Lending to foreign step-down arms of Indian firms gets costlier

RBI slaps 2% additional provision for such loans

The Reserve Bank of India (RBI) on Thursday said banks should make provisions of two per cent against loans given to a foreign step-down subsidiary of an Indian company.

The provisions are in addition to the country risk provision that banks do for overseas loans. For all standard loans, banks make a provision of 0.4 per cent. This would mean banks will hike their final lending rates, too, to take care of the provision. They would also not readily lend at a time when they are struggling with capital.

"Banks shall make additional provision of two per cent… against standard assets representing all exposures to the step-down subsidiaries, to cover the additional risk arising from complexity in the structure, location of different intermediary entities in different jurisdictions exposing the Indian company, and hence the bank, to greater political and regulatory risk," RBI said in a notification on its website.

A step-down subsidiary is a subsidiary of a subsidiary. Companies float special purpose vehicles (SPV) for specific projects and these SPVs are usually step-down subsidiary of the main subsidiary.

While there is no bar on giving such loans, both funded and on a non-fund basis, the Indian parent should hold at least 51 per cent in the direct subsidiary and the step-down subsidiary's control should be in the hands of the Indian promoters, RBI said. "This is negative for banks having high overseas loan book. ICICI Bank (about 20 per cent of total loans) is most impacted. Among PSU banks, Bank of Baroda, and Bank of India have the highest overseas loans (about one-third of total loans)," said Parag Jariwala, vice-president, institutional research, banking and financial services, Religare Capital Markets.

To aid companies to raise foreign money without risk to the country, RBI recently allowed Indian companies to raise rupee resources from foreign investors directly. However, for foreign operations, companies are still mostly dependent on banks. Most of the time Indian banks finance these companies or provide a line of credit for these operations.

According to an analyst with a domestic brokerage, this provision will have significant impact for banks. "Typically, 60-70 per cent of the international loans are given to step-down subsidiaries and SPVs. If banks have to make provisions against them, it would be a significant number," said the analyst requesting anonymity.

REDUCING INTERNATIONAL EXPOSURE

• RBI move reduces risk appetite of banks for such loans
   
• Banks already have to do country risk provision of 0.4 per cent for overseas loans
   
• Final lending rate will go up to take care of the provision
   
• Usually, SPVs are step-down subsidiary of the main subsidiary
   
• Indian banks finance these companies, or provide line of credit for them
   
• RBI move meant to cover risks arising from volatile international political and regulatory dynamics, complexity in the structure