The Impending Daemon For India, Inc. : FCCB Redemptions

The story is very simple. During the golden days, these companies over-leveraged their balance-sheets with the borrowed money to fuel their growth (which looked pretty natural at those rose-tinted days). They borrowed money from all possible measures - through stocks, commercial papers, bonds etc. For the borrowers, it was 'necessary' to expand as soon as possible and for the lenders, these were one of the best investments they could have ever made. India Inc. was on steroids and growth seemed like our birth-right!
With the incident of 15th September 2008, nothing remained the same!



Before the crisis days, several debts were raised on a long term basis to invest in the upcoming projects mostly power and infrastructure related. The immediate pangs were not felt during the peak of the crisis. But by 2009, a lot of such bonds started to mature and the companies were falling short of the money to repay them. They issued more bonds, either the zero-coupon bonds or with a minimal coupon interest (read FCCBs) to pay the previous bonds as they expected the crisis to be short-lived. Three years down the line, the crisis is still sticky and the downturn of the last two years coupled with high interest rates have sapped the cash out of the balance-sheets of such companies. 2012-13 is the year when most of the FCCBs are getting matured and the stock prices of such companies being much lower than the redemption price of the FCCBs, they are facing a unique problem that can scare the best of the fin(-ance) brains!


A little background about FCCB:  FCCB stands for Foreign Currency Convertible Bonds. The 'Foreign Currency' referred here is generally (not always) US Dollars. These bonds are a measure for the companies to raise capital in lieu of a promise to repay the lenders either in the form of equity or in cash at the time of maturity. An FCCB can be issued as a Zero Coupon bond (i.e. the bond is issued at a discount and fetches no interest year on year, but is redeemed at its face value on maturity) or at some coupon interest rate.

To understand the nuances of the above definition and the havoc created by the 'Four Letter Word starting with an F', I have taken an example of a big cement and infrastructure conglomerate Jaiprakash Associates Ltd.' of Nodia based Jaypee Group. They recently raised $150 Mn fresh FCCBs to repay their previous FCCB liabilities. Since the news broke out, the stock has been falling continuously in the markets (Over 17% in the past 7 sessions).




So, lets try and understand what went wrong for Jaiprakash Associates so much so that they are now bound to sell their assets one by one!

The company raised $400 Mn in August 2007 at a USD-INR rate of 40.35 which equalled Rs 1614 Cr. The lenders may convert the bonds to equity shares at a fixed price of Rs 165.17 a share on the date of maturity.




The calculation goes on like this:


Invested $ (in 2007) :  $1000
Conversion rate: 40.35
Invested in Rs (in 2007): Rs 40350
Conversion price of equity: Rs 165.17
No. of shares that would be given (if converted) : Rs 40350/165.17 = 244.2938 ~ 244 shares


Thus, any one willing to convert the FCCBs to Equity shares will get only 244 shares. The investors bought the FCCBs thinking that the share would appreciate much more than Rs 165.17 in the next 5 years or so (It closed at Rs 121.45 a share on 31st Aug 2007). Then they would convert the FCCBs to equity shares.


For Ex. Lets say in the next 5 years (after the issue) the stock appreciated by a CAGR of 20%. Then by the end of 5 years, it would be trading at
                          [Rs 121.45{1+(20/100)}^5] = Rs 302.21.
(An appreciation at a CAGR 20% was quite normal during those booming phases and most of the companies raised their FCCB issues giving such lofty projections.)
For the investor, it would still be available for Rs 165.17 and hence it would earn a return of 81.97%.



As per today's closing, JP Associates is trading at Rs 64.55 a share. Conversion of the FCCBs to equity would fetch the investor a meager Rs(64.55*244)= Rs 15750.2 against Rs 40350 that he originally invested.
But this is where the depreciated rupee comes into the picture. The FCCB issues were done in Dollar denomination and hence the present value of Rs 15750.2 is equal to $283.37 only!!!

So, the original investment has depreciated by a whopping 71.66% in the past 5 years. For a retail investor, he would have no option but to accept the scenario and curse his fate for making such a lousy investment. FCCB gives the investors much more safety here.


The power of 'Not to convert them into Equity shares and redeem them at a premium of 47.7%' i.e. the investment of $1000 fetches you $1477 today. In rupee term (as per today's rate - 31/08/12) it would be Rs 82091.66 against the raised amount of Rs 40350.
(The 47.7% premium is for the specific issue of Jaiprakash Associates. Different companies may have different terms for FCCB redemption)


So, if you have to choose between an amount of $1477 and $283.37 - What would you choose? ;)


Now this is where they are facing the trouble. World as a whole is facing a downturn and India is grappling with corruptions and scams. Development in Infrastructure sector is grinding lower and lower and the company has been reporting lower sales and lower PATs for the past 3 years. Change of Mayawati government in UP is also not serving the company well as the Gaurs (Promoters) are not a favorites of Mulayam Singh Yadav. The huge debt burden has decreased their Interest Coverage Ratio and the company is finding it tough to raise fresh capital.

Year	Mar'2012	Mar'2011	Mar'2010
Net Sales	12783.3	13030.12	10088.91
PAT	1026.38	1167.78	1708.36
Net Worth	12103.75	9194.81	8196.8
Total Debt	16778.41	18530.55	17908.7

They recently raised $150 Mn to repay the upcoming FCCB redemption. But the numbers quickly show that they have raised only about Rs 830 Cr while they have to pay about Rs 3268 Cr! In fact they have paid a part of this amount already. Hence the actual figure is about 400 Cr lower. But still they need to raise around Rs 2000 Cr and that too at a higher interest rate. Generally, the companies have started to hedge the currencies after the slide that Indian currency saw. It will use its hedged dollars but in all likely hood that will also fall short depending upon the price at which it was hedged.
The company has to pay another $200 Mn in March 2013.


The company made a PAT of Rs 1026.38 Cr only in FY12. Thus, its capability to service such huge FCCB redemptions from its operating profits are only limited. In all certainty, the company is going to incur fresh debts on its already debt ridden balancesheet (Approx Rs 44000 Cr). That would lead to an increase in the interest costs of the company and in all likelihood, a lower net profit. The other way out will be the sale of assets. In fact, they are in process to sell their 51% stake in the cement plants of Gujarat and Andhra Pradesh which would cut down their debts by Rs 4000 Cr or so.
Obviously, the  assets won't fetch them good valuations at a time of distress and risk-aversion. Moreover, the buyer knows who is more needful. These would further decrease the company's net-worth in the coming years.



 Jaiprakash Associates' FCCB Issues:



Year End	Type	Amount	Purpose	Maturity Period	Maturity Time
2006-03	FCCB	Rs 1100 Cr	Project	7 Yrs	2013-03
2007-08	FCCB	Rs 2223 Cr	Project	5 Yrs	2012-08
2008-10	ECB	Rs 333 Cr	Import of Capital Goods	5 Yrs 4 Mn	2015-02
2009-02	ECB	Rs 556 Cr	FCCB Buyback	6 Yrs 4 Mn	2015-06



The story is almost identical for several other Indian companies too who raised US Dollar denominated Bonds during the happy times and are now grappling with the double blow of stagnating growth and rupee devaluations. Almost all of them are trying to raise the money through External Commercial Borrowings (ECBs) or Qualified Institutional Placements (QIPs). Without these tools, most of them will default or will be so cash strapped they would struggle in their day to day operations.  But raising ECBs are costly. The interest rates varies from 6-8% for such borrowings and thus this only shifts the day to gallows.



Company	Value	Date
Everest Kanto	$35 Mn	Oct-12
Tata Steel	$875 Mn	Oct-12
Suzlon Energy	$452 Mn	Oct-12
Pidilite Industries	$400 Mn	Nov-12
GTL Infra	$300 Mn	Nov-12
First Source	$275 Mn	Dec-12
Reliance Comm	$500 Mn	Mar-13



The list is pretty long and some companies are in a bigger mess than the others. The CFOs of these companies are going to have a hard time raising money in such environment.
The question is Can India, Inc. get its act together before the daemon devours it?