The Reserve Bank of India (RBI) has opened the door for domestic banks to fund mergers and acquisitions (M&A), a regulatory move which is set to aid corporate takeovers in a market which is seeing increasing consolidation.

Coupled with the central bank’s proposed withdrawal of the Rs 10,000 crore cap on individual large corporate exposure, the incremental credit demand has the potential to let loose Rs 5.5 lakh crore, according to market estimates.

Funding M&As to deepen banks’ role in capital market 

For financing M&As, Indian companies had to depend on non-banking financial companies (NBFCs), foreign banks, private equity and bond issues as Indian banks were kept out of funding such deals due to fears of big corporate groups taking over smaller companies and of speculative exposure to overvalued deals. 

This is set to change now with the RBI proposing to introduce a comprehensive framework that would allow Indian banks to provide ‘acquisition loans’, a request recently made by banks who wanted the relaxation to at least start with large, listed companies. 

The regulator’s thinking is that the banking system’s ability to handle risks has improved over the period, so there are adequate provisions. “Most of the measures have enough guardrails built into them to safeguard the interests of banks and the financial system,” said RBI deputy governor M Rajeshwar Rao.

According to State Bank of India’s economic research wing’s estimate, India’s M&A deals in FY24 were valued at over $120 billion (around Rs 10 lakh crore). Assuming debt component of 40% of M&A and 30% of this to be potentially financed by banks, it would translate into an incremental credit growth of Rs 1.2 lakh crore.

Freeing the restrictions would go to support large-ticket M&As in India. Analysts say funding such deals would become relatively cheaper as corporates don’t have to limit their options to offshore debt, NBFCs or private credit. 

The move would expand the scope of capital market lending by banks. “The expanded lending scope allowing banks to finance corporate acquisitions marks a step in deepening their role in capital market activities,” said Anil Gupta, senior VP and Co-Group head at ICRA. 

“The relaxation of lending norms—including the removal of regulatory caps on lending against listed debt securities, and enhanced limits for lending against shares and IPO financing—will further empower banks in supporting market growth, though NBFCs may retain an edge with higher financing limits enjoyed by them,” he added.

Scrapping Rs 10,000 exposure to augment credit flow to corporates

The RBI has also proposed to withdraw the 2016 framework that disincentivized banks from lending to large borrowers with credit exposures above Rs 10,000 crore in the banking system. Such large corporates had to look at alternative funding sources such as the bond market. 

RBI Governor Sanjay Malhotra explained the situation has changed since the 2016 policy was introduced. “Circumstances change, times change, requirements change and so nothing should be frozen in time,” he said. “The share of corporates in overall banking system exposure has come down by over 10%, so the risks are not so many. That’s the primary reason we have proposed to remove this framework. We will ensure that wherever prudential measures are required, they are not compromised.” 

The RBI feels that the existing Large Exposure Framework will continue to address the credit concentration risk to a particular entity or group at an individual bank level. At the banking system level, the concentration risk, as and when considered necessary, will be managed through specific macroprudential tools.

The scrapping of the Enhancing Credit Supply for Large Borrowers through Market Mechanism guidelines would boost corporate bank credit. In FY25, incremental corporate borrowings via bonds, commercial paper and external commercial borrowings (ECB) stood at around Rs 30 lakh crore. “If we assume 10-15% may come back to banking system, it has the potential for banks to lend another Rs 3-4.5 lakh crore towards meeting corporate demands, subject to pricing of risks,” said Soumya Kanti Ghosh, Group Chief Economic Advisor at SBI.

Such regulatory moves come with some risks such as over-valued deals. Analysts say corporate credit flow can be positive for the medium to long term but the main issue today is muted demand. 

Lending against shares and IPO financing limit raised

The RBI has also raised the limit on lending against shares and financing for initial public offerings (IPOs). Banks can now extend loans against shares up to Rs 1 crore per person, up from the earlier limit of Rs 20 lakh. Similarly, financing for IPOs has been lifted to Rs 25 lakh per investor from the earlier cap of Rs 10 lakh. 

The regulator also proposes to remove the cap on lending against listed debt securities.

The RBI will raise the lending limits for loans against REITs and InvITs. A notification on this will be issued soon.

The central bank has proposed to reduce the risk weights applicable to lending by NBFCs to operational, high quality infrastructure projects. This is expected to reduce the cost of infrastructure financing by NBFCs. 

Aim to increase credit flow 

The overall aim of all these measures is to increase credit flow to the capital markets and corporates.