Forex fundraising

I. INTRODUCTION

There are two ways in which a corporate can raise funds in international markets:

a. External commercial borrowings
b. Euro issues.

The regulations governing raising funds abroad under the above two schemes are outlined.

II. DECISION OF BORROW ABROAD

The major advantages that accrue from availing a foreign currency loan are:

a. lower interest rate
b. freedom from exchange risk and
c. non-encumbrance on assets

In raising a foreign currency loan, the prospective borrower should keep verify that these advantages are available to him.

First, the foreign currency loan is offered in the international markets frequently against the guarantee from a bank. Therefore the borrower should add against the guarantee fee payable by him to his bank to the cost of raising the foreign currency loan. The interest rate the guarantee commission and other incidental costs should aggregate to less than the cost of funds in the domestic market.

Secondly, the exchange loss on conversion can be avoided provided the purpose for which the loan is raised can be paid for in the currency of the loan and the source of repayment is also in the same currency. For instance, the loan is raised to pay in dollars for raw materials imported and export proceeds are also received in US dollars. If the sources of repayment are in a currency other than the currency of loan, the borrower will be facing exchange risk. Forward cover may arrange, but this should be added to the cost of borrowing. Further, hedging exposures for longer periods is costly.

The third advantage is that since specific assets are usually not charged for funds raised abroad, the borrowing capacity in the domestic company is not affected.

The above factors should help the borrower decide whether to go for external borrowings or not. If he decides to avail the loan, the various aspects of the specific loan should be considered to make if more economical:

i. The period of repayment should synchronize with the cash accruals of the borrower. Loans for longer periods may be preferred. But in any case, the repayment cannot exceed 10 years.
ii. The interest should be on a floating rate basis, rather than fixed throughout the period of loans. This will give him the leverage to benefiting from fall in interest rates.
iii. Where the currency of loan and the currency of source of repayment are different, the loan agreement may be made to include a currency option. Even otherwise, the currency option may give a chance to the borrower to take advantage of exchange rate movements.

III. EXTERNAL COMMERCIAL BORROWINGS

Generally the external commercial borrowings refer to borrowings by the business community from foreign sources. The government announces the policy of external commercial borrowings for the country as a part of prudent debt management.

External commercial borrowings are defined to include commercial bank loans, buyers, credit, and supplier’s credit, securitized instruments such as floating rate notes, and fixed rate bonds, credit from official export credit agencies and commercial borrowings from the private sector window of multilateral financial institutions.

Features of the policy

The following are the salient features of the policy:

1. Approvals – For proposals falling under the USD 5 million schemes or USD 10 million schemes, approvals will be granted. Other proposals should be approved by the ECB division. Department of economic affairs, ministry of finance.
2. Average maturities – The minimum average maturity period prescribed is as follows:
i. Loan amount not exceeding USD 20 million – 3 years
ii. Loan amount exceeding USD 20 million 100% EOU units 3 years and others 5 years.
Bonds and floating rate note (FRN) can be raised in tranches of different maturities as long as the average maturity of the different tranches within the same overall approval satisfies the maturity criteria.
3. Foreign exchange earners – Corporates who have foreign exchange earnings are permitted to raise external commercial borrowings up to thrice the average amount of annual exports during the previous three years subject to a maximum of USD 100 million without end use restrictions.
4. Infrastructure projects – Holding companies/promoters will be permitted to raise external commercial borrowings up to USD 50 million to finance equity investment in a subsidiary/joint venture company implementing infrastructure projects. The following sectors qualify as infrastructure sectors: (a) power (b) telecommunication (c) railways (d) roads including bridges (e) ports (f) industrial parks (g) urban infrastructure – water supply, sanitation and sewage projects.
5. Long term borrowers - External commercial borrowings of eight years and above of average maturity will be outside external commercial borrowings ceiling, though ministry of finance approval would continue to be necessary. To be eligible for this purpose, the long term debt instrument should not include and put or call options potentially reducing the stated maturities. Development financial institutions can raise funds under this window in addition to their normal annual allocated covered by the cap. Borrowing under the long term window should not be used to enhance the average maturity of borrowings under normal window. If they are combined, then the entire borrowings will fall under the cap. Corporates may raise these borrowings either through floating rate note/bond issues/syndicated loans etc., as long as the maturity and interest spread are maintained as per the guidelines.
6. On lending by Development Financial Institutions and other financial intermediaries.
7. End use requirements
8. Proceeds from bonds, Floating rate notes and syndicated loan
9. External commercial borrowings entitlement for new projects.
10. Structural obligations
11. Other terms and conditions
12. Validity of approval
13. Prepayment of External commercial borrowings
14. Refinancing the existing foreign currency loan.
15. cost of borrowing

IV. PROCEDURE FOR AVAILMENT

The procedural aspects of availing External commercial borrowings are covered under the foreign exchange management regulations. It provides:

a. A resident may borrow from a bank situated outside, for execution outside of a turnkey project or civil construction contract or in connection with exports on deferred payment terms, provides the terms and conditions stipulated by the authority which has granted the approval to the project or contract or export.
b. An importer may for import of goods, avail of foreign currency credit for a period not exceeding six months extended by the overseas supplier of goods, provided the import is in compliance with the export import policy of the government in force.