To deepen the Indian corporate bond market and broaden the sources of funding available to Indian borrowers, the 2016-17 budget announced that foreign portfolio investors (FPIs) would be allowed to invest in unlisted debt securities and securities issued by securitization special purpose vehicles. Although it was expected that the Reserve Bank of India (RBI) and the Securities and Exchange Board of India (SEBI) would soon issue directions to implement this measure, progress on this has been limited. While the RBI regulates the entry of foreign exchange in India, SEBI regulates the licensing and functioning of FPIs (including the nature of investments an FPI is permitted to make in India).
The RBI placed on its website for public comments in May 2016 a draft circular on investment by FPIs in unlisted debt securities and securitization instruments. The draft circular permitted FPIs to invest only in debt securities issued by “public companies”, and restricted the use of proceeds for real estate activities, purchase of land, capital market investment or on-lending to other entities. Compliance with these conditions would have to be ensured by custodian banks of FPIs on the basis of an undertaking from the issuer.
The draft circular also permitted FPIs to invest in any certificate or instrument issued by a special purpose vehicle established for securitization of assets originated by banks or non-banking financial companies, and any certificate or instrument issued and listed in terms of SEBI’s regulations.
The issuance of the draft circular was followed by silence, with no further action until October 2016, when a gazette notification amended the relevant foreign exchange regulations to allow FPIs to invest in unlisted corporate debt securities and securitization instruments. However, the consequent issuance of directions by the RBI on the mechanics of such investment by FPIs, and an amendment to the SEBI FPI regulations permitting such investments by FPIs, were also required.
The RBI issued a circular on 17 November detailing the mechanics of investment by FPIs in unlisted corporate debt and securitization instruments. While largely in line with the draft circular, the final circular made some welcome departures.
While the draft circular only contemplated investment in unlisted corporate debt securities issued by public companies, the final circular allows FPIs to invest in corporate debt issued by both private and public companies. The final circular also contains a prescription similar to the draft circular on custodian banks of FPIs ensuring compliance, but does not contain the requirement to do so on the basis of an undertaking from the issuer.
The restriction on end-use of the proceeds in the draft circular is also present in the final circular. This restriction is the same as the one on the use of funds raised through the overseas issuance of rupee denominated bonds, thereby ensuring regulatory consistency.
The prescription in the final circular on investment by FPIs in securitization instruments is the same as that in the draft circular, with the addition of a waiver of the minimum three-year maturity period applicable to corporate debt issued to FPIs. This waiver is welcome as the underlying assets of securitization instruments are often receivables with a maturity of less than three years.
As for SEBI, its board meeting of 23 November decided that FPIs were allowed to invest in unlisted corporate debt securities and securitized debt instruments. These changes, which the board has approved, are to be implemented through a separate amendment to the SEBI FPI regulations.
As listing of debt securities makes an Indian company a “listed company”” (even if its equity shares are unlisted), allowing FPIs to invest in unlisted corporate debt and securitization instruments would significantly ease the pressure created by compliance with listing-related obligations – particularly for borrowers in small and medium-sized sectors. As things stand, the amendment of the SEBI FPI regulations is all that remains to complete the trifecta that will allow FPIs to invest in unlisted corporate debt and securitization instruments.
Intriguingly, although expected to be simpler than the RBI’s final circular, the amendment to the SEBI FPI regulations is still pending, with no clear timeline on its issuance. As the 2017-18 budget has already been presented, one hopes that the SEBI amendment is notified soon, thereby implementing a measure announced in the previous budget. In the interim, both Indian companies and FPIs wait with bated breath to finalize their fund-raising and investment plans.
Sawant Singh is a partner and Aditya Bhargava is a principal associate at the Mumbai office of Phoenix Legal.
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