SEBI cracks whip on corporates’ reluctance to issue bonds, but will it work unless the RBI too acts in tandem?

The market regulator SEBI has, at last, got tough with big corporates’ reluctance to issue bonds for their long-term needs which in its perception are a time span of more than a year. To start with it wants ‘AA’ rated companies with long-term borrowings of Rs 100 crore or more to access the capital market with issuance of bonds to the tune of at least 25 percent of their requirements. In the first two years it would use persuasion—comply or explain—but thereafter would impose a 0.2 percent penalty.

SEBI’s tough stance is a follow-up measure to what Finance Minister Arun Jaitley expounded in his Budget 2018 speech in the Lok Sabha—big corporates have to outgrow their dependency on bank funds at least to the extent of 25 percent of their requirements.

Time is propitious for hard-selling bonds what with Insolvency and Bankruptcy Code (IBC) 2016 making bank loans a little dangerous for promoters who are defaulters. The NCLT proceedings under IBC result in ousting of such promoters from their hitherto comfortable perch. Such promoters are now realising that the bond market may be more hospitable to them but a deeper reflection would show that they are living in a fool’s paradise. The bond market is unforgiving unlike banks in the pre-IBC era, especially public sector banks (PSBs) that have shown monumental patience with defaulters all these years until the IBC came along. [caption id=“attachment_4950361” align=“alignleft” width=“380”]  Representational image. Reuters[/caption] The IBC dumps bonds ruthlessly at the first hint of trouble thus making life difficult for such companies in the financial market. Junk bonds sell at a huge discount thus making future borrowing extremely difficult except at a prohibitively high cost. Truth be told, banks have unwittingly cosseted defaulters. The bond market would give them a rude shock.The credit risk also gets shared. Bonds would be subscribed by thousands of investors including individuals, trusts and mutual funds whereas bank loans are at best shared by a consortium or a syndicate of banks. Two things take care of bondholder interest—mandatory debenture redemption reserve and rights given to trustees to realise their securities. Bondholders also enjoy liquidity by being able to sell their bonds in the bourses. There can also be sweeteners like conversion option conferred on the bondholders. For companies, there would be additional expenses like merchant banker fees, registration fees to keep record of debenture holders and handling transfers as well as fees to credit rating agencies. Credit rating is a huge plus for bondholders assuming rating agencies take their role seriously and do not sell their souls as they did with mortgage bonds in the US in the run-up to the infamous 2008 crisis. Merchant bankers, too, are expected to do due diligence much more intensely than the banking staff who often sanction loans without proper credit appraisal, sometimes at the behest of powers that be and influence peddlers. Prime Minister Narendra Modi was right when he pointed out to the outrageous practice of ‘phone banking’, thus implying sanction of loans or restructuring of loans on receiving phone calls from the high and mighty. Bonds are SEBI’s remit but then banking loans are the Reserve Bank of India’s (RBI). While, therefore, the RBI cannot order big corporates to meet their funding requirements partially from the bonds market, it can do this through moral persuasion—turning off the banking tap to the extent it wants corporates to shed dependency on banks. After all, the Tandon committee way back in the 1980s had urged banks to ask promoters to bring in 25 percent of their core working capital loans by way of equity. While the RBI’s writ doesn’t extend to the bond market, it has every right to turn off the tap thus indirectly forcing big corporates to willy-nilly access the bond market at least to the tune of 25 percent. (The author is a senior columnist and tweets @smurlidharan)