HLL Board Approves Bonus Debentures

The scheme, formulated under Section 391 to 394 of the Companies Act, entails issue and allotment of bonus debentures of the face value of Rs.6/- each, in the ratio of one fully paid debenture of Rs.6/- each for every Re.1/- equity share held in the company on a record date to be fixed by the Board after the scheme is sanctioned by the Bombay High Court. The debentures would be secured, and redeemable at par in two equal instalments on the second and third anniversary of the issue. Shareholders can trade on the debentures post allotment, since they would be listed on the NSE and the BSE. The debentures would carry an interest rate of 9% per annum payable annually. The debentures would be considered as a ‘deemed dividend’ under the provisions of the Income Tax Act. HLL would bear and pay, in addition, dividend distribution tax at 10.2% on the issue from the General Reserves.

The issue and allotment of the debentures will account for approximately Rs.1320 crores from the General Reserves. The dividend distribution tax will account for about Rs. 135 crores from the General Reserves. Thus a total amount of approximately Rs.1455 crores would be utilised from HLL’s General Reserves of Rs. 1609 crores (as at December 31, 2000).

HLL will now make necessary applications to the Bombay High Court for its directions for convening a meeting of shareholders to seek their consent.

HLL decided to issue bonus debentures to enhance the efficiency of the balance sheet in the context of excess cash carried for several years. The scheme will significantly increase HLL’s Return on Net Worth and reduce the cost of capital.

The scheme is equitable to each and every shareholder, including the parent company, Unilever, because every shareholder receives one debenture each for every equity share held in the company. The scheme is predicated on improving the efficiency of HLL’s balance sheet, while benefitting all shareholders.

HLL had evaluated other options to deal with the issue of surplus cash. A cash dividend was ruled out because under the Companies Act, a company can pay dividend out of General Reserves, within specified limits, only when it has incurred a loss or there is inadequacy of profits, neither of which is the case with HLL. In the circumstances, a special dividend could have been paid only under a court scheme. The proposed bonus debentures scheme has the benefit of retaining access to the cash for exploiting any business opportunity that may come up within a defined timeframe of three years, while at the same time unlocking value to the shareholders immediately.

A buyback would not have been equitable to every shareholder, because not all shareholders would have diluted their holdings. Apart from this, a buyback would need to be staggered over a period of at least three years, and would have accounted for only under 3% of HLL’s equity.

HLL also rejected the option of invoking Section 100 of the Companies Act reducing the face value of its Re.1/- shares to a lower amount, and returning the differential amount to shareholders with a suitable premium. Besides being tedious and administratively cumbersome, there was no benefit in altering the basic share capital structure of the company.

Bonus shares were not considered because it would have merely implied conversion of General Reserves into equity shares without any underlying outflow of cash, the basic issue being addressed by this scheme. Bonus shares would also involve permanent increase in the company’s equity capital. In the case of a bonus issue, HLL would have continued to have cash and capital in excess of needs, with the attendant dilution of Return on Net Worth/ Return on Capital.

Hence the proposed issue of bonus debentures came up as the most viable route to improve the efficiency of HLL’s balance sheet, while benefitting all shareholders. Payment of interest on debentures would lead to a marginal dilution in earnings, but it is estimated that the dilution would be in the order of about 40 paise per share in the first year of implementation. However, in real terms, shareholders would now have two streams of cashflow -- one by way of dividend on shares and the other by debenture interest/ redemption.

The scheme contemplates that small debenture holders – holding less than 1000 debentures – who are original allottees can tender their debentures to the company at any time on a first-come-first-serve basis for repurchase at par. This facility would be available to a maximum extent of Rs.100 crores in any year. The company is also in discussion with its merchant bankers (HSBC), to lead a consortium of banks and financial institutions to formulate a scheme under which debenture holders could sell their debentures to them soon after their allotment should they wish to do so within a defined timeframe.

The company has been advised that Sale/redemption of debentures at par (Rs.6/- per debenture) will not attract any capital gains tax in the hands of the shareholder, being a deemed dividend; HLL will pay dividend distribution tax at 10.2% on this distribution. Interest on the debentures will be taxable on receipt in the normal course.

HSBC, which assisted the company in formulating the bonus debentures scheme, has been appointed as the merchant bankers for the scheme.

The Bonus Debenture does not in any way impair HLL’s capability to make capital investments to fund the growth of existing businesses, enter into new businesses or to execute a large acquisition should such an opportunity arise. Even after the proposed restructuring of the General Reserves by issue of debentures by way of deemed dividend out of the General Reserves, HLL would have a strong balance sheet. This would enable it to make significant acquisitions should such opportunities arise. The reduction of the General Reserves is thus not expected to impact HLL’s ability to exploit longer term growth opportunities. In fact should opportunities come for profitable investment in core businesses, a balance sheet, which is appropriately geared, would be desirable from the point of view of HLL and its shareholders and would be in line with an optimal financial structure by way of debt-equity ratio which is efficient and in keeping with well accepted and prudent norms of financial management.

The company’s Board has also adopted a resolution to raise the limit for foreign institutional investors’ holding in HLL from 24% to 49%. This resolution too will be placed before shareholders for their approval. At the end of the September Quarter 2001, the FII holding in the company was 11.94%. The resolution is thus only enabling in character.