[T.S.R:18017] India FCCBs-Reset Conversion Price Or Default!

Get ready for the mother of all loan defaults in Indian corporate 
history. Scores of mid-range companies which issued foreign currency 
convertible bonds (FCCBs) in 2006-08 are now in no position to repay.* 

With over Rs 31,500 crore due between now and June 2012, they all have 
to either renegotiate with their bondholders or default on their 
obligations. The third option is to lower the price at which these 
bonds will be converted to equity, but this will entail loss of 
promoter stakeholding — an option few promoters want to consider. 

The Reserve Bank of India tried to pre-empt disaster by extending the 
deadline for the buyback of FCCBs from June this year to March next 
year, but little is likely to happen between now and that deadline. 
When you have no cash in hand, extending deadlines only postpones the 
inevitable. 

FCCBs are bonds issued in a foreign currency and sold offshore with an 
option to convert to equity at pre-determined conversion prices. 
Reuters 

The financial condition and share prices of a large percentage of over 
200 companies that have taken these unsecured loans does not generate 
confidence in their ability to cobble up the funds to meet the 
deadline. FCCBs, as mentioned in an earlier post, are bonds issued in 
a foreign currency and sold offshore with an embedded option to 
convert to equity at pre-determined conversion prices. According to 
Prime Data Base, 201 companies raised close to Rs 72,000 crore from 
international markets between 2005 and 2008. A large chunk of this 
money was supposed to be used for foreign acquisitions or import of 
capital goods. 

However, a number of promoters took this to be "free money" which need 
not be repaid. As in the case of the US real estate bubble, the basic 
assumption was that prices — share prices, in this case — will always 
rise, and thus there will be no need to repay the bonds as they will 
be converted to equity. This theory fell flat on its face with the 
crash in equity markets. 

Share prices of over 70 percent of the companies are trading between 5 
and 60 percent  of their conversion price. This rules out the equity 
conversion clause for most  companies. 

This brings us to the other option of paying back the principal amount 
— the coupon interest rate was negligible between 0 and 3 percent. Of 
the 77 FCCBs, which will be maturing by June 2012, 16 companies are 
loss-making. Over 50 companies have not allocated enough funds in 
their bank accounts to pay back the principal. Over 60 percent of the 
companies are not in a position to raise further funds, given their 
stretched balance-sheets. In other words, redeeming the bonds is also 
ruled out for a majority of the companies. 

This leaves us with only two options — renegotiate with the 
bondholders or default. Some of the companies are basket cases, with 
no worthwhile business whatsoever; these are sureshot candidates for 
defaults. 

The last option left is to renegotiate the terms by extending the 
tenure. But companies like Karur KCP Packaging have set a bad example. 
The company 'managed' a favourable rescheduling of its FCCBs at lower 
prices and forced a concocted package on minority bondholders. A 
Singapore-based hedge fund, 3 Degrees Asset Management, has moved the 
RBI against the company. 

Karur KCP had raised $10 million in April 2006 through FCCBs bearing a 
2 percent interest and a conversion price of Rs 75. The bonds were due 
to expire on 27  April, 2011. But by clandestine purchases of a 
portion of the FCCBs, the company managed to get the tenure of the 
security extended by another 10 years and the interest rate was cut to 
zero. The hedge fund has alleged fraud and manipulations in the 
company's scheme. The foreign fund is planning to initiate legal 
proceedings against the issuer. 

All eyes are now on Wockhardt, the first major FCCB defaulter, which 
has become a test case for future defaulters. The case in now being 
fought in the Bombay High Court.  Wockhardt had issued a 0 percent 
FCCB in October 2004, valued at $110 million. The redemption value in 
October 2009 stood at $140 million. QVT, a US-based $9-billion multi- 
strategy fund and a bondholder of the company, along with an overseas 
unit of Sun Pharma, dragged the company to the Bombay High Court with 
a winding-up petition after it defaulted on its payments when the 
bonds matured. 

However, a division bench of the high court granted ad-interim relief 
by staying the admission of the winding-up petition. The court had 
directed the company to deposit 25 percent of the disputed amount with 
the court, which it did. The matter is being closely followed by both 
the bondholders and companies who had issued FCCBs. 

Earlier, a US-based hedge fund, DE Shaw, and Citadel Investment Group 
had filed a winding-up petition against Chandigarh-based Venus 
Remedies after the company defaulted on an FCCB issue. However, the 
matter was resolved last year. 

Some companies who fear a black-listing in international markets have 
started a negotiation process with bondholders to restructure their 
FCCBs. Assam Company, Suzlon, and Subex are some of them who have 
initiated talks with their bondholders. Some like Reliance 
Communications have managed to pay one of the FCCBs by borrowing money 
in the Chinese market. 

There is, however, one final option, which very few promoters in India 
opt for; this is resetting the conversion price. In other words, it 
will lower the price at which bonds will be converted. Conversion at a 
lower price would mean higher stake dilution for the promoter, which 
is normally unacceptable to them, as was the case with Wockhardt, 
which rejected the bondholder's compromise formula of lowering the 
conversion price resulting in the winding-up notice. 

Still, a lot of companies have recently reset their FCCB conversion 
prices closer to their share prices and these include Suzlon, SpiceJet 
and Gitanjali Gems. 

No matter how the companies solve their issues, one thing is fairly 
certain: the FCCB market for Indian companies is virtually closed, 
except for Triple A companies. Most of the FCCBs issued in the 
European markets during the 2006-08 boom were handled by two Indian 
investment bankers, both of whom have shut shop and moved their base 
to India and Singapore.

Safe Harbor Statement:

Some forward looking statements on projections, estimates, expectations & outlook are included to enable a better comprehension of the Company prospects. Actual results may, however, differ materially from those stated on account of factors such as changes in government regulations, tax regimes, economic developments within India and the countries within which the Company conducts its business, exchange rate and interest rate movements, impact of competing products and their pricing, product demand and supply constraints.

 

Nothing in this article is, or should be construed as, investment advice.

 

 

 

 

 

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