Innovation Sandbox - SEBI's approach
Author: Advocate Chandan Mohanty
Time and again the Securities and Exchange Board of India (hereinafter “SEBI”) has adopted new practices which have helped in the growth of the securities market while safeguarding the interest of the investors. Recently, SEBI has shown its interest in infusing FinTech firms into the securities market. Therefore, vide its circular dated May 20, 2019, it has proposed the “Innovation Sandbox” which will enable the FinTech firms and entities not regulated by SEBI including individuals (hereinafter “Participants”) to use the environment as a testing ground for their proposed solution to explore industry challenges before introducing them in a live environment. However, this infusion of participants is subjected to eligibility criteria based on market-related data made available by Stock Exchanges, Depositories and Qualified Registrar and Share Transfer Agents. This blog post attempts to discuss the effectiveness of the Innovation Sandbox and draws a comparison with the Regulatory Sandbox of the Reserve Bank of India (hereinafter “RBI”).
The Innovation Sandbox has three broad components and structure i.e. Design, Legal and Administrative Component.
The design component has been further divided into Data Sets and Infrastructure. SEBI ensures to keep an overall control on the data flow and that the data shared with the Participants are not misused or used without authorization. By the data set component, SEBI has allowed the Participants to access the securities market for testing. However, there are restrictions on the use of data in order to have proper regulatory control over the Participants. The Participants are allowed to access the historical data in anonymized form for greater effectiveness through Application Program Interface (hereinafter “API”) infrastructure. Further, the Participants are required to enter into a confidential agreement including ‘End User Agreements’.
The legal component has kept the Innovation Sandbox flexible to adapt to new changes. Since this is a first of its kind structure, SEBI has kept itself open for new changes which will help in developing this entity in a more practical manner. The Innovation Sandbox will be a non-profit entity which will be in compliance with the existing laws of India. The Innovation Sandbox also proposes to define the rights and obligations of its stakeholders and will protect their Intellectual Property Rights.
The Administrative Component has proposed to establish a Governance Body, an Operational Team and a Grievance Redressal Mechanism. This well-defined structure along with the Grievance Redressal Mechanism essentially shows the intention of SEBI to have an effective organization which will comprise of qualified representatives and will ensure that the objective is achieved without affecting any of the market participants. The Governance Body will be having representatives from Stock Exchanges, Depositories and Qualified Registrar and Share Transfer Agents and will have a supervisorial role. The Operational Team will be responsible for the day-to-day activities including processing applications, communicating with applicants, assisting the Governance Body and maintaining the infrastructure of the Innovation Sandbox.
For implementing this structure in an effective manner and keep a check and balance on different level/ group of the organization, the SEBI has proposed for the formation of a Steering Committee. The Steering Committee will comprise of representatives from Market Infrastructure Institutions and Qualified Registrar and Share Transfer Agents. It is vested with the responsibility to appoint a Chairperson from among the group, on a rotational basis, and develop the operating guidelines.
For effectiveness, it has been proposed for the Steering Committee to include members from FinTech start-ups, academia and angel investors. Furthermore, to ensure transparency, SEBI has reserved the right to have its representatives as permanent invitees.
The Steering Committee is vested with the responsibility to receive, evaluate and process the application received for the Innovation Sandbox; approve or reject any application after the necessary evaluation; redress the grievances; monitor the testing and maintain an Objective and Key Result Areas for effective oversight of the entire process.
Comparison RBI's Regulatory Sandbox
The RBI vide its report dated April 18, 2019, had provided the framework for Regulatory Sandbox for live testing of new products or services in a controlled/ test regulatory environment. The primary difference between the Regulatory Sandbox of RBI and Innovation Sandbox of SEBI is that the former is available for entities which meet the eligibility criteria of a start-up. Whereas, the Innovation Sandbox is available for a wide range of Participants who intend to test their solutions in the securities market. The Regulatory Sandbox operates in a live environment with live data, whereas the Innovation Sandbox operates with historical data. Although the data used in the case of Innovation Sandbox is historical, the effectiveness of such a system should not be questioned as they are provided in an anonymous manner. Further, the Innovation Sandbox ensures that no regulatory requirements or compliances are relaxed for the Participants. However, the RBI is flexible with the legal aspect of the Regulatory Sandbox and has provisions where certain regulatory relaxation may be provided for testing. The Innovation Sandbox has established a Grievance Redressal mechanism and has clearly mentioned the rights and obligations of the Participants including protection of Intellectual Property Rights.
The Innovation Sandbox checks the effectiveness of the solutions provided before allowing them to participate in a live environment. This essentially helps the Participants to be prepared for the probable obstacles. The no relaxation policy for the Participants will further ensure that the Participants are aware of the compliance requirement under SEBI. In the long-run, the Innovation Sandbox, in my opinion, will be more effective and will attract more participants than the Regulatory Sandbox because of its strong and effective structure.
 Securities and Exchange Board of India, Circular No. SEBI/MRD/CSC/CIR/P/2019/64 issued on May 20, 2019. The Reserve Bank of India, Report on Draft Enabling Framework for Regulatory Sandbox, issued on April 18, 2019 (Available at https://www.rbi.org.in/scripts/PublicationReportDetails.aspx?UrlPage=&ID=920)