Future Retail Group Debt Default comes as a Fresh blow to Franklin Templeton Investors
Listen to Future Retail Group Debt Default comes as a Fresh blow to Franklin Templeton Investors
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The recent default by Future Group of companies has brought the spotlight back on the deteriorating credit profile of India Inc. On July 29, 2020, Brickwork Ratings downgraded the non-convertible debentures (NCDs) of Rivaaz Trade Ventures (RTVPL), NuFuture Digital India (NDIL), and Future Ideas Co (FICL) to BB+. All these firms are part of the Kishori Biyani-owned Future Group of companies.
Notably, four of the six schemes of Franklin Templeton MF, namely Franklin India Credit Risk Fund (FICRF), Franklin India Dynamic Accrual Fund (FIDAF), Franklin India Income Opportunities Fund (FIIOF), and Franklin India Short Term Income Plan (FISTIP) which were wound up, have exposure to the NCDs of the said companies.
FIIOF has the highest exposure to the NCDs of RTVPL, NDIL, and FICL with a combined exposure of around 11%, followed by FISTIP, FIDAF, and FICRF.
According to a note from FT, the rating downgrade is due to the downgrade in credit profile of the credit enhancer Future Retail (FRL), on which these companies rely significantly for its income.
Table: Scheme-wise exposure details as on July 30, 2020
(Source: Franklin Templeton MF)
The standard haircut in such case is 25%, as recommended by AMFI. However, as FTMF had already applied a haircut of 25% to these NCDs in its schemes, there was no valuation impact resulting on account of downgrade on July 29.
On July 31, coupon/part payments were due to be paid by RTVPL, NDIL and FICL on various NCDs issued by them. While RTVPL met its payment obligation, NDIL and FICL were unable to do so. Due to this default, FTMF has now valued the securities of NDIL and FICL at zero.
However, this only reflects the realizable value and does not indicate any reduction or write-off of the amount repayable by these companies. Securities of RTVPL will continue to be valued at 75%.
As a result of the downgrade and subsequent mark down in values, the NAVs of four schemes with exposure to these NCDs dipped by up to 4.85% on July 31. FIIOF having the highest combined exposure was the most hit.
Table: Scheme-wise NAV impact attributable to valuation impact of NDIL and FICL holdings
(Source: Franklin Templeton MF)
Future Retail's path to recovery...
FRL has been grappling with a debt crisis for quite some time now. Its total debt soared to over Rs 7,000 crore as of February 2020. The pandemic-induced lockdown worsened the condition for the firm as many of its outlets remained closed. Consequently, FRL missed coupon payment on the $500 million dollar-denominated bonds due on July 22 and has availed grace period of one month for payment.
Media reports suggests that Reliance Industries is in final stages of negotiations to buy a controlling stake in Future Group's retail business and a deal could be announced soon. FT is of the opinion that such a deal could potentially benefit all three issuers (RTVPL, NDIL and FICL) held in the scheme portfolios.
Way ahead for investors in wound up schemes
While FT has ramped up its recovery process in the wound up schemes through maturities, pre-payments and coupon payments, its investment in high credit risk papers continues to haunt it and could affect the payout to investors.
Meanwhile, there is no update on the voting process which has been stalled due to legal proceedings against the fund house. The fund house can initiate monetization and distribution of assets to unitholders only after successful completion of the voting process.
What should debt fund investors do?
Debt market conditions have improved in the past few weeks. However, there are still challenges, especially for low-rated securities, given the economic uncertainty and bleak outlook. Therefore, prefer safety of capital over returns by staying away funds undertaking high credit risk.
It would be prudent to stay away from funds with high exposure to private issuers. Invest in debt funds that have predominant exposure to government bonds or quasi-government papers because these can offer better safety and liquidity.
[Read: Why You Need To Be Extra Careful While Selecting Debt Mutual Funds Now]
To select a scheme, essentially assess your risk appetite and investment time horizon, plus factors such as:
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✓ The portfolio characteristics of the debt schemes
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✓ The average maturity profile
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✓ The corpus & expense ratio of the scheme
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✓ The rolling returns
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✓ The risk ratios
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✓ The interest rate cycle
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✓ The investment processes & systems at the fund house
In the current scenario, where interest rates seem almost bottomed out, you would do better going with low duration funds such as pure Liquid Fund and/or an Overnight Fund that does not have high exposure to private issuers.
At PersonalFN, we arrive at top rated funds using our SMART Score Model. If you wish to select worthy mutual fund schemes, I recommend that you subscribe to PersonalFN's unbiased premium research service, FundSelect.
Additionally, as a bonus, you get access to PersonalFN's popular debt mutual fund service, DebtSelect.
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Warm Regards,
Divya Grover
Research Analyst
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