Lessons from the wealth-destroyers

Companies that decimated investor wealth have made five kinds of mistakes

There are stories aplenty on the top wealth-creating stocks in India and what made them tick. But what about the wealth-destroyers?

Analysing stock price returns for 2,300 BSE-listed stocks since 2006, we found that 630 of them had wiped out 50 to 90 per cent of their investor’s wealth in the last ten years. So what turns a fancied business into a long-term decimator of investor wealth? Well, you can’t identify such stocks by the sector they operate in, high debt levels or even poor profitability. It was mis-steps by individual firms that ended up hurting investors the most. Here are the learnings from the five most common types of wealth destroyers.

Unrelated diversification

If a company you own is making an unrelated foray into a sector that is currently in the limelight, that’s a warning flag you mustn’t ignore.

The 90 per cent wealth erosion suffered by investors in JP Associates is a good illustration of what happens when a business group makes opportunistic forays into unrelated and highly regulated sectors.

JP Associates diversified into capital-intensive power, infrastructure and real estate during the boom years of 2000 to 2007.

These were mainly debt financed, partly through FCCBs (Foreign Currency Convertible Bonds). Even as debt levels shot up, the firms’ revenues and cash flows simply couldn’t keep up. The power and infrastructure projects were stalled by regulatory hurdles and the real estate foray was hit by the downturn.

With consolidated debt of over ₹75,000 crore by FY15 and losses of over ₹2,200 crore, the company is now in the process of reducing debt by selling off its cash cows.

Acquiring at the peak

When commodity prices are soaring, it is easy for players in the sector to assume that good times will last forever and go on an acquisition spree. But this tendency has brought down many a commodity giant in the last ten years.

Shree Renuka Sugars is a good illustration of how even a well-governed company can turn wealth destroyer due to mis-timed acquisitions.

A 2005 IPO debutant, Shree Renuka’s ambitious decision in 2010 to acquire two large Brazilian sugar mills in a bid to source low-cost sugar, for which it took on debt of over three times its net worth, proved to be its undoing.

The Brazilian operations developed teething troubles due to a drought. Global sugar prices crashed all the way from over 30 cents/pound in 2010 to 10 cents in 2015 as the cycle turned. As the company went into the red in 2011, debt became a millstone around its neck. With a ₹1,800 crore consolidated loss in FY16, the company’s stock has lost over 80 per cent in ten years.

Hyped-up themes

When the times are good, investors are often bombarded with hyped-up themes that are promoted as the ‘next big trend’ in the economy. Remember cable makers in the nineties, dotcom firms of 1997-99 or land-bank plays of 2006-07? But when you defy conventional wisdom to pay astronomical prices for such stocks, you land in hot water.

As owner and operator of offshore oil drilling rigs, Aban Offshore was seen as a risk-free play on soaring crude oil prices during the commodity super-cycle in 2006.

As the infamous ‘peak oil theory’ speculated that the oil prices would soar above $200, oil rig operators like Aban were seen as direct beneficiaries of this.

Not only were Aban’s rigs in high demand in a tightly supplied market, the company was re-negotiating steep increases in its hiring rates.

But the crude oil party soon ended, with oil crashing by a third in 2009. As Aban’s rig rates crashed, cash flows proved inadequate to service debt. Though the company’s net profits have grown, the sharp de-rating in the stock’s PE, from a fancied 46 times to a lowly three times the trailing earnings has made it a top wealth destroyer in ten years.

Regulatory run-ins

A company need not make terrible strategic moves to turn a long-term wealth destroyer. Running foul of regulators by exploiting grey areas in law is enough. With a 95 per cent erosion over a ten year period, the Financial Technologies stock is an example of how a thriving business, fancied for its wide moat, can lose it all if the promoter/business runs into regulatory issues and loses market credibility.

A niche provider of software to stock exchanges, Financial Technologies managed rapid, highly profitable growth until 2013 with nine exchanges and a dominant share in commodities trading. But a regulatory crackdown on its subsidiary — National Spot Exchange, exposed the shaky governance and settlement systems at the exchange. Subsequent investigations led to the company and its promoter being stripped of their ‘fit and proper’ status to run exchanges. With the company losing control over its most lucrative businesses, it has gone from highly profitable to loss-making, and markets have battered the stock.

Behind the times

The 91 per cent decline in the stock price of public sector telco MTNL is evidence that it is not just over-ambitious promoters who can kill a business. Those who don’t adapt to changing technology or consumer preferences can do the job too.

Once a leading telecom operator, with licences in the lucrative metros of Mumbai and Delhi, MTNL failed to make timely shifts to capitalise on the mobile phone revolution, as they rapidly replaced landlines. Even as private players bagged new licences and managed a scorching pace of mobile subscriber additions, MTNL fell behind on its services. Its finances suffered a heavy blow from hefty licence fees paid to acquire spectrum in 2010, leading to steadily falling revenues and operating losses. Efforts to restructure the company, monetise assets and reduce high staff costs have remained entangled in red tape, decimating investor confidence in the stock.

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