India: Two dozen FCCB issuers set to default, says S&P

Mumbai: Rating agency Standard & Poor's has said that around two dozen companies whose foreign currency convertible bonds (FCCBs) are set to mature in 2012 are likely to default because of their inability to raise funds to refinance these instruments. These companies had issued bonds in the past assuming that investors would choose to convert them into equity and had not made any provisions for their redemption. With the current market price of these companies at a fraction of the redemption price there is no way the bonds are likely to be traded for equity.      "With India's stock market still in a slump, investors don't want to convert the $5 billion in FCCBs that will mature in the rest of 2012 into stock that's worth 20%-90% less than the conversion price. Instead, they want their money. The steep 30% drop in the value of the Indian rupee against the US dollar over past two years is exacerbating the problem. The result is that many FCCB issuers may have trouble finding funds to repay bondholders – and that those that cannot will face payment default," said S&P in a report.      According to S&P, if issuers were to pay off their FCCBs, about one-third of them would be left with operating cash flows barely enough to meet interest liabilities. Because of limited access to loans and high cost of borrowing, S&P expects that most of the 48 companies would try to raise funds through external commercial borrowings or through qualified institutional placements (ie seeking funds from institutional investors) to pay off their FCCB debt. RBI allows companies to raise ECBs to repay convertible bonds if they are able to raise funds at Libor plus five percentage points.      "Orchid Chemicals & Pharmaceuticals, Hotel Leela Venture and The India Cements have in the past redeemed FCCBs in this manner. We believe JSW Steel will do the same, probably in June 2012. However, this option is available only to companies with strong credit profiles," S&P said.      Overseas branches of Indian banks provide most of such loans and but they would be constrained by their limited access to dollars. "We estimate that interest expenses will rise by 25%, on average, for companies that can find funding to pay off FCCBs. That's because about 80% of companies with FCCBs maturing in the rest of 2012 pay less than 2% interest on the bonds, and about 60% have a zero coupon. However, the cost of borrowing to pay off FCCBs would be much higher—about 6% for external commercial borrowings and 10%-12% for loans from domestic commercial banks," the report said.