict Resolution Committee (“CRC”) as per the Conflict-of-Interest policy (“Policy”) of the Fund. Further, the Compliance Test Report (“CTR”) submitted by the Manager for the relevant financial year (“FY”) mentioned that there was no conflict of interest during the FY.
Summary of Order
It was alleged that the Manager and the Fund had failed to exercise independent professional judgment and act in the interest of investors, placing the Sponsor’s interest above the interest of its investors. Further, it was also alleged that the Manager had failed to implement policies and procedures to appropriately mitigate conflict of interest throughout the scope of its business.
After following due process, the application was approved by a panel of whole-time members of SEBI, to be settled upon payment of INR 36 lakhs by the Manager.
Key Takeaways
This Order is a cautionary example, indicating SEBI’s focus on adherence to conflict-of-interest policies and procedures by AIFs and their managers, ensuring true and proper disclosure in CTRs.
The Order also validates the criticality of having robust governance mechanisms in fiduciary businesses like fund management. The SEBI AIF Regulations clearly stipulate that conflicts of interest should be identified, disclosed and appropriately mitigated. The regulations also oblige investment managers to have robust conflict of interest policies in place. Sponsors of AIFs are stated to have a fiduciary obligation and are responsible for reviewing the CTR report of the AIF. Typically, to safeguard the interests of contributors of alternative investment funds, limited partner advisory committee, comprising contributors of alternative investment funds, is established to assess and approve conflict of interest situations.
An important aspect to note is that despite the Sponsor having made investments in the AIF, in light of its fiduciary duties, the regulator may not necessarily see it as a factor mitigating any relevant conflict of interest in deciding on transactions on behalf of the AIF.
The key takeaway from SEBI’s Order is that AIFs must have robust governance mechanisms and ensure adherence to their internal conflict management policies.
[1] Regulations 21(2) and 24(d) of the AIF Regulations
[2] Paras 13.3.2 (i), 13.3.2 (ii) and 15.2.1 of the Master Circular
