Tata group's struggle with liquidity continues

Tata group is trying hard to raise more than Rs 15,000 crore to support its cash requirements. This is in addition to Rs 13,070 crore it has obtained from the sale of 26% equity stake in Tata Teleservices to NTT DoCoMo. According to news reports, Tata group has plans to obtain these funds by the sale of vehicle loan portfolio of Tata Motors, selected private equity placement, and through the public offer of debt securities.

Notably, Tata Group had taken INR 9,200 crore bridge loan in June 2008 to finance the purchase UK’s Jaguar and Land Rover (JLR) brands of luxury cars from Ford. While that loan is required to be paid by June 2009, Tata Motors will further need to invest more than hundred crore rupees into JLR to save it from going illiquid. JLR has sought financial assistance from the UK government to the order of 1 billion pound as it is facing credit crisis due to sharp fall in sales. The UK government is in still pondering whether to use taxpayer money to bail out JLR.

As an outcome of the JLR deal, Tata Motors outlook may be degraded to negative by rating agencies which will further put pressure on the company to raise cash from the market.

Tata group is planning to fulfil this cash requirement by following ways:

1. Rights Issue: Rs. 4,200 crores

2. Sale of stake: Rs. 3,000 crores
It had raised Rs. 545 crore through through two major sales: Rs. 485 crore by selling TATA Steel stake, stake in TATA Teleservices of around INR 60 crore.

3. Foreign Equity Offer: $ 500 million (Rs. 2,400 crores)
This might be a hard option to pursue in the current market conditions.

4. Public Debt Offer: Rs. 2700 crores
In November 28 2008, Tata Motors has gone to the public with a fixed deposit scheme offering as much as 12.83% to general public. According to the Companies Rules, Tata Motors can raise a maximum of Rs. 772 crore from its shareholders and another Rs. 1931 crores from the general public through the fixed deposit scheme. The last time Tata Motors went for public borrowings was in the year 1995 when it received good support. However in the current situation it might be difficult if not impossible for Tata Motors to raise the maximum possible amount from public.

5. Sale of vehicle loan portfolio of Tata Motors: About Rs. 8,000 crores
The vehicle loan pool of Tata Motors is about Rs. 8,000 crores.

About Tata Motors
Tata Motors Limited is India’s largest automobile company. In FY08 it reported revenues of Rs. 35651 crores (USD 8.8 billion). It is the leader in each segment of commercial vehicles in India. Also, it is among the top three players in the car & utility vehicle market. On global scale, it is world’s fourth largest truck and second largest bus manufacturer. Though it is a part of India’s biggest business group, Tata group, it gained world’s attention last year with its announcement of buying Jaguar and Land Rover from Ford. Also it came into limelight with the proposal of manufacturing world cheapest car: Tata Nano, popularised as ‘The people’s car’.

Microsoft set to leave its debt-free status for acquiring Yahoo!

Microsoft surprised many analysts by announcing acquisition offer for Yahoo! last week. The offer amount is $44.6 billion based on per share offer price of $31. This is at 62% premium to the closing price of Yahoo! stock on January 31, 2008. The offer is funded by 50% equity & 50% debt. The equity is equal to 0.9509 times the Microsoft's stock closing price on January 31, 2008. Chris Liddell, Chief Financial Officer of Microsoft, said that the offer has more than 100% premium over the operating assets of Yahoo!.

If the acquisition is completed, this will be the first time Microsoft will be borrowing money. At present Microsoft is a debt free company. Yes! Microsoft has no long term debt. Surprising, isn't it? Even Yahoo! has very insignificant amount of debt. Its debt to equity ratio in the latest quarter was 0.079.

Microsoft is a cash rich firm with 21 billion USD in cash and short term investments according to their latest balance sheet (December 31, 2007). The total current assets are more than 37 billion USD. This is huge considering the total assets size of about 67 billion USD. Microsoft funds its operations with short term loans. It has 22 billion USD current liabilities. MS is planning to use its available cash and stock to pay the equity part of the acquisition value.

Yahoo! stock price has climbed more than 50% since the offer was announced last week. Google's investors have been shocked by this and the stock fell heavily after the announcement. Currently, Google is the dominant leader of the online advertising market with more than half of total market share. The market is set to grow from 40 billion USD to 80 billion USD by 2010.

Finding Beta of a stock

Beta is a measure of the systematic risk pertaining to a security. It is an estimate of the returns on a stock when the market changes by a unit percentage. A beta of 1 means that the stock is in perfect correlation with the market, if the market moves up by 1% the particular stock will also move up by 1% and vice-versa. There are many ways to estimate beta the most common one being using the historical data. Since beta estimates the returns using historical beta may not always yield the exact future returns, but most of the times they explain the trend.

Historical beta is calculated by regression of the stock return and market return for a particular time period unit. This may be daily, weekly, fortnightly, monthly, or quarterly depending upon the available data, accuracy required and relevance. The market returns are measured by taking the returns of some index which takes the representation of almost all the sectors of the market.

Lets find beta for State Bank of India (SBI). We have taken the returns on weekly basis and market as CNX-500. The data for the last five years up to December 15, 2007 have been plotted below.

Regression analysis yields the slope of the line as 1.156 which is beta.

The historical price movement of SBI and CNX till December 2007 is shown below.

What are hedge funds?

Hedging means reducing risk of adverse price movements in a security generally by taking an offsetting position in a related security. So, essentially hedging leads to lower risks.

The term "hedge" was coined by the agriculture industry and farmers were the first "hedgers". They hedged the risk of losing their agricultural produce. Insurance is also a type of hedging method.

A Hedge Fund is fund which can take advantages of any of the hedging strategies, trade in any financial instrument, but produce above average gains at reduced risks. A hedge fund is genrally expected to have positive returns under all market conditions.

Timeline of Hedge Funds
In 1949: Alfred Jones started first hedge fund in the US
In 2005: USD 1 trillion industry with 9,000 Hedge Funds
Oct 2007: Hedge Funds: 2.5 trillion USD

By some estimates the size of Hedge Funds industry has crossed 3 trillion dollars. This is huge when we consider the fact that the total domestic market capitalization of all the stock markets of the world is less than 60 trillion dollars and that of NASDAQ is 4 trillion dollars.

What are bonds?

Bonds are debt instruments that are used by government and corporate to raise money on contractual basis. Generally bonds issuer promises a regular payment of interest which is known as bond’s coupon in finance parlance. In US the period for payment of coupon is every six months. Besides coupon, generally the bond issuer also promises to payback principal at the end of a particular time known as maturity of bond. The payment at maturity is equal to face value/par value of bond.

Coupon rate is the annual coupon payment divided by the face value of the bond. Coupon yield is coupon payment divided by the market price of the coupon.

Those bonds which do not offer any coupon are called zero-coupon or discount bonds.

Bond yield is similar to interest rate which the investor wants on the money he/she is lending to the bond issuer. It is dependent on the coupon rate, maturity, and risk associated with that particular bond.

Bonds issued by government are regarded as risk-free bonds, while those issued by corporate carry some risk of default depending on the company. This risk is reflected in the bond yield requirement. The bond yield of corporate is higher than of government bond. This gets adjusted through the price of the bond. Generally, if the coupon rate is higher than the yield then the bond’s price will be higher than its face value (premium), otherwise it will set at less than face value (discount). The risk associated with the corporate bonds is classified by rating agencies which classify the bonds based on their quality.

Capital Budgeting : Cash Flow Components

As discussed earlier capital budgeting is identifying, selecting the best of available options and implementing long-term investment project whose returns are positive.
For selecting the best investment option future cash flow from the project are estimated and analyzed.

Relevant Cash Flow:
For decision making only incremental cash flow analysis is sufficient.
Sunk Cost is irrelevant for decision making purposes.
Opportunity Cost is relevant.

The cash flow as a result of undertaking a project can be divided into three components:
Initial Cash Flow
Operating Cash Flow
Terminal Cash Flow

Initial Cash Flow (ICF):
Cash flow in acquiring new assets/ initial investment for project. It includes cost of the machines and its shipping and installation, testing etc. For using an already owned asset the opportunity cost of the asset has to be added to cash outflow.
From this we have to subtract the after tax proceeds from the sale of old assets.
Initial cash flow also includes cash flow due to change in net working capital (NWC). Net Working Capital = Current Assets - Current Liabilities. Increase in NWC means cash outflow. Change in NWC is not tax deductible.
All these cash flows are assumed to be occurring at the beginning of the project.

Operating Cash Flow (OCF):
It is estimated after-tax cash flow due to the project during its operating life-time. These cash flow generally vary from year to year. Conservatively, the operating cash flows are taken at the end of a year. First the accounting income is calculated by subtracting depreciation for tax purposes. Taxes are deducted from this income. Depreciation is added back to get Net Operating Cash Flow for that accounting period. For a replacement project incremental analysis can be done. Everything has to be calculated on an incremental basis.

Terminal Cash Flow (TCF):
It is the cash flow when the project is terminated. The TCF will be the salvage value of the project and the recovery of the working capital employed.

All these cash flows have to be discounted to find out the net present value (NPV).
Cash flows due to financing activities are implicit in the discounting rate used for finding NPV and are not relevant for decision making purposes.

P/E ratio (PE ratio, Price to earnings ratio)

P/E ratio
= Market price of a share / Earnings per share (EPS)

= Market Capitalization / Earnings

where

Market Capitalization = Number of shares outstanding * Market price of a share

For calculating the earnings there are several variations.

1. Following measure of Earnings are generally used

Earnings after tax (EAT) {most commonly used}

Earnings before tax (EBT)

Earnings before interest and tax (EBIT)

Earnings before depreciation interest and tax (EBIDT)

Earnings before depreciation interest tax and amortization (EBIDTA)

2. For which period the earnings should be taken for?

Generally the earnings are for a period of one year. Now since prices change on every trading day and can be tracked the earnings can be measured efficiently only for a larger period of time generally a quarter. Another question which arises is which period should be considered. There are two variations to this:

TTM (trailing twelve months) – for past 4 quarters

Annual – For last financial year

Leading – Using projected EPS

Can P/E ratio be negative?

Sometimes companies earn zero profit or even run into losses. Is the P/E ratio significant there? For knowing this we have to find out the purpose of finding the P/E ratio.

What is the purpose of P/E ratio?

It shows how much the investors are willing to par for one dollar of company’s earnings. When compared with the industry average and leader we can find out the level of confidence that investors have in the company. But P/E ratio alone is not a sufficient measure to arrive at any conclusion about the stock.

What are the limitations of P/E ratio?

Inability to capture non-monetary aspects.

No standard for using a measure of earnings

Doesn’t cover the past growth and the future growth projection

Can be interpreted in different ways

A one period exceptional income can distort the picture

Financial Ratios

Profitability Ratios
Liquidity Ratios
Solvency Ratios
Capital Market Ratios

Profitability Ratios:
Profit Margin
Asset Turnover
Return on Assets
Return on Equity

Liquidity Ratios
Current Ratio
Quick Ratio
Debtor Turnover
Inventory Turnover

Solvency Ratios
Debt-equity Ratio
Liability-equity Ratio
Interest Coverage Ratio

Capital Market Ratios
Price-earnings Ratio
Dividend Yield
Price-book value Ratio
Beta

What is Cash Flow Statement?

Summary of cash inflow and outflow in a given period
Three Parts:
1. Due to Operating Activities
2. Due to Investment Activities
3. Due to Financing Activities

Two methods : Direct & Indirect

What is Income Statement?

Income or Profit and Loss (P/L) Statement
For any period of time

Starts with Revenues (Sales)
Less : Cost of Goods Sold
Gross Profit
Less : Operating Expenses
Less : Selling & Administration
Less : Depreciation
Operating Profit
Less : Interest Expense
Profit before Tax
Less : Taxes
Profit After Tax
Less : Dividends
Retained Earnings in Balance Sheet

What is Balance Sheet?

Company's financial position at any point of time.
Shows the balances of all the accounts at one place.
Shows Assets, Liabilities and Shareholder's Equity
Summarizes the resources and the claims of owners and creditors

Structure:
Account Form
Indian : Liabilities & Shareholder's Equity - Left Column; Assets - Right Column
American : Assets - Left Column; Liabilities & Shareholder's Equity - Right Column
Report Form
Indian : Liabilities & Shareholder's Equity followed by Assets
American : Assets followed by Liabilities & Shareholder's Equity

Order:
American; In descending order of liquidity
On Left Side:Cash comes first; fixed assets last.
On Right Side:Accounts payable first; Shareholder's Equity Last.

Items in Balance Sheet (B/S)
Assets
Cash & Cash Equivalents
Accounts Receivable/Debtors
Inventories
Property/plant/equipment
-Accumulated Depreciation
Intangible Assets like patents, rights etc.
Liability & Equity
Accounts payable (spontaneous liability)
Accrued Expenses (spontaneous liability)
Deferred taxes
Long-term debt
Stockholder's equity (prference and common)
Retained earnings
-Treasury stock(common shares in reserve)

What is Corporate Finance?

Finance is the heart of all the disciplines and no business or person can be competitive without sound financial system.

Corporate Finance is the area of finance in which financial managers manage cash flow in a business environment. It includes things like where to get money from, where to put that money in, when to get money out of a business and so on and so forth.

There are some evergreen principles of finance which are so very basic but are as solid as a rock, and entire foundation of this discipline stands comfortably on these principles. We will discuss these one by one later. Briefly they are:

Time Value of Money
Higher Risk should come with higher returns
Never put all your eggs at one place
Markets are smarter than the smartest individual
Arbitrage chances are rare

Role of Corporate Finance
Financing
Capital Budgeting
Risk Management
Corporate Governance