[By Madhura Vedang]
The author is a student of Maharashtra National Law University, Mumbai.
1. Introduction
The Reserve Bank of India (“RBI”) for nearly 20 years maintained a clear and consistent stance: commercial banks should not finance corporate acquisitions. The reasoning behind this was simple, if a bank finances the acquisition of shares/control in another company, and subsequently the target encounters financial troubles, the bank is left holding collateral shares in a distressed target company. In such a circumstance, there may be a slim prospect of recovering the amount originally lent. The risk of potential erosion of depositors’ funds made acquisition financing an activity that the RBI kept well outside the scope of commercial banks. However, in February 2026, the RBI reversed its position through the Reserve Bank of India (Commercial Banks – Credit Facilities) Amendment Directions, February 2026 which permitted Indian banks to finance corporate acquisitions up to 75% of the bank’s independently assessed acquisition value. Subsequently, the RBI issued a Revised Amendment in March 2026 (“2026 Framework”) that substantially changed this framework. The most notable change was redefining “Acquisition Financing” into a broader concept that focused on acquiring control through amalgamation or merger, rather than narrowing it to the mere acquisition of equity shares or Compulsorily Convertible Debentures (“CCDs”) as seen in the February 2026 Directions. Furthermore, the framework also introduced the option of refinancing existing debt of the target company, provided that the debt is integral to the acquisition finance.
With these developments in mind, the question that this article seeks to answer is not whether this shift was necessary, but rather This article assesses the 2026 Framework against its own stated objective of integrating Acquisition Finance into a more structured, transparent and uniform framework, in contrast to its unregulated predecessor. The subsequent chapters seek to establish that the 2026 Framework contains certain structural tensions that warrant scrutiny. Specifically, Chapter 3.I and 3.II examine the absence of a minimum net profit threshold for eligible borrowers and the lack of enforcement mechanisms for the post-acquisition 3:1 Debt-to-Equity (“D:E”) ratio, and highlights the concerns and implications for the market. Meanwhile, Chapter 2 provides certain necessary commercial context to understand the backdrop and the policy intent with which this framework has been introduced. Lastly, Chapter 4 contends that, while the 2026 Framework represents a step forward, certain targeted amendments and regulatory clarifications remain necessary to ensure that the framework achieves its objectives without generating further ambiguities in the system.
2. The Regulatory Shadow: Acquisition Financing Before 2026
To evaluate the significance of the 2026 Framework, it is essential to understand the pre-existing landscape of acquisition financing in India. Contrary to what one would assume, Indian companies remained active acquirers throughout the RBI prohibitory period of bank-financed acquisitions. The 2015 RBI Master Circular on Loans and Advances limited bank financing to promoter contributions, Public Sector Undertaking disinvestments, share acquisitions as a strategic investment, and equity purchase financing in overseas joint ventures. However, Indian companies circumvented these restrictions by relying heavily on overseas Special Purpose Vehicles (“SPVs”), private credit funds, mezzanine debt from non-banking financial companies and offshore syndicate facilities for the purposes of corporate acquisitions. These instruments allowed Indian companies to bypass the RBI restrictions that applied only to domestic lending.
The result of this was a situation in which the regulations prohibited something while the underlying commercial practice continued largely uninterrupted, though in a much more convoluted and less transparent manner. The widespread use of offshore SPVs and foreign syndicated facilities meant that a significant volume of acquisition financing was effectively happening outside of the RBI’s regulatory purview, leaving the banking sector open to significant exposure. For instance, in the offshore SPV model, if an acquisition failed, the credit losses would eventually hit Indian banks through indirect exposures, financial guarantees, and cross-default clauses, amplifying the very credit risk the RBI had sought to eliminate. From this perspective, the 2026 Framework represents an attempt to bring these activities into a more transparent regulatory framework. The substantive question that follows is whether the 2026 Framework’s design has introduced new complications as it attempts to solve the old ones.
3. Design Deficits in the 2026 Framework
At first glance, the 2026 Framework appears reasonable. Clause 170I and Clause 170J provide for a maximum 75:25 funding split, with 25% being financed from the acquirer’s own funds and the rest from the bank, conditional on an independent assessment by the bank of the acquisition value. The 2026 Framework also stipulates a ₹500 crore net worth requirement under Clause 170G(i) and (ii) which reads: “If listed on a recognized stock exchange in India: (a) Minimum net worth of ₹500 crore; and (b) Net profit after taxes reported in each of the previous three consecutive financial years… & (ii) If unlisted: (a) Minimum net worth of ₹500 crore; (b) Net profit after taxes reported in each of the previous three consecutive financial years, and (c) an investment grade rating (BBB- or above) from a credit rating agency… ”. Additionally, Clause 170L mandates post-acquisition D:E ratio to not exceed 3:1 on a continuous basis. On paper, these requirements look well-thought-out, however a closer look at each of these conditions reveals certain gaps that raise concerns about whether the framework is actually as effective as it appears.
I. Entry-Stage Deficit: The Open-Ended Profit Criterion under Clause 170G
Clause 170G appears to be a standard provision that prescribes the eligibility criteria for a transaction. A company seeking acquisition financing would first have to meet the eligibility criteria of having a minimum net worth of ₹500 crore. This is coupled with the requirement of having earned a net profit in each of the three preceding financial years. Additionally, for unlisted companies, an investment-grade credit rating is required. For listed companies, no such rating is needed, presumably because the continuous disclosure obligations that listed companies are subject to are seen as a sufficient substitute for their creditworthiness.
The more pressing concern, however, is the unspecified net profit threshold for the acquiring companies. It is argued that the RBI has deliberately not specified any minimum amount for the net profit that an acquiring company must show. This action is based on the rationale that introducing a strict threshold would completely shut out smaller companies that may be profitable, but whose margins are comparatively thin, from being eligible for acquisition finance. However, this causes another issue. A company that shows nominal profitability, even a single rupee of net profit annually, would technically satisfy this requirement. While the minimum net worth requirement of ₹500 crore determines the size of the company, it remains only a balance sheet figure which does not necessarily capture the actual trajectory of the company’s financial health, as would the net profit.
For instance, can a company with a net worth of ₹750 crore but consistently shrinking profits be in the same position as a company with a net worth of ₹550 crore and a healthy and growing profit margin? Under the 2026 Framework, both can technically qualify. This raises concerns about leaving the net profit assessment entirely to the bank’s discretion, particularly in the absence of any baseline regulatory guidance on how profit trends should be evaluated. This may be objected to on the grounds that Clause 170D requires every bank to adopt an independent board-approved policy incorporating underwriting benchmarks on leverage multiples, exposure limits, and cash flow certainty. Such a board-approved policy would only render a scenario where each bank follows a different policy, particularly for net profit assessment, leading to a lack of consistency. Given that financing acquisitions involves a significant amount of depositor funds, having more clarity on net profit requirements from the RBI would reduce inter-bank divergence.
II. Post-Disbursement Deficit: The Unenforced Debt-Equity Covenant under Clause 170L
Clause 170L of the 2026 Framework imposes a 3:1 D:E ratio cap on companies as a post-acquisition obligation. The acquiring company is required to ensure that its D:E ratio does not exceed 3:1 after the acquisition closes. This is to ensure that the company does not become too debt-heavy after the loan is given, making it a sensible condition.
The problem, however, is that the 2026 Framework contains no mechanism for addressing a breach of the D:E ratio after the money has been disbursed. There is also no mention of what remedies the bank can seek if the ratio is breached. Guidance on whether the bank is required to recall the loan, seek additional security, or simply report the breach is absent as well. More critically, the RBI has not mandated/prescribed any covenants for how frequently the banks must monitor the ratio, what accounting methodology should be used, or within what timeframe breaches need to be reported. This creates a significant asymmetry in the market practice.
When a bank itself breaches the RBI Directions, for example, exceeding exposure caps or failing to include proper covenants, the RBI has the power to impose penalties under Section 47A(c) of the Banking Regulation Act, 1949. However, if a borrower breaches the 3:1 D:E Ratio, there are no direct regulatory measures applicable to the bank for its failure to enforce it, owing to the lack of prescribed covenants. Enforcement of this condition depends entirely on what the lending bank chooses to impose through its contractual mechanisms. Generally, facility agreements of banks treat covenant breaches as Event of Default, allowing payment acceleration or additional security. However, enforcement of such contractual remedies remain merely discretionary and may be waived; whereas an RBI-prescribed response would act as a regulatory obligation on banks. This causes intra-direction inconsistency on part of the RBI, as it has itself, in Clause 219H of the same Master Directions, provided monitoring and breach rectification mechanisms for banks to maintain loan-to-value ratios that are imposed for loans against securities.
The critical gap here is that the 2026 Framework does impose an obligation, but provides no standards for breach redressal, which leaves open a possibility for lack of uniformity in D:E ratio enforcement across the market. When a borrower company simultaneously has acquisition debt from multiple banks, inconsistent application of the D: E covenant would cause identical breaches to attract different responses from banks, depending on the terms of the agreement, and the degree of enforcement carried out by each bank. A lender with relaxed norms would have greater concentration of borrowers as opposed to a lender with sophisticated mechanisms. This would, thereby, undermine the overall credibility of the 2026 Framework.
4. Recalibrating the Framework: Recommendations and Conclusion
The 2026 Framework represents a significant and welcome regulatory intervention. While it formalizes what was indirectly happening in practice, it also opens up Indian commercial banks into the realm of acquisition financing with a supervised regulatory framework. However, the preceding analysis identifies two substantive gaps that warrant clarification in order to enhance its overall efficacy.
First, the RBI should issue a clarificatory note on the profit threshold under Clause 170G, mandating standardized profit assessment criteria that include: (i) sector-benchmarked profitability margins expressed as profit-to-turnover ratios (e.g., 6-8% for typical sectors: derived from RBI’s data on listed non-government non-financial companies which shows an aggregate net profit margin with a median of 6.55% and a mean of 7.46% across 2007-08 to 2016-17, which is also consistent with the findings of a market analysis conducted by the Business Standard, which found a 6.6% average over FY09-FY24, and adjusted rates for capital-intensive sectors); and (ii) transparent criteria for sector-specific adjustments. The profit-to-turnover ratio benchmark would, specifically, allow equitable assessment of profit margins for all small, mid, and large capital-sized companies. At present, the 2026 Framework merely leaves the profit threshold to the bank’s discretion, which generates unwarranted inter-bank inconsistency in credit standards. Introducing a sector-specific profit-to-turnover ratio criterion would bring uniformity across lending institutions while also ensuring a reduction in market distortion and credit risks.
Second, once these clarifications are in place, the RBI must consider expanding upon the post-acquisition compliance mechanism under Clause 170L, specifically, mandating (i) quarterly D:E ratio covenant certification by external or the borrower’s statutory auditors; (ii) covenant breach notices; and (iii) additional collateral requirements to accelerate repayment in case of material breach scenarios. Such mechanisms are also seen in the RBI’s Large Exposures Framework Circular dated June 03, 2019, which places reporting obligations on banks for any breach in the exposure caps, as well as lays down scenarios in which such breaches could be considered acceptable. Building on the RBI’s previous stance on stricter compliance mechanisms, these recommendations would not only operationalize the D:E ratio constraint but also ensure consistent enforcement across the banking system. A framework is only as good as its enforcement mechanisms, and right now, the latter remains underspecified.
These are not radical changes; rather, they are targeted clarifications that would solidify an already sound framework and remove the ambiguities that currently affect its implementation. Introducing standardized guidelines for profit assessment as well as covenant enforcement mechanisms would not only accelerate deal timelines but also lower the acquisition costs and transaction friction, thereby revitalizing the core objective of the 2026 Framework. With these additions, the 2026 Framework could directly contribute to the advancement of India’s broader agenda of promoting ease of doing business within the M&A sector.