External Commercial Borrowings: Simple Guidelines well received by Corporate India

External Commercial Borrowings: Simple Guidelines well received by Corporate India

27 April 2020 • Kirti Arora and Shalini Chauhan

According to the data published by the RBI, total loans raised by the eligible borrowers through external commercial borrowings (ECB) has increased significantly over last two years. The ECB has been raised under both, automatic as well as approval route. The RBI regulates ECB by specifying parameters, such as eligible borrowers and lenders, permitted end use, minimum average maturity period, maximum all-in-cost ceiling, etc.

External Commercial Borrowings are commercial loans raised by eligible resident entities from recognised non-resident entities. ECB can be raised in any freely convertible currency as well as in INR.

The Reserve Bank of India (RBI) has now reframed its provisions and have introduced new guidelines with a liberalized outlook which have made the whole procedure and criteria associated with raising loan from foreign sources much simpler and convenient.

Inception

Initially, the borrowing and lending between a person resident in India and a person outside India were regulated vide following regulations:

• Foreign Exchange Management (Borrowing and Lending in Foreign Exchange) Regulations, 2000
• Foreign Exchange Management (Borrowing and Lending in Rupees) Regulations, 2000

Thereafter, RBI introduced Foreign Exchange Management (Borrowing and Lending) Regulations, 2018 on 17^th December, 2018, subsuming the above two regulations and introduced new ECB Framework vide A.P. (DIR Series) Circular No. 17 dated 16^th January, 2019.

New ECB Framework

Under the aforesaid framework, all eligible borrowers can raise ECB up to USD 750 million or equivalent per financial year under the automatic route. Eligible borrowers include all the entities who are eligible to receive foreign direct investment. RBI has reduced the minimum tenure for borrowing through the ECB route to three years from five years. The new ECB framework has brought several amendments in order to liberalise the norms and to facilitate ease of doing business. Some of the key changes introduced under new framework are listed below:

• • Merging of Tracks: Under the old regime, ECBs were classified in three tracks viz Track I (medium-term foreign currency denominated ECB), Track II (long-term foreign currency denominated ECB) and Track III (INR denominated ECB). The new framework has only two categories i.e. Foreign Currency Denominated ECB and Indian Rupee Denominated ECB by making it simpler to understand.M/p>

  • Eligible Borrowers: The new framework has simplified the definition of eligible borrowers by expanding it to include all the entities who are eligible to receive foreign direct investment (“FDI”).

    Moreover, Port Trusts, Units in SEZ, SIDBI, EXIM Bank, registered entities engaged in micro-finance activities, viz., registered not for profit companies, registered societies/trusts/cooperatives and non-government organisations can also raise ECB under this framework.

    Food for Thought: Whether Limited Liability Partnership (LLP) is eligible to receive FDI?

  • Recognized Lender: As against the old ECB framework (which defined recognised lenders for each track), new regime provides only one condition to be a recognized lender i.e. the lender should be resident of a Financial Action Task Force (“FATF”) or International Organisation of Securities Commissions (“IOSCO”) compliant country;

• End Use: The new ECB framework provides negative list for end use of ECB proceeds which are as follows:

  1. Real estate activities;
  2. Investment in capital markets;
  3. Equity investment;
  4. Working capital purposes, except from foreign equity holders;
  5. General corporate purposes, except from foreign equity holders;
  6. Repayment of Rupee loans, except from foreign equity holders; and
  7. On-lending to entities for the above activities

• Minimum Average Maturity Period (MAMP): In track based ECB guidelines, the MAMP was defined separately for each track. However, existing framework prescribes a uniform MAMP of 3 years for all types of ECBs.

  However, ECB raised from foreign equity holder for specific purpose and by Manufacturing Sector Companies up to USD50 million or equivalent per financial year can have different MAMP.

Apart from above mentioned key changes, some other amendments introduced via new guidelines are as follows:

• Single form ECB has been introduced for obtaining Loan Request Number (LRN) under both automatic and approval route which has subsumed the Form ECB (for obtaining LRN under approval route) and Form 83 (for obtaining LRN under automatic route) of old regime.

• The new framework includes a provision that an entity which is subject to a restructuring scheme or a corporate insolvency resolution process can raise ECBs only if it is specifically permitted to do so under its resolution plan. This is consistent with the recent changes under insolvency laws in India.

• Late Submission Fees (LSF) shall be imposed for delay in submission of ECB returns in Form ECB 2.

• Infrastructure space companies* who are raising FCY denominated ECBs are required to have a board approved risk management policy and are required to mandatorily hedge 70% of their ECBs (in comparison to 100% under old regime) where the average maturity is less than five years.

  *Infrastructure Space Companies includes companies in the infrastructure sector, Non-Banking Finance Companies undertaking infrastructure financing, Holding Companies/ Core Investment Companies undertaking infrastructure financing, Housing Finance Companies regulated by National Housing Bank and Port Trusts (constituted under the Major Port Trusts Act, 1963 or Indian Ports Act, 1908).

Question & Answers:

Now, let’s discuss some of the questions related to ECB which generally troubles the borrowers;

1. 1. Can ECB be raised to meet working capital requirements of the Company?

      The guideline prohibits raising of ECB by Companies for general corporate purpose and working capital requirement. However, an exemption is provided if ECB is raised from foreign equity holders. Hence, the Companies can raise ECB for general corporate purposes and working capital requirement only from foreign equity holder provided that the ECB should have minimum average maturity period of 5 years.

1. 1. Does the all-in cost include pre-payment or penal charges?

      The ECB guidelines provide for all-in-cost ceiling per annum, which is benchmark rate plus 450 bps spread. The RBI has provided an inclusive definition of all-in cost which includes rate of interest, other fees, expenses, charges, guarantee fees, ECA charges exclusive of commitment fees and withholding tax payable. Hence, it does not include penal or pre-payment charges.

1. 1. Can penal interest of more than 2% be charged?

      The guidelines specifically provide that the penal charges or pre-payment charges, if any, for default or breach of covenants, should not be more than 2% over and above the contracted rate of interest on the outstanding principal amount.

      Hence, prior approval of RBI shall be required in case if more than 2% penal interest is charged.

1. 1. Is there any timeline for conversion of ECB into equity?

      ECB can be converted into equity shares at any point of time even after 1 or 2 days after complying with the necessary compliance in this regard.

1. 1. Can a company engaged in the business of manufacturing raise ECBs?

      Since the definition of Eligible borrowers includes all entities who are eligible to receive the Foreign Direct Investment (FDI), it can be inferred that a manufacturing company meeting the criteria, can also raise ECBs.

1. 1. Can a Limited Liability Partnership (LLP) raise ECBs?

      This is a debatable question as no clarity is given under the guidelines, hence this question is open for interpretation.

      There are two terms which are defined under Foreign Exchange Management (Non-Debt Instrument) Rules, 2019 i.e. Foreign Direct Investment and Foreign Investment. Before answering the question, it is important to understand the meaning of two terms.

      • Foreign Direct Investment: An investment made by a person resident outside India in the equity instruments of an unlisted Indian Company or of listed Indian Company

      • Foreign Investment: An investment made by a person resident outside India on repatriable basis in equity instruments of an Indian Company or to the capital of a LLP.

      Hence, it can be construed that all foreign direct investment can be deemed as foreign investment but all foreign investment cannot be considered as foreign direct investment.

      Therefore, investment made by a person resident outside India by way of capital contribution in LLP shall be considered as “foreign investment” not FDI.

      Since, entities who are eligible to receive FDI can raise ECB, can it be construed that LLP is not eligible to raise ECB?

1. 1. Can ECB be raised from an individual?

      Individual as a recognised lender is permitted only if he is foreign equity holder of the Company i.e. directly holding at least 25% holding in the borrowing company or indirectly holding at least 51% of the holding of the borrowing company. However, he/she should also comply with the primary condition i.e. resident of FATF or IOSCO compliant country.

1. 1. Can a Company raise ECB from non-equity holders?

      The guidelines prescribe only one condition i.e. the lender must be a resident of FATF or IOSCO compliant country. Hence, the Company can raise ECB from non-equity holders as well provided that they must be a resident of FATF or IOSCO compliant country. However, note that the non-equity holder should not be an individual. (Individual as lender is allowed onlyin above mentioned case)

1. 1. Does proceeds from the ECBs be used for making the interest payments?

      Payment of interest or fees are part of working capital requirement. Therefore, since, the working capital requirement (though exemption is provided in some cases) falls under the negative list of end uses, ECB proceeds cannot be used for making the interest or fees payments and the same shall be borne by the borrower without taking recourse from the lender.

1. 1. Can ECB be raised for on-lending purpose?

      ECB for on-lending purpose is covered under the negative list of end uses, hence ECB cannot be raised for general corporate, on-lending and investing purpose. However, Non-Banking Financial Companies who are engaged in the business of on-lending are permitted to raise ECB for such purpose provided they must adhere to the guidelines issued by the concerned sectoral or prudential regulator.

Important Links for the reader:

1. 1. Master Direction – External Commercial Borrowings, Trade Credits and Structured Obligations
2. 2. FAQ’s on External Commercial Borrowings (ECB) and Trade Credit