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Charts & Analysis

Tata Capital NCDs: High "Construction Equipment" Loans

Tata Capital is advertising its new issue of Non Convertible Debentures heavily. Basic data:

Issue size: 500 cr. (lower end) to 1500 cr. (upper end).
Dates: Feb 2 to Feb 24, 2009
Funda: 1 lakh per unit for monthly interest (11%) . 10K per unit for quarterly, annual or cumulative interest bearing NCDs (11.25%, 12% and 12% comp.annually, respectively).

Min. Investment: 1 lakh for monthly interest, 10K for the others.
Tax: No TDS, but you still gotta pay tax on it. Cumulative interest option may carry tax implications, I don’t know.

Call Option/Put option: At the end of 36 months (42 for the quarterly) you can decide to take all (and not partially) your money back. And conversely, at the same time, Tata Capital can decide to redeem all the NCDs. So it’s a put/call. [“All” means all under one type of NCD – monthly, quarterly, annual or cumulative]

I thought I’d be the devil’s advocate and check out what is wrong. We’ve all got numerous mails about how Tata comes after god in terms of creditworthiness, how this is the deal of the century etc. But let’s look at some worrying aspects, based on the public prospectus.

Already heavily indebted

As of Dec 31, 08, Tata Capital had 6947 cr of debt or thereabouts. Of which they have liabilities 472 cr. in debentures paying out between 12.2 to 14%. Technically, anything below that is better – so they can retire the debentures. But the large part of the loans they’ve taken are commercial paper and bank loans, and from my basic calcualtions, they have about 2000 to 3000 cr. to pay back in 2009 alone. (and renew, I imagine)

This additional NCD issue will take on more debt, and take total debt to 8800 cr. if the full 1500 crore is subscribed.

Dangerously leveraged on construction equipment

They’ve lent a total of 6938 cr. of which 3625 cr. is to “Construction Equipment”. Think of all the cranes, the JCBs, the diggers etc. that are out there. If the real estate situation gets worse, as it seems to be every passing day, this part of the loan book will get hit with defaults – not definite, but I can’t imagine that Tata Capital will not be impacted. Just this item is more than 50% of their entire loans.

They also have given 923 cr to secured SME loans, 960 cr. secured against receivables, and about 1300 cr. of unsecured loans.

At this point the revealed part of the NPAs is only 34 cr. I do not believe this number, as impairment can be a subjective assessment, and it’s entirely likely loans are yet to go bad.

To me this is the one big danger. The weightage of construction equipment is just too much.

Very low interest earning?

For a loan book of 5613 cr. (as of Sep 30, 08) they earned an interest of 311 cr. only, in six months. That seems too little, but it’s likely that a large part of the loans were given towards the end of the half-year.

Still, their operating expenses, as per the records are 40 cr. in salaries and 90 cr. in other expenses. For a debt size of 8800 cr. that’s about 1.5% a year in expenses. That means they have to make a spread of 1.5%, greater than the interest they pay out, to break even, after all the defaults and all that.

Other smaller concerns

They have negative cash flow – very marginally, but negative all the same. That’s a little scary, for a large company. Their balance sheet has 76 cr. of “goodwill” – but that shouldn’t impact debt holders, only equity. By some RBI directive, they seem to have an asset liability mismatch of 2743 cr. : I don’t claim to understand what that means, but it is common to have large mismatches in NBFCs that lend long term and borrow short term. The put/call option ensures that if interest rates are higher after three years, you will redeem, but if they are lower, Tata will redeem; so technically it’s only a three year NCD.

My take: I won’t subscribe, I’d wait for listing, and a few months more.
A number of parameters here are “unknowns” – and it’s likely that the market understands this better. When it lists, there should be some of them out there for sale on the NSE – we can use that as a reference point. There is too much emphasis on construction equipment; especially when the entire real estate and construction industries are in the beginning of a serious downturn. Give a few months and let the RE situation work itself out – that will be a better point to get in. (plus, if there’s a crisis by then, people will be desperate to sell, and one may get a much better deal)

Disclaimer: These are my notes, not investment advise, and I’m not a distributor, reseller or otherwise involved with the company or the promoters (though I use Tata Salt extensively). Please use this opinion with a pinch of the aforementioned Tata Salt.

  • Srikanth Meenakshi says:

    >//(though I use Tata Salt extensively). Please use this opinion with a pinch of the aforementioned Tata Salt.//

    You do funny real nice dude 🙂

    Good analysis – thanks for the effort to read through the fine print and highlight issues.

  • Vikram says:

    >Deepak

    Arent these debentures ‘secured’? My understanding is that they are secured against the assets of the company as collateral. Doesnt that make them less riskier?

    Vikram

  • Deepak Shenoy says:

    >Vikram: Yes, and the “assets” are the loans the company gives. If these are given for construction equipment, and the loan-taker defaults, you have an old JCB as your asset, for which you may get far lesser than the loan amount.

    Plus your debenture ranks pari-passu – meaning at the same level of seniority – with all other secured debt, including the debentures they have earlier issued, the secured term loans they have taken etc. Plus they can take MORE secured loans and those will also carry the same seniority.

    Plus business creditors have a higher level of seniority (that is if they take an advance etc. – a few hundred crores have been taken like that, btw)

    You are secured, yes, but the security may lose value. Risk exists.

  • Anonymous says:

    >Thats what called asset liability mismatch.

  • Wally says:

    >Surprise surprise, issue got oversubscribed. Yesterday was 2,300 crores I guess.

    Last year was pretty bad for the Tatas, looks like it shall be a good beginning this year tho’.

    More on the demand side actually, equipment finance NPA s will be determined by ability to micro manage. I am not sure how Tata Cap will do this. HDFC ICICI GE all have exited or are close to exiting the business.

    If I were to take 3-4% spreads required ovre 12-14% lending rate, thats the sort of ROCE that someone like Sanghvi Movers. So things should be pretty close at an operating level.

  • Deepak Shenoy says:

    >Wally: Wow. Well, now I hope they DON’T default, otherwise too many unhappy people will happen.

    I see what you mean about micro managing hte loans – but doing that for about 4000 cr. of loans will be a tad expensive.

  • arnold says:

    >Manufacturers of heavy construction equipment are being particularly hard hit by the current record prices of commodities, such as steel, oil, iron ore and rubber. Yes. we have a great industry. I want to buy this equipments at komatpillar.com

  • arnold says:

    >You have a nice blog. Lot of information.