FCCB issuers to face conversion problem

The Reserve Bank of India (RBI) today cautioned that corporates who raised funds through foreign currency convertible bond (FCCBs) will face problems as holders may not opt for conversion of bonds into equity because of low market value of shares.

Since stock prices of many of the issuers of FCCBs are far below their conversion price, the transition of these instruments into equity would be difficult at the time of maturity.

As per an estimate, FCCBs worth about Rs 31,500 crore, issued during the 2006-08 bull run, are coming up for redemption by March, 2013.

"During the period from 2005 to 2008, large amounts were raised through FCCBs by many India companies with elevated conversion premia. Most of them are nearing maturity by March, 2013. Estimates show that a very large portion of these FCCBs may not get converted into equity," the central bank said in its Financial Stability Report June, 2011.

"Thus requiring their refinancing at much higher interest rates prevent today," it said.

But many of these companies, accounting for more than half of the outstanding FCCBs, are trading at a discount of more than 50% to their January, 2008 prices, it said.

More than a few firms potentially face severe funding problems in the next two years which may not remain confined to their industries, it said.

The apex bank further added that greater access of domestic corporates to external commercial borrowing (ECBs) has resulted in increased currency mismatches.

FCCB is a debt instrument with an equity option by which companies raise funds from overseas. It remains a debt till the option is exercised and the bond is converted into equity.

Exuding confidence on health of the domestic financial market, the RBI said, "The domestic financial markets remain stress free and expected to remain so in near future term."

However, the central bank emphasised need to guard events like 'flash crashes' witnessed in US equity markets in May 2010 as programme trading system are introduced in the country.