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INTERNATIONAL FINANCIAL MANAGEMENT

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Group 8: Arpit Agrawal

Sheena Renu, Marina Kurian Jeby Stephen, Ashutosh Gupta Yogesh Ellani, Kumar Narayan

FCCB’s have now proved to be undoing of a large number of corporate. We should simply have INR only financing for domestic operation of corporate
Foreign Currency Convertible Bond (FCCB) • • Mix between debt and equity instruments A quasi-debt instrument attractive to both investors and issuers

• Acts like a bond by making regular coupon and principal payments, but these bonds also give the bondholder the option to convert the bond into stock • Investors receive the safety of guaranteed payments on the bond and are also able to take advantage of any large price appreciation in the company's stock THE DIFFERNECE Equity • • Debt • • • High interest rates in borrowing High coupon in Bonds ECB limited to Capital goods, capacity augmentation, and overseas acquisitions Immediate equity dilution Dividend distribution

FCCB • • Low coupon/interest compared to debt No immediate dilution of equity

          . only if the stock price is less than the conversion price. which is payable on maturity. Why FCCB??.• • No cash payment in good market conditions All transactions in foreign currency • Withholding tax is payable at the rate of 25 per cent of the coupon. It also takes advantage of any significant price appreciation in the company’s stock FCCBs can also play a key role in a well-diversified investment portfolio for both conservative and aggressive investors The impact on cash flow is positive as most companies issue FCCB with a redemption premium. Indian companies usually raise between $30 million and $100 million in FCCBs. The reason: Banks and FIs negotiate with issuers for the hedging business and make a killing by selling the converted equity at bourses. FCCB financing should still be issued by corporates. It is like TDS and is payable by the issuer on income remitted to a party overseas.e. Arguments Against the Topic i. It is a lucrative option. FCCB is a low-cost debt and the interest rates charged are usually 30-50% lower than the market rate An FCCB is redeemable at maturity if not converted and is easily marketable because it offers the option of converting it into equity that would lead to an appreciation in capital. companies and banks issue bonds in foreign currencies because they are apparently more stable and predictable than their respective domestic currencies It provides issuers the opportunity to access investment capital that is available in markets overseas Companies can use the bonds to foray into foreign markets.  It makes sense to raise money through the FCCB route as companies are still able to save two to three percentage points in borrowing costs even after hedging and with tight liquidity conditions.Some basic qualities that support FCCB Issues and make it beneficial. and banks and financial institutions readily subscribe to such offerings. It helps in enlarging company’s equity base through FCCB conversion without significant difference in their financial ratios such as EPS and P/E Governments.

 How FCCB’s can go either way: . 2009. In April 2009. it is rather the use of the instrument that can make it dangerous for corporates. The issue of FCCBs does not receive credit rating and hence companies find it easier and convenient to float such bonds. On March 13. 2009 to December 31. RBI relaxed guidelines of FCCBs to companies by allowing premature buy-back of FCCBs through rupee resources.  The conversion premium is also adds to the capital reserve of the company making raising capital through FCCB yet more attractive. RBI relaxed amount of buy back from $50 Mn of the redemption value per company to $100 Mn RBI. 2009. RBI further liberalised the norms by extending the deadline for companies to complete the buyback by nine months from March 31.s policy decisions also tend to tell us that as an instrument for financing FCCB is beneficial for both investors and issuers and even regulators believe that FCCB issues are not entirely disastrous. RBI supported & pushed FCCB issues:    In December 2008. Under approval route.

Arguments in Support of Topic: Corporates should no more issue FCCB. the upsides tip the balance in favour of FCCBs and India has been using them as a major tool for raising finance to meet its capital expenditure requirements at competitive rates. FCCB may remain as debt and not get converted at all. and will also dilute the ownership. FCCB is shown as debt on balance sheet until conversion.  In spite of some notable drawbacks. The problem that corporates are facing right now with unexpected debt repayment knocking on their door is because of the sudden spur of issues that every major co. there will be no demand for FCCB. In a falling stock market. in India did without realising the possible downsides of such issues. The country’s regulatory regime has completely endorsed the industry’s efforts to meet its financing needs. The data below shows us the sudden rise in FCCB issues in 2009 that are all now heading towards maturity.     FCCB when converted into equity brings down the earnings per share.?? Some basic problems with FCCBs. Why no FCCB.The anatomy of FCCB thus clarifies that if the markets tend to hold up then FCCB issues can prove highly beneficial for all parties. The quality of Indian bonds has also gained widespread International acceptability and is expected to gain further momentum in the future. .

This. The book value of converted shares depends on prevailing exchange rates. "Many of these acquisitions or growth plans haven't played out to plan. The issuer does not control conversion. "Largely. turned out to be a millstone around India Inc.      In case of redemption. However. The end use of proceeds is restricted. The cost ultimately dependent on share price development. . Here lies the rub. there will likely be a negative impact on the capital structure of the issuer companies. Hence. things did not turn out this way. partner. Economic conditions weakened and their expansion plans did not play out the way they were expected to. FCCBs were the flavour of the season as many companies found it a cheaper way to raise money compared to rates they were getting in the domestic market. makes the FCCB conversion a complex affair." The cash flow from growth plans has been below expectation and these companies now have huge debts. Any depreciation in rupee against the designated foreign currency may make the interest and principal repayment costly. Since the Indian stock market is in bad shape. coupled with depressed capital markets.'s neck. originally considered a boon." says Vikram Hosangady. When the markets were at their peak in 2006-2008. unlike traditional debt which has regular repayment. cash outflow is heavy in one financial year. the money raised through FCCBs was used for inorganic growth or expansion. KPMG. The companies believed that since their shares would only rise. A fall in stock prices means investors will not convert their bonds into equity as shares of most companies are trading well below the agreed conversion price. these companies have weak balance sheets. these bonds were issued when the stock market was bullish and companies were able to get premium valuations. In most cases. the bonds would be converted into equity instead of being redeemed. As a result. The result is that the companies will have to redeem the bonds by raising money at the high interest rates prevalent today. most of the bonds are up for redemption this year (2012). FCCBs The Real Deal: FCCBs.

three companies redeemed FCCBs post due date through cash while investors in four companies converted FCCB into equity at a conversion price much lower than the original conversion price. the global situation turned sour. So. By 2008-09. lenders would convert holdings to equity at the agreed prices. Most FCCBs are issued with a five-year timeline. which opted for FCCBs. India Ratings expects the interest coverage ratios of the companies who used debt to refinance FCCBs to deteriorate by 15%-25% from the current levels. if 2012-13 can be weathered. these were issued in 2007-08. Only five companies have used any internal accruals to redeem FCCBs.Since early 2012. few FCCBs were taken that year and the redemption pressure drops in 2013-14. there will be respite. Most of the companies refinanced their FCCBs either through foreign or domestic debt or through issuance of fresh FCCBs.6 billion is due for redemption. The rupee hit new lows.4% of the total redemption value between 1 March 2012 and 15 October 2012. Hence. there was no question of lenders converting debt to equity. But earnings growth slowed dramatically. By 2012.5bn worth of foreign currency convertible bonds (FCCBs) due for redemption for the rest of FY13. Corporates with rupee earnings and overseas debt to service were hit hard. . Such obligations are around 21. So. at redemption. It was assumed that. when only about $0. Redemption still is due for 19 companies which had defaulted on FCCBs. India Ratings says that of the USD1. never expected to have to pay back the loans in cash. The subprime crash torpedoed global markets. It was also assumed the currency situation would remain more or less stable. as did GDP growth. sundry analysts have pointed out the looming problem. Of the 26 companies who had defaulted on FCCBs on due date.8 billion in FCCBs was due for redemption in 2012-13. around 67% are expected to either default or restructure. Most corporates. Roughly $3.

This rupee fall hurts conversion as well. Today even if the stock stays at Rs 440 it will be worth just $8.For these 19 defaulted/restructured FCCB cases. six companies or their subsidiaries went under corporate debt restructuring and six defaulted on their local currency obligations. Moser Baer. the rupee will fall even more. which it could do because of its size. Zenith Infotech defaulted on $33 million worth of FCCB repayment in October. the rupee value was RS 40-44. We’ve already seen the problems faced by erstwhile blue-chips. they will end up floading the market with buy orders. expected liquidation value. When the FCCBs were taken.if they used the funds abroad. India Ratings expects aboveaverage recovery of 30%-70% with an average recovery span of three to five years. etc in managing FCCB redemption pressure. Some example of companies who defaulted:     Suzlon seeks extension for FCCB payment. For the remaining seven companies. JP Associates. companies need to pay 20% more and this is apart from the compound interest and given that if they try to pay back the FCCBs. Suzlon. Today.5% if bondholders increase the tenure fron 2012 to 2014. India Ratings has estimated recovery rates and potential time to recovery considering contractual and structural subordination. This means to buy the same number of dollars and pay back. JSW Steel and Tata Steel have managed better but it has definitely been a cause for worry for everyone. stock down. Hotel Leela. Other corporates like Tata Motors. and a conversion price of Rs 440. ICICI de-rates Tulip Telecom on FCCB issue. a loss of 15%. the return of those funds would also be in dollar so the impact is lesser. economic motivation of sponsor and operational viability of the underlying business. FCCB holders in 12 companies may expect below-average recoveries in the range of 0%-30% with an average recovery span of at least five years.46. That means one share= $ 10 worth. This hurts more when the companies borrowed to deploy money in India. such as Reliance Communications. . Tata steel offered to increase coupon rate from 1% to 4. Educomp. Consider an FCCBs issue with the dollar at 44. the rupee is at Rs 52 to a dollar. Of these 12 companies.

. The Final Word: The current situation of FCCB issues done by all corporates in India is not rosy and yes corporates have their backs against the wall considering the amount of debt that is getting due for repayment.’s growth story. Ankur Drugs and GV Films. Great Offshore. Firstsource. Websol Energy. The problem here lies not in FCCBs as an instrument but in the rash and irrational way that the corporates used them and so we believe that FCCBs should still be issued but with utmost caution and the job of regulators we believe is primary here to ensure that caps are put on the amount of FCCBs that can be issued and the whole issue is well regulated and the regulators are able to control the issues whenever corporates go berserk with these issues.Quite a few more companies are due to come up for redemption in the remaining months of calendar 2012. All that been said . Indowind. With all major Indian companies suffering from these issues FCCBs would surely become one of the major reasons that is pushing back India Inc. Everest Kanto. The list includes Pidilite. we also can’t deny the fact that FCCB offer immense benefits to issue and investors both and they serve as a very efficient source of financing for all and that can’t be taken away even after recognizing the grave situation they have put corporates in today.