Debolina Banerjee

RBI permits overseas lender to lend in Indian Rupees- great boost to External Commercial Borrowing

Background – The winds of change are blowing across the External Commercial Borrowings (ECB) guidelines issued by Reserve Bank of India (RBI). A series of changes were brought about by RBI in this segment in recent times, to ensure that the India Inc. do not fall short of funds. RBI allowed for repayment of rupee loans by availing of ECB in certain sectors and also permitted refinancing of existing ECB by raising fresh ECB at lower all-in-cost but subject to the condition that outstanding maturity of the original loan  is not reduced. Some of them are enlisted hereunder:

  • RBI vide RBI/2013-14/585 A.P. (DIR Series) Circular No.129[1] dated 9th May, 2014 have specified that for the purpose of refinance / repayment of the Rupee loans raised from the domestic banking system in respect of spectrum allocation, repayment of existing Rupee loans for companies in infrastructure sector and Repayment of Rupee loans, eligible Indian companies will not be permitted to raise ECB from overseas branches/ subsidiaries of Indian banks.
  • RBI vide RBI/2013-14/584 A.P. (DIR Series) Circular No. 128[2]  dated 9th May, 2014 had delegated powers to Authorised Dealer Bank (Category –  I) to allow re-scheduling of ECB due to changes in draw-down schedule and / or repayment schedule.

Another major change was witnessed on 3rd September, 2014 wherein RBI vide RBI/2014-15/207 A.P. (DIR Series) Circular No.25[3] relaxed the ECB norms for overseas lenders by allowing them to extend loans in Indian currency.

A brief overview on the same is capsulated below to deduce the impact of the noted change on the overseas lender.

The Present Circular

RBI vide RBI/2011-12/201 A.P. (DIR Series) Circular No. 27 Para 2(ii)(a)[4] dated 23rd September, 2011 advocated that all eligible borrowers can avail of ECBs in Indian rupees from foreign equity holders (FEH) under the automatic/ approval route, as the case may be, as per the extant ECB guidelines. NGOs engaged in microfinance activities were also permitted to avail of ECBs designated in INR, under the automatic route, from overseas organisations and individuals as per the extant ECB guidelines.

This has been taken a step forward by RBI to ensure greater operational flexibility for external commercial borrowings arrangements by allowing recognized non- resident ECB lenders to extend loans in Indian Rupees vide RBI/2014-15/207 A.P. (DIR Series) Circular No.25 dated 3rd September, 2014 (the Circular) subject to fulfillment of conditions specified therein.

Hence the overseas lender shall lend in Indian rupees ensuring that the all-in-cost commensurate with at the prevailing market conditions i.e. at the rate around 12% – 12.5%. Further such lending shall be undertaken through currency swaps with an Authorised Dealer Bank (Category – I) in India. The lender may either execute such currency swaps overseas or through setting up a representative office in India.

However RBI has clarified that the hedging arrangement for ECBs by non-resident equity-holders shall continue as per the earlier provisions issued by RBI vide [5]RBI/2011-12/326 A. P. (DIR Series) Circular No.63 dated 29th December, 2011. The tabular representation below explains the provisions in brief.

Hedging Options for non-residents

The Overseas lender can consider hedging the foreign exchange risk by entering into currency swap either overseas, or with some Indian banks or with the representative office set up in India. The Circular will significantly give rise to the instruments which the non- resident lender can use to specifically reduce and or minimize the risk in the investment; popularly known as “hedging”. The non- resident lender may use any of the following products to reduce the risk exposure in the market:

a)     Forward foreign exchange contracts with INR as one of the currencies:-

Forward contracts determine a fixed amount of foreign currency on a future maturity date at a pre determined exchange rate. Such contracts are tailor made and can be written for any amount and term.

Advantages to the foreign lender:

·         By entering into such contractual obligation, the non- resident lender will be in a position to hedge the currency risk as foreign exchange costs are determined upfront.

·         Further such contracts are designed in a way to match the lender’s cash flow.

b)     Foreign currency – INR swaps:

This involves the exchange of both the principal and the interest in foreign currency for the same in Indian rupee. Such exchange is done at market lending rates and is usually the same for both at starting of the contract and its maturity. Such swaps can be undertaken by the lender either overseas or with Indian bank or with some representatives in India.

Advantages to the foreign lender:

·         This shall enable the foreign lender to shield against the interest rate exposure by reducing the uncertainty of future cash flows.

·         It will also help the lender to take advantage of the expected future market conditions and thus it is a financial tool to lower the amount needed to service the debt.

·         The foreign lender shall also be protected from the currency fluctuations which often occur in the exchange market.

Conclusion – The ECB denominated in rupee from the recognized non-resident ECB lenders other than no-resident equity shareholders is surely a welcome move as this will eliminate the currency risk for a foreign lender, while retaining the interest benefit for corporate. Although this process is going to prove expensive for non- resident lenders as they would have to enter into swaps with banks in India, this would however be a positive move for Indian borrowers seeking ECBs. However it will be worthwhile to note if the rates offered by banks would be in line with all-in cost of ECB in foreign currency. The current all-in-cost ceiling for ECB is as under:

Average Maturity Period All-in-cost Ceilings over 6 month LIBOR*
Three years and up to five years 350 basis points
More than five years 500 basis points

* for the respective currency of borrowing or applicable benchmark

Having said all, this will certainly result in cheaper funding options for Indian corporates, and eventually, would lead to higher capital in-flows. The end-use restrictions will continue to remain. Indian banks will surely witness competition.

[The above post is contributed by Debolina Banerjee at Vinod Kothari & Co. She can be contacted at mt@vinodkothari.com ]

[1] http://rbi.org.in/Scripts/NotificationUser.aspx?Id=8871&Mode=0
[2] http://www.rbi.org.in/scripts/BS_CircularIndexDisplay.aspx?Id=8870
[3] http://www.rbi.org.in/scripts/NotificationUser.aspx?Id=9210&Mode=0
[4] http://rbi.org.in/Scripts/NotificationUser.aspx?Id=6733&Mode=0
[5] http://www.rbi.org.in/scripts/NotificationUser.aspx?Id=6907&Mode=0

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