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FCCB (Foreign Currency Convertible Bonds) is a bond, issued in a currency different from the issuer's domestic currency. This bond is a mix between the debt and equity instrument and provides the bondholders an option to convert the bonds into equity. This bond gives the issuers an ability to access capital available in foreign markets and make their presence felt in the international market.
FCCB are attractive to both investors and issuers. The investors receive the safety of guaranteed payments on the bond and are also able to take advantage of price appreciation in the company's stock.
Issue of Foreign Currency Convertible Bonds and Ordinary Shares (Through Depository Receipt Mechanism) Scheme, 1993 defines FCCB to mean bond issued in accordance with this scheme & subscribed by a non-resident in foreign currency & convertible into ordinary shares of the issuing company in any manner either in whole or in part, on the basis of any equity related warrants attached to the debt instrument.
FEMA Notification No. 120/ RB-2004 i.e. Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004, defines Foreign currency convertible bonds (FCCB) under Regulation 2(g) which reads as: -
"Foreign Currency Convertible Bond" (FCCB) means a bond issued by an Indian company expressed in foreign currency, and the principal and interest in respect of which is payable in foreign currency"
Common Features of FCCB:
- FCCB can be either unsecured or secured. But, in practice most of the FCCB issued in India are unsecured;
- FCCB issues have a ‘Call' and ‘Put' option to suit the structure of the Bond. Both the options are subject to RBI guidelines;
- Public issue of FCCB shall be through reputed lead managers and Private placement is permitted subject to certain conditions;
- It is also possible to issue zero coupon Foreign Currency Convertible Bonds and in this case, the holders of the bond are generally interested to convert the bonds into equity;
- The yield to maturity of FCCB normally ranges 2-7%;
- FCCB are generally listed to stock exchange to increase its liquidity;
- Credit rating of bonds is not mandatory. But, rating can help better marketing of the bonds;
- FCCB Issue related expenses shall not exceed 4% of issue size and in case of private placement, shall not exceed 2% of the issue size;
Eligibility of Issuers:
Issue of Foreign Currency Convertible Bonds and Ordinary Shares (Through Depository Receipt Mechanism) Scheme, 1995 provides that an Indian Company, which is not eligible to raise funds from Indian capital market including a company which has been restrained from accessing the securities market by SEBI will not be eligible to issue FCCB and Unlisted Indian Companies issuing FCCB shall required to simultaneously list in the Indian Capital Market.
Pricing Regulations:
The pricing of the FCCB issues should be made at a price not less that the higher of the following two averages:
(i) The average of the weekly high and low of the closing prices of the related shares quoted on the stock exchange during the six months proceeding the relevant date;
(ii) The average of the weekly high and low of the closing prices of the related shares quoted on the stock exchange during the two weeks proceeding the relevant date;
The relevant date means the date thirty days prior to the date on which the meeting of the general body of shareholders is held, in terms of section 81(1A) of the Companies Act,1956, to consider the proposed issue.
Statutory Regulations:
RBI Regulations
FCCB are treated as foreign Direct Investment by Government of India. Issues of FCCB have to be complied with sectoral cap of FDI. As per the RBI Regulations, FCCB can be made through (1) Automatic Route or (2) Approval Route. Master Circular on External Commercial Borrowings and Trade Credits issued on July 1, 2009 by RBI vide Circular No. RBI/ 2009-10/27 (Master Circular No. 07/2009-10) contained elaborate guidelines of FCCB issue.
Automatic Route:
Corporate including those in hotel, hospital, software sectors (registered under the Companies Act, 1956 except financial intermediaries, such as banks, financial institutions (FIs), Housing Finance Companies (HFCs) and Non-Banking Financial Companies (NBFCs) are eligible to raise FCCB.Corporate (other than hotels, hospitals & software sectors) can raise FCCB upto USD 500 million in one financial year.Corporate in hotels, hospitals & software sectors can raise FCCB upto USD 100 million in one financial year for meeting foreign currency &/or rupee capex for permissible end uses. Acquisition of land not permitted.As per Master Circular 2009 the average maturity period of FCCB is as follows:
Borrowing upto USD 20 Million or its equivalent in a financial year with a minimum average maturity of 3 years;Borrowing more that USD 20 Million or its equivalent in a financial year and upto USD 500 Million with a minimum average maturity of 5 years;
Borrowings upto USD 20 million Can have call/put option provided minimum average maturity norm is Complied with'
Parking of Proceeds in Abroad :
RBI guidelines provide that funds received through FCCB should be parked abroad till the actual requirements in India or to remit these funds to India, pending utilization for permissible end-uses. RBI has also clarified that parked funds can be invested in short term liquid assets as specified in the guidelines, so that they can be easily liquidated when need arises.
LRN No.
FCCB Issues are required to submit Form 83, in duplicate, duly certified by Company Secretary in Whole Time Practice or Chartered Accountant to the designated AD. One copy of the Form 83 should be forwarded by AD to Director, Balance of Payments Statistics Division, Department of Statistical Analysis and Computer Services (DESACS), Reserve Bank of India, Bandra-Kurla Complex, Mumbai-400051 for allotment of Loan Registration Number (LRN).
Other Legal Obligations
The borrower has to file ECB -2 return on monthly basis with RBI within 7 days of the end of the month.
Disadvantages to the investors:
Exchange risk is more in FCCB as interest on bond would be payable in foreign currency. Thus companies with low debt equity ratios, large forex earnings potential only opted for FCCBs;
- FCCB means creation of more debt and a FOREX outgo in terms of interest which is in foreign exchange;
- In case of convertible bond the interest rate is low (around 3 to 4%) but there is exchange risk on interest as well as principal if the bonds are not converted in to equity;
- 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;
Conclusion:
FCCB is a good source of raising funds with minimum cost. The procedural aspect is comparatively simple. The company can raise loan without creating security on assets. That is why most of the companies are opting to go for FCCB, though the exchange risk is there.
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