Sunday, 23 October 2016


"DEBT"ING THE SUN – INTERPLAY OF EASE AND LIQUIDITY



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INDIA’S AMBITUOUS SOLAR TARGET

India has set an ambitious target of 175 GW of renewable energy generation on or before 2022 of which 100 GW (i.e. nearly 60%) is allocated for solar. Despite a major chunk of the targeted generation is expected from solar, however, in terms of domestic manufacturing of solar equipment, India’s show is not that impressive. The main reason why domestic manufacturing of solar equipment is being mooted becomes clearer when we increasingly understand that complimentary relationship between India’s energy import and generation infrastructure on one hand and India’s aim of controlling trade deficit on the other hand. 

From USD 43 billion during 2005 – 2006, India’s energy imports have significantly increased to USD 167 billion during 2013-14. These figures clearly spell out the strategic importance of renewable energy in India (especially solar) for which a vast potential exists in India. Solar generated power flowing through the grid has the potential to save USD 20 billion annually by 2030. Further, indigenous manufacturing can save 42 billion in terms of equipment imports by 2030. However, in absence of domestic manufacturing, solar equipment will continue to be imported adding further trade deficit.[1]

The concerns have already reached the government and corridors of PMO, MNRE, Finance and other ministries are already reported to have whispered in support of a policy for encouraging full scale manufacturing of solar equipment like polysilicon, wafers, cells, panels etc. Though the draft of the policy is not yet out in public, however, it’s quite expected that like any other policy, this policy will also specify certain threshold for distributing the incentives and what is in the air is that in order to obtain incentives under the policy manufacturing investment of Rs. 1000 crores may be required[2].

Keeping the policy aside, there will still be a number of domestic entrepreneurs who although not be in a position to satisfy the policy threshold yet continue to engage in micro level solar entrepreneurship. Micro, Small and Medium enterprises (“MSME”) are perhaps the best example which because of their statutory limit cannot exceed plant and machinery investment beyond Rs. 10 crores[3].  One of the most discussed aspect of domestic solar equipment manufacturing is job creation and potential of MSME in job creation is beyond doubt.

Now whether MSME or large scale unit, both will need capital.

1.   EQUITY ROUTE: No, it’s not as easy as receive money, issue shares and forget. When it comes to raising capital, the entrepreneur will have to walk a quite in convincing the investors that if their money remains locked-in for a given years, the entrepreneur will be able to make it attractive for the investor to liquidate with expected returns. The risk in this route is large and inherent for both the investor as well as the entrepreneurs. For investors, the biggest risk is liquidity. Being unlisted companies[4], they will have to stay invested for a given time and quality of exit will depend on the performance of the entrepreneur and the market overall. If everything goes as per expectation, third party buyers will wait in queue to bite the share, if not, then most common scene will be suspicious faces trying to take a ride at lowest possible valuation. But for an entrepreneur, the situation is bit grimmer with his/her potential to manage the show will immediately call for question in a small world.

2.  DEBT ROUTE (TERM LOAN): Term loans are often offered in the form of packages for which the borrower company has less flexibility.

3.  DEBT ROUTE (DEBENTURE): Perhaps the best in class as it allows the borrower the flexibility to structure the instrument including maturity, interest rate etc. Other major advantages of debenture route are private placement and listing them in exchanges.

DON’T FORGET TO REMEMBER THAT ITS IS THE SOLAR ENTREPRENEUR AND HIS/HER TEAM WHO WILL PLAY THE KEY ROLE FOR BUSINESS. COMPANY IS JUST A “STAMP”.

EASE OF INVESTMENT AND LIQUIDITY

Easy investing and easy liquidation are perhaps the most powerful parallel driving forces in any investment transaction. While the former allows one to time the investment, the later allows to either make profit or prevent loss. With India giving boost to solar manufacturing, early growth capital will be of high demand. With renewable energy set to dominate the future, potential of a good ROI is also quite high. In a scenario like this, private placement and debt listing perhaps will balance it out well.

PRIVATE PLACEMENT OF DEBT: THE PROCESS

Private placement??? It’s certainly not a job placement and has nothing to do with any human recruitment. Once can still say that it’s a process where an entrepreneur recruits financial capital into his/her company. To put it simply, private placement is a privately/confidentially arranged affairs to raise debt/equity fund/capital for a company. 

A private limited company cannot request (in any manner) the public at large to provide capital and hence the alternative method is private placement. Private placement is backed by Companies Act, 2013 read with Companies (Prospectus and Allotment of Securities) Rules, 2014. The process allows an entrepreneur to solicit and receive pre-determined/pre-negotiated funds by following few simplified statutory steps. 

A private placement can be best understood by the following illustration.

Assuming that there is a private limited company ABC Solar Private Limited (“Company”) where X (an experienced engineer) is the managing director and his wife Y is another director (just for statutory sake!!). The entire share capital of the Company is funded by personal savings of X and Y where X is 99% shareholder and Y is 1% shareholder. The Company has about 10 employees and is engaged in consultancy and services related to installation and maintenance of rooftop solar system. However, X has the required technical knowledge and ideas for manufacturing of small solar inverters and to start the operations 10 crores required which X and Y unable to fund from their personal savings.  X prepares a detailed project report regarding the proposed manufacturing of solar inverters and discusses the same with L, M and N who are high net-worth individuals and willing to try their luck.

1. So the process starts with designing the debentures. Designing doesn’t mean finalizing the look and feel of the debenture certificate formats. Designing means calculating the number of debentures the Company will have to issue, the interest payable, the repayment terms etc. According to Companies (Prospectus and Allotment of Securities) Rules, 2014, the face value (paper value/basic value) of such debentures should not be less than Rs. 20,000. Let’s assume that all three L, M and N are willing to fund the Company and it’s decided that Company will issue 5,000 debentures of Rs. 20,000/- (Rupees Twenty Thousand only) each with an interest rate of 10% p.a. It was agreed that L will buy 1500, M will buy 1000 and N will buy 2500 debentures.

2.  In the next step, the Company will have to convene a board meeting to approve the proposal of raising specified capital through private placement of debentures. Since both X and Y are the only directors of the Company, this will be pretty straight forward.

3.  Once the proposal is passed at board level, this will have to be passed at shareholders’ level by way of a special resolution. Since both X and Y are the only shareholders of the Company, this will be pretty straight forward.

4. Once the private placement is authorised at board and shareholders’ level, the immediate next step is to do the following activities (i) preparing invitation letters for L, M and N and maintaining their records in a specified format; (ii) preparing stock – exchange listing application and obtaining in-principle listing approval; (iii) arrange credit rating of the Company by a rating agency registered with SEBI; (iv) enter into an agreement with one SEBI registered depository participant so that the issued debentures are in dematerialized form; (v) an information memorandum containing various financial and operational information about the Company and the issue of debentures[5].

5.  Once records are maintained, then it’s time to send the invitations separately and privately to L, M and N and register the details and offer letter with the Registrar of Companies (“ROC”).

6.   As already agreed, on the given date L, M and N will submit their application form and transfer the respective amount to Company’s bank account on the given date. Normally, the allotment is deemed on the issue closing date itself else the Company will have to complete allotment within 60 (Sixty) days from receiving application money.  Once allotment is completed, the letter of allotment needs to be sent to the securities demat account of L, M and N.

7.   Now the Company will have to proceed for final listing of the debentures by submitting an application to the stock exchange and submit a return of allotment to the ROC. Since the Company has already received in-principle listing approval, final listing will not be difficult.

8.    Once listing is completed, the debentures can be freely traded by L, M and N.

TRADING ADVANTAGES: The biggest disadvantage for any investment into a private limited company is transferability and liquidity. From investor’s perspective, they will have to remain invested unless they find a suitable buyer and the transaction is approved by board off course subject to overall industry or market condition. So, unless the investor has both buyer and board in to confidence, it will not be an easy liquidity scenario. 

Contrary to that when securities are listed then the investor does not need the confidence of board to have liquidity. Willing buyer and willing seller, that’s it, transaction is completed in accordance with the exchange rules through demat and bank accounts. 

So in a falling interest rate scenario L, M and N can sell the debentures to third parties and gain substantially through capital appreciation.

DRAWING FROM EXAMPLE: A Bangalore based company Orb Energy Private Limited has raised capital through secured[6] listed debentures recently. The company is engaged into manufacture and distribution of solar equipment.[7]

IF YOU ARE A SOLAR ENTREPRENEUR AND YOU ARE LOOKING TO RAISE CAPITAL IN THIS MANNER, PLEASE CONTACT GREEINVENT INDIA BY LEAVING A COMMENT THERE ALONG WITH YOUR CONTACT DETAILS, OUR ASSOCIATED LAW FIRMS WILL CONTACT AND HANDHOLD YOU.




[3] Please refer section 7 of the Micro, Small and Medium Enterprises Development Act, 2006.
[4] Practically, listing of inexperienced/new ventures is rarest of rare. They will not be trusted by the market.
[5] As per regulation 21 of the Securities and Exchange Board of India (Issue and Listing of Debt Securities) Regulations, 2008.
[6] It’s very difficult to gain investor trust with unsecured debentures. So even if regulations allow you to raise money through unsecured debentures, finding the investor is quite a challenge there.
[7] Orb Energy, Information Memorandum for Private Placement of Debt Securities; http://www.bseindia.com/downloads/ipo/2016628155419ORB%20Energy%20IM%2028%202016.pdf

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