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SriLankan Airlines US$175m bond default heightens repayment uncertainty
View(s):By Kapila Bandara
Heavily indebted Sri Lankan Airlines says it will engage with holders of US$175 million (Rs 53.3 billion), 7% fixed coupon international bonds on which it did not pay interest in December and during the 30-day grace period, setting a default in motion.
The balance as at March 31, 2022 was Rs 51.32bn.
Sri Lankan Airlines had proposed modifications to Schedule 4 of the trust deed (of June 25, 2019 between Sri Lankan Airlines and DB Trustees (Hong Kong) Limited), related to provisions for bondholder meetings, plus three other proposals, and then dropped the request to solicit consent from bondholders. There were no money terms in the proposals (such amendments could be blocked by creditors), but debt obligations should be seen in the context of Sri Lanka sovereign debt restructuring.
Breathing space sought by the airline would have come with costs. It proposed to defer interest of US$12.25m (Rs 3.75bn) on the bonds until December 2023. Interest on top of deferred interest would be US$1.29m (Rs 395.74m).
On May 15, Fitch Ratings downgraded the unsecured bonds, from 'CC' in April to 'C' on May 15 and reckons recovery prospects for investors are "below average''. Ratings reflect repayment prospects under the terms of issuance. 'C' points to capacity to pay being "irrevocably impaired''. A downgrade can dent the market price of bonds. The rating for the bond and the state of Sri Lanka is identical.
While staring at a total US$826m (Rs 251.681bn) debt burden that is swallowing up chunks of its revenue, Sri Lankan Airlines had sought to suspend debt service payments for 12 months on two coupon payments on the USD bonds and a temporary 12-month waiver of ongoing default events.
The high-yield bonds, governed by English law, mature in a little more than a year from now in June, 2024. The alphanumeric code, or International Securities Identification Number of the bonds is XS2010609662.
A prominent national liability, Sri Lankan Airlines is in negative equity, is carrying substantial US dollar debt on its books and has haemorrhaged multiple billions. The Government decided in March to offload parts of the airline.
Current financial liabilities exceed current assets by Rs. 302.70 billion, while total liabilities exceed total assets by Rs. 437.03bn. It is also still trying to claim, along with damages, pre-delivery payments of Rs 5.64bn (US$19.21m) for Airbus A350 900 aircraft deals, following a bribery case decided in the UK in 2020 involving former CEO Kapila Chandrasena and his wife.
The airline missed a coupon payment on the bonds due on December 25, 2022 and the default is continuing. The grace period ended on January 25, 2023.
Among risks, the bond offering circular states that "if the company is unable to repay its secured indebtedness, the lenders could foreclose on substantially all of its assets which serve as collateral''.
In its filings for the year ended March 31, 2022, the airline says it began soliciting consent of bondholders on December 22, 2022, seeking to postpone interest payment due in December 2022 and June 2023 until December 2023, and a temporary 12-month waiver of events of default. The consent solicitation ended on January 17, 2023.
It says bondholders were paid interest which fell due in the past in full and that it "plans to engage with the bondholders, to find a balanced and equitable solution''.
Fitch Ratings affirmed its 'C' rating on the bonds, saying recovery prospects after the default are "average-to-below average''.
The offering circular shows that bonds maturing on June 24, 2024, will bear interest from and including the June 25, 2019 issue date at 7% per year payable semi-annually in arrears on June 25, and December 25 of each year.
An arbitration clause that says legal action, proceedings, or disputes must be settled under Arbitration Rules of the Singapore International Arbitration Centre.
The bonds are quoted on Singapore Exchange Securities Trading Limited.
Credit Suisse and Standard Chartered Bank were joint lead managers of the issue. The trustee is DB Trustees (Hong Kong) Limited and principal paying agent, registrar and transfer agent is Deutsche Bank AG, Hong Kong Branch.
Ahead of issuance, the accumulated loss under chairman G.S Withanage and Vipula Gunatilleka, the CEO, had shot up to Rs 220.8bn as of December 31, 2018. As a result, equity was a negative Rs. 167.7bn. Total liabilities were Rs 252.5bn. Annual loss was Rs 17.2bn. The airline was also being investigated for fraud and corruption in funding, aircraft deals, appointments, Emirates agreement termination, and Mihin Lanka winding up. As of March 31, 2019, debts were Rs 123.147bn (US$704.68m).
The issuance was on its 40th year. At the time, Eran Wickramaratne, who was state minister of finance, hailed the anniversary as "a proud moment''.
After a borrowing binge, the so-called 'yahapalana' Government's debt stock, had soared to Rs. 11.97 trillion at end 2018 as well. Foreign debt had risen by 26.3% to Rs 5.95tn.
The security was "unconditionally and irrevocably'' guaranteed by the Government of Maithripala Sirisena.
The Government guaranteed a coupon at 7%, far higher than that paid on many sovereign bonds.
At issuance, there was no established trading market for the bonds.
Bond trading platform Bondsupermart has now flagged the bonds as carrying "significant credit and default risk'' based on prevailing yields and prices. It warns that investors may not be able to recoup the "initial investment value or receive any coupon or principal repayment even upon maturity''.
Bondsupermart says the bonds may also be illiquid, cautioning that "a marketplace'' may not exist for a seller.
The bonds are also quoted on the Börse Frankfurt.
This obligation is a part of the Central Bank of Sri Lanka decision on April 12, 2022, to stop paying principal and interest on external debt, as well as the Government defaulting on interest payment on external debt of more than US$25m and the grace period expiring in May 2022.
In January, the Sri Lankan Airlines board headed by Asoka Pathirage (also Softlogic Holdings Plc., chairman and managing director) and management led by Richard Nuttall, chief executive officer, announced the airline has debt of US$826m, (Rs 251.681bn). This includes the US$175m bond; US$299m owed to Ceylon Petroleum Corp, and US$352m owed to two state banks.
There is also US$771m in overdue payments and future payments owed to lessors and suppliers. This includes US$125m owed to lessors; US$23m owed to engine suppliers; US$15m due to others, and US$608m in future lease payments.
The airline's US$826m debt is more than one-and-a-half times the US$465m interest repayments of the Government in 2022.
The public continues to fund the airline. In April 2021, it received US$90.45m equivalent, the second portion of a capital infusion, following US$150m the previous year.
For the financial year 2021-2022, the airline booked a net loss of Rs.166.36bn. The accumulated loss is Rs. 537.50bn.
Referring to the USD bonds, in June 2022, Mark Weidemaier, professor of law at the University of North Carolina at Chapel Hill; Ugo Panizza, professor of international economics at the Geneva Graduate Institute and vice president of the Centre for Economic Policy Research; and Mitu Gulati, professor of law at the University of Virginia, highlighted some "goofy'', or odd aspects, writing in the UK's Financial Times.
They said the strange aspects appear to favour creditors. "If some set of hedgies decide to target this bond and acquire a 25% stake, it is going to be awfully hard to cajole them into taking a haircut.''
They argued that perhaps the odd features were aimed at making the bonds hard to restructure, "thus assuring investors a higher payout if a restructuring did become necessary. Maybe.''
"But if this were the case, we would expect the airline bond to carry a lower interest rate at issue than a comparable government credit with the easier-to-restructure contracts. As it turns out, the guaranteed bond was issued literally within days of the sovereign issuing a debt instrument with the same maturity in 2024. Guess what? The airline bond carried a rate 65 basis points higher, not lower.''
They concluded that "time will tell whether Sri Lanka's restructurers figure out a special strategy to deal with the guarantee or whether it pays out like those Greek guarantee bonds — in full and on time''.
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