Modaraba sector: SECP to introduce new regulatory framework

In order to monitor investment/transactions in the Modaraba sector, the Securities and Exchange Commission of Pakistan (SECP) has decided to introduce new regulatory framework by imposing minimum conditions on Modaraba for providing finance to their customers, limits in capital market, financial indicators of the borrowers and requirements for carrying out certain types of transactions.

The SECP has issued draft Modaraba Regulations, 2019 to strictly regulate and monitor the Modaraba sector in Pakistan. For providing minimum conditions for finance, the SECP specified that a Modaraba shall while providing finance (including renewal and enhancement) to a customer which is equal to or exceeds five hundred thousand rupees after netting-off the liquid assets held as security, give due weight to the credit report relating to the customer or its group obtained from a credit information bureau. If the credit report of credit information bureau indicates overdue, the Modaraba may take exposure on such customer keeping in view its risk management policies and credit approval criteria and it shall properly record reasons and justifications for granting the finance in credit approval form. The Modaraba shall maintain a file of all such exceptions and provide the same to the inspection team of the Commission as and when it visits the Modaraba for onsite inspection.

A Modaraba shall not provide finance to a customer who has defaulted or availed a write-off from that Modaraba during the last three years, the SECP added.

In case the customer is an individual, the Modaraba shall obtain documentary evidence of the means of the customer such as wealth statement, statement of assets and liabilities or any other document as may be considered appropriate by the Modaraba. A Modaraba shall, before providing any finance (including renewal, enhancement and rescheduling or restructuring), ensure that the application for finance is accompanied with a "Customer's Basic Fact Sheet" as prescribed in Schedule-II.

A Modaraba shall ensure that the information requested in the basic fact sheet is provided by the customer under his seal and signature.

Modarabas with the prior approval of the Registrar may extend housing finance facilities to its customers and the maximum per party limit in respect of housing finance by a Modaraba shall be Rs 20 million.

Moreover, aggregate liabilities, excluding contingent liabilities and security deposits of a Modaraba which is not involved in the issuance of COM shall not exceed ten times of its equity.

A lending Modaraba, having enabling clause for resource mobilization in its prospectus, with the approval of the Commission may raise funds through issuance of Certificates of Musharakah (COM) after complying with the specified requirements.

Under the draft regulations, the total outstanding exposure (fund based and non-fund based) by a Modaraba to a person shall not at any time exceed 20% of the equity of the Modaraba (as disclosed in the latest financial statements), provided that the maximum outstanding fund-based exposure does not exceed 15% of the equity of the Modaraba.

The total outstanding exposure (fund based and non-fund based) by a Modaraba to a group shall not exceed 25% of the equity of the Modaraba (as disclosed in the latest audited financial statements): provided that the maximum outstanding fund-based exposure does not exceed 20% of the equity of the Modaraba.

The SECP said that a Modaraba's aggregate exposure in listed equity securities (in the ready market) and spread transactions shall not exceed 25% of its equity. Explanation: For the purpose of this regulation the expression "spread transactions" mean such transactions where shares of one company are purchased on one settlement date and simultaneously sold on another settlement date that will be considered as one transaction.

The investment of Modaraba fund in listed equity securities of any company shall not exceed 5% of the paid up capital of the investee company or 10% of its own equity, whichever is less and the shares acquired in excess of 10% limit due to the underwriting commitments, shall be sold off within a period of six months from the date of acquisition of such shares:

Provided that the amount of provisions created against permanent diminution shall be deducted from the cost of acquisition of equity investments and the maximum limit: Provided further that the above restriction shall not be applicable to investment made by a Modaraba in its own subsidiaries and long term strategic investments out of surplus equity, the SECP said.

Linkage between equity of the customer and total exposure from financial institutions: A Modaraba while taking an exposure shall not provide finance if the total exposure availed by the customer from financial institutions exceeds 10 times of the equity of the customer as disclosed in the financial statements of the customer: Provided that the fund based exposure of a customer shall not exceed 4 times of its equity as disclosed in the customer's latest financial statements, the above limit of 4 times of equity shall not be applicable on exposure to financial institution, the SECP added.

Requirements on certain types of transactions.: A Modaraba shall not provide a finance against equity and debt security issued by it or its group companies; provide finance against unlisted debt security and unlisted equity security; provide finance to any company against equity and debt security of that company or group companies of that company; provide finance against shares in physical form of a listed company or other type of transactions specified in the draft regulations.