Hindalco rights issue to test investor confidence

HONG KONG (MarketWatch) -- When Hindalco Industries' rights share issue opens this week for subscriptions in India, it will test not just investor confidence in an extremely volatile market, but also appetite for a stock that has consistently underperformed for several months. Hindalco, a member of the Aditya Birla group -- one of India's oldest and largest family-controlled diversified conglomerates -- plans to raise about $1.1 billion through a rights issue that entitles shareholders to buy three additional shares for every seven they hold. The proceeds are to be used to repay a part of the $3 billion bridge loan Hindalco raised last year to complete a $6 billion acquisition (inclusive of debt) of Canada's Novelis Inc. -- a company much larger than Hindalco. The company is expected to use cash flows and raise funds from term-loans to repay the remainder of that loan when it comes due in November. Hindalco's new shares will be issued at 96 rupees ($2.06) each, a 15% discount to the existing shares' Friday closing price just below 113 rupees in Mumbai. The discount is hardly exciting when compared to past rights issues in India, but the shares' underperformance and weak market conditions likely left Hindalco with little choice. The founders, who own slightly more than 31% of Hindalco, along with a clutch of investment banks, have already underwritten 90% of the offer, according to the Economic Times. So the company should be able to raise the targeted amount easily. Even so, an under-subscription by retail and institutional shareholders in the company will be a shame as it would reflect a lack of confidence. In any case, the offer will help clear a few clouds hanging over Hindalco in the aftermath of the Novelis acquisition. For one, it will help reduce the high interest burden on the company from the bridge loan and improve profitability. Secondly, it will improve the debt-equity ratio and allow Hindalco to raise more loans at some time in the future to finance its planned expansion. Hindalco has already announced plans to invest around $4.3 billion over the next three years to set up new plants and increase capacity at existing ones. But that improvement will come at the cost of the equity dilution from the rights issue, and it may keep the stock pressured until the new capacities come on stream or there is a marked improvement in global demand. At its current market capitalization of $4.25 billion, Hindalco is valued by investors at less than the cost of its acquisition of Novelis. However, that valuation doesn't capture Hindalco's growing strength in the base metals industry. Nor does it take into account the company's nearly $700 million worth of investments (at market value) in group companies, given that Hindalco, through a tangle of cross-holdings within the group, owns 2.5% in cement and fiber major Grasim Industries, 8.7% in mobile operator Idea Cellular and 9.1% in diversified Aditya Birla Nuvo. Clearly, Hindalco shares don't reflect the value of the sum of its various parts, and some investors may wonder when that will begin to change.