The rights issue opened on September 22, with 525.8 million shares on offer at a price of Rs96 per share, a 14.9% discount to the Rs112.85 close on September 19 which was the last trading day before the launch. Since then, however, India's stock markets have been extremely volatile, impacted by global nervousness. When the book closed last Friday, the share price had dropped to Rs80.65 with the result that existing shareholders no longer found their rights entitlement attractive and shunned the issue. After the announcement revealed the lack of support for the issue, the share price dropped another 12% yesterday to Rs69.75.
There was little here to attract retail investors in particular. "Historically, what used to happen with rights issues was that if retail investors were entitled to 30 or 40 shares and they were holding 100 shares, they would apply for the 30 or 40 shares and sell some of their existing shares in the market because the rights issue came at a strong discount to the market price," says a market commentator not involved in the deal. "With the current situation, where the rights price was higher than the market price, I don't think there was much interest to put in any money."
Despite the poor interest, deferring the issue was never an option. In November, Hindalco has to pay back a bridge loan that it took up last year to help fund the $6 billion acquisition of Canadian aluminium producer Novelis. The rights issue was thus structured to ensure that Hindalco got the cash it needs: the controlling shareholder, who owns 39%, agreed to underwrite 50% of the deal and the leads agreed to underwrite a further 40%, jointly covering 90% of the issue, which was the minimum subscription level for the deal to successfully close.
"This was a pretty large transaction and I don't think the controlling shareholders wanted to cough up the entire amount," says the commentator. "The only way for Hindalco to ensure that the rights issue went through was to ensure that it was underwritten."
Hindalco, which is the largest aluminium producer in India and one of the leading producers of copper, likely also benefitted from the more bullish sentiment prevailing among Indian investors at the time the issue was planned, which would have made underwriters confident the issue would attract more investment. Indeed, as with all mandates awarded by the Kumar Mangalam Birla group, this one was hotly contested among India's investment banking fraternity, say sources, and the ability and willingness of the banks to put their balance sheets to work for the client was a consideration in selecting the syndicate members.
At face value, the five underwriters are now exposed to 178.9 million shares worth approximately Rs17.1 billion ($348 million). However, people familiar with the transaction say the banks had been able to pass on these positions to other parties. "There was demand from institutional investors to sub-underwrite the banks' positions û so they will not have had much of a problem reducing their exposure and are unlikely to have to carry the position on their books," says one source close to the deal.
In India, both right issues and preferential allotments are commonly used by companies as a means to inject equity capital onto the balance sheet. Preferential allotments are governed by guidelines issued by India's securities watchdog, Sebi, hence pricing is per a defined formula linked to the market price. The company cannot issue more than 5% of its outstanding equity capital in the course of a financial year, and the shares carry lockups. A rights issue does not carry these restrictions and, further, meets the objective of allowing a larger audience to participate.
Meanwhile, another Indian rights issue, worth $850 million, is also currently in the market. The offering by Tata Motors closes next Monday and in many ways looks similar to Hindalco's deal: it is being used to help pay for an acquisition, and its rights price of Rs340 per share is already well above the current market price of Rs250.
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