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Road to FCCB Redemption

Published on Sat, Jun 04,2011 | 11:40, Updated at Sat, Jun 04 at 12:02Source : CNBC-TV18 |   Watch Video :

The FCCB rush has come back to haunt India Inc! Over USD 11 billion of foreign currency convertible bonds will mature over the next one year or so. For many, conversion is not an option with todayís stock prices far below 2006 levels. So what can companies do? Repurchase? Reprice? Restructure? Or Refinance and Redeem? CNBC-TV18's Sajeet Manghat and Suresh Venkat examine the options facing Corporate India!

Anil Ambani's flagship company Reliance Communications raised USD 1.5 billion via foreign currency convertible bonds in 2006-07. USD 500 million worth of bonds were to convert into equity in June 2011 at Rs 480.68 a share. The remaining billion, next year, at Rs 661.23 a share. But the companyís shares are currently trading at below Rs 100. And so, in May this year, Reliance Communications was left with little option but to redeem the first tranche! At a yield-to-maturity of 4.65% per annum, the redemption cost for Reliance Communications was USD 629 million. Next year too, it will pay approximately 25% over the initial USD 1 billion amount.

Reliance Communications is one of over 100 companies burdened with USD 11.26 billion of FCCBs that will mature over the next 12 to 18 months. With stock prices far away from their 2006 levels, thatís a redemption or re-pricing burden of USD 11.26 billion; nearly half of what foreign institutional investors invested in equities last year.

Bala Swaminathan
MD, Vice-Chairman - Corporate & Investment Banking
DSP Merrill Lynch
Does Corporate India have that cash capacity in their balance sheets to pay that sought of balance amounts- the answer clearly is NO. So they will have find some solutions between now and next 12-18 months to either find mechanisms to pay up the debt when it matures or figure way out of alternatively funding solutions.

The solutions or mechanisms depend on the financial condition of both the company and its FCCB investors. Companies that have access to credit can pick a repurchase or buyback! In April 2006, M&M raised USD 200 million of FCCBs due for maturity this year. In 2009 they bought back USD 10.5 million of bonds at a discount.

But back then bondholders, typically cash strapped hedge funds, were willing to take a haircut. Even then less than one billion dollars of FCCBs were bought back. Now, though the buyback window is open till the end of this month, few bondholders will agree to a discount. Besides buying back is often tough as many FCCBs are not actively traded and many hedge fund investors have already stripped the instrument of the credit protection provided by banks making it difficult to identify investors to buy back from.

Nishikant Das
Director & Head - Capital Markets Solutions, Capital Markets
Standard Chartered
There have been limited funding lines to fund the buyback- those funding lines come with security were as the FCCBs do not come with security. Lot of these bonds were placed on the back of credit protection and so the investors had lot less incentives to give these bonds back in buyback.

For companies drowning in debt and faced with investors refusing to take a haircut Ė repricing is a better option!

In October 2007, Great Offshore raised $42 million (7.25%) in FCCBs that are due in 2012. The conversion price was Rs 875 a share (USD = Rs 39.82) - that works out to be 4548 shares a bond.  Great Offshore repriced to Rs 499.74 a share. Thatís 7964 shares a bond- almost twice the original dilution. Though repricing may help stop bondholders from going to court, few promoters are willing to accept so significant a dilution.

Bala Swaminathan
MD, Vice-Chairman - Corporate & Investment Banking
DSP Merrill Lynch
There are many cases where re-pricing was not built in to the agreement and in those cases itís going to be difficult legally to do repricing until and unless there is a fresh issuance of equity which almost like repricing but its fresh issuance of equity which pays off the FCCBs.

Wiser companies planned in advance Ė to restructure. Tata Steel sought RBIís permission to replace the FCCBs with convertibles carrying a lower yield-to-maturity and a lower conversion price.

Nishikant Das
Director & Head - Capital Markets Solutions, Capital Markets
Standard Chartered
Companies who have not got into any redemption pressure or that kind of situation but proactively well in advance anticipating this redemption pressure and gone ahead and sought regulatory approvals and basically extended the maturity of the existing convertible bonds. So bonds that are maturing in 2012 have been pushed out to mature in 2014.  

When all other ĎRís fail, the last one on the menu is redemption. Rating agency Crisil expects Rs 31,500 cr of FCCB redemption between now and December 2012. Having already accounted for these FCCB issuances as regular debt, the redemption will not trigger rating action.

Pawan Agrawal
Director - Corporate & Government Ratings
CRISIL
In our analyses of debt equity and analyses of interest coverage and debt service coverage, it has already been factored in as debt and therefore today when the redemption happens and the refinancing needs to happen from a debt perspective it is for the entities we rate we do not expect any impact likely.

But redemption is an expensive option, definitely more expensive that FCCBs. Remember FCCBs are zero or low coupon bonds and instead of an annual coupon, offer an average 5-6% yield-to-maturity i.e. the interest is paid upon redemption. But new loans carry a higher annual cost!

Bala Swaminathan
MD, Vice-Chairman - Corporate & Investment Banking
DSP Merrill Lynch
In the loan market today, a decent company would borrow at LIBOR plus 350/400 bps. On top of that, there would be a hedging cost. There would be typically some form of fees. So you are typically looking at 9-10% dollar cost as against 4-5% cost. So you are looking at 400-500 basis extra cost in the new financing arrangement. 

Thatís if the refinancing is done via a foreign currency loan Ė ECB in other words. But there are disadvantages to using the ECB route to replace an FCCB. Current rules donít allow companies to raise debt to repay debt and so special permission is needed from RBI. Also, not only does it mean replacing unsecured debt with secured debt, it also diverts a limited borrowing facility from expansion activities to debt refinance. Besides, ECBs come with stricter debt covenants.

So why not issue new FCCBs to replace old ones? Well the great FCCB rush of 2006 saw many FCCBs priced at a 100 to 150% conversion premium, premised on the expectation that the companyís stock price would more than double in 5 years. Thus an FCCB resulted in lower dilution than a pure equity issuance. The large conversion premium was accompanied by a zero or low coupon but had an average redemption premium of 30-35%. Todayís terms are very different.

Nishikant Das
Director & Head - Capital Markets Solutions, Capital Markets
Standard Chartered
Every deal has a coupon. In many cases itís been a cash based structure. When I say cash based, it essentially means the coupon is almost equal to the year to month on the transaction. So there is hardly any redemption premium to be paid at the end of the tenure. The conversion premiums have been muted. You know there have been transactions done at 7.5-10% or 15% kind of conversion premiums which is way below what it used to be in 2006 and 2007. A convertible bond typically has the attractiveness of the conversion premium and when that comes down, the attractiveness comes down from an issuerís perspective.

That leaves companies with the option of raising expensive rupee loans or rupee NCDs, fresh equity via say a QIP, or hybrids that come priced in between!.     

Bala Swaminathan
MD, Vice-Chairman - Corporate & Investment Banking
DSP Merrill Lynch

The obvious structure is raising more equity, and using the proceeds to payoff the FCCBs- thatís structure one, limitation of that as I said is dilution. Structure two is for the companies that are well rated is to raise money through a bond and use the proceed to pay off the FCCBs and that typically is available for companies that are well rated. The third structure is for companies to do bilateral loans with banks ECB type loans.

Companies like 3i Infotech sold off its US arm to pay for the FCCB redemption, while Educomp is raising up to USD 250 million to repay the FCCB. Over 100 companies will have to find similar such solution.

 
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