Death knell for the bond market in India
Nidhi Bothra 29 October 2013

MCA’s latest draft rules for public deposits, once enacted, will mean end of the bond markets in India, particularly for non-banking non-financial companies. Almost every possible reason and avenue for companies to issue bonds has been killed

The regulatory framework for companies is undergoing an overhaul with the Companies Act, 1956 being replaced by Companies Act, 2013 and new rules thereon. The lawmakers have been mindful of the present regulatory scenario while drafting the new laws. One of the issues of key concern to the law makers has been deposit acceptance by non-banking non-financial companies. In the past, hundreds of companies have defaulted in payment of deposits to depositors, many of whom lost their life’s savings. In this pretext, in 2009, draft of the Companies Bill, there was proposed a blanket bar on deposit-taking by non-banking non-financial companies.


The new regulatory regime for acceptance of deposits makes a distinction between member deposits, and public deposits. On 22nd October, the Ministry of Corporate Affairs (MCA) placed the draft rules on Acceptance of Deposits by Companies on its website and is currently open for public comments. Under the proposed rules corporates will have scanty options for raising funds by issuance of securities yet falling out of the definition of public deposits. It will not be an understatement to say that the MCA’s latest draft rules for public deposits, once enacted, will mean end of the bond markets in India, particularly for non-banking non-financial companies (NBNCs). Almost every possible reason and avenue for companies to issue bonds has been killed.


Below the author discusses each of the options that could have been available and have been possibly clogged by regulators:

Funding sources for companies: Debt capital

Some of the exclusions to the definition of public deposits which corporates could tap on for raising funds include:

Secured debentures

Issuance of bonds/ debentures secured by a first charge or a charge ranking pari passu with the first charge on any assets excluding intangible assets has been excluded from the definition of deposits. Further, the value of the security shall be for the amount remaining unsecured after creating insurance on deposit.


There is a huge regulatory disincentive for any company to issue bonds. Mandatorily, bonds have to be secured by first charge. It is trite knowledge that most corporate assets are already subject to first charge of bankers/ lenders, and none of them will be willing to cede a pari passu first charge in favour of bondholders.

Some one has to convey to our regulators that world over, bonds are unsecured; if companies had assets to collateralise bonds, they would rather go for traditional lending methods than look at capital markets.


Further the debenture redemption reserve requirements also act as a disincentive for corporates from compliance perspective to raise funds through debenture issuances.


Compulsorily convertible debentures (CCDs)

Issue of bonds/ debentures that will be compulsorily convertible into shares of the company within five years also fall out of the scanner of deposits.


This again does not seem lucrative as the shareholding of the company get diluted. The company and its shareholders do not have an incentive in raising funds by this mode of security.


Optionally convertible debentures (OCDs) have completely been barred. This exactly is a sample of reactive lawmaking. If Sahara misused OCDs, let us not have OCDs at all! After all, OCDs are an interesting instrument for a company to raise money cheaper than non-convertible debentures (NCDs), and the prospect of appreciation may easily drive retail investors to feel interested in OCDs. Other than the Sahara episode, one fails to understand what could have been the problem with OCDs. Interestingly, both the Reserve Bank of India (RBI) for NBFCs, and the MCA for NBNCs have blocked OCDs as an instrument.

Commercial paper & NCDs

Issue of commercial paper or any other instrument issued in accordance with the guidelines or notification issued by the Reserve Bank of India are exempted from the definition of deposits.


The language of the draft rules exempting “any other instrument issued in accordance with the guidelines/ notifications issued by RBI” includes NCDs issued for tenure of not more than a year.


Both commercial paper and NCDs are short term instruments and does not address the long-term and/ or medium term fund requirements of a company. Surely these cannot be depended on for scaling up or expansion type activities. Also, obviously, NCDs can be used only for short term requirements and does not help companies to meet their long term requirements in any way.


Other securities

Other securities that a corporate can issue for fund raising are as follows:

(i)Preference Shares

Preference shares are not any innovative instrument, but have been used for raising funds in a company. In the pretext of the proposed rules one had to scout for options on fund raising, preference shares would be another option available in hand.


However, tax dis-incentives on dividend distribution tax with regard to preference shares do not make them any popular mode of raising funds with corporate entities.



Subordinated debt is also a way of raising funds, but is typical for non-banking financial companies to issue sub-debt as sub-debt qualifies as Tier II capital. No such motivation/ incentive are available for corporates to explore this option.


The current choices to fall out of the scanner of public deposits are very limited and do not incentivise the corporates to issue securities to facilitate the growth of the bond market.


It seems the law making is working with the motivation of plugging the loopholes in the existing regulatory regime. The mood seems as if the law makers do not want corporates to take action at all as there is a lurking fear that something may go wrong. In an attempt to regulate the corporate sector, the law makers have ended up tightening the regulatory noose for the corporates.


As a nation, we need to realise that exceptions cannot drive the rule. Sahara was an exception, an outright scam. Not because of lack of law, but because for years, no one bothered to check the implementation of the law. And in any case, if scams become the reason for lawmaking, and the objective is a scam-free system, then we have to think of a system that does not move at all, because that is the only scenario which has no risk of scams. It is so unfortunately that a spate of reactive law making.


The very fact that law making should not be impulsive was rightly brought to the forefront in the Damodaran Committee report recommendations as well1.


(Nidhi Bothra is executive vice president at Vinod Kothari Consultants Pvt Ltd.)

1 Read our views on the Damodaran Committee report recommendations – “Will we see policies that are not impulsive law making” here


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