The Hindu Business Line : Even with rating upgrade — Corporates prefer rupee term loans to ECBs

DESPITE the sovereign rating upgrade by international rating agency Standard and Poor's, corporates are expected to remain wary of foreign currency borrowings. Banking sources said foreign currency borrowings are already available at low spreads, less than 100 basis points (1 percentage point), over the London Interbank Offered Rate (LIBOR). Till about two weeks ago, several foreign banks have hawked external commercial borrowings at spreads as low as 75 basis points.

Bankers say that this clearly implied that foreign creditors have already discounted the rating upgrade. In fact, for several foreign credit institutions, India was already investment grade, though Standard and Poor's preferred it at `BB+' - one notch below the investment grade. The current spreads are offered only to investment grade borrowers.

However, not many domestic corporates arekeen to take advantage of the situation. In fact, most of them have taken the opportunity to exit from foreign loans. One of the main reasons driving domestic corporates away from ECBs is the high cost involved. Bankers saythat although on the face of it foreign borrowing appear cheap at current interest rates, the `upside risk' is very high. The ECB funds are rarely available on fixed rate term with floating rates being usually the norm.

Consequently, with every upward shift in the benchmark, the popular one being LIBOR, debt-servicing costs also tend to escalate. Bankers say this belief was reinforced yesterday, after the fourth hike in the US Federal funds (overnight borrowings between US financial institutions) rate by 25 basis points to 2.5 per cent.

Besides, bankers say,with LIBOR currently at 3 per cent, the effective all-inclusive costs would work out to around 7.5 per cent. For long-term loans, if US interest rates rose further, the upside risk on borrowers is high. Besides, there is also the inherent fear that the rupee islikely to depreciate in view of the high international oil prices. Few, therefore, are prepared to take the risk of a `floating' rate on foreign currency loans.

For some infrastructure projects, international lenders haveoffered funds at rates as low as 3.5- 4 per cent. The rider in these kinds of project loans is that the borrowers would have to provide a bank guarantee. Guarantee fees by large domestic financial institutions and banks are currently anywhere between 2.5 per cent and 3 per cent. This would bring the costs virtually on a par with the domestic benchmark prime-lending rate (BPLR) of 10.5 per cent.

As a result, bankers say, most corporates prefer the less risky option of `fixed' rate rupee term loans. These term loans are available currently at rates as low as 8.5 per cent. Bankers say several corporates arecapitalising on the low rates for swapping their foreign currency loans and substituting them with rupee term loans. This isintended to contain the debt servicing costs, and at the same time, insulate them from any future exchange rate fluctuations.

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