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India's 1st NCD + Warrant Issue!

Published on Sat, Aug 22,2009 | 15:24, Updated at Mon, Aug 24 at 15:28Source : CNBC-TV18 |   Watch Video :

A brand new product that made its debut in India’s financial markets this week – the non-convertible debentures (NCD) + warrants issue. Now in December 2008 Securities and Exchange Board of India (SEBI) introduced this new financial product and it has taken eight months for the very first issue. Housing Development Finance Corporation (HDFC) last week closed corporate India’s first qualified institutional placement (QIP) issue of NCDs + warrants.

The country’s leading home loan company raised Rs 4,301 crore via the QIP issue.

-   Rs 2,000 crore of two-year zero coupon NCDs at an annualised rate of 7.15%.

Rs 2,000 crore via three-year zero coupon NCDs at an annualised rate of 7.85%

-  Rs 301 crore via 1.9 crore warrants at Rs 275 per warrant.

Within three-years each warrant can be converted into one HDFC share at Rs 3,000 per share. The total warrant cost of Rs 3,275 represents a 46% premium to HDFC’s closing stock price on August 17 – the closing day of the issue.

Keki Mistry, CFO, HDFC said, “Both the warrants and NCDs will be listed both on the NSE and BSE. If you take the composite cost of the structure to HDFC which is the warrants as well the NCDs – the composite cost to us will be 4.25%.

We did not want to raise equity per se because at the end of the day we want RoE to increase by 1% a year. “

One of the HDFC’s seven bankers to this issue Ravi Kapoor, MD, Citibank said, cost was not the only advantage. There were lots of advantages of this product, it was very similar to or an Indian variant of Foreign Currency Convertible Bond (FCCB).
Here is a verbatim transcript of the exclusive interview with Ravi Kapoor on CNBC-TV18. Also watch the accompanying video.

Q: What were the challenges in doing this first of a kind issue? We have discussed this product when Sebi first cleared it and at that point you had taken us through the many beneficial features of this product versus let us say a domestic version of the FCCB or current bond version that is available out there in the market place – HDFC has pointed out that the composite cost of this NCD + warrant works out for the company to about 4.25%. Is cost the only compelling feature of this product, the fact that you can use the equity portion to reduce the cost of debt so to speak for a company or would you qualify other features as must haves for companies?  

Ravi Kapoor, MD, Citibank: Cost is not the only advantage. There are lots of advantages of this product, it is very similar to or an Indian variant of Foreign Currency Convertible Bond (FCCB). If a corporate was to issue FCCB in the international market, there are size restrictions and use restrictions, cost restriction, expense restrictions. It has to be internationally listed. There is a process issue and there is a timeline issue and NCDs scores over all these things. There is no end use restriction, there is no size restriction, there is no hedging cost involved and it is all listed domestically. So, it is basically scores over the FCCB and cost is not the only issue.    
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Q: What kind of companies can take best advantage of this product? Is there a certain category of companies that would benefit most?

Kapoor: All companies can take advantage of this but the only limitation is the bond market as of now as you know is available to AAA, AA+ or at best AA issuers. So, companies having rating above AA probably would get more qualified and there would be more significant cost advantage which will accrue to them rather than companies having lower rating than AA. On the warrant side, I think it is a question of what kind of a value do you see in terms of the option value, not every company has a similar option value. It all depends on the growth, the sector in which the company is in, the management and the works. So, obviously we derive this from the Black-Scholes model but at the end of the day the warrant value will defer a) because of the tenure whether it is a 3 or 5 year warrant b) because of the fact that what's the premium being asked.

Q: So you’re saying that this is a product best suited to the higher rated companies right now?

Kapoor: As of now yes because we don’t have deep enough bond market which would give money to all rated companies. Right now the bond market is restricted to this and also the cost advantage as you go down on the rating curve, I think the cost advantage would not accrue really to those corporates which are rated below AA.

Q: So what kind of investor interest did you get because I know you ran two separate books for the NCD and for the warrant and currently at least the HDFC issue was limited to domestic institutions pending Foreign Investment Promotion Board (FIPB) approval – so did you get inquiries despite the fact that they could not subscribe, inquires from foreign institutional investors (FIIs)? What is the sense that you got from investors while you were running these two separate books?

Kapoor: Within the combined offering the guidelines of SEBI gave you a flexibility of running two books and which was done in this case. It was not a staple product. It was a separate product, so therefore in effect they were two instruments separately targeted to different audiences or different investors and two separate books were being run on that. As far as the NCD is concerned there were regular buyers like insurance companies, mutual funds and to some extent banks in the NCD. But when it came to the warrant, the warrant as you said was not available for subscription by the foreigners because of pending FIPB approval and therefore it was sold to the domestic buyers. The kind of participation we got was essentially the mutual fund participation in the warrants.

Q: Were there any foreign institutional investors (FIIs) in the NCD part of the book?

Kapoor: There was no FIIs in the NCD. This NCD was not available for subscription to the foreigners. But in general most of the foreign investors if you see who have the limit allocated to them – the debt limit which the SEBI has allocated to them – may not be too keen as of now to participate in a long dated Indian bond because of the fact that there is no liquid market and the hedging is very limited.

Q: So as for now this product is likely to be limited to the interest of domestic institutions. You’ve also pinpointing out to me that this product could have some accounting benefits. What are they likely to be?

Kapoor: Actually, if it is done in a format of a zero coupon – it is very interesting that the Indian markets has started supporting a zero coupon bond, particularly mutual funds have started buying zero coupon bond as well, which is again one of the features which was there in FCCB. Actually the tables have turned now because the NCDs can be placed at a zero coupon and the FCCB market as of now most of the investors require a coupon there. If it is a zero coupon bond then the premium redemptions which you are paying on the redemption of the bond i.e. the principle and the accrued interest which you pay as the redemption premium. As per some of the court rulings in the past, I think that premium redemption can also be set aside the share premium account.
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Q: So you’re going to offset it against the reserves that you may have in the share premium account and that allows you to not pass it through your P&L in that sense, so it is a lower debt cost for most companies?

Kapoor: Correct.

Q: Are you seeing a queue of the companies outside your door for this product now that HDFC has debut it?

Kapoor: I am sure that a lot of corporates would like to take benefit of this particular product which not only helps you to subsidize the cost of your debt, but also helps you to sell your equity at a premium to the current market price. So, I am reasonably sure that a lot of corporates will take advantage of. I think the listing over the warrant will create a new chapter in the Indian markets wherein long dated options will start getting traded for companies and that will again create a new instrument for investors to buy and sell in the secondary market. 


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