Suzlon Energy - not a right issue !

Shareholders can refrain from applying to the rights offer made by Suzlon Energy, as the additional capital from the rights is unlikely to be earnings-accretive in the medium-term. The offer's primary objective is to discharge certain loans availed of by the company from the promoter group. The rights offer, together with any FCCB conversion in the medium-term, could pose the risk of earnings dilution. While the long-term prospects for the wind energy sector and, therefore, for Suzlon, along with its foreign subsidiaries remain promising, the group has the immediate challenge of meeting its repayment obligations. While FCCB conversions could put to rest the company's debt obligations, the near-term impact of any such equity expansion on the earnings could be dilutive.



The rights offer is available at Rs 63 a share (current market price is Rs 58). Shareholders will receive two shares for every 15 held by them. At the offer pricethe shares discounts its expected consolidated per share earnings for FY-12 by 15 times, assuming that all the FCCBs due in 2012 are converted.

The offer and objective

Suzlon Energy seeks to raise about Rs 1,300 crore through this rights issue which would expand the equity base by 13 per cent. A good portion of the funds would be utilised towards discharge of loans outstanding to promoter group companies. The lender promoter has agreed to subscribe to any rights renounced by other promoters/promoter group as well as apply for any unsubscribed portion of this issue to ensure that the mandated 90 per cent is subscribed for.

Besides discharge of loan, the offer proceeds would be used for general corporate purposes, which include working-capital requirements.

Multiple challenges

Suzlon Energy has been confronted by challenges on multiple fronts, all at the same time. For one, the company's acquisition of the Germany-based wind equipment player, Repower, in 2007 was a highly leveraged acquisition, using the FCCB route. Two, the economic crisis in the US meant a sharp drop in investments in wind energy in the region in 2008, resulting in decline in equipment orders.

Three, the company's own share price bore the brunt of the stock market correction in 2008 and slid to levels far below the originally agreed conversion price. This meant renegotiating the FCCB terms — increasing coupon rate and decreasing conversion price. The result of this would be higher interest provision (on coupon rate of 7.5 per cent) or a higher equity expansion if the bonds are converted. For instance, the FCCBs due in 2012 would result in a close to 15 per cent expansion of the existing equity base. A more recent development is the European economic crisis.

Suzlon on a consolidated basis receives close to half its revenues from European countries. However, the risk here may not be too high, as barring countries such as Spain (which are currently in financial trouble), most other European countries are unlikely to cut-back on investments in wind energy, given their renewable energy mandate and incentives on the same.

Strategy

Suzlon Energy has not, however, been a mute witness to these looming challenges. The company has been proactive in reducing/refinancing/restructuring its debt. To reduce the risk of currency volatility, it consolidated its debt in rupee terms. This also ensured that the entire group can draw down from a common pool.

The company has also received moratorium on its rupee term loan facility, the repayment of which commences in December 2011. It has also managed to reduce the conversion price of its FCCBs, much of it being due in June 2012 and October 2012, to prices closer to the current market price. This would reduce the risk of repayment of bonds arising from any non-conversion in to shares. It also sold part of its stake in foreign subsidiary, Hansen Transmissions, to generate cash.

Suzlon has been on its feet on the business front too. As order flows from US markets dwindled, it ramped up projects in markets such as China and Australia. The company's local unit in China has aided in gaining orders in the region, despite Chinese competition. Going forward, the order flow in the US can be expected to pick up as investment tax credit ends in 2010. In India, the increase in base pre-tax return on equity for renewable projects can also aid orders as projects become more lucrative. The company expects 50 per cent of its sales volume from the domestic market.

In the next one year or so, Suzlon is, therefore, likely to ensure that its working-capital cycle is sufficiently healthy to meet obligations. This may also mean that the company would remain selective in its order intake, ensuring that its funding requirements are not too stretched.

Suzlon, along with subsidiaries (other than REpower), had orders worth Rs 18,400 crore. REpower alone has projects with potential to generate sales of Rs 12,000 crore (Euro 2.1 billion). The orders put together are about 1.5 times FY-10 sales. However, any reschedule in equipment deliveries, especially for REpower in Europe, cannot be ruled out.

Suzlon Energy ended FY-10 with sales of Rs 20,619 crore and losses of Rs 982 crore as a result of lower volumes and slower execution. The consolidated sales and profits are not comparable with the previous year as revenues from Hansen Transmissions did not flow for the full year in FY-10, as a part-stake sale has ensured that the latter is no longer a subsidiary. The company' s debt equity ratio is expected to come down to 1.5 times, post rights, from a ratio of close to two times now.

The issue closes on July 2.

via BL