Ecomonic Times covered our Investing Journey:

Debt Securitization: how does it benefit the loan seller, ESOPs: advantages & disadvantages, CSR: what if a company does not spend anything?

Modified on February 18, 2019

www.drvijaymalik.com has a section dedicated to answering queries from readers: “Ask Your Queries”. Over time, many readers have asked their queries related to many aspects of stock analysis and sought clarifications about investing. We have responded to these queries as replies to their comments.

“Q&A” series is an attempt to share the queries & their responses, which have featured on “Ask Your Queries” section, with all the readers. The primary aim of this new feature is to share the knowledge with other readers of the website, who might have similar queries.

The current article in this series provides responses related to the following queries:

  • Debt securitization: What benefits does it bring to the seller of the loans?
  • Employee Stocks Option Plans (ESOPs): Advantages to the company, promoters, shareholders
  • Corporate social responsibility (CSR) commitments: How to interpret non-spending on CSR by the companies?

 

Debt Securitization: What benefits does it bring to the seller of the loans?

Readers’ query:

Hi Vijay,

Your articles and the “Peaceful Investing” workshop are enjoyable as always.

Can you also elaborate if “Debt Securitization” is another common practice for financial institutions (FI) to convert their long term debts into cash? What kind of incentives/commissions a bank & the special purpose vehicle (SPV) get to keep in the process of Debt Securitization?

My understanding of debt securitization is that it allows banks to convert debt into a security instrument, which is then sold to investors in the debt market. The bank gets the cash immediately, which it can deploy for the next set of loans. The investors get the interest income from the debt bought by them.

In some cases, nonbanking financial companies (NBFCs) also end up selling their loans (along with the risks and benefits) to banks to generate quick cash.

If an NBFC sells loans of ₹100 of interest rate 14% to another bank/investor via securitization, is it a good thing to do?

NBFCs get the cash, but they also lose on the future interest from an acquired loan customer. Do they get to keep some commission, like say 1-2%, in the process for all future interest?

 

Author’s Response:

Hi,

Thanks for sharing your views about debt securitization. Your presentation of the learning in a concise manner is very helpful for all the readers.

An investor would appreciate that for any financial institution (FI) who originates a loan and then hands it over to another FI i.e. securitizes the loan, there has to be some incentive to go through all this process. This incentive usually comes in some of the following forms:

  1. The originating NBFC may keep part of the interest payment with itself. E.g. if the interest rate on the loan is 14%, then it may pass on a lesser interest rate to the FI, which buys the loan say 12%. Therefore, upon securitization, the loan originating FI gets the upfront cash as well as 2% interest (14% – 12%) income on the amount of loan sold/securitized.
  2. Many times, the loan originating NBFC charge a hefty loan-processing fee in addition to the interest rate to their borrowers. This is especially true for corporate loans. It might be a case that on the loan bearing interest rate of 14%, the loan originating NBFC may have charged a loan-processing fee of 2% of total loan amount. In such cases, the NBFC may pass on entire 14% interest rate (but not the hefty loan-processing fee) to the FI buying the loan as it has already earned a good amount of processing fee.

Therefore, in one form or another, the loan originating NBFC will ensure that it keeps sufficient amount of earnings/incentive with itself so that the entire process of loan origination and then its securitization makes economic sense for it.

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr Vijay Malik

 

Employee Stock Option Plans (ESOPs): Advantages to the company, promoters, shareholders

Reader’s Query:

Hello Sir,

I want to know about employee stock option plans (ESOPs). I have tried to find out the details regarding ESOP but could not get much information about it on the internet. Every page on the internet has given the basics of ESOPs but not about:

  1. How is it going to change the number of shares,
  2. Advantages to company/retailer and
  3. Can promoters use it as a tool to get cheap share etc?
  4. Does the company has to diverge the price at which they are providing ESOP?

Thanks

 

Author’s Response:

Hi,

Thanks for writing to us! We are happy to see that you are doing your own equity analysis and spending time and effort to understand different concepts.

 

1) Change in the number of shares:

When employees exercise ESOPs, the company creates new shares and issues them to employees. This, in turn, increases the total number of shares of the company. An investor would appreciate that as the total number of shares (denominator of the equation) increases, the percentage shareholding of all the other existing shareholders comes down proportionately.

Advised reading: Understanding the Annual Report Of A Company

 

2) The advantage to the company/retailer:

ESOPs incentivise the management to work hard, which will result in good business performance and in turn higher market price of the stock of the company. Holders of ESOPs benefit from the higher market price. However, a large amount of ESOPs also have the potential of changing priorities of the management from a focus on company business to focus on managing share price as the fortune of the management (though ESOPs) is linked to the movement of the share price. Investors may find one such example in the following article:

How to Analyse Management Quality when Buying Stocks?

 

3) Can promoter use it to get shares cheap?

If the promoter is working in the company in an executive position like CEO/Executive Director etc. then she can also get ESOPs allotted to her and in turn, get shares at a cheaper price just like other employees.

 

4) Does the company has to declare the price at which they have allotted ESOPs?

The company declares the total amount of ESOPs, which are outstanding and the price at which they are allotted in the annual report.

Hope it answers your queries.

All the best for your investing journey!

Regards,

Dr Vijay Malik

 

Corporate social responsibility (CSR) commitments: How to interpret non-spending on CSR by the companies?

Reader’s Query:

Sir,

‘GIC Housing Finance’ in FY2017-18 did not spend even single rupee on corporate social responsibility (CSR) activities out of the prescribed CSR amount of ₹3.8 crores. Although there is no legal compulsion to do so, however, still what can we deduce from it about the company and its management?

Thanks

 

Author’s response:

Hi,

Thanks for writing to us!

Many times, it happens that a company is not able to spend part/full money on CSR in a particular year. It might be a genuine case of not finding good projects to spend CSR money or it might be a lack of priority for the company to spend CSR money. However, most of the companies spend such overdue money on CSR in future years.

We believe that investors should check for similar instances in the past. In case, in the past, any company faced similar circumstances, where it could not spend money on CSR in any particular year, then what did it do? Did it spend the money in the next year?

In case, the investor notices that the company spent the CSR overdue money in the next year, then it might be a genuine case.

Investors will get most of this information in the annual reports of the company.

In case, investors find that any company is not spending money on CSR at all year after year despite being legally required to do so, then investors may write to the company directly to seek clarifications about it. Any interpretations should be made after the response from the company is received.

The following article will help investors in contacting the company for clarifications:

How should investors contact Companies/Management for clarifications or additional information?

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr Vijay Malik

 

P.S.

 

DISCLAIMER

Registration Status with SEBI:

I am registered with SEBI as an Investment Adviser under SEBI (Investment Advisers) Regulations, 2013

Details of Financial Interest in the Subject Company:

Currently, I do not own stocks of any of the companies discussed above

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