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Krishnan Thiagarajan

In less than two years, the HFCL stock was hyped up aided by the fancy from institutional investors. The stock zoomed but only to fall as quickly and hurting many. The HFCL story holds valuable lessons for investors, says Krishnan Thiagarajan.

Mr Mahendra Nahata, Chairman, HFCL group... Biting off more than he could chew.

HIMACHAL Futuristic Communications' is a story of hype, greed and fear with few parallels in the Indian tech history. The HFCL saga played itself out in just two years. The stock price surged from around Rs 53 in April 1999 to a high of Rs 2,553 in March 2000, hovered between Rs 1,000 and Rs 1,500 through 2000, before plummeting to its original level of Rs 52 by August 2001.

The dramatic fall in the stock price left thousands of investors (many of them had entered at significantly higher levels) stranded with hardly any prospect of near-term recovery. HFCL was the biggest loser for the year, with the stock shedding over 90 per cent of its value. The modest recovery from the low of Rs 32 in September to Rs 91 in early January is of consequence.

The chequered past

Between 1995 and early 1999, HFCL' s stock performance, in terms of price and volumes, remained indifferent. Obviously, the company was still carrying the burden of its part, having come close to derailing the telecom privatisation process.

In 1994-95, HFCL's bid for $25 billion (nearly Rs 85,000 crore) for nine basic services circles nearly brought the telecom privatisation to a halt. It was completely out of sync with its financial wherewithal and capability. Though the company managed to wriggle out of these commitments, it cast a shadow over the HFCL stock. For almost four years, institutional investors remained sceptical about the stock fundamentals. But in mid-1999, the script was rewritten again.

How all the hype began

The rise of HFCL is probably as exciting as its fall subsequently. `Telecom', `broadband' and `Internet' were seen as the next big opportunity. For the investment community in India except for the two PSUs — Videsh Sanchar Nigam (VSNL) and Mahanagar Telephone Nigam (MTNL) — there were no other major players in the telecom arena.

In the private sector, HFCL was the lone prominent listed player in the telecom arena. As a leading domestic turnkey solution provider for the telecom infrastructure sector since 1987 and having competed with MNC majors using indigenous technology, HFCL seemed to be the "dream candidate'' to spin the story of hype.

* The "institutional investor'' baby: As investor memories of HFCL's past began to slowly fade, in mid-1999, institutional investors such as FIIs, OCBs and mutual funds started actively pursuing a `possible' growth story in HFCL. By adopting a low profile and staying away from controversy for over two years, HFCL made a comeback as a "total telecom solutions provider'' in 1999. And the telecom story began to take shape.

At this stage, the role of the analyst and the financial community shot into prominence. Instantly, investment analyst reports started pointing out to the presence of HFCL across the telecom value-chain. *

Infusion of capital: In the first round of the growth story, a few domestic/foreign institutional investors jumped onto this wave early on, with some mutual funds joining them the race soon enough. The trading volumes surged in late 1999. But the best was yet to come. In early 2000, in the run-up to the strong earnings performance for the first nine months of 1999-00, HFCL made a private placement of equity at a 30 per cent discount to the prevailing market price to raise close to Rs 750 crore. And there was a virtual stampede for this private placement by institutional investors.

To top it all, on March 7, 2000, Consolidated Press Holdings (CPH), a Kerry Packer group company, picked up a 10 per cent stake in HFCL at Rs 1,450 per share, aggregating $238 million (Rs 1,035 crore). And a part of the capital infusion was to be utilised towards debt retirement and acquisitions. Thanks to these developments, the stock shot up from Rs 433 in December 1999 to a high of Rs 2,552 on March 7, 2000. Though there was a minor meltdown to below Rs 1,000 by end-March, the robust earnings performance for 1999-00 restored faith in the stock.

Greed takes over

Following an improvement in the operating profit margins and a healthy order book of close to Rs 2000 crore, most retail investors threw caution to the winds. A slew of aggressive initiatives involving massive capital investment proposed in the broadband, Internet backbone and basic telephony environment triggered led to a re-rating of the stock. These investors completely disregarded HFCL's high client concentration levels; nearly 40 per cent of the order book was from two group companies, HFCL Infotel (which held a basic licence for Punjab circle) and Smart Infosolutions, a JV to provide Internet and multimedia services.

The expectation was of a steady stream of good news. And the management launched a series of technology/outsourcing tie-ups with global majors aimed at enhancing its product portfolio. This kept investor hopes alive.

...Followed by fear

Though the slowdown gathered momentum across the globe in the second half of 2000, with devastating impact on the telecom segment, the HFCL stock continued to remain buoyant. Bolstered by a good order book and as a strong player in the domestic R&D segment, the HFCL stock remained in fancy under the illusion of being insulated from the slowdown.

Soon after the announcement of the 2001-02 Budget, as the stock market plunged into a crisis, the HFCL story became unstuck. The following developments triggered massive selling in the stock:

* Reduced import tariffs: The reduction in the import tariffs on telecom equipment removed the protection available to domestic manufacturers. In one stroke, the narrowing duty differential between components and final products shifted the price advantage enjoyed to global majors from domestic players.

* Intense global competition: As an offshoot of this change, it became obvious that transfer of technology from global majors would be limited as they are likely to either import equipment or set up plants in India. The intense competition from global majors was likely to cripple HFCL's ability to both source technology and compete with the global majors to secure turnkey projects in the basic and cellular services arena.

* Stock market troubles: The preliminary investigations into the stock market scam of March 2001 reveal that nearly Rs 650-700 crore of loans issued by HFCL had found their way into the stock market. Since the payment crisis, there is an apprehension that a chunk of this amount may be unrecoverable. The recent decision by HFCL to cancel proposed dividends, at the behest of institutional investors, seems to suggest that cash flows are in a pathetic state.

* Business fundamentals deteriorate: Over the last few months, HFCL has had to sharply curtail the software operations of its JV with Kerry Packer, refocus on its core business of telecom equipment and retrench around 400 people in line with its deteriorating financial position. In 2001-02 first half, the company recorded a 35.7 per cent drop in sales and a staggering 83 per cent drop in its post-tax earnings vis-a-vis the corresponding previous period. Finally, as most of broadband and IP backbone have suffered a slowdown, the order book of HFCL appears to have shrunk considerably. As the Joint Parliamentary Committee is currently investigating the stock market scam in 2001, in which HFCL is one of the key parties involved, the stock may be subject to gyrations as new developments unfold. Unless and until HFCL emerges unscathed from this turbulence, it may be prudent for investors to stay away from the stock.

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