Cross-Border Financing Report 2017: India

Cross-border financing in India can broadly be divided into four categories:

• Borrowings under the external commercial borrowings (ECB) route from eligible foreign lenders;

• Issuance of non-convertible debentures (NCDs) to foreign portfolio investors (FPIs) registered with the Securities and Exchange Board of India (Sebi);

• Offshore financing to subsidiaries and joint-ventures of Indian parties, guaranteed or secured by the Indian party or its group entities (ODI financing) and;

• Offshore financing to offshore shareholders of Indian companies secured by the shares of the Indian company (FDI financing).

Each of these is subject to regulations prescribed by the Reserve Bank of India (RBI) and also, in the case of NCDs and any financing secured by listed shares, Sebi.

International banks have been active in the ECB and offshore financing markets for a number of years. These have traditionally included European and American banks as well as (especially for ECBs) Japanese, Taiwanese, Australian and, more recently, Chinese banks. A number of them also have FPI entities which subscribe to NCDs.

As Indian banks are not permitted to provide acquisition financing, a number of acquisitions have been financed by NCDs subscribed to by FPIs and other domestic investors.

Similarly, since foreign-owned and controlled Indian companies are not permitted to access the Indian rupee (INR) debt market for domestic acquisitions, they have started to explore the NCD route for financing downstream acquisitions.

The market has witnessed the entry of various alternative credit providers such as mutual funds, distressed asset funds and credit desks of private equity houses.

In the banking sector, the RBI has amended its policy on universal banking licences by adopting an 'on tap' policy for eligible applicants, under which resident professionals with experience in banking are eligible to promote banks. Large industrial houses are not permitted to promote banks but may invest up to a prescribed threshold.

The RBI has also introduced the licensing of new categories of Small Finance Banks and Payments Banks with the object of furthering financial inclusion. Payments Banks are not permitted to lend, but can accept demand deposits up to prescribed limits and provide payment and remittance services. Small Finance Banks can undertake the basic banking activities of acceptance of deposits and lending to underserved sectors, including micro and small industries and the unorganised sector.

In one of the largest acquisition transactions in the Indian market, the Nirma group acquired the Indian cement assets of LafargeHolcim. Given the restriction on acquisition financing by Indian banks, the debt component was financed by mutual funds and other alternative credit providers through NCDs.

In another interesting transaction, various subsidiaries of ReNew Power Ventures Private Limited (ReNew Power) issued INR denominated bonds overseas (commonly referred to as Masala bonds). Each issuance was secured by Indian assets and guaranteed by ReNew Power and each other issuer. The Masala bonds were subscribed to by an offshore special purpose vehicle (SPV), which raised funds for the subscription by issuing US dollar bonds to global investors, which were in turn secured by the Masala bonds. This unique structure addressed the foreign investors' concerns relating to taking a pure INR risk, while enabling the Indian issuers to raise INR funding.

A few key trends have included an increase in financings being structured through NCDs as opposed to ECBs; the issuance of Masala bonds (but see paragraph 3.2 below); and widely syndicated deals being replaced by bilateral or club deals.

The Foreign Exchange (Management) Act 1999, is the umbrella legislation governing foreign exchange control, with the RBI as the main regulator governing, among other things, cross-border financings.

The Securities and Exchange Board of India Act 1992, is the umbrella legislation for the securities market, with Sebi as the main regulator governing, among other things, the issuance of listed debt securities, the registration and regulation of FPIs and takeovers of listed entities.

The market has seen some lender/investor friendly changes in the regulations, for example:

• Eligible start-ups are now permitted to avail ECBs up to a specified limit without an 'all-in-cost' cap, which otherwise applies to ECBs.

• FPIs are now permitted to invest in unlisted NCDs, subject to some end-use restrictions (previously they could invest only in listed NCDs except in the infrastructure sector).

• The benefit of certain special legislation for debt recovery and security enforcement, previously available only to Indian banks and certain financial institutions, is now extended to debenture trustees for listed debentures (and through them, FPI investors).

There have also been some instances of tightening regulatory norms, for example:

• FPIs can now only subscribe to NCDs with a remaining average maturity of three years at the time of investment, thus excluding them from the market for shorter tenor instruments.

• The issuance of Masala bonds now requires the approval of the RBI and has been made subject to additional conditions.

Amendments to the Companies Act 2013, (including in relation to the provision of guarantee and security) are currently being discussed in the Indian parliament.

The Indian government is also expected to review the working of the new Insolvency and Bankruptcy Code, 2016 (IBC), with a view to strengthening processes and timelines based on interpretational issues that have arisen.

The RBI has proposed draft regulations governing cross-border mergers, which will impact the structuring of acquisition finance deals involving debt pushdown through mergers.

The INR is not fully convertible and RBI imposes several restrictions on cross-border transactions, often prohibiting or regulating transactions that would be considered standard in developed markets. New foreign entrants to the Indian market are often not aware of the significant impact this can have on the structuring of cross-border financings.

Other than exchange control restrictions, another critical point is the impact of stamp duty. Stamp duty is payable on any agreement executed in India or brought to India after execution. The rate varies from state to state and in certain cases, such as the assignment of contractual rights, it can be prohibitively high. This can have a significant impact on transaction and security structuring.

Prior approval of the RBI is required for cross-border security except for security for ECBs, ODI financing and in some cases, FDI financing. Even in these cases (except for NCDs) security creation is subject to approval from authorised dealer banks and prescribed conditions.

Enforcement may be subject to restrictions as well. For example, immovable assets can only be sold to an Indian resident and pledged shares must be sold in compliance with relevant regulations (including foreign investment regulations and, for listed shares, takeover regulations).

Finally, any remittance pursuant to a judgment of a court requires prior RBI approval.

Given the highly regulated nature of the Indian cross-border financing market, it would be advisable for lenders to analyse the Indian regulatory impact on their structures at an early stage to avoid any last minute road blocks that may stall the transaction.

The key restrictions (most of which apply to security creation as well) are:

• if the guarantor is a public company, financial assistance restrictions apply;

• subject to certain exceptions, no guarantee can be provided by a company to or on behalf of: a private company in which a director of the guarantor (Director) is a director or a member; any firm in which a Director or its relative is a partner; a body corporate in which at least 25% of the voting rights is exercised by one or more Directors; or a body corporate, whose board or manager acts in accordance with the instructions of any Director.

• The guarantees must be within the limits prescribed under the Companies Act 2013, unless increased through a special resolution of the shareholders; and

• the guarantee will require prior approval of a public financial institution if the guarantor has taken any loans from it and either the amount of the guarantee exceeds the limits under Companies Act 2013 or the guarantor has defaulted under such loan.

• For cross-border guarantees, where:

(a) guarantees for offshore joint-ventures/wholly-owned subsidiaries are permitted subject to financial caps, equity holding and other specified requirements;

(b) guarantees for overseas holding companies require RBI approval;

(c) guarantees for any ECBs by an Indian company are subject to specified requirements and must be approved by an authorised dealer bank – ECBs cannot be guaranteed by banks or non-bank finance companies;

(d) NCDs can be guaranteed by parent/group companies/promoters of the issuer without regulatory approvals but not by banks; and

(e) necessary filings must be made.

The RBI prescribes various contractual mechanisms for restructuring of debts, which are available to and mandatory for Indian lenders. Overseas lenders and bondholders are not bound by such restructurings but neither do they have any role to play and, as a result, may find themselves excluded from the restructuring of a significant part of the borrower's debt.

The IBC provides a more unified approach. Any creditor (including foreign creditors) whose debt is under default can make an application to the National Company Law Tribunal (NCLT) to initiate an insolvency resolution process.

A few key considerations to note here are:

• if the petition is admitted, an automatic moratorium (of 180 days, extendable to 270 days) is imposed on any suits or claims against the company;

• while foreign creditors may initiate a resolution process, given that decision making is by a 75% vote (by value) of all financial creditors, they may have limited control given that the debt profile of Indian borrowers is typically skewed in favour of domestic debt;

• as with other jurisdictions, the IBC provides for avoidance of certain preferential transactions, transactions at an undervalue, extortionate credit transactions and certain floating charges, in each case, within specified hardening periods.

Foreign investments in corporate debt instruments (which include NCDs and Masala bonds) is capped at an aggregate of $51 billion.

In addition, there are limits on raising of ECBs by a borrower (ranging between $100 million to $750 million, depending on the industry sector the borrower is in) and any ECB in excess of such limit requires approval of the RBI. These limits are monitored through mechanisms prescribed by the RBI and Sebi.

Indian banks are burdened with high levels of non-performing debt, with estimates varying between 7.5% to over 9% of total gross loans. While macroeconomic factors and questionable credit assessment have been major causes, debtor-friendly courts, long resolution periods and low recovery rates and have only compounded the problem.

Domestic lenders have in the past typically contractually restructured their debt under the RBI's schemes mentioned in paragraph 5.2 above, as these provide them provisioning benefits. Another method has been to sell NPLs to asset reconstruction companies at a discount under special legislation. However, these methods have shown limited success in the revival of stressed assets or in providing a broader solution to systemic issues. The IBC is a new legislation with its own share of teething problems, but is clearly a step in the right direction to addressing this issue.

Acquisition finance (primarily led by private equity houses) through both offshore financing and NCDs is expected to continue and increase in volume. With the increased level of non-performing assets in the Indian banking system, more activity can be expected in the distressed debt space as well. Lastly, alternative credit providers such as stressed asset funds and the credit desks of private equity houses are expected to play a prominent role in the financing market. Legal practitioners will need to be aware of the issues and considerations that are relevant to these new financiers, which may often be different from the traditional players in the market.

About the author
		Sonali Mahapatra Partner, Talwar Thakore & Associates Mumbai, India T: +91 226 613 6988 F: +91 226 613 6901 E: sonali.mahapatra@tta.in Sonali Mahapatra is a partner in the firm and a specialist in banking and finance with wide experience in Indian and international financings. She also advises a number of investors for their infrastructure investments in India. Her experience includes advising on acquisition finance, project and asset finance and structured finance. She has advised on a number of leading financing transactions.

About the author
		Rituparno Bhattacharya Partner, Talwar Thakore & Associates Mumbai, India T: +91 226 613 6936 F: +91 226 613 6901 E: rituparno.bhattacharya@tta.in Rituparno Bhattacharya is a partner in the firm and an experienced practitioner in banking and finance. He has worked for international and domestic institutions on several structured finance, acquisition finance, asset finance and trade finance transactions.

About the author
		Nidhi Rani Managing associate, Talwar Thakore & Associates Mumbai, India T: +91 226 613 6947 F: +91 226 613 6901 E: nidhi.rani@tta.in Nidhi Rani is a managing associate with the firm specialising in the banking and finance space and has advised several international as well as domestic lenders.