AT-1 bonds are back in focus after the Supreme Court upheld a Bombay High Court ruling quashing Yes Bank’s 2020 write-off of bonds worth ₹8,415 crore. The verdict marks a landmark win for bondholders whose investments were cancelled during the bank’s rescue facilitated six years ago.
Yes Bank plunged into a liquidity crisis in March 2020 as bad loans swelled, prompting the Reserve Bank of India (RBI) to take control of the lender and freeze withdrawals. To stabilise the bank, a consortium of lenders led by the State Bank of India (SBI) was assembled to to inject fresh equity capital.
As part of the exercise, the bank’s administrator wrote down around ₹8,415 crore worth of Additional Tier-1 (AT-1) bonds, prompting Axis Trustee Services and other bondholders to challenge the move in court.
What are AT-1 bonds, how investors make returns?
Banks issue AT-1 bonds under Basel III norms to strengthen their core Tier-1 capital, absorb financial losses, and support lending growth without diluting existing equity shareholding. While these bonds can be attractive in terms of interest rates, they also carry significant risks.
“To attract capital, these instruments offer higher interest rates than conventional fixed-income products. However, AT-1 bonds are perpetual with no fixed maturity date, and banks retain the right to cancel interest payments without obligation to pay them later,” according to K Sai Teja, an advocate at the Supreme Court of India.
He further explained that if a bank’s common equity Tier-1 (CET1) ratio falls below regulatory thresholds, the principal can be partially or completely written down, as demonstrated during the 2020 Yes Bank crisis.
A bank’s Tier 1 capital ratio measures its core equity and reserves against its total risk-weighted assets to test financial strength and loss absorption.
Since AT-1 bonds do not have a maturity date, lenders only need to pay coupon every year. However, most AT-1 bonds have a call option under which banks repay investors in full after five or 10 years.
Why Yes Bank’s AT-1 bond write-off was overturned
While AT-1 bonds can be legally written down to absord losses when the bank faces financial distress, this raises a common doubt among many: why Yes Bank’s 2020 write-off become a legal flashpoint, with both the Bombay High Court and the Supreme Court ruling against it?
This is because the dispute was not about whether AT-1 bonds can ever be written down. The real issue was whether the Yes Bank write-off had been carried out by the proper authority and in accordance with law.
“The final Yes Bank Reconstruction Scheme, unlike the draft scheme, did not expressly provide for extinguishment of the AT-1 bonds and appeared to preserve the bank’s existing liabilities. Further, the write-off was directed by the administrator after the reconstruction scheme had come into force. The court found that the administrator lacked the requisite authority to take that decision,” said Rohit Jain, Managing Partner at Singhania & Co.
What happens to the Yes Bank AT-1 bonds now?
The judgment provides substantial relief to Yes Bank’s AT-1 bondholders, but this should not automatically be equated with an immediate cash refund of the entire principal to every investor, said Shashank Agarwal, Founder at Legum Solis.
“Principal repayment, outstanding coupon payments and any other monetary relief will depend on the operative directions, the terms of the respective bond issuances and the applicable legal framework,” he said.
Bondholders may pursue the relief available under the judgment and the bond documents, including applicable unpaid coupons. In addition, any separate claim for compensation or damages would require an independent legal basis and cannot be presumed merely because the write-off was quashed, he added.
How investors can assess AT-1 bonds before investing
The Yes Bank case serves as an important reminder for investors to carefully assess the risks of perpetual debt instruments before investing in them.
Accord Juris’s Managing Partner Alay Razvi advised retail investors to first read the information memorandum and bond terms, especially trigger levels, coupon-deferral and write-down provisions, before making any commitment.
“They should assess the issuer’s capital adequacy, asset quality, profitability, governance and regulatory standing. AT-1 bonds suit investors who can tolerate permanent capital loss and illiquidity,” he noted.
Additionally, these securities should not be treated as deposits or low-risk corporate bonds merely because they offer a high coupon, he added.
