The basic objective of the research project is to explore all the possible sources of raising a foreign currency loan and compare the cost advantages for the corporate on raising such a loan. The project also studies the available hedging mechanisms for the borrowing corporate; to protect it from the various risks that they are exposed to, on taking a foreign currency denominated borrowing.
In Part- I of the project the various regulations issued by the RBI regarding ECBs have been brought forward. The various alternatives available with a corporate for raising a foreign currency loan have been stated and an attempt is made to thoroughly understand these products along with their regulatory issues.
In Part- II of the project, the various risks attached to the foreign borrowing have been brought forward and all the possible derivative contracts available for an Indian corporate to hedge these risks have been studied, in the light of the guidelines issued by the RBI, making hedging mandatory for all foreign currency denominated borrowings by the corporate. This part gives an understanding of the derivative products and their regulatory issues.
In the Part- III of the project, recommendations have been given as to which borrowing currency will give the maximum cost benefits vis-à-vis the Indian rupee borrowing with a comprehensive cost comparison. Recommendation has also been given for the nature of the risk to be hedged.
[...] PART I 1.1 External Commercial Borrowing (ECB) There are mainly two sources of raising foreign currency denominated borrowings in the Indian markets, the External commercial borrowing (ECB) route and the FCNR Loans route. Both of them have its own benefits and limitations apart from the difference in the regulatory and procedural requirements of these loans. Let us first understand these two sources in detail before we come across the practical difficulties in raising such loans. External commercial borrowings are foreign currency denominated loans granted to the Indian corporate with the objective to provide increased financial independence and cost benefits apart from the larger objective of the government to route these commercial borrowings into high priority sectors like infrastructure development and exports. [...]
[...] Let us have a comparative look at the cost of borrowing in various currencies and thereby arrive at a decision as to which is the best mode of raising a commercial borrowing. Cost of borrowing in the Indian rupee In India longer tenure loans are raised at floating rate PLR. In view of the declining interest rates, surplus liquidity in the banking system and the low credit off take, banks are even willing to give loans at sub-PLR. The PLR being at close to the cost of the Indian currency loan for an AAA rated corporate can work out to anything close to The other alternative available for such an AAA rated corporate is to issue bonds in the market and thereby have access to cheaper funds and take advantage of its creditworthiness. [...]
[...] The "all in cost" is generally 100 basis points less than those prescribed for External Commercial Borrowing (ECB) schemes. The FCCB proceeds can be used for the same purposes for which the ECB proceeds are used and the issue related expenses shall not exceed of issue size and in case of private placement, shall not exceed of the issue size. The issuing corporate should within 30 days from the date of completion of the issue, furnish a report to the concerned Regional Office of the Reserve Bank of India through a designated branch of an Authorized Dealer giving the details and documents as required. [...]
[...] End Use Requirements Earlier the corporate were allowed to use the funds only for the specific business purposes but in view of the government's objective to further liberalize the External Commercial Borrowings route only three restrictions for the use of ECB funds remained. As per the regulations up to September & that were re-enforced in January, the proceeds could be used according to the needs of the corporate. All the ECB proceeds can be used for any business related expenditure excluding Investments in the stock markets and Speculation in the real estate markets On lending Liberalization of the ECB end use requirements The government further liberalized the end use restriction by allowing the ECB proceeds to be used for buying of shares of public companies for both the first stage acquisition of shares in the disinvestment process as also in the mandatory second stage of open offer to the public. [...]
[...] An only currency swap entails swapping the foreign borrowing into the domestic currency at the time of the realization of the loan and then swapping back the domestic currency into the foreign currency at the time of the maturity of the swap at a predetermined rate. This type of a swap is known as the swap out or a sell buy swap wherein the foreign currency is sold in the first leg and bought in the local leg against the local currency. [...]
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