Chasing capita

Financial services firms in consolidation mode

Financial services companies, operating in capital markets, are chasing capital, as they realise that it is the only way to stay competitive.

The companies are getting more ambitious, as they diversify into areas like commodities trading, foreign branches, insurance distribution and wealth management to offer a larger basket of products to their customers.

IL&FS Investsmart has recently raised about Rs 450 crore by way of a GDR, which is over 45 per cent of its domestic market capitalisation.

India Infoline, too, plans to issue shares/convertible debentures on a preferential basis to private investors. There are reports that Motilal Oswal and SSKI are also expected to raise money. Indiabulls had also raised two GDR issues in 2005, Rs 585 crore in August and Rs 260 crore in February.

Bull markets are always good for companies operating in the capital markets, as they benefit from increased activity in the primary and secondary markets. Higher valuations on the stock market also mean that these companies can raise relatively cheaper capital.

This bull market has seen rank outsiders like Indiabulls, India Infoline and IL&FS Investsmart sitting on neat cash piles, after making public issues since September 2004. Other companies in the space like ICICI Direct, HDFC Securities and Kotak Securities have strong parents to fund growth.

The older broking companies have largely been privately-held, and in a business where capital can propel growth, they would be feeling the heat.

Garnering market share is possible with geographical expansion and weaning away customers from traditional brokers, plus there is a need to diversify their umbrella of products (including commodities trading, insurance and mutual fund distribution, and wealth management) and services (quality of research, execution and margin funding). All this will happen only if there is more investment, hence the chase for money.

At the broader level, the broking industry is going through consolidation. The share of the top 50 members in total turnover at the NSE has increased to 49.01 per cent in FY05 from 33.86 per cent five years earlier.

The importance of capital is likely to get even more critical in the future, and it will be no surprise to see some of these companies going public.

Mercator Lines: growth plans

The Mercator Lines stock has remained more or less steady since the company announced a hefty bonus issue on Tuesday, closing at Rs 144 on Friday.

Nevertheless, prior to this bonus issue announcement, the stock has gained about 23 per cent over the past two months as compared to a 17.85 per cent gain in the Sensex.

The company had earlier outlined that it is planning a capex of Rs 2,250 crore over the next three years in order to augment capacity. The company's capacity in November 2005 was estimated at 13.38 lakh DWT, with most of this capacity being concentrated in the tanker segment. However, it is understood that the company is also looking to grow in the bulk segment via its planned expansion plan.

Mercator's consolidated cash flow (net profit plus depreciation) amounted to Rs 118.54 crore at the end of September 2005. Hence, it does appear logical that the company plans to raise $75 million (approximately Rs 337.5 crore) via an issue in the local or overseas market, coupled with a preferential issue of eight million warrants to AHM Investments Pvt Ltd, a company controlled by the promoters of Mercator.

The company's debt-equity ratio was almost 0.39 at the end of FY05, and it allows considerably leeway to fund its expansion via debt.

Nevertheless, the company is expanding capacity at a time when freight rates have eased considerably. Spot freight rates in the tanker segment like VLCC, are currently hovering at $64,000 per day.

Although, this freight rate has improved considerably from the lows recorded at the end of Q2 FY06, they are still lower by 45 per cent on a y-o-y basis.

In addition, the Baltic Dry Index at about 2400-point levels, has shown little improvement since the September quarter, and is also considerably lower on a y-o-y basis.

Mercator's senior management, however, stressed the long term growth opportunities while evaluating capex plans. At Friday's closing price of Rs 144, the stock appears reasonable, given that it trades at about 7 times estimated FY06 earnings.