Tata Motors: On a good road

The FCCN early conversion offer by Tata Motors looks like a win-win situation for noteholders and the company.

The redemption options offered by Tata Motors on its yen and dollar denominated foreign currency convertible notes (FCCNs) due March and April 2011 offers bondholders an incentive for conversion to equity. This would be in the range of six-11 per cent to the original redemption price of Rs 946 (for yen notes) and Rs 737 (dollar notes). Analysts believe this is attractive enough to ensure a good response to the offer.

For Tata Motors, the conversion is equity-dilutive in the short-term. But the move is among steps to lower its net debt, which stood at Rs 23,100 crore (excluding Rs 7,500 crore of debt in vehicle financing business) at end-December 2009. The conversion will help lower debt and strengthen the balance-sheet by increasing equity capital, according to Prabhudas Lilladher auto analyst Surjit Arora. If all bondholders opt for conversion, the company’s debt burden will fall by about Rs 1,750 crore, estimates IDFC-SSKI Securities.

The equity conversion ratio will be determined on the basis of the volume weighted average price across the offer period (March 23-29) and the price options (which noteholders choose; three options provided by Tata Motors). An IDFC-SSKI report estimates that, depending on the price, the additional shares issued per note will range 5-6 and 23-24 for Yen and dollar denominated notes respectively.

The bondholders have the option of converting to GDS for dollar denominated bonds, ADS for yen denominated bonds or even into the more liquid equity shares. They could also choose to abstain from the offer, in which case, the terms of the original offer will continue to apply.

But if all apply for the offer, the additional dilution (due to new ratios) is estimated to be around 1 per cent, according to IDFC-SSKI. This is mainly because of the high original conversion price of the yen denominated bonds.

The conversion offer comes along with other moves by the company to reduce its debt. It has been steadily unlocking value from stake sales in subsidiaries. Recent reports suggest that Tata Motors is selling a 20 per cent stake in its construction equipment subsidiary, Telcon, to Hitachi for Rs 1,000 crore, bringing its holding down to 40 per cent.

These two moves, put together, should help lower the company’s net consolidated debt-equity ratio (automotive) sharply from 4.29 to about 2.5 levels.

Meanwhile, the stock has seen a flurry of rerating after announcing stronger consolidated numbers, bolstered by steady Jaguar-Land Rover sales even as its domestic sale volumes have shown good traction in the last few months.

However, over the two days after the announcement of the conversion, the stock dipped by 4.6 per cent. It recovered on Friday, rising 3.4 per cent and closed at Rs 749.65. The conversion will add about 30 million shares, estimates IDFC-SSKI, which will put pressure on its performance in the short term. However, as most analysts are calling for a strong growth outlook for the company, this could mean a good entry opportunity for investors.