What are Foreign Currency Exchangeable Bonds?

You might have heard of foreign currency convertible bonds (FCCBs). It is a popular route for Indian companies for borrowing in a foreign currency. But are you familiar with the relatively newer Foreign Currency Exchangeable Bonds (FCEBs)? If not, let’s read further to know more about this financial instrument.

What are FCEBs?
A Foreign Currency Exchangeable Bond refers to a bond expressed in foreign currency by an Indian company, the principal and interest in respect of which is payable in foreign currency.
The key feature of these bonds is that they are issued by an Issuing Company, subscribed by a person who is a resident outside India, and are exchangeable into equity shares of another company which is called the Offered Company.

Issuing Company and the Offered Company
Let’s understand in detail the meaning and eligibility conditions for the Issuing Company and the Offered Company in FCEBs. First and foremost, the Issuing Company and the Offered Company of an FCEB need to be a part of the same promoter group. The Issuing Company should compulsorily hold the equity shares of the Offered Company at the time of issuance of the FCEB until redemption or exchange of these bonds. Any Indian company, which is not eligible to raise funds from the Indian securities market, shall not be eligible to issue FCEB. Prior approval of the Reserve Bank of India (RBI) is required for issuance of FCEBs.

Meanwhile, the Offered Company has to be a listed company, which is engaged in a sector eligible to receive foreign direct investment (FDI) and eligible to issue or avail of FCCBs or External Commercial Borrowings (ECB).

What is the difference between an FCCB and an FCEB?

The main difference is that in FCCBs the bonds convert into shares of the company that issued the bonds. Whereas in FCEBs, the bonds are exchangeable for shares of another company, i.e., the Offered Company. Secondly, in the case of FCCBs, when the holder exercises the option to convert his/her bonds, the issuer company issues fresh shares. However, in the case of FCEBs, when the exchange option is exercised, there is no issuance of fresh shares by the Offered Company. Rather, as mentioned earlier, the Issuing Company has to mandatorily hold shares of the Offered Company, into which the FCEBs are exchanged, until redemption or exchange of these bonds. When an exchange is requested, the Issuing Company just transfers these shares (of the Offered Company) to the holder of the FCEB.

What should you know as subscribers of FCEBs?
Only persons residing outside India can subscribe to FCEBs subject to compliance with the FDI policy and adherence to the sectoral caps at the time of issuance of the bonds. Persons/entities prohibited to buy, sell or deal in securities by the Securities and Exchange Board of India (Sebi) will not be eligible to subscribe to FCEB. The minimum maturity of FCEB is five years. The exchange option can be exercised at any time before redemption. While exercising the exchange option, the holder of the FCEB shall take delivery of the offered shares. Cash (Net) settlement of FCEB shall not be permissible.

Interest payments on FCEBs, until the exchange option is exercised, are subject to payment of tax deducted at source (TDS) as per the provisions of sub-section (1) of section 115 AC of the Income Tax Act, 1961. Exchange of FCEBs into shares will not give rise to any income tax on capital gains in India. Transfers of FCEBs between non-residents also do not lead to any income tax on capital gains in the country.

Foreign Currency Exchangeable Bonds give Indian companies an excellent opportunity to raise money abroad by leveraging a part of their shareholding in listed group entities. On top of it, issuance of FCEBs should have limited effect on the share price of the Offered Company as there is no dilution of shareholding.

Disclaimer
ICICI Securities Ltd.( I-Sec). Registered office of I-Sec is at ICICI Securities Ltd. - ICICI Centre, H. T. Parekh Marg, Churchgate, Mumbai - 400020, India, Tel No : 022 - 2288 2460, 022 - 2288 2470.  I-Sec is acting as a distributor to solicit bond related products. All disputes with respect to the distribution activity, would not have access to Exchange investor redressal forum or Arbitration mechanism. The contents herein above shall not be considered as an invitation or persuasion to trade or invest.  I-Sec and affiliates accept no liabilities for any loss or damage of any kind arising out of any actions taken in reliance thereon. Investments in securities market are subject to market risks, read all the related documents carefully before investing. The contents herein mentioned are solely for informational and educational purpose.