Raising capital through debt financing can be a very attractive option in an environment conducive to business growth. However, excess debt can lead to overwhelming financials problems and place a company’s future in jeopardy in times when the business is struggling. Corporate debt restructuring (CDR) provides an effective solution to enhance liquidity & profitability by establishing fair and equitable debt repayments to creditors.
Corporate debt restructuring is a mechanism by which a company attempts to overhaul its outstanding obligations. The reorganisation of the outstanding debt can be done by: increasing the tenure of the debt, reducing the interest rate, conversion of debt to equity or by conversion of outstanding portion of interest into term loan.
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In the following sections, we throw light on the viewpoints of both the parties involved in debt restructuring process and various exit scenarios of CDR process.
Borrower’s view point:
In spite of the best efforts, companies find themselves into the situation of financial crunch because of the factors not under their control such as; change in industry dynamics and economic factors. Under such circumstances, the company may resort to following course of actions:
• Enhance its level of Debt with an expectation to improve its Profitability & to pay off its original debt, however the company may not be able sustain such increased leverage condition.
• Cease the current operations of the company & undergo winding up, so this will ultimately lead to unnatural death of company.
• To consider a structured plan to re –negotiate the terms of its current debt with existing lenders itself – this is where CDR gains prominence
The debt restructuring could lead to any of the following actions and the impact it would have on the company.
Lenders and creditors can resort to CDR mechanism to secure their interest by mutually getting into an agreement. Restructuring process can be quite cumbersome due to multiple lenders, having different opinions and views, which could result in time delay. However CDR gives following advantages to the lenders:
• Lenders can restructure their NPA’s in their balance sheet.
• As the primary interest of lenders lies in recovering the principle amount and interest, CDR can be a useful tool by avoiding the value through liquidation.
• Also liquidation events result in low yield for creditors.
Therefore CDR can be very useful tool for the lenders to transform NPA’s into productive asset.
Looking to Raise Capital? Learn more about Bond Valuations.
Exit & Recompense Clause
The payment of recompense amount gets triggered in the following circumstances:
• At the time of maturity of CDR mechanism or before that on voluntarily basis.
• If the borrower perform well above the CDR projections in any year.
• If the borrower declares dividend in any financial year in excess of defined threshold and recompense amount shall be payable prior to distribution of dividend.
On the occurrence of any of the trigger events, the monitoring institution shall convene a meeting of the monitoring committee to determine the quantum of the recompense amount payable by the borrower till the trigger date.
In the recent past, debt restructuring has gained a lot of prominence due to its effective & efficient approach to deal with the financial distress of the borrower, which puts lender’s interest in jeopardy. However, this mechanism looks easy on paper but it has to go through many hassles like majority consent of creditors, agreement between borrowers & lenders and legal & regulatory approvals of jurisdictions of different sovereignties, which could be a lengthy and tedious process.
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