Friday, October 03, 2008

Foreclosure of FCCBs?

Remember FCCB frenzy of 2003-07 period? Almost every public listed company went ahead and borrowed in foreign currency egged on by the cheap (Yen carry) debt available then. When mixed with the rising stock markets back in India, the convertible bond was simply irresistible as a funding option for financing acquisitions and new ambitious projects. The option looked so alluring given the bubble valuations that most companies got. Let me put this in perspective with one example.

Take for instance Subex Ltd. This was known as Subex systems before, a micro cap company that was into developing software for telecom fraud management / revenue assurance (billing) solutions. The company was doing fairly well when the market frenzy drove its stock price up from Rs.150 to Rs.850 levels. But then the inevitable happened and it was bitten by the M&A bug. Acquisitions by Subex include the fraud management assets and technology of Mantas in March 2006, Lightbridge in August 2004 and Alcatel in July 2004. Along came street smart merchant bankers that peddled GDR / FCCB routes and Subex never looked back. Then it bought out UK based Azure solutions in April 2006 at a phenomenal price of over $140 million and its balance sheet was by now stretched way too thin.

The promoters recognized the fortune and smartly began to cash out. Now they hold just 9% of the company. Majority shares are with FII, GDR custodians and general public including body corporates. Now the FCCB is coming home to roost. FCCB outstandings are currently about Rs.846 crore and conversion hurdle is far away at Rs.897 per share, whereas its stock is currently languishing at Rs.82. So the investors are certain to press redemption in which case the company’s net debt will rise to Rs.1057 crore. Peg that against revenues of about Rs.178 crores and a net loss of Rs.78 crores for trailing four quarters. [EPS is –Rs.22]

Can this company with a negative earnings Rs.22 per share repay a debt of Rs.1057 crore? Of course, we know worst cases have turned around. I can think of ESSAR STEEL that defaulted in its FRN obligations back in the 90’s. The first of its kind to get that ignominy. But that was a steel company that collapsed under the weight of industry downturn. Not because of overstretching its balance sheet for adventurous acquisitions. So when the industry turned around and its realizations got better, the company came back into black and with a few calculated forays into Oil, Shipping and Telecom – it became a trailblazer in the Indian stock market history.

Subex is not alone. The list is long – Aurobindo Pharma, Hotel Leela, HCC, Bajaj Hindustan, Ranbaxy… so it goes. Never forget the fundamentals. Go for a forex loan only if your earnings in the same or a stronger currency is enough to cover the projected outgo in constant currency terms. Better still, have the proceeds deployed in tangible assets that can be liquidated without jeopardizing the solvency status of the company. Acquisitions can wait.


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