What is the smartest way to finance your subsidiary or own branch in India? This is often a thorny issue for Dutch companies, partly due to Indian regulations. We have listed the various strategic options for you.
The financing options for your Indian business depend on the legal form of your business in India. The most common legal forms are the Private Limited (Pvt. Ltd) – similar to the Dutch BV – and the Joint Venture (JV) with an Indian company as co-owner. At the time of incorporation, the capital with which the company will start determines the number of shares issued. The minimum starting capital of a company in India is set by law at 100,000 INR (about 1175 euros). Many companies choose to put in this minimum starting capital, but the introduction of more capital at the outset can provide a solution to financing issues in the future. The introduction of working capital at a later stage is subject to more rules.
Do you need working capital in India? A quick and easy way to attract working capital is to pre-invoice planned exports of products or services to the parent company. The subsidiary may invoice services that it provides or which it intends to provide to the Dutch parent company in the near future (pre-invoicing). An advantage of pre-invoicing is that it can quickly generate the necessary cash flow for the Indian company. In the case of a joint venture with an Indian partner, financing through (pre)invoicing depends on the agreements between the two JV partners.
Loan for your Indian entity
Does your Indian subsidiary need capital to make investments in India? There are several options for this, but none of those options are easy, fast, or cheap. The subsidiary can take out a loan from the parent company in the Netherlands, but this is only possible under a so-called External Commercial Borrowing arrangement (ECB). Applying for an ECB is a bureaucratic and time-consuming process, but has a big advantage: the interest rate on an ECB loan to an Indian party is based on LIBOR + a surcharge of up to 300 basis points.
Do you want to attract external funding? You usually cannot go to your Dutch bank for a loan for your Indian company. However, an interim solution is possible whereby a loan is granted by an Indian bank based on guarantees from Dutch banks, the Dutch parent company, and the Dutch Good Growth Fund (DGGF). DGGF is a fund of the Dutch government that helps SMEs finance their activities in emerging economies. This may include assets, but also working capital financing or pre-financing Indian suppliers. SMEs can submit an application to the Netherlands Enterprise Agency. You can do this from 500,000 to 10 million euros. DGGF complements private investments through guarantees and direct (co-)financing with a refund obligation, such as loans and participation in projects. Please note: these are not subsidies, but loans or guarantees at a market rate.
Financing through an Indian bank
At Indian banks, you can also get a loan, but the hugely high-interest rates rarely make this option attractive or achievable. Interest rates on credit from local Indian banks start at 10-12% and can easily rise above 15%. Only with a cash deposit as a guarantee can a lower rate be negotiated in some cases. In addition to skyrocketing interest rates, Indian banks require collateral by default if you want to apply for a loan.
To organize the paperwork with the bank, you need a local consultant. In addition, you pay the bank an administrative average of 1%. At local banks, you can raise a maximum of 1 to 2 million euros. If you need more capital, you can knock on the door of several banks at the same time that can grant a loan as a consortium. Of course, this only makes obtaining the loan even more complex and expensive. In short, borrowing from an Indian bank is really only an option if the money shortage of the Indian establishment is extremely high and there will be an almost certain and substantial return on investment by taking out the loan.
International development banks
What other options are there? For projects supported by the Indian government, you can go to development banks, such as IFC (World Bank) and the Asian Development Bank. In addition, Chinese banks can be an option, although these often make the condition that the loan is spent on products or services of Chinese (state) companies.
Issue additional shares
Finally, it is also possible to attract financing by issuing additional shares in the Indian company. Increasing equity capital is a relatively sustainable, formal, and institutionalized way to grow the Indian subsidiary. Moreover, this sends a signal to the outside world that the parent company is seriously developing the services or products of the subsidiary in India. There are two disadvantages to this process. Issuing new shares is a bureaucratic and time-consuming process and therefore cannot be arranged in the short term. In case of acute cash flow problems, this does not help. Another possible disadvantage of increasing the share capital is that it can affect the ownership of the company, especially with JVs with Indian partners.