Special Situation Funds: In-Depth Analysis and Opportunities for Investors

Introduction

Special Situation Funds (SSFs) are a specialized type of Alternative Investment Fund (AIF) designed to invest in distressed assets. These funds play a crucial role in the Indian economy by providing capital to struggling companies and facilitating their turnaround. By acquiring stressed loans, security receipts, or securities of distressed companies, SSFs can help to resolve financial crises and promote economic growth.

Regulatory Framework

The introduction of SSFs was primarily driven by the need to address the growing problem of stressed assets in India. The Securities and Exchange Board of India (SEBI) amended the SEBI (Alternative Investment Funds) Regulations, 2012 to introduce a new chapter on SSFs. These regulations, along with the Circular issued by SEBI, outline the specific requirements and guidelines that SSFs must adhere to.

Key Characteristics of SSFs

• Investment Focus: SSFs are dedicated to investing in "special situation assets," which primarily include stressed loans acquired under the Reserve Bank of India (RBI) Master Directions or as part of resolution plans under the Insolvency and Bankruptcy Code (IBC).
• Resolution Applicant: SSFs can actively participate in the resolution process by acting as resolution applicants under the IBC, subject to fulfilling the necessary eligibility criteria.
• Diversification: Unlike other Category I AIFs, SSFs are exempt from the standard diversification limit of 25% investment in any single investee company.

Special Situation Assets

SSFs are primarily focused on acquiring the following types of assets:

• Stressed Loans: These include loans that are available for acquisition under the RBI Master Directions or as part of a resolution plan approved under the IBC.
• Security Receipts: SSFs can invest in security receipts issued by asset reconstruction companies registered with the RBI.
• Securities of Investee Companies: This includes securities of companies facing financial distress, such as those with stressed loans, security receipts, or undergoing corporate insolvency resolution processes.

Regulatory Requirements for SSFs

• Minimum Corpus: SSFs must have a minimum corpus of INR 1 billion (approximately US$ 14 million).
• Minimum Investor Commitment: Investors must commit a minimum of INR 100 million (approximately US$ 1.4 million) to SSFs, while accredited investors are required to invest at least INR 50 million (approximately US$ 0.7 million).
• Diversification Limits: SSFs are exempt from the usual diversification limits applicable to other Category I AIFs.
• Investment Restrictions: SSFs are not permitted to invest in companies incorporated outside India, their associates, or other AIFs.

Lock-in Period for SSFs

The minimum lock-in period for Special Situation Funds (SSFs) investing in stressed loans acquired under Clause 58 of the RBI Master Directions is six months. This lock-in period is designed to ensure that investors maintain their commitment to the distressed asset and support its recovery.

However, the lock-in period is not applicable if the stressed loan is recovered from the borrower before the end of the six-month period. This means that if the SSF is able to successfully resolve the distressed loan and recover the principal amount, the lock-in period may be lifted.

It's important to note that this lock-in period is specific to stressed loans acquired under Clause 58 of the RBI Master Directions. The lock-in period for other types of assets acquired by SSFs may vary depending on the specific circumstances and the terms of the investment.

The Role of SSFs in the Indian Economy

SSFs play a vital role in the Indian economy by:

• Resolving Stressed Assets: SSFs help to address the issue of stressed assets, which can hinder economic growth and stability.
• Providing Capital: By investing in distressed companies, SSFs provide them with the necessary capital to restructure their operations and become viable again.
• Creating Value: SSFs can create significant value by identifying undervalued assets and turning them around.
• Supporting Economic Recovery: SSFs contribute to economic recovery by revitalizing struggling companies and promoting job creation.

Conclusion

Special Situation Funds are a specialized type of AIF that offer a unique opportunity for investors to participate in the resolution of distressed assets. By understanding the key characteristics, regulatory requirements, and the role of SSFs in the Indian economy, investors can make informed decisions about investing in these funds.