 "Debt doesn't mean dead")
Smart value-seekers scout for companies with low debt, high profits and robust cash flows, convinced that a combination usually translates into attractive valuations.
But what makes the business intellectually engrossing is that the reverse reality also holds true; companies with high debt and high promoter holding could be just right for a balance sheet restructuring with the objective to transform fundamentals and unlock value.
The one company that appears to have done just so over the Past month is Aban Offshore.
I admire Aban for entering the niche and capital-intensive business of offshore rig leasing; I admire Aban Offshore for reporting Earnings Before Interest, Taxes, Depreciation and Amortisation (EBIDTA) margins in excess of 65 per cent; I admire Aban Offshore for being unusually stingy with its equity structure (no bonus in its history); I admire Aban Offshore for its animal spirit (growing from a handful of rigs to 18 at the last count); I admire Aban Offshore for growing its valuation from less than Rs 100 crore more than a decade and a half ago to a peak valuation of $5 billion; I admire Aban Offshore for having transformed from a relatively anonymous Chennai company into one of the fastest growing offshore rig providers in the world.
This would have been a happily-ever-after story, but for a $1,235-million debt-financed acquisition in 2007 when it acquired the Norway-based Sinvest ASA.
This strategic move graduated Aban into one of the most exciting rig players in the world with a high proportion of cutting-edge assets. However, just when the company appeared to be positioned for doing the next logical thing of replacing expensive debt with privately placed equity, the unexpected happened: The global economy tanked, rig rates collapsed and stock markets went into a tailspin.
Aban was cornered; what was once hailed as a strategic master stroke was now dismissed as an albatross; the debt that helped buy the jewels was now seen as a drag. Aban's market capitalisation eroded down to a recent trough of $150 million.
Predictably, the company was given up for dead.
Until a month ago, that is. The company placed equity of $125 million to mobilise adequate resources to repay $259 million in debt in 2014-15 (a year when its cash flow is expected to be lower). These transactions - mobilisation and repayment - could be a valuation game-changer; an increase in net worth will be complemented by a reduction in debt (double play); the mobilisation will help repay debt with a coupon rate of 13.5 per cent (against the rest of the company's debt priced at 6 per cent); a gearing that was 3.70 could decline to 2.8 by year-end; even a 4.5x debt-EBIDTA ratio appears reasonable when one considers that the company's current loan tenure of 14 years is nearly three times the average loan exposure within India's corporate sector. The game gets interesting in 2015-16 when Aban's debt repayment declines to $109 million, its gearing declines to an estimated 2.3 and earnings increase.
The result: All those who advised caution are beginning to ask, when is Aban buying new assets.
The moral of the story: Those dismissing debt-heavy companies could be missing the next multi-baggers.
But what makes the business intellectually engrossing is that the reverse reality also holds true; companies with high debt and high promoter holding could be just right for a balance sheet restructuring with the objective to transform fundamentals and unlock value.
The one company that appears to have done just so over the Past month is Aban Offshore.
I admire Aban for entering the niche and capital-intensive business of offshore rig leasing; I admire Aban Offshore for reporting Earnings Before Interest, Taxes, Depreciation and Amortisation (EBIDTA) margins in excess of 65 per cent; I admire Aban Offshore for being unusually stingy with its equity structure (no bonus in its history); I admire Aban Offshore for its animal spirit (growing from a handful of rigs to 18 at the last count); I admire Aban Offshore for growing its valuation from less than Rs 100 crore more than a decade and a half ago to a peak valuation of $5 billion; I admire Aban Offshore for having transformed from a relatively anonymous Chennai company into one of the fastest growing offshore rig providers in the world.
This would have been a happily-ever-after story, but for a $1,235-million debt-financed acquisition in 2007 when it acquired the Norway-based Sinvest ASA.
This strategic move graduated Aban into one of the most exciting rig players in the world with a high proportion of cutting-edge assets. However, just when the company appeared to be positioned for doing the next logical thing of replacing expensive debt with privately placed equity, the unexpected happened: The global economy tanked, rig rates collapsed and stock markets went into a tailspin.
Aban was cornered; what was once hailed as a strategic master stroke was now dismissed as an albatross; the debt that helped buy the jewels was now seen as a drag. Aban's market capitalisation eroded down to a recent trough of $150 million.
Predictably, the company was given up for dead.
Until a month ago, that is. The company placed equity of $125 million to mobilise adequate resources to repay $259 million in debt in 2014-15 (a year when its cash flow is expected to be lower). These transactions - mobilisation and repayment - could be a valuation game-changer; an increase in net worth will be complemented by a reduction in debt (double play); the mobilisation will help repay debt with a coupon rate of 13.5 per cent (against the rest of the company's debt priced at 6 per cent); a gearing that was 3.70 could decline to 2.8 by year-end; even a 4.5x debt-EBIDTA ratio appears reasonable when one considers that the company's current loan tenure of 14 years is nearly three times the average loan exposure within India's corporate sector. The game gets interesting in 2015-16 when Aban's debt repayment declines to $109 million, its gearing declines to an estimated 2.3 and earnings increase.
The result: All those who advised caution are beginning to ask, when is Aban buying new assets.
The moral of the story: Those dismissing debt-heavy companies could be missing the next multi-baggers.
The author is a stock market writer, tracking corporate earnings and investor psychology to gauge where markets are not headed