INDIA BUSINESS WORLD - MAY - JUNE 2007
The Month that was ...

EXTERNAL COMMERCIAL BORROWINGS NORMS TIGHTENED

Hit by the sustained price rise in the economy, the government took steps to restrict the flow of foreign funds into the country by tightening norms to raise debt abroad. While smaller companies will find it difficult to raise loans under the new norms, the window for foreign borrowings will now be completely shut for real estate companies.

The changed guidelines for external commercial borrowings (ECB) have lowered the cap on interest rates at which the companies can raise loans abroad. Every year, the government fixes the maximum interest rate at which a company can raise credit overseas. The interest rate ceilings have been lowered from 200 basis points (bps) above Libor to 150 bps above Libor for loans with a 3 5 year maturity. For debt with a maturity exceeding five years, the ceiling has been lowered from 350 bps above Libor to 250 bps above Libor. The new ceilings will be applicable to companies raising debt under the automatic route as well as those raising it under the approval route.

Companies with poorer balance sheets or low credit rating may find it difficult to raise debt at lower interest rates. Normally, companies having a sound financial track record can avail cheap credit. The move to lower the cap will thus weed out smaller companies that accounted for almost 50% of the total debt raised during April December 2006. And that is not all. The real estate sector, which has seen foreign inflows of about $1 billion in 2006 07, will now have to depend solely on the domestic debt market to meet its requirements. The new guidelines have barred realty companies from raising debt in overseas markets for the development of integrated townships. Till date, the government had allowed real estate companies to raise foreign funds for integrated townships developed on a minimum of 100 acres. The government's move comes on the heels of RBI's measures to curb credit flows to the sector following apprehensions of overheating that could derail the economy.

"It is a clear indication that the government is not in favour of money flowing into the sector," added Mr Dhama. The government, has been concerned about the rising inflation and has been taking steps to check excessive foreign fund flow into the economy. An excessive inflow of dollars exerts pressure on the domestic money supply. This is because the dollars are absorbed by the RBI, which then releases rupees of an equivalent amount into the system, thereby increasing money supply and pushing up demand.

Funds raised through ECBs in 2006 07 have crossed the $22 billion mark, an internal cap fixed by the government for the previous fiscal. "In the last couple of months, there has been a very heavy inflow of foreign funds. By tightening end use norms and lowering the interest rate ceiling, the government is trying to ease the liquidity pressures in the economy. Now, only companies with high credit rating will be able to tap the overseas market.

Rising domestic interest rates have encouraged companies to opt for ECBs. The difference in the rates offered by local banks and international lenders is as high as 3% to 4% excluding the forward cover cost.