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EXTERNAL COMMERCIAL BORROWINGS & BUYERS CREDIT-
OPTIONS FOR LONG TERM & SHORT TERM BORROWING
REQUIREMENT FOR MNCS
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ABSTRACT
In this project, titled External commercial borrowings & buyers credit-
options for long term & short term borrowing requirement for MNCs The aim is
to analyze whether ECB for long term and BC for short term borrowing for the
MNCs, is best option, with detailed look on procedure for application, guidelines,
compliances, Indian government policy, rules and regulations placed at present.
This project study will enable finance manager to understand the options
viz, ECB and BC, and make use of the same if its feet in for his organization and
save borrowing /interest cost.
The study explains ways in which both these options can be of assistance
in long-rang planning, budgeting and borrowing cost management to strengthen
financial performance and help avoid financial difficulties.
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INTRODUCTION
An external commercial borrowing (ECB) is an instrument used in India to
facilitate the access to foreign money by Indian corporations and PSUs (public
sector undertakings). ECBs include commercial bank loans, buyers' credit,
suppliers' credit, securitised instruments such as floating rate notes and fixed rate
bonds etc., credit from official export credit agencies and commercial
borrowings from the private sector window of multilateral financial Institutions
such as International Finance Corporation (Washington), ADB, AFIC, CDC, etc.
ECBs cannot b e used for investment in stock market or speculation in real estate .
The DEA (Department of Economic Affairs), Ministry of Finance, Government of
India along with Reserve Bank of India, monitors and regulates ECB guidelines
and policies.
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Detailed look on procedure for application, guidelines, compliances, Indian
government policy, rules and regulations placed at present
External Commercial Borrowings (ECB) refer to commercial loans in the form of
bank loans, buyers credit, suppliers credit, securitized instruments (e.g. floating
rate notes and fixed rate bonds, non-convertible, optionally convertible or partially
convertible preference shares) availed of from non-resident lenders with a
minimum average maturity of 3 years.
ECB can be accessed under two routes, viz., (i) Automatic Route, i.e. do not
require Reserve Bank / Government of India approval. and (ii) Approval Route, in
case of doubt as regards eligibility to access the Automatic Route, applicants
may take recourse to the Approval Route.
Master Circular on External Commercial Borrowing released by Reserve bank of
India on yearly basis in July month every year on website
Hyperlink : to access RBI Portal Master Circular
http://www.rbi.org.in/scripts/BS_ViewMasterCircularde t ails.aspx
RBI Master Circularon ECB and trade Credits.pdf
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To avail ECB one must go through above Master circular and understand
following concepts defined therein for automatic and approval route.
1. Eligible Borrowers
2. Recognized Lenders
3. Amount and Maturity
4. All-in-cost ceilings
5. End-use
6. End-uses not permitted
7. Guarantees
8. Security
9. Parking of ECB proceeds
10. Prepayment
11. Refinancing of an existing ECB
12. Debt Servicing
13. Procedure
14. Refinancing/rescheduling of an existing ECB
After understanding above concepts, eligible borrowers can enter into agreement
with recognized lenders adhering to maturity and all in cost ceiling. Eligible
Borrower need to file Application in Form 83 to Reserve bank of India through
Authorized Dealers.
Hyperlink : to see list of Authorized Dealers
http://www.rbi.org.in/commonman/English/scripts/authorizeddealers.aspx
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Form 83 in brief:
Form 83 is an application form to be submitted to Reserve Bank of India
reporting of loan agreement details within 7 days of signing of such agreement,
for allotment of LRN (Loan Registration Number). This Application form
containing details of lender and borrower, foreign currency of loan, interest rate
i.e LIBOR (London Interbank Offer rate) Plus basis Points. At present all in cost
ceilings is as given below
Average Maturity Period All-in-cost Ceilings over 6 month
LIBOR*
Three years and up to five years 350 basis points
More than five years 500 basis points
* for the respective currency of borrowing or applicable benchmark
Interest payment schedule, principal repayment schedule, drawdown schedule
are also to be mentioned in this application form. Besides this any change in
above should be reported by filing revised form 83 through AD within 7 days of
such change. After due verification Reserve bank of India allot LRN no. Borrower
has to use this LRN no for all future correspondence, for change, addition,
reduction of loan.
Format of Form 83
DRAFTFORM
83.docx
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Average Maturity Period :
Borrower has to comply with average maturity period of minimum 3 years for any
change in drawdown, reduction in loan, this can be verified through calculation as
per given below illustration.
Loan Amount USD 3400000
Date of drawal / Repayment
(MM/DD/YYYY) Drawal Repayment Balance
No. of
Days **
balance
with the
borrower
Product =
( Col 4 * Col
5) / (loan
amount *
360 )
Column 1 Column 2 Column 3 Column 4 Column 5 Column 6
28/09/12 1694500 1694500.00 30 0.0415
28/10/12 965100 2659600.00 30 0.0652
28/11/12 191200 2850800.00 30 0.0699
28/12/12 291300 3142100.00 30 0.0770
28/01/13 38200.00 3180300.00 60 0.1559
28/03/13 219700.00 3400000.00 1619 4.4972
27/09/17 3400000.00 0.00 0.0000
Average Maturity 4.9067
** Calculated by = DAYS360(firstdate,seconddate,360)
Borrower needs to submit monthly return to reserve bank of India through AD in
form ECB2, on monthly basis, within 7 working days of end of every month,
reporting all transactions during the month.
Why ECB Loan preferred by MNCs over local loan types.
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At present PLR (prime lending rate) or Base Rate is more than 8% in India, All
banks are lending to corporate and business institutions over and above this PLR
/BR depending on rating or assessment of that corporate and business
institutions, even for A+ rated corporate and business institutions interest rates
are more than 8-9% per annum for long term borrowing, more so in India Inflation
rate is higher, ECB loan from Foreign institutions, Private lenders allows these
Indian Counterparts of corporate and business institutions to borrow funds at 6
months LIBOR + Max 350 basis Points, which comes less than 6% as per
present rate. Therefore ECB loan is preferred over local borrowing or debt loans.
Given below is chart showing 6 months USD LIBOR rate on quarterly basis since
2005.
Date USD 6 Months LIBOR Rate Date USD 6 Months LIBOR Rate
29/12/2004 2.7750 26/12/2008 1.8113
29/03/2005 3.3800 28/06/2009 1.0950
28/06/2005 3.6600 28/09/2009 0.6388
28/09/2005 4.2000 29/12/2009 0.4340
28/12/2005 4.6900 29/03/2010 0.4425
29/03/2006 5.1100 28/06/2010 0.7472
28/06/2006 5.6175 28/09/2010 0.4625
27/09/2006 5.3719 29/12/2010 0.4569
27/12/2006 5.3606 29/03/2011 0.4605
28/03/2007 5.3238 28/06/2011 0.4008
27/06/2007 5.3750 28/09/2011 0.5484
29/09/2007 5.1325 29/12/2011 0.8085
27/12/2007 4.7175 29/03/2012 0.7343
27/03/2008 2.6325 28/06/2012 0.7344
26/06/2008 3.1338 28/09/2012 0.6359
26/09/2008 3.8763 29/12/2012 0.5083
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Six Month Libor History ( 6 Month Libor)
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
2012 0.809 0.778 0.749 0.733 0.748
2011 0.456 0.454 464 0.460 0.431 0.403 0.398 0.430 0.486 0.558 0.619 0.748
2010 0.430 0.384 0.387 0.444 0.531 0.752 0.753 0.668 0.497 0.463 0.448 0.461
2009 1.750 1.660 1.803 1.736 1.565 1.240 1.111 0.925 0.755 0.629 0.564 0.488
2008 4.596 3.041 2.931 2.614 2.965 2.911 3.109 3.084 3.118 3.981 3.121 2.591
2007 5.401 5.372 5.321 5.358 5.384 5.381 5.386 5.327 5.535 5.133 4.806 4.910
2006 4.813 4.991 5.120 5.288 5.322 5.639 5.547 5.450 5.370 5.390 5.350 5.365
2005 2.958 3.1495 3.388 3.415 3.531 3.691 3.924 4.082 4.215 4.447 4.580 4.690
2004 1.211 1.203 1.160 1.368 1.579 1.942 1.986 1.991 2.170 2.301 2.624 2.775
2003 1.353 1.336 1.262 1.290 1.223 1.124 1.151 1.210 1.180 1.221 1.230 1.219
2002 1.989 2.068 2.332 2.100 2.090 1.948 1.863 1.815 1.751 1.618 1.471 1.383
2001 5.361 4.955 4.711 4.231 3.990 3.827 3.694 3.479 2.532 2.173 2.101 1.9832000 6.238 6.328 6.530 6.614 7.064 7.014 6.887 6.831 6.761 6.721 6.678 6.208
1999 5.036 5.168 5.083 5.075 5.193 5.633 5.680 5.913 5.974 6.144 6.063 6.136
(Source: http://www.erate.com/six_month_libor_index.6-months-libor.htm)
Upon going through above rate table it is confirmed that ECB loan interest is
lower, and therefore it is viable to go for these loans wherever possible. However
borrower should comply with all requirements and also follow all rules and
regulations of FEMA, and adhere to RBI guidelines to avoid compounding
proceedings.
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BUYERS CREDIT
INTRODUCTION
Buyers Credit refers to loans for payment of imports into India arranged on
behalf of the importer through an overseas bank. The offshore branch credits the
nostro of the bank in India and the Indian bank uses the funds and makes the
payment to the exporter bank as an import bill payment on due date. The
importer reflects the buyers credit as a loan on the balance sheet.
Benefits of Buyers Credit:
The benefits of buyers credit for the importer is as follows:
The exporter gets paid on due date; whereas importer gets extended date for
making an import payment as per the cash flows.
The importer can deal with exporter on sight basis, negotiate a better discount
and use the buyers credit route to avail financing.
The funding currency can be in any FCY (USD, GBP, EURO, JPY etc.)
depending on the choice of the customer.
The importer can use this financing for any form of trade viz. open account,
collections, or LCs.
The currency of imports can be different from the funding currency, which
enables importers to take a favourable view of a particular currency.
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Buyers Credit Process flow:
1. Indian customer imports the goods either under DC / LC, DA / DP or Direct
Documents.
2. Indian customer requests the Buyers Credit Consultant before the due date of
the bill to avail buyers credit finance.
3. Consultant approaches overseas bank for indicative pricing, which is further
quoted to Importer.
4. If pricing is acceptable to importer, overseas bank issues offer letter in the
name of the Importer.
5. Importer approaches his existing bank to get letter of undertaking / comfort
(LOU / LOC) issued in favour of overseas bank via swift.
6. On receipt of LOU / LOC, Overseas Bank funds existing banks Nostro
account for the required amount
7. Existing bank to make import bill payment by utilizing the amount credited (if
the borrowing currency is different from the currency of Imports then a cross
currency contract is utilized to effect the import payment)
8. On due date existing bank to recover the principal and Interest amount from
the importer and remit the same to Overseas Bank on due date.
Cost Involved:
The cost involved in buyers credit is as follows:
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Interest cost: This is charged by overseas bank as a financing cost. Normally it
is quoted as say 3M L + 350 bps, where 3M is 3 Month, L is LIBOR, & bps is
Basis Points (A unit that is equal to 1/100th of 1%).
To put is simply: 3M L + 3.50%. One should also check on what tenure LIBOR is
used, as depending on tenure LIBOR will change. For example as on day, 3
month LIBOR is 0.33561% and 6 Month LIBOR is 0.50161%
Letter of Comfort / Undertaking: Your existing bank would charge this cost for
issuing letter of comfort / Undertaking
Forward / Hedging Cost
Arrangement fee: Charged by Buyers Credit Agents / Brokers how is arranging
buyers credit for you.
Other charges: A2 payment on maturity, For 15CA and 15CB on maturity,
Intermediary bank charges etc.
Withholding Tax(WHT): The customer has to pay WHT on the interest amount
remitted overseas to the Indian tax authorities.
Regulatory Framework:
RBI has issued directions under Sec 10(4) and Sec 11(1) of the Foreign
Exchange Management Act, 1999, stating that authorised dealers may approve
proposals received (in Form ECB) for short-term credit for financing by way of
either suppliers credit or buyers credit of import of goods into India, based on
uniform criteria.
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Over the years there has been changes in norms. Current norm as per RBI
Master Circular on External Commercial Borrowing (ECB) and Trade
Finance 2011 are
A. Amount and Maturity
Maximum Amount Per transaction : $20 Million Maximum Maturity in case of
import of non capital goods: upto 1 year from the date of shipment
Maximum Maturity in case of import of capital goods : upto 3 years from
the date of shipment
B. All-in-cost Ceilings
Upto 1 year : 6 Month Libor + 350 bps *
Upto 3 years : 6 Month Libor + 350 bps *
All applications for short-term credit exceeding $20 million for any import
transaction are to be forwarded to
the Chief General Manager, Exchange Control Department, Reserve Bank of
India, Central Office, External
commercial Borrowing (ECB) Division, Mumbai.
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CASE STUDY- AN MNC- Manufacturing of Calcium Carbonate
The name of Company is not been mentioned due to Company Policy of not
using name any ware without board of directors permission. Therefore for this
project purpose the name used as ABC Company
ABC company is MNC closed privately held Switzerland based Company, this
company has decided to enter into India with manufacturing plant after seeing
overall growth for their products in India, company had planning of expanding its
activities, therefore studied various options for long term funding.
The borrowing in India through commercial banks was costing around 12-13%
p.a. Company has then informed by local Finance team about other option of
ECB-Commercial loan through which Private lender can finance Indian company
upon satisfying following conditions as given below.
1] Recognized lender
Borrowers can raise ECB from internationally recognized sources, such as (a)
international banks, (b) international capital markets, (c) multilateral financial
institutions (such as IFC, ADB, CDC, etc.) / regional financial institutions and
Government owned development financial institutions, (d) export credit agencies,
(e) suppliers of equipments, (f) foreign collaborators and (g) foreign equity
h o l d e r s [ o t h e r t h a n e r s t w h i l e O v e r s e a s C o r p o r a t e B o
d i e s ( O C B s ) ] . Companies registered under Section 25 of the
Companies Act,1956 and are engaged in micro finance will be permitted to
avail of ECBs from international
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banks, multilateral financial institutions, export credit agencies, foreign equity
holders, overseas organizations and individuals. A "foreign equity holder" to be
eligible as recognized lender under the automatic route would require minimum
holdin g of paid-up equ it y in the borro wer compan y a s se t out
belo w: (i) For ECB up to USD 5 million - minimum paid-up equity of 25 per
cent held directly by the lender,
(ii) For ECB more than USD 5 million - minimum paid-up equity of 25 per cent
held directly by the lender and ECB liability-equity ratio not exceeding 4:1
Besides the paid-up capital, free reserves (including the share premium received
in foreign currency) as per the latest audited balance sheet shall be reckoned for
the purpose of calculating the equity of the foreign equity holder in the term ECB
liability-equity ratio. Where there are more than one foreign equity holder in the
borrowing company, the portion of the share premium in foreign currency brought
in by the lender(s) concerned shall only be considered for calculating the ECB
l i a b i l i t y - e q u i t y r a t i o f o r r e c k o n i n g q u a n t u m o f p e r m i
s s i b l e E C B . For calculating the ECB liability, not only the proposed
borrowing but also the outstanding ECB from the same foreign equity holder
lender shall be reckoned. Overseas organizations and individuals providing
ECB need to comply with the following safeguards:
(i) Overseas Organizations proposing to lend ECB would have to furnish to
the AD bank of the borrower a certificate of due diligence from an overseas bank,
which, in turn, is subject to regulation of host-country regulator and adheres to
the Financial Action Task Force (FATF) guidelines. The certificate of due
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diligence should comprise the following (i) that the lender maintains an account
with the bank for at least a period of two years, (ii) that the lending entity is
organised as per the local laws and held in good esteem by the business/local
community and (iii) that there is no criminal action pending against it.
Since the company is 100% foreign share holding company, ECB liability-equity
ratio not exceeding 4:1, company could enter into agreement with overseas
foreign collaborator. This would enable overseas MNC company finance the its
Indian counterpart ABC Company at much lower rate, and thereby lowest cost of
borrowing, which will make ABC company more competent due to lower cost.
ABC Company since then started 2 more projects by using ECB loan financing
and able to establish itself in a very completive Indian business environment.
However due all its raw material sources are from outside india, also the
business, was more of volume nature, it started facing working capital crunch,
again the finance team found solution in buyers credit facility. Company has
started using Buyers credit facility instead of Overdraft/Cash credit facility. The
comparison of savings after using buyers credit facility are shown given below.
Rate at which Overdraft facility available to the company 12%
Import
Shipment
Average time of
Business Cycle
Interest expenses if
used through OD/CC
Interest expenses if used
through OD/CC
USD
1000000
90-105 days 12% USD3MLIBOR+275BPS+W/h
Tax+TelexChgs+Certification
Chgs
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Effective rate 12% 3.12% +USD 25 Telex
Chgs+INR 2000
Total In Rs if
Fx rate @54
for 90 days
15,97,808 4,18,780
Therefore Saving of more than Rs.10 lakhs for this transaction
Average time of Business Cycle : This is time taken by company from sourcing of
raw material, converting into finished goods, sales, collection.
Caution:
However as this transaction involves foreign currency there is always risk for
exchange fluctuation, and to cover these risk, forward contract or with or without
option can be entered into.
FINDINGS FROM CASE STUDY
From the above case study, we can see that ECB is one of the best source for
MNCs and other Business institutions for availing finance at lowest interest rate
in india, and enjoying the Interest parity benefit. Also by using Buyers Credit one
can solve the problem of high cost of working capital. Though there is always risk
of exchange fluctuation in long run due to open market, demand and supply
factors play important role.
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SUGGESTIONS, RECOMMENDATIONS AND CONCLUSION
1. The liquidity position of the company by using buyers credit can be utilized
in a better or other effective purpose.
2. The company can be use the extended credit facilities by using Buyers
credit by rolling over 90 days credit to further period till 365 days, thereby
can save itself in extreme adverse situations.
3. In India due to high rate of inflation, local borrowing cost always be on
higher side than from foreign borrowing through ECB.
4. Efforts should be taken to increase the overall efficiency in return out of
working capital employed by making used of the available resource
effectively.
5. The company can increase its sources of funds to make effective research
and development system for more profits in the years to come.
LIMITATIONS AND SCOPE FOR FURTHER STUDY
As the study is based on secondary data, the inherent limitation of the
secondary data would have affected the study.
The rates taken in examples are likely to be a changes as per market demand
& supply, and so might not give a proper indication in future market environment.
This study need to be interpreted carefully. They can provide clues to the
companys performance or financial situation. But on their own, they cannot show
whether performance is good or bad. It requires some quantitative information for
an informed analysis to be made.
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BIBLOGRAPHY
Websites:
http://en.wikipedia.org/wiki/External_Commercial_Borrowing
http://www.rbi.org.in/
http://www.homefinance.nl/english/international-interest-rate s/libor/usdollar/libor-
rates-6-months-usd.asp
http://www.erate.com/six_month_libor_index.6-months-libor.htm
http://www.bbalibor.com/
http://en.wikipedia.org/wiki/External_Commercial_Borrowinghttp://www.rbi.org.in/http://www.homefinance.nl/english/international-interest-rates/libor/usdollar/libor-http://www.homefinance.nl/english/international-interest-rates/libor/usdollar/libor-http://www.erate.com/six_month_libor_index.6-months-libor.htmhttp://www.bbalibor.com/http://en.wikipedia.org/wiki/External_Commercial_Borrowinghttp://www.rbi.org.in/http://www.homefinance.nl/english/international-interest-rates/libor/usdollar/libor-http://www.erate.com/six_month_libor_index.6-months-libor.htmhttp://www.bbalibor.com/Top Related