Govt move on debenture redemption reserves may improve liquidity, but investors need to watch out

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Updated: August 21, 2019 3:19:09 PM

Even as the government's move to remove the debenture redemption reserve requirement (DRR) may provide the companies additional funds to meet their other capital requirements, the risk for debenture holders is expected to increase, said analysts.

hurdles against PSB Loans in 59 Minutes, how to get loan upto 5 crore in 59 minutes, PM modi 59 minutes loan scheme for MSME, Loan for MSMEThe ministry of corporate affairs (MCA) has amended the companies (share capital and debentures) rules to effect the changes.

Even as the government’s move to remove the debenture redemption reserve requirement (DRR) may provide the companies additional funds to meet their other capital requirements, the risk for debenture holders is expected to increase, said analysts. While the decision to do away with DRR for issuance of debentures by NBFCs, housing finance companies (HFCs) and listed firms may provide them more room for capex, it would remove the security cover of the investors, financial advisor Harsh Roongta told Financial Express Online. “I am just speculating that the government may replace it (DRR) with some other requirement in the coming days,” he added.

The ministry of corporate affairs (MCA) has amended the companies (share capital and debentures) rules to effect the changes. The listed companies so far had to create a DRR for both public issue as well as private placement of debentures. In the case of NBFCs and HFCs, they had to have DRR when they opted for public issue of debentures. The move is aimed at reducing costs for raising capital, the government recently said in an official statement.

The reserve should have ideally been created on the company’s asset size rather than the liabilities, Deepak Shenoy, Founder, Capital Mind told Financial Express Online. “The move is a good one,” he added.

“By taking it (DRR) off more resources are available to the NBFC and hence liquidity eases. To that extent the comfort factor will reduce. But the government evidently feels that such a reserve has come in the way of liquidity for the listed forms and hence has taken this measure,” Madan Sabnavis, Chief Economist, CARE Ratings told Financial Express Online.

However, not all are in favour of removing the DRR. “Though removing it  may lead to improving liquidity for more lending or payment to others lenders but is a negative for debenture holders.  Ideally NBFCs should have Liquidity Coverage ratio which though may reduce return ratios but will help to ensure sufficient cash flow to take care of outflows,” Abhimanyu Sofat, Head of Research, IIFL told Financial Express Online.

What is DRR?

It’s a fund to protect the interests of investors in case of the debenture issuer going through financial stress. The DRR was first introduced by the MCA in 2000. Thereafter, in 2002, the then government said that  the reserve had to be nearly 50 per cent of the value of debentures issued through public issuance for NBFCs registered with the RBI. It was later reduced to 25 percent of the value of bonds.

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