What Exactly Is Foreign Currency Convertible Bond Mean?

A convertible bond issued in a currency other than the issuer's local currency is known as a foreign currency convertible bond. That is to say; the issuing firm is seeking funding in a currency other than the currency of the country in which it is based.

Convertible bonds combine features of debt and equity. It functions similarly to a bond in that regular coupon, and principal payments are made. Still, holders of these bonds also have the opportunity to exchange their holdings for company shares.

Bonds That Can Be Converted into Foreign Currency

A bond is a financial instrument that pays interest to its holders at set intervals through coupons. At the bond's maturity date, investors get the bond's total face value. Convertible bonds are a form of bond issued by certain corporations. When a bond is convertible, the bondholder receives the opportunity to exchange their bond for a certain number of shares in the issuing business.

Convertible bonds can be traded for stock at a predetermined rate. Bonds won't be converted if stock prices remain below the conversion price. Therefore, bondholders who own convertible bonds can benefit from the growth in value of the issuer's stock.

Foreign Currency Convertible Bonds: An Explanation

A foreign currency convertible bond is a type of convertible bond issued in a foreign currency, with all future principal repayments and coupon payments also being made in that currency. An FCCB is essentially a bond issued by an American listed corporation in India denominated in Indian rupees.

Companies with a global presence and a need to raise funds in many currencies often issue foreign currency convertible bonds. Foreign nationals and arbitrators from hedge funds are often FCCB investors. Giving either call or put options in conjunction with these bonds is possible.

Foreign Currency Convertible Bonds

Quasi-debt instruments such as bonds that may be converted into a foreign currency are one type of foreign currency bond. Bonds enable the investor and the company issuing the bond to divide the potential benefit and risk equally. It's a win-win situation for both parties: investors take a chance on the company's success, and businesses may access capital in various currencies.

A foreign currency convertible bond operates similarly to a common bond. Therefore familiarity with bond basics is helpful. However, what truly sets FCCBs apart is the possibility of converting the bond into stocks.

• Both the principal amount and coupon payments on the bonds issued by the issuing corporation are denominated in a currency other than the company's base currency.
• At the time of the bond's maturity, the investor will get the total par value. Bonds that can be converted into a different currency have five years.

Advantages of Using FCCBs

To the firm issuing FCCBs:

• FCCBs reduce the cost of debt financing since their coupon rates are often lower than those offered by conventional banks.
• Foreign currency convertible bonds provide a way for a firm to acquire access to much-needed equity capital in exchange for a reduction in its debt load, should they be converted.
• The company's debt cost might decrease if the exchange rate changes positively.

Addressed to Bondholders:

• An assured minimum fixed rate of return.
• If the issuer's stock increases, the investor will get a piece of the action.
• The option to either access the capital market or to get a reliable source of income via bond payments, depending on the situation. When an investor purchases a foreign currency convertible bond, they gain access to equity and debt at once.

FCCBs' Disadvantages

To The Firm Issuing FCCBs:

• Foreign currency convertible bonds are less in demand when the stock market is experiencing a bear market.
• If the issuer decides to convert any of its bonds into stock, the resulting increase in outstanding shares will be offset by a fall in earnings per share.
• If the bond issuer's currency underperforms the bondholder's home currency, principal and coupon payments will rise in price.
• Investors in bonds are under no obligation to convert their holdings. The issuer will be responsible for making all principal and interest payments.

The Bondholders:

• Bonds denominated in a foreign currency are vulnerable to exchange rate fluctuations and credit risk.
• The possibility of receiving face value at maturity may be eliminated if the issuing firm goes bankrupt.
• Bondholders are powerless to alter the predetermined conversion rates and prices.

Special Considerations

If a corporation wants to expand into international markets, it may choose to raise funds in a foreign country. Foreign currency corporate bonds (FCCBs) are issued in the currency of a foreign country, typically one with lower interest rates or a more stable economy than the home country.

The issuer's debt-financing costs are reduced since the bond's equity component is more valuable than a straight coupon-bearing plain vanilla bond, allowing for lower coupon payments. Another way a change in exchange rates might benefit the issuer is by lowering the interest payment on bonds.