Banks rework CDR terms

The clauses on corporate debt restructuring (CDR) are being reworked in view of the huge foreign exchange exposure of several companies, which have already opted for restructuring debt or are on their way to seeking approval for one.

The CDR core body at the IDBI Bank will issue a circular with the changed clauses shortly.

This follows discussions among banks which are members of the CDR mechanisms over settlement of foreign exchange dues. These include payment obligations towards foreign currency convertible bonds (FCCBs), forward contracts for hedging business operations and speculative positions taken by companies through exotic derivative products.

Based on the reworked clauses, foreign exchange obligations of a company under CDR will be clubbed as debt — whether towards FCCB payments or plain derivative transactions like forward contracts for hedging, or exotic products like principal swaps or "rainbow options" (structured forex option on multiple currencies) struck mainly as speculative deals by companies.

When repayments on these deals fall due, banks with outstandings on derivative transactions will have second charge on the assets of the companies. This means the primary lenders — those that have provided funds for day-to-day operations of the companies — will have the first right, or charge, on the company assets.

Companies, however, will have to settle their own dues on derivative deals struck with banks outside the CDR ambit on their own. The CDR package will not give any financial assistance to companies on such dues. This is to prevent companies from using funds taken from CDR-banks to pay such dues to foreign banks and other investment banks.

Second, the clause on “recompense” will be tightened by linking the compensation to performance of the company when it turns around. Recompense is the compensation made by companies to banks for the sacrifices made by the latter while helping the company to turn around. These sacrifices are in terms of deferring the payment schedule of the companies, or lowering the interest rate while extending finance to them.

The clause, as it exists now, leaves it to the discretion of the company and banks to decide as to how much compensation will be made. Usually a bank gets compensated for 35 to 40 per cent of the amount sacrificed during the restructuring.

While forwarding their recommendations towards the recognition of derivative positions of the company, some banks in the CDR cell felt derivative deals done purely for speculative transactions and those for business operations like taking a forward cover for hedging should be treated separately. This is because speculative transactions do not relate to the day-to-day operations of companies, whereas a CDR is for helping the company to continue its normal course of operations .

However, the final view is to treat these as a single class of debt since companies opting for CDR anyway find it difficult to pay any obligation or dues. Moreover, if the account turns into a non-performing asset, it will be a burden on all banks in terms for capital provisioning.