Chapter

II Commercial Bank Debt Restructuring

Author(s):
International Monetary Fund
Published Date:
September 1995
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Considerable additional progress was made in 1994 and the first half of 1995 in resolving the commercial bank debt problems of developing countries (see the Statistical Appendix, Tables A2 and A3). Debt- and debt-service-reduction operations were concluded by Bulgaria, the Dominican Republic, Ecuador, and Poland. Panama announced in May 1995 that it had reached an agreement in principle with its banks. Among low-income developing countries, comprehensive buybacks using resources from the Debt Reduction Facility for IDA-Only Countries and from donor countries were completed for Albania, São Tomé and Príncipe, Sierra Leone, and Zambia. In addition, the term of the IDA Debt Reduction Facility was extended to July 31, 1998, and the third replenishment of the Facility’s resources from the World Bank’s net income for fiscal year 1995 was approved in August 1995. As regards debt reschedulings, Russia and its commercial bank creditors agreed in October 1994 on a legal framework for dealing with the country’s bank debt, and payments with respect to interest arrears have been made by Russia into an escrow account at the Bank of England. Algeria reached agreement in principle on a rescheduling arrangement for its commercial bank debt in May 1995, Slovenia, after a complex series of negotiations, reached agreement with the commercial bank creditors of the former Socialist Federal Republic of Yugoslavia on Slovenia’s share of the unallocated debt of the former Yugoslavia, marking an important first step in resolving this difficult debt problem.

Altogether, by end-June 1995, 21 countries had completed deals that restructured commercial bank debts with a face value of $170 billion, obtaining roughly $76 billion in debt reduction in present value terms at a cost of $25 billion (Tables 1 and A4). Allocations to the options in the various debt packages have differed, reflecting in some cases explicit limits and the views of the holders of the debt regarding the expected future values of the debt instruments issued in exchange for the old bank claims (Table 2). On the whole, cost efficiency has been achieved in each debt-and debt-service-reduction operation concluded thus far, with the cost per unit of debt reduction achieved (the buyback equivalent price) being in line with the secondary market price of the bank claims at the time of the agreement in principle (Table 3).

Table 1.Commercial Bank Debt- and Debt-Service-Reduction Operations1(In millions of U.S. dollars)
CountryDebt and Debt-Service Reduction (DDSR)2
Debt reduction Under DDSR Operation3Debt-service reductionTotal Debt and Debt-Service Reduction/Debt RestructuredCost of Reduction5
Debt reductionPrincipal collateralized par bond4Other par bond4Prepayments through collateralizationTotal
BuybackDiscount exchange4
(1)(2)(3)(4)(5)(6)(7)=(2) +…+ (6)(8) = (7)/(1)
Concluded agreements
Argentina (1992)19,3972,3564,2912,7399,38648.43,059
Bolivia643331232292061295.261
(1987)473253182744293.535
(1993)17078502913170100.026
Brazil (1992)40,6004,9743,9963373,89113,19832.53,900
Bulgaria (1993)6,1867981,8654214433,52757.0652
Chile (1988)439439439100.0248
Costa Rica (1989)61,456991101361,12877.5196
Dominican Republic (1993)7762721776351165.8149
Ecuador (1994)4,5221,1808265962,60257.5583
Guyana (1992)6969100.010
Jordan (1993)7368411111731242.5118
Mexico651,9027,9536,4847,77722,21442.87,677
(1988)3,6711,1155551,67045.5555
(1989)48,2316,8386,4847,22220,54442.67,122
Mozambique (1991)124124124100.012
Niger (1991)111111111100.023
Nigeria (1991)65,8113,3906513524,39375.61,708
Philippines5,8122,6025161164673,70163.71,795
(1989)1,3391,3391,339100.0670
(1992)4,4731,2635161164672,36252.81,125
Poland (1994)9,9892,4242,427796746116,33263.41,933
São Tomé and Príncipe (1994)101010100.01
Uganda (1993)152152152100.08
Uruguay (1991)1,6086331609588855.2463
Venezuela (1990)19,7001,4115112,0124711,6396,04330.72,585
Zambia (1994)200200200100.022
Total170.24313,95621,75919,8721,52018,84475,95144.625,212
Pending agreements
Memorandum
Albania (1995)7385160225385100.0100
Panama (1995)82,010181467842701,00249.8252
Sierra Leone (1995)9148148148100.022
Source: IMF staff estimates.
Table 2.Bank Menu Choices in Debt-Restructuring Packages(In percent of total eligible bank debt)
CountryDebt-Service Reduction
Debt ReductionPrincipal par collateralized exchangesOther par exchangesNew MoneyOther Non-Debt-and Debt-Service-Reduction Options
BuybackDiscount exchange
Argentina3466
Bolivia463519
Brazil35325622
Bulgaria136027
Costa Rica6337
Dominican Republic3565
Ecuador5342
Jordan3367
Mexico434711
Nigeria6238
Philippines (1989)1200
Philippines (1992)28421713
Poland2554184
Uruguay393328
Venezuela79381531
Total283439595
Sources: National authorities; and IMF staff estimates.
Table 3.Buyback Equivalent Prices in Debt- and Debt-Service-Reduction Operations1(In percent of face value)
CountryDebt-Service ReductionSecondary Market Price at Time of Agreement in Principle
Debt ReductionPrincipal collateralized par exchangesOther par exchangesOverall package
BuybackDiscount exchange
Argentina25323037
Brazil2636193035
Bulgaria251881827
Costa Rica2l62931819
Dominican Republic25282623
Ecuador19292423
Jordan3925413539
Mexico233393644
Nigeria240363940
Philippines (1989)505050
Philippines (1992)5245284S53
Poland4114222539
Uruguay256455354
Venezuela2453538253846
Total4412736213337
Source: IMF staff estimates.

Recent Debt Packages

Debt- and Debt-Service-Reduction Operations

Although the debt- and debt-service-reduction operation for Bulgaria covering $6.2 billion of debt was concluded in July 1994, financing to cover part of the $652 million upfront costs of the deal was provided ex post by the multilateral organizations. After two deferrals, the Dominican Republic finally concluded its debt- and debt-service-reduction operation on August 30, 1994. The package covered $1.1 billion in eligible debt and entailed a cost of $190 million, which was fully financed with the country’s own resources.

The signing of the bond exchange for Poland under its bank debt package took place on September 13, 1994, after creditors granted the necessary waiver approving the buyback option, and the operation was closed on October 27, 1994. It covered $13.6 billion of debt, of which $1.1 billion was short-term obligations and $3.6 billion was past-due interest. The final allocation of eligible medium- and long-term principal ($8.9 billion) was made as follows: (1) 24.1 percent for the buyback; (2) 60.9 percent for the discount bond; (3) 10.6 percent for the front-loaded interest-reduction bond (FLIRB); and (4) 4.4 percent for the debt conversion/new money option. The final allocation on eligible short-term principal ($1.1 billion) was 25.8 percent for the buyback and 74.2 percent for the short-term principal par bond. The cost of the operation amounted to $1.9 billion, which was financed with support from the IMF and the World Bank and with the country’s own resources.

The bond exchange under the bank debt deal for Ecuador was signed on October 4, 1994. The issuance of the interest-equalization bonds took place on December 21, 1994, and the rest of the operation was concluded on February 28, 1995, after creditors granted a waiver for the extension of the closing date from February 15 to the end of April at the authorities’ request. The deal covered $4.5 billion in principal and $2.7 billion in past-due interest. The cost of the operation amounted to $583 million.

Panama reached an agreement in principle with its bank advisory committee on May 5, 1995, to restructure $3.5 billion of debt. The menu available to creditors for eligible medium- and long-term principal, amounting to $2.0 billion, included four options. The first is a 30-year bullet repayment par bond with fully collateralized principal and a rolling interest guarantee equal to 9 months at closing and increasing to 12 months by the end of the third year. The interest rate on the par bond is initially set at 3 percent and is scheduled to rise in increments on a fixed schedule to 5.5 percent after the tenth year and to remain at that level for the bond’s remaining maturity. The second option is a 30-year bullet repayment discount bond exchanged at a 45 percent discount from the value of the old bank claims, with full principal collateral and a rolling interest guarantee equal to 9 months at closing and increasing to 12 months at the end of the second year. This bond carries a floating interest rate set at 1316 over the London interbank offered rate (LIBOR). The third option is an 18-year FLIRB with a grace period of 5 years and equal semiannual amortization payments thereafter. There is no principal collateral, but this bond has a rolling interest guarantee equal to six months during the first seven years when the bond carries a below-market interest rate; after the seventh year, the interest rate on the bond floats at LIBOR plus 1316. The fourth option is a 20-year debt-conversion bond with a grace period of 9½ years and equal semiannual amortization payments thereafter. No principal or interest collaterals is provided on this bond. It bears a below-market interest rate for the first seven years, after which the rate reverts to 1316 over LIBOR. Creditors choosing this option are required to purchase 15-year new money bonds equal to 10 percent of the debt tendered for the option. The new money bond has a grace period of 7½ years and bears an interest rate of 1316 over LIBOR.

Past-due interest, estimated for purposes of the Panamanian operation at $1.5 billion, has accrued since 1987 and will be cleared through (1) the introduction of partial interest payments of $2 million a month, retroactive to January 1995, through the closing; (2) a cash down payment of $100 million at closing; and (3) the exchange of remaining past-due interest claims for a 20-year past-due-interest bond with a back-loaded amortization schedule and a grace period of 10 years, bearing an interest rate of 1316 over LIBOR. The authorities have the option to partially capitalize interest payments due during the first six years of the bond’s life.

Debt Buybacks

Among the low-income developing countries, the first comprehensive buyback of commercial debt to be conducted in stages was carried out by Zambia. The buyback price was 11 cents on the dollar. The first stage of the buyback, completed on July 1, 1994, extinguished $181 million of claims. The second stage, concluded on September 14, 1994, extinguished $18.7 million of claims. Altogether, a total of $199.7 million of claims, representing 78 percent of eligible principal, was extinguished at a cost of $24.9 million (including technical assistance grants). Financing for the operation came from the IDA Debt Reduction Facility ($11.7 million), Switzerland ($3.9 million), Sweden ($3.56 million), Germany ($3.55 million), and the Netherlands ($2.22 million). Creditors allocated 53.7 percent of their exposure to the cash buyback and 46,3 percent to a debt-for-development option.5 A proposed bond exchange option was not made available, owing to the lack of sufficient interest from creditors.6

São Tomé and Príncipe completed a comprehensive buyback of its commercial bank debt covering $10.1 million of claims (representing 87 percent of eligible principal) in August 1994. The buyback price was 10 cents on the dollar. The cost of the operation amounted to $1.3 million (including technical assistance grants), which was fully covered by the IDA Debt Reduction Facility.

In what market participants described as a novel arrangement, Albania reached agreement in principle with its bank advisory committee on May 10, 1995 to restructure about $500 million in commercial bank debt, including $115 million in past-due interest and $385 million in principal, mostly short-term debt (of which roughly 60 percent represented defaulted foreign exchange contracts) at a fixed cost for the entire package of $100 million. The deal is effectively a comprehensive buyback, since the cost is fixed and Albania has no further obligations once it has been completed. The deal, however, is structured to resemble a Brady-type debt- and debt-service-reduction operation. The package has two options for principal: a buyback at 20 cents on the dollar and a par exchange option.

Under the par bond option, investors receive in exchange for their original claims a non-interest-bearing 30-year par bond with the principal fully collateralized and an income note that secures a pro rata share of the earnings generated by an income fund (set up by the Albanian authorities and administrated by a third party) with capital equivalent to 15 percent of the value of debt assigned to the par exchange option. The aim of the income fund is to generate enough earnings to provide an implicit return on the par bond of 2 percent in the first five years, 3 percent in the next five years, 4 percent in the following ten years, and 5 percent in the last ten years; these returns, however, are not guaranteed, and Albania has no further obligation toward the bondholders.

The Albanian par bond exchange is mainly intended for defaulted foreign exchange contracts and is subject to a maximum allocation of $225 million and a minimum allocation of $100 million. In the event that the preferred allocation of creditors does not conform to this range of allocations, a reallocation will take place. In that case, preference in reallocating claims will be given to creditors holding defaulted foreign exchange contracts; non-foreign-exchange debt will be reallocated pro rata to the buyback option.

Once the 30-year zero-coupon U.S. Treasury bonds that serve as collateral for the par bonds and the income fund are established, remaining amounts up to the $100 million fixed limit of the deal’s cost will be made available to creditors, pro rata, as a cash payment on past-due interest. The operation is expected to be financed with a $25 million grant from the IDA Debt Reduction Facility, a $5 million grant from the Swiss Government, and $70 million in the country’s own resources. This is the first operation financed by the IDA Debt Reduction Facility in which a country has provided part of the financing for the deal.

In the end, the Albanian operation is equivalent to a comprehensive buyback at 20 cents on the dollar, since the cost is fixed at $100 million and the $500 million of debt is fully extinguished.7 This implicit buyback price is in line with the price range of 18-23 cents per unit of claim quoted for the different Albanian debt instruments traded in the secondary market. The operation was completed in early August 1995.

Sierra Leone also has completed a comprehensive buyback. The operation was launched on March 31, 1995 and was implemented in two phases. The first phase extinguished $160.2 million of claims (representing 95 percent of eligible principal) at a buyback price of 15 cents on the dollar. The cost of this tranche was $24.7 million (including technical assistance grants), of which the IDA Debt Reduction Facility financed $19.9 million and the rest was covered by a grant from the United Kingdom. The second phase extinguished $74.3 million (accounting for 60 percent of eligible principal) at a price of 8 cents on the dollar, and was completed on July 13, 1995.8 The cost of the second phase was financed with grants from the IDA Debt Reduction Facility and the European Union.

On June 22, 1995, the termination date for the Debt Reduction Facility for IDA-Only Countries was extended from end-July 1995 to end-July 1998. Committed resources and prospective demand for the Facility would more than exhaust the $121.5 million available as of end-June 1995. For that reason, a third replenishment of the Facility (whose capital after the second replenishment was $200 million) is expected to take place by October 1995. In February 1995, the IDA Debt Reduction Facility approved an increase in the allocation of resources to Nicaragua from $25 million to $40 million, with the IDB committing a similar amount; the financing package for the deal is nearing completion. Other countries with operations being considered by the Facility include Ethiopia, Guinea, Mauritania, Senegal, Tanzania, and Vietnam. Other countries that have requested access to the Facility but whose operations are still at a very early stage include Cameroon, Congo, Côte d’Ivoire, Guyana (second phase), Honduras, and Togo.

Debt Reschedulings

A second preliminary agreement between Russia and its bank advisory committee was signed on October 5, 1994. The agreement established the legal framework to deal with the country’s rescheduled obligations, originally estimated at $28 billion. It eliminated the need for Russia to waive its sovereign immunity. Russia also agreed to pay by end-June 1995 $500 million with respect to interest arrears for 1992-93, with this amount being placed in a trust account at the Bank of England pending agreement on a final rescheduling arrangement. At the same time, Russia announced that it would recognize $6 billion in trade debt of the former Soviet Union and would seek to reschedule those obligations, too. The thirteenth 90-day rollover of debt payments (initiated in late 1991) was approved by the bank advisory committee on December 13, 1994. In March 1995, it was agreed that Russia would pay a further $500 million into the trust account in settlement of 1994 interest arrears. An initial round of negotiations on a debt-stock rescheduling was held in July 1995, and a working group was formed to make proposals with a view to reaching a final agreement by the end of 1995.

After protracted negotiations, Algeria on May 12, 1995 reached an agreement in principle with its commercial bank creditors on a rescheduling arrangement. The deal represents a simple rescheduling with no debt- or debt-service-reduction element. The arrangement covers about $3.2 billion in principal arrears and maturities falling due through December 1997; Algeria has remained current on interest payments.

The rescheduling essentially covers three types of debt: (1) non-reprofiled debt ($2.1 billion); (2) re-profiled, nonleasing debt ($0.9 billion); and (3) reprofiled, leasing debt ($0.2 billion).9 Non-reprofiled debt covers principal arrears since March 1994 and maturities falling due through December 1997. This debt is rescheduled with a maturity of about 15 years and a grace period of over 5 years. Interest rates on the debt remain the same as in the original loan contracts until the original maturity dates; after those dates the interest rate switches to a spread of 1316 over LIBOR, with even semiannual amortization payments.10 Reprofiled, nonleasing debt covers principal obligations falling due from 1995 to 1997. This debt is rescheduled with a maturity of about 11½ years and a grace period of over 6 years; the interest rate is the same as the original reprofiled debt, with even semiannual amortization.11 Reprofiled leasing debt also covers principal obligations falling due from 1995 to 1997, and it is to be rescheduled with a maturity of about 10½ years and a grace period of over 3 years. The interest rate on the rescheduled obligations is the same as reprofiled debt, with even semiannual amortization. Better terms are given to the leasing debt because the original facilities were shorter term. The formal rescheduling arrangement is expected to be signed by November and finalized by end-December 1995.

After complex negotiations, Slovenia and the international coordinating committee of commercial banks reached an agreement on Slovenia’s share of the unallocated portion of the former Socialist Federal Republic of Yugoslavia’s debt on June 8, 1995. The agreement involves bond exchanges at par for the recognized debt. It requires approval by two thirds of qualified creditors in order to release Slovenia from its obligations under the joint and several clause in the former Yugoslavia’s 1988 New Financing Agreement.12 Slovenia will issue two series of bonds. Base-series bonds (called the “big bond” in the market) will be issued in an amount equal to 18 percent of the unmatured principal outstanding under the New Financing Agreement, with the same maturity as under the Agreement and bearing an interest rate of 1316 over LIBOR paid semi-annually. An additional series of bonds (called the “little bond”) will be issued in an amount equal to 18 percent of past-due amounts with the same terms as the other bond. Provision is made to allow the interest rate spread over LIBOR on this bond to vary to ensure that the present value of the bonds remains roughly equivalent to 18 percent of the arrears, with the provision that the spread cannot exceed 150 basis points.13 In addition, Slovenia will purchase 9.9 percent of the liabilities under the Trade and Deposit Facility, signed simultaneously with the New Financing Agreement, which represents the portion of deposits that were used by Slovenian obligators.

Debt-Conversion Activity

After reaching a peak in 1990, debt conversions have fallen steadily since that time. In 1994, debl conversions amounted to $0.4 billion, compared with $1.5 billion in 1993. During the first half of 1995, there was relatively little activity, with total debt conversions amounting to only $48 million (Table 4, previous page). Operations were concentrated in Honduras and Nigeria. Activity in the debt-conversion programs in the largest of the middle-income countries in Latin America has dropped off sharply as privatization programs have slowed, secondary market prices for debt have risen, and relations with commercial banks have been normalized with the completion of Brady deals in all of the major debtor countries. Debt-conversion schemes in other countries have also generated little interest for similar reasons. In the aftermath of the Mexican crisis, there may be some renewed interest in debt-conversion programs because a number of countries encountering liquidity problems have revived their privatization plans.

Table 4.Debt Conversions1(In millions of U.S. dollars)
Country1989199019911992199319941995:Q1
Argentina1,5346,4641322,82523715
Brazil94628368220219138
Chile2,6831,09682838529868
Costa Rica124172
Ecuador32452050254
Honduras353352391618
Jamaica232236143
Mexico5322211,956344
Nigeria257217119122353017
Philippines63037848937934618
Tanzania11193352337
Uruguay274443448216
Venezuela544595343177774
Yugoslavia31,369681631
Total8,73610,0674,7394,6221,45138748
Source: IMF staff estimates.

Secondary Market Developments

A tightening of monetary conditions in the United States in February 1994 put upward pressure on interest rates worldwide, contributing to a sharp fall in the secondary market prices of Brady bonds and bank claims. Prices recovered somewhat after April 1994 as markets calmed, but they dropped further in the latter part of the year, in large part because of additional increases in U.S. interest rates. Another sharp fall in secondary market prices took place beginning in late December 1994 in the wake of the Mexican crisis. Prices, especially for Latin American debt, tumbled through March 1995 before recovering in April and May as prospects for Mexico and other countries encountering difficulties improved as a result of the economic adjustment programs put in place and the easing of U.S. interest rates. The weighted-average secondary market price of Brady bonds and bank claims of 15 heavily indebted countries (the “Baker 15”) fell by about one third, from 70 cents on the dollar at end-1993 to about 48 cents at end-1994 (Chart 1). Prices fell one third further through early March 1995 to about 36 cents on the dollar, nearly one half of their peak level. Subsequently, by end-June 1995, prices recovered to 42 cents.

Chart 1.Secondary Market Prices of Bank Claims on Selected Latin American Countries

(In percent of face value)

Sources: Salomon Brothers: and ANZ Grindlays Bank.

1Argentina, Bolivia, Brazil, Chile, Colombia, Côte d’Ivoire, Ecuador, Mexico, Morocco, Nigeria, Peru, the Philippines, Uruguay, Venezuela, and former Yugoslavia.

The price of Mexican par bonds dropped by 17 percent from the end of 1993 to mid-December 1994, falling to 74 cents on the dollar. The downward movement in the price of these bonds was particularly steep in the early part of 1994, following the assassination of a presidential candidate, but it began to recover in the latter part of the year until the devaluation of the currency in mid-December. In the wake of that action and reflecting uncertainties regarding economic prospects, the price of Mexican par bonds fell to a low of 31 cents in mid-March 1995. Subsequently, par bond prices rebounded, reaching about 57 cents on the dollar by end-June 1995, owing to generalized market perceptions that the strengthening of Mexico’s economic adjustment program in the second quarter had significantly improved prospects.

The secondary market prices of the Brady bonds of Argentina broadly followed the general pattern of movements in the price of Mexican Brady bonds over the course of 1994 and into 1995. The price of Argentina’s par bonds declined by 29 percent during 1994, falling to 56 cents by mid-December 1994, The price fell to a low of 28 cents in early March 1995 before recovering to 47 cents by end-June 1995. The price of Brazil’s bank debt rose in early 1994 prior to the closing of the country’s debt exchange in April 1994. Subsequently, prices drifted lower before recovering in August, as uncertainties regarding the political situation and implementation of the country’s economic adjustment program were diminished. As for Mexican and Argentine par bonds, the price of Brazil’s par bonds tumbled after mid-December 1994, falling to a low of 38 cents in early March 1995; prices recovered to 46 cents by end-June 1995.

Secondary market prices of Eastern European Brady bonds and bank claims declined over the course of the first part of 1994 before picking up in the second half of the year (Chart 2, previous page). These countries also experienced a sharp drop in the secondary market prices of their debts in the first three months of 1995, reflecting the influence of the Mexican crisis. Prices of these countries’ debts have staged a stronger recovery than have Latin American debt prices, however, in large part owing to a rise in the secondary market price of Russian bank claims as an IMF-supported economic adjustment program was put in place and progress was made toward reaching a rescheduling agreement between Russia and its commercial bank creditors. Secondary market prices of Eastern European claims fell by 28 percent during 1994 to 36 cents on the dollar at the end of the year; by the end of June 1995, these prices had recovered to 40 cents.

Chart 2.Secondary Market Prices of Bank Claims on Selected Pastern European Countries

(In percent of face value)

Sources: Salomon Bmthers; and ANZ Grindlays Bank.

1Bulgaria, Poland, and Russia.

Trading volume in Brady bonds and bank claims grew by 40 percent in 1994, to $2.8 trillion, after more than doubling in 1993. Brady bonds continued to be the most liquid debt instrument traded, accounting for 61 percent of trading volume. Higher activity reflected turbulence in the market generated by the movements in world interest rates over the course of the year and the completion of four Brady operations (Brazil, Bulgaria, the Dominican Republic, and Poland). Growth of trading activity in Brady bonds was over 60 percent. The big four Latin American countries (Argentina, Brazil, Mexico, and Venezuela) accounted for about 80 percent of all Brady bonds traded in 1994.

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