ON THE BEATEN TRACK

Any one can fly high when the going is good. But the real stars are the ones who can take the rough with the smooth, who can weather a storm, and live to tell their story. India Inc has spawned many shooting stars only to see them fall by the way side. Trouble has eventually caught up with those charging ahead with overambitious plans, and in some cases, unsound business models. Inevitably, investors taken in by their heady promise have lost money. ET Intelligence Group turns the spotlight on a few such companies which are facing a rough time, for now

“Only when the tide goes out do you discover who’s been swimming naked”     —Warren Buffett 

    Anyone who is watching the global political and economic events today would be left in no doubt that the tide has certainly and decisively turned. What the economists and governments all over the world wanted the investors to believe, say, six months back can at best be called ‘wishful thinking’. If only wishes were horses. In fact, there is every indication that the trouble is not even half over and the tide is likely to ebb further.
Whether one should invest in such market conditions is debatable. There are some experts who strongly believe that India’s better economic growth conditions could act as a magnet for overseas investments. Retail investors are urged not to desert the market completely as they could miss out when the uptrend begins. 
Whatever course the markets take over the next few months, investors should make sure they don’t end up with those, whom the Sage of Omaha would be glad to term as ‘swimming naked’.
A number of Indian companies are saddled with high debt and have low operating profits in relation to their interest obligations and, in some cases, negative cash flows. In such a compromising situation, they need a high tide to swim without being pointed out. However, they are the first ones to suffer when the going gets tough.
Life has become tough for this lot, as interest rates have gone up substantially over the last 12 months. High interest rates and a high debt pile means companies need to dole out a bigger sum every month towards interest. On the other hand, a weaker economic outlook means their profits will — if not already — face pressure. Top this up with the current conditions in the equity market that prevent any equity dilution plans to ease their pain. In the face of these adversities, companies are trying every trick in the book. Entrepreneurial ingenuity is working overtime to make ends meet. Some are trying to divest non-core assets in a bid to raise cash. A few are borrowing overseas where interest rates are still benign while others are wooing private equity investors or trying to list subsidiaries.
Needless to say, all these measures are shortlived. What is needed the most is a robust business model that can bring in sufficient internal accruals to take care of current debts and fund future growth.
Many of these companies had enjoyed high valuations when all was well, mainly because then they proved difficult to distinguish from the fast-paced growth stories. Now that their vulnerability has become visible, investors should be wary of taking on any bets lured by their low valuations, unless they fix their cash-leaking business models.
ET Intelligence Group lists a few such companies, which are finding the going to be tough at present. 
Debt-Equity Ratio (DER) This shows the relationship between the money that owners and lenders invested in the business. Owners can wait for returns on their investment, but lenders don't. Hence, excessive debt in relation to equity increases risk. 
Interest Coverage Ratio (ICR) This is a gauge of how easily a company can meet its interest obligations. Profit before interest and tax is divided by the interest obligation to arrive at this figure. Higher the interest coverage ratio, easier it is for the company to service its debt and vice versa. 
Pledged Shares Promoters may pledge the shares they hold in the company as a guarantee for loans the company takes. A sharp fall in their value could prompt lenders to sell those shares and recover their dues if no additional guarantees are offered. 
Operating Cash Flows This shows how much cash a company’s business generated during a year. If this is lower than its interest and debt repayment obligations during a year, it will need to borrow more to repay. All tables are based on FY11 numbers except Pledged Shares (%), which is at June 2011 end 

India’s largest drilling rig owner Aban Offshore continues to reel under the huge debt burden it raised to acquire Norwegian company Sinvest in FY07. The $3.3-billion debt was restructured in FY10 to extend the repayment period providing it breathing space at a time when the drilling market globally had slowed down. 

After low repayments in FY10 and FY11, the company will have to repay nearly 3,000 crore of debt in FY12. In addition, the estimated interest cost for FY12 works out to another 850 crore. Meeting these obligations appears to be a tough call in view of its dwindling cash flows. In FY10, the company had raised 700 crore through a preferential allotment. It recently sought shareholder approval for raising $400 million in overseas funding and 2,500 crore through a preferential allotment to qualified institutional investors. However, the crash in its share value in the last one year makes this an unattractive option for promoters.

Hyderabad-based Gayatri Projects has faced a slowdown in many of its construction projects due to the political uncertainty in Andhra Pradesh over the Telangana issue. Out of its 7,000-crore order book, half the projects are located in Andhra Pradesh. The company has amassed huge debt and servicing it is taking a toll on its profitability. Its plans to raise equity through preferential allotments did not take off due to poor market conditions. 

It is now proposing to come out with a rights issue, which awaits clearance from SEBI. In FY11, the company’s operating cash flows fell short of its interest commitments. Gayatri has won a few projects of late, but they will need further funding from the company.