Lower than expected debt relief for SL under new bondholder deal: Verité

• Latest analysis shows SL might only get 19.8% debt relief, far below 30% baseline expected
• Warns Govt.’s assumptions are overly optimistic based on country’s current growth projections

Sri Lanka’s hopes for substantial debt relief from its recent bondholder agreement are fading, according to the latest Verité Research.

The country, which entered a crucial debt restructuring agreement in September 2024, had been banking on a 30% reduction in its net present value (NPV) of debt under the so-called ‘IMF baseline scenario’. However, Verité’s latest findings reveal that Sri Lanka is more likely to receive a much lower 19.8% debt reduction.

“Based on the current official data, it puts Sri Lanka in the fifth highest (second to lowest) debt relief scenario. Therefore, Sri Lanka’s expected debt relief from the agreement will be less than 20% (specifically, 19.8%) in NPV terms at a 5% discount rate, rather than the 30% NPV debt reduction anticipated in the baseline scenario,” it added.

At the core of the issue is the structure of Sri Lanka’s deal with international bondholders. The agreement includes a Macro-Linked Bond (MLB), which ties the level of debt relief to the country’s future economic performance, particularly GDP growth.

Based on Sri Lanka’s current growth projections, Verité Research warns that the Government’s assumptions are overly optimistic.

“The agreement presents Sri Lanka as expecting to be in the third highest debt relief scenario, which is described as the baseline scenario. The debt relief terms with official creditors have not been disclosed. Based on the agreement with international bondholders, the comparability of treatment criteria could have Sri Lanka receiving less than 20% in NPV reduction from official creditors as well,” it added.

The agreement includes a Governance-Linked Bond (GLB), which enhances debt relief by structuring a portion of the $ 1,722 million in Plain Vanilla Bonds as a GLB with a future coupon step-down.

The GLB option was first introduced in the April Proposal, based on submissions to GOSL and the Group by Verité Research.

The proposed GLB offers an upside for Sri Lanka, featuring a coupon step-down linked to specified governance actions. With only the option of a coupon step-down and no coupon step-up, it offers a greater debt reduction than the alternative Plain Vanilla Bond.

The GLB is an attractive instrument by which the GoSL achieves a reduction in debt service costs while taking actions that would improve governance and foster greater confidence in its future path of debt management.

The April Proposal offered to structure $ 0.5 to 1 billion of the Plain Vanilla Bonds as a GLB. It proposed a coupon step-down of 50 basis points in 2028 and three governance actions that could function as the trigger for the coupon step-down, while allowing the GoSL flexibility to refine or reformulate these actions.

The September Agreement has made the specifications even more open – with greater flexibility for the GoSL to increase the quantum of Plain Vanilla Bonds that would be structured as a GLB, as well as the extent of the coupon step-down on the GLB.

The political space for adopting the GLB has increased following the recent Presidential Election, which was won on a platform of anti-corruption and improving governance.