Part-hedging must for ECBs: Sahoo panel

A panel set up to review and liberalise external commercial borrowing (ECB) norms is said to have pushed for compulsory hedging of at least a part of the foreign debt a company takes on its books. It also recommended the removal of sectoral caps, overall caps and end-use restrictions for the debt raised by companies from abroad, sources said.

The committee, headed by M S Sahoo, former member of the Securities and Exchange Board of India and former secretary of the Institute of Company Secretaries of India, recently submitted a report on reforming ECB norms.

On paper, companies hedge all or a part of their foreign borrowings voluntarily, based on the currency risks they face. Actually, however, a lot of companies hedge comparatively less than the actual risks they face, because doing so would mean a higher all-in-cost ceiling (which includes rate of interest, other fees and expenses in foreign currency).

Sources said the recommendation to make hedging mandatory for a part of a company’s ECB loans was due to the massive exposure companies have to a global markets crash, or a currency meltdown, as was seen in 2013-14, when the rupee plunged to a lifetime low of 68.85/$ (August 28, 2013). During that financial year, Indian companies borrowed to the tune of $ 33.23 billion from abroad. At the closing rupee-dollar exchange rate of 53.81/$ on May 2, 2013, that amount is equivalent to Rs 1.78 lakh crore, while at an exchange rate of 68.55, it is equivalent to Rs 2.29 lakh crore.

The high levels of unhedged foreign loans put the larger financial system at risk and in case of a meltdown, these force the government and the Reserve Bank of India (RBI) to step in.

While officials did not reveal what percentage of a company’s ECB loans would have to be hedged, they confirmed such a recommendation had takers in the government. Officials said a final decision on whether the recommendations would be accepted would be taken by a high-level committee on ECBs, which comprises officials from the government and RBI and is headed by Finance Secretary Rajiv Mehrishi.

Current ECB regulations have sector-specific caps, company-specific caps and restrictions on how the debt raised is used. Under current norms, manufacturing and infrastructure firms can raise up to $ 750 million in a financial year. For firms in the services sector, such as hotels, hospitals and software companies, raising up to $ 200 million in a financial year is allowed. Raising an amount higher than this requires a company to seek approval from the Reserve Bank of India and the central government.

Similar caps govern ECBs for companies in other sectors, including non-banking financial companies, microfinance companies, mutual funds, trading, logistics and holding companies. Also, there are end-use restrictions; usage of the debt in capital markets or investing it in other companies isn’t allowed (expect if the company raising debt from abroad is an infrastructure finance company or a bank). Real estate cannot be bought with the debt raised through ECBs.

“The thinking here is as long as the financial laws are met and there are eligible borrowers and recognised lenders, a number of restrictions should be removed,” said a government official privy to the development.

Analysts say mandatory hedging might help reduce a shock from a global financial turmoil. “The international interest rates are extremely subdued, at 200-400 basis points more than the Libor (London interBank offered rate). The more companies hedge, the more it increases their costs. For example, if you borrow from abroad at four per cent interest and the cost of hedging is five per cent of the amount borrowed, the total cost becomes nine per cent which, in some cases, is higher than borrowing from domestic debt markets,” said Sujan Hajra, chief economist at Anand Rathi Financial Services.

He added in the past, companies had been caught unawares whenever there were fluctuations in exchange rates. The proposals in the report might be untimely, he said, adding some of the restrictions should stay, especially for end-use in an unregulated sector such as real estate.

“There is evidence that since the rupee’s crash in mid-2013, Indian companies are borrowing more from within the country. Bank lending levels are down. Domestic debt markets accounted for about 40 per cent of Indian companies’ funding requirements in 2014-15,” he said.