How to find equity dilution and loss on investments?

Modified: 16-Sep-20

The current article provides responses related to the following queries by asked by investors:

  • How to find out if a company has diluted its equity in the past?
  • How to determine if a company has lost money on its investments?

 

How to find out if a company has diluted its equity in the past?

Dear Vijay,

How do we know if a company has been diluting or is diluting its equity? I mean which data point should we look at to determine if equity dilution is happening and if yes, by how much?

In your excel template, we have “Share Capital”. If it increases by 20% this year with respect to last year, does it mean equity dilution has happened and its magnitude is 20%? And similarly, reverse with buyback?

If you can provide an example, it will be helpful.

Thanks

Author’s Response:

Hi,

Thanks for writing to us!

You are right that the dilution of equity, as well as its extent, is measured by the way of increase in share capital (paid-up share capital). The share capital of any company increases because of the following activities:

  1. Issuance of new shares either by way of IPO/FPO/preferential allotment/exercise of ESOPs/warrants etc. All these actions lead to equity dilution because when these new shares are issued by the company for allotment to entities in such transactions, then the percentage shareholding of existing shareholders reduces.
  2. Issuance of bonus shares. This action does not lead to dilution as all the existing shareholders get an equal proportion of new shares so the percentage shareholding of all the promoters remains the same both before and after the issuance of bonus shares.

The share capital decreases because of the buyback of shares.

Further advised reading: Understanding the Annual Report of a Company

Therefore, it becomes important that an investor should keep monitoring the changes in the paid-up share capital and in case there is an increase in any period, then she should check the annual report to find out if it was due to issuance of new shares (dilution) or issuance of bonus shares (non-dilution).

In case, an investor wishes to read the case study of a company whose business has been very cash consuming and as a result, the company to resort to equity dilution multiple times in the past to survive, then she may read our analysis of IOL Chemicals and Pharmaceuticals Ltd.

Read Analysis: IOL Chemicals and Pharmaceuticals Ltd.

All the best for your investing journey!

Regards

Dr Vijay Malik

 

How to determine if a company has lost money on its investments?

First read: Analysis: Cupid Limited

Excellent analysis by you!

Point no 5 in the above analysis: Invested in Arihantsidh Properties Pvt. Ltd in 2016 whose value reduced to 600,000 and in 2017, it is written off. They did the same in 2013 too.

Arihantsidh Properties Pvt. Ltd Investments Written Off FY2017

Does it mean that invested amount is not collectable or that investment was sold off?

If it was sold off, then the amount received should be shown in accounts under which heading? 

Author’s Response:

Hi,

Thanks for writing to us!

Writing off an investment indicates that the investment is non-collectable. In such cases, the companies show “Provisions” for diminution of value of investments in the annual report. This entry would be found on both the balance sheet as well as the profit and loss statement. In the balance sheet, the provision will be shown in the non-current assets, where the details of the original investments are shown. In the profit and loss statement, the provision will be shown in the “other expenses”.

In case, the company has sold off the investment, then the company will show the amount received in the cash flow statement as an inflow under the segment “cash flow from investments” (CFI) section. Alongside, in the profit and loss statement, the company will show gain or losses on the sale of investment most of the times in the “other income” section. Many times, the losses might be shown in the “Other expenses” as well.

Further advised reading: Understanding the Annual Report of a Company

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr. Vijay Malik

P.S.

 

DISCLAIMER

  • The above discussion is only for educational purpose to help the readers improve their stock analysis skills. It is not a buy/sell/hold recommendation for the discussed stocks.
  • I am registered with SEBI as an Investment Adviser under SEBI (Investment Advisers) Regulations, 2013.
  • Currently, I do not own stocks of the companies mentioned above in my portfolio.

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