Non-Convertible Debentures: Deepak Lalwani’s Trilemma

Non-Convertible Debentures: Deepak Lalwani’s Trilemma

Deepak Lalwani (Deepak) aged 28 worked for an IT firm as a junior software engineer. He received an annual pay package of ₹5 lakh, out of which ₹2.6 lakh is spent for personal expenses as well as for insurance/investments of nearly ₹1.4 lakh. After meeting all the mandatory expenses he was left with investible funds of ₹100,000 (Exhibit I). Deepak wanted to invest these funds in avenues that could assure him reasonably good returns. Nevertheless, he was not very comfortable investing in volatile equity markets which reflected fluctuating fortunes. He was neither interested in investing in banks nor corporate fixed deposits which offered lower returns. He was on a lookout for such investment avenues which could offer him good returns with reasonable risk that he was willing to take.

Being a novice investor, Deepak was not very sure about the investment avenues which would suit his risk profile and financial requirements. He discussed about this dilemma with one of his close friends, Rohit Suri (Rohit), with whom he usually shared all his financial dilemmas. Being a good friend of Deepak, Rohit sensed the need of professional help for Deepak rather than vague solutions. Hence, Rohit referred Deepak to a well-known financial consultant, Anirudh Sethi who was adept at giving viable solutions to varied investors depending on their riskreturn appetite........

The Bond Frenzy

NCDs have been on the rage in the recent few years with many of the issuances getting oversubscribed. In just around 4 months starting from September to December 2013, there were at least seven NCD issues which altogether garnered around ₹2,900 crore. All these NCDs issues were oversubscribed as shown in the next page (Exhibit II)............

Slew of Issues

There have been quite a few NCD issues hitting the market in recent times too. Prominent among them were Shriram Finance NCD, Muthoot Finance NCD and ECL Finance NCD. And Deepak was to choose one of these three NCDs, as suggested by Anirudh.........

Assignment Questions

I. What are the distinguishing features of NCDs? Discuss about their risk-return profiles.

II. In what ways are they different from other debt instruments like Bank Fixed deposits, Corporate Fixed Deposits, Tax-free Government Bonds, Debt Mutual funds, etc.?

III. ...............

Exhibits

Exhibit I: Deepak Lalwani’s Annual Expenses & Investments

Exhibit II: Bond with the Best

Exhibit III: Shriram Transport Finance NCD – Interest Chart

Exhibit IV: Muthoot Finance NCD – Interest Chart

Exhibit V:ECL Finance NCD – Interest Chart

Non-Convertible Debentures: Deepak Lalwani’s Trilemma

Synopsis

Investments in any financial instruments are fraught with uncertainties. With all the available information (E-I-C analysis, Valuation techniques-based analysis, etc.), the risk can be mitigated to a great extent. Given different investment objectives of different investors, selecting/suggesting financial instruments becomes even more demanding, as highlighted in the caselet. This caselet was very effective in highlighting the riskreturn trade-off vis-à-vis the investment objectives of investors (Institutional vs Individual) in the background of Non-Convertible Debentures (NCDs).

Prerequisite Conceptual Understanding

The participants of this caselet are expected to have working knowledge of the following for an effective classroom discussion:

• • Modus operandi of debt and equity markets
• • Fixed Income Securities concepts (Coupon rate, Market price, YTM, Credit ratings, etc.)

Expected Learning Outcomes

At the end of this caselet, the participants are expected to have working knowledge of the following:

• • NCDs vis-à-vis other debt market instruments
• • The pros and cons of investing in NCDs
• • Tax implications of NCDs

Positioning and Setting

This caselet can be used for any of the following modules/courses:

• • Financial Management course – Valuation of securities
• • Security Analysis and Portfolio Management course – Investing in fixed income securities

Assignment Questions

• I. What are the distinguishing features of NCDs? What is the risk-return profile of NCDs?
• II. In what ways are they different from other debt instruments like Bank Fixed deposits, Corporate Fixed Deposits, Tax-free Government Bonds, Debt Mutual funds, etc.?
• III. ...........

 ...............................................

Exhibits

Exhibit (TN)-I: Types of Debentures

Exhibit (TN)-II: NCDs vs Bank FDs

Exhibit (TN)-III: Effective Returns

Exhibit (TN)-IV: Tax Implications

Exhibit (TN)-V: Post-Tax Returns