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Suckered: NTPC's Awesome Bonus Debenture and How The Government Gets 9,700 crores Without Selling a Single Share

NTPC has decided to graciously give “Bonus Debentures” to all its shareholders. If you own a share, you get a debenture free. (It’s not “free” really, because nothing ever is, but we’ll get to that).

The concept is that you get a debenture for no further payment. Why? Because you see, the government has a bloody deficit.

What? What’s the connection between the government’s deficit and NTPC’s bonus debentures? Deepak, are you getting senile, old man?

I object to being called senile in my old age. I was senile when I was much younger. But we digress.

NTPC’s Doing What?

From the press release,

  • NTPC has truckloads of cash and “free reserves”. 72,418 cr. worth of free reserves – basically, accumulated profits over many years.
  • They have 824 cr. shares out there.
  • For each share, they will issue one debenture (for no payment required) to the shareholder.
  • Each debenture has a face value of Rs. 12.50.
  • That means debentures worth Rs. 10,307 cr. will be issued.
  • NTPC will redeem – that is, pay out the face value – in chunks: Rs. 2.50 in March 2023, Rs. 5 in March 2024 and Rs. 5 in March 2025.
  • For each debenture, interest will be paid at a fixed coupon rate each year.
  • This coupon rate is 0.5% above the government’s 10 year yield. Currently this yield is around 7.74% so you can expect the coupon to be 8.25% or such.
  • This debenture will be listed in the exchange and you can sell it rather than wait for the end date.

What Really Happens: Dividend and Issue Purchase

NTPC pays a dividend of Rs. 10,307 cr.

It then takes back that dividend, and issues debentures against that cash. That’s how it does this drama, through an escrow account in the middle.

Some of you would have guessed this: Dividend distribution tax will be paid, by NTPC.

 

 

NTPC’s Share Price Will Fall By Rs. 10

Since the record date is March 23 (whoever’s a shareholder on that date will get the debentures) the price will fall after that. By the amount the debenture will be worth. How do we know?

Well, we assume the market knows – and the market is pricing the March future of NTPC about Rs. 10 lesser. (The future expires on March 26, which is after the record date).

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In fact, since it’s effectively a dividend of Rs. 12.5 per share, we think the price should fall by Rs. 12.5 instead.

The Impact: A Lower Government Deficit

The government owns 75% of NTPC. It could have sold NTPC shares, but it probably doesn’t want to. And then everyone will accuse it of selling family jewels. And if it actually sold shares, brokers would push the price down so much that it would be useless. Or, it would have to do an OFS and then bring in LIC to rescue the issue which is neither here nor there, and earns it a bad name,

So, instead, it can “realize value” by this massive debenture silliness.

First, what the government gets is a massive dividend. Effectively, 7,700 cr. (75% of the 10,300 cr. debenture) will be deemed to have been paid as dividends to the government.

Second, the government will get Rs. 2,000 cr. as dividend distribution tax. That’s about 20% of the amount.

Effectively, Rs. 9,700 cr. will be “revenues” to the government.

Thirdly, since the government now owns Rs. 7,700 cr. worth debentures paying 8.5% , they will receive Rs. 650 cr. as interest each year.

Note: They’ll probably choose to sell the bonds instead, to someone like LIC.

The Impact to Other Shareholders

Of the non-government holding of 25% in NTPC, LIC (Life Insurance Corporation of India, the government owned insurer) owns 10%.  FIIs own another 10%.

The deal to you as an investor is;

  • You get dividend which is reinvested as a debenture – your purchase price therefore is Rs. 12.5
  • The market might give it a premium when the debenture lists. Current yields of NTPC’s 2023 bonds are about 8.06%. So a 8.25% coupon bond should trade higher than Rs. 12.5
  • The NTPC’s share price will fall appropriately so net-net you might not gain that much.

Basically, you as a shareholder just paid that massive dividend tax to the government and all you got to show for it was a debenture you probably didn’t want.

Smart Spin By The Government

In the end, that’s what this scheme is – a smart way to take money out of NTPC but not divest any shares. They’ve effectively taken out Rs. 7700 cr. from NTPC, taken a Rs. 2000 cr. dividend tax, and still own 75% of the company.

The company though, loses 2000 cr. in dividends, and effectively has to pay interest on what really was its own money. That sucks but when the government is the biggest owner, who’s going to listen?

We have supposedly a great budget and a good job by NTPC. This is basically a phenomenal spin job by the government, and let’s give them credit for that.

Note: You have to read this awesome post on a similar exercise by Neyveli Lignite (fictionalized) in 2006 by Sanjay Bakshi.

And he has great tweets on this topic: here, here and here.

Disclosure: Between NTPC and our portfolio, currently, is a barge pole.

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  • Vikas Gupta says:

    Deepak, But the real cost would be more than Rs 12.50/- as the DDT will be on top of 10300 crores bonds.. Apart from that the whole surplus is owned by the equity holders and hence, the net effect on their pockets would be higher … if one calculates total cost such as DDT , merchant bankers etc..
    The Govt, will for sure will wish to offload this, as the rates goes down over the next few months , the price would increase in much bigger way. Specially if the offloading is done to PSU banks.
    Thanks,
    🙂

  • HS says:

    Why not just declare a dividend? Same impact for everyone except shareholders get some real cash in hand.

    • pradeep says:

      If dividend then NTPC loses cash right now instead of in 10yrs ( debenture maturity)…in a way its like taking a loan from stockholders. Basically adding leverage for cashing out a majorirty stockholder in a illiquid mkt. Not necessarily bad move given the debt size vs cash reserves and specially if selling equity stake gets u lot lower price than mkt price. This way u get the money without hurting stock value and betting on future cashflows. Key I(MHO) is size of issue … vs …reserves/FCF

  • gadiyar says:

    Loved reading this post! Especially the disclosure at the end!

  • Once a “traditional” dividend is declared, a company cannot forcefully appropriate it as debentures. NTPC will not issue dividend, it will declare ‘Bonus Debentures’.
    The Govt. has (the likes of) LIC to dump the debentures on, but other shareholders will be left with debentures they don’t want, and end up selling at a discount after listing, or wait endlessly for an opportune moment to exit. Bonus Debentures work well for shareholders if the maturity is short – say 3 months or so.

  • kumar says:

    why not declare the english numeric system invalid, create our own number system, where any number means what the government says it means.
    after all, it is the numbers that are the problem.
    we have tried changing the method of calculation [ tinkering with the inflation number comes to mind], and the effort seems worthless, since it seems to have gone back up again.

  • gaurav says:

    Interesting post. Just one thing on the cash to be received by the government the 7700 crores will be also taxed at 17%. So the net money received will be 6300 crores + 2000 crores – unless i am missing something.

  • EV says:

    Sorry for a lame doubt, but as a lay-man holder of NTPC shares, what *exactly* would i get?

  • sanyam jain says:

    Issuing bonus debentures is considered as Deemed Dividend thus Dividend Distribution Tax will be levied on the transaction and company will be required to pay the same within 14 days from the date of declaring the bonus debentures.
    Only benefit of issuing bonus debentures to the company is that there is no immediate cash outflow.

  • Obu says:

    Deepak – Nice post. I love to read your posts than listening you on CNBC TV18. Read other posts on this concept by Sanjay Bakhshi, but you have kept your style intact and original while explaining this.
    BTW one question. Govt has to sell those debentures on market – You mentioned LIC to buy those bonds, even mutual funds can buy. But isn’t this a “bond placement” of ~7000Cr worth bonds. When you do such placement you have to do at discount, effectively punishing the non-govt shareholders who are holding those debentures. What is your opinion on efficiency and market of corporate bonds in India? Any posts of yours you can refer me please.

  • Rajiv Ahuja says:

    Thanks a lot Deepak for showing me the truth.

  • Chakradhar says:

    why is it doing such a complex process. Why can’t it just declare a special dividend of Rs 12.5 per share like Coal India did recently.

  • Deepak says:

    Deepak,
    I think there is also something to do with the current CERC order which changed the calculation of the equity for the assured ROE in the business which led to this funny transaction – still trying to figure that part out. NTPC isnt the first, Coromandel international also did this in the recent past – so there is some benefit to a promoter – need to figure out what it is ….. hmm

  • Not Required says:

    This is absolutely ridiculous!!! Just doing things differently!! I don’t see any value from any angle or am I missing anything?
    Why would someone like to get locked-in debenture instead of immediate dividend? It’s neither good for Government nor other investors. It’s especially bad for retail investors as these would be highly illiquid and effectively one has to stay invested till maturity.
    If NTPC doesn’t want to pay entire dividend amount in one go, just pay 1/10 in for next 10 years!!! Steady dividend is supposed to be good for the stock price.
    What am I missing ??

  • salahudeen says:

    How come the Govt get 75% of the dividend for its holding and also get tax on the whole dividend. Is it not 20% on the balance 25% dividend payable to other shareholders?