Kok Chee Kheong provides an overview of the recent measures introduced to boost retail investment in bonds and sukuk in Malaysia.
On 19 September 2018, the Securities Commission Malaysia (“SC”) announced several measures to liberalise the framework for retail investment in the domestic bond and sukuk market. These measures involve amendments to the Guidelines on Issuance of Corporate Bonds and Sukuk to Retail Investors (“Retail Issuance Guidelines”), Guidelines on Sales Practices of Unlisted Capital Market Products (“Sales Practices Guidelines”) and the Prospectus Guidelines and the introduction of the new Guidelines on Seasoned Corporate Bonds and Sukuk (“Seasoning Guidelines”).
This article will explain these new measures which come into effect on 11 October 2018.
ISSUANCE OF BONDS OR SUKUK BY QUALIFIED ISSUER
The revised framework introduces a new Chapter 22 to the Retail Issuance Guidelines that liberalises the requirements for the issuance of corporate bonds and sukuk by a qualified issuer (“Qualified Issuer”).
To be a Qualified Issuer, an issuer must satisfy the three conditions set out in paragraph 4.01 of the Retail Issuance Guidelines. First, it must be any of the following: (a) a licensed bank, licensed investment bank or licensed Islamic bank; (b) a company whose shares are listed on a stock exchange; (c) Cagamas Bhd; (d) Danajamin Nasional Berhad; (e) Khazanah Nasional Berhad; or (f) an unlisted public company if (i) the bonds or sukuk are irrevocably and unconditionally guaranteed by any of the entities referred to in sub-paragraphs (a) to (e) or the Credit Guarantee and Investment Facility, or (ii) established by one of the entities referred to in sub-paragraphs (a) to (e) and there is full recourse to the establishing entity in its capacity as obligor (severally an “Eligible Issuer”).
Second, an Eligible Issuer must have issued or guaranteed corporate bonds or sukuk with an aggregate amount of at least RM500 million in the past five years. Third, the corporate bonds or sukuk to be offered must have a minimum credit rating of AA- (or its equivalent).
A Qualified Issuer is permitted to issue corporate bonds or sukuk to retail investors without a prospectus, provided that it prepares a Product Highlights Sheet in accordance with the Sales Practices Guidelines. Where applicable, a Qualified Issuer may issue an information memorandum in connection with its issue of corporate bonds or sukuk to retail investors.
SEASONED BONDS OR SUKUK
Existing corporate bonds or sukuk (currently tradeable on an over-the-counter basis only by sophisticated investors) may be distributed to retail investors if the relevant conditions set out in the Seasoning Guidelines are satisfied.
The criteria that must be satisfied in order for corporate bonds or sukuk to be distributed to retail investors are as follows. First, the issuer of the relevant bonds or sukuk must be an Eligible Issuer (as described earlier in this article).
In addition, the corporate bonds or sukuk must: (a) be denominated in Ringgit Malaysia; (b) have a tenure of more than one year; (c) have a minimum rating of A (or its equivalent) by a credit rating agency registered with the SC; (d) have completed the full seasoning period, i.e. in the case of a one-off issue, 12 months from the date of issue to sophisticated investors or in the case of a tranche under a debt or sukuk programme, 12 months from the date of issue of the tranche to sophisticated investors; (e) have a fixed term with principal and accrued interest or profit payable at maturity; (f) have a fixed or variable rate of return or profit rate; (g) have interest or profit paid periodically or at specified intervals (except for zero coupon bonds or sukuk without periodic distribution); (h) rank at least equally with unsecured and unsubordinated obligations of the issuer; and (i) have no embedded swaps, options or other derivatives except the option, exercisable at the discretion the investor, to convert or exchange to shares which are listed on a stock exchange.
Capital adequacy bonds or sukuk
Less stringent criteria apply to corporate bonds or sukuk that meet the requirements for regulatory capital set out in the relevant guidelines on capital adequacy issued by Bank Negara Malaysia (“Capital Adequacy Guidelines”).
Among others, the Seasoning Guidelines require the aforesaid bonds or sukuk to (a) be issued by (i) a licensed bank, licensed investment bank or licensed Islamic bank, or (ii) the holding company of the entities mentioned in sub-paragraph (i), or (iii) a public company established by any of the entities referred to in sub-paragraphs (i) or (ii) for the purpose of issuing corporate bonds or sukuk to meet capital adequacy requirements; (b) be denominated in Ringgit Malaysia; (c) have a tenure of more than one year; (d) have a minimum rating of A (or its equivalent) by a credit rating agency registered with the SC; (e) have completed the full seasoning period; and (f) if so provided in the terms of issue, be written off or converted into equity only to meet the requirements set out in the Capital Adequacy Guidelines.
Multi-currency bond programme
The Frequently Asked Questions on the Seasoning Framework issued by the SC (“FAQs”) state that a tranche of Ringgit-denominated bond in a multi-currency bond programme may be distributed to retail investors if that tranche meets the relevant eligibility criteria set out in the Seasoning Guidelines.
Distribution of Seasoned Bonds and Sukuk
The Seasoning Guidelines also regulate the manner in which the eligible corporate bonds or sukuk (“Seasoned Bonds or Sukuk”) are to be distributed to retail investors.
To be eligible to distribute Seasoned Bonds or Sukuk, an entity must be a licensed bank, a licensed investment bank, a licensed Islamic bank, a holder of a licence for dealing in securities or for dealing in securities for over-the-counter bonds under the Capital Markets and Services Act 2007 (severally an “Eligible Distributor”).
An Eligible Distributor must ensure that its employees or agents who are involved in the distribution of Seasoned Bonds or Sukuk hold one of the qualifications, and are fit and proper persons, as prescribed in paragraphs 4.01 and 4.02 respectively of the Seasoning Guidelines.
An Eligible Distributor is also required to make available on its website the information set out in paragraph 5.01 of the Seasoning Guidelines. Such information includes an explanation of the key characteristics and the essential terms of, and risks associated with, the Seasoned Bonds or Sukuk.
An Eligible Distributor who intends to distribute Seasoned Bonds or Sukuk must submit an initial notification (“Initial Notification”) to the SC at least two business days prior to its intended distribution date. In addition, it must register its interest with the SC at least seven business days prior to the submission of the Initial Notification. The requirements for the registration of interest and the Initial Notification are set out in paragraph 6.01 and Appendix 1 of the Seasoning Guidelines.
An Eligible Distributor must provide the SC with the information and documents set out in Appendix 2 of the Seasoning Guidelines in respect of any additional Seasoned Bonds or Sukuk that it has distributed within seven business days after the end of each quarter by way of a Post-Distribution Notification.
In addition, an Eligible Distributor is required to submit to the SC a post-distribution quarterly report within seven business days after the end of each quarter in accordance with Appendix 3 of the Seasoning Guidelines.
An Eligible Distributor must immediately notify the SC once it becomes aware that the Seasoned Bonds or Sukuk no longer satisfies the criteria to be Seasoned Bonds or Sukuk under the Seasoning Guidelines.
Further, an Eligible Distributor must notify the SC within seven business days prior to its intention to cease distribution of Seasoned Bonds or Sukuk. The FAQs provide that, notwithstanding the termination of the distribution, an Eligible Distributor may continue dealing with the investor on matters relating to the Seasoned Bonds or Sukuk purchased through the Eligible Distributor, including assisting with the subsequent transfer or sale of the bonds or sukuk concerned.
The FAQs also provide that Seasoned Bonds or Sukuk may be re-denominated into smaller lot sizes for distribution to retail investors. This would make those bonds or sukuk more marketable to this segment of investors.
The liberalisation of the framework for the offering to retail investors of corporate bonds and sukuk that meet the criteria set out in the relevant guidelines is an interesting initiative by the SC.
The dispensation of the requirement for a prospectus for the offering of corporate bonds or sukuk by a Qualified Issuer to retail investors will reduce the time frame, and possibly, the cost of such offerings. However, it raises the question as to whether this dispensation will compromise the level of information and legal safeguards available to a retail investor.
The implementation of the Seasoning Guidelines will open avenues for retail investors to invest in Seasoned Bonds or Sukuk that have hitherto been inaccessible to them. It will also be welcomed by entities that qualify to be Eligible Distributors as it will provide them with an additional income stream. As the approval or consent of the issuer is not required in order for Seasoned Bonds or Sukuk to be distributed under the Seasoning Guidelines, it is interesting to see how palatable this is to issuers who may prefer to deal with sophisticated investors (i.e. high-net-worth entities, high-net-worth individuals or accredited investors) rather than a gaggle of retail investors.
These initiatives to increase retail participation in the local corporate bond and sukuk market are timely in light of the capital flight from emerging markets, like Malaysia, to countries that have raised their interest rates, such as the United States. At first blush, these new measures have the potential to spice up the domestic capital market. However, as Malaysians have traditionally placed their savings in time deposit accounts with financial institutions or invested them in landed property and shares, it remains to be seen whether investing in corporate bonds and sukuk will be a new flavour that will be irresistible to retail investors.