Trading calls in companies with pending FCCBs

Roughly $3.8 billion in FCCBs was due for redemption in 2012-13

One of the nastier situations India Inc faces through 2012 is debt-refinancing. More specifically, the refinancing of foreign currency debt is a cause for serious concern. External commercial borrowings, structured either as vanilla debt and foreign currency convertible bonds (FCCBs), exploded through the boom period of 2005-08.

It made a great deal of sense at the time. There was a huge, favourable interest rate differential. The Indian stock market was booming. The macro-economic story was good, with everybody expecting nine per cent gross domestic product (GDP) growth through the long-term. Earnings for the CNX500 basket grew at an incredible rate of over 24 per cent compounded through this period.

Most corporates, which opted for FCCBs, never expected to have to pay back the loans in cash. It was assumed that, at redemption, lenders would convert holdings to equity at the agreed prices. It was also assumed the currency situation would remain more or less stable.

But earnings growth slowed dramatically, as did GDP growth. The subprime crash torpedoed global markets. The rupee hit new lows. By 2012, there was no question of lenders converting debt to equity. Corporates with rupee earnings and overseas debt to service were hit hard.

Since early 2012, sundry analysts have pointed out the looming problem. Roughly $3.8 billion in FCCBs was due for redemption in 2012-13. Most FCCBs are issued with a five-year timeline. So, these were issued in 2007-08. By 2008-09, the global situation turned sour. Hence, few FCCBs were taken that year and the redemption pressure drops in 2013-14, when only about $0.6 billion is due for redemption. So, if 2012-13 can be weathered, there will be respite.

We’ve already seen the problems faced by erstwhile blue-chips, such as Reliance Communications, Educomp, Suzlon, JP Associates, Moser Baer, Hotel Leela, etc in managing FCCB redemption pressure. Other corporates like Tata Motors, JSW Steel and Tata Steel have managed better but it has definitely been a cause for worry for everyone.

What interests me is that most, if not all, companies in this list have underperformed the market significantly. Quite a few more companies are due to come up for redemption in the remaining months of calendar 2012. The list includes Pidilite, Everest Kanto, Websol Energy, Firstsource, Great Offshore, Indowind, Ankur Drugs and GV Films.

What’s likely to happen to the share price of these firms? I’d suspect serious under-performance. Most of these aren’t available in the F&O list for shorting. But prudent investors should probably get out ahead of redemption and perhaps, look for intra-day shorts. Post-redemption, or even during that period, there could be room for re-entry at significantly lower prices. But obviously that will have to be determined on a case-by-case basis.

The author is a technical and equity analyst