Manager’s/Sponsor’s obligation to maintain minimum continuing interest – Obstacles to compliance with SEBI’s requirements

In the months of July, August and October, SEBI passed the following settlement orders with respect to alleged violations of SEBI regulations relating to the obligation of the Manager or the Sponsor of the AIF:

1.       Settlement order SSO/KV-KM/AP/2026-27/1000 dated July 15, 2026, in the matter of Nippon India Event Opportunities Trust / Nippon India Equity Opportunities AIF – Scheme 9

2.       Settlement order SO/2026-27/PSD/21-24 dated August 12, 2026, in the matter of 3One4 Capital Trust / 3One4 Capital Continuum IE

3.       Settlement order SO/PSD/2026-27/8658 dated October 12, 2026, in the matter of Singularity Equity Fund

4.       Settlement order SO/PSD/2026-27/8671 dated October 12, 2026, in the matter of Singularity Growth Opportunities Fund

The issues covered in each of the above-mentioned settlement orders are similar. For the purpose of this analysis, the facts, issues and decision from one of the settlement orders are reviewed below.

Review of Settlement Order SSO/KV-KM/AP/2026-27/1000 dated 15 July 2026, in the matter of Nippon India Event Opportunities Trust / Nippon India Equity Opportunities AIF – Scheme 9

Facts

SEBI examined the Quarterly Activity Report of Nippon India Equity Opportunities AIF – Scheme 9 (a scheme of Nippon India Event Opportunities Trust, the AIF/Fund) for the quarter ended June 2024. It was observed that the Fund had drawn down ₹93.05 crores from other investors against their total commitment of ₹215.36 crores (43.2% drawdown rate). In contrast, the Nippon Life India AIF Management Limited (Manager) and sponsor had drawn down only ₹3 crores against their ₹10 crores total commitment (30% drawdown). This resulted in a failure to maintain the continuing interest of the Manager/sponsor pro-rata to the net funds raised from other investors. Similarly, non-compliance was observed for the quarters ended March 2024 and September 2024.

Relevant data:

March 2024: Manager/sponsor commitment ₹5 crores (funds raised ₹1.5 crores = 30%); other investors commitment ₹94.75 crores (funds raised ₹36.95 crores = 38.99%).

June 2024: Manager/sponsor ₹10 crores (raised ₹3 crores = 30%); others ₹215.36 crores (raised ₹93.05 crores = 43.20%).

September 2024: Manager/sponsor ₹10 crores (raised ₹4.75 crores = 47.50%); others ₹428.51 crores (raised ₹221.78 crores = 51.76%).

Issues

The non-compliance prima facie violated the SEBI (Alternative Investment Funds) Regulations, 2012 (‘AIF Regulations’) and the Master Circular for AIFs dated 7 May 2024:

Fund: Regulation 10(d) read with clause 11.1.2 of the Master Circular, and Regulation 20(1) read with clause 1(e) of the Code of Conduct in the Fourth Schedule.

Manager and Key Managerial Personnel: Regulation 20(1) read with clauses 2(a) and 2(c) of the Code of Conduct in the Fourth Schedule.

These related to the failure to maintain continuing interest pro-rata to funds raised from other investors.

Settlement

The Fund, Manager, and Key Managerial Personnel including Ashish Moti Chhugani, Aashwin Dugal, Rahul Kishor Veera, Prashant Kutty, Aashray Vasa, Jai Vijay Daxini, Alok Surendranath Singh, Vivek Doshi, and Shruti Parekh (hereinafter jointly referred to as ‘Applicants’), were issued Notices of Summary Settlement dated 21 April 2026 under the SEBI (Settlement Proceedings) Regulations, 2018, proposing a settlement amount of ₹14,66,250 (payable jointly and severally). The Applicants filed a settlement application on 20 May 2026 and remitted the amount on 12 May 2026 (credit confirmed by SEBI).

The settlement order came into force with immediate effect and was published on SEBI’s website (signed by Whole Time Members Kamlesh C. Varshney and K.V.R. Murty on 15 July 2026).

An analysis of issues arising out of the settlement orders

Relevant regulatory framework

Regulation 10(d) of the Securities   and   Exchange   Board   of   India (Alternative Investment Funds) Regulations, 2012 (‘AIF Regulations’) states as follows:

The Manager or Sponsor shall have a continuing interest in the Alternative Investment Fund of not less than two and half percent of the corpus or five crore rupees, whichever is lower, in the form of investment in the Alternative Investment Fund and such interest shall not be through the waiver of management fees:

Provided that for Category III Alternative Investment Fund, the continuing interest shall be not less than five percent of the corpus or ten crore rupees, whichever is lower. 

Paragraph 17.6.1 of SEBI’s Master Circular for AIFs dated June 03, 2026 (‘Master Circular’) states as follows:

For the purpose of maintaining continuing interest under Regulation 10(d) of the AIF Regulations, such interest shall be maintained pro-rata to the amount of funds raised (net) from other investors in the AIF.

A.     Regulation 10(d) mandates the following: 

1.       The continuing interest of the Manager or Sponsor has to be the lesser of two and half percent of the corpus or five crore rupees. The term ‘corpus’ is defined in the AIF Regulations to mean ‘the total amount of funds committed by investors to the Alternative Investment Fund by way of a written contract or any such document as on a particular date.’ 

2.       The continuing interest of the Manager or Sponsor has to be ‘in the form of investment in the AIF’. This implies that the continuing interest should be invested in the AIF. A mere capital commitment would not be sufficient.

B.Paragraph 17.6.1 of the Master Circular

3.       Paragraph 17.6.1 of the Master Circular requires that the continuing interest under Regulation 10(d) of the AIF Regulationshas to be maintained pro-rata to the amount of funds raised (net) from other investors in the AIF. The use of the word ‘net’ in Paragraph 17.6.1 of the Master Circular suggests that net investment of an investor would be such investor’s drawn down capital minus all fees and expenses charged to such investor. The net investment amount of an investor would be the amount actually invested in the fund after deducting all fees and expenses charged to such investor. Therefore, compliance with Paragraph 17.6.1 of the Master Circular should not be an issue for Sponsors and Managers whose investment is not subject to any management fee since only net investment amount is taken into account. However, the settlement orders mentioned above mention a violation of Regulation 10(d) of the AIF Regulations read with Paragraph 11.1.2 of the Master Circular dated 7 May 2024. Paragraph 11.1.2 was the corresponding clause to Paragraph 17.6.1 of the Master Circular. The settlement orders do not state that there has been a violation of Paragraph 11.1.2 of the Master Circular dated 7 May 2024, on a stand-alone basis.

Industry Practices and Practical Obstacles to Compliance

The following are well-known industry practices in the AIF ecosystem:

a.       The Manager or Sponsor invests through a dedicated class which is not charged any management fee. Charging management fee on the Manager’s or Sponsor’s investment would be tantamount to paying the right hand with the left and suffering tax (both GST and income tax) leakage in the process. 

b.      Oftentimes, the entire capital commitment of investors in a scheme may not be drawn down by the end of the commitment period. This usually happens because the AIF’s investment manager is unable to find suitable investments to deploy the entire corpus of the scheme. 

c.       In some schemes, the entire capital commitment of some investors is fully drawn down by the end of the commitment period, but that of other investors may not be. This usually happens because (i) the management fee and/or expenses payable by some classes is lower than that of other classes and (ii) the classes which pay a higher management fee and/or expenses, receive drawdown notices for a higher percentage of their capital commitment (‘Different Percentages Approach’). 

d.      In some schemes, when drawdown notices are issued, all investors are called on to pay the same percentage of their capital commitments (‘Same Percentage Approach’). Out of such capital drawn down, applicable management fees and expenses are deducted (if any) and the balance amount is invested in portfolio companies. Each investor is issued units for the actual invested amount that is attributable to such investor. The investors who are liable to pay a higher management fee may receive fewer units than those who are liable to pay lower management fees.  After the advent of the Pro-Rata and Pari-Passu Rules, the Same Percentage Approach is no longer in vogue, for reasons explained below.

e.       Since Regulation 10(d) of the AIF Regulations mandates the Manager or Sponsor to stay invested in the AIF, the payment due to the Manager or Sponsor when the AIF exits any portfolio entity is usually parked in the AIF’s bank account until the scheme is wound up.  The intent behind Regulation 10(d) is to ensure that the Manager or Sponsor has skin-in-the-game and shares the risks which the investors are subject to. This requirement would be met as long as capital from the Manager or Sponsor is invested in the portfolio entities of the AIF scheme until the AIF exits such portfolio entities.

Interaction with the Pro-Rata and Pari-Passu Rules

If a scheme follows the Different Percentages Approach mentioned above, the entire capital commitment of investors in classes which pay a higher management fee and/or expenses may be fully drawn down by the end of the commitment period, but that of investors in classes which pay a lower management fee and/or expenses would not be. It is likely that the funds which are parties to the settlement orders mentioned above followed this approach.

If a scheme follows the Same Percentage Approach mentioned above, at the end of the commitment period, the capital commitment of all investors is likely to be drawn down by the same percentage, unless the investment manager issues capital calls solely to collect management fees or to meet expenses. The Same Percentage Approach raises an interesting question, namely, whether it will violate SEBI’s stipulation that:

a.       the investors of a scheme of an AIF shall have rights, pro-rata to their commitment to the scheme, in each investment of the scheme and in the distribution of proceeds of such investment, except as may be specified by SEBI from time to time (‘Pro-Rata Rule’);

b.      the rights of investors of a scheme of an AIF, other than that specified in sub-clause a) above, shall be pari-passu in all aspects. Provided that differential rights may be offered to select investors of a scheme of an AIF, in the manner as may be specified by SEBI, without affecting the interest of other investors of the scheme (‘Pari-Passu Rule’): 

A.     The Pro-Rata Rule: 

a.       Paragraph 19.1.2. of the Master Circular states that the requirement of maintaining investors’ rights pro-rata to their commitment to the scheme, shall not be applicable in an investment of a scheme and distribution of proceeds of the investment to the extent:

•  an investor has been excused or excluded from participating in the said investment; or,

•   an investor has defaulted on providing his/her pro-rata contribution for the said investment. 

b.      Paragraph 19.1.3. of the Master Circular states that the requirement of maintaining pro-rata rights of investors in distribution of proceeds of investments of a scheme, shall not be applicable to the extent returns or profit on the investments is shared by an investor with the Manager or Sponsor of the AIF (by whatever name it is called, such as carried interest/additional return), in terms of contribution agreement executed between them. 

B.      The Pari-Passu Rule:

a.       Paragraph 19.2.2. of the Master Circular states that differential rights may be offered by AIFs to select investors without affecting the rights of other investors, based on the following guiding principles:

•   Any such right shall not result in any investor bearing liability accrued or accruing to other investors of the AIF/scheme of AIF;

•   Any such right with respect to non-monetary / non-commercial terms shall not provide control to an investor on the decision making of the AIF/scheme of AIF, except in cases where investor/its nominee is part of any committee set up in terms of Regulation 20 (7) of AIF Regulations;

• Any such right shall not alter the right(s) available to other investors under their respective agreements with the AIF/manager; and,

• Any such right and eligibility to avail the same shall be transparently disclosed in the PPM of the AIF/scheme of the AIF. 

b.      Paragraphs 19.2.3, 19.2.4 and 19.2.5 of the Master Circular state that the Standard Setting Forum for AIFs (‘SFA’) shall, in consultation with SEBI, formulate the implementation standards for compliance with the aforesaid provision, prescribing the positive list of specific differential rights that may be offered by AIFs.  AIFs, investment managers of AIFs and their key management personnel shall ensure that differential rights shall be provided only in accordance with the implementation standards formulated by the SFA. 

c.       As per the implementation standards issued by the two SFAs on January 27, 2025 (‘Implementation Standards‘), the management fees charged to different investors may have differences in quantum, manner or basis of charging. Similarly, carried interest calculations for investors can also be different. 

d.      The Implementation Standards are an exception to the Pari-Passu Rule, but not to the Pro-Rata Rule. The Implementation Standards make it clear that the management fees and performance fee (in any form) charged to different investors can be different. If the management fees and/or performance fees charged to two different investors vary, and the investment manager follows the practice of calling on all investors to pay the same percentage of their capital commitments when issuing drawdown notices, the two investors shall not have rights pro-rata to their commitment to the scheme, in each investment of the scheme and in the distribution of proceeds of such investment. Thus, there may be a violation of the Pro-Rata Rule, but not of the Pari-Passu Rule.

Possible solutions

1.       SEBI could modify the AIF Regulations to provide that the Implementation Standards will be an exception to not only the Pari-Passu Rule, but also to the Pro-Rata Rule. In addition, SEBI could also permit AIFs to draw down undrawn capital commitments from investors whose capital commitment is not fully drawn down, to make portfolio investments even if, at that point in time, the capital commitment of other investors is fully drawn down (‘Fulfilled Committers’). However, even Fulfilled Committers should be entitled to share the exit proceeds from such portfolio investments, pro rata to their share of the total invested capital of the AIF.

2.       On November 07, 2025, SEBI had issued a draft circular (‘Draft November 2025 Circular’) which aimed to provide clarity on certain operational aspects and specific modalities with respect to maintaining pro-rata rights of investors of AIFs. The Draft November 2025 Circular, inter alia, proposed the following:

a.       For compliance with Regulation 20(21) of AIF Regulations, the commitment referred in the said Regulation shall be construed as either ‘commitment’ or ‘undrawn commitment’, for the purpose of drawing down capital from investors of a scheme of an AIF on a pro-rata basis for making investments and for distribution of proceeds from such investments.  The basis for calculating pro-rata rights, whether based on commitment or undrawn commitment of the investor(s), shall be disclosed upfront in the PPM of the scheme and shall not be changed during its tenure.

b.      The investors of a scheme of an AIF shall have rights in distribution of proceeds of an investment pro-rata to their contribution to such investment; or, pro-rata to their contribution to such investment on a time weighted pro-rata basis, as clearly disclosed upfront to investors in the PPM of the scheme.

c.       In case of open-ended schemes of Category III AIFs, considering that investors may invest in the scheme any amount at any time at their discretion, drawdown on a pro-rata basis would not be applicable. Instead, open-ended schemes of Category III AIFs, shall issue and redeem units at NAV, and other proceeds, if any, shall be distributed pro-rata to units held by the investors. However, if an open-ended scheme of Category III AIF has invested or is proposing to invest primarily in unlisted securities, then the rules applicable to close-ended schemes of AIFsshall apply.

It is hoped that SEBI may revisit the Draft November 2025 Circular and implement the same.

[The authors are Partner, Principal Associate, Associate and Associate, respectively, in Corporate and M&A practice at Lakshmikumaran & Sridharan Attorneys]