Euro-Issues: Meaning, Merits and Sources

After reading this article you will learn about Euro-Issues:- 1. Meaning of Euro-Issues 2. Merits of Euro-Issues 3. Sources.

Meaning of Euro-Issues:

Euro-issues means the issue which is listed on European Stock Exchange although the subscriptions for the same may come from any corner of the world other than India.

It has already been stated that this sources for the same are:

(a) Foreign Currency Convertible Bonds (FCCB);

(b) Pure Debt Bond;

(c) Commercial (Bond) Paper; and

(d) Global Depository Receipts (GDRs).

Since the first one i.e., FCCB and the last one i.e., GDRs are the significant sources they are explained as far as practicable. But before going to highlight them we are to explain the methodology for Euro-issue. The kinds and number of documents are to be prepared by the issuing company is restricted (in-comparison with the domestic one) in a foreign currency issue of securities transactions.

On the basis of the audited Balance Sheet, the issuing company maintains its account for the last three to five years on the basis of GAAP (Generally Accepted Accounting Principles) in a current format which are quite followed abroad and which goes by the name of RNFS (Reformated Non-Consolidated Financial Statement).

This statement is quite significant and which indicates the financial position of the issuing company as a whole. Whether the Euro-issues will be successful or not depends upon a host of factors, viz. its proper planning, its strategy based on financial performances etc. Thus, it becomes necessary to read/understand the various areas for such issues, e.g., market of the investors, correct price etc.

Although the merchant banker plays a very significant role for such issue which includes:

(i) To arrange for syndication;

(ii) To finalize underwriting arrangements;

(iii) To see miscellaneous functions;

(iv) To formulate marketing policy;

(v) To help in choosing and to prepare a list of international underwriters;

(vi) To organise necessary meeting where managers and senior executives etc. must be present;

(vii) To organise a team work and to find out the correct ways.

Merits of Euro-Issues:

Foreign investment pattern through GDR has increased to a great extent during the last three years in our country since Euro-issues present significant advantages to Indian issuers.

Even, they are more lucrative than those that are available in the domestic market. Besides the above, control of management is not affected at once as there is provision for restrictive voting rights either by issuing convertible bonds or in depository agreement. Thus, it helps to raise future funds from foreign sources.

The merits of Euro-issues, in the hands of a company, are presented below:

(i) We know that the fluctuation in the rate of foreign exchange affects the investors and not the company, in practice. Because, an investor who invest in Euro-issues is the shareholder and thus if the value of the Indian rupee depreciates the same affects the profit of the investors but not the company as there is no extra outflow of resources.

On the other hand, if a company takes a foreign currency loans, no doubt, the fluctuation in the rate of exchange will affect the company in general. From this, the Indian business houses have taken a good lesson for the last few years that even a low rate of interest on foreign currency loans adversely affects them if the domestic currency value depreciates.

(ii) No doubt, Euro-issues pricing attracts our Indian companies for which it has been tremendously increased during the last few years in our country. It may be mentioned here that the prices of Euro-issue are made outside the market price of a share. Thus, for Euro- Convertibles, the shares are issued at a premium which, in other words, reduces the cost of capital.

If we make a proper comparison between the Euro-issue and the overdraft, a clear picture will come out which will reveal that the former is more attractive to our Indian business houses than the later as cost of Euro-issue is only about 4.5% and that of overdraft is 17%.

(iii) A few years back, (i.e., before implementing revised guidelines), a company could raise funds from Euro-issues at a very low cost and invested the amount at a profit either by lending inter-corporate markets at a higher rate of interest or invested the same in share market.

In order to make this principals clear, the following illustration may be cited for the purpose. Let us suppose company X, raised funds for Rs. 400 crores at a nominal rate of interest, say 5% and lent the same at an interest of 18% to the domestic market, making a clear profit of Rs. 52 crores.

Sometimes a company, earn more profits than it makes in its normal business operation. Moreover, the financial position through Balance Sheet exhibits a healthy sign which helps the company in future.

Merits Enjoyed by Investors:

Needless to say that the foreign investors enjoy some advantages from Euro-issues. At present, the investors are interested to invest their funds in an international market although there are some constrains viz, Costly conversion, unreliable/undependable settlement, improper custody services, unfamiliar market conditions, insufficient information etc.

Moreover, complicating taxation procedure etc. also discourage an investor/institution not to invest outside the domestic market. Thus, the incoming members or investors take the advantages via GDR.

They enjoy the following advantages:

(a) The GDRs are quoted in dollars; dividends as well as interest payment must also be made in dollars;

(b) Negotiation can be made through GDR;

(c) Certain restrictions on foreign investments are not applicable on GDRs;

(d) GDRs are as liquid as securities;

(e) Various funds, like mutual funds, pension funds etc. feel some obstructions for purchasing securities other than domestic market, i.e., in international market, which the GDRs do not.

Demerits Suffered by Investors:

There are certain demerits which are noted below:

1. Usually, GDRs pricing is made at a discount to the domestic market;

2. In our country, for an international investor, it is not an even track;

3. Immediate earning is not possible by a GDR issue.

Sources of Euro-Issues:

Now the sources of EURO issues are presented below:

1. Foreign Currency Convertible Bonds (FCCB):

Foreign Currency Convertible Bonds (FCCB) is an equity linked foreign currency debt security subscribed by non-residents which can be converted into shares. The Bond has a fixed interest or coupon rate. The interest of the bond may be opted for conversion into equity. The company must have to pay interest in dollars till the conversion takes place.

Needless to mention that if the conversion option is not exercised, the redemption of such bonds must be made in dollars.

2. Global Depository Receipts (GDRs):

Global Depository Receipts (GDR) is a negotiable certificate dominated, in US dollars, issued by the overseas depository bank outside India against issue of equity shares Each GDR contains one or more shares of the issuing company. These depository receipts may be traded freely either in any international stock exchange or over the counter exchange outside India, or among the restricted groups (e g., QBls i.e.Qualified Institutional Buyers).

The local currency shares of an Indian company are deposited to the depository’s local custodian bank against which the depository bank issues GDR in dollars Of course, a holder of GDR can at any time, convert it into the number of shares that it represents or when the conversion takes place, the underlying shares are invested/traded in the domestic exchange.

At present, the Indian companies are quite fit to tap global equity market for raising foreign currency funds in the form of equity by issuing depository receipts. It is no doubt advantages in the hands of the Indian companies for raising equity over debt in general since the service is lower and there is no repayment of the principal as well Moreover, it is known to all that a GDR issue fetches higher prices from the international investors (even if these are sold at a discount) in comparison with a domestic public issue.

It is interesting to note that an Indian company prefers Euro-issues due to the following:

(i) Indian company can raise a larger amount of foreign funds through Euro-issues in comparison with the domestic issue of equity to Fll since it is limited to 24% to total public issue. There is 110 such limit is case of GDR

(ii) GDR can fetch higher prices in comparison with domestic issues to Fll

(iii) In case of GDR, it is easier to the company to deal with a single shareholder i.e. depository bank

(iv) Usually foreign investors are interested primarily in the return 011 their investments by way of capital appreciation and dividend income/yield instead of voting rights

(v) Return 011 Indian exchange is comparatively high in comparison with the return available on many stock exchanges of the world

(vi) An investor in GDR can enjoy the benefit of being a shareholder without regis­tering itself with SEBI

(vii) GDR is a liquid as share, i.e., a GDR holder can approach the depository bank for cancellation of the GDR and to release the under-laying shares

Liquidation/Redemption of GDR:

Practically, there is no lock period for the GDR An investor may get the GDR cancelled any time after a cooling off period of 45 days. But a non-resident holder of GDR may ask the Overseas Depository Bank to redeem the GDR.

Under the circumstances, the overseas depository Bank shall request the domestic custodian bank to cancel the GDR and to get the corresponding underlying shares released in favour of non-resident investors as well The price of the ordinary shares of the issuing company prevailing in Bombay Stock Exchange or National Stock Exchange on that date will be taken as the cost of acquisition of the shares.

Similarly, when redemption of the GDRs are made into underlying shares, Overseas Depository Bank will request the Domestic Custodian Bank for the same along with a copy for their record and necessary information.

However, when FCCBs are converted into shares, the cost of acquisition for the non-­resident investors must be the conversion price which is ascertained on the basis of the price of the shares prevailing at the Bombay Stock Exchange or National Stock Exchange on the date of conversion.

Markets of GDRs:

(a) It has already been explained that GDRs are sold to institu­tional investors.

(b) FII (Foreign Institutional Investors) convert from ordinary shares into GDRs.

(c) Demand arises from U.K., U.S.A. (OIBs), South East Asia (Singapore, Hong Kong) and from Continental Europe (Switzerland and France).

Effect of GDRs in Indian Capital Market:

Indian capital market are largely affected by GDRs from its very inception having the following characteristics:

(a) Transactions from Indian stock market are shifted from domestic to foreign market.

(b) Since the Indian stock markets depend on the World-wide market, investors are now acquainted with the up to-date economic affairs of the world as well

(c) Retail investors of India are practically outlined from the investment point of view.

Post-Issue Activities for GDR Issues:

Regarding allotment of shares:

(i) Information about the allotment must be entered into the Register of members of the company relating to the shares allotted against which the GDRs should be collected. Register of member must be update at the same time

(ii) If there is any return on allotment, the same must be sent to the Registrar of Compa­nies for necessary information

(iii) The appropriate share certificate must be deposited with Domestic Custodian Bank

(iv) Where the company’s shares are listed, listing application relating to these shares must be prepared, and the same must also be filed with the Regional Stock Exchange/Other Stock Exchange in India for necessary information

Other International Issues (Foreign Euro-Bonds):

Needless to say that GDRs is not the single source of investment for receiving foreign currency finance There is one additional method by which foreign currency finance offered by companies from the International Capital Market the Euro-Bonds.

It is interesting to note that domestic capital market of different countries use different names for such bonds issue eg Bull Dogs’ in U k . Swiss Frances” in Switzerland etc. similarly, each domestic market of a country maintains its own rules and regulations. That is why, borrower from one country may borrow in some other country’s currency of course according to the rules and regulations prevailed in that country.

The different types of foreign bonds are noted below:

They are explained as under:

Euro – Convertible Bonds:

We know that a convertible bond is a debt instrument that provides the holder of the bond an option to convert the bond into equity shares of the company. Normally, at the time of conversion, the price of the equity shares is inclusive of certain premium money although the bonds carry fixed percentage of interest. Now, the bonds may contain two options, of course, if the issuer company so desires.

They are:

(i) Call options (or Issuer’s option) and

(ii) Put options.

(i) Call options:

The issuer company has the option of calling the bonds for redemption before its maturity date if the terms of the bond contain such a call provi­sion. But if it found that the issuer s share price has largely increased, the company can exercise such option. Practically, it induces the investors to convert their bonds into equity shares.

(ii) Put options:

It provides the holder of the bonds a right to sell his bonds back to the issuer company at a pre-determine rate price, e.g. : the payment (for redemption of the bonds along with the amount of interest) must be made in U.S. dollars in the case of Euro-Convertible Bonds. From latter half of 1994, Indian companies find their interest very much at Euro-Convertible Bonds instead of GDRs.

Euro-Convertible Zero-Bonds:

These bonds also are similar to convertible bonds. Interest is not paid on the bonds. At the same time conversion of bonds is made on marketing at pre-determined price. Normally the period of maturity is taken for 5 years.

Euro-Bonds with Equity Warrants:

These bonds contain a coupon rate/prices which has been determined by the market rate/ price. Pure bonds are transacted at a discount. The investors who prefer to create a fixed income funds may use these bonus for their purposes.

General Euro-Bonds:

It has already been explained that bonds are debt instruments. Thus a plain Euro-Bond is also a debt instrument. Investor who wants to invest his investment for the purpose of adding/increasing his investments do not prefer it.