Embroidered fabrics and laces manufacturer and exporter Pioneer Embroideries Ltd has announced that it has reset the conversion price of its foreign currency convertible bonds (FCCB) by 30% to Rs155.92. In mid-January, it had already lowered the price by 10%.
Earlier this month, fabric embroiderer Grabal Alok Impex Ltd made a similar adjustment, while sugar and distillery firm Simbhaoli Sugars Ltd said its board of directors are meeting to consider a reset of its FCCB conversion price.
All these adjustments are being made because of ‘reset clauses’ attached to the convertible bonds, according to which the conversion price is revised downward when the company’s share price falls below a pre-determined level. At Rs102, Pioneer Embroideries’ share price was 54% lower than the revised conversion price of Rs223.96. This implied a high likelihood that the bonds would not get converted into shares and would end up as debt on the company’s books. Keeping that in mind, the reset clause may well save the day for the company.
With share prices of a large proportion of FCCB issuers having corrected by over 40%, the assumption was that Indian companies may end up with much more debt than it had planned.
But reset clauses may change all that. It’s not that this arrangement comes without a cost. As a result of the drop in conversion price, the dilution in equity will be much higher. In Pioneer’s case, 60% more shares would have to issued because of the drop in price.
Still, that’s better than the prospect of having to raise funds afresh to repay the convertible bond holders. And considering that companies do not show the related interest cost on convertible bonds in the profit and loss statement, non-conversion would lead to a huge hole in the books of accounts.
But not all convertible bonds have reset clauses. Prior to the crash in May 2006, only a handful of issuers decided to go for these clauses. The recent instances of resets indicate that the proportion has increased since then, but they still seem to be the minority.
The FCCB market currently is inactive owing to the slump in the equity market, but once issuances resume, it’s likely that more of them will opt for reset clauses.
Non-food credit growth doesn’t match IIP numbers
How steep is the growth slowdown? The concerns have been worsened by the Index of Industrial Production (IIP) numbers for January, which showed a year-on-year rise of just 5.3%.
Surprisingly however, the growth in non-food credit has remained at between 22-24% since June, with no appreciable change in trend. While the year-on-year growth in non-food credit was 23.7% for June 2007, it was 23.5% in January 2008.
As a matter of fact, after growth at around 27% during April and May 2007, at a time when industrial production also rose at a high rate of 11.3% and 10.6%, respectively, the growth in non-food credit has been more or less uniform during the financial year. Over the same period, while the IIP growth has been volatile, the trend has been unmistakably downward.
How does one account for the discrepancy? After all, credit growth should be closely correlated to industrial production.
One positive signal could be that the very low growth of 5.3% in the IIP number for January 2008 could be an aberration and that growth is actually higher.
That is also the conclusion that most economists arrived at when the industrial production numbers first came out.
There could be other explanations. For instance, high crude oil prices and the reluctance of the government to increase fuel prices may have led to increased borrowing by oil companies, boosting the credit numbers. Or, the restrictions onexternal commercial borrowings may have led to corporates accessing domestic credit.
The good news is that non-food credit growth has remained remarkably stable over the past nine months. That should augur well for the beleaguered banking sector.
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