Fund managers and other capital-market operators could be restricted to placing no more than 10 percent of the funds they manage in unlisted securities under new rules proposed by the Securities and Exchange Commission (SEC).

The draft guidelines, released for public consultation on September 18, would also prevent a market operator from investing more than five percent of its funds under management in securities issued by a single unlisted company.

An operator would be prohibited from acquiring more than 20 percent of any single issuance, while total investments in securities issued by related parties could not exceed five percent of funds under management.

The proposed rules cover commercial paper, unlisted bonds and notes, and shares in companies that are not traded on a securities exchange.

They would apply to persons licensed by the SEC as market operators, including fund managers, collective investment schemes, investment advisers, broker-dealers, custodians and trustees. Private funds would be exempt.

The rules are intended to strengthen protection for investors whose money is placed in privately issued securities that are more difficult to value and sell than shares and bonds traded on regulated markets.

Unlisted investments provide companies with an alternative source of capital when they cannot or do not want to raise funds through a public offer. They can also offer investors higher returns than conventional listed securities.

The absence of regular market price makes it difficult to establish the current value of the investment or dispose of it quickly. Investors also have access to less public information about unlisted companies, increasing their dependence on fund managers and disclosures supplied by issuers.

The SEC’s proposed 10 percent ceiling would limit the portion of discretionary funds exposed to these risks while still allowing regulated investment managers to provide capital to private companies.

The restriction could have consequences for businesses that depend on asset managers, mutual funds and other institutional investors to purchase privately issued debt or equity.

Companies would have to satisfy stricter financial, governance and disclosure requirements before licensed market operators could invest clients’ money in their securities.

Under the draft, an issuer must be incorporated under the Companies Act, remain in good standing with the Office of the Registrar of Companies and comply with the laws governing its operations.

The issue must be denominated in Ghana cedis, approved or registered by the SEC and supported by an information memorandum containing the material information required for an investment decision.

The issuing company would be required to maintain a board of at least three members, with independent directors accounting for a minimum of one-third. It must also operate an audit committee that meets quarterly.

Debt securities would have to receive an investment-grade rating from a credit-rating agency licensed or registered by the SEC.

Commercial paper issued to market operators would be restricted to maturities ranging from 15 to 270 days. Proceeds could be used only for working-capital requirements and not for on-lending unless the issuer is a deposit-taking institution licensed by the Bank of Ghana.

An issuer would also need to demonstrate that it had no record of default or overdue borrowing through a credit-reference report issued within 30 days of the proposed investment.

Its audited financial statements must show pre-tax profits during the three financial years preceding the application.

The company would require stated capital and distributable reserves of at least GH¢3 million for secured commercial paper and GH¢10million where the instrument is unsecured.

For secured commercial paper, the issuer’s debt-to-equity ratio could not exceed 30:70 before the issue and 45:55 afterward. An unsecured issuer would face tighter ratios of 20:80 before issuance and 40:60 afterward.

The draft also proposes minimum three-year average returns on assets and equity of five percent and 20 percent respectively, with an interest-coverage ratio of at least four times.

Unsecured commercial paper would additionally have to be backed by a bank guarantee or unused credit line covering its face value.

These requirements could reduce the risk that fund managers use clients’ money to finance highly leveraged companies without adequate cash flow or security.

They could also exclude younger and less-established businesses that have not recorded three consecutive years of profits, even where such companies have strong growth prospects.

Unlisted notes and bonds would be required to have maturities exceeding one year but shorter than three years. Issuers would need at least GH¢15 million in stated capital and distributable reserves, three consecutive years of pre-tax profits and an SEC-licensed note trustee.

The draft would prohibit these notes and bonds from being rolled over when they mature.

Companies seeking institutional investment in unlisted shares would similarly require at least GH¢15 million in stated capital and distributable reserves and three years of pre-tax profits.

Fund managers would have to obtain written authorization from their clients before investing in those shares and retain evidence that the risks had been disclosed and acknowledged.

An independent valuation of the company would be required. The valuation must be undertaken by a qualified professional registered by the SEC and must not be more than three months old.

Where new information materially affects the valuation, the issuer would have to produce a supplementary information memorandum showing the effect of that development.

The proposals would tighten responsibility for due diligence. Market operators would be required to prepare a documented report supported by investment research and submit it to their investment committees before committing clients’ funds.

Investment committees would be barred from considering proposals not supported by documented technical and fundamental analysis.

Collateral backing an unlisted security would have to carry a determinable market value, be legally enforceable and capable of being sold if the issuer defaults.

The proposed maximum loan-to-value ratio is 80 percent for residential property, 60 percent for commercial property and 80 percent for other eligible collateral.

Eligible security could include real estate, bank deposits, Treasury instruments, listed securities, machinery and guarantees issued by banks or insurance companies.

The draft also seeks to limit repeated extensions of commercial paper. A rollover would require SEC approval and could not exceed 90 days. No instrument could be rolled over more than twice, and its initial and extended tenors together could not exceed 270 days.

Any default would have to be reported immediately to the SEC and a credit-reference bureau.

Issuers would be required to submit audited annual financial statements to the regulator within three months after the end of the financial year. Quarterly statements would be due within one month after the end of each quarter and must also be made available to investors.

If adopted in its current form, the guidelines would take immediate effect. Existing investments lacking the required information memorandum would have to obtain one from the issuer.

An issuer that failed to provide the document within three months of a request could have its investment liquidated, with the market operator required to discontinue further business with the company.

Breaches could attract administrative penalties ranging from 50 to 20,000 penalty units, in addition to other sanctions available under the Securities Industry Act.

The draft remains a proposal and does not yet impose binding requirements. The SEC has asked market operators, issuers, investors and other stakeholders to submit comments by October 5.