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https://www.legallyindia.com/convos/topic/278146-Banking-Finance-Oversimplified-Part-2-ECBs-#comments
Finance is one of the most interesting subjects in the world. Happy reading!
Sometime back I was also an A0 working in the B&F practice and I was clueless.
I think there was huge gap in my learning because we were not taught this subject in college + B&F as a practice area is very technical + we didn’t having knowledge of financial valuations/ finance side of it + big law firms don’t give you time to absorb and learn - high volume of documents and too many deals happening)
Anyway, here’s me trying to give back to the community by making the transition easier for fresh graduates to your law firm job. We will start with an overview.
OVERVIEW:
So first question - What the hell is banking finance?
Banking & Finance - especially on the Corp side - mostly deals with debentures and loan agreements + security docs. There’s also bit of insolvency, and then some other complicated securitisation and financings. We’ll come to that later.
For now just remember these 3 terms - the bread and butter of most law firms:
NCDs, ECB, ODI financing
Alright, now let’s break it down further. Let’s focus on the basics - 1. Loans & 2. Debentures
Loans
You must have heard of a car loan.
A person goes to the bank. Takes a loan to buy a car. He gives some collateral/ security to the bank in case he defaults in paying back the loan - the collateral can be the car, or some gold deposits in his bank etc.
In law firms, we don’t deal with this. We deal with bigger matters but it’s the same concept. So let’s say a big company like Tata Motors goes to a bank/ NBFC to take a 100 cr loan because it wants to buy the company Jaguar.
Okay, so where do law firms come in? In our earlier example, for the car loan - usually these loan documents are standard documents and the person taking the loan has to just sign the bank document. But let’s say Tata Motors is taking a 100 cr loan. It won’t just sign a standard contract. It will want a tailor-made document for itself so it can save on interest payment/ tax/ have longer repayment period etc. This is where Law firms come in. We draft the loan agreement and the security document basis the commercials agreed between Tata Motors and the bank. We also try to negotiate with the bank so we can get favourable terms for our client.
Wait, what’s a security document? Do you mean like a gold deposit? Well no. This is where your college education might help a bit. Remember learning about the difference between pledge, hypothecation, mortgage in college? Now you get to see these documents in their full fledged glory.
Security documents generally include:
1. Pledge agreements - shares of the borrower/ subsidiary may be pledged as collateral. Let’s say Tata Motors bought some shares in the company Tata Neu. They might pledge those shares of Tata Neu to get a loan from SBI.
2. Hypothecation - Tata Motors has some inventory of cars in its factory/outlet and some regular cash flow from selling these cars. Charge is created on these cars or cash flow in favour of the bank.
3. Mortgage documents - Let’s say Tata Motors just bought a 100 acre land to maybe construct a factory. They hand over the title docs of this property to the bank as collateral (hmm.. which out of the 5 types of mortgage is this?)
There are also other documents often used - non disposal undertakings (aka - don’t you dare sell those shares); trustee agreements (aka - let the trustee handle it, we lenders don’t have so much time); inter creditor agreements (aka - fight club of lenders); escrow agreement (aka - I don’t trust you with the money, so I’m gonna put it with a third party bank account) etc. Anyway, let’s not lose our head over these, backs to basics -
Now depending on the reason the loan is being availed (end use of the loan), your transaction maybe classified as - project finance, acquisition finance, real estate financing. Wait what’s that?
Acquisition finance -
End use: want to acquire another entity
Ex: Flipkart wants to buy Myntra but doesn’t have the money. So it goes to SBI to get 200 cr loan to buy Myntra. Flipkart knows it can repay the loan over 20 years using profits generated from Myntra.
Real estate finance:
End use: build real estate projects / housing
Sobha group wants to build 10 high end condominiums in Whitefield with each unit having a private garden and pool. Say the cost of this is 5cr each unit * 10 units = Project cost 50 cr
So they borrow 60 cr from the ICICI bank, to fund this project. They know that all the millionaires in Whitefield will easily pay 9cr for their properties located in such a prestigious location.
But wait, why borrow 60cr and not 50 cr? Cos it will take them 5-6 years to build the project and during that time, they will also have to pay interest on the loan taken (no income for 5 years as the house isn’t built yet). So although they need 50 cr, they will also need buffer for interest payments.
After 5 years, let’s say all 10 units are sold out for 9cr after launch. So they will have a neat revenue of 9cr * 10 units = 90 cr.
They pay back the bank probably 60 cr and 6 cr interest over a 5 year period, and pocket the rest 90-66 cr = 34 cr as profit.
Project finance:
End use: build projects for which cash flows will only come after extended periods of time.
Example: Constructing the Bandra Worli Sealink. It takes more time than to build residential houses, also you can’t upfront sell the bridge like a house and recover the cost in this case.
Project financing is actually quite interesting and easier to understand when you understand the finance side also.
Disclaimer for A0s - I have over simplified this a bit for your understanding. While all this sounds interesting, you’re job initially will be grunt work - proof reading documents, fixing the cross references, maintaining CP checklists, losing your head in tracking emails, taking notes on calls etc. Life will get chaotic at times.
Don’t lose hope. Try to learn quickly so seniors can trust you with meatier work. Things should get better.
If you want a part 2, where I discuss ECBs (oversimplified), do comment a “Part 2” in the comments so that more people can see this post, and I’ll be back with more interesting posts.
Your Dalal Street attorney
XOXO
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