February 2009
India group briefing
Foreign currency convertible bonds
In recent years, foreign currency
convertible bonds (FCCBs) have been the
financial instrument of choice for Indian
issuers seeking to raise low cost debt
financing from the global capital markets.
FCCBs are essentially debt instruments denominated
in foreign currency, subscribed by non-residents and
which can be either:
• converted into equity shares of the issuer after a
pre-decided period at the set strike price; or
• redeemed at a stipulated premium.
FCCBs were typically priced with low margins as the
value of the FCCB is determined by the underlying
shares. This characteristic of an FCCB made it an
attractive option for the issuer during bullish market
trends.
For an FCCB holder, FCCBs offer the flexibility to either
convert into underlying shares of the issuer if there is
appreciation in the value of shares or receive assured
payments in the form of interest and principal.
Indian issuers issued FCCBs at a premium on the
assumption that the stock prices would continue to
rise and the FCCB holders would eventually opt for
conversion of FCCBs instead of redemption. This would
reduce the possibility of funds outflow on redemption.
With the advent of the current financial meltdown, the
markets plummeted and at present the conversion
price of the FCCBs is several times higher than the
current market price of the issuer's shares. Conversion
of FCCBs into shares is now an unattractive option for
the FCCB holders. Issuers only have two options to
deal with maturing FCCBs:
• to reset the price at current market price, a move
that could dilute promoter holdings (since it would
entail issuing more equity shares); or
• to redeem the bonds, which would increase debt
obligations that are already substantial in some
cases.
ABU DHABI BRUSSELS DUBAI FRANKFURT HONG KONG LONDON MADRID MILAN MUNICH NEW DELHI NEW YORK PARIS SINGAPORE STOCKHOLM TOKYO
These circumstances have caused the Reserve Bank
of India (RBI) to intervene and permit buyback of
FCCBs for a limited period, subject to certain
conditions.
This briefing explains the implications for investors
and issuers in the light of the RBI's recent policy
changes and sets out the general regulatory
framework of FCCBs and the existing FCCB regime
(see Appendix 1).
RBI's recent policy changes: FCCB
buyback route
In order to cushion the effects of the global financial
slowdown on the Indian economy, the RBI announced1
that it will consider proposals for FCCB buyback under
the approval route if funding for such buyback is
financed either out of:
• existing foreign currency resources of the company
held in India or abroad; or
• fresh external commercial borrowing (ECB).
The RBI's quick fix move has been viewed in some
quarters as inadequate because:
• FCCB issuers did not have adequate overseas
foreign currency resources;
• it would be difficult to raise more ECB especially for
discharging existing debt; and
• the buyback, permissible under the approval route,
would still require the RBI's approval which may be
time consuming and discretionary.
In a circular of 8 December 2008 (Circular)2, the RBI
further liberalised the buyback process by permitting
FCCB buyback under the automatic route and also
permitting use of Indian Rupee proceeds for buyback
(subject to certain conditions).
The Circular permits FCCB issuers to buy back FCCBs
under the automatic route and approval route subject
to the following conditions:

Internal accruals
Discount on book value
Funding for buyback
General conditions for FCCB buyback applicable under both routes
Compliance
Limitation period
Cancellation of FCCBs
FCCB holder's consent
Escrow account
Filing requirements
Specific conditions for Specific conditions for approval
automatic route route
Buyback of FCCBs out of internal Buyback of FCCBs out of internal
accruals is not permitted. accruals is permitted subject to
prior approval of the RBI and
fulfilment of conditions listed below.
The buyback of the FCCB is done at The buyback value of the FCCB is
a discount of at least 15 per cent done at a minimum discount of 25
on the book value. per cent on the book value.
Funds used for buyback are either The funds used for the buyback
out of: are:
• existing foreign currency funds • out of internal accruals, to be
held either in India (including evidenced by the statutory
funds held in an "Exchange auditor of the issuer and a
Earners" Foreign Currency bank's4 certificate; and
3
Account with an AD in India) or • the total amount of buyback
abroad; and/or does not exceed US$50m of the
• fresh ECB is raised in conformity redemption value per company.
with the current ECB norms.
If the fresh ECB is coterminous with
the residual maturity of the original
FCCB and is for less than three
years, the all-in-cost ceiling should
not exceed six month LIBOR plus
200 bps; and in other cases as per
the existing guidelines of the RBI.
The FCCBs that are proposed to be bought back should have been issued
in compliance with the extant guidelines and registered with the RBI.
Further, the issuer should not have any pending proceedings for
contravention of the Foreign Exchange Management Act 1999 (FEMA).
The FCCB buyback has to be completed by 31 March 2009 which would
mean that the existing condition of minimum maturity period of five years
in the case of FCCBs has been put on hold until then.
The FCCBs bought back must be cancelled and cannot be re-issued or re-
sold.
The right of buyback is vested with the FCCB issuer but the FCCB holder's
consent will be required for actual buyback. This would mean that the
FCCB buyback will not have any effect on the FCCB holders not opting for
the buyback.
FCCB issuers are required to open an escrow account with the branch or
subsidiary of an Indian bank overseas or an international bank to ensure
that the funds proposed to be used for the buyback are earmarked and
not used for any other purpose.
After completion of the buyback procedure the FCCB issuer is required to
make the following filings with the AD:
• ECB2 form prescribed under the guidelines issued from time to time by
the RBI under the FEMA on ECBs (ECB Guidelines); and
• Report stating details of the buyback including outstanding amount of
the FCCBs, book value of the FCCBs, rate at which the FCCBs were
bought back, amount paid and the source of funds.
Conclusion
Most Indian corporates are viewing the FCCB buyback
policy liberalisation as a positive step and a large
number of cash-rich Indian corporate houses including
Reliance Communications, Radico Khaitan and Moser
Baer are already in the process of buying back their
FCCBs. Others on the list with outstanding FCCBs due
for maturity in the coming year include Aurobindo
Pharma, Wockhardt, M&M, Suzlon, Tata Motors and
Hotel Leela. Further, many cash-rich financial
institutions and private equity investors are looking at
funding companies proposing to buy back FCCBs as
such lending is at a very high interest. It is clear that
the Indian markets will see many such buybacks in the
coming months.
Further information
If you need any further assistance or information on the issues covered in this briefing, please speak to your
usual contact at Ashurst or any of the contacts listed below.
Richard Gubbins
Partner, Head of India Practice,
London
T: +44 (0)20 7859 1252
E: richard.gubbins@ashurst.com
Matthew Bubb
Partner, Singapore
T: +65 6416 0272
E: matthew.bubb@ashurst.com
Robert Ogilvy Watson
Partner, Hong Kong
T: +852 2846 8931
E: robert.ogilvywatson@ashurst.com
Hemali Mehta Chiddarwar
Associate, Singapore
T: +65 6416 9519
E: hemali.mehta@ashurst.com
Notes
1 RBI Press Release 2008-2009/697 dated 15 November 2008.
2 AP (DIR) Circular No. 39 dated 8 December 2008.
3 An authorised dealer or AD is a person authorised by the RBI
pursuant to Section 10 (1) of FEMA. The RBI issues licences to
authorised dealers to carry out specific foreign exchange
transactions related to business activities. Authorised dealers are
divided into three categories: Category I, Category II and Category
III. The banks currently authorised to deal in foreign exchange are
listed under Category I. A list of all authorised dealers under the
three categories is available at: http://www.rbi.org.in/scripts/
category.aspx.
4 The bank must be a designated AD Category I bank. See note 3
above.
Erica Handling
Partner, London
T: +44 (0)20 7859 2485
E: erica.handling@ashurst.com
Carl Dunton
Partner, Singapore
T: +65 6416 9508
E: carl.dunton@ashurst.com
Prabhat Kumar
Associate, London
T: +44 (0)20 7859 2689
E: prabhat.kumar@ashurst.com
Appendix 1: Regulatory framework for FCCBs prior to the RBI's recent policy
changes

Overview of regulatory framework for FCCBs

FCCB issuances are primarily governed by the framework contained in the issue of Foreign Currency Convertible
Bonds and Ordinary Shares (through Depository Receipt Mechanism) Scheme issued by the RBI in 1993 (FCCB
Scheme). Further, being debt instruments, FCCBs are also subject to guidelines issued from time to time by the
RBI under the Foreign Exchange Management Act 1999 (FEMA) on external commercial borrowings (ECB
Guidelines). Finally, provisions relating to the issue of capital under the Companies Act of India 1956 (Companies
Act) are also required to be complied with.

Authorisations and requirements

FCCBs can be issued either under the automatic route or the approval route as discussed below. Following
amendments made to the FCCB Scheme in 2005, an FCCB issuer that is barred from raising funds from the
Indian capital market or restrained from accessing the securities market by the Securities and Exchange Board of
India (SEBI) is not eligible to issue FCCBs. The amendments also require all unlisted companies that have not
issued FCCBs prior to 31 August 2005 to obtain prior or simultaneous listing on domestic stock exchanges before
issuing FCCBs. Similarly, subscribers that are not eligible to invest in India through the portfolio route and
entities which are prohibited from buying, selling or dealing in securities by SEBI are prohibited from subscribing
to FCCBs.

ECB Guidelines' requirements

Available routes
As mentioned above, FCCB issuance is required to comply with the ECB Guidelines. Under the ECB Guidelines,
foreign currency funds can be raised through the issuing of FCCBs under two routes - the automatic route and
the approval route.

Automatic route
The automatic route allows an Indian corporate (except financial intermediaries) to raise foreign currency funds
from a recognised lender without any prior approval from the RBI. The automatic route is available to an Indian
corporate to raise funds up to US$500m in a single financial year. However, use of the automatic route is subject
to all-in-cost ceilings, end-use restrictions and minimum maturity requirements (see below). Where these
conditions are not met, the approval route must be followed.

FCCBs under the automatic route can be issued only for investment purposes in the real sector (i.e. the industrial
sector and the infrastructure sector) in India; for overseas direct investment in joint ventures or wholly-owned
subsidiaries (or their expansion), Rupee and/or foreign currency expenditure for permissible end-users and
payments for obtaining licences/permits for access to 3G spectrum by telecom.

Approval route
The approval route permits an Indian corporate that meets certain criteria to raise funds through an FCCB issue
after obtaining an approval from the RBI. Under the approval route, FCCB proceeds can be utilised for the
following purposes:

• first stage acquisition of shares in the disinvestment process of Public Sector Units (PSUs);
• the mandatory second stage offer to the public;
• development of integrated townships (subject to further conditions); and
• import of capital goods by corporates in the service sector (e.g. hotels, hospitals and software companies).

RBI approval under the approval route may also be sought for an FCCB issue intended to credit enhance
domestic Rupee-denominated structured obligations of the issuing company through the hedging of exchange
rate risks.
Amount and minimum maturity
FCCBs up to US$20m are required to have a minimum average maturity period of three years and FCCBs above
US$20m and up to US$500m are required to have a minimum average maturity of five years.

All-in-cost ceilings
Prior to 2 January 2009, the "all-in-cost" ceiling (including coupon rate, redemption premium, default payments,
commitment fees and fronting fees) for the issue of FCCBs having a minimum average maturity period of three
years up to five years could not exceed six month LIBOR plus 300 bps, and in the case of FCCBs having a
minimum average maturity period of more than five years, could not exceed six month LIBOR plus 500 bps.

By the ECB Liberalisation circular*, the RBI has decided to dispense with the requirement of all-in-cost ceilings
on FCCBs until 30 June 2009. Accordingly, eligible borrowers proposing to avail themselves of FCCBs beyond the
permissible all-in-cost ceilings specified above may approach the RBI under the approval route.

Other restrictions

• FCCB proceeds are not permitted to be used for working capital purposes, general corporate purposes, for
on-lending and investment in capital markets or acquiring a company (or part thereof) in India and real
estate, barring a few exceptions and with approval.
• Proceeds from the issue of FCCBs are to be parked overseas until actual requirement for permitted end-uses
in India. FCCB proceeds parked overseas can be invested in certain highly liquid assets (deposits and other
bank products and treasury bills and other monetary instruments with one year maturity rated not less than
AA(-) by Standard and Poor's/ Fitch IBCA or Aa3 by Moody's, or deposits with an overseas branch of an RBI
"authorised dealer" (AD) bank in India) such that they can be liquidated as and when the funds are required
in India. Since 22 October 2008, FCCB issuers can also keep the funds with overseas branches/subsidiaries of
Indian banks abroad or remit the same to India for credit to their Rupee accounts with AD Category I banks
in India, pending utilisation for permissible end-uses.
• In the case of private placement of FCCBs, the placement has to be made with banks, multilateral financial
institutions, export credit agencies or foreign collaborators or foreign equity holders having a minimum direct
holding of 25 per cent in the issuing company. In the case of foreign equity holders, when FCCBs more than
US$5m are issued, the same should not exceed four times the direct foreign equity holding of the subscriber,
unless prior RBI approval is obtained. For public issue of FCCBs, the same can only be done through
reputable lead managers in the international capital market.
• FCCBs are treated as foreign direct investment (FDI) in the issuing company and should conform to the
existing FDI Policy of the Government of India in respect of sectoral caps, prohibited sectors of investment
etc. As per the FCCB Scheme, the aggregate of the foreign investment made either directly or indirectly
cannot exceed 51 per cent of the issued and subscribed capital of the company wishing to issue FCCBs,
except when investments are made through offshore funds or by Foreign Institutional Investors (FIIs).
• The RBI can allow non-corporates and financial intermediaries to issue FCCBs subject to certain further
criteria. Specifically, in the case of housing finance companies, FCCBs can be issued under the approval route
when the minimum net worth of the company for the past three years has been not less than Rs. 5bn, it is
listed on the Bombay Stock Exchange or National Stock Exchange, the minimum size of the FCCB issue is
US$100m and a utilisation plan for the funds is submitted.
• The FCCB issue related expenses not calculated in the aforementioned all-in-cost ceiling (such as legal fees,
lead manager's fees, out-of-pocket expenses etc.) cannot exceed 4 per cent of issue size and in the case of
private placements, 2 per cent of the issue size.
• Under the automatic route, the issue of FCCBs with attached warrants is not permitted.

Prepayment of FCCBs up to US$500m is permitted subject to compliance with the minimum average maturity
period. Refinancing of existing FCCBs by issuing fresh FCCBs is permitted provided that it is done at a lower all-in
cost and while maintaining the outstanding maturity of the original FCCB.

Note
*A.P. (DIR Series) Circular No. 46 dated 2 January 2009.
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