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vijaygawde
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Quote vijaygawde Replybullet Topic: FCCB - TimeBomb Waiting to Explode
    Posted: 26/Jan/2009 at 4:42pm
FCCB - TimeBomb Waiting to Explode
 
Stock prices of companies issuing FCCBs having fallen below their conversion price, and redemption looks likely. For many, this is a time-bomb

The equity market has witnessed a dramatic change. Two years ago, stocks flared up merely on talks of companies issuing foreign currency convertible bonds (FCCBs). Now investors shiver on thinking about the FCCB exposure of Indian companies. At that point, FCCBs were considered a very convenient and quick way of raising funds for organic and inorganic expansion. It was possible to raise funds through FCCBs at competitive interest rates compared with interest rates prevailing in the Indian market.

The massive plunge of the stock market and the rupee depreciation against the US dollar has completely changed the equation for FCCB-issuing companies. This unexpected turn of events has caught many Indian companies on the wrong foot. Indeed, FCCBs have actually become a major headache for the issuing companies. All the assumptions of the issuing companies have gone haywire and have put the financials of these companies in doldrums.

Indian companies issued FCCBs worth US$ 20 billion, or around Rs 90000 crore at an exchange rate of Rs 45 per US dollar, over the last five years, according to research firm CLSA. The fear is that a few companies could even face bankruptcy owing to the FCCB burden if they do not manage to find an intermediate solution to defuse the FCCB time-bomb.

Most FCCBs would start maturing in the next two to two-and-a-half years. With most companies trading way below the conversion price, redemption seems to be likely unless prices recover. The first company to face FCCB redemption would be Mumbai-pharmaceuticals company Wockhardt.

Interestingly, the FCCB fiasco is not happening for the first time. It also happened in 2005-2006, when the market witnessed a correction. Indeed, the popularity of FCCBs to raise finance has swung along with the fortunes of the equity markets. This time, the situation is really grim. In a couple of cases, funds repayable on FCCB redemption exceed the market capitalisation of the company.

For instance, Subex requires around Rs 720 crore (US$ 180 million) to meet its FCCB redemption commitment. Its stock is down by over 90% from its 52-week peak with a market capitalisation of around Rs 120 crore. Even worse, the company has reported a loss of over Rs 6 crore in the latest financial year ended March 2008 (FY 2008) compared with a profit of Rs 20 crore in FY 2007. Sales declined 32%. The company generated a mere Rs 10 crore from operating cash-flow, which is not sufficient to meet its heavy FCCB redemption requirement. Though the company can draw solace from the fact that the FCCBs are redeemable in March 2012, the conversion price of Rs 656.20 per share is too high considering its shares are languishing in the range of Rs 30-Rs 40. As per the terms and conditions of the redemption, the company would have to pay interest at the rate of 8% per annum calculated on a semi-annual basis. The coupon rate on these bond is 2%. Thus, the premium on redemption is 6%. This will essentially mean extra cost for the company if the bondholders opt for redemption, which is likely.

Subex is writing off or charging the redemption premium to the securities premium account over the life of the bonds. Likewise, it has charged Rs 59.99 crore as redemption to the securities premium. Had the company charged this redemption premium to profit and loss (P&L) account, its loss for FY 2008 would have been higher by this much amount: loss of around Rs 80 crore instead of Rs 20 crore in FY 2008.

One of the solutions for the issuing companies to prevent a bust is to consider reduction in the conversion price. However, reduction in the conversion price has two different sets of problems. First, it would lead to higher dilution if the bond holders decide to convert bonds into shares. This is assuming the share price would reach the conversion price till maturity of the FCCBs. The stocks have been so badly hammered on the trading floor that reaching even the revised conversion price also looks a distant possibility. Thus, redemption of bonds on maturity looks inevitable.
For instance, Core Project & Technologies reset the conversion price of its FCCB to Rs 82.86 from Rs 165.70. Against the original conversion price, the stock is trading at a discount of 63.9%. Compared with the reset conversion price, the stock is hovering at a discount of 28%. Though revising the conversion price is definitely one of the solutions, it could fail to do the magic if the stock market conditions remain bearish for a longer period. Promoters held a 47.69% equity stake end September 2008.

For companies where promoters do not have a sizable equity stake, revising downwards the conversion price is not an option as it would invite a hostile takeover. A higher quantum of dilution could adversely impact the earning per share and, eventually, P/E valuation, making the stock expensive compared with its peers. Redemption would not happen simply because the stock has touched or trading at the conversion-price level. This is because the stock price has to be substantially above the conversion price to take care of redemption premium that the bondholder is eligible for at the time of maturity. The probability of conversion improves if the market is bullish and bondholders are reasonably sure that they can make money on conversion into equity.

Companies with FCCBs maturing in the near future are running from pillar to post to raise money to fund redemption. For instance, Wockhardt is evaluating all the possible options to raise money right from selling off its assets, tapping private equity (PE) players and so on. In fact, raising money in this market is extremely difficult, particularly after the fall of Lehman Brothers.

The options that are available to companies to augment resources to redeem FCCBs are either limited and or not economically feasible in the current market scenario. The major options include internal accruals, fresh FCCBs or external commercial borrowings (ECBs), raising debt from the domestic market and equity dilution. Internal accruals would be limited in a slowing domestic economy. Developed economies are also in a recession. Issuing of FCCBs is, thus, almost closed as investors have turned risk-averse. Equity dilution is an option, but promoters would not be keen as this will fetch lower valuation. Too much of dilution will be detrimental to the interest of the existing shareholders. Raising money from the domestic market would increase the interest burden. A few companies could dip into the red purely due to higher interest expense.

Many companies such as Subex and Aurobindo Pharma have a highly leveraged balance sheet and raising fresh debt would be troublesome. Many companies have used the FCCB proceeds for organic expansion, which could be under implementation. These projects would take time to contribute to the bottom line, and increase the fixed cost, adversely impacting the P&L account. Already, research and brokerage houses have started giving ‘sell’ recommendation on companies stuck with FCCBs.

The FCCB burden could be extremely cumbersome for small- and mid-sized companies. This is very much evident from figures (see table: Non-convertible pain). A few companies have a high debt to equity ratio. These include Orchid Chemicals & Pharmaceuticals (3.01), SpiceJet (4.57), Kinetic Engineering (14.86), Gayatri Projects (2.31), Era Infra (2.99), Hotel Leela Ventures (2.13), Zenith Infotech (2.74), Dolphin Offshore (2.29), Ankur Drugs (3.07), and GTL Infrastructure (2.76). They would find it extremely difficult to raise further debt to fund FCCB redemption. Moreover, a few companies such as Dolphin Offshore have a negative cash-flow from operating activities.

Owing to the massive plunge since the market started its descend in January 2008, shares of many companies have been hit so badly that their market capitalisation is far less compared with their total debt. For example, Kinetic Engineering’s total outstanding debt end March 2008 is 10 times higher compared with its market capitalisation. Other companies include Orchid Chemicals & Pharmaceuticals (2.7 times), Gayatri Projects (4.4 times), Kamat Hotels (3.9 times), Prithvi Information (4.7 times), Subex (7.6 times), Ankur Drugs (3.4 times), and Pyramid Saimira Theatres (3.4 times). (For this comparison, market capitalisation on 6 January 2009 has been taken into account.)

Accounting treatment has saved the day for companies with FCCB exposure. Companies are exploring provisions in the Companies Act, 1956, to hide the losses from FCCBs. Presently, most companies are charging expenses related to the issue of FCCBs and premium payable on redemption of FCCBs to the securities premium account. The securities premium account is a sub-head that comes under, ‘Reserves and surplus’, appearing on the liability side of the balance sheet. This accounting treatment is in sync with Section 78 (2) of the Companies Act, 1956. However, as a prudent accounting practice, this entry should be disposed of through the P&L account. By not doing so, companies completly keep their losses arising from FCCBs under wraps. Under Section 78 (2), a company just needs to pass a book entry: debit the securities premium account and credit provisions for premium payable on redemption of FCCBs. Companies, in fact, need to create a separate provision account for premium payable on redemption of FCCBs.

Apart from showing higher profit, anther bigger problem with this treatment is that the company could pay dividend out of such profit and carry out other activities, which could drain cash from its balance sheet. When FCCBs become due for redemption, the company could have provision for premium payable on redemption but not enough hard cash to honor its financial commitment. This way, the company would have no option in future but to raise money from the market, one way or the rather, to repay the FCCBs.

FirstSource is one such company that has taken shelter under the Companies Act, 1956. It has not charged FCCB related cost to the P&L account. Instead, this has been treated in the balance sheet. This has enabled the company to report a decent profit. First Source raised US$ 275 million in FY 2008 through the issue of zero-coupon FCCBs to fund the acquisition of MedAssist Holding. As per the FCCB term sheet, bonds are convertible into equity shares at price of Rs 92.2933 per share at the option of the bondholder at any time from 14 January 2008 up to 23 November 2012. If the entire FCCB is converted into shares, the company will need to issue 117.0 million shares at a predetermined price. Further, if the bonds are not converted into shares, they would be redeemed to bondholders on maturity on 4 December 2012 at an yield to maturity (YTM) of 6.75% per annum.

As per the annual report of FirstSource, "these FCCBs are considered monetary in nature and premium payable on redemption of FCCBs is fully charged to the securities premium account in the period of issue, and the liability so created is reflected under provisions. This charge will be reversed if and when the FCCB holders opt to convert the bonds into equity at any time before the bonds are due for redemption." Thus, the company has created a separate provision account, ‘Premium payable on redemption of FCCB’, and provided Rs 434.37 crore through debiting securities premium account. Further, it has also written off expenses incurred for issue of FCCBs amounting to Rs 21.74 crore through the securities premium account. It reported a consolidated profit of Rs 130 crore in FY 2008. This comfort is available to only those companies with a substantial balance in the securities premium account. Else, companies would have to charge the expenses related to FCCBs to the P&L account.

Of the 91 FCCB issues, only in six instances are the stocks trading at a premium compared with the conversion price. Five are trading at over 90% discount to the conversion price. This means, these stocks should appreciate at least 10 times from the current level for bondholders to opt for conversion of FCCBs into equity shares. Further, 29 FCCBs are at over 75% to 90% discount to the conversion price, while in 34 instances the share price is at a discount between 50% to 75%.

Subex (94.9%), Nectar Lifescience (92.3%), Pyramid Saimira Theatres (90.9), Era Infrastructure (90.8%) and Prithvi Information (90.7%) are currently trading at over 90% discount to their FCCB conversion price. Unless the stock price recovers, which would be not less than a miracle, these companies would have to gear up for redemption of FCCBs. Besides Amtek Auto, Bharat Forge, Tata Motors, Bharti Shipyard, Easun Reyrolle, Suzlon Energy, Aftek, First Source Solutions, Aurobindo Pharma, Prime Focus, Bajaj Hindusthan and Moser Baer are trading at a discount of over 80% compared with the FCCB conversion price. On the positive side, a handful of firms — is Glenmark Pharmaceuticals, Lupin, HDFC, Tata Power and Sterling Biotech — are trading at a premium to the conversion price.

It would be prudent for the retail investors to look at the extent of debt in the balance sheet and exposure to FCCBs before investing in a stock. Focusing on the utilisation of funds raised through FCCBs should also provide good insights into whether the company would able to cope up with the crisis on or not. The companies that have utilised FCCB proceeds to fund inorganic growth or acquisition at exuberant valuation could be in for a spell of trouble. As the business confidence would take some time to restore, expensive buyouts of heydays would not yield the desired results, putting a further strain on the cash-flows and earning.
 


Edited by vijaygawde - 26/Jan/2009 at 4:58pm
Diversification is protection against ignorance, it makes little sense for those who know what they’re doing.
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Quote vijaygawde Replybullet Posted: 26/Jan/2009 at 4:46pm

Non-convertible pain
Companies that have issued FCCBs
Company Maturity
period
Currency Issue size
(Mn)
Current
O/s
FCCB
(Mn)
Conversion
price
(Rs)
CMP
(Rs)
Discount
/Premium to
conversion price (Rs)
52-week
High
(Rs)
52-week
Low
(Rs)
Market
Cap
(Rs cr)
Financial
Year
Debt to Equity Ratio Total Debt
(Rs
crore)
Amtek Auto Jun-10 USD 150 17.5 210 64.9 -69.1 445.1 42.3 915.1 Jun-08 0.9 2325.5
Amtek Auto Jun-11 USD 250 250 459 64.9 -85.9 445.1 42.3 915.1 Jun-08 0.9 2325.5
Amtek India Oct-10 USD 75 43.8 120 26.1 -78.3 190.5 17.9 292.2 Jun-08 0.5 659.9
Bharat Forge Apr-13 USD 39.9 39.9 690 93 -86.5 389 78 2069.6 Mar-08 1 1287.5
Bharat Forge Apr-13 USD 40 40 604 93 -84.6 389 78 2069.6 Mar-08 1 1287.5
Bharat Forge Apr-13 USD 60 60 384 93 -75.8 389 78 2069.6 Mar-08 1 1287.5
Kinetic Engineering Feb-13 USD 18 18 156 38.1 -75.6 207 28.2 22.8 Mar-08 14.9 221.7
Mahindra & Mahindra Mar-11 USD 200 200 922 318 -65.5 842 235.5 8221.2 Mar-08 0.5 2587.1
Motherson Sumi Aug-10 Euro 50.3 45.7 74 66.5 -10.2 123.9 38 2362.7 Mar-08 1.2 461.1
Tata Motors Apr-09 USD 100 4.4 573 185.7 -67.6 772.4 122 9548.9 Mar-08 0.7 6280.5
Tata Motors Jun-12 USD 490 490 961 185.7 -80.7 772.4 122 9548.9 Mar-08 0.7 6280.5
Tata Motors Mar-11 JPY 11760 11760 1001 185.7 -81.4 772.4 122 9548.9 Mar-08 0.7 6280.5
Tata Motors Apr-11 USD 300 300 780 185.7 -76.2 772.4 122 9548.9 Mar-08 0.7 6280.5
Bharti Shipyard Dec-10 USD 80 46.9 498 84.8 -83 864.7 59 233.7 Mar-08 1.2 431.1
Easun Reyrolle Dec-12 USD 35 35 400 45.5 -88.6 376 31.5 94.4 Mar-08 0.8 157.4
Suzlon Energy Oct-12 USD 200 200 372 67.8 -81.8 460 36.3 10151 Mar-08 0.4 3084.7
Suzlon Energy Jun-12 USD 300 300 360 67.8 -81.2 460 36.3 10151 Mar-08 0.4 3084.7
Jaiprakash Associates Sep-12 USD 400 395 248 100.9 -59.3 489 47.1 11938.6 Mar-08 2.1 8305.6
Punj Lloyd Apr-11 USD 125 50 273 161.3 -40.9 572.9 127.5 4893.6 Mar-08 0.8 1367.7
Gayatri Projects 2012 JPY 3080 2960 378 101 -73.3 696 82.7 102 Mar-08 2.3 452.1
HCC Mar-11 USD 100 100 248 58.8 -76.3 251.9 30.1 1505.5 Mar-08 1.8 1844.9
Era Infra Jan-12 USD 75 75 793 72.6 -90.8 179 64 878.6 Mar-08 3 1447.1
Hotel Leela Sep-10 Euro 60 51 47.3 20.9 -55.8 72.7 17.1 789.7 Mar-08 2.1 2035.7
Hotel Leela Apr-12 USD 100 100 72 20.9 -71 72.7 17.1 789.7 Mar-08 2.1 2035.7
Kamat Hotels Mar-12 USD 18 18 225 47.2 -79 285 39.6 62.3 Mar-08 1.7 241.2
ICSA India May-12 USD 24 21 250 146 -41.6 612 127.2 683.1 Mar-08 0.7 201.4
Core Project & Technologies May-12 USD 80 25 83 59.8 -28 439 34.1 515.9 Mar-08 0.4 167.7
Cranes Software Mar-11 Euro 42 42 115 73.9 -35.8 161 65 846.8 Mar-08 1.2 572.9
KLG Systel Mar-12 USD 22 16 400 109.8 -72.6 986 66.3 138.6 Mar-08 0.8 112.3
Zenith Infotech Jul-12 USD 50 50 307.2 250 -18.6 490 196.5 305.9 Mar-08 2.7 331.8
3i Infotech Mar-11 USD 50 15.1 115 40.6 -64.7 159.9 30.1 530.9 Mar-08 1.6 1262.1
3i Infotech Jul-12 USD 100 100 165.9 40.6 -75.5 159.9 30.1 530.9 Mar-08 1.6 1262.1
3i Infotech Apr-12 Euro 30 30 154.3 40.6 -73.7 159.9 30.1 530.9 Mar-08 1.6 1262.1
Aftek Jun-10 USD 34.5 8.8 75.2 14.2 -81.1 94.5 11.4 133 Mar-08 0.1 79.2
Financial Technologies Dec-11 USD 100 100 2362.7 539.5 -77.2 2561 426 2475.2 Mar-08 0.5 399.5
Geodesic Information Jan-13 USD 125 125 302.3 81.2 -73.2 284.1 55.5 748.3 Mar-08 0.7 506.8
Prithvi Information Feb-12 USD 50 50 469.1 43.4 -90.7 352 31.9 78.5 Mar-08 0.8 372.1
Rolta India Jun-12 USD 150 150 368.7 132.9 -64 374.5 103.6 2138 Jun-08 0.5 693.8
Subex Mar-12 USD 180 163 656.2 33.5 -94.9 367.8 28.8 116.6 Mar-08 1.1 885.2
First Source Solutions Oct-12 USD 275 275 92.3 14.7 -84.1 81.3 10.6 628.2 Mar-08 0.8 1124.1
Educomp Solutions Jul-12 USD 80 79 2950 2642.3 -10.4 5650 1515 4567.6 Mar-08 1.3 367.2
Gujarat NRE Coke Apr-11 USD 60 22.5 63 29.9 -52.6 129.3 20.6 1408.7 Mar-08 0.8 632.7
Monnet Ispat Feb-11 USD 60 28.1 317 170.5 -46.2 624.9 110.9 838.3 Mar-08 1.3 1098.1
Jindal Saw Jul-11 JPY 9090 6790 675 253.8 -62.4 1203.9 217.5 1322.9 Dec-07 0.9 1159.4
Man Industries May-12 USD 50 50 144 42.4 -70.6 169.9 27.3 225.9 Mar-08 0.8 309.5
PSL Aug-10 USD 40 2.5 188 89.6 -52.4 550 72.1 382.5 Mar-08 1.4 619.9
Tata Steel Aug-12 USD 875 875 758 246.8 -67.4 940 146.4 18027.2 Mar-08 0.7 18021.7
Aban Offshore Apr-11 JPY 11610 5410 2789 789.2 -71.7 5378 601 2983.2 Mar-08 1.5 1456.3
Aban Offshore Feb-14 USD 150 150 2789 789.2 -71.7 5378 601 2983.2 Mar-08 1.5 1456.3
Dolphin Offshore Dec-10 USD 15 12 225 168 -25.3 339 105.2 160.7 Mar-08 2.3 159.2
South Asian Petrochem Jan-13 USD 20 20 22.5 9.1 -59.5 39.3 6.1 212.6 Mar-08 1 356.6
Great Offshore Jan-13 USD 42 42 875 274.6 -68.6 1150 200 1019.9 Mar-08 1.1 930.1
Ankur Drugs May-11 USD 16 15 165 97.6 -40.9 416.4 83.1 181.6 Mar-08 3.1 618.1
Aurobindo Pharma May-11 USD 150 150 1014 176 -82.6 533 101.6 946 Mar-08 1.7 1755.7
Aurobindo Pharma May-11 USD 50 50 879 176 -80 533 101.6 946 Mar-08 1.7 1755.7
Aurobindo Pharma Aug-10 USD 60 56 522 176 -66.3 533 101.6 946 Mar-08 1.7 1755.7
Glenmark Pharmaceuticals Feb-10 USD 50 49 253 306.8 21.3 730 211.1 7686 Mar-08 1 527.6
Glenmark Pharmaceuticals Jan-11 USD 30 30 583 306.8 -47.4 730 211.1 7686 Mar-08 1 527.6
Glenmark Pharmaceuticals Feb-10 USD 20 3 216 306.8 42 730 211.1 7686 Mar-08 1 527.6
Jubilant Organosys May-10 USD 75 60.9 273 149.8 -45.1 391 102 2210.2 Mar-08 1.4 1665.5
Jubilant Organosys May-09 USD 35 0.3 164 149.8 -8.7 391 102 2210.2 Mar-08 1.4 1665.5
Jubilant Organosys May-11 USD 200 200 413 149.8 -63.7 391 102 2210.2 Mar-08 1.4 1665.5
Lupin Jan-11 USD 100 80 567 614.9 8.4 780 429.9 5091 Mar-08 0.8 965.6
Nectar Lifescience Apr-11 USD 35 33 260 20 -92.3 38.9 13.2 303.8 Mar-08 1.9 484.8
Orchid Chemicals Feb-12 USD 175 175 348 103 -70.4 330 66.9 725.6 Mar-08 3 1953.4
Orchid Chemicals Nov-10 USD 42.5 18 244 103 -57.8 330 66.9 725.6 Mar-08 3 1953.4
Plethico Pharmaceuticals Oct-12 USD 75 75 605 139.2 -77 514.4 111 474 Dec-07 0.5 382.6
Ranbaxy Lab Mar-11 USD 440 440 716 253.5 -64.6 613.7 164.3 10654.3 Dec-07 1.4 3503
Strides Arcolab Jun-12 USD 100 100 462 94.8 -79.5 278 88 379.5 Dec-07 2.3 1062.8
Strides Arcolab Apr-10 USD 40 40 359 94.8 -73.6 278 88 379.5 Dec-07 2.3 1062.8
Wanbury Apr-12 Euro 7 7 175 47.8 -72.7 163.6 35.6 70.1 Mar-07 1.1 133.7
Wanbury Apr-12 Euro 8 8 138 47.8 -65.4 163.6 35.6 70.1 Mar-07 1.1 133.7
Wockhardt Oct-09 USD 110 108 486 114 -76.6 435 88.8 1247 Dec-07 0.8 808.8
Adlabs Film Jan-11 Euro 84 20.7 543.4 215.4 -60.4 1800 130.2 993.3 Mar-08 1.5 922.7
Zee Entertainment Apr-09 USD 100 3.8 153.5 148 -3.6 316.8 93 6421.1 Mar-08 0.1 204.3
Prime Focus 2012 USD 55 55 1386.7 160.6 -88.4 1450 107.1 204.3 Mar-08 1 330.9
Pyramid Saimira Theatres 2012 USD 90 90 454 41.4 -90.9 520 35.3 117.1 Mar-08 1.3 400.3
GTL Infrastructure Oct-12 USD 300 268.5 53 32.1 -39.4 99.1 28.4 2516.2 Mar-08 2.8 2475.7
XL Telecom & Energy Oct-12 USD 40 20.2 260 58.8 -77.4 495.3 43.5 110.5 Jun-08 1 378.3
Reliance Communication May-11 USD 500 296.9 476 248.9 -47.7 844 148.6 51363.3 Mar-08 0.8 20286.4
Reliance Communication Feb-12 USD 1000 990 656.2 248.9 -62.1 844 148.6 51363.3 Mar-08 0.8 20286.4
Gemini Communication Jun-12 Euro 15 15 51.3 23.5 -54.2 62 15.9 228.4 Mar-08 1.8 196
Tulip Telecom Aug-12 USD 150 150 1137.2 515.15 -54.7 1145 385 1493.93 Mar-08 1.4 893.8
Bajaj Hindusthan Feb-11 USD 120 120 465.4 73.5 -84.2 399.5 38.3 1039.3 Sep-08 1.6 2890.9
HDFC Aug-10 USD 500 111 1399 1684.3 20.4 3257 1202 47908.2 Mar-08 7.2 69151.2
Moser Baer Jun-12 USD 75 75 545.9 79.1 -85.5 336.7 50.1 1331.3 Mar-08 1.1 2617.3
Moser Baer Jun-12 USD 75 75 611.5 79.1 -87.1 336.7 50.1 1331.3 Mar-08 1.1 2617.3
Tata Power Feb-10 USD 200 200 591 804.7 36.2 1639 531.5 17815.1 Mar-08 0.5 3037.3
Sterling Biotech 2010 USD 175 175 153 156.8 2.5 262.5 131 3775.3 Dec-07 1.6 2008.5
Tata Chemicals Jan-10 USD 150 51 231 177.1 -23.4 440 116.1 4163.7 Mar-08 0.6 2345.3
United Phosperous Jan-11 USD 80 80 272 116 -57.4 212.5 65.1 5098.9 Mar-08 1.2 1534.8
Source: Reliance Money, NSE, BSE, CapitaLine, Annual Reports.
Note: Current market price (CMP) is closing for 6 January 2009. Market cap is based on closing price as on 6 January 2009.



Edited by vijaygawde - 26/Jan/2009 at 6:57pm
Diversification is protection against ignorance, it makes little sense for those who know what they’re doing.
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Quote kumardiwesh Replybullet Posted: 26/Jan/2009 at 6:12pm
Should we avoid investing in all these companies?
"History does not tell you the probability of future financial things happening" - Warren Buffett
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Quote vijaygawde Replybullet Posted: 26/Jan/2009 at 6:36pm
Originally posted by kumardiwesh

Should we avoid investing in all these companies?
 
HDFC and Tata Power are the only two companies in above list where CMP is higher than the conversion price.
 
I would avoid all other companies where thare CMP is quoting at deep discount to conversion price.
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Quote vijaygawde Replybullet Posted: 26/Jan/2009 at 6:54pm

ABC of FCCBs:

A depreciating rupee and weak stock market put issuers, banking on a strong rupee to limit foreign exchange outflow and buoyant stocks to discourage conversion, in a fix

A foreign currency convertible bond (FCCB) is a quasi debt instrument that is issued in a currency other than the issuer’s domestic currency. Over the last five years, a majority of Indian companies issuing FCCBs raised funds in US dollars, followed by euro, yen and pound. FCCBs could have a coupon rate of zero (no interest rate) but have yield on maturity. Or FCCBs could also carry lower interest rate and yield on maturity. Yield can be termed as premium payable on maturity. This is a bullet payment of interest at maturity if the bondholder opts for redemption.

Interest payable on bonds is also called as coupon rate. The key feature of FCCBs is that the interest is guaranteed and the bondholder also gets the option to convert the bond into equity. The coupon rate is payable at periodic intervals as agreed between the issuer and the bondholder. The holder of FCCBs has the option to convert the bonds into equity within the stipulated timeframe. Thus, FCCBs have the flavor of both debt and equity. If the bondholder opts for conversion, he would receive shares of the issuing company at a predetermined or rather the rate agreed at the time of subscribing to the FCCB issue. This is known as the conversion price. The FCCB conversion price is generally at a substantial premium to the market price prevailing at the time of the issue.

If the share prices fail to breach the conversion price, the bond holder can opt for redemption of bonds on maturity. This is what is most likely to happen in the current market scenario, where domestic issuing companies could be in a lurch if share prices remain subdued. Apart from redemption, which will stress cash-flows, the issuing companies would also have to pay redemption premium (interest payable on bonds at maturity).

The structure or rather terms and conditions of the FCCB vary from company to company. For example, some FCCBs have a reset clause allowing the conversion price to be reset at a lower level based on certain contingencies such as the stock coming down below a level defined in the FCCB agreement. Low-cost airline SpiceJet is a case in point. Owing to the market meltdown, the company reduced its FCCB conversion price twice from Rs 90 to Rs 57 and, recently, from Rs 57 to Rs 25. In this case, it would have to issue 3.5 times more shares on conversion. This would bloat the equity base, which would be difficult to service. SpiceJet has reported losses in the last five years. Whenever the company breaks even, its EPS would be negligible and so also its P/E valuation. Simply put, existing shareholders would suffer if the conversion price is reset and dilution is on the higher side.

FCCBs were selling like hot cakes as overseas investors were keen to reap the benefits of conomic prosperity in the emerging markets including India. This is a very safe bet for overseas investors who enjoy the option of redeeming the bond if the stock moves south contrary to expectation. For the issuing companies, FCCBs emerged as a key source of raising finance in quick time at very low interest rates due to the option to convert into equity. Besides, the Indian rupee
was constantly appreciating against the US dollar, which also
meant lower outflow in payment of interest on FCCBs. As the conversion price is set at a substantial premium to the market price, equity dilution is estimated on the lower side. Thus, promoters are also saved from any unwarranted change in shareholding pattern.

The weakening of the Indian rupee against the US dollar has compounded the woes of the issuing companies. As FCCBs are payable in foreign currencies (US dollars in most cases), companies would have to buy expensive dollars to pay interest or redeem them. Certain companies have used the FCCB proceeds to acquire companies in the overseas market, which acted as natural hedge to take care of the fluctuation in the currency due to FCCB proceeds and usage being the same currency: the US dollar.

Diversification is protection against ignorance, it makes little sense for those who know what they’re doing.
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vijaygawde
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Quote vijaygawde Replybullet Posted: 26/Jan/2009 at 6:56pm

A lifeline: Issuers can opt for premature redemption of FCCBs

The Reserve Bank of India (RBI) came out with a notification on 8 December 2008, allowing premature buyback of foreign currency convertible bonds (FCCBs). The buyback can be done through internal accrual or existing foreign exchange holdings of the company. Further, the RBI has mandated that the entire process of buyback should be completed by 31 March 2009. Following are the two routes allowed by the RBI along with key terms and conditions:

Automatic Route: The company requires prior permission from the RBI for buyback of FCCBs and should satisfy the following conditions to explore this route:

* Buyback value of the FCCB is at a minimum discount of 15% on the book value

* Funds used for the buyback are to be out of the existing foreign currency funds held either in India [including funds held in Exchange Earners’ Foreign Currency Account (EEFC) account] or abroad and/or out of fresh external commercial borrowing (ECB) raised in conformity with the current ECB norms

Approval Route: This route requires prior permission from the RBI. Further, the company interested in buyback should fulfill the following conditions:

* The buyback value of the FCCB is at a minimum discount of 25% on the book value

* Funds used for the buyback are out of internal accruals, to be evidenced by statutory auditor and designated AD Category–I bank’s certificate

* Total amount of buyback does not exceed US$ 50 million of the redemption value per company.

Though many mid- and small-caps would find it difficult to fund FCCB buyback through internal accruals due to inadequate profit, this move by the central bank is a step in the right direction. However, the amount allowed to be bought back is too little.

This facility by the RBI offers good opportunity for companies to retire some of their FCCB commitments and keep their balance sheet in the right shape. For overseas investors such as hedge funds that are stuck with liquidity crisis, the buyback could offer some amount of cushion to. A few companies are considering this option to reduce their FCCB exposure.

Diversification is protection against ignorance, it makes little sense for those who know what they’re doing.
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Quote kumardiwesh Replybullet Posted: 26/Jan/2009 at 7:04pm
Could you also post the links to all the articles?
"History does not tell you the probability of future financial things happening" - Warren Buffett
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Quote vijaygawde Replybullet Posted: 26/Jan/2009 at 7:19pm
Originally posted by kumardiwesh

Could you also post the links to all the articles?
 
 
Diversification is protection against ignorance, it makes little sense for those who know what they’re doing.
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