A debt restructuring is preferable to the option of applying for bankruptcy and involves either reduction of debt and/ an extension of payment terms, reduction in interest costs and or interest holiday or moratorium. For instance in the US small business bankruptcy filing cost at least $50 to 60,000 in legal and court fees. In India like in other countries, the corporate debt restructuring undertaken by the banks have resulted in not only reviving companies but also aiding in warding off potential NPAs for the banks.
Corporate Debt Restructuring (CDR) is more than a mere fad for Indian Corporates. Several analysts have fastidiously evaluated the impact of debt restructuring processes on the overall well being of the economy and have concluded this as a very effective way of revival of the corporate sector.The CDR Mechanism is a voluntary non-statutory system based on Debtor-Creditor Agreement and Inter-Creditor Agreement and the principle of approvals by majority of creditors. The CDR Mechanism covers outstanding aggregate exposure of Rs.100 million and above from the Indian banking system. It covers all categories of assets in the books of member-creditors classified in terms of RBI’s prudential asset classification standards. Even cases filed in Debt Recovery Tribunals/Bureau of Industrial and Financial Reconstruction/and other suit-filed cases are eligible for restructuring under CDR.
Companies’ suomoto also carry out the process of Debt restructuring. It can also be for altering the mix of short and long term debt. The short term debt of less than six months maturity pose a threat to the liquidity of the company as the company will need to be ready always with cash to honor the commitments either internal cash generation or fresh borrowings. Under such circumstances it will be worthwhile to convert a significant portion of the short term debt into long term borrowings if there is room.
The quasi equity structure which permits raising funds through Preference Capital has a twin advantage of helping the companies with a favorable capital gearing and also aids retention resources in the company for a longer time. The flip side is however the funding cost could be higher as the compensation for this capital comes out of the post tax profits.
In a swap between debt and equity, a company’s bankers or the other creditors agree to cancel some or all of the debt in exchange for equity in the company. This kind of swap is very common in several rehabilitation proposals approved by Board for Industrial & Financial Reconstruction (BIFR) where the company’s large and back breaking debt burden forces conversion of portion of debt to equity, with a buy back option and a right to recompense. An extension of this arrangement is the convertible debentures option which is a hibrid instrument that can be used as debt till converted into equity and this instrument is leveraged effectively in the corporate world for some time.