FPI investment in unlisted corporate bonds: Are we there yet?
In a potential move to encourage further foreign investment into the debt markets, the Reserve Bank of India (“RBI”), released draft circular on May 16, 2016 (“Draft Circular”)1 proposing to expand the basket of permissible instruments for Foreign Portfolio Investors (“FPI”) to include unlisted debt securities as well.
Foreign institutional investors (“FII”), under the earlier FII regime were permitted to invest in listed non-convertible debentures (“NCD”) issued by Indian corporates. This restricted the ability of FIIs to invest in primary issuances of NCDs, and warehousing of NCDs till the listing of the NCD was done on a stock exchange became common parlance. Realizing this administrative hurdle, the restriction was relaxed in 2012, when the RBI permitted FII investment into NCDs which were listed or to be listed. The issuing company was provided a limited timeframe of 15 days from the date of issuance to an FII, within which the NCD would require to be listed.
This permitted FIIs to invest in primary issuances as well. The same framework was carried forward to the FPI regime as well. Accordingly, the current regulatory framework permits FPIs to invest in listed or to be listed NCDs. An exemption to this restriction was the infrastructure sector, where FPIs were permitted to invest in unlisted NCDs as well.
In his budget speech for 2016-17, the Finance Minister announced the Government’s intention of permitting FPI investment in, among other instruments, unlisted debt securities, as a measure to deepen the corporate bond market.
In furtherance of the intent of the government, the RBI has released the Draft Circular for public comments.
The Draft Circular has proposed to make the following changes in relation to the bond market:
At a time when both RBI and the securities regulator, Securities and Exchange Board of India (“SEBI”) shall re-look at the existing framework for FPI investment in NCDs, it may be pertinent to reconsider the lock-in restriction that was imposed by RBI and SEBI in early 2015. Under the revised framework, FPIs, going forward were permitted to invest only in corporate bonds with a minimum residual maturity of 3 years6. Further, the residual maturity of the NCD when acquired by an FPI is reset upon a secondary acquisition, which has been restricting the ability of the FPI to acquire the NCD, and of the ability of the borrower company to redeem such NCDs.
Such restrictions have proven to be dampening for investment in corporate bonds by FPIs. This is evident from the fact that investment in debt securities by FPIs (and foreign institutional investors, as applicable at the time) in the calendar year 2014 was INR 1,59,156 crores, while in 2015 it was a mere INR 45,857 crores.
While it would be ideal for RBI and SEBI to do away the restrictions altogether, and allow the parties to determine their commercial terms on their own accord, it would be extremely beneficial if the 3 year maturity be looked at from the perspective of the instrument only, and not from the perspective of the holder, i.e. the 3 year residual maturity period is not reset upon a secondary acquisition of such NCD by an FPI.
While the Draft Circular seeks to give effect to the intent of the government, there are certain aspects which may need to be clarified, as mentioned above. For this to be the law, in addition to the RBI’s final circular, the TISPRO Regulations shall also be required to be amended. Additionally, appropriate amendments would also have to be made by SEBI to permit such investments.
– Amudavalli Kannan, Abhinav Harlalka & Karan Kalra
You can direct your queries or comments to the authors
1 Available at https://rbidocs.rbi.org.in/rdocs/Content/PDFs/FPI1605201629A9A03D52684A4E87135F6E42D068A3.PDF
2 ‘listed non-convertible debentures/bonds issued by an Indian company’
3 ‘with effect from March 1,2012, primary issues of non-convertible debentures/bonds provided such non-convertible debentures/bonds are committed to be listed within 15 days of such investment..’
4 Foreign Exchange Management (Transfer or issue of security by person resident outside India) Regulations, 2000, being FEMA 20/2000-RB, dated 3-5-2000 [GSR 406(E), dated 3-5-2000]
5 Foreign Exchange Management (Borrowing or Lending in Foreign Exchange) Regulations, 2000, being FEMA 3/2000-RB dated May 3, 2000
6 Foreign investment in India by Foreign Portfolio Investors, being A.P.(DIR Series) Circular No. 71, RBI/2014-15/448