Did Cyrus Mistry Manage Tata Sons’ Debt Better Than Ratan Tata?

When Ratan Tata handed over the reins of Tata Sons Ltd. to Cyrus Mistry in 2012, the group was coming off a period of acquisition and expansion. Ratan Tata had chosen to expand into international markets through bold buyouts across the steel, automotive and hospitality sectors.

The acquisitions, some of which paid off while others did not, pushed up debt levels across the group. This, according to Cyrus Mistry, the ousted chairman of Tata Sons, was one of the key challenges he faced during his tenure.

“As is public knowledge, the foreign acquisition strategy, with the exceptions of JLR (Jaguar Land Rover) and Tetley, had left a large debt overhang...” said Mistry in his letter to the Tata Sons board after he was replaced. Mistry went on to detail trouble spots in the group, highlighting group companies like Tata Steel Ltd., Indian Hotels Company Ltd. and Tata Chemicals Ltd. as some of the firms that have stressed balance sheets.

Do The Numbers Back Mistry?

When Cyrus Mistry took over as the chairman of Tata Sons on December 28, 2012, the combined net debt of the 25 listed Tata Group companies stood at Rs 1,90,000 crore, according to data collated from Bloomberg. At the time, these firms had a networth of Rs 1,40,980 crore.

This meant that the debt-equity ratio stood at about 1.35 times in fiscal 2012.

Between fiscal 2012 and 2016, net debt of the 25 listed companies rose 36 percent to Rs 2,57,660 crore. However, over the same period, the networth of these firms rose 60 percent to Rs 2,25,884 crore. Since networth increased at a faster pace than aggregate debt, the debt-equity ratio dropped to a more comfortable level of 1.14 times in fiscal 2016.

The debt-equity ratio is a tool used to gauge a company’s financial leverage. For most companies, an acceptable debt-equity ratio is between 1.5 – 2 times or less.

The Weak Spots In The Tata Sons Empire

Of these 25 listed companies, Tata Metaliks Ltd., Tata Communications Ltd., Nelco Ltd., Tata Power Company Ltd., Tata Steel Ltd. and Tata Motors Ltd. had highly leveraged balance sheets in 2012 with a debt-equity ratio in the range of 1.55 to 6.55 times.

Over the next four years, Tata Metaliks managed to reduce its debt-equity ratio from 6.55 times to 1.67 times, helped by stronger profit growth and improved capacity utilisation. Tata Motors also saw a drop in its debt-equity ratio from 1.55 to 0.91 times, aided by higher profits from Jaguar Land Rover.

On the other hand, Tata Steel’s debt-equity ratio worsened to 3.03 from 1.84 due to a slump in the steel sector over the last two years. Heavy losses incurred by the U.K. unit have also worsened the company’s financial leverage ratios. Nelco saw a reduction in its debt but incurred heavy losses which eroded its networth. This meant that the debt-equity ratio rose sharply to 8.87 times.

Tata Steel, Nelco, Tata Metaliks and Tata Power still remain on the list of group companies which have high debt-equity ratios. A new addition to this list is Automotive Stampings & Assemblies Ltd. which has seen its debt-equity ratio rise to 3.41 from 0.41 in 2012.

Since Tata Communications had a negative networth at the end of fiscal 2016, its debt-equity ratio could not be calculated. At the end of fiscal 2016, Tata Communication had a negative networth of Rs 411 crore with a debt of over Rs 12,300 crore.

Indian Hotels doesn’t figure in this list even though Mistry identified the company as a trouble spot. This is because the company acquired Sea Rock Hotel in Mumbai’s Bandra suburb in 2009 as an off-balance sheet item.

An off-balance sheet item is one which does not appear on a company's balance sheet but is nonetheless a part of the assets or liabilities of the company.

The Sea Rock Hotel had a debt of Rs 1,403 crore, of which the company has already paid Rs 693 crore, as disclosed by Indian Hotels in its annual report. The debt-equity ratio of Indian Hotels, excluding the financials of Sea Rock Hotel, increased from 1.23 in 2012 to 1.42 in 2016.

Ability To Service Interest

A second way to assess the financial strength of a company is to measure its ability to service its debt. This is done through the interest coverage ratio which measures how many times a company can pay the current interest due, with its available earnings. The higher the ratio, the more sustainable its debt.

Of the seven companies mentioned above, Tata Communications and Tata Metaliks suffered losses in financial year 2012, while Nelco’s interest coverage ratio was low at 1.02 times. Tata Power, Tata Steel and Tata Motors had comfortable interest coverage ratios in the range of 2.17 to 6 times.

This scenario changed in financial year 2016. The interest coverage ratio of Tata Metaliks and Tata Communications improved to 7.29 times and 1.06 times respectively.

Tata Power managed to maintain an interest coverage ratio above 2 times. However, the company failed to lower its interest cost due to debt acquired for various acquisitions. In 2007, Tata Power had acquired the Mundra power project, which Mistry outlined as one reason that has depressed the return on capital for investors in the company.

However, Tata Steel saw its interest coverage ratio fall below 1 time due to the slump in the steel sector along with concerns over its U.K. unit. Nelco suffered losses in 2016 due to high operating cost.

What Changes After Mistry’s Exit?

With the abrupt change in guard, the question being asked by some investors is whether the deleveraging strategy adopted by Mistry will be abandoned.

Tata Sons, in a statement on Thursday, tried to dispel these concerns.