Niyati J. Mehta of J. Sagar Associates discusses FCCB crisis and the various options available with the issuers to restructure or redeem their outstanding FCCBs..By Niyati J. Mehta.FCCBs are bonds with a fixed maturity period issued by Indian companies to foreign investors. The bond holders are given the option to convert the bonds into shares of the issuer company at the time of maturity at a pre-decided price. Until they are converted to shares, FCCBs constitute debt of the company..FCCBs caught the fancy of India Inc. as innovative hybrid instruments to access international markets. Following the sustained liberalization programme undertaken by the Indian government, the FCCB market took a quantum leap during the bull run of 2005-2008. According to Prime Data Base, 201 Indian companies raised close to Rs. 72,000 crore through FCCBs during this period..Corporates preferred using FCCBs to reduce their borrowing costs and issued the bonds at very low coupon rates; some were even zero coupon. However, they fixed the conversion prices 25% to 150% higher than the prevailing market prices in expectation of an increase in share prices..The funds raised through the FCCB route were primarily meant for overseas acquisitions and imports of capital goods. However, many promoters treated the funds as “free money” that need not be repaid – the basic assumption was that share prices will always rise and there will be no need to repay the bonds as they will be converted to equity. This theory fell flat with the crash in equity markets. Share prices of over 70% of the issuer companies are trading between 5% to 60% of their conversion price. RBI’s Financial Stability Report of June 2011 states that FCCBs worth Rs. 220-240 billion are not likely to be converted to equity shares as the current share prices of the issuer companies are significantly below the conversion prices. It is estimated that 2/3 of the FCCBs due for maturity by March 2013 will not be converted into equity shares..Reports state that of the 77 FCCBs that will mature before June 2012, 16 companies are loss-making. Over 50 companies have not allocated sufficient funds in their bank accounts to pay back the principal. Over 60% of the companies are heavily leveraged and are not in a position to raise further funds..The Indian Rupee has significantly depreciated in 2011. Reports state that 60% of the FCCBs maturing have been raised at a rupee-dollar rate of less than 42 – this will result in a cumulative MTM loss of approximately 25% at the current exchange rate..Wockhardt, Cranes Software, Aftek, JCT, Marksans Pharma, Mascon Global, Gremach, Pyramid Saimira and Zenith Infotech have defaulted on either repayment of the FCCB or on the coupon payment/s..Some of the big issuers whose bonds will mature in the coming months reportedly include Reliance Communications – $925 million maturing on March 1, 2012 and Jaiprakash Associates – $354 million maturing on September 12, 2012. Press reports state that Everest Kanto Cylinder ($35 million), Rolta India ($97 million), Videocon Industries ($196 million) and Firstsource Solutions ($191 million) will also see their FCCBs maturing in 2012..All eyes are on the redemption of FCCBs by Reliance Communications slated for March 2012. Analysts say that the issuer’s cash flows from operations may not be sufficient to pay the bondholders who are unlikely to wish to convert the bonds issued in 2007 into equity shares that are currently trading at a fraction of the promised conversion price..In cases where the current price is at a significant discount to the conversion price, it appears that the issuers will have to adopt one of the following alternatives:.Redemption of FCCBs upon maturityBuy back of FCCBsRestructuring of FCCBs.While some companies such as Jubilant Organosis Ltd., Reliance Communications Ltd., Mahindra and Mahindra and Adani Enterprises were able to convert their FCCBs to equity, factors such as the tight and expensive debt market, the lacklustre performance of equity markets and low investor appetite are presently making further conversions unlikely. In the present market, issuers have the following options:.1. Injecting equity – The issuer may raise equity to finance redemption/ repayment of the FCCBs. However, it may be difficult to find new investors considering the present liquidity crunch and the FCCB repayment liability in the books of the issuer company. Further, the current shareholders may not agree to dilute their equity by inducting new shareholders. The existing shareholders will be required to bring in the capital..2. Raising debt – Considering the present credit crunch and high interest costs, raising fresh debt to service the cheaper FCCB debt may prove expensive and unfeasible..3. Redemption of FCCB by refinancing – This entails settlement of debt by the issuer and mandates funds at the disposal of the company to redeem the bonds. RBI has permitted issuers to avail of fresh ECB/ FCCBs to finance redemption of an existing FCCB. This option may be preferable too as it is likely to prove cheaper. However, it may prove difficult to find willing lenders, given the global credit squeeze and general averseness to risk. The guidelines prohibit a change in the conversion price, while permitting restructuring of the FCCB by changing the maturity period and interest rates..4. Buyback of FCCB – The issuer has an opportunity to reduce its debt and from the Indian government’s perspective, to potentially reduce the higher forex outflow. The prevailing regulations permit an Indian company to buy back FCCBs (a) from existing foreign currency funds and/ or fresh ECB proceeds at a minimum discount of 8%; and (b) from internal accruals with RBI approval at a minimum discount ranging from 10 to 20%. The ECB policy must be complied with. There is no cap on the quantum of buy back out of foreign currency funds/ fresh ECB, whereas a buy back from internal accruals may be for an amount capped within the range of US$50 – 100 million..5. Restructuring the FCCB – The issuers may restructure the terms of the FCCB with the agreement of the bond holders. The consent of the bond holders is required. Proposals for restructuring FCCBs that do not involve a change in the conversion price will be considered by the RBI under the approval route, on a case to case basis..In 2009, Tata Steel rolled over its convertible bond maturing in September 2012 to November 2014 and increased its coupon rate from 1% to 4.5%. Subex is negotiating with its bond holders to roll the maturity period of one of its FCCBs further into the future..Bond-holders may seek to enforce their rights by litigating in the Indian courts. Some issuers have had winding up petitions filed against them. Even after admission of a winding up petition by the court, it may take several years to completely liquidate a company and repay FCCB holders. Generally FCCBs are unsecured and therefore rank lower in terms of repayment of debt. FCCB holders receive their payment only after the secured creditors and statutory dues of the liquidated company are entirely paid off..However, this currently appears to be the preferred route. Wockhardt’s bond holders have had some success, getting Court orders directing Wockhardt to repay the bond holders first, prior to the secured creditors of the company. The matter remains pending, with the secured creditors threatening to appeal the court decision. All eyes are on this litigation, with investors and Indian corporates alike waiting for the Court’s judicial decision..The strategy of Indian corporates in relation to FCCBs, the support of the central bank and the stand taken by the Indian courts are being closely watched by the global investor community. The recent spate of legal cases by FCCB bond holders to protect their interest by seeking liquidation of bond issuers may undermine the credibility of Indian bonds. It is crucial for Indian regulators to intervene in the current market and to provide a cordial and practical approach..The RBI has tried to prevent further defaults by extending the deadline for buy-backs of FCCBs from June 2011 to March 2012, but little is likely to happen between now and that deadline, since most of the FCCBs that are maturing in the near future will come up for redemption after March 2012. Further, the RBI has imposed a minimum discount as a condition for buy-back of FCCBs..Given the current liquidity and equity market scenario, issuer companies have little choice but to borrow monies and redeem the bonds on the due date. The credit squeeze in global and local markets has made it difficult for Indian corporates to find willing lenders..The author is a partner at J. Sagar Associates. The views expressed here are personal. The author relies on data from the public domain that has not been independently verified.
Niyati J. Mehta of J. Sagar Associates discusses FCCB crisis and the various options available with the issuers to restructure or redeem their outstanding FCCBs..By Niyati J. Mehta.FCCBs are bonds with a fixed maturity period issued by Indian companies to foreign investors. The bond holders are given the option to convert the bonds into shares of the issuer company at the time of maturity at a pre-decided price. Until they are converted to shares, FCCBs constitute debt of the company..FCCBs caught the fancy of India Inc. as innovative hybrid instruments to access international markets. Following the sustained liberalization programme undertaken by the Indian government, the FCCB market took a quantum leap during the bull run of 2005-2008. According to Prime Data Base, 201 Indian companies raised close to Rs. 72,000 crore through FCCBs during this period..Corporates preferred using FCCBs to reduce their borrowing costs and issued the bonds at very low coupon rates; some were even zero coupon. However, they fixed the conversion prices 25% to 150% higher than the prevailing market prices in expectation of an increase in share prices..The funds raised through the FCCB route were primarily meant for overseas acquisitions and imports of capital goods. However, many promoters treated the funds as “free money” that need not be repaid – the basic assumption was that share prices will always rise and there will be no need to repay the bonds as they will be converted to equity. This theory fell flat with the crash in equity markets. Share prices of over 70% of the issuer companies are trading between 5% to 60% of their conversion price. RBI’s Financial Stability Report of June 2011 states that FCCBs worth Rs. 220-240 billion are not likely to be converted to equity shares as the current share prices of the issuer companies are significantly below the conversion prices. It is estimated that 2/3 of the FCCBs due for maturity by March 2013 will not be converted into equity shares..Reports state that of the 77 FCCBs that will mature before June 2012, 16 companies are loss-making. Over 50 companies have not allocated sufficient funds in their bank accounts to pay back the principal. Over 60% of the companies are heavily leveraged and are not in a position to raise further funds..The Indian Rupee has significantly depreciated in 2011. Reports state that 60% of the FCCBs maturing have been raised at a rupee-dollar rate of less than 42 – this will result in a cumulative MTM loss of approximately 25% at the current exchange rate..Wockhardt, Cranes Software, Aftek, JCT, Marksans Pharma, Mascon Global, Gremach, Pyramid Saimira and Zenith Infotech have defaulted on either repayment of the FCCB or on the coupon payment/s..Some of the big issuers whose bonds will mature in the coming months reportedly include Reliance Communications – $925 million maturing on March 1, 2012 and Jaiprakash Associates – $354 million maturing on September 12, 2012. Press reports state that Everest Kanto Cylinder ($35 million), Rolta India ($97 million), Videocon Industries ($196 million) and Firstsource Solutions ($191 million) will also see their FCCBs maturing in 2012..All eyes are on the redemption of FCCBs by Reliance Communications slated for March 2012. Analysts say that the issuer’s cash flows from operations may not be sufficient to pay the bondholders who are unlikely to wish to convert the bonds issued in 2007 into equity shares that are currently trading at a fraction of the promised conversion price..In cases where the current price is at a significant discount to the conversion price, it appears that the issuers will have to adopt one of the following alternatives:.Redemption of FCCBs upon maturityBuy back of FCCBsRestructuring of FCCBs.While some companies such as Jubilant Organosis Ltd., Reliance Communications Ltd., Mahindra and Mahindra and Adani Enterprises were able to convert their FCCBs to equity, factors such as the tight and expensive debt market, the lacklustre performance of equity markets and low investor appetite are presently making further conversions unlikely. In the present market, issuers have the following options:.1. Injecting equity – The issuer may raise equity to finance redemption/ repayment of the FCCBs. However, it may be difficult to find new investors considering the present liquidity crunch and the FCCB repayment liability in the books of the issuer company. Further, the current shareholders may not agree to dilute their equity by inducting new shareholders. The existing shareholders will be required to bring in the capital..2. Raising debt – Considering the present credit crunch and high interest costs, raising fresh debt to service the cheaper FCCB debt may prove expensive and unfeasible..3. Redemption of FCCB by refinancing – This entails settlement of debt by the issuer and mandates funds at the disposal of the company to redeem the bonds. RBI has permitted issuers to avail of fresh ECB/ FCCBs to finance redemption of an existing FCCB. This option may be preferable too as it is likely to prove cheaper. However, it may prove difficult to find willing lenders, given the global credit squeeze and general averseness to risk. The guidelines prohibit a change in the conversion price, while permitting restructuring of the FCCB by changing the maturity period and interest rates..4. Buyback of FCCB – The issuer has an opportunity to reduce its debt and from the Indian government’s perspective, to potentially reduce the higher forex outflow. The prevailing regulations permit an Indian company to buy back FCCBs (a) from existing foreign currency funds and/ or fresh ECB proceeds at a minimum discount of 8%; and (b) from internal accruals with RBI approval at a minimum discount ranging from 10 to 20%. The ECB policy must be complied with. There is no cap on the quantum of buy back out of foreign currency funds/ fresh ECB, whereas a buy back from internal accruals may be for an amount capped within the range of US$50 – 100 million..5. Restructuring the FCCB – The issuers may restructure the terms of the FCCB with the agreement of the bond holders. The consent of the bond holders is required. Proposals for restructuring FCCBs that do not involve a change in the conversion price will be considered by the RBI under the approval route, on a case to case basis..In 2009, Tata Steel rolled over its convertible bond maturing in September 2012 to November 2014 and increased its coupon rate from 1% to 4.5%. Subex is negotiating with its bond holders to roll the maturity period of one of its FCCBs further into the future..Bond-holders may seek to enforce their rights by litigating in the Indian courts. Some issuers have had winding up petitions filed against them. Even after admission of a winding up petition by the court, it may take several years to completely liquidate a company and repay FCCB holders. Generally FCCBs are unsecured and therefore rank lower in terms of repayment of debt. FCCB holders receive their payment only after the secured creditors and statutory dues of the liquidated company are entirely paid off..However, this currently appears to be the preferred route. Wockhardt’s bond holders have had some success, getting Court orders directing Wockhardt to repay the bond holders first, prior to the secured creditors of the company. The matter remains pending, with the secured creditors threatening to appeal the court decision. All eyes are on this litigation, with investors and Indian corporates alike waiting for the Court’s judicial decision..The strategy of Indian corporates in relation to FCCBs, the support of the central bank and the stand taken by the Indian courts are being closely watched by the global investor community. The recent spate of legal cases by FCCB bond holders to protect their interest by seeking liquidation of bond issuers may undermine the credibility of Indian bonds. It is crucial for Indian regulators to intervene in the current market and to provide a cordial and practical approach..The RBI has tried to prevent further defaults by extending the deadline for buy-backs of FCCBs from June 2011 to March 2012, but little is likely to happen between now and that deadline, since most of the FCCBs that are maturing in the near future will come up for redemption after March 2012. Further, the RBI has imposed a minimum discount as a condition for buy-back of FCCBs..Given the current liquidity and equity market scenario, issuer companies have little choice but to borrow monies and redeem the bonds on the due date. The credit squeeze in global and local markets has made it difficult for Indian corporates to find willing lenders..The author is a partner at J. Sagar Associates. The views expressed here are personal. The author relies on data from the public domain that has not been independently verified.
