Capital Markets

ASSIGNMENT
Ramanathan MSS (WP10RAM)
Worked with Josephraj Soosairaj

Organization: Infosys Limited. About Infosys: Infosys Limited was started in 1981 by seven people with US$ 250. Today, it is a global leader in the "next generation" of IT and consulting with revenues of US$ 6.604 billion (LTM Q2-FY12). Share Price Graph (last 2 years):

Problem Scenario: Infosys with a very good name among the shareholders is planning to diversify its business to computer hardware also. With not many Indian players in the market, Infosys is planning to enter the market by acquiring an already proven brand in the market HCL Info systems which could be its biggest competitors if it had not acquired in the beginning. Value of HCL Infosystems = Book value of HCL info systems X No. of shares = Rs.87 X 222879629 = Rs.1939 Crores Now Infosys needs to raise a capital of Rs.1939 Crores to perform this acquisition. Following are the various financial instruments available to them. 1) Issue of additional equity 2) Issue of preference shares 3) Issue of bonds 4) Issue of ADRs

Listed below are the advantages and disadvantages of the various financial instruments. Issue of Additional Equity: MERITS I. Long-term and Permanent Capital: It is a good source of long-term finance. A company is not required to pay-back the equity capital during its life-time and so, it is a permanent sources of capital. DEMERITS I. Dilution in control: Each sale of equity shares dilutes the voting power of the existing equity shareholders and extends the voting or controlling power to the new shareholders. Equity shares are transferable and may bring about centralization of power in few hands. Certain groups of equity shareholders may manipulate control and management of company by controlling the majority holdings, which may be detrimental to the interest of the company.

II. No Fixed Burden: Unlike preference shares, equity shares suppose no fixed burden on the company's resources, because the dividend on these shares are subject to availability of profits and the intention of the board of directors. They may not get the dividend even when company has profits. Thus they provide II. Trading on equity not possible: If a cushion of safety against unfavorable equity shares alone are issued, the development company cannot trade on equity. III. Credit worthiness: Issuance of equity share capital creates no change on the assets of the company. A company can raise further finance on the security of its fixed assets.

IV. Risk Capital: Equity capital is said to be the risk capital. A company can trade IV. No flexibility in capital structure: on equity in bad periods on the risk of Equity shares cannot be paid back equity capital. during the lifetime of the company. This characteristic creates inflexibility in V. Dividend Policy: A company may capital structure of the company. follow an elastic and rational dividend policy and may create huge reserves for V. High cost: It costs more to finance its developmental programmes. with equity shares than with other securities as the selling costs and underwriting commission are paid at a higher rate on the issue of these shares

III. Over-capitalization: Excessive issue of equity shares may result in overcapitalization. Dividend per share is low in that condition which adversely affects the psychology of the investors. It is difficult to cure.

Issue of preference shares MERITS I. Fixed Return: The dividend payable on preference shares is fixed that is usually lower than that payable on equity shares. Thus they help the company in maximizing the profits available for dividend to equity shareholders. II. No Voting Right: Preference shareholders have no voting right on matters not directly affecting their right hence promoters or management can retain control over the affairs of the company. DEMERITS I. Higher Rate of Dividend: Company is to pay higher dividend on these shares than the prevailing rate of interest on debentures of bonds. Thus, it usually increases the cost of capital for the company. II. Financial Burden: Most of the preference shares are issued cumulative which means that all the arrears of preference dividend must be paid before anything can be paid to equity shareholders. The company is under an obligation to pay dividend on such shares. It thus, reduces the profits for equity shareholders.

III. Flexibility in Capital Structure: The company can maintain flexibility in its capital structure by issuing redeemable III. Dilution of Claim over Assets: The preference shares as they can be issue of preference shares involves redeemed under terms of issue. dilution of equity shareholders claim over the assets of the company because IV. No Burden on Finance: Issue of preference shareholders have the preference shares does not prove a preferential right on the assets of the burden on the finance of the company company in case of winding up. because dividends are paid only if profits are available otherwise no dividend. IV. Adverse effect on creditworthiness: The credit worthiness of V. No Charge on Assets: No-payment of the company is seriously affected by the dividend on preference shares does not issue of preference shares. The creditors create a charge on the assets of the may anticipate that the continuance of company as is in the case of debentures. dividend on preference shares and VI. Widens Capital Market: The issue of suspension of dividend on equity capital preference shares widens the scope of may depreive them of the chance of capital market as they provide the safety getting back their principal in full in the to the investors as well as a fixed rate of event of dissolution of the company, return. If company does not issue because preference capital has the preference shares, it will not be able to preference right over the assets of the attract the capital from such moderate company. type of investors.

Issue of bonds MERITS DEMERITS

1. Control of company is not 1. Cost of raising capital through surrendered to debenture holders debentures is high of high stamps because they do not have any voting duty. rights. 2. Common people cannot buy 2. Trading on equity is possible as debenture as they are of high debenture holders get a lower rate of denominations. return than the earnings of the 3. They are not meant for companies company. earning greater than the rate of 3. Interest on debenture is an allowable interest which they are paying on the expenditure under income tax act, debentures hence incidence of tax on the company is decreased. 4. Debenture can be redeemed when company has surplus funds.

ADRs MERITS DEMERITS

1) ADR is generally faster and less 1) Some critics have concerns about the expensive. It is based on more direct legitimacy of ADR outcomes, participation by the disputants, charging that ADR provides "secondrather than being run by lawyers, class justice." It is argued that people judges, and the state. who cannot afford to go to court are 2) In most ADR processes, the those most likely to use ADR disputants outline the process they procedures. will use and define the substance of 2) As a result, these people are less the agreements. This type of likely to truly "win" a case because of the cooperative nature of ADR. involvement is believed to increase people's satisfaction with the outcomes, as well as their compliance with the agreements reached.

Balance Sheet:
------------------- in Rs. Cr. ------------------Mar '11 Sources Of Funds Total Share Capital Equity Share Capital Share Application Money Preference Share Capital Reserves Revaluation Reserves Networth Secured Loans Unsecured Loans Total Debt Total Liabilities Application Of Funds Gross Block Less: Accum. Depreciation Net Block Capital Work in Progress Investments Inventories Sundry Debtors Cash and Bank Balance Total Current Assets Loans and Advances Fixed Deposits Total CA, Loans & Advances Deffered Credit Current Liabilities Provisions Total CL & Provisions Net Current Assets Miscellaneous Expenses Total Assets Contingent Liabilities Book Value (Rs) 6,934.00 2,878.00 4,056.00 499 1,325.00 0 4,212.00 641 4,853.00 5,273.00 13,024.00 23,150.00 0 2,056.00 2,473.00 4,529.00 18,621.00 0 24,501.00 1,013.00 426.73 6,357.00 2,578.00 3,779.00 409 4,636.00 0 3,244.00 929 4,173.00 4,201.00 8,868.00 17,242.00 0 1,995.00 2,035.00 4,030.00 13,212.00 0 22,036.00 295 384.02 5,986.00 2,187.00 3,799.00 615 1,005.00 0 3,390.00 805 4,195.00 3,303.00 8,234.00 15,732.00 0 1,544.00 1,798.00 3,342.00 12,390.00 0 17,809.00 347 310.9 4,508.00 1,837.00 2,671.00 1,260.00 964 0 3,093.00 657 3,750.00 2,804.00 5,772.00 12,326.00 0 1,483.00 2,248.00 3,731.00 8,595.00 0 13,490.00 603 235.84 3,889.00 1,739.00 2,150.00 957 839 0 2,292.00 680 2,972.00 1,241.00 4,827.00 9,040.00 0 1,162.00 662 1,824.00 7,216.00 0 11,162.00 670 195.41 287 287 0 0 24,214.00 0 24,501.00 0 0 0 24,501.00 287 287 0 0 21,749.00 0 22,036.00 0 0 0 22,036.00 286 286 0 0 17,523.00 0 17,809.00 0 0 0 17,809.00 286 286 0 0 13,204.00 0 13,490.00 0 0 0 13,490.00 286 286 0 0 10,876.00 0 11,162.00 0 0 0 11,162.00 Mar '10 Mar '09 Mar '08 Mar '07

Inferences from Balance Sheet: 1) Infosys has zero debt. ie DSCR is zero. 2) Price to Book value has increased over the years. It has doubled in 5 years. This aspect will make the share a preferred one in the market. 3) Huge cash reserves of more than Rs.24000 crores 4) Revenue and CAGR Analysis Infosys 5 years Revenue and profit CAGR. Revenue Net Profit Profit and Loss statement:
------------------- in Rs. Cr. ------------------Mar '11 Income Sales Turnover Excise Duty Net Sales Other Income Stock Adjustments Total Income Expenditure Raw Materials Power & Fuel Cost Employee Cost Other Manufacturing Expenses Selling and Admin Expenses Miscellaneous Expenses Preoperative Exp Capitalised Total Expenses Mar '11 Operating Profit PBDIT Interest PBDT Depreciation Other Written Off Profit Before Tax Extra-ordinary items PBT (Post Extra-ord Items) Tax Mar '10 8,415.00 9,562.00 1 9,561.00 740 0 8,821.00 0 8,821.00 2,378.00 23 0 12,464.00 2,613.00 1,834.00 36 0 16,970.00 Mar '09 7,362.00 8,329.00 2 8,327.00 807 0 7,520.00 0 7,520.00 1,717.00 22 0 10,356.00 1,993.00 992 415 0 13,778.00 Mar '08 6,908.00 7,410.00 2 7,408.00 694 0 6,714.00 -1 6,713.00 895 20 125 9,975.00 1,697.00 1,367.00 172 0 13,356.00 Mar '07 4,964.00 5,647.00 1 5,646.00 546 0 5,100.00 0 5,100.00 630 4,226.00 4,605.00 1 4,604.00 469 0 4,135.00 -5 4,130.00 352 18 106 7,771.00 1,443.00 1,214.00 132 0 10,684.00 22 88 6,316.00 1,290.00 1,050.53 156.47 0 8,923.00 25,385.00 0 25,385.00 1,147.00 0 26,532.00 21,140.00 0 21,140.00 967 0 22,107.00 20,264.00 0 20,264.00 502 0 20,766.00 15,648.00 0 15,648.00 683 0 16,331.00 13,149.00 0 13,149.00 379 0 13,528.00 Mar '10 Mar '09 Mar '08 Mar 07

As per Indian GAAP 21% 19%

As per US GAAP/IFRS 21% 19%

Reported Net Profit Total Value Addition Preference Dividend Equity Dividend Corporate Dividend Tax Per share data (annualised) Shares in issue (lakhs) Earning Per Share (Rs) Equity Dividend (%) Book Value (Rs)

6,443.00 16,947.00 0 3,445.00 568 5,741.52 112.22 1,200.00 426.73

5,803.00 13,756.00 0 1,434.00 240 5,738.25 101.13 500 384.02

5,819.00 13,336.00 0 1,345.00 228 5,728.30 101.58 470 310.9

4,470.00 10,666.00 0 1,902.00 323 5,719.96 78.15 665 235.84

3,783.00 8,901.00 0 649 102 5,712.10 66.23 230 195

Inference from Profit and Loss Statement: 1) Earnings per share have increased over the years. 2) Profits shown even in the recession times (2007-09) 3) Not many new shares are issued in the last 5 years. Only 20 lakh new shares have been issued over 5 years. 4) No stock split in the last 5 years Recommendations: 1) The credit rating of the company is BBB+ (Standard & Poor's rating) and 5A1 (Dun & Bradstreet rating) 2) Infosys is a debt-free company. It doesnt have any outstanding debt or fixed deposits. The company presently generates sufficient cash internally to finance all its operational, financing and investment requirements. Since debt is 0 it can very well go for bonds considering DSCR ratio. But as per the organization policy Infosys does not prefer to Issue Bonds. 3) Infosys has issued 57.4 crore shares so far out of its maximum authorized share capital of 60 crore shares. There is still room for 2.6 crore shares that can be issued. So more number of equity shares can be issued. 4) The market price of Infosys share is Rs.2635 we can issue 76 lakh shares at the same price in the market. We need not split the shares. Selling 76 lakh shares will be possible as Infosys has a good reputation in the market and has shown good results over the years. 5) Private Equity shares can also be issued, as many institutions will want to invest in a reputed and reliable company. Can be issued incase the company does not want to issue more public equity shares. 6) Since Infosys is going to acquire a company worth Rs.2000 crore and since 2.6 crore shares can be issued still and has a good reputation among its share holders, so going for a American Depository Receipt is not required as sufficient funds can be generated in the Indian stock market only. 7) If Infosys had to acquire a foreign company we can issue equity in US itself, as it is a listed company in US also.