Recognizing that infrastructure is the bone marrow of any economy, the Indian government has budgeted approximately US$90 billion towards the infrastructure sector for the fiscal year 2018-19. This sector, however, has some of the biggest stressed assets. The fate of several infrastructure companies will be decided in the coming weeks.
The Reserve Bank of India (RBI) had issued a circular on 12 February to revamp the restructuring framework for stressed assets. The circular set a 180-day deadline from 1 March for restructuring of stressed assets where the aggregate exposure is ₹20 billion (US$285 million) or more, failing which banks must initiate the corporate insolvency resolution process (CIRP) under the Insolvency and Bankruptcy Code, 2016 (IBC). Unless this deadline is postponed, several infrastructure companies will enter the CIRP soon. This is in addition to the telecom, road project and engineering, procurement and construction companies which are already in or on their way into the CIRP.
While introduction of the IBC has improved investor sentiment and led to speedier recoveries, for any effective rescue operation potential bidders must have adequate sources of funding available to take over and restructure these infrastructure assets. Given that debt is often the preferred mode for financing infrastructure projects due to their long gestation periods, the current legal and regulatory framework needs to be revisited to ensure that bidders have sufficient and viable methods of raising debt financing.
Typically, in the IBC context, a potential acquirer will set up a special purpose vehicle (SPV), which will acquire the promoters’ shares at a nominal value. The SPV will either acquire the target’s debt from lenders or infuse funds into the target to repay the debt, as per the terms approved in the resolution plan. Any such infusion may be a combination of equity, quasi-equity and subordinate debt.
The only domestic sources for such financing are banks, non-banking financial companies (NBFCs) and alternative investment funds (AIFs).
Given that the end-use of funds for such situations is on-lending or onward equity investment for refinancing the target’s debt, banks have inhibitions. Although the RBI has not specifically restricted bank lending for on-lending, some bankers may view it as non-permissible. Further, while the RBI has allowed bank finance for acquisition of troubled companies by “a specialized” entity exclusively set up for taking over and turning around “troubled companies”, and promoted by persons having professional expertise in such turnarounds, this may not enable financing to a strategic or financial investor and may not permit banks to lend for on-lending, as discussed above. It is also unclear whether banks that are lenders of the target, and that have classified their loans as non-performing assets, will be permitted to finance the potential acquirer as part of a resolution plan approved under the CIRP.
While NBFCs are subject to minimal regulatory restrictions on end-use, they face challenges with regards to borrower limits, and the higher cost of financing from NBFCs may not be palatable to many acquirers. AIFs have quantitative restrictions, under Securities and Exchange Board of India regulations as well as their fund documents, which preclude their active participation.
Further, while abundant pools of capital available overseas could be deployed, the frameworks for external commercial borrowing (ECB) and non-convertible debentures (NCDs) may not be conducive for this purpose. ECBs cannot be used for equity investment and unless they are raised from an equity holder, they cannot be used for repayment of rupee debt or be on-lent to repay rupee debt. Raising debt through NCDs is subject to recently introduced concentration limits and limits for single or group foreign portfolio investors.
Exchange control makes it hard for foreign acquirers to raise debt overseas to acquire and repay target-level debts as such overseas debt cannot be secured by the target’s shares. If they want to set up an SPV for the acquisition, they need government approval under the foreign direct investment regulations, which may be time consuming and is not guaranteed. Further, such an SPV cannot raise debt from the domestic market for acquisition of the target’s shares.
Given the thrust on using the IBC for resolving stressed assets, the RBI must consider removing the regulatory hurdles outlined above to open avenues for debt funding locally and from foreign sources. The larger the pool of funds available for this process, the greater will be the IBC’s success ratio.
Aashit Shah and Utsav Johri are partners in the Mumbai office of J. Sagar Associates. Views are personal.
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