The Reserve Bank of India (RBI) introduced the Commercial Paper Directions, 2017 (Directions) on 10 August 2017. The primary purpose of the Directions is to regulate commercial papers (CPs) accepted as deposits by non-banking companies. The Directions supersede previous directions such as the Non-Banking Companies (Acceptance of deposits through Commercial Paper) Directions 1989, which had been amended in 1996, 1998, 2000 and further in 2012 (2012 Guidelines).

Section 45U of the Reserve Bank of India Act, 1934 (Act) includes ‘Commercial Paper’ as a money market instrument and the Directions define it as an unsecured money market instrument issued in the form of a promissory note, where the tenor of such commercial paper is between 7 (seven) days to 1(one) year.

Widening the gamut of Eligible Issuers

  • The terms ‘Non-Banking Finance Companies’ (NBFCs) and ‘All India Financial Institutions’ (AIFIs) have been introduced in the Directions. Earlier, AIFIs were defined as financial institutions (FIs) and NBFCs were defined within the realm of primary dealers (PD) which has now been expanded.
  • Under the Directions, the sole eligibility requirement for companies, including NBFCs and AIFIs, to issue CPs is that any fund-based facility availed from bank(s) and/or financial institutions is classified as a standard asset by all financing banks/institutions at the time of issue. The Directions dispense with the earlier minimum net-worth criteria and requirement to have working capital limits, making the process far simpler for companies and NBFCs. The removal of net worth criteria for companies is also expected to enable the small and medium sized corporate sector to access the commercial paper market easily for raising funds.
  • The Directions have also broadened the scope of eligible issuers by bringing in co-operative societies, unions, government entities, trusts and LLPs or any other body corporates having presence in India and having a net-worth of INR 100 crores or higher, subject to the aforementioned ‘standard asset’ classification requirement. Further, the Directions have also introduced the concept of special permission from the RBI for issuance of CPs by entities not otherwise covered under the Directions.

Form of CP

  • The form in which a CP may be issued remains largely the same as the previous regulations. The CP is to be issued as a promissory note in the format given in Annex I of the Directions and must be held in dematerialised form through any Securities and Exchange Board of India (SEBI) approved depository.
  • The CP shall be issued in minimum denomination of INR 5 lakhs (or multiples thereof) and shall be issued at a discount to the face value.
  • Underwriting and co-acceptance of CPs or provision of call or put options on the CPs are not permitted under the Directions.
  • Additional conditions which were imposed under the 2012 Guidelines relating to the issue of CP such as aggregate amount of CP that can be issued, flexibility by banks and financial institutions to fix working capital limits, issue of CP by a financial institution (FI) to be within the overall umbrella limit as per the Master Circular on Resource Raising Norms for FIs and the time period within which the total CP must be issued have been done away with.

Credit Enhancement mechanisms

  • While the requirement for CPs to be issued as a stand-alone product continues, the Directions provide that banks and FIs may, based on their commercial judgement, choose to provide stand-by assistance/credit, back-stop facility etc. by way of credit enhancement for a CP issue.
  • The conditions for credit-enhancing the CPs by way of issue of corporate guarantee/guarantee by non-bank entities remain the same. Non-bank entities (including corporates) may provide unconditional and irrevocable guarantees for credit-enhancing the CPs, subject to proper disclosures in the offer document regarding the net worth of the guarantor company, the names of the companies to which the guarantor has issued similar guarantees, the extent of the guarantees offered and the conditions under which the guarantee can be invoked.

Disclosure of end use

  • The exact end use is required to be disclosed in the offer document at the time of issue of the CP. This is a new addition in the Directions.

Eligible Investors

  • The Directions have broadened the scope of eligible investors by allowing all residents and non-residents to invest in CPs subject to compliance with the Foreign Exchange Management Act 1999 (FEMA).
  • However, investment in CPs issued by related parties in the primary or secondary markets cannot be made.
  • Further, investment by regulated financial sector entities are subject to their respective regulations.

Rating Requirements

  • The requirement to obtain a credit rating is now applicable to eligible issuers whose total CP issuance in a calendar year is INR 1000 crore or more. Credit rating must be obtained from a minimum of two credit rating agencies (CRAs) registered with the SEBI, and the lower of the two ratings must be adopted. If the ratings are the same, then the issuance shall be of the lower of the two amounts. It must be noted that this requirement to obtain two ratings is applicable from 1 October 2017.
  • The minimum credit rating is A3.

Trading

  • Over the counter (OTC) trades may now be settled through the clearing corporation of any recognised stock exchange or any other mechanism approved by the RBI.

Buyback of Commercial Paper

  • Issuers are allowed to buyback CPs at the prevailing market price, subject to the buyback offer being extended to all investors in the CP where the terms of the buyback are identical to all issuers. The buyback offer may not be made before 30 days before the date of issue. Once the CP is bought back, it shall be extinguished.
  • The requirement of approval from the board and intimation to the issuing and paying agent (IPA) has been done away with.

Offer Document        

The Directions further stipulate certain minimum disclosure requirements under the offer document for the CPs in Annex II. These include disclosure of details of outstanding CPs and other debt instruments such as date of issuance, issue amount, date of maturity, amount outstanding, credit rating, names of CRA and IPA. The offer document must also disclose details of default of CPs or any other borrowings in the past three years, details of current tranche including amount, current credit rating, name of the IPA and CRA (along with its validity period). A summary of the last three years audited financials, material litigation and regulatory strictures must be attached. The end-use of funds must also be disclosed.

Duties and Obligations

The Directions lay down the various duties and obligations expected of an Issuer of CPs as well the Issuing and Paying Agent (IPA) and Credit Rating Agency (CRA), which are briefly described as follows:

Issuer

The Directions have laid down specific duties and obligations for an Issuer of CP which include appointment of an IPA, compliance with relevant requirements and furnishing a declaration of such compliance to the IPA, ensuring that proceeds from the issue of CP are towards the declared end uses, furnishing a board resolution of the company authorising the issuance of the CP to the IPA, keeping the banks and financial institutions informed of outstanding fund and non-fund facilities at the end of the month in which a CP was issued, arrangement of a demat account to credit the proceeds of the CP, enhanced information obligations to IRA and the credit rating agencies including routing all default details, delay, subscriptions, redemption, buybacks and payments and submitting a certificate from the CEO or CFO of the issuer that the proceeds of the CP are being used for the relevant end use.

Disclosures relating to default must be communicated on an immediate basis. The issuer must inform the CRA and IPA of any default or delay with respect to payments related to the CP on the same day. It must be noted that an issuer who has defaulted on a CP shall not be allowed to access the market for issue of CPs for a period of six months from the date of repayment of such defaulted obligation.

IPA

IPAs are now required to ensure the borrower is authorised to raise money by way of issuance of CPs. Under the 2012 Guidelines, the IPA was required to ensure a minimum credit rating of the CP, hold certified copies in their custody and report full details of defaults and buybacks to the RBI via email in the format specified. The Directions have sought to digitise the issuance of CPs by mandating IPAs to make available the IPA certificate in electronic form and report details of issuances, buyback and defaults in CPs on the F-TRAC platform. Until CCIL advises full operationalisation of F-TRAC, the current reporting arrangements shall continue.

CRA

The Directions have simplified the obligations of the CRAs. CRAs continue to be required to continuously monitor the assigned rating and disseminate revisions (if any) via public announcements on the date of change in rating.

Comment

The underlying theme of the new Directions is focused on enhanced disclosure measures, while at the same time attempted to ease the rigid eligibility conditions which previously restricted the issue of commercial paper. The broadened disclosure measures include reporting of defaults on all fund and non-fund based facilities to banks, thereby not limiting it to merely commercial paper. The Directions have introduced disclosures that are to be made in the offer documents. It broadens investor protection by mandating multiple credit ratings for the issuance of CP. Investors can now make better informed decisions before investing in CPs that are issued. The Directions also widens the scope of issue of commercial paper by allowing more entities to be eligible as issuers as well investors.