FCCB Blues...

What is FCCB?
FCCB (Foreign Currency Convertible Bonds) a bond, issued n a currency different from the issuers domestic currency. Th bond a mix between th debt and equity instrument and provides the bondholders an option to convert th bonds nt equity. FCCBs r attractive to both investors and issuers.

Rationale behind going the FCCB way

Companies raise money in many different ways and one of the modern methods is issuing Foreign Currency Convertible Bonds (FCCB). All the money raising methods have some advantages and disadvantages and FCCB is not an exception. Though FCCB method has been in practice for a long time, it came in to prominence in India only in recent decades. The Pros and Cons of FCCB for both the issuers and investors are as under: Benefits for the Issuer FCCB a gd source of raising funds with minimum cost as interest rate being much lower than any other debt instrument because of its equity component. The company n raise loan without rtng security n assets. The issuing companies get the benefit of raising the money from the foreign markets, thus opening another source of financing for them. Benefits for the Investors Investors could enjoy safety of guaranteed payments on the bond. FCCBs are more attractive due to their debt to equity conversion option. Investors not only get the benefit of capital protection, but also an opportunity to earn profit from the price appreciation of companys shares after conversion. Redeemable at maturity if not converted.

On the flipside, like any other financial instruments, FCCBs also have their own disadvantages to both issuers and investors. Exchange risk is more in FCCBs as interest on bond would be payable in foreign currency. If the stock price plummets, investors will not go for conversion but redemption. So, companies have to refinance to fulfil the redemption promise which can hit earnings. It will remain as debt in the balance sheet until conversion thereby inflating the debt equity ratio of the company.

Current Situation
A lot of Indian companies that are sitting with huge foreign debt on their books through foreign currency convertible bonds (FCCBs) are feeling the heat after their stock prices failed to move in tandem with the recent bullrun. About 24 Indian companies are facing huge redemption pressure ahead of their bond conversions before mid-2011. Many Indian companies found comfort in raising money through foreign currency convertible bonds in the bull run of 2005-07. The equity-debt instrument helped the companies leverage the equity without actually diluting the base. Between 2004- 2008, about 158 Indian companies have issued FCCB of close to US $20 billion, of which, $3 Billion only have been converted, thus leaving $17 billion still outstanding. However, in the present scenario, the numbers are still enormous despite a surge in FCCB buyback following the relaxation by RBI under the approval route till June 30, 2010. Majority of them are not likely to get converted, due to their share price now ruling much below its pre fixed conversion price. These FCCBs generally have tenure of 5 years 1 day and hence they will be having maturity before 2012 for redemption.

Below is the list of few companies whose FCCBs are nearing maturity in the next six months Company Amount Conversion Price Share Price* Jubilant Life Sciences $202m 413.45 207.80 Radico Khaitan $45m 159.20 139.65 HCC Ltd. $130m 248.09 37.05 Punj Lloyd $62m 272.59 93.15 Bajaj Hindustan $132m 465.40 85.50 Tata Motors $300m 780.40 1156.15 Relance Communications $297m 656.00 118.05 Aurobindo Pharma $149m 522.00 1154.25 Total $1317m *Closing share price as on 3rd Feb,2011

Options Available to FCCB Issuers

To convert debt to equity, To repay the FCCB holders through internal accruals, To borrow from the market and pay back the outstanding, Raise equity and pay back the bond holders, Request for extension to FCCB holders.

Conclusion
As seen in the table above, the conversion price of the bonds are far above the current market price which rules out the equity conversion option. Thus, the companies are left out with the other options of redemption or extension. Considering the current market scenario it is unlikely that the FCCB holders would agree upon the extension of the bond maturity. Thus, as a measure of last resort, the companies would have to redeem the bonds either through internal accruals, borrowals from the market or raise equity. Many companies have not made provisions for such redemption as they have been presuming it to get converted. Apart from this, the redemption amount has increased drastically in rupee term, partly due to weakening rupee and partly due to interest / redemption premium. It is significant to note that the FCCBs when they were issued the domestic currency were trading between 43 and 44 levels. With the INR weakening further, the liability in rupee terms is all set to hurt India Inc. The weakening rupee and falling stock prices have impacted many Indian firms that raised capital through FCCBs as conversion prices are deep out-of-money. This is likely to affect the bottom line of almost all the companies which have FCCBs outstanding in their books. Thus, in the medium term, the FCCB redemption pressure could have a spillover effect on the rupee and keep it on a weakening bias.