Franklin Templeton winding-up (2020)
The Franklin Templeton winding-up (2020) refers to the decision by Franklin Templeton Asset Management (India) Private Limited to wind up six open-ended debt mutual fund schemes on 23 April 2020, citing severe liquidity stress attributable to the market disruption caused by the Covid-19 pandemic. The six schemes had a combined assets under management of approximately Rs 28,000 crore and approximately 3 lakh investor accounts (folios). The event is the largest involuntary closure of open-ended mutual fund schemes in Indian mutual fund history and prompted significant judicial and regulatory responses.
The six schemes wound up were: Franklin India Low Duration Fund, Franklin India Dynamic Accrual Fund, Franklin India Credit Risk Fund, Franklin India Short Term Income Plan, Franklin India Ultra Short Bond Fund, and Franklin India Income Opportunities Fund. All six employed a credit-differentiated investment approach, holding significant allocations to below-AAA rated corporate bonds and commercial papers issued by companies in stressed sectors including real estate, infrastructure finance, and non-banking financial companies (NBFCs).
Background
Credit-differentiated debt strategy
Under Chief Investment Officer (Fixed Income) Santosh Kamath, Franklin Templeton India’s debt franchise had built a significant presence in the credit risk and accrual debt fund categories. These schemes sought to generate higher yields than comparable AAA or government-bond-heavy funds by investing in corporate bonds rated AA, A, or lower, issued by companies in sectors offering credit spreads over sovereign benchmarks.
This approach was commercially successful during the 2013–2017 credit expansion phase, when yields on quality corporate paper compressed and credit risk funds delivered above-average returns. Investors drawn by the yield premium channelled significant AUM into these six schemes.
Pre-existing stress (2018–2020)
From 2018 onward, a series of credit events disrupted India’s corporate bond market:
- IL&FS crisis (September 2018): Infrastructure Leasing and Financial Services Limited, a large NBFC and infrastructure finance company, defaulted on its commercial paper and bond obligations. This triggered a broad reassessment of NBFC credit quality and caused a liquidity freeze in the corporate bond market.
- DHFL defaults (2019): Dewan Housing Finance Corporation Limited (DHFL) faced a liquidity crisis and eventually defaulted on its bonds. Several of Franklin Templeton’s debt schemes held DHFL paper.
- Vodafone Idea and YES Bank stress (2019–2020): Telecom company Vodafone Idea and YES Bank Limited faced credit stress, affecting multiple debt funds holding their bonds.
- Essel Group pledging and restructuring (2019): Bonds backed by Subhash Chandra’s Essel Group entities were restructured.
Franklin Templeton India’s six schemes held positions in some of these stressed credits. As ratings were downgraded and secondary market liquidity for these bonds evaporated, the schemes faced challenges in marking down portfolio values and meeting redemptions from liquid assets.
Covid-19 market shock (March–April 2020)
The onset of the Covid-19 pandemic in India in March 2020 and the government’s announcement of a national lockdown on 24 March 2020 caused a severe dislocation in financial markets. Equity markets fell sharply. More critically for debt mutual funds, the corporate bond market effectively stopped functioning for bonds below the highest credit ratings. Redemption pressure on open-ended debt funds increased significantly as investors sought liquidity.
For schemes already holding illiquid, stressed credits, the combination of elevated redemption pressure and the practical impossibility of selling portfolio bonds except at heavily distressed prices created an untenable position. Franklin Templeton India concluded that it could no longer meet redemptions at NAV without selling bonds at prices that would severely damage the interests of remaining investors.
The closure decision (23 April 2020)
On 23 April 2020, Franklin Templeton India announced the winding up of the six schemes, suspending all redemptions, subscriptions, and switches with immediate effect. The announcement stated that the decision was made in the interests of all investors in the schemes collectively, as continuing to redeem would have required forced sales of illiquid assets at distressed prices, benefiting exiting investors at the expense of those remaining.
The closure was effected by the fund house’s board of directors without seeking prior investor consent, relying on a provision in the SEBI (Mutual Funds) Regulations that permitted winding up with the consent of trustees. The trustee company’s board passed a resolution consenting to the winding up on the same day.
Legal challenges
Karnataka High Court and Supreme Court proceedings
Multiple investor groups and state governments filed writ petitions and suits challenging the validity of the winding-up decision. Cases were filed in the Karnataka High Court, the Madras High Court, and others. The jurisdictional complexity and divergent orders across High Courts prompted the Supreme Court of India to transfer all cases to itself in 2020.
The Supreme Court, in a significant judgment, held that while the winding-up decision was within the legal power of the trustees, the process of distributing the recovered assets required investor consent through a formal vote by unitholders. The Court directed Franklin Templeton to obtain unitholder approval for the manner of winding up and distribution.
Unitholder voting was subsequently conducted in December 2020, and a majority voted in favour of the proposed winding-up and distribution process.
SEBI investigation and orders
SEBI conducted a detailed investigation into the circumstances of the closure. SEBI’s investigation examined: whether the credit risks taken by the schemes were consistent with disclosed investment mandates; whether the fund house had adequate liquidity risk management in place; and whether investor communications before the closure were adequate.
SEBI issued orders in June 2021 against Franklin Templeton Trustee Services and certain named individuals including Santosh Kamath and other fund managers, directing the disgorgement of management fees received by the AMC and imposing penalties. The orders were appealed before the Securities Appellate Tribunal (SAT), and the proceedings continued through 2022–2023.
Asset recovery and distribution
Between June 2021 and 2023, the winding-up process yielded successive distributions to investors as underlying portfolio bonds matured, were sold in the secondary market (as conditions improved), or issuers repaid. Computer Age Management Services (CAMS) and the AMC coordinated the distribution process.
By June 2023, approximately Rs 25,000 crore of the original approximately Rs 28,000 crore AUM had been distributed to investors, representing a recovery rate of around 90% of the pre-closure NAV. The remaining assets continued to be liquidated, with residual distributions pending. Final recovery rates varied across the six schemes depending on credit quality and portfolio composition.
Regulatory consequences and industry-wide impact
SEBI debt fund liquidity reforms
The Franklin Templeton episode prompted SEBI to implement a package of debt fund regulatory reforms:
- Swing pricing: SEBI mandated swing pricing mechanisms for open-ended debt schemes (excluding liquid and overnight funds), requiring the buy/sell NAV to adjust to reflect liquidity costs during periods of net outflows. This reduces the first-mover advantage for early redeemers in stress situations.
- Stress testing disclosure: AMCs must conduct and disclose periodic liquidity stress tests for debt schemes, showing the number of days it would take to liquidate a defined percentage of the portfolio.
- Revised liquid asset requirements: Higher minimum percentages of liquid assets must be maintained in various debt fund categories.
- Credit watch and side-pocketing guidance: Refined guidance on when side-pocketing (segregation of stressed assets) is appropriate.
Industry and investor impact
The episode significantly affected investor confidence in credit risk debt funds, causing lasting outflows from that category across the industry. Aditya Birla Sun Life Mutual Fund and other AMCs had also exercised side-pocketing in their debt schemes between 2018 and 2020, but none had resorted to a full scheme wind-up.
For Franklin Templeton India Mutual Fund, the closures reduced AUM by approximately Rs 28,000 crore and damaged the fund house’s reputation, leading to additional investor outflows from its surviving schemes and changes in senior management and investment philosophy.
See also
- Franklin Templeton India Mutual Fund
- Mutual fund industry in India
- Aditya Birla Sun Life Mutual Fund
- SEBI
- Capital gains tax in India
- CDSL
References
- Franklin Templeton India, Press Release on scheme winding up, 23 April 2020. Available at franklintempletonindia.com.
- Supreme Court of India, Franklin Templeton Trustee Services Pvt Ltd vs A. Balsubramanian & Ors, Civil Appeal No. 1997 of 2022. Judgment dated 2 February 2023.
- SEBI Order in the matter of Franklin Templeton, June 2021. Securities and Exchange Board of India.
- SEBI Circular on Swing Pricing for Mutual Funds, 23 September 2021 (SEBI/HO/IMD/IMD-II DOF3/P/CIR/2021/576).
- SEBI Circular on Stress Testing Disclosure for Debt Schemes, December 2019 and subsequent amendments.
- “Franklin Templeton winds up six debt mutual fund schemes in India.” Mint, 23 April 2020.
- “Franklin Templeton distributes Rs 25,000 crore to investors in wound-up schemes.” Economic Times, 2023.
- AMFI statement on Franklin Templeton winding-up, April 2020.