Insolvency and Bankruptcy Code, 2016[1] (IBC) aimed to encourage and effectively channelise recovery of debt for financial creditors and operational creditors. However, restrictions and market perceptions create hindrances in providing relief to the non-convertible debenture holders and bondholders when it comes to the debt instruments. This article will discuss the corporate bond market in India its development after the enactment of the Insolvency and Bankruptcy Code. It will examine the need for foreign investment in the market and the restrictions on the Foreign Portfolio Investors regarding investment in the corporate bond market. The article will consider the current exemption provided to the Foreign Portfolio Investors (“FPI”) by the RBI under notification no. RBI/2020-21/105[2].
Moreover, it will highlight its shortcomings in light of investors’ confidence. The article also suggests the addition of disclosure on the part of the insolvency professionals and the need to clear demarcation of liabilities about the debt instruments.
The advancement of the corporate bond market plays an essential role in fund-raising for a company through debt financing. However, in India, the corporate bond market did not have enough room to grow due to rigidity in the investor mindset, which has a preference for government and low-risk bonds. In addition to that, there is a saturation of high-risk corporate bonds in the corporate debt market. The reason is less degree of market bandwidth and limited interest of investors in bonds with high risk-return combinations.[3] Investors fear the lack of financial stability of corporate entities for the maturity of repayment of bonds and interests. Due lack of a market for debt funding, many small companies only resort to primary debt funding are banks or non-banking financial institutions.[4] Therefore, the Government of India took various steps to expand and develop the Corporate Bond market. Insolvency and Bankruptcy Code, 2016 was one such step.
With the enactment of the IBC, there was an increase in the successful and speedy resolution of stressed assets. IBC revamped the previous legal infrastructure related to the liquidation, revival and rehabilitation of insolvent and bankrupt corporate entities. This also increased India’s ranking on the Ease of Doing Business Index. The anticipation grew around improved debt recovery and the Indian corporate bond market development. Increase in the confidence of the investors and their interest in the low-grade investments. The enactment of the Code aided in improving the business environment, including credit market, gross domestic product, foreign direct investment.[5]
However, high restrictions are imposed when it comes to contribution through foreign investments in the corporate bonds market. Under item 1 of Schedule 1 of the Foreign Exchange Management (Debt Instruments) Regulations, 2019[6]Foreign Portfolio Investors (FPI) are allowed to invest in the non-convertible debentures and bonds issued by an Indian Company. In 2015, such investments were made by FPI in corporate bonds with a minimum residual maturity of three years. Later, exemptions regarding minimum residual maturity and single/group investor-wise limits were only applicable to FPI investments made through debt instruments issued by Asset Reconstruction Companies debt instruments issued by an entity under the Corporate Insolvency Resolution Process as per the resolution plans under IBC. Such restrictions lead to a reduction in market space for corporate bonds when it comes to foreign investments. Foreign investors, who could have played a critical role in broadening and deepening the corporate debt market in India, were constrained by investment limits. In recent years, however, the investment limit for FPIs in the corporate bond has been enhanced along with a reduction in the requirement through FPIs are not fully utilising the enhanced limits due to limited liquidity in the market.[7]
However, on February 26 February 2021, RBI published a notification[8] providing for exemptions on investment of FPI in defaulted non-convertible debentures and corporate bonds, wholly or partly, in the repayment of principal on maturity or principal instalment in the case of amortising bond and included it under the definition of ‘exempted securities’ under RBI circular RBI/2017-18/199 for investment by FPI in debt. The notification removed such investments from the minimum residual maturity requirement and group/single investor limit.[9] The notification also provided for the requirement of disclosure by the FPI to the debenture trustees and the beneficial owners. The overall amount of investment is limited to Rs. 2443.23 billion as per the notification.
During the pandemic, there has been a considerable increase in liquidity in the global market. This notification provides an excellent opportunity for the FPI to use the excess liquidity to purchase the defaulted non-convertible debentures and corporate bonds without the interference of asset reconstruction companies and relying on the lengthy CIRP under the IBC and gives the FPI direct access to the corporate bond market. The notification also will play a huge role in the revival of the Indian economy through an increase in foreign currency inflow and foreign investments in the economy. It also provides the needful financial assistance required by the insolvent corporate entities and an exit for the existing debenture and bondholders. Thus, improving the debt recovery rates and revitalising the ailing Indian corporate bond market.
However, the notification still leaves a lot of room for interpretation regarding requirements and diligence. This reduces the FPI’s confidence in the legal framework regarding the new exemption. As the FPI has direct access to the corporate bond market, there is no interference by the asset reconstruction companies. There is no issuance of new interim finance by the insolvent entity; the duty falls on the FPI to assess the viability of the debt securities. When the debt instruments are issued via asset reconstruction companies, the process is governed by the Securitisation and Reconstruction of Financial Assets, and Enforcement of Securities Interest Act, 2002 and under the issuance of debt instruments are managed by the insolvency professionals under the Insolvency and Bankruptcy Code, 2016. As there are no specific and detailed requirements provided for the investment by FPI, it can create a lot of uncertainty regarding the enforcement of legal rights and the validity behind such debt securities. It is also tricky for the FPI to provide for a term offer to the debenture trustee when there is a lack of any disclosure on the part of the debenture trustee regarding the defaulted debt securities. Therefore, the law regulators need to provide requirements to protect the interest of the FPI to remove uncertainty.
Therefore, there is a need for proper disclosure on the part of the debenture trustees and beneficiaries for the nature of the defaulted non-convertible debentures and bonds. These debt instruments carry the rights and liabilities of the previous management of the entity, and during the process of insolvency, the entity is taken over by the new management. Therefore, the liabilities regarding the transfer of such defaulted debt instruments to the FPI need to be demarked clearly, and the role of the previous management should be clearly defined. The liability should rest on the insolvency professionals to execute such transfer of default debt instruments. This will not only increase the clarity in the law but also increase the confidence of the investors.
There is an urgent need for development in the corporate bond market, and investments through FPI can play a significant role in such development. In the light of the COVID-19 pandemic and increase in excess cash flow in the global market, this is the time for the Government of India to strategise and provide clarity in the law which will aid in the development of the Indian economy and provide the much-needed aid to the corporate entities suffering from insolvency and bankruptcy.
[1] The Insolvency and Bankruptcy Code, 2016, No. 31, Acts of Parliament, 2016 (India).
[2] Reserve Bank of India, Investment by Foreign Portfolio Investors (FPI) in Corporate Bonds, RBI/2020-21/105 (Notified on February 26, 2021) <Investment by FPI in Defaulted Bonds – Relaxation>
[3] Shromona Ganguly, India’s Corporate Bond Market: Issues in Market Microstructure, RBI Bulletin January 2019, 19, 24 (2019) <https://rbidocs.rbi.org.in/rdocs/Bulletin/PDFs/2ICBMIMM141CFFF458BB4B3A9F4C006F4AE4897F.PDF>.
[4] Ganguly, 21.
[5] Ankeeta Gupta, Insolvency and Bankruptcy Code, 2016: A Paradigm Shift within Insolvency Laws in India, 36 The Copenhagen Journal of Asian Studies, 75, 96 (2018).
[6] Reserve Bank of India, Investment by Foreign Portfolio Investors (FPI) in Debt – Review, RBI/2017-18/199 (Notified on June 15, 2018) < Transition path to adopt Regulations for Investment by FPI in Debts>.
[7] Ganguly, 19
[8] RBI/2020-21/105
[9] RBI/2020-21/105
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