Mutual funds in India and their profitability

Mutual funds, typically managed by Asset Management Companies (AMCs), serve as a vehicle for pooling funds from a diverse group of investors. These funds are then strategically invested in various asset classes to achieve specific financial objectives. Essentially, mutual funds act as trusts that aggregate savings from a multitude of investors, reinvest these funds to generate profits, and subsequently distribute dividends among the contributors. In exchange for these financial services, Asset Management Companies levy fees.

A significant insight from a 2014 study on AMCs reveals that the larger, more financially robust AMCs are well-positioned to leverage their size and strength, establishing a significant lead over their counterparts.

Traditionally, the global asset management industry has maintained healthy profit margins, hovering around 30 percent. This translates into a favorable return on equity (ROE) for industry players, sometimes exceeding 30 percent during extended bullish periods. Consequently, there's minimal need for borrowing money to finance operations. These financial dynamics also make smaller asset management companies economically viable.

However, the scenario for the Indian mutual fund industry appears somewhat different, marked by a notable disparity. While large asset managers such as HDFC AMC consistently report substantial profits, with ROE exceeding 40 percent, many smaller firms continue to incur losses. This discrepancy can be attributed to high distribution costs and the regulatory environment.

Additional regulatory developments in the mutual fund industry during the year include:

A. Key SEBI Regulations and Guidelines:

• SEBI introduced new listing regulations known as SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, applicable to Mutual Funds and Asset Management Companies.
• Product labeling requirements in mutual funds were modified by SEBI, and the level of risk investment in mutual fund schemes was increased from 3 to 5 levels.
• SEBI notified Foreign Accounts Tax Compliance Act (FATCA) and Common Reporting Standard Rules.
• Prudential limits in sector exposure were amended, and new limits on group exposure in debt-oriented mutual fund schemes were introduced.
• Enhanced scheme-related disclosure requirements in the Statement of Additional Information (SAI) and Key Information Memorandum (KIM) documents of mutual fund schemes were implemented. Additionally, key information about the schemes managed by the Asset Management Company is now required to be displayed on the fund's website. Disclosure of executive remuneration and soft dollar arrangements became mandatory.
• SEBI issued new guidelines on the treatment of unclaimed redemption and dividend amounts.

B. Changes introduced by Union Budget 2016:

• The capital gains tax on the transfer of units in the event of the merger or consolidation of plans of a mutual fund scheme was eliminated.
• Services provided by Mutual Fund Agents/Distributors to a Mutual Fund or Asset Management Company became subject to Service Tax under the forward charge mechanism, effective from April 1, 2016.
• Income Tax Surcharge was raised from 12% to 15% for individuals other than Companies, Firms, and Cooperative societies with income exceeding INR 1 Crore.
• Krishi Kalyan Cess at 0.5% was introduced on all services, effective from June 1, 2016.

These developments reflect the ever-evolving landscape of the mutual fund industry in India, driven by regulatory changes and economic conditions.

Sources:

[Links to respective AMC financial reports]