New norms for FCCBs on the cards

New norms for FCCBs on the cards

Mumbai: India’s banking regulator plans to frame rules that will curb the enthusiasm of companies floating foreign currency convertible bonds (FCCBs) to raise money even as many Indian companies are grappling with the challenges of redeeming such bonds.

FCCBs are bonds with an equity element. They remain debt instruments as long as the bondholders retain the bonds. Bondholders convert their bonds into equity when the share price touches the conversion price promised by the issuer.

These instruments were popular with Indian companies during the bull run of 2005-08 and about $7 billion (Rs34,440 crore today) of FCCBs are due to mature by March 2013, according to one report of the Reserve Bank of India (RBI), and many analysts suspect that all firms are not in a position to redeem FCCBs.

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“RBI is exploring two options," said a person familiar with the development. One, firms will be directed to create an FCCB redemption reserve by setting aside money from their profits. This will be done in phases, over a period of time, to cushion any impact of the redemption on their balance sheets.

The other option being explored is capping the exposure of companies to such instruments. This will be done after taking into account their debt-equity ratio, among other things.

“The redemption reserve could be 50% of the money raised through FCCBs," added this person, who did not want to be named because the regulator has not yet finalized the norms.

Since the proposed norms will be applicable only to new issuances, the pressure on redeeming existing FCCBs will not ease.

According to a recent report by UK-based KNG Securities Llp, the total value of outstanding FCCBs, including the redemption premium, amounts to $14.8 billion, with one-third—$4.9 billion—of the bonds coming up for redemption in the next nine months.

Some big-ticket FCCBs coming up for redemption include those of Reliance Communications Ltd ($0.9 billion), Sterling Biotech Ltd ($134 million), Suzlon Energy Ltd ($211 million), JSW Steel Ltd ($274 million) and Tata Motors Ltd ($473 million).

Companies have to pay bondholders a redemption premium if the bondholders don’t convert the bonds into equity shares and instead decide to redeem them.

With fears of an economic slowdown getting more pronounced globally, equity markets have been muted thus far this year, leading to share prices of companies trading far lower than the conversion prices. This means companies will have to redeem the bonds paying a premium.

Several Indian companies are struggling to raise money to redeem FCCBs and repay bondholders.

In its recent Financial Stability Report in June, RBI warned that companies which issued FCCBs in large numbers between 2005 and 2008 may face problems converting their bonds into equity because the stocks of many of these firms have fallen.

At least 50 Indian companies are to redeem FCCBs in the next nine months, but they have very few avenues to raise funds to repay bondholders. “Most of these companies already have high debt on their balance sheets and do not have headroom to leverage more," an investment banker said.

According to the banker, who did not want to be named because his company’s policy does not allow him to speak to media, if the companies instead choose to revise the conversion price of the bonds downwards, it will lead to huge equity dilution, leading to promoters losing their control in some cases.

In July, RBI extended the window to allow companies to buy back premature bonds at a discount, using fresh foreign currency borrowings and their own cash. For a minimum discount of 8%, companies don’t need RBI’s approval if they use their foreign currency funds. For minimum discounts between 10% and 20%, companies need RBI’s approval and the buy-backs have to be funded by their own cash.

The buy-back is limited to $100 million.

The banking regulator had opened the buy-back window in 2008 after the fall of US investment bank Lehman Brothers, leading to an unprecedented credit crisis that gripped the world.

Many fear that some Indian companies may default in redeeming FCCBs as the economic environment worsens. While some bondholders are agreeing to restructure and rollover companies’ liabilities, others are gearing up to legally recover money.

The Bombay high court on Tuesday directed troubled Indian drug maker Wockhardt Ltd to clear all dues to its bondholders by August 2012, ending a two-year-long legal battle between bondholders and the company management. The court has set a time frame for the repayment of 417.47 crore of dues, including interest. Any default in repayment will allow an official liquidator to initiate liquidation process against the drug firm.