Dissent period

An investor commits money to an AIF on the strength of what its private placement memorandum says. If the fund later changes something material, the deal the investor signed up to is no longer the deal.

SEBI's answer is not to block the change. It is to give the investor a door, and enough time to decide whether to walk through it.

The unit holders who do not wish to continue must be given a window to say so. The workbook fixes its length: not less than one month for expressing their dissent.

What happens next is the part worth learning, because the investor does not simply redeem. In a close-ended scheme there is nothing to redeem from. So the manager must arrange a buyer for the dissenting investors' units — itself, or any other person it arranges.

The price is protected. Two independent valuers value the units, and the exit must be at not less than the average of the two valuations.

The cost is protected too. The manager, the sponsor or the incoming manager or sponsor pays for the whole process. It shall not be charged to the unit holders.

And the whole exercise must be finished within three months of the dissent window closing.

Section 15.4 sets out the exit options, and the dissent window is the mechanism inside them.

What triggers it. A mandatory exit option must be offered for either of two things:

The provision is applicable to close ended funds. And it does not apply where the AIF has obtained the approval of not less than 75% of unit holders by value of their investment in the AIF.

The prescribed exit process, for a close-ended scheme:

1. Existing unit holders who do not wish to continue post the change shall be provided an exit option. They shall be provided not less than one month for expressing their dissent.
2. The exit is provided by buying out the units of the dissenting investors by the manager, or any other person the manager arranges.
3. Before the buy-out, valuation of the units shall be undertaken by 2 independent valuers, and the exit shall be at a value not less than the average of the two valuations.
4. The responsibility to provide exit rests on the manager. The expenses for the entire process shall be borne by the manager, the sponsor, or the proposed new manager or sponsor, and shall not be charged to the unit holders.
5. The entire process of exit shall be completed within 3 months from the date of expiry of the last date of the offer for dissent.

The trustee of the AIF — or the sponsor, where the AIF is not a trust — is responsible for overseeing the process, ensuring compliance and regularly updating SEBI on developments.

A second, quite separate dissent right. Section 15.7.2 uses the word again for in-specie distribution during the liquidation period. After investors approve in-specie distribution, the AIF must arrange bids for a minimum of 25% of the value of the unliquidated investments, and:

• dissenting investors, not in favour of in-specie distribution, shall be offered an option to fully exit the original scheme out of that 25% bid;
• any unsubscribed portion of the bid is then used to provide a pro-rata exit to non-dissenting investors;
• if the bidder or its related parties are investors in the original scheme, they shall not be provided exit out of the bid;
• the unliquidated investments are then distributed in-specie at the bid value if the 25% bid was arranged, and at One Rupee if it was not.

Here the dissent is about a distribution mechanism rather than a material change, and there is no one-month window prescribed for it. Two rights, one word.

The investor's alternative, and why it is a bad one. The workbook notes that in extreme situations the investment management agreement may be terminated by invoking termination rights, but that investors should avoid defaulting on their commitments, as that constitutes a contractual breach of the subscription agreement. The dissent route exists precisely so that an unhappy investor does not have to default.

Konkan Opportunities Fund I, a close-ended Category II AIF, has a corpus of Rs 500 crore across 40 investors. Its manager is being acquired by a foreign asset manager — a change in control of the manager, and therefore a material change.

Step 1 — does the exit even have to be offered? The manager first canvasses approval.

Only Rs 355 crore, or 71%, approves. So the exit process must run. Note the test is by value, not by head-count.

Step 2 — the dissent window. The manager opens the window on 1 August and closes it on 5 September — 36 days, comfortably above the one month minimum.

Seven investors holding Rs 95 crore record their dissent.

Step 3 — the price. Two independent valuers are appointed.

The exit must be at not less than Rs 139.00 a unit. Rs 136 would be unlawful even though an independent valuer signed it, because the floor is the average of the two.

Step 4 — who buys and who pays. The manager arranges the incoming sponsor to buy the Rs 95 crore of units at Rs 139. The valuation fees, legal costs and transfer costs — say Rs 1.1 crore — are borne by the manager, sponsor or incoming sponsor. Not a rupee of it may be charged to the unit holders, dissenting or otherwise.

Step 5 — the clock. The window expired on 5 September. The entire process must be completed within 3 months of that date, so by 5 December. The trustee oversees it and keeps SEBI updated.

Contrast the other dissent right. Suppose instead the fund reaches the end of its liquidation period with Rs 60 crore of unsold investments and seeks approval for in-specie distribution.

Here the dissenters get a full exit out of the 25% bid, and the leftovers go pro-rata to everyone else. Had the AIF failed to arrange bids for the Rs 15 crore, the in-specie distribution would have been made at One Rupee. Same word, entirely different machinery.

Chapter 15 (Fund Monitoring, Reporting and Exit), section 15.4.2, gives the prescribed exit process and the one-month dissent window; section 15.4.1 and Chapter 13, section 13.5.3, define the material changes that trigger it; and section 15.7.2 carries the separate dissent right on in-specie distribution.

Every number here is examinable: not less than one month for expressing dissent, 2 independent valuers with the exit at not less than the average, completion within 3 months of the expiry of the last date of the offer for dissent, and the 75% of unit holders by value approval that removes the obligation altogether. Expect a question on who bears the cost — the manager, sponsor or proposed new manager or sponsor, and never the unit holders — and one on who oversees the process, which is the trustee, or the sponsor where the AIF is not a trust.

• One month for the dissent window; three months for completing the exit. Two different periods, and swapping them is the standard error.
• The three months run from the expiry of the offer for dissent, not from the date of the material change or from SEBI approval.
• The 75% test is by value of investment, not by number of investors. A majority of heads holding a minority of value does not clear it.
• The floor price is the average of two independent valuations, and it is a minimum. A single valuer's lower figure is not enough.
• The expenses fall on the manager, sponsor or the incoming manager or sponsor. They may never be charged to the unit holders.
• The manager provides the exit; the trustee oversees it. Where the AIF is not a trust, the sponsor oversees it.
• This applies to close-ended funds. An open-ended scheme has redemption instead.
• There is a second, different dissent right on in-specie distribution. There the dissenter exits out of a 25% bid, unsubscribed portions go pro-rata to non-dissenters, a bidder who is also an investor gets no exit, and failure to arrange the bid means distribution at One Rupee. No one-month window is prescribed for that one.
• Defaulting on a commitment is not an alternative to dissenting. The workbook calls it a contractual breach of the subscription agreement.