Current Economic Statistics and Review For the Week 
Ended June 25, 2005 (26^th Weekly Report of 2005)

  I

Highlights of  Current Economic Scene

INFRASTRUCTURE  

• The growth rate of the index for the six core infrastructure industries has dipped drastically to 4.9 per cent in April-May 2005, as against a much higher rate of expansion of 8.2 per cent in the corresponding period last year. The downfall has been mainly due to an absolute fall in production of crude petroleum and petroleum refinery products. Both these categories registered negative growth rates at 1.2 per cent and 6.9 per cent as against high growth rates of 8.8 per cent and 13.6 per cent, respectively. Alongside, there has been a slowdown in the growth rates of electricity (from 6.8 per cent in April-May 2004 to 6.7 per cent in April-May 2005), cement (6.9 per cent to 5 per cent) and finished steel (9.6 per cent to 7.6 per cent). Production of coal, however, witnessed a surge registering an increase of 9.7 per cent in the first two months of the current fiscal year up from 5.1 per cent in the comparable period last year.

CORPORATE SECTOR

• NEW VENTURES  

o       GAIL ( India ) Ltd has announced an investment of about Rs 13,000 crore in four new pipeline projects. Another Rs 6,000 crore plus investments have been lined up for implementing various petrochemical projects. The company is considering gas sourcing as a major growth area for itself. GAIL is sourcing part of LNG supplies for Dahej, Dabhol and Kochi . It plans to lay a Rs 3,000 crore Jagdishpur-Haldia pipeline, Rs 3,000 crore Dadri-Nangal pipeline, Rs 2,000 crore Kochi-Coimbatore-Bangalore pipeline and Rs 5,000 crore Kakinada-Uran pipeline. The company is consulting suppliers in Malaysia , Oman , Qatar , Yemen , Australia , Abu Dhabi and Nigeria for sourcing of LNG.

o       National Thermal Power Corporation (NTPC) has agreed to pay $ 4.1 per million metric British thermal unit (mmbtu) to GAIL for supply of Iranian LNG to its power project at Kayamkulam Kerala. This is the second deal which has been finalized by NTPC, the first being with Reliance for gas supplies to its power projects at Kawas and Gandhar at $ 2.97  per mmbtu for 17 years.

o       Oil and Natural Gas Corporation (ONGC) has planned to set up two new grass-root refineries of 5 million tonne per annum capacity each at Barmer in Rajasthan and Kakinada in Andhra Pradesh. In addition, the company has decided to increase the capacity of its Mangalore refinery from 9.69 mtpa to 30 mtpa.

o       The Orissa government and the South Korean steel major Posco has signed a memorandum of understanding by committing $ 12 billion investment in a 12 million tonne steel plant in the state. This is the biggest FDI in India . 

o       Tata Steel has announced an investment of up to Rs 25,000 crore over the next five years to become a 15 million tonne-capacity steel company.

o       Berger Paints India Ltd has said that it plans to set up a factory to make plastic autopart coatings with technology from Japan ’s Nippon Bee Chemicals company. The company is diversifying into new businesses such as auto part  coatings to gain from the growing demand for automobiles in India .

o       TVS Motor is in consultation with Indonesian companies for a distribution alliance for its first overseas two-wheeler project.

o       P&G India is launching ‘Crest’ in India , the largest selling global toothpaste brand.

o       Baldota group has received permission to set up pellet plant, iron and steel plant and power plant in Karnataka by the state government. The envisaged investment for steel plant is Rs 2,292.26 crore. 

o       Aurobindo Pharma Ltd has received tentative approval from USFDA for Nevirapine an anti-retro viral (ARV) used in the treatment of AIDS.

o       Century Textiles and Industries, the B K Birla group flagship, has planned to enter the women’s ready-to-wear segment in eight months.   

• Mergers & Acquisitions

o       The merger between MTNL and BSNL is on hold due to MTNL’s reservations over becoming a subsidiary of BSNL.

o       Indian Oil Corporation (IOC) is interested in an acquisition of a stake in Singapore Petroleum company to become a diversified, transnational, integrated energy major.

o       Forbes Gokak Ltd has approved merger of associate company FAL Industries Ltd under a swap ratio of 1:7.

o       Matrix Laboratories Ltd has acquired a controlling stake in Belgium-based Docpharma NV at a cost of $ 263 million, making it the largest acquisition by an Indian pharmaceutical company. 

• Company issues

o       An amicable settlement between the Ambani brothers has been reached. The market capitalization of the combined companies works out to Rs 1,10,769 crore of which Rs 94,845 crore belongs to Reliance Industries and Indian Petrochemicals Corporation Ltd which are now controlled by Mukesh Ambani. On the other hand, Rs 15,900 crore market capitalization belongs to Reliance Capital Ltd and Reliance Energy Ltd which are under the newly formed Anil Dhirubhai Ambani Enterprises group. In percentage terms, of the total market capitalization of the listed companies of the group, 85.62 per cent now belongs to Mukesh Ambani and 14.37 per cent belongs to Anil Ambani.

• Company policies

o       IBM is laying off up to 13,000 workers in Europe and the United States while it plans to increase its payroll in India by more than 14,000 workers.

o       Dabhol power project would not be privatized, but would be run jointly by NTPC, GAIL India, FIs and the now unbundled MSEB through a special purpose vehicle.

o       i-flex Solutions Ltd, a  software maker in which Citigroup Inc. owns about 43 per cent, is interested in buying financial risk management software Ortos from Capco to improve its capabilities.

o       Titan Industries Ltd has relaunched Fastrack brand of watches. The company has unveiled a new logo and new range of watches with affordable pricing and fresh communication campaign.

o       GlaxoSmithKline Plc is to develop an experimental AIDS vaccine in collaboration with a non-profit group, in the first such public-private HIV vaccine partnership involving a major company.

o       Eicher Motors Ltd, which makes motorcycles and auto parts, has sold its tractors and engine units in May to Chennai-based Tractors and Farm Equipment Ltd. for $ 71 million. Eicher will be focusing on outsourced engineering, components and particularly commercial vehicles.  

• Government policies

o       The government has decided to separate the regulatory and adjudicatory functions within the domain of the competition law, in deference to the Supreme Court’s observations in regard to the Competition Commission of India.

BANKING HIGHLIGHTS

• Bank of India (BoI) has lost an appeal against a decision ordering it to pay $82 million to Bank of Credit and Commerce International SA’s liquidators for setting up transactions used to conceal BCCI’s bad debts. BoI has now a last chance to appeal in the BCCI’s case in the House of Lords, the highest court of law in the UK .

• The Kapol Co-operative Bank Ltd. has entered into a bancassurance partnership with Max New York Life. The bank will now offer the Max New York Life products across its network of 15 branches.

INSURANCE

• The $2 billion Power Finance Corporation is on a diversification spree. While firming up its plan to enter the insurance and merchant banking services on the domestic front, it aims to help firms export goods and services in the power sector to Saarc countries.

• After permitting Urban Co-operative Banks to conduct insurance business on a referral basis, the Reserve Bank of India (RBI) has now extended this facility to Regional Rural Banks (RRBs) as well. According to a press release from RBI, RRBs will now be permitted to perform insurance business on a referral basis, without any risk. Under the referral arrangement, RRBs can provide physical infrastructure within some select branch premises to insurance companies for selling their products to the bank’s customers. In return the banks earn fees on the basis of the premia collected.

INFORMATION TECHNOLOGY

• In a sting operation that could have grave repercussions for India’s BPO industry, a British tabloid has claimed that call centre workers in India are selling details of UK bank accounts and passwords. It claimed its undercover reporter was sold top secret information regarding a thousand accounts and numbers of passports and credit cards for Rs.4,250 pounds (Rs.3.4 lakh) by Delhi-based IT worker, who boasted he could sell as many as 200,000 account details a month. This is the second such security-related incident to hit the industry after the Mphasis-BFL scam early this year, when 12 people were arrested for defrauding four Citibank account holders in New York .

FINANCIAL MARKET DEVELOPMENTS

• Capital Markets

§         Primary Market

o       SPL Industries is tapping the market through 100 per cent book building for a sale of 9 crore equity shares of Rs 10 each in a range of Rs 60 to 70 per share between June 29 to July 5. 

o       Nectar Lifesciences Ltd offer has been oversubscribed by 15.81 times with the FIIs section has been oversubscribed by over 6 per cent.

§         Secondary Market

o       The BSE sensex continued to register gains for the eighth successive week by hovering above the psychologically important 7000 benchmark for almost the entire week under review.  The sentiments turned bullish following the amicable settlement between the Ambani brothers and the return of FIIs in to the emerging markets. For the week under review, the BSE sensex surged by 242.10 points to end at 7148.04, before touching an all-time high of 7178.04 points on Friday, June 24. NSE nifty, on the other hand, registered a gain of 70.95 points to end at 2194.35 before touching 2204.45. The buoyancy is reflected more in BSE sensex because the index gives higher weightage to the shares of Reliance group. The combines average turnover on BSE and NSE during the week has increased to Rs 8623.12 crore from Rs 6511.97 crore in the previous week.

o       Between June 1 and June 24, the FIIs have been net buyers of equities to the extent of Rs 3,783.90 crore, with purchases of Rs 20,126.30 crore and sales of Rs 16,342.60 crore. During the week, they have purchased equities worth Rs 8983 crore and sold Rs 6040.90 crore resulting in a net investment of Rs 2942.1 crore.

o       Mutual funds, however, have been net sellers of equities between June 1 and 24 to the extent of Rs 1383.76 crore, with sales of Rs 4818.78 crore and purchases of Rs 3435.02 crore.

• Derivatives

• The trading in derivatives segment has been buoyed due to the hedging strategies of the investors and rollover of trades following expiry of June contracts. The daily aggregate turnover on F&O segment of NSE  during the week ranged between Rs 12461.20 crore and Rs 15656.40 crore as compared with a range between Rs 8274 crore and Rs 11274 crore during the previous week.

• Government Securities Market

§         Primary Market

o       RBI re-issued 7.49 per cent 2017 for notified amount of Rs 5,000 crore through a price based auction at a cut-off yield of 6.91 per cent.

§         Secondary Market

o       The liquidity situation improved in the market following the reverse flow of advance tax outflows and fresh infusion of FII funds, as a result, the weighted average YTM on 7.38 per cent 2015 eased from 6.92 per cent on June 17 to 6.80 per cent. The market, however, remained impervious of the rise in inflation rate. However, with the international crude oil prices rising, the market turned cautious. Further, as the domestic fuel prices were hiked, the sentiments were subdued, but as the revision was lower than the market expectations, the sentiments turned positive.       

• Foreign Exchange Market

o       The rupee-dollar exchange appreciated from Rs 43.59 on June 17 to Rs 43.56 on June 24; over the same period, the six-month forward premia rose from 1.28 per cent to 1.44 per cent.

COMMODITIES FUTURES DERIVATIVES

o       NCDEXAGRI index has risen from 1253.45 on June 18 to 1257.27 on June 24, similarly, the FUTEXAGRI rose from 1264.45 to 1266.38.   

• A study conducted by ASSOCHAM, the Indian commodities market is expected to grow by over 252 per cent to tocuh an estimated business of Rs 12 lakh crore by 2010. It has the potential to generate additional employment opportunities for over 10 million people by 2010.

PUBLIC FINANCE

• The government is considering amending the Customs Tariff Act. According to this Act, the Centre’s power to impose countervailing duties can be exercised only after an investigation is conducted by the Directorate General of Anti-Dumping (DGAD). The powers of the central government are also proposed to be restricted to imposing countervailing duties only where “subsidies” provided by an exporting country are “specific” in accordance with the WTO agreement. The proposed amendments also included a common definition of the designated anti-dumping authority for the purposes of countervailing investigation, anti-dumping agreement, refunds provision and injury. The provisions of the Act pertaining to refund of provisional countervailing duties were also proposed to be re-worded as the present provisions provided for refund of the duties only if they exceeded the subsidy amount.

• Small exporters with an annual turnover of upto Rs 10,000 crore can be out of the purview of income tax on earnings from the sale of scrips of the Duty Entitlement Passbook of Scheme with retrospective effect. This move would benefit a large section of exporters as of the estimated 75,000 exporters, only 4,000 have a turnover of Rs 10 crore and above. This move has been suggested by the prime minister’s economic advisory council headed by C. Rangarajan. This has been suggested with a view to reduce harassment for small exporters who do not maintain proper tax receipts. The PM’s council has also suggested that no cases relating to small exporters should be opened.

• The ministry of small-scale industries has asked the finance ministry to bring down the excise duty on drugs and pharmaceuticals from 16 per cent to 8 per cent. The proposal, which is backed by the ministry of chemicals and fertilisers ministry comes in the wake of a major crisis in the small-scale pharmaceutical industry due to a host of factors including introduction of excise levy on MRP and new mandatory Good Manufacturing Practices (GMP) norms. As against the earlier system of levying excise on first sale price of the manufacturer to the stockist, the MRP based duty covers trade margins too, effectively increasing the tax incidence. Large drug companies who employed SSIs to avail the benefit of duty exemption, no longer find any incentive to do such outsourcing. This has resulted in closing of many industries all across the country.

• The shipping ministry is likely to seek a separate tax legislation for Indian seafarers. This is mainly due to a conducive tax regime, which makes foreign shipping companies more lucrative. Indian seafarers prefer foreign vessels as they are exempted from paying any income tax, which is not the case when they are working for Indian vessels. The ministry has asked the Indian National Shippers Association (INSA) to come up with a proposal, which can be sent to the finance ministry.

• The Income tax department has introduced a revamped online registration facility on its website that will allow salaried and middle-income group assesses to register, compute and file their returns online. After registering, salaried employees would get an e-mail from the department, which would provide the relevant page of the  “Taxman’s Income Tax Ready Reckoner” to help people ascertain their tax liability based on their respective salary brackets. A link would also be provided to a tax calculator to help users compute their tax liability. In this new system, there will be a verification field for permanent account numbers, tax deduction account numbers and telephone numbers.

• The Planning Commission has set a target of 22 per cent growth in tax collections over a period of 2004-09, which if achieved could help both the centre and the states to improve their financial health. The National Development Council (NDC) is likely to ask the finance ministry to stick to the Fiscal Responsibility and Budget Management (FRBM) targets of wiping out the revenue deficit by 2008-09 and bringing down fiscal deficit to 3 per cent.

INFLATION

• Inflation rate, based on wholesale price index has inched up marginally to 4.33 per cent during the week ended June 11, 2005 from 4.22 per cent registered during the previous week. The annual point-to-point inflation rate was at 6.58 per cent in the corresponding week last year.

o       The WPI has risen fractionally to 192.6 during the week in review from the last weeks’ level of 192.5 (Base: 1993-94=100). The index of primary articles’group has risen to 189.2 from the previous week’s level of 188.7, mainly due to a considerable surge in the prices of food articles by 0.5 per cent. The index of fuel, power, light and lubricants group has remained unchanged at previous week’s level of 296.3. The heavy-weighted manufactured products’ group constituting 63.7 per cent of total weight has too remained unchanged at previous level of 170.6.

• The latest final index of WPI for the week ended April 16, 2005 has been revised upwards; as a result both, the absolute index and the implied inflation rate moved up to 191.7 and 5.91 per cent instead of the provisional levels of 191.2 and 5.64 per cent, respectively.

• After a continuous fall in the rate of inflation for last six weeks, it has moved up marginally in the week under review.  As expected earlier, the government has strategically hiked the prices of petrol and diesel with the effect from June 21. The impact of a rise in the prices of petrol and diesel on inflation will become visible only in the coming weeks.

LABOUR

• The Planning Commission in its mid-term appraisal of the Tenth Plan has proposed privatisation of employment exchanges in the country. Finding fault with the current working of employment exchanges in terms of poor coverage and failure to capture changes in the current employment scenario, it pointed out that the Employment Exchanges  (Compulsory Notification of Vacancies) Act, 1959 should be amended to allow private employment exchanges to provide job placement services in both public and private sector establishments. However, according to the same appraisal, the unemployment rate has fallen marginally to 9.11 per cent in 2004-05 from 9.13 per cent in the previous year. In addition to this, trade unions also have opposed and doubted effectiveness of such privatisation of employment exchanges to generate more employment.

• According to the Ministry of Rural Development, the government was set to expand the scope of National Employment Guarantee Scheme based on the recommendations made by the parliamentary standing committee on the Bill. The revised draft of the Employment Guarantee Bill will propose that employment should be provided to as many people who demand it, instead of limiting the scheme to just one able-bodied person from every rural household. Thus, the standing committee wants the scheme to be universalised. The Ministry of Rural development confirmed that the new Bill would incorporate the recommendation. According to the Ministry, the first phase of implementation in 150 districts would not be a problem as funds totalling about Rs. 11,000 crore can be diverted from the existing employment schemes for the project. If the first phase attracts about 1 crore registrations, it is likely to cost Rs.10, 000 crore. This implies that extending the implementation in all 600 districts in India will cost Rs. 40,000 crore. However, if the scheme attracts 1.5 crore registrations in the first phase and if these numbers were projected for the rest of the country, the government will have to raise the funding between Rs. 60,000 and Rs. 1,00,000 crore. Moreover, the Finance Ministry and Planning Commission had objected to the first draft of the Bill on account of unaffordable scheme on the part of the government.  

EXTERNAL SECTOR

o       The board of approval (BoA) which considers special economic zone (SEZ) proposals, is considering fixing 50 acres as the minimum area required for product specific SEZs. Of the 19 product specific zones approved so far in principal, five are of less than 50 acres.

o       The central government has given its approval for three special economic zones, one each in Gujarat , Haryana and Karnataka.

o       The government approved 21 foreign direct investment (FDI) proposals worth Rs 484.204 crore. This includes Infrastructure Development Finance Co Ltd’s proposal to raise about Rs 404 crore by issuing fresh equity and transferring shares to non-resident Indians.

o       India is expecting a 300 per cent rise in its foreign direct investment (FDI) from Singapore in the first year of the Comprehensive Economic Cooperation Agreement (CECA). According to Commerce and Industry minister, FDI from Singapore was expected to touch $2 billion while FII investment was expected to increase to $5 billion in the first year. FDI inflows from Singapore were around $184 million during 2004-05. The CECA, to be signed on June 29, 2005 will be operational from August 1, 2005.

o       The Orissa government and the South Korean steel major Posco signed a memorandum of understanding (MoU) committing $12 billion investment in a 12 million tonne steel plant. This is the biggest FDI in India .

o       The commerce ministry has proposed to limit foreign direct investment in the banking sector at 49 per cent but favours allowing 100 per cent foreign equity in non-banking finance companies and venture capitals. Officials told that the proposal was likely to be taken up by the Cabinet next week and sent to the WTO in the first week of July as part of their revised services offer. They also added that binding in insurance would be 26 per cent, while in telecom it would be 49 per cent. So far, India had not bound FDI limits in banking, insurance and telecom at the WTO.

CREDIT RATINGS

• Icra has upgraded the rating assigned to The Associated Cement Companies Limited’s (ACC) Rs. 6 billion long-term debenture programme to LAA+ from LAA, the upgrade factors in ACCs improved financial position, and the expected positive impact on ACC’s operating and financial profile, subsequent to Holcim Limited acquiring management control

o       In an another exercise, the agency has reaffirmed the A1+ rating assigned to Rs. 100 million commercial paper programme (size reduced from the earlier Rs. 350 million) of Tamil Nadu Newsprint and Papers Limited (TNPL). The rating factors in the long track record of TNPL in the paper industry, its strong market position and its high level of operational efficiency

• Crisil has assigned AAA to ING Vysya Liquid Fund and ING Vysya Floating Rate Fund, respectively

o       Fitch has affirmed the F1 (ind) rating assigned to The Muthoot Finance Private Limited’s (MFPL) commercial paper programme for an enhanced amount of Rs.40 crore The rating reflects MFPLs long track record in the gold loan business, favourable recovery experience and improving financial profile.

o       Following the announcement by  Centurion Bank Limited  (CBL) to pursue a merger between CBL and Bank of Punjab, the agency has placed the outstanding ratings of CBL’s subordinated debt at A (ind) and the certificates of deposit programme at F1 (ind) on Rating Watch.

Theme of the week:

Development of the Corporate Bond Market
- An Unfinished Agenda

Introduction

Recently, on the occasion of bicentennial celebrations of State Bank of India (SBI) on June 5, 2005, Prime Minister Dr Manmohan Singh said that it was necessary to develop an active debt market in the country to provide long-term finance to industry following the demise of the development finance institutions (DFI). He further affirmed, “With the gradual disappearance of development banks in their original form, a gap in credit availability is emerging. There is some concern that adequate long-term finance is not available to medium, and more particularly, to small industries”. These concerns have been voiced before by different policy makers and regulators, but the corporate debt market (CDM) in India continues to languish, whereas in advanced countries, it is the debt market which is much more popular than the equity market in purveying long-term finance for industry.

Background

Though CDM has been in existences for many decades, it is only in the post- liberalization period that there has been some momentum in it. Following the implementation of financial sector reforms, the special sources of funds for the development financial institutions (DFIs) were gradually reduced and they were asked to tap the bonds market. Even the budgetary support for the central and state public sector undertakings (PSUs) was withdrawn; as a result, they too had to approach the bonds market to finance their projects. Corporates, however, displayed meagre interest in tapping the market because of industrial recession and dull climate.. Thus, CDM growth in the 1990s was essentially driven by the compulsions of FIs and PSUs to raise funds rather than a spontaneous need arising from the corporate sector to fund its capital investments. 

Growth and Size of CDM

The amounts moblised from the CDM increased from Rs 32,873 crore in 1997-98 to Rs 59,399 crore in 1999-2000, but thereafter the size of funds raised through this market has been stagnating in a lower range of Rs. 51,560 crore to Rs. 56,580 crore until 2003-04 (Table A). However, going by the available data on private placements, there was a sudden jump in the latest year 2004-05. this jump in primary issue of commercial bonds during 2004-05has been somewhat quantitatively different from earlier years, in that the issues during this year were relatively more from the private sector as a result of signs of improvement in industrial investment. In the case of public issues, the bulk of the mobilizations have been from the financial sector, wherein ICICI Bank and IDBI were the major mobilisers. Interestingly, corporate have not been active in this segment.

Private Placement:

According to the Companies Act, 1956, an issuer can offer to privately place its securities, provided the number of investors to any such single issue is restricted to 49. The private placement confers the issuers with various benefits: few stipulated disclosures norms, absence of the need for rating, significantly lower costs possibilities of mobilising larger amounts as compared to those through public issues. 
Out of the total Rs. 59,399 crore mobilised in the year 1999-2000, Rs. 54,701 crore (92 per cent) had been mobilised through private placement as against Rs. 4,698 crore (8 per cent) through public issues. Similarly, in 2003-04 Rs. 48,428 crore has been mobilised through private placement compared to a meagre amount of Rs. 4,324 crore raised via public issues. Thus, despite the declining share of funds mobilised by way of private placement, it still exceeds the amount mobilised through public issues and equities.

As per the data put out by the Prime Database, All India financial institutions and banks have dominated the private placement market as indicated by their percentage share in the total amount raised, which has consistently risen from 26.6 per cent in 1999-2000 to 52.3 per cent in 2003-04 (Table B). Even after Sebi and RBI regulations introduced for the private placement in September 2003, their mobilizations have increased from 52.3 per cent in 2003-04 to 59.2 per cent in 2004-05. 

In September 2003,in order to improve transparency in privately placed corporate debt, Sebi and RBI came out with a series of regulations. Sebi made it mandatory for the listing of privately placed debt on a recognized stock exchange and asked the issuer companies raising debt to sign a separate listing agreement with the stock exchanges in respect of debt securities and comply with the listing guidelines. Further, in the case of unlisted placements, Sebi-regulated entities subscribing to such papers have to furnish the investment details to Sebi. The issuer, however, need not take prior Sebi approval. Instead, it could make the disclosures on the website of the stock exchange where the security would be listed. Besides, all securities have to be in the demat form. It has also been made clear that all listed companies coming with a bond issue will have to compulsorily list it. Similarly, RBI placed restrictions on banks’ investments in unrated and unlisted non-SLR securities so as to enhance investor protection

Evolution of Primary Yields:

Around the mid-1990’s, various issuers such as central and state PSUs, non-banking financial companies (NBFCs), corporates and DFIs began tapping the primary CDM. Given the integral link between the government securities market and CDM i.e. the former offering the benchmark risk- free rate for pricing the issues in the later, these issuer had to offer correspondingly higher competitive rates than the underlying gilt-edged rates, which were already ruling very high. With a large number of borrowers competing for limited supply of funds, there arose an interest rate war among the issuers. As a result, issuers had to face serious asset-liability mismatches affecting their profitability, as also delays and defaults on payments of interest and principle amounts. Moreover, high cost of funds had rendered many projects financed through this route non-viable. Most significant fallout of this development was that it gave an impetus to the growth of private placement issuances. Both the issuers as well as investors favoured the private placement of bonds because it was found to be convenient and cost-effective. The banks, as investors, which had surplus liquidity, found bonds a more preferred option than loan expansion, given its possible risks of increase in non-performing assets (NPAs). On the other hand, the demand for long-term capital continued to be buoyant, driving corporates to raise funds through unrated private placement, which remained outside the purview of the regulatory mechanism. However, as expected, it gave rise to various unhealthy market practices, one of which was the absence of monitoring end-use of funds. 

This system of high interest cost could not be sustained for long. The RBI made a sudden turnaround in its interest rate policy and introduced many measures to ease interest rate levels during 1997-98 and thereafter. Pari passu with this change particularly in gilt-edge yields, the yield rates on commercial debt instruments too began a precipate fall. Some concrete cases are cited in Table C.

Due to the high cost of borrowing in the 1990’s, the issuers began to had undertake debt restructuring wherein the past high cost loan has been replaced by fresh lower cost ones. For instance, Food Corporation of India (FCI) has replaced its high-cost loans borrowed from a consortium of banks led by State Bank of India at 9.5 per cent, by tapping the market, offering coupon in range of: 7.09 per cent, 7.15 per cent and 7.27 per cent for 5, 7 and 10 years, respectively. Similarly, Indian Oil Corporation (IOC) – a central PSU – was also lured to tap the domestic market after a gap of almost two years by the prevailing soft interest rates, offering coupon in the range of 7.15 per cent to 7.45 per cent.

Interestingly, in May 2004, the efforts of Sardar Sarovar Nigam Limited (SSNNL)-a central government undertaking-- to restructure its debt so as to save Rs. 6,100 crore by offering a pre-payment option for its bonds issued at a high rate of 17 per cent failed. Because of the huge outcry by the investors against the prepayment offer and also due to the court’s refusal to accept the pre-payment offer, SSNNL was forced to continue with the high-cost bond till its redemption. 

Notwithstanding the failure of SSNNL, Noida Toll Bridge Company, announced a scheme of arrangement to restructure its debt and succeeded in doing so. In this arrangement, Nodia Toll’s its deep discount bond (DDB) holders were asked to exercise their put option at Rs. 9,500, despite DDBs being traded in the secondary market at Rs. 13,000. Similarly, Punjab State Industrial Development Corporation (PSIDC) also decided to prepay outstanding bonds two years ahead of its redemption. 

Even the delayed payments by Instrumentation India and HMT, both backed by Central government’s guarantee, resulted in Standard & Poor’s, a global rating agency, to issue a warning regarding the possible negative impact that delayed interest payments could have on India’s sovereign ratings. Following this, the government made the payment for the previous quarter as well as the next quarter, though in case of HMT only. 

Similarly, the investors of Hindustan Copper issue are still to receive the last interest payment due for the quarter October-December 2004.

Meanwhile, in an yet another instance, Madhya Pradesh state government has ordered an inquiry into collapse of the Madhya Pradesh State Industrial Development Corporation’s (MPSIDC) re-investment plan, which is being handled by the Economic Offence Wing; after MPSIDC which had mopped up Rs. 84 crore in the year 1999 by way of bond deposits at 14 per cent interest, admitted that its re-investment plan has collapsed, thereby putting PF funds of its 174 bond depositors, which included several charitable organisations, firms, and PSU as well as coorperative banks, into jeopardy. 

Resumption of Interest Rates Firming Up

In recent months, however, there has been signs of yield rates beginning to firm up again. With the RBI increasing cash reserve rate (CRR) by 25 basis from 4.75 per cent to 5 per cent and increasing reverse repo rate from 4.50 per cent to 4.75 per cent in October 2004, followed by an further increase in the reverse repo rate by another 25 basis points to 5 per cent in the annual credit policy announced in April 2005, yields on gilt-edged securities began firming up; consequently, the yields offered on bond issues also increased. For example, in March 2005, Konkan Railway Corporation Limited raised funds at 6.90 per cent for a five- year paper, while in May 2005 it had to pay 7.60 per cent again for a five-year paper (Table C). 

Role of Credit Rating Agencies

One of the essential components of a well-functioning corporate bonds market is a good credit rating system, as it not only provides the measurement of the relative risk of bonds but also augments the quality and quantity of information on issuers, thereby, providing bond issuers an incentive for financial improvement. Thus, the rating system encourages greater transparency, increased information flows and improved accounting and auditing process. 

Even though the credit rating agencies are expected to quantify the risk, in case of state- guaranteed bonds, they have failed to project their financial weaknesses independent of the sovereign guarantee. To illustrate, in April 2002, when Maharashtra Krishna Valley Development Corporation (MKVDC) defaulted on its interest payment of Rs 74 crore, CARE continued with its assigned high A rating and Crisil reacted only after the default occurred and that too by merely shifting the bond to a negative ratings watch. In any case, even this rating did not reflect the earning capability of this PSU, for it was based on an ‘unconditional and irrevocable’ guarantee of the Maharashtra government. 

Widening of Investors’ Base:

For the first time in 2003-04, Sebi allowed multilateral financial institutions to raise debt capital from the domestic market after the finance ministry’s decision to allow Asian Development Bank (ADB) and International Finance Corporation. (IFC) to raise such capital in the Indian debt markets. It permitted these instrument to be listed and traded on the debt segment of the stock exchanges.
In February 2004, in a unique development, the Asian Development Bank (ADB) which proposed to step up its lending to India to $ 2 billion annually with special focus on the railways, power and road sectors, launched its first 10-year bond on February 23 for Rs 500 crore at a very competitive spread of just 17 basis points above the 10-year benchmark central government paper (7.37 per cent 2014). Interestingly, Reliance Energy raised the largest ever amount through a foreign currency convertible bonds (FCCB) by an Indian company, during the same period.

Recent Developments:

In order to encourage the participation of state government undertakings in the primary bond market and at the same time to ensure market discipline, the State Finance Secretaries’ panel on state guarantees came out with a set of recommendations, including putting a ceiling by the individual states on these guarantees, accepting risk-based guarantee commission and limiting interest payment to 20 per cent of revenue receipts to include possible devolvement on account of guarantee obligations instead of 18 per cent as suggested by the Eleventh Finance Commission. 

The central government has also issued firm guidelines to state governments to bar borrowings by a special purpose vehicle (SPV) floated by them, either from the market or through negotiated deals without the approval of the finance ministry. The SPVs are promoted on the back of guarantee or letters of comfort from their respective state governments.

State Government Guaranteed Bonds

As shown in Table B, state undertakings had been mobilising huge amounts through the private placement route until 1999-00 which they raised 30.2per cent of the total amount mobilised through this route. However, given the then prevailing high interest rates, they had to offer equally high interest rates. This affected the viability of the projects financed through these costly borrowings. Institutions such as Maharashtra Krishna Valley, Tapi, Vidarbha, Godavari and Marathwada irrigation development corporations began to default on interest payments. 

After the gap of a few of months the Maharashtra State government tapped the market through a new body-Maharashtra Patbandhare Vittiya Company Ltd (MPVC) - in a bid to help the cash strapped irrigation projects. MPVC is registered as a non-banking finance company which does not accept public deposits and will only act as agent of the government of Maharashtra to raise funds for state irrigation corporations. Interestingly, in a move to provide an additional assurance to banks and financial institutions who are concerned about their investments in state-government guaranteed bonds turning bad, for the first time, the automatic debit facility of the state government’s current account with the RBI has been constructively used to enhance the credit worthiness of a Maharashtra government promoted PSU- Maharashtra Patbandhare Vittiya Company Ltd. Under this arrangement , the state government’s current account with the RBI, into which all revenues are pooled, will be debited on specified events taking place. 

In addition, the Pune Debt Recovery Tribunal ordered the attachment of Maharashtra government’s two treasury accounts held with the RBI and SBI. It had also ordered the attachment of immovable properties –the central building, the collector’s office and the council hall in Pune - to recover Rs. 81.67 crore taken from IFCI and IDBI by six spinning mills. The loans were backed by the state government guarantee. The Bombay High Court stayed the Tribunal’s order. 

In response, their share of borrowings fell sharply to 9.1 per cent 2002-03 as the RBI issued guidelines to the banks cautioning them against their investments in state- guaranteed bonds. In addition, RBI warned banks that state government guarantees should not be taken as a substitute for satisfactory credit appraisal and such appraisal requirements should not be diluted on the basis of any reported arrangement with the RBI or any bank for regular standing instructions or periodic payment instructions for servicing the loans or bonds.

Following this, the investors’ interest in these bonds waned; hence financial insititutions had to intervene in order to complete some borrowing programme. For instance, in January 2003, Hudco had bailed out state government undertakings from defaulting; at that time it subscribed to bond issues from state government undertakings, which were lying in the market for almost 12 months. It had put in Rs 100 crore in the bond issue of Vidharba Irrigation Development Corporation and Rs 50 crore in that of Godavari Marathwada Irrigation Development Corporation.

Even provident funds became concerned about their investments in PSU bonds, which enjoy the guarantee from the central government for structured payment mechanism and timely servicing, as some of these bonds have failed in interest payments which is likely to affect their portfolio; also, given the compulsions of paying interest at the rate of 9.5 per cent, they are forced to hold on to these high - yielding bonds. Even exit through such bonds for them is not easy, as they can sell them only if two rating agencies downgrade them.

Secondary Market:

The National Stock Exchange’s Wholesale Debt Market (WDM) segment in June 1994, provided a screen - based trading facility for the gilt-edged securities and non-SLR bonds of central and state public sector units (PSUs), banks, financial institutions, and corporate bodies. Trading has also been permitted in the NSE capital market segment but the volumes remained relatively small as compared with those on NSE WDM. From 1998-99, BSE also permitted trading of debt instruments. 

The secondary market trading on NSE WDM segment has risen manifold from Rs. 10,189 crore in 1998-99 to Rs 41,795 crore in 2003-04(Table D). However, as compared to the government securities transactions, which has risen from Rs. 1,31,948 crore in 1998-99 to Rs. 14,04,906 crore in 2003-04 the rise in the WDM segment seems of very little significance.

Expect the WDM segment, the volumes in other segment, i.e. CM segment and the “F” Category of BSE the volumes are quite insignificant. The secondary market trading in the CM has risen from Rs. 86 crore in 1998-99 to Rs. 222 crore in 2003-04, while that in the “F”Category of BSE has risen from Rs. 151 crore to Rs. 245 crore in the same period. 

The government securities accounts for the bulk of secondary market trading as its share in the total turnover has also risen consistently from 80.2 per cent in 1998-99 to 92.6 per cent in 2003-04. Conversely, the trading share of corporate bonds has decreased sharply as their share in the total turnover have fallen from 4 per cent in 1998-99 to a meagre 0.8 per cent in 2003-04. (Table E)

The present day scenario of the corporate bond market continues to be characterised by illiquidity, lack of depth and width of the market. Also, given the narrow investor base and tendency on the part of existing investors to hold the securities till maturity, the secondary market for corporate debt securities has remained subdued. 

But, the most significant limitation of this market has been the regulatory neglect. The RBI’s role in the development of corporate bonds market was focused towards protecting the bankers’ exposure and was primarily concerned with the stability and efficiency of the financial sector. Despite the Securities Contracts Regulation Act, 1956 empowering the Sebi with regulatory powers in respect of equity markets and corporate debt markets, Sebi did not display significant interest in developing the framework for the debt market. NSE provided the trading platform but in view of the lack of regulatory compulsions it remained a reporting portal. Nevertheless it should go to the credit of NSE that it took the initiative to become a sole agency to provide data on the secondary market corporate debt transactions. Incidentally, the regulatory stalemate was due to overlap of the regulatory powers between the Sebi and the RBI, which was clarified by the government in 2000, wherein trades executed on the stock exchanges are to be regulated by Sebi. 

Recent Developments

On May 10, 2005, the Maharashtra government published the new stamp duty ordinance, wherein Rs 100 worth of corporate debt was subjected to one paise stamp duty which shocked the corporate debt market. Consequently, the volumes in corporate bonds fell sharply to Rs. 22 crore as against the usual daily average of Rs. 200-300 crore, thus forcing the government to reduce the stamp duty on debt and securities transaction by 95 per cent. The stamp duty on corporate bonds was thus revised to Rs. 50 for a Rs. 1 crore deal or 0.05 paise on a volume of Rs. 100. Similarly, the stamp duty on mortgages has been reduced by 50 per cent, thus the duty rate being Rs. 5 for every Rs. 1,000 as against Rs. 5 for every Rs. 500 deal proposed earlier . In equities, the stamp duty for delivery and non-delivery segments will be Re.1 and 20 paise, respectively, for every deal worth Rs. 10,000. Further, it was also clarified that the government won’t collect stamp duty from brokers who are servicing clients outside the state.

As per the Union Budget for the year 2005-06, the special tax rebate of up to Rs. 30,000, which was granted under Section 88 of the Income Tax Act for investments in infrastructure bonds till now, has been replaced by a new proposal in the budget. In the specified proposal, all tax-free investments will be covered under one head (section 80C), wherein the investors will be given a wide choice of investment options, thus eliminating special allocation for infrastructure bonds which may dampen the infrastructure bonds issuance

Contrariwise, with the gradual move towards adoption of new measures for protection against risks (Basel II) as prescribed by the RBI, the banks will require to raise fresh capital to prevent their capital adequacy ratio (CAR) from falling; as a consequence, the number of banks tapping the market has increased considerably over the months. In February, nine banks have tapped the market to augment their tier-II capital base.

Interlink between the CDM and DFIs

Following the ICICI-ICICI Bank merger and the conversion of Industrial Development Bank of India (IDBI) into a bank and also its merger with IDBI Bank, it has been clarified that these new entities will continue to provide long-term project finance. Not to be left far behind, Industrial Finance Corporation of India (IFCI) would also soon cease to exist as it is contemplating merger with one of the public sector banks. A few term lending institutions that continue to retain their identities are IIBI, SIDBI for small-scale industries (SSI) lendings, EXIM Bank and NABARD. These are specialized and dedicated institutions, which continue to address segmented and specialized needs of varied sectors. As a result, a vacuum is being created in the availability of project finance for the industry and infrastructure as a whole, at a time when the performance of the primary stock market has remained lacklustre. A market based system accords cost-effectiveness to the best and efficient borrowers, but given the structural limitations, SSIs, and the informal sector are unable to command entry and even when they do get an access to the market, the marketability of these papers is rather low. Hence, they are left out of the market mechanism. Further, the trades in corporate bond market are all on yield differentials and do not price different categories of risks. 

Hence, there is need to develop the CDM not only for few borrowers (AAA rated bonds) but for all types of borrowers with below AAA rating too.

References:
EPW: Money Market Review, various issues.
ADB (2002): “Development of Debt Market, Final Report”, February.

[Initial draft has been written by Nileshwari S. Engineer.]

*These statistics and the accompanying review are a product arising from the work undertaken under the joint ICICI research centre.org-EPWRF Data Base Project.

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