Thursday, February 21, 2013

Foreign Investment in Corporate Debt

[Vinita Sithapathy, who is a lawyer and a company secretary, has contributed the following post. Vinita graduated from Government Law College, Mumbai in 2008. She has advised clients on banking and finance and corporate M&A transactions since 2008. She can be contacted at]

Last month, the Reserve Bank of India (RBI) introduced some amendments to its existing regime of corporate and infrastructure debt available for investment by foreign institutional investors (FIIs). Under the existing regime, FIIs could invest within an overall limit of USD 45 billion in non-convertible debentures in the corporate and long-term infrastructure debt category. This was split into USD 25 billion for investment into infrastructure debt and USD 20 billion for investment into corporate non-infrastructure debt. The infrastructure category was further sub-divided into a USD 22 billion limit for investment by FIIs and a separate limit of USD 3 billion for investment by entities that fell within the meaning of ‘qualified foreign investors’ (QFIs). Investment by FIIs into infrastructure debt was also subject to the following conditions:

(i)        Original Maturity

The original maturity period of the non-convertible debentures (NCDs) was required to be at least 5 years. Original maturity is understood as the original term of the NCDs at the time of issuance.

(ii)       Residual Maturity

The residual maturity of the NCDs at the time of first purchase by an FII is required to be at least 15 months. Residual maturity is the term of the NCDs that is remaining when an FII purchases the NCDs. This condition applies only the first time a purchase is made by an FII. For any subsequent purchases by an FII, this requirement will not apply.

Investments by QFIs were to be made in mutual funds that invested in the infrastructure debt sector in investments with a residual maturity of 5 years. Subsequently QFIs were permitted to invest in mutual funds that held 25% of their assets in the infrastructure sector (whether debt or equity). It wasn’t clarified whether the residual maturity requirement continued to apply to the debt investments of such mutual funds, but it was assumed that it would.

(iii)      Lock in period

Investments in the NCDs were required to be locked in for a period of 1 year although trading between FIIs was permitted during the lock in period.

RBI’s recent circular has amended the position as follows:

- Limits for investment in the corporate non-infrastructure debt category have been enhanced from USD 20 billion to USD 25 billion. In addition to FIIs, the additional USD 5 billion limit is also available for investment to other categories of investors like sovereign wealth funds, pension funds, multilateral agencies and foreign central banks registered with the Securities and Exchange Board of India (SEBI) as investors. This category of investors was earlier entitled to invest only in infrastructure debt funds (IDFs).

- RBI has also removed the requirement of original maturity and lock in period under the infrastructure debt category (i.e. within the USD 22 billion limit). The residual maturity requirement of 15 months at the time of first purchase by an FII remains as is.  

- The residual maturity requirement for mutual fund investments of QFIs has been done away with and replaced by an original maturity requirement of 3 years.

For investments in infrastructure debt that contain embedded put/call options, SEBI has specified that the date of the put/call option will determine the residual maturity i.e. FIIs could make upfront investments into NCDs with put/call options only if the date of the put/call option was at least 15 months after the date of the investment. Most FII investments in infrastructure sector NCDs (with original maturity of 5 years) were made with embedded put/call options that allowed the FII to exit at the end of 15 months. RBI’s amendment now provides an early exit to investors without having to structure a put/call in the NCDs and a pseudo-original maturity period to comply with the regulations. While investors are most likely to welcome these amendments, this category is probably no more the “long-term” infrastructure debt category.

The recent circular of RBI amending the regime is available at here and the SEBI circular following that and summarising RBI’s amendments is available at here

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