External Commercial Borrowings In India

1. INTRODUCTION

External Commercial Borrowings (ECB) is a permitted source of finance for Indian Corporates for expansion of existing capacity as well as fresh investments for the same. They have been defined by the Reserve bank of India as commercial loans availed from non-resident lenders with a minimum average maturity of three years.¹ The phrase “commercial loans” in this definition includes bank loans, buyer’s credit, supplier’s credit, scrutinised instruments like floating rate notes and fixed rate bonds, credit from official export agencies and commercial borrowings for private sector window of multilateral financial institutions.

Basically, ECB includes any funding other than equity or any kind of direct capital. Such direct capital fall under FDI (Foreign Direct Investments).

ECB in India is governed by Foreign Exchange Management Act along with the Foreign Exchange Management (Borrowing and Lending of Foreign Exchange) Regulations. These statutes give the power of regulating the ECB to Economic Affairs, Ministry of Finance, Government of India and the Reserve Bank of India. This provision can be observed in Section 6(3) (d) of the Foreign Exchange Management Act which provides that the RBI may restrict or regulate any borrowing or lending in foreign exchange in whatever form or whatever name it is called. Also, clause (e) of the same section provides that the RBI may also prohibit, regulate or restrict any borrowing or lending in rupees between persons resident in India and those not resident in India.

2. TYPES

There are four methods of accessing funds according to the RBI master circular²:

1. External Commercial Borrowings (ECB): ECBs refer to commercial loans in the form of bank loans, securitized instruments (e.g. floating rate notes and fixed rate bonds, non-convertible, optionally convertible or partially convertible preference shares), buyers’ credit, suppliers’ credit availed of from non-resident lenders with a minimum average maturity of 3 years.
2. Foreign Currency Convertible Bonds (FCCBs): FCCBs mean a bond issued by an Indian company expressed in foreign currency, and the principal and interest in respect of which is payable in foreign currency. The bonds are required to be issued in accordance with the scheme viz., “Issue of Foreign Currency Convertible Bonds and Ordinary Shares (Through Depositary Receipt Mechanism) Scheme, 1993”, and subscribed by a non-resident in foreign currency and convertible into ordinary shares of the issuing company in any manner, either in whole, or in part, on the basis of any equity related warrants attached to debt instruments. The ECB policy is applicable to FCCBs.
3. Preference shares: Preferences Shares (i.e. non-convertible, optionally convertible or partially convertible) for issue of which, funds have been received on or after May 1, 2007 would be considered as debt and should conform to the ECB policy.
4. Foreign Currency Exchangeable Bonds (FCEBs): FCEBs means a bond expressed in foreign currency, the principal and interest in respect of which is payable in foreign currency, issued by an Issuing Company and subscribed to by a person who is a resident outside India, in foreign currency and exchangeable into equity share of another company, to be called the Offered Company, in any manner, either wholly, or partly or on the basis of any equity related warrants attached to debt instruments. The FCEBs must comply with the “Issue of Foreign Currency Exchangeable Bonds (FCEB) Scheme, 2008”. The guidelines, rules, etc. governing ECBs are also applicable to FCEBs.

 

3. POLICY

The policies of ECB in India are designed to emphasize on the investments in infrastructure and other core sectors of the economy.

They mainly focus on:

1. Accessing external markets.
2. Total volume of borrowings and their maturity structure.
3. End use of funds raised in the form of ECB.

 

4. NEED

 

1. ECB allows companies access to funds in foreign currencies which may not be that easy to avail from the domestic market.
2. It allows an access to a diversified investor’s base to the companies. This could also help the companies access funds on a cheaper rate from external sources.
3. The availability of funds in the international market is larger as compared to the domestic market. Hence, ECB helps companies to fulfil comparatively larger requirements.
4. Foreign investors provide a larger flexibility to the companies in terms of providing security for the ECBs.

 

5. DEMERITS

 

1. Since ECB involves exchange of money in foreign currency, the companies have to deal with the expenditure of hedging their foreign exchange exposure.
2. The funds availed in the form of ECBs are highly under the control of the government and the RBI. This leads to limit in the use of the same. E.g.: in most cases, this money is not allowed to be used for general corporate purposes or working capital.

6. ROUTES

ECB can be accessed through two routes in India, based on the requirement of Government approval for the same³:

1. Automatic Route: under this route, the corporates do not need a government or RBI approval for accessing ECB from external markets.
2. Approval Route: under this route, the corporates do require a government approval for accessing ECB.

 

1. AUTOMATIC ROUTE:

6.1.1 Features:

• Access of funds under automatic route doesn’t require a government of India or Reserve Bank of India approval.
• Corporates including hotel, hospital, software sectors (registered under the Companies Act 1956) and Infrastructure Finance Companies are eligible to raise ECB. Units in SEZs are allowed to raise ECB for their captive requirements. NGOs engaged in micro finance activities are eligible to avail of ECB (subject to certain conditions).
• Specific organisations who are not allowed to raise ECB through this route include financial intermediaries such as banks, FIs, HFCs, and NBFCs as well as trusts and non-profit making organisations.
• ECB can be raised by borrowers from internationally recognized sources such as:

1. international banks,
2. international capital markets,
3. Multilateral financial institutions (such as IFC, ADB, CDC, etc.)/ Regional Financial Institutions and Government owned Development Financial Institutions,
4. Export Credit Agencies,
5. Suppliers of Equipment,
6. Foreign Collaborators and
7. Foreign Equity Holders (other than erstwhile Overseas Corporate Bodies).
8. Overseas organizations and individuals may provide ECB to NGOs engaged in micro finance activities subject to complying with some safeguards outlined in the RBI circular which is amended from time to time.

6.1.2 Restrictions

• Utilization for on-lending or investment in capital market or acquiring a company (or a part thereof) in India by a corporate, investment in real estate sector, for working capital and repayment of existing Rupee loans.
• Issuance of guarantee, standby letter of credit, letter of undertaking or letter of comfort by banks, FIs and NBFCs from India relating to ECB.
• The borrower has the option to offer security against the ECB. Creation of charge over immoveable assets and financial securities, such as shares, in favour of the overseas lender is subject to FEMA regulations and ECB guidelines.

2. APPROVAL ROUTE

6.2.1 Features:

Proposals falling under the category include:-

1. On lending by the EXIM Bank for specific purposes (case to case basis).
2. Banks and financial institutions which had participated in the textile or steel sector restructuring package as approved by the Government.
3. ECB with minimum average maturity of 5 years by NBFC to finance import of infrastructure equipment for leasing to infrastructure projects.
4. Infrastructure Finance Companies (IFCs) i.e. NBFCs, categorized as IFCs, by RBI (beyond 50% of their owned funds) for on-lending to the infrastructure sector as defined under the ECB policy and subject to compliance of certain stipulations.
5. Foreign Currency Convertible Bonds (FCCBs) by Housing Finance Companies.
6. Special Purpose Vehicles (SPV) or any other entity notified by the RBI, set up to finance infrastructure companies / projects exclusively.
7. Financially solvent Multi-State Co-operative Societies engaged in manufacturing.
8. SEZ developers for providing infrastructure facilities within SEZ.
9. Eligible Corporate under automatic route other than in the services sector viz. hotels, hospitals and software sector can avail of ECB beyond USD 750 million per financial year.
10. Corporate in the service sector for availing ECB beyond USD 200 Mn. per financial year.
11. Cases falling outside the purview of the automatic route limits and maturity indicated, etc.

6.2.2 Restrictions:

Most of the restrictions for accessing funds through this route are the same as those of the Automatic Route. Some of these have undergone certain changes, especially those related to this route, since the new RBI guidelines came into effect in 2013. The same has been discussed in the next section.

7. CHANGES

As it can be observed from the above details, the Indian companies are under heavy restrictions when borrowing funds from foreign lenders. Though, in the new circular issued by the Reserve Bank of India in 2013 some of the restrictions have been relaxed. Some of them are analysed in this section:

1. End use of ECB: previously, ECB could only be availed in for financial investments. But as per the new RBI circular, this restriction has been drastically relaxed.

The permissible use of ECB now also includes using it for “general corporate purposes”.

The new RBI guidelines allow the use of such ECB towards repayment of buyer’s debt, supplier’s debt and 25% of ECB to be utilized towards repayment of existing rupee debt, only if ECB is accessed through the approval route.

This, still, is subject to certain restrictions as levied by the RBI:

1. Eligible borrowers can avail ECB under approval route from their direct foreign equity holder company only with a minimum average maturity of 7 years for general corporate purposes (which includes working capital).
2. The lender should be holding a minimum paid up capital of 25%.
3. The repayment of such loan would only commence after the completion of 7 years. No prepayment is allowed.
4. The use of such loan should not violate any guidelines issued by the RBI restricting the use of ECB by the companies.

2. Refinancing⁴: the new RBI guidelines have also eased the norms of refinancing by allowing banks to approve even those ECBs where the average maturity period of the same is more than the residual maturity of existing loans.

This is subject to the following restrictions:

1. Both the existing and fresh ECB should be in compliance with the RBI guidelines.
2. All-in-cost of existing ECB should be more than the all-in-cost of the new ECB.
3. Consent of the existing lender should be available for the approval for fresh ECB.
4. Such refinancing should only be undertaken before the maturity of the existing ECB.

 

3. The RBI has further prescribed certain conditions that need to be satisfied in order to get approval of changes/ modification of drawndown/repayment schedule of ECB already availed by the Authorised Dealer Bank. These are applicable to both automatic and approval routes.

1. After the re-schedulement, the all-in-cost and average maturity period should be in compliance with the applicable guidelines. There should not be an increase in the rate of interest or additional costs.
2. The said re-schedulement is only allowed once.
3. Re-schedulement is only allowed before the maturity of the ECB.
4. Every procedure followed should be in accordance with the RBI guidelines and procedures prescribed for the same.

8. IMPACT⁵

 

1. Impact Of ECB On Stock Performance Of Companies:

It has been concluded from a study of stock market in the year 2007 and that in the year 2011 that while the companies tend outperform their previous indices in the former due to strengthening of rupee in a bull market, they are left underperformed in the latter year due to the falling of rupee in the bear market.

2. Impact of ECB on financial performance of the companies:

It has been noticed by comparing various financial aspects of the company that while during bull markets there is no visible stress on the financial performance of the company, during the bear market this financial performance deteriorates

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9. CONCLUSION

The objective of such regulations and control over the ECBs is on one hand to provide flexibility to the Indian Companies with respect to the borrowings from external market and on the other hand, to maintain a prudent limit on such borrowings. This is necessary to avoid an unnecessarily huge financial base to the companies which may lead to them taking uncalculated risks.

ECB has proved to be a very effective mechanism for the companies to raise funds for themselves but in the present market conditions where the value of rupee is constantly deteriorating, raising ECB is not only risky but has also proved to be difficult for the companies. This seems to be the main reason for the new relaxed guidelines by the Reserve Bank of India for access to ECBs. But the Indian corporates need to maintain a balance between the funds raised from external markets and those from the domestic market in order to tackle with the problems faced by the global financial markets due to the recent offset of a financial turmoil in the market in recent years.

Author: Akshay Goel, Hidayatullah National Law University