For those who want to avoid the nail biting volatility of stock indices and want a fixed income earning instrument, NCD is the one of the option to look at. The term non convertible debentures (NCDs) would sound, as a hard to gulp finance jargon. To put simply, NCDs are type of bond whos repayment is secured by Companies assets, earning a fix coupon. NCDs are the one of the soughted route of financing by the corporate. NCDs are debentures, that don’t get convert into equity shares. The main reason to opt for NCD route of financing is availability of funds to corporates at a reasonable cost. Secondly, lesser regulations and compliances with the regulatory bodies as compared to IPOs.
In the year 2009, many of the Indian companies issues NCDs and mopped up a large corpus. To name a few ,Tata capital, HDFC, L&T finance, Shriram transport issued NCDs .The risk associated to the NCDs would be higher as compared to the Bank FDs as the repayment of the capital is not guaranteed fully. The NCDs are lesser risky when compared with the company FDs as Company FDs are not secured by any asset of the issuing company.
While Investing in NCDs, one should consider the following points as NCDs inherit certain risks.
1. Background of the issuer:
The reputation & goodwill enjoyed by the issuer is the foremost important point one should see while investing in NCDs .It should also be noted how the issuer is perceived amongst the corporate world. Better the standing; lesser the general risk.
2. Object of the issue:
The capital should be raised for the main purpose of the business, i.e., capital expansion, retiring high cost debts, partial working capital financing etc.
3. Credit standing of Issuer Company:
One should enquire about the credit worthiness of the company, so as to know, has there been any default in payment of interest or capital on the instruments previously issued by the company. This would be thoroughly evaluated by the rating agencies before assigning rating to the NCD instrument.
4. Rating of the NCDs:
The NCD instrument is required to be rated by the rating agencies. This helps investor to decide amongst the similar NCD issues open for subscription. One should ensure the rating should be of high grade, as per the legends followed by the respective rating agency.
5. Financial position of the Company:
It is prudent to lend money to the company, which is growing at a healthy rate in its sector. The top as well as bottom line should show a positive trend; this will ensure that there would be less possibility of capital or interest payment default.
6. Debt servicing capability:
The issuer company should have enough of surplus profit left after meeting the operating expenses to meet its obligation on the Interest payment of the all of its loans and debt instrument issued.
7. Repayment terms: If you are considering NCDs to fulfill specific financial goal, it should be noted that the repayment of the NCDs match your requirements of funds in future. If it doesn’t then the whole purpose of investment is defeated.
8. Interest rate: The Issuers of NCDs will pay a period fixed interest on the face value of the instrument. There are numerous options like, Monthly, Quarterly, and half yearly or cumulative payment of interest. The investor should decide on these option keeping in mind his need and financial goals to meet.
9. Quality of asset secured:
It’s not sufficient that the NCD are backed by security of the asset, the quality of the asset also counts. The reason behind this is that, suppose the company is liquidated, the sales proceeds of the assets secured would be available for the repayment of the NCD subscribers.So the worth of the asset is also very important. Charge on Fixed Asset is considered more secure than a charge on just Current Assets.
10. Put and Call options:
The Issuers of the NCDs gives a Put Option to NCDs holders to demand back there lent money. There is a stipulated period after which the investor can exercise this option. Similarly The Call Option gives a right to the issuer to repay the amount, to the subscriber before the predetermined redemption period. The Subscriber should be aware of these options, as they would be exposed to the reinvestment risk and subsequently disruption in achieving ones financial aim.
11. Tax incidence:
Mostly the interest paid on the NCDs is not applicable to TDS. However, NCDs allotted to NRIs are subject to TDS under Section 195 of the Income Tax Act. Fixed Interest income received is applicable to normal Tax rates as prescribed by the Income tax Act. The liability of capital gains tax also arises on the sale of the NCDs.
To sum up NCDs is one of the excellent options available for the investors seeking fixed returns. NCDs are usually listed on stock exchanges to provide liquidity and secondary purchases. The risk attached to NCDs shouldn’t be ignored. NCDs are the best instrument for those Investors having a moderate risk appetite.
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