Given prevailing market conditions, Indian corporates have increasingly been facing issues in accessing credit from onshore loan and debt capital markets. Recent Securities and Exchange Board of India (SEBI) regulations aimed at growing the debt capital market in India and reducing dependence of corporate India on loans from the Indian banking sector require that certain Indian companies must necessarily fund a specified percentage of their debt requirements by issuing bonds.
The forthcoming implementation of new norms on single and group exposures for the Indian banking system is also resulting in some of the larger corporates having to look at other options beyond their preferred relationship banks onshore for meeting their debt funding requirements. Both the non-banking sector and the mutual fund industry in India – significant sources for onshore debt markets – are also currently grappling with their own set of challenges. In this environment, these amendments to the External Commercial Borrowing (ECB) framework are most welcome as they will allow Indian companies to look at tapping the offshore loan and bond markets for raising debt capital.
With a view to ensuring that Indian companies are able to meet their borrowing needs and to facilitate resolution of stressed assets in India, the Reserve Bank of India (RBI), on July 30, 2019, liberalised the framework governing ECBs by relaxing certain end-use restrictions and permitting domestic lenders to assign or transfer their existing INR loans to eligible lenders offshore.
What has changed?
- Proceeds of ECBs can now be applied towards: (a) repayment of INR loans availed onshore where proceeds of such loans have been utilised for capital expenditure; (b) meeting working capital requirements; and (c) general corporate purposes. For ECBs to be used for these end-uses the following are the minimum average maturity norms that must be complied with:
|Minimum Average Maturity|
Repayment of INR loans availed onshore where proceeds have been utilised for purposes other than capital expenditure
|Working capital requirements||10 years|
|General corporate purposes||10 years|
- Companies registered with the RBI as a non-banking financial company (NBFCs) are also now eligible to raise ECBs for on lending to their clients for the purposes set out above provided they comply with the applicable minimum average maturity norms set out above.
- Companies in the manufacturing or infrastructure sector may raise ECBs for repayment of INR loans availed onshore where proceeds of such loans have been utilised for capital expenditure and that are currently classified as SMA-2 or NPA (in accordance with applicable guidelines of the RBI) pursuant to a settlement or compromise agreed with the lenders to such company.
- In a noteworthy liberalisation, onshore lenders may now assign such stressed loans referred to in the paragraph above to persons who are eligible lenders under the ECB policy, so long as the novated loan complies with the pricing, tenure and other provisions of the ECB framework.
- Foreign branches and subsidiaries of Indian banks, however, are not permitted to extend ECBs for any of the purposes listed above.
Refinancing Onshore Debt – Open To All?
This relaxation of end-use restrictions is likely to be the most relevant for the higher rated Indian corporates who can tap the offshore markets at a pricing that will be within the applicable pricing cap for ECBs. The pricing cap will continue to operate as a bar for those borrowers who cannot raise financings at rates below the pricing cap.
Shorter Tenure for Stressed Assets in Manufacturing and Infrastructure Sectors?
It appears that ECBs, the proceeds of which are to be utilised by borrowers in manufacturing or infrastructure sectors for repayment of loans availed onshore where proceeds were utilised for capital expenditure, and that are categorised as SMA -2 or NPA loans, are being treated more favourably by the RBI, in a move to facilitate resolution of stressed assets. In such cases, it appears that a minimum average maturity period of three years (being the uniform period applicable across ECBs with certain exceptions) will apply. This needs to be confirmed once the RBI issues the revised master directions.
Assignment of Stressed Loans
Perhaps the most noteworthy development is the ability of Indian banks to sell their SMA -2 or NPA loans directly to persons who are eligible lenders under the ECB policy. This will allow greater and direct participation by overseas entities in the Indian distressed loans market as opposed to the existing framework, which is largely limited to investment in such assets through security receipts or onshore vehicles. In our view, this route of direct assignment of distressed loans by onshore banks to offshore lenders should fall outside the purview of the RBI’s guidelines on securitisation. Resolution of stressed assets through this route will also avoid certain issues that arise when doing a securitisation in accordance with the securitisation guidelines of the RBI – such as the minimum holding period and the minimum retention requirements as well as the risk on the collection and servicing of the loan asset(s) by the originator. This will also allow single asset transfers (unlike in the case of securitisation structures where single asset transfers are not permitted).
Significantly, the RBI has not specified any conditions as regards the pricing for the assignment or transfer of the distressed loan and the transferring lender and the purchasing lender should be free to mutually agree upon the same. Purchase of the distressed loan at a discount may enable the new lender to achieve the desired commercial returns within the applicable pricing cap as that will be determined with respect to the outstanding principal amount of the loan that has been purchased (and not the purchase consideration for the loan).
However, an important factor, which may affect the extent to which this route becomes popular, is the rate of tax that will be applicable on interest income of non-residents pursuant to loans advanced to an Indian borrower in INR (as a result of the assignment of the onshore loan by a domestic lender to such non-residents). Currently, interest received by a non-resident lender from INR loans advanced by it is liable to tax in India at the rate of 40% (where the foreign lender is a company) or 30% (in any other case) plus any applicable surcharge and cess, subject to any lower rate provided under applicable double tax avoidance agreements (which generally provide for a tax rate of 10-15% on interest income). If the concessional withholding tax rate of 5% on interest income as applicable currently in the case of foreign currency loans and INR denominated bonds is not made applicable in respect of the interest received by a non-resident lender from INR loans advanced by it pursuant to an assignment of stressed assets by a domestic lender to such non-resident lender under the ECB route, this liberalisation may not prove to be commercially viable.
From a legal perspective, the condition that the novated loan must comply with the requirements of the ECB policy will, in nearly all cases, necessitate changes to the existing loan documentation to ensure compliance with the ECB policy (including amendments to the terms of the loan, if required, to comply with the policy provisions on tenure and pricing). There could be other challenges in case of bilateral loans if security is held directly by the domestic lender. This will mean that effecting such an assignment or transfer will require the engagement of the borrower and other obligors and an entirely bilateral transaction between the transferring lender and the purchasing lender may not be possible.
These changes to the ECB policy mean that certain Indian corporates will now have the option to look to the offshore debt markets for raising funds for refinancing their existing INR debt or meeting their requirement for working capital or general corporate purposes. With the better rated Indian corporates being most likely to avail of this option, it may in turn improve the ability of other Indian corporates to access debt capital through the onshore debt markets. Enabling direct assignment or transfer of existing INR loans to offshore lenders is a very positive development that has the ability to aid in the resolution of stressed loan assets in India.