Yet another non-convertible debenture (NCD) is coming your way on 4 August. India Infoline Investment Securities Ltd’s (IIISL) public issue of NCDs will amount to Rs750 crore, including an oversubscription option of Rs375 crore.
The issue will remain open till 12 August and allotment will be done on first-come-first-served basis.
Non-banking financial companies (NBFCs), including IIISL, typically rely on institutional financing from banks and other private placements. A retail issue of this size shows that these companies are hungry to expand their business and are willing to do this at a higher cost.
What you get?
The interest rate offered is 11.7% per annum for all options, except the one meant for individual investors putting their money for five years, where the rate offered is higher at 11.9% per annum. The bond is designed for retail investors with a face value of Rs1,000 and minimum investment requirement of Rs 5,000 or five NCDs per application.
You have the option of investing for 36, 40 or 60 months. Interest is payable annually for the 36- and 60-month bond. For the 40-month option, there are no annual interest payments but a cumulative interest is paid at the end of the tenor aggregating to an effective yield of 11.7% per annum.
Interest will be taxed at your marginal rate of tax. For the highest tax bracket, post-tax returns for the 11.7% option is 8.08% and for the 11.9% option 8.22% (see graph).
Also see | At A Glance (PDF)
This is the first time India IIISL is raising money from retail investors. Says R. Venkataraman, director, IIISL, “We are exploring this route. Essentially we want to diversify our loan book and have alternative sources of finance. We are fairly confident that we will be able to deploy the funds at a higher yield.”
What are the risks?
Being an NBFC, IIISL is in the business of lending and borrowing. On the advances front, as per its FY11 balance sheet, 94.65% of its exposure is concentrated in mortgage loan business and capital market financing.
It has small exposure in gold loans, personal loans and the medical equipment financing segment. Although as per information in the offer document, 99% of the loans are secured, given the current uncertainty in both capital markets and the real estate industry, there is an inherent risk in their loan book.
Says Sumeet Vaid, founder and CEO, Ffreedom Financial Planners, a financial planning firm, “It is a high-risk paper and the returns are not commensurate with the risk. Typically, good credit goes to the bank and people who are not able to get loans from banks come to NBFCs. In that sense it is risky. Also, NBFCs primarily give loans against shares, property or gold and it is not clear what are the underlying securities in this NCD.”
As per the company’s offer document, its capital adequacy ratio is currently at 29.9% as against 15% stipulated by the Reserve Bank of India. This bodes well as capital adequacy ratio, which measures the amount of capital held as compared with the value of risky assets, helps judge the financial stability of a company.
However, assuming the issue gets subscribed fully (Rs750 crore), the company’s debt-equity ratio is likely to increase to 2.27, from 1.71, after the issue. While their leverage is still relatively low, the quality of their loan book may come under pressure given the current uncertain environment.
The issue has been rated ICRA AA- (stable) by Icra and CARE AA- by CARE for up to Rs750 crore. An “AA” rating suggests that a company has high ability for debt serving and low credit risk, but the modifier “-” suggests that within its category the company’s comparative standing is below average. This suggests a higher risk among lenders in similar category. Says Suresh Sadagopan, principal financial planner, Ladder7 Financial Advisories, a financial planning firm, “Credit rating of AA- is okay but not great. There is always a chance that if the company slides somewhat from here it could pose risks to investors. Moreover, it is mainly in the lending business and it does not have access to low-cost credit like others.” He added that given the competitive nature of the business there could be additional margin pressure. “Lack of access to low-cost funding may lead them to peg their loans at higher rates and there may be an inherent risk in the type of clients they acquire due to this,” he says.
There are other risks, too, including liquidity risk and interest rate risk. These are relevant if the bond investor is likely to trade rather than hold till maturity.
Mint Money take
Undoubtedly, the interest rate offered is very attractive and given that the issue is secured, the lure for investors is high. However, in the current economic environment the negatives and risks outweigh the 200 basis points premium the issue has over fixed deposits. Fixed deposits for three years and five years are currently giving around 9-9.5%.
IIISL’s portfolio of borrowers are, typically, those who have taken a loan against property, housing loan and capital market financing. Given the situation in both these industries (banking and share market), one has to tread with caution while lending (read investing) to an NBFC that is exposed to these industries. In this case, it is not worth taking the additional risk that comes with the higher return.
Graphic by Sandeep Bhatnagar; Illustration by Shyamal Banerjee/Mint