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Corporate debt redemption management in favorable economic times: a lifeline during tumultuous economic recession.

Introduction

In this era of globalisation and worldwide integration, the entire world is treated as one nation without any geographical boundaries and hence, we are no more immune to the events happening outside our country (Vasanthi and Sowjanya, 2008 and Suresh, 2009). International trade had emerged as a result of economies not being self-sufficient in resources, and resultantly, world became a global village. However, globalisation has been a double edged sword; on one hand, it accelerates the countries' growth and on the other, drags them into vulnerable situations like recession, slowdown, etc. resulting out of crises across the globe (Vasanthi and Sowjanya, 2008). The literature recognises four key transmission channels through which global developments could percolate to domestic economy namely, Foreign Trade, Cross-Border Financial Flows, Global Commodity Prices and Expectations/Confidence (RBI's Report on Currency and Finance, 2009).

Theoretical Framework

It is generally said that 'When America Sneezes, The Whole World Catches Cold'. This has been found true in the case of sub-prime crisis that emanated in the United States but did not remain confined to it rather also affected the economies of Europe, United Kingdom, Asia and several other countries around the globe. The myriad number of misadventures such as collapse of the U.S. real estate sector, mounting defaults on globally sold securitized instruments and bankruptcies of financial institutions like Merill Lynch, Lehman Brothers, etc. that were presumed to be 'too big to fail' brought about a shift in liberal to conservative lending approach of primarily U.S. and other banks followed by fall in aggregate demand and in turn, international trade that took this U.S. localised subprime turmoil to an international pedestal in the form of Global Recession. National Bureau of Economic Research, U.S. defines a recession as "a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in production, employment, real income, and other indicators." (www.imf.org).

On account of globalisation, even the Indian economy could not remain insulated from such an exogenous shock. India has fallen a prey to the global recession through the channels of international trade, financial markets and capital flows. The GDP growth rate of 6.7 percent in the FY 2008-09 indicates a slowdown in the economic growth of Indian economy after the onset of global recession. It represents a decline of 2.8 percent from an average GDP growth rate of 9.5 percent in the immediately preceding three years i.e. from FY 2005-06 to FY 2007-08.

Particularly, the countries that are open to international trade have to bear the external demand shocks in the event of an economic downturn (Claessens et al., 2000 and Adjei, 2012). In addition to it, the global macroeconomic instability and uncertainty elicit an acute loss of confidence among people, raising doubts regarding the stance of economic recovery that in turn collapses the internal demand in an economy as well. Eventually, the corporate sector has to bear the spill-over effects of these demand shocks reflecting through their reduced sales and shrinking profits. Recession brings about a significant contraction in market demand for goods and services that in turn generally lowers sales, cash flows and profits (Srinivasan and Lilien, 2009). However, firms' fundamentals in terms of liquidity, solvency and profitability should be strong enough to withstand such troubles and facilitate easy navigation through the tough economic tide. Weak fundamentals can make the firms even more vulnerable to the recessionary pressures (Kim and Kim, 2003). In the backdrop of such recessionary pressures--characterised by lower sales and cash flows, debt redemption management (to maintain solvency of a company) becomes an issue of great concern during the tumultuous period of economic recession, when the liquidity of the companies gets constrained.

Literature Review and Empirical Research Findings

Debt redemption refers to the return of principal amount of debtholders after or even before the expiry of a fixed time period as per the terms of debt. Unlike equity shares that are irredeemable during the lifetime of a company, debt is redeemable after the expiry of a particular time period. A company has to face grave consequences if the debt is not redeemed at its maturity. Even the company could be wound up on the orders of National Company Law Tribunal if it is unable to service its debt. Nevertheless, debt being a cheaper source of finance offering tax shield of interest relative to equity serves as a strong incentive for firms to employ debt in lieu of equity to lower the overall cost of capital (Duggal and Budden, 2011). While debt offers positive implications for growth upto a certain extent, the presence of considerable bankruptcy costs deters the managers from overusing debt in the capital structure (Duggal and Budden, 2011 and European Central Bank, 2012). Prasetyonko and Parmono (2008) articulate that higher leverage ratios imply higher risk of bankruptcy and as such, employment of debt in capital structure needs to be given due importance. If the debt remains at a moderate level, it has the capacity to improve economic welfare and spur economic growth; however, when it is employed excessively, it initiates financial instability and hampers investment and economic growth (Socio et al., 2014). The sub-prime crisis and resultant global recession brought about a rethink and re-visit of as to what does sustainable level of debt constitute (European Central Bank, 2012).

Levy and Hennessy (2007) and Duggal and Budden (2011) in corroboration with the agency theory argument that in order to maintain managers' relative ownership, companies use more debt during economic contractions while use more equity during economic expansions. However, during financial crisis, shrinking demand and constraints in tapping credit from financial institutions, especially for the companies relying largely on debt financing, augment organisational fragility reflecting through their poor performance (Zhou, 2011). High debt levels, be it public or be it private sector, place a drag on growth and raise the risk of financial crises; thereby, sparking deep economic recessions. (Dobbs et al., 2015). Debt redemption becomes an issue of greater concern during the tumultuous period of economic recession, when the liquid resources of the companies are constrained. In a crisis--stricken environment, in which access to financing becomes even more difficult, highly leveraged firms run the risk of bankruptcy and not only this, they are also unable to find new lenders in the future. (Almajali et al., 2012 and Leitner and Stehrer, 2012). This becomes true particularly, when the cash-flow projections are not met and predicted asset sales are not completed. (Wilson et al., 2012).

Guariglia et al. (2011) based on firm--level data of U.K. firms empirically investigated that there existed a significant relationship between costs of debt servicing and firms' survival and the firms having high costs associated with debt-servicing coupled with limited access to external funding faced a higher probability of failure during the economic crisis. Ozcan et al. (2015) empirically documented that companies with higher debt overhang (i.e. higher corporate indebtedness relative to earnings) underperformed during the 2008 crisis. Akbar et al. (2013) also found that the firms employing lesser financial leverage outperformed during the crisis period as compared to their counterparts. Similar results were documented in the empirical studies by Geroski and Gregg (1994), Fassler (2007), Knudsen (2011), Kim et al. (2011), Adjei (2012) and Davydov and Vahamaa (2013).

Financial prudence demands that the companies need to manage their debt redemption in the favourable economic years itself. Resultantly, the firms should rely on the debt source that provides a higher degree of flexibility so as to minimize the effect of external economic shocks on the firms (Davydov and Vahamaa, 2013). Thus, in this background of foregoing literature, debt redemption management turns out to be an area of serious concern for the debt financed companies especially during the period of economic recession. Therefore, the present study focuses on the following research objectives:

a. To compare the debt redemption management practices of companies during pre-slowdown period and slowdown period and

b. To analyze the favourability or unfavourability of financial leverage employed during the pre-slowdown period and slowdown period.

Database and Research Methodology

Period of the Study

The roots of global recession that lasted for eighteen months i.e.

from Dec 2007 till June 2009 (officially declared by NBER's Business Cycle Dating Committee, United States) lie in the subprime crisis that emanated in the U.S. in the year 2007. However, there is a difference between economic recession and economic slowdown. While former indicates a negative growth in GDP, the latter construes slowdown in growth rate i.e. the GDP growth rate remains positive but declines than that of previous quarters. The present study covers a time frame of five years beginning from the FY 2005-06 to the FY 2009-10. Moreover, the total study period has been bifurcated into the pre-slowdown period (2005-06 to 2007-08) and slowdown period (2008-09 to 2009-10). The pre-slowdown period encompasses the years in which the Indian economy achieved double digit GDP growth rate and the slowdown period comprises the years witnessing a slowdown in the GDP growth rate. The GDP growth rate of 6.7 percent in the year 2008-09 evidences a slowdown in the economic growth of India. It represented a decline of 2.8 percent from an average growth rate of 9.5 percent in the immediately preceding three years i.e. from 2005-06 to 2007-08. The ripple effects of global recession continued in the year 2009-10 in the form of economic slowdown in India. Therefore, the recent global recession has been employed as a natural environment to analyse the subject in hand during the two significantly different episodes of economic prosperity and economic downturn.

Sampling Procedure

The present study employs a combination of two probability sampling techniques i.e. Proportionate Stratified Random Sampling and Systematic Sampling in order to select a representative random sample from the sampling frame. Firstly, the sampling frame has been bifurcated into various strata. The various industrial groups in manufacturing sector (recession hit) evidencing a decline in the growth rate during the FY 2008-09 as compared to FY 2007-08 have been assigned as different strata. In addition to it, the IT sector itself has been chosen as a stratum, being hit by global recession. The broad classification of industrial groups in manufacturing sector given by CMIE's Prowess Database has been Textiles, Chemicals & Chemical Products, Metal & Metal Products, Non-Metallic Mineral Products, Engineering Goods, Consumer Goods and Miscellaneous Manufacturing. IT sector itself has been identified as a stratum in addition to the ones identified in Manufacturing sector. Secondly, only the BSE or NSE listed companies have been included under the selected strata. Thirdly, the relative sales growth of listed companies identified under various strata has been calculated by computing the relative sales growth ratio. The relative sales growth has been computed as the ratio of firm's average sales growth in the slowdown period to the average sales growth in the immediately preceding pre-slowdown period. Fourthly, the listed companies under the respective strata have been sorted in the ascending order of their relative sales growth. Further, in order to select a sample of 250 companies, the number of companies to be selected from each stratum has been decided on the basis of proportionate stratified sampling. Finally, the number of companies to be selected from each stratum has been chosen by employing systematic random sampling. The companies selected from Textiles has been 52, Chemicals & Chemical Products (47), Metal & Metal Products (33), Non-Metallic Mineral Products (16), Engineering Goods (41), Information Technology (35), Consumer Goods (18) and Miscellaneous Manufacturing (8) in number.

Sources of Data Collection

In order to achieve the objectives of the present study, the secondary data have been sourced from Prowess database of CMIE, Ace Equity database of Accord Fintech Pvt. Ltd. and Capitaline Plus database maintained by Capital Market Publishers India Ltd. However, in case of missing data in any of the above mentioned databases, annual reports of the respective companies have been resorted to.

Techniques of Data Analysis

The present study uses Ratio Analysis and McNemar's Test to analyze the data. Various financial ratios have been computed on the basis of framework developed for the selection of different variables incorporated in the study. McNemar's test is a non-parametric statistical test which is used on paired nominal data i.e. where the data are related. Moreover, while the Chi-squared test works on the independent nominal data, the McNemar's test is applicable on paired nominal data. McNemar's test has been employed to analyse whether the difference in the favourability/unfavourability of financial leverage has been statistically significant or not during the pre-slowdown period and slowdown period.

Analysis and Discussion

As far as the law is concerned, SEBI requires the companies to create debenture redemption reserves against the fully non-convertible debentures or for the non-convertible portion of the partly convertible debentures whereas it is silent on creating any reserves against borrowings. Financial prudence encourages the companies to create reserves against total debt (borrowings as well as debentures), set aside more amount to the debenture redemption reserve account over and above the mandatory limit and to issue convertible debentures to cover the redemption risk. The present paper deals with the following two significant aspects of debt redemption management:

1. Creation of Debenture Redemption Reserve and

2. Presence of Convertible Debentures in the Capital Structure.

Creation of Debenture Redemption Reserve

Financial prudence encourages the companies to create reserves against total term debt in addition to creating reserves only against non-convertible debentures. Not only this, the reserves so created should be represented by securities earmarked for debt redemption only. Guthmann (1978) p.44 elucidates, "If complete provision is to be made for contingencies, the board of directors will not only set up a contingency reserve, but it will also invest a suitable amount in liquid securities that will provide ready funds for emergency in the nature of funded reserve." However, the companies are not creating redemption reserves against term debt because the same has not been made compulsory by SEBI (except DRR against non-convertible debentures). Nevertheless, in order to protect the debenture holders against the risk of default in retiring debt by the companies, SEBI requires (under Section 117C of the Companies Act, 1956) every company which has issued non-convertible debentures having a maturity of more than eighteen months, to create Debenture Redemption Reserve (DRR). In addition to it, in case of partly-convertible debentures, DRR should be created in respect of non-convertible portion of the debentures on the same lines as applicable for fully non-convertible debentures. Further, SEBI requires the companies to create DRR equivalent to 50 percent of the amount of non-convertible debentures before their redemption commences. The risk of default in retiring debentures may amplify during the period of economic downturn because of shrinking margins and constrained liquid resources. Therefore, it is prudent on the part of companies to appropriate adequate amount of profits to debenture redemption reserve account every year from the year of issue itself. In this backdrop, the upcoming section seeks to analyze as to what percentage of amount had been standing in the DRR account against the non-convertible outstanding debentures during pre-slowdown period and slowdown period. The same has been illustrated through the Table I.

The first column of the Table I shows the balance in the debenture redemption reserve account as a percentage of the outstanding amount of debentures. In order to compute this percentage, the outstanding amount of debentures has been adjusted for their convertible portion i.e. the convertible portion of the debentures has been deducted from the total amount of debentures outstanding. This percentage ranges from as low as 0 percent to as high as 100 percent for the sampled companies. Further, the analysis reveals the number of companies having created DRR corresponding to a particular slab during the pre-slowdown period and the slowdown period. Out of the total sampled companies, only the companies that carried debentures in any of the five years under study have been considered for the purpose of analysis. There are instances where the companies are carrying debentures in the slowdown period but not during the pre-slowdown period. Thus, the companies that did not carry debentures in their capital structure during the pre-slowdown period were not required to create debenture redemption reserve. Thus, such companies have not been included in the slab of 0 percent DRR as a percentage of outstanding debentures in the Table I. On the same lines, if the company did not carry debentures during the slowdown period i.e. the same were redeemed, then no question of creation of DRR arises and hence, such companies have not been included while placing those in the respective slab.

The number of companies that have issued non-convertible debentures but have not created DRR have been listed in the slab of 0 percent and their respective number is thirteen and nine in the pre-slowdown period and slowdown period. For instance, the company STI India Ltd. has outstanding non-convertible debentures to the tune of Rs. 1410 million but has not created DRR against the same. It shows that financial prudence was missing on the part of the companies who failed to appropriate their after-tax profits towards the creation of debenture redemption reserves. Undoubtedly, as per the requirement of SEBI, companies should have DRR equivalent to 50 percent of the amount of non-convertible debentures in the year immediately preceding to their redemption but financial prudence demands the companies to appropriate adequate amount of after-tax profits every year towards DRR account from the year of issue itself.

The companies that have emerged from this analysis having created 100 percent DRR against the outstanding debentures during the pre-slowdown period have been six in number namely, Inox Air Products Ltd., ISMT Ltd., Pasupati Spinning and Weaving Mills Ltd., Ruchi Strips and Alloys Ltd., Shanthi Gears Ltd. and Tata Chemicals Ltd. For the reason that economic downturns are unanticipated events, companies need to be financially cautious and far-sighted in the normal economic years and appropriate adequate profits every year to DRR account.

Presence of Convertible Debentures in the Capital Structure

Convertible debentures are the ones that can be converted into equity shares at the option of the issuing company and/or sometimes at the will of the holder of the instrument at a specified date in future. The convertible debentures may be fully convertible, partly convertible or optionally convertible debentures. Liquidity constraints are most likely to get aggravated during the tough times of economic recession, thereby limiting the companies' ability to retire debentures (if any) due for redemption. The feature of convertibility attached to the debentures may prove to be a boon to the companies during economic downturn. As already discussed, issuer of the convertible debentures has the right to convert the same into equity shares at a specified date. Thus, in the event of liquidity crisis, the companies can opt for conversion of debentures into equity shares, if due for redemption. Therefore, the presence of convertible debentures ensures flexibility in the capital structure of corporates and can also save them from running the risk of liquidation in the event of default in paying off their debts. In this backdrop, it has been analyzed as to how many out of the debenture issuing companies have issued convertible debentures. The analysis divulged that out of 46 companies that have issued debentures, only ten companies have issued convertible debentures. GSL (India) Ltd., JSW Steel Ltd., Nakoda Ltd., Orient Press Ltd. and Ruchi Strips & Alloys Ltd. converted their debentures to the tune of Rs. 140 million, 50.9, Rs. 1.6 million, Rs. 50.3 million and Rs. 56.5 million respectively into equity shares during the slowdown period. As far as Pasupati Spinning & Wvg. Mills Ltd. is concerned, it has converted debentures into equity shares in a phased manner i.e. to the tune of Rs. 22.8 million and Rs. 7.8 million during the pre-slowdown period and slowdown period respectively.

Analysis of Financial Leverage

Financial leverage refers to the use of fixed cost bearing sources of finance along with equity shares in the capital structure. A company can either use equity or debt or a mix of debt-equity to finance its investments/operations. As far as equity as a source of finance is concerned, a company is not required to pay a fixed rate of dividend to the equity shareholders whereas in case of debt, the company has to bear a fixed cost irrespective of the rate of return on assets. While the payment of dividends to equity shareholders is not binding upon the company, interest on debt is a compulsory payment and default on the same can lead to winding up petition against the defaulter company. The rationale behind employing financial leverage in the capital structure is to magnify the earnings per equity share on account of debt being cheaper than equity. From the point of view of investors, debt securities are safer investments than equity because debt servicing is an obligation on the part of firms unlike equity, failing which debt holders may file winding up petition against the defaulter company. Being less risky than equity, cost of debt is lesser than that of cost of equity. However, magnification of earnings per outstanding equity share is possible by employing financial leverage, if and only if, the firm earns more on the assets purchased with such funds than the fixed cost of their use (favourable financial leverage). To be precise, when the fixed cost bearing sources of finance are available at a rate lower than that of the rate of return earned on net assets employed, the difference between the two contributes towards the earnings available to equity and in turn, tends to magnify their earnings per share. The financial leverage is said to be unfavourable, if the fixed cost of the funds is more than that of the return on assets. Financial leverage acts as a double-edged sword because on one hand, it magnifies the earnings per share (if return on assets is greater than that of fixed cost sources of funds) and on the other, it increases the financial risk. However, during the period of economic recession when the earnings are lesser than that of fixed charges, the equity shareholders will have to bear the burden. Thus, the financial leverage will start operating in the opposite direction in a way that the earnings per share instead of getting magnified, will actually fall as a result of the presence of the fixed cost bearing sources of funds (Khan and Jain, 2013, p.18.7).

Favourable or Unfavourable Financial Leverage during the Pre-slowdown Period and Slowdown Period

To examine whether the financial leverage employed in the capital structure of the sampled companies had been favourable or unfavourable, the forthcoming analysis has been undertaken. The cost of debt before tax ([Kd.sub.BT]) has been compared with the return on assets before tax ([ROA.sub.BT]). For the purpose of the present analysis, debt is referred to as interest bearing debt i.e. debentures and other borrowings and not the preference share capital. To compute the cost of debt (before tax) following formula has been employed:

Cost of Debt ([Kd.sub.BT]) = Interest Expenses/Interest Bearing Debt X 100

Firstly, the [Kd.sub.BT] has been calculated for each individual year under study and finally, the average of the same has been calculated corresponding to the pre-slowdown period and slowdown period. Further, to examine whether the financial leverage had been favourable or not for sampled companies, [Kd.sub.BT] has been compared with [ROA.sub.BT]. To compute the Return on Assets (before tax) following formula has been employed:

Return on Assets ([ROA.sub.BT]) = EBIT (net of P&E)/Average Net Assets x 100

EBIT (net of P&E) stands for earnings before interest and taxes net of prior period and extra-ordinary items. Average net assets have been computed as the average of net assets of last year and current year. Firstly, [ROA.sub.BT] has also been computed for each individual year under study and finally, the average corresponding to the pre-slowdown period and slowdown period has been computed for the purpose of analysis. The analysis of financial leverage has been segregated into pre-slowdown period and slowdown period. The analysis of the favourable/unfavourable financial leverage. It has been analyzed that during the pre-slowdown period, there had been 177 companies that had favourable financial leverage whereas in the slowdown period the number reduced to 115 on account of downfall in the earnings before interest and taxes and in turn [ROA.sub.BT].

It is worth mentioning here that even in the pre-slowdown period, there had been 73 companies that had employed unfavourable financial leverage whereas the number swelled to 135, which is almost double, during the slowdown period. It implies that these 73 companies had employed such debt in their capital structure during the pre-slowdown period, against which these companies could not even earn sufficient return on assets to cover the fixed cost of debt. To check whether the difference in the favourability/unfavourability of financial leverage has been statistically significant or not between the pre-slowdown period and slowdown period, McNemar's Test has been employed. The results of the same have been shown in the Table II and Table III.

The results of cross-tabulation have been depicted in Table II. The results of cross-tabulation show that out of 177 companies that had favourable financial leverage during the pre-slowdown period, 73 companies turned out to have unfavourable leverage in slowdown years. At the same time, out of 73 companies that had unfavourable financial leverage during the pre-slowdown period, 62 companies continued to suffer from the effects of unfavourable financial leverage. The statistically significance of the results of cross-tabulation has been illustrated through the Table III.

The results of McNemar's test reveal a significant Chi-Square value of 44.298 (p-value < 0.01) at 1 per cent or even better level of significance for a sample of 250 companies. It implies that the favourability/ unfavourability of the financial leverage is different between the two periods under study i.e. pre-slowdown and slowdown. The statistically significant results have also been corroborated by the descriptive Table II.

Comparison of Incremental Cost of Debt with Return on Assets during the Pre-slowdown Period and Slowdown Period

It is evidently prudent on the part of companies to raise new debt at a rate which is lesser than the rate of return on assets to have favourable financial leverage and thereby, contributing positively towards the magnification of earnings per equity share. It is possible that financial leverage employed by the companies may turn out to be unfavourable for the reason that, they were unable to earn return on assets lesser than that of cost of debt. But it is expected from the companies to at least raise new or incremental debt at a rate lesser than that of rate of return on assets. To examine how financially prudent the companies had been in raising new debt, the upcoming analysis has been undertaken. The incremental [Kd.sub.BT] has been compared with the average [ROA.sub.BT] corresponding to pre-slowdown period and slowdown period to find out the favourability/unfavourability of the new debt employed in the capital structure. If the incremental KdBT comes out to be lesser than that of [ROA.sub.BT], the firm is assumed to be prudent in raising the new debt and viceversa.

To calculate the incremental [Kd.sub.BT], firstly, the figure of debt raised has been taken from the cash flow statements (given under the heading cash flow from financing activities) of each financial year under study. To arrive at the interest paid on the new debt, the proxy taken is the difference between the interest expenses of the year in which debt has been raised and its immediately preceding year. Subsequently, the amount of incremental interest expenses arrived at, has been divided by the new debt raised to calculate the [KdB.sub.T]. Finally, the average of the incremental [Kd.sub.BT] for the pre-slowdown and slowdown years has been computed separately. To gauge the favourability/unfavourability of the incremental financial leverage employed, the figure of [Kd.sub.BT] arrived at has been compared to the average of [ROA.sub.BT] for the pre-slowdown period and the slowdown period. The results of the same have been illustrated through the Table IV.

The results of comparison between incremental cost of debt (before tax) and return on assets (after tax) during the pre-slowdown period and the slowdown period have been depicted in the Table IV. A total of 114 companies out of 250 companies have issued new debt in the slowdown period as against 95 companies that have raised debt during the pre-slowdown period. As far as the favourability/unfavourability of the incremental financial leverage employed in the capital structure is concerned, during the pre-slowdown period out of 95 companies that have raised new debt, 22 companies employed unfavourable financial leverage. It connotes that the average return on assets (before tax) of these 22 companies had been lesser than that of the cost of raising new debt. Above all, out of 114 companies that have raised new debt during the slowdown period, the companies had been 56 in number that raised debt at a rate higher than that of the average return on assets. The probable reason for the same might be the increase in risk premium reflected through interest rates on account of heightened uncertainty caused by global recession. The analysis of financial leverage reveals that there had been 73 and 135 companies in the pre-slowdown period and slowdown period respectively that had employed unfavourable financial leverage. Moreover, there have been 22 and 56 companies in the pre-slowdown period and slowdown period respectively that raised new debt at a cost higher than that of return on assets. Thus, the financial leverage operated in the opposite direction for these companies i.e. instead of contributing positively towards magnification of earnings per share, it has deteriorated the earnings per equity share of the companies in question.

Conclusion and Implications

Debt redemption management becomes an issue of great concern, especially during the tough economic times when the liquid resources of companies are constrained. However, the analysis reveals that most of the companies had not been prudent in creating funded reserves against debt employed during the favourable economic years as well. As far as the analysis of financial leverage is concerned, many of the sampled companies have been found employing unfavourable financial leverage even during the pre-slowdown period. From the amalgam of theory and findings of the study, the present research work suggests some recommendations to the companies so as to reduce their vulnerability to future macroeconomic crises. The companies are suggested to create funded reserves against debt during the favourable economic times under the purview of debt redemption management so that debt redemption does not present unpleasant situations like debt restructuring or liquidation before them. The companies should also provide for flexibility in their capital structure by issuing convertible debentures. The feature of convertibility attached to the debentures may prove to be a boon to the companies during an economic downturn because in the event of liquidity crisis, the companies can opt for conversion of debentures into equity shares, if due for redemption. This remedy is in the nature of financial prudence as the convertibility feature added to the traditional debentures can save the companies from running the risk of liquidation in the event of default in paying off their debts. The companies are also suggested to employ favourable financial leverage in their capital structure so as to achieve the objective of shareholders' wealth maximisation.

Priyansha Mahajan

Assistant Professor, Sri Aurobindo College of Commerce and Management, Ludhiana.

Fulbag Singh

Professor, Dept. of Commerce, Guru Nanak Dev University, Amritsar, Punjab.

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Table I--Creation of Debenture Redemption Reserve (DRR)

DRR as a      Pre-Slowdown    Slowdown
percentage     Period (No.     Period
of            of Companies)    (No. of
Outstanding                   Companies)
Amount of
Debentures

0%             13 (34.2%)     9 (25.7%)
1%-20%          7 (18.5%)     10 (28.6%)
21%-40%          8 (21%)      5 (14.3%)
41%-60%         1 (2.6%)      4 (11.4%)
61%-80%         3 (7.9%)       3 (8.6%)
80%-100%        6 (15.8%)     4 (11.4%)
Total           38 (100%)     35 (100%)

Source: Author's Own Compilation

Table II--Results of Cross-Tabulation Relating to Favourable/
Unfavourable Financial Leverage

                Financial      Slowdown Period (No.       Total
                 Leverage         of Companies)

                              Favourable   Unfavourable

Pre-Slowdown    Favourable       104            73         177
Period         Unfavourable       11            62         73
(No. of           Total          115           135         250
Companies)

Source: Author's Own Compilation

Table III--Results of McNemar's Test Relating to Financial Leverage

Chi-Square       Pre-Slowdown Period &
Value               Slowdown Period

N                         250
Chi-Square (a)          44.298
Asymp. Sig.              .000

(a.) Continuity Corrected

(b.) McNemar's Test

Source: Author's Own Compilation

Table IV--Results of Cross-Tabulation Relating to Favourable/
Unfavourable Financial Leverage

Financial Leverage   Pre-Slowdown      Slowdown
(Incremental Debt)   Period (No.     Period (No.
                     of Companies)   of Companies)

Favourable                73              58
Unfavourable              22              56
Total                     95              114

Source: Author's Own Compilation
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Author:Mahajan, Priyansha; Singh, Fulbag
Publication:Abhigyan
Article Type:Report
Geographic Code:9INDI
Date:Apr 1, 2017
Words:6343
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