Syndicated loans offer lucrative business to investment banks

Apart from providing certainty of closure and immunity from market volatility, syndicated loans also provide an easy pitch for new banks in the country to start their business. Photo: Pradeep Gaur/Mint

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Disbursed by a group of lenders to spread their risk, 

syndicated loans have seen a steady rise over the past five years

Mumbai: Syndicated loans are steadily finding favour with many debt-laden Indian firms which want large sums of money to finance new projects but cannot raise funds through equities. Some cannot raise money through bonds for lack of a suitable credit rating.

The income generated from arranging syndicated loans now account for almost half of the country’s investment banking revenue, unlike in major economies where debt capital market and mergers and acquisitions (M&A) account for bulk of the fees.

Disbursed by a group of lenders to spread their risk, syndicated loans have seen a steady rise over the past five years, accounting for almost 50% of India’s investment banking revenue in 2012 despite a weak economy that is eating into the share of other businesses, according to Dealogic, a consultancy and data management firm.

In 2012, loan syndication contributed $343 million (Rs.1,886 crore) towards investment banking revenues, accounting for a 49.5% share against 30% in 2007. Income from syndicated deals have risen almost 60% in five years and 33% over the year-ago period.

In India, underwriting, typically carried out by investment banks, has been one of the highest paying activities in absolute terms but syndication business as a percentage of the overall fee income has also been rising sharply over the years owing to a poor equity market.

In the US, share of syndicated loans in the overall fee income is the least compared with other businesses, less than 25% most years. In Japan and Australia, the share of such lending in the total fee income is as low as 11% and 10%, respectively, according to Dealogic.

While fluctuations in income from other businesses, apart from loan syndications, are mainly due to volatility in the equity market, bankers attribute lower credit ratings of Indian firms to be one of the main reasons for higher demand for syndicated loans.

To be sure, firms that avail of syndicate loans also have to pay a higher fee to the bankers.

“Debt capital market products (primarily bonds) are limited to AAA and AA rated clients in India with very high credit quality, whereas syndicated loans are available to all clients with investment grade rating (BBB and above). Due to the above, the yields in syndicated loans are higher,” said Kingshuk Chakraborty, president and managing director, loan syndications at Yes Bank Ltd.

Credit rating agency Crisil Ltd, in its report released in April, said its portfolio saw 404 defaults in 2012-13 against 188 in 2011-12. The default rate reached 4.7%, surpassing the 10-year high of 3.4% in 2011-12.

Ashwini Kapila, managing director, head of financial institutional group at Barclays India, agreed that offshore debt capital market issues in India have historically been limited to investment grade (largely public sector undertakings), where fees have been low due to intense competition.

“Pricing plays a crucial role in the bond market overseas. In India, the all-in cost ceiling for borrowing through overseas bonds stands capped at Libor plus 500 basis points, which is within the reach of only those firms who have high ratings,” said Manmohan Singh, managing director and head of debt capital markets at RBS India.

One basis point is a hundredth of a percentage point. Libor, or London inter-bank offered rate, is a benchmark for pricing loans.

The method of charging a fee is another reason which makes loan syndication more lucrative for arrangers. There is a higher upfront payment charged by the investment banks on the portion of the loan syndicated.

In a scenario where acquisition and risk appetite among Indian firms is low and equity markets are volatile, the fee earned from these businesses has also seen a sharp drop, said bankers.

Sensex, the benchmark equity index of BSE Ltd, rose 25.7% in 2012. It has dropped 6.18% this year.

“Fees on equity capital markets are definitely under pressure, not so much on headline (total) number but on distribution among a larger number of banks per transaction. M&A transactions are taking longer to complete. M&A fees have also been low as all large international banks and some strong domestic banks compete in this space, while the opportunities are very limited.” said Kapila of Barclays.

The share of equity capital market in the total investment banking revenue dropped from 46% to 12% since 2007 and from $503 million to $85 million in 2012.

Companies also find syndicated loans an easier way of raising funds.

“Syndicated facilities bring businesses the lowest transaction costs in aggregate and spare companies the time and effort of negotiating individually with each bank,” Chakraborty of Yes Bank said, adding it helps companies get visibility in the market.

Kapila of Barclays pointed out that certainty of funds is assured from the anchor banks. “Loan syndication also helps borrowers diversify their funding sources as new banks join the general syndication. An added advantage is that a successful syndicated loan makes the loan market a viable and reliable source of future fundraising for borrowers,” he said.

Apart from providing certainty of closure and immunity from market volatility, syndicated loans also provide an easy pitch for new banks in the country to start their business.

According to Mahendren Moodley, chief executive and country head of FirstRand Bank in India, a global bank with strong distribution capabilities across key geographies may actually start with syndicated loans as one of the products.

In September, Tata Steel Ltd received approval for a Rs.35,000 crore loan from a consortium of banks led by State Bank of India, making it one of the largest exposures taken by Indian banks in recent times. The loan is for the company’s upcoming six-million tonne per annum (mtpa) steel plant in Kalinganagar in Orissa. State Bank’s investment banking arm SBI Capital Markets Ltd or SBI Caps is the arranger for the loan.

ONGC Petro Additions Ltd, a venture of ONGC and GAIL (India) Ltd, achieved financial closure in January. In this case too, SBI Caps was the sole financial advisor and arranger for the transaction.

Reliance Industries Ltd signed a syndicated loan facility worth $1.5 billion with a group of 28 international and Indian banks in October. The mandated lead arrangers and bookrunners for the deal include ANZ India, Bank of America Merrill Lynch, Bank of Nova Scotia and Bank of Tokyo-Mitsubishi UFJ, among others.