The ways in which an Indian company can raise funds in Euroequity market and the government guidelines in this regard is discussed here.
Access to the Euro-equity market is made through the issue of: (i) Foreign Currency Convertible Bonds; and (ii) Depository Receipts.
Foreign currency convertible bond (FCCB) is a Euro-bond which can be converted into shares at the option of the investor. This has also been explained under ‘Euro-bonds‘. Depository Receipts, or the more popular among them, the Global Depository Receipts are explained below.
Global Depository Receipt. A Global Depository Receipt (GDR) is a negotiable instrument denominated in US dollars, that represents shares issued in a local currency. The shares of the issuing company are issued in the name of an international bank, called the depository who is located in a foreign country. The physical possession of the shares issued are with a ‘custodian’ in the issuing country. The shares are issued with a ‘custodian’ in the local currency. Based on the shares held by it, the depository issues the GDRs in US dollars. The dividend, after withholding tax etc., is paid by the issuing company to the depositor in the local currency.
The depository converts the dividend received into US dollars at the ruling exchange rate and distributes it among the GDR holders. GDRs are bearer instruments and traded freely in international markets either through stock exchange mechanism or on an ‘Over the Counter’ (OTC) basis. The settlements are done through international clearing systems like Euroclear (Brussels) or CEDEL (London).
GDRs offer many advantages to the issuing company. The exchange risk is borne by the investors as the payment towards dividend is made in the local currency. There is no dispersal of voting rights as right to vote is vested only with the depository and is regulated by an agreement between the company and the depository. It enables the company to broaden the capital base by tapping large foreign Equity markets. But the issue is subject to country nsk analysis and for companies from countries with poor credit rating the issue may not be successful or can succeed only at higher cost.
The value of GDRs depends upon the values of the shares of the company. The prospecti, of the company for future issues may be affected by decline in share prices in the local market which may be a market phenomenon unconnected with the performance of the company.
For the investor, it offers portfolio diversification in a freely traded instrument in a convertible currency. The investor bears exchange risk as well as risk of capitai erosion.
GDRs have become very popular with Indian companies. About 58 companies have tapped this source as against 10 companies which have raised Euroconvertible bonds.
Government Guidelines to Global Depository Receipts
Government of India issued in June 1996 fresh guidelines for issuing GDRs and FCCBs. The following are the salient features of the guidelines:
(i) Only companies with a consistent good track record for a period of three years will be allowed to issue GDRs/FCCBs. This requirement will be relaxed in case of issues made for investments in infrastructure industries such as power generation, telecommunication, petroleum exploration and refining, ports, airports and roads.
(ii) Euro-issue will be treated as a direct foreign investment and the clearance of Foreign Investment Promotion Board (FIPB) should be obtained where necessary.
(iii) End uses of GDRs will include financing capital goods imports; capital expenditure including domestic purchase/installation of plant, equipment and buildings and investments in software development; prepayment or scheduled repayment of earlier external borrowings; investments abroad made with approval of competent authorities; equity investment in joint ventures and wholly owned subsidiaries in India.
Up to 25% of the total proceeds can be used for general corporate restructuring, including working capital requirements of the company raising the GDR. Banks, financial institutions and non-banking finance companies registered with RBI are exempted from the end use requirement. In all cases investment in stock markets and real estate will not be permitted.
(iv) FCCBs can be issued for restructuring of external debt which helps to lengthen maturity and soften terms, and for use of funds which conform to the norms prescribed by the Government for External Commercial Borrowing (ECBs) from time to time. Not more than 25% of FCCB issue can be used for general corporate restructuring including working capital requirements.
(v) FCCBs should have a substantial finer spread than ECBs. Accordingly, the all-in cost for FCCBs should be significantly better than the corresponding debt instrument.
(vi) Companies will not be permitted to issue warrants along with their Euro-issue.
(vii) Companies may retain the proceeds abroad or may remit funds into India in anticipation of the use of funds for approved end uses.