Franklin Saga Drags On

Franklin has been in the news quite a bit due to the decision to wind-up six of its funds. After deciding to wind-up the funds the fund house was planning to get unit holder’s consent for disbursing cash from liquidated papers. However, some investors did not like the decision and started legal proceedings against the fund house. Unit holders filed cases in multiple High Courts. Now we all know how long courts take to pass judgement on just one case. Given there were multiple cases I was not very positive that something will happen any time soon.


However, the Supreme Court of India has ordered all cases to be transferred to Karnataka High Court on June 19, 2020. The case was supposed to be on fast track too. This is some good news. At least there is one case in one court now. Even so, I was not positive that things will move any faster.


The judgement

The hearings went on and on for a long time. The COVID situation did not make things any easier. Eventually on Oct 24, 2020 the judgement came out which again did not resolve the issue. The Karnataka High Court (HC) found the Franklin India trustees to be in violation of SEBI rules. Further more it stated that Franklin should take unit holders consent before winding up the funds.


What this means is that the funds should not be wound up and should function normally. However, the HC stayed its own decision for 6 weeks. During this time, the unit holders cannot redeem and neither the fund house can borrow. So from an investor’s perspective, nothing has changed. The fund house cannot start the e-voting procedure to disburse the accumulated cash. Nor can the funds be opened for redemption.


What next?

There are three possibilities from here. Since the HC stayed its decision for 6 weeks, it allows the parties to file for appeals in the Supreme Court. My feeling is that Franklin will appeal the judgment. That means further delay after the 6 weeks are up. The court proceedings took about 4 months in Karnataka HC. I would assume no less duration for the proceedings in Supreme Court. This is the most likely outcome which will probably delay everything for another 5 months at the very least.


Alternatively, the fund house can decide not to go for appeals and operate according to the judgement. In that case, the AMC will have to go for a vote whether to wind-up the funds or not. If the voting is positive, which means the unit holders want the fund to wind-up, then things will be back to where they were when Franklin decided to wind-up. So there will be another voting, the original e-voting procedure on how the liquidation should proceed.


If instead, the voting is negative then the AMC will have to re-open the schemes. In which case there will be a huge redemption pressure and the NAV will fall like a pack of cards. Unit holders will have to take what they get. In the case of Franklin Ultra Short Term Fund they will get at least 40% of their investment because of the amount of cash sitting in the fund. This outcome will be the worst of them all. The AMC might limit the redemption amount to Rs. 2 lakhs per unit holder, for a few days. But eventually things will turn sour.


Other news

In other news, Karnataka HC was not happy about the role of SEBI in the Franklin matter. The court observed that SEBI should have played a proactive role in the decision of the fund house to wind-up. This means there may be stricter regulations in future and the decisions may not be left to trustees and unit holders. This in my opinion may not be good for investors. But that is the way of life. One person makes a mistake and everyone has to bear the brunt.


Conclusion

From what I can tell, the AMC will most likely move the Supreme Court. So it seems like it will take a long time before things settle down. Also the regulations may be tightened with respect to winding-up of funds. In the unlikely event that the fund house goes for a vote of majority for the decision to wind-up, the outcome may not be a good one. Most investors are not well equipped to understand the consequences and may choose to not wind-up the funds. In that case, we can safely assume a major wipe-out of one’s investment. Lets wait and see.


Update [2020/11/24]

As expected Franklin has moves the SC against Karnataka High Court order. This is expected because otherwise the AMC will have to sell securities at a steep discount owing to redemption pressure. Now another 6 months of waiting.


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