II Commercial Bank Debt Restructuring
- International Monetary Fund
- Published Date:
- January 1993
A number of heavily indebted developing countries made progress toward restructuring their commercial bank debt over the past year. Argentina and the Philippines completed financing packages, including menus of debt- and debt-service-reduction options, while bank claims on Bolivia, Guyana, and Uganda were bought back at steep discounts. In addition, Brazil, the Dominican Republic, and Jordan reached agreements on terms for debt restructurings, while a number of countries continued to negotiate actively with their creditors. In contrast, debt conversions continued to decline in importance as prices of bank claims in the secondary market recovered for most middle-income countries. Argentina’s privatization program accounted for the bulk of conversion activity during the year.
Thirteen countries have now restructured their bank debt. In present value terms, debt to commercial banks has been reduced by a total of $50.3 billion at a total cost of $17.9 billion (Tables 3 and A1). The balance between debt- and debt-service-reduction options has varied significantly among the packages negotiated (Table 4), but pricing in each of the packages has been broadly in line with prices prevailing in the secondary market at the time of agreement (Table 5).
|Debt and Debt-Service Reduction (DDSR)2|
(7) = (2) +..+(6)
|Total Debt and|
|Cost of Debt|
|Costa Rica (1989)||1,456||991||—||—||101||36||1,128||70.5||196|
Price at Time of
|Buy-back||Discount exchange||Other par exchanges||Overall Package|
Recent Bank Packages
Following agreement between Argentina and its bank creditors on a term-sheet in June 1992, the package was formally signed on December 6, 1992. Bond exchanges involving principal then closed on April 7, 1993 (Tables A2 and A3). Commercial banks initially allocated 85 percent of their exposure to the par bond exchange, responding in part to a decline in international interest rates following the agreement on terms. This skewed allocation complicated the financing of the operation. Following difficult negotiations, banks agreed to a request by the Argentine authorities to reallocate their menu choices toward a more balanced selection. Of the eligible principal of $19.3 billion, 66 percent was allocated to par bonds and 34 percent to discount bonds. Most of the new bonds are denominated in U.S. dollars, with about 2 percent denominated in deutsche mark. Past due interest is still being reconciled but is estimated at $8.3 billion. The downpayment on past due interest ($0.7 billion) has been deposited in an escrow account until this reconciliation is complete. The cost of the entire operation was $3.8 billion (including the downpayment on the past due interest).
Bolivia and its bank creditors signed a debt-restructuring agreement on March 30, 1993 and the operation took place on May 19, 1993. Eligible principal amounted to $173 million, and, as in the 1987 agreement, associated past due interest was canceled.3 Creditors allocated $78 million to the buy-back option (at 16 cents per U.S. dollar of principal); $33 million to the fully collateralized par bond (with a value recovery clause linked to the price of tin); and $60 million to the debt-for-development swap with nongovernmental organizations. The cost of the operation was $27 million, financed by grants from the IDA debt-reduction facility ($10 million), and the governments of the United States ($7 million), Sweden ($5 million), Switzerland ($3 million), and the Netherlands ($3 million).
On December 29, 1992, the Brazilian Senate approved the term-sheet negotiated between Brazil and commercial banks the previous September. The agreement would restructure $46 billion of eligible principal and $6 billion of interest arrears related to amounts falling due in the period 1991–93. The term sheet included six instruments, of which three were collateralized and embraced debt or debt-service reduction (the par bond, the discount bond, and the front-loaded interest-reduction bond); two involved temporary debt relief through partial capitalization of interest; and the last option involved new money. As agreed, interest payments were increased from 30 percent to 50 percent of contractual interest starting in January 1993. Moreover, payments corresponding to 20 percent of interest falling due in 1992 were made during the first quarter of 1993. In addition, the term sheet triggered the issuance of interest-due-and-unpaid bonds for $7 billion in November 1992 in accordance with an agreement reached in May 1991 on the treatment of interest arrears incurred in 1989 and 1990.
By March 15, 1993, a critical mass of banks had agreed to participate in the Brazilian operation. Banks initially allocated approximately 60 percent of their exposure to the par exchange, 20 percent to the discount exchange, 11 percent to one capitalization option, 6 percent to the front-loaded interest-reduction bond, and 4 percent to the new money option. As permitted under the term sheet, the Brazilian authorities requested a reallocation, and in May 1993 they reached agreement with banks to establish a maximum of 40 percent of eligible principal to the par exchange; a minimum of 35 percent of eligible principal to the discount exchange; and a maximum of 4⅜ percent on the new money option. The exchange of instruments is scheduled to take place by mid-April 1994. Enhancements required for the operation are expected to amount to $4–5 billion, of which $2.8 billion will be provided at the time of the bond exchange. The remainder of the collateral will be phased in over a two-year period in four semiannual installments.
The Dominican Republic reached an agreement in principle to restructure the bulk of its commercial bank debt on May 3, 1993 and an agreement on a term sheet on August 6, 1993. The package covers $0.9 billion in eligible principal and an estimated $0.3 billion in interest arrears. The package contains three options for eligible principal: (1) a buy-back at 25 cents per dollar; (2) a discount exchange at 65 percent of face value for bonds bearing market rates with a 30–year bullet maturity, full collateralization of principal, and a nine-month rolling interest guarantee (with interest on the collateral accumulating in the guarantee account until coverage reaches 12 months); and (3) an exchange at par for uncollateralized bonds with a maturity of 18 years and a grace period of nine years. Interest on this bond will start at 3 percent in the first year, increase ½ of 1 percentage point every two years until year six, and bear market rates thereafter. The agreement contains a clause that permits the authorities not to close the operation in the event that the Dominican Republic does not obtain at least a 50 percent reduction in its overall commercial bank debt.
Treatment of interest arrears in the case of the Dominican Republic will involve (1) cash payments of 12.5 percent of past due interest by closing; (2) a buy-back of past due interest associated with the principal allocated to the buy-back option at 25 cents on the dollar; and (3) an uncollateralized 15-year, past-due-interest bond for the remainder carrying a market-related interest rate with a back-loaded amortization schedule and a grace period of three years. The country has agreed to make partial interest payments of $0.75 million a month (about 25 percent of interest due) until completion of the package.
Gabon’s rescheduling agreement of December 1991 was to become effective once all interest arrears were cleared. Initially, interest arrears were targeted to be cleared by the end of January 1993. An extension was granted last year to May 1993, at which time a second extension to the end of January 1994 was obtained. In return, Gabon agreed to pay $5.2 million in overdue interest.
Guyana eliminated its entire stock of commercial bank debt in a buy-back at 14.5 cents per dollar of principal on November 24, 1992. Principal amounted to $69.2 million while associated past due interest, which was also canceled, was estimated at $23.5 million. The cost of the operation (about $10 million) was met in full from the IDA debt-reduction facility.
An agreement in principle was reached between the Government of Jordan and the commercial bank steering committee on June 30, 1993, and a term sheet was agreed on August 20, 1993 covering eligible principal of $750 million and past due interest estimated at $122 million. As in the case of the Dominican Republic, the package includes three options for eligible principal: (1) a buy-back at 39 cents per dollar; (2) a discount exchange at 65 percent of face value for bonds bearing market rates with a bullet amortization after 30 years; and (3) a par exchange for bonds bearing below-market rates (starting at 4 percent in year one and rising to 6 percent in years seven and after) and a bullet amortization after 30 years. Both the discount and par bonds will have full collateralization of principal and a six-month rolling interest guarantee. The agreement is conditional on the achievement of a balanced package from Jordan’s point of view. The authorities have indicated that such a balance will involve approximately 65 percent of eligible principal for the par exchange and 35 percent for the discount exchange.
Interest arrears are treated separately in the Jordanian case. Past due interest associated with principal assigned to the buy-back will also be bought back. Otherwise, following a cash payment equivalent of 50 percent of past due interest associated with the discount exchange and 10 percent of past due interest associated with the par exchange, the remaining past due interest will be refinanced through an exchange for uncollateralized bonds bearing a market rate and a maturity of 12 years with three years of grace. For calculating interest arrears, interest due is to be accrued at an interest rate of 4 percent from March 1991 until the exchange date. Since September 1992, Jordan has been making regular partial payments amounting to about 30 percent of interest falling due.
The Philippines concluded the second phase of its debt-restructuring agreement with commercial banks on December 1, 1992. The package covered $4.5 billion of claims representing 95 percent of those eligible. Of the total, 28 percent was allocated to the buy-back option, which took place on May 14, 1992; 42 percent to the par bond option; 17 percent to the temporary interest-reduction option; and 13 percent to the new money bond option (implying new money of $138 million). The cost of the operation amounted to $1.1 billion.
Since December 1991, Russia and commercial banks have agreed to a succession of 90-day payment deferrals, rolling over most principal obligations. The seventh deferral (to cover obligations falling due in the third quarter of 1993) took place in mid-June 1993. Considerable amounts of interest arrears have emerged, as have a modest amount of nondeferred principal arrears. On July 30, 1993, a preliminary agreement was reached with commercial banks to reschedule the entire stock of debt existing prior to the cut-off date of January 1, 1991, estimated at $24 billion. The rescheduled debt will have a 15-year maturity and a five-year grace period. Russia agreed to pay, in three equal installments during the fourth quarter of 1993, $500 million toward interest accrued but unpaid through the end of 1993. Remaining interest arrears, roughly $3-3.5 billion, are expected to be rescheduled at a ten-year maturity with a five-year grace period.
Following three successive interim arrangements (the last to expire at the end of 1993), the Government of South Africa announced on September 27, 1993 a fourth and final arrangement with commercial banks rescheduling all remaining debt estimated at $5.5 billion. The agreement will become effective on January 1, 1994. Following a down-payment of 10 percent of eligible debt in February 1994, amortization of the remainder will be in semiannual installments over eight years. About 40 percent of the rescheduled debt is expected to be amortized in the first five years and about 60 percent in the past three years. Interest on the rescheduled debt will be charged at a rate of 1 ⅛ points over the London interbank offered rate (LIBOR). The agreement allows for debt conversion into bonds and equity.
On February 26, 1993, Uganda completed a buy-back of commercial debt comprising mainly trade and suppliers’ credits. The operation covered $153 million of claims (89 percent of total eligible principal) at a price of 12 cents per dollar of principal. The $18 million cost was financed mostly from the IDA debt-reduction facility ($10 million) and contributions from the Netherlands ($2.7 million) and Switzerland ($0.7 million). A bridging loan (to be repaid with a grant from Germany and the European Community (EC)) of $5.0 million made up the difference.
Maintaining the trend of recent years, debt conversions declined in 1992 to $4.3 billion, compared with $4.7 billion in 1991 and a peak level of $10.1 billion in 1990 (Table 6). High secondary market prices for the commercial bank debt of countries having completed debt packages have reduced interest in these schemes and even prompted the suspension of official conversion programs in some countries.
Two thirds of conversion activity in 1992 occurred in Argentina, where debt conversions amounted to $2.8 billion.4 Two transactions accounted for most of this amount: the privatization of the state gas company ($1.6 billion) and the power company for Buenos Aires ($1.1 billion). In these transactions, investors were able to make payments in a combination of cash and debt instruments, with the value of the debt instruments being predetermined at a level similar to the secondary market price prevailing when the scheme was announced. A slowdown in debt conversions has taken place in 1993, especially because the privatization of the state oil company has occurred through an international equity placement.
Debt-conversion activity in Chile fell by more than half to $390 million in 1992 as the high price of commercial bank debt in the secondary market curtailed demand. All conversion activity, in fact, took place through “informal” schemes under which residents retired their debt to the Central Bank by delivery of Chilean debt acquired in the secondary market.
After rebounding in 1991 as commercial banks were privatized, activity under Mexico’s conversion program dropped dramatically in 1992 to $340 million. About $70 million occurred under a “conversion rights” program, which was suspended in April 1992 because of insufficient investor interest. The remainder took place under specific arrangements aimed at funding projects for poverty alleviation, education, and health.
Debt conversions in the Philippines fell by about half in 1992 to $270 million. A third auction of conversion rights occurred in May 1993 and allocated $100 million of conversion rights at an average price of 71.5 cents on the dollar. Quarterly auctions are expected to continue.
Restrictions on the eligibility of projects and political uncertainty were responsible for the reduction of debt conversions in Venezuela in 1992. During the year, only $150 million was converted, half the amount of the previous year. In Brazil, restrictions on ownership of privatized enterprises and concerns about the allocation of conversion rights limited demand for debt conversions to $95 million in 1992. In Nigeria, the debt-conversion program, which amounted to $122 million in 1992, was suspended in May 1993 because of lack of interest as spreads between official and unofficial exchange rates widened. (Debt conversions are transacted at the official rate.)
Secondary Market Developments
Following a fall in secondary market prices for bank claims on developing countries in the second half of 1992 and a stagnation in the first quarter of 1993, prices recovered strongly in the middle part of the year. As a result, at the end of August 1993 the weighted average of prices for claims on 15 heavily indebted countries reached 60.2 cents on the dollar, 11 percent above its level one year earlier and the highest level since mid-1987 (Chart 1).
Chart 1.Secondary Market Prices of Bank Claims on Selected Indebted Countries
Sources: Salomon Brothers; and ANZ Bank Secondary Market Price Report.
1Argentina, Bolivia, Brazil, Chile, Colombia, Côte d’lvoire, Ecuador, Mexico, Morocco, Nigeria, Peru, Philippines, Uruguay, Venezuela, and Yugoslavia. The latest quoted price is used to calculate the index whenever a price is unavailable for a given period.
The general pattern of price behavior over the past year mainly reflected developments in three of the most-indebted countries included in the market index: Brazil, Mexico, and Venezuela. The volatility of Brazilian debt prices reflected the vagaries of political events in that country and uncertainties about the country’s economic policy stance. Brazilian debt prices rose appreciably in the first eight months of 1993, reaching 45 cents on the dollar, as market perceptions of the chances for successful completion of a Brady-type operation improved.5 Variations in stripped prices6 of bank claims on Mexico have reflected changes in market expectations about approval of the North American Free Trade Agreement (NAFTA). Prices fell by about 5 percent, to 73 cents per dollar, over the year ended in August 1993.
Secondary market price developments for other highly indebted countries have generally been positive recently. The stripped price of claims on the Philippines increased by 15 percent in the first half of 1993 to reach 65 cents on the dollar in August, thus recovering the level of a year ago. Prices of Ecuadoran claims rose to 35 cents on the dollar in the context of discussions on a debt restructuring. Prices for bank claims on Peru rose by 118 percent in the first eight months of 1993 to reach 44 cents on the dollar, partly reflecting the clearance of arrears to international financial institutions and also speculation about a possible commercial bank debt restructuring. Prices for Eastern European countries have risen as well. Following a decline in 1992 to about one half of the already depressed levels of 1991, prices of claims on Eastern European countries increased by 87 percent in the first eight months of 1993 to reach 36 cents on the dollar at the end of August (Chart 2).
Chart 2.Secondary Market Prices of Bank Claims on Selected Eastern European Countries
Sources: Salomon Brothers; and ANZ Bank Secondary Market Price Report.
1Bulgaria, former U.S.S.R., and Poland. The latest quoted price is used to calculate the index whenever a price is unavailable for a given period.
The aggregate size of the market for bank claims on developing countries continued to expand in 1992 and the first half of 1993. While no definitive figures exist, market participants suggest that market turnover, including new Eurobonds, Brady bonds, and unrestructured bank claims, has increased from about $200 billion in 1991 to about $500 billion in 1992. Growth continued in 1993, with the bulk of the turnover concentrated in Brady bonds. A preliminary volume study released by the Emerging Markets Traders Association (EMTA) in September 1993 estimates emerging market turnover debt instruments at about $750 billion. Over the same period, liquidity has also increased substantially, as reflected in a tightening of bid-ask spreads from over ½ of 1 percent in 1991 to around ¼ of 1 percent in 1993 and the spread for the most liquid instruments has been reduced to ⅛ of 1 percent.
Increasing activity in the market is associated with the rising demand of institutional investors for bonds issued by developing countries that effectively securitize bank debt and offer high yields. The stock of Brady bonds, for example, increased from $56 billion in 1991 to $67 billion in 1992 and $94 billion in mid-1993 after the Argentine restructuring. Speculative interest has also been attracted to the unrestructured bank debt of a number of countries in view of the capital gains that resulted from earlier debt restructurings.
In order to establish more uniform procedures and limit the potential for illegal activities, such as insider trading, in a rapidly growing and unregulated market, the EMTA introduced a code of conduct in June 1993. The code sets out appropriate procedures and practices for trading activities in different market segments. It provides guidelines for traders rather than a set of rigid rules. The EMTA has issued additional guidelines on the trading of particular instruments, which has helped to sustain liquidity in significant segments of the markets during periods of heightened uncertainty. For example, such guidelines established a basis for trading the restructured claims on Argentina prior to completion of the bank package on a “when-and-if-issued” basis.
Treatment of Short-Term Debt
The recent debt-servicing difficulties faced by the countries of Eastern Europe and the former Soviet Union have brought renewed attention to the treatment of short-term debt in rescheduling or restructuring agreements. In many of these cases (e.g., Bulgaria, Poland, and Russia), short-term liabilities represent a significant share of total private external debt.
While short-term bank debt has usually been excluded from debt eligible for reschedulings, since 1978 there have been 34 agreements with banks that effectively rescheduled or restructured short-term debt (Table 7). Fifteen of these agreements rescheduled trade-related, short-term debt, while in eight others trade-related debt was consolidated and rolled over through the creation of trade credit and deposit facilities. Suppliers’ credits have usually been dealt with on a bilateral basis, and comprehensive information on such reschedulings is not available. In ten cases, however, suppliers’ credits have been involved in multilateral reschedulings.
|Non-Trade-Related Short-Term Debt||Trade-Related Short-Term Debt||Nonguaranteed Supplier’s Credits|
|Country||Date of agreement||Country||Date of agreement||Country||Date of agreement|
|Argentina||1985 and 1987||Bolivia||1981||Costa Rica||1981 and 1983|
|Bolivia||1981||Costa Rica||1981 and 1983||Mexico||1983|
|Chile||1984||Dominican Republic||1983||Nigeria||1984 and 1988|
|Madagascar||1981 and 1984||Morocco||1986||Uganda||1993|
|Mexico||1983||Mozambique||1987 and 1991||Zaïre||1986 and 1987|
|Nicaragua||1980||Nigeria||1983 and 1988||Total agreements||10|
|South Africa||1986 and 1987||Uganda||1993|
|Sudan||1981 and 1983||Total agreements||15|
|Facilities for existing trade-related short-term debt|
The cases where non-trade-related, short-term debt were rescheduled can be divided into two groups. The first consists of the larger and more developed countries that experienced a significant buildup of short-term debt—relative to their historical trade requirements—just prior to the commencement of debt-servicing difficulties (e.g., Argentina, Chile, Ecuador, Mexico, the Philippines, South Africa, Turkey, Uruguay, and Venezuela). For these countries, short-term debt was rescheduled along with other debt, with the amounts involved not being large relative to total debt rescheduled. In several cases, a large portion, if not all, of the rescheduled short-term debt was debt of the private sector that was effectively taken over by the public sector (e.g., Argentina, Chile, and the Philippines). The second group (e.g., Bolivia, Guinea, Madagascar, Nicaragua, Peru, Romania, Sudan, and Zaire) consists mainly of less developed countries where the payments capacity outlook was very poor. For this group, the total nominal amount of short-term debt was often small, albeit often comprising a large share of total bank debt eligible for rescheduling. For both groups, the terms and conditions for rescheduling non-trade-related, short-term debt were similar to those obtained on the middle-and long-term debt concurrently rescheduled.
Trade-related debt has usually been excluded from rescheduling operations in order to preserve its relative seniority and to maintain access to trade credits. When this exclusion has not been made, the amounts involved were not large, with the exception of Nigeria where overdue letters of credits amounting to $1.9 billion and $2.6 billion were rescheduled in 1983 and 1988, respectively. Terms obtained on the rescheduling of trade-related, short-term debt were usually less advantageous to the debtor than the terms on medium- and long-term debt that was concurrently rescheduled.
Since 1978, trade credit and deposit facilities were created for eight countries, usually in the context of new money packages.7 The initial duration of these facilities was usually for much shorter periods than the maturity of the reschedulings of short-term debt. Applicable interest rates were also usually lower. These facilities were typically renewed or extended several times, although almost all have now been allowed to expire.8
Short-term bank debt has rarely been included in debt eligible for debt- and debt-service-reduction operations. This has only occurred in three cases: Guyana, Mozambique, and Uganda.9 Short-term debt that had previously been transformed into medium-term debt through reschedulings has been included, however. The debt agreements for Costa Rica and Nigeria included previously rescheduled trade-related, short-term debt, while previously rescheduled non-trade-related, short-term debt was included in the debt agreements signed by Argentina, Bolivia, Mexico, the Philippines, and Venezuela.
Comprehensive information is not available on the rescheduling of unguaranteed suppliers’ credits. These types of obligations do not come under the umbrella of any established multilateral debt-rescheduling forum, and in most cases reschedulings between creditors and private sector debtors have been undertaken on a bilateral basis, without the authorities’ involvement or knowledge. Since 1978, there have been ten occasions when supplier’s credits have been rescheduled on a concerted multilateral basis, that is, engaging most creditors. Concerted reschedulings have been rare in part because of the concern that the nature of the debt would involve time-consuming negotiations and high administrative costs. The debt is usually owed to many different creditors, all with varying exposures and different degrees of leverage. In addition, more selective negotiations have allowed countries to pursue strategies that promise access to essential goods through the granting of preferential terms to key suppliers.
The few instances of coordinated action on unguaranteed suppliers’ credit have been most successful when the debtor country unilaterally offered terms for the normalization of relations with suppliers (e.g., Costa Rica, Mexico, Turkey, and Uganda). Participation in these schemes was voluntary; domestic borrowers, as well as foreign creditors, were provided with a menu of options offering flexibility in terms and timing. Broadly based multilateral reschedulings have usually been undertaken in the face of large arrears either in absolute terms (Nigeria) or relative to arrears owed to other creditors (Romania). In these cases, the centralization of the process proved to be critical to the successful conclusion of negotiations.
In an earlier operation in 1987, $442 million of Bolivian claims had been eliminated in an operation involving a buy-back at 11 cents on the dollar.
This amount excludes $0.3 billion from the privatization of the state power company deposited in a trust fund waiting for investors to find suitable debt instruments. It also excludes $0.5 billion of official foreign currency bonds retired in the context of the privatization of the state gas and power companies.
Since February 1993, trading in Brazilian medium-term debt (MYDFA) has been suspended pending completion of the debt deal. Quoted prices have been based on variations in the prices of interest-due-and-unpaid bonds.
The stripped price is a measure of country risk. The price is adjusted to remove the impact of changes in interest rates on the value of fixed rate instruments such as par bonds. (See Annex II, in Charles Collyns, and others, Private Market Financing for Developing Countries (Washington: International Monetary Fund, 1992)).
Trade credit facilities reschedule short-term debt while maintaining a country’s access to analogous new credits. The facilities usually extend trade credits on a revolving basis up to a predetermined level. Deposit facilities maintain bank exposures in the event of a reduced demand for trade credits by transforming unused trade credits into interest-earning deposits at the debtor country’s central bank.
Some agreements also stipulated that interbank credits would be maintained at predetermined (usually historical) levels for an agreed period of time (e.g., Brazil (1983), Mexico (1983), and Panama (1983)).
A recent agreement in principle between Bulgaria and its creditors also includes short-term debt in the debt eligible for debt reduction.