Lessons from the curious case of Amtek Auto

Sep 12, 2015

In this issue:
» Debt ridden infra firms resort to asset sales
» A round up on markets
» ....and more!

'Amtek Auto rebounds by 54%'... screamed the headline in a reputed financial daily. As per another daily, this was the biggest intra day gain in over two decades. Before it gets you interested, you must note that what seems like resurrection is not even a saving grace. The stock is still down 73% from the price level seen in August 2015.

Amtek Auto has recently been in the news for all the wrong reasons. Its rating has been suspended by rating agency CARE for high debt and poor performance. Most importantly, due to lack of management response to queries raised. The company and the Amtek group is highly debt ridden and expected to default on debt payments. There are allegations regarding price rigging of the stock in case of one of the group's companies. Operating performance has been poor. The company has reported net losses in the latest quarter. Deservingly, the stock has crashed.

From what seemed like a free fall, yesterday's rebound was because of a management clarification. The management has denied any chance of bankruptcy. It has suggested to cooperate with the regulator. The company needs to pay Rs 8 bn urgently (by Sep 20th) due to bond holders. The promoters have been allotted preferential shares at Rs 169 per share versus a stock price of Rs 47 per share. They will infuse Rs 75 crore for now. Amtek Auto Group's books will get a special audit before more loans are extended to it. Also, the management has announced plans to monetize assets worth Rs 66.4 bn over the year to pare debt.

Will the worst be really over, even if it manages to repay this time?

Before all this changes your opinion in favour of Amtek, here is what you need to know. Even after the capital infusion, the debt to equity ratio for Amtek remains uncomfortable. The company has booked losses in the latest quarter. At 50% capacity utilization and slow down in the business, there is little hope in the near to medium term for the company.

Promoters' track record does not offer comfort either. Capital infusion of Rs 750 m by the promoter, more than a proactive step, seems like a last resort to avoid the worst. Bondholders have alleged share price rigging in case of one of the group companies, prior to mandatory conversion of FCCBs. CARE has highlighted lack of management response while suspending ratings. The management has confessed, with delay , a temporary cash flow mismatch issue. With foreign institutional investors (FIIs) still holding 18% stake, it may face a further sell off. In short, the worst might not be over.

While we choose to stay away from such stocks, they have important lessons to offer. Some of which we would like to share with you:

Size doesn't matter, capital allocation does

The website introduces Amtek Group as the largest integrated component manufacturers in India with strong global presence. And as one of the world's largest global forging and integrated machine companies with diverse operations and world class facilities.

It's a reality check for investors who are obsessed with biggest players in the markets. Companies that chase market share without any regards to market conditions and profitability are likely to end up with high debt and interest costs and poor returns on capital. Aggressive and debt funded acquisitions by Amtek are the main reason for the company's troubles today. Its domestic facilities are running at half the installed capacity. The management is now planning to monetize assets to avoid the worst. Assets that need to be sold in such circumstances are the ones that should not have been added in the first place. In such times of distress, it is unlikely that the company will have any bargaining power in commanding a good price for these assets. In short, size does not help. Infact, if capital allocation is poor, bigger size could only compound problems.

Be cautious of high debt companies

Our regular readers are well aware of our aversion to highly leveraged companies. Often, the lure of high returns pulls investors to such companies. However, in case of slowdown in the business, such companies crumble. They are more likely to erode wealth than compound returns. For Amtek Auto, the interest coverage is currently below 0.1 times. As the business conditions are unlikely to turn soon, a change in fortunes is unlikely.

Management quality and transparency matter

Owning a share in the company is like owning a part of the business. Will you ever engage in a deal where the partner's integrity is in question? Or where there is not enough transparency? If you do, you are more likely to burn fingers. Investing in companies is no different. Investors would do themselves a service to research well on promoter track record and disclosures in the company. And this is something that goes beyond the financial performance. A little bit of research on group companies/other companies held by the same promoter can help in this regard. For a company with management issues, no stock price is a good price to invest. In case of Amtek Auto, all group companies reek of inefficiency. Some are facing SEBI's probe for stock price rigging just before conversion of FCCBs, followed by a crash.

The case of Amtek Auto has called into question the operations of some of the renowned mutual funds. While these funds are already suffering, it is the investors that will face the ultimate brunt. It is another example that suggests that with due diligence, individual investors can do a better job of investing than trusting their funds with so called professional money managers. The latter operate with certain constraints and pressures. And these may not always align well with individual investors' long term interests.

Amtek Auto is not the first case where shareholders' money has been eroded, despite 54% gain in one day. And it won't be the last. However, if investors avoid following the trends blindly and stick to a disciplined investing approach with keen focus on risks, they can stay away from such toxic stocks. Our recently released "Crash Score" report is one such attempt to identify such risky stocks and avoid them. Do make sure you grab the free copy today.

Does your investment checklist take care of such business risks? Let us know your comments or share your views in the Equitymaster Club.

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 Chart of the day
The infra story in India has been going through a mixed phase for a while now. The lack of quality infra makes the long term prospects very strong. At the same time, the persistent issues being faced by the participants have deterred them from taking on more projects. Not to mention the slow pace of action that has all the more frozen up their cash flows . In the process, infra companies are finding it difficult to service debt.

Today's chart of the day highlights the struggle that companies are facing to pay interest on huge debts on their balance sheets. While L&T is still managing to keep its head above water comfortably, the same is not the case with its smaller peers.

The strain on balance sheets has in fact led many companies to sell off projects (some high quality assets) to repay their debt obligations. And that too, at prices not what they would desire. Even within the power space, many of the issues such as fuel tie ups, power purchase agreements coupled with land acquisition problems have led companies to sell of projects to fund newer projects.

Given that valuations of related companies are depressed, investors would do well to identify and stick with companies with strong track records and good balance sheets; all the more because they can take advantage of the beaten down asset prices, allowing them to cut down on the time to add new assets on their books. And this is still at a time when the foreign investors are still sitting on the side-lines, taking a wait and watch approach.

Debt repayment remains uphill task for Infra firms

Barring Brazil (down 0.2%), major global indices closed the week on an encouraging note. The US stock market closed higher by 2.1% for the week. The US data released on Thursday indicated positive developments in the labour market. However, another report showed weak inflation, signalling moderate economic growth. These factors will play important role in directing Federal Reserve's decision whether to hike interest rates next week.

The UK stock markets closed higher by 1.2%. The key Asian markets viz., China and Hong Kong were the leading gainers, registering gains of approximately 3.2% and 2.7% respectively. The week gone by witnessed various market indices touching higher levels since July.

Back home,it was a volatile week for the Indian markets. However, the benchmark indices closed higher by 1.6%. The IIP numbers were recently declared and suggest some positive signs. The country's industrial activity, (IIP) for the month of July rose by 4.2% YoY. This reported growth was above the street estimates, a welcome relief for investors. Among the sectoral indices, stocks from the auto and realty sector were the top gainers, while the defensives viz., FMCG and heathcare sector stocks closed in the red.

Performance during the week ended 11 September, 2015

 Weekend investing mantra
"Only when the tide goes out do you discover who's been swimming naked." - Warren Buffett

Publisher's Note: Vivek Kaul, the India Editor of the Daily Reckoning, just made a bold call - Real Estate prices are headed for a fall. Well, if you are someone who is looking to buy real estate, or is just interested in the space, I recommend you read Vivek's detailed views in his just published report "The (In)Complete Guide To Real Estate". To claim your copy of this Free Report, please click here...

This edition of The 5 Minute WrapUp is authored by Richa Agarwal (Research Analyst).

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2 Responses to "Lessons from the curious case of Amtek Auto"

km bansal

Sep 15, 2015

Great insight and suggestion needs consideration


AB Pereira

Sep 12, 2015

Apart from the serious issues highlighted by you, there is one other important element that needs to be looked into for similar cases of companies - not necessarily for the one mentioned by you. In situations of loan repayment, often we see promoters bringing in money from outside. The question to be asked is, from where? Is it a case of Money Laundering and possibility of return of black money hoarded abroad or through other assets in the country? When bank loans are repaid, often the banks dont ask the question "From Where" because they are happy their money is coming back and they have to show their performance of recovery. Poor operating results could be a case of diversion of revenues, and bringing in equity by promoters could be retraction of those diverted revenues. Equitymaster could do well to go one step further to investigate these situations on behalf of its trusted followers and for its own academic interest.

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Equitymaster requests your view! Post a comment on "Lessons from the curious case of Amtek Auto". Click here!