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Contingent convertibles or CoCo bonds are structured differently to regular convertible bonds in that the likelihood of their converting to equity is ‘contingent’ on a specific event taking place. Such events might be the stock price of the issuer exceeding a particular level for a certain period of time or its Tier 1 capital ratio falling below a certain threshold.
From an accounting perspective, they do not have to be included in a company’s diluted earnings per share until the bonds are eligible for conversion – which can put them at an advantage compared to other convertible bonds.
CoCos are different from traditional hybrids in that they are designed to convert into shares if a pre-set trigger is breached in order to provide a sudden boost to capital levels if required. They can be made to act as a cushion between holders of senior debt and shareholders, who are amongst the first to suffer if capital is lost. The bonds usually allow a bank either to hold on to the capital past the first repayment date or to skip paying interest coupons on the notes.
Recent examples of Cocos include the Credit Suisse ‘wipe-out’ bond for US$2.5bn in August 2013. Europe has seen a wide range of banks try to appease regulators at a time when the regulators are looking for banks to retain more loss-absorbing capital.
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