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Sunday, September 02, 2012

Know more about Company Fixed Deposits

What are company fixed deposits?
Fixed Deposits in companies that earn a fixed rate of return over a period of time are called Company Fixed Deposits. Financial institutions and Non-Banking Finance Companies (NBFCs) also accept such deposits. Deposits thus mobilized are governed by the Companies Act under Section 58A.

How are they different from Company Equity?
when you purchase a Company Equity (shares), you become a part of the company and share the profit and loss of a company depending on the company performance. Unlike being a shareholder of a company, here you are loaning a fixed amount to a company for a fixed tenure so that they can go ahead with their business . investments. You expect a fixed return irrespective of the company performance.

How are they different from Bank Fixed Deposits?
Company Fixed Deposits are done directly with companies and not with intermediate banking institutions. Since you are directly depositing your money with the company, you have more risk and also you get more returns.

Why to invest in Company Fixed Deposits?
a) Company fixed deposits will give you a higher return than comparative bank fixed deposits. This is because of the additional risk. e.g. Shriram Transport Finance FD was offering 12% CAGR during August 2012 when the maximum FD return available from a Bank FD was 9.5%.
b) You can invest for a shorter lock in period like 6 months.
c) Company Fixed Deposits are non transferable that means there is no fear of FD receipt being stolen. In case it falls into wrong hands ,it cannot be misused. The FD holder in such a case should write to the company which shall issue duplicate deposit receipt upon execution of an indemnity and cancel the previous one. 
d) No Income Tax is deducted at source if the interest income is up to Rs 5,000 in one financial year. Investment can be spread in more than one company, so that interest from one company does not exceed Rs. 5,000
 

What are the risks associated with Company Fixed Deposits?
a) These deposits are unsecured, i.e., if the company defaults, the investor cannot sell the documents to recover his capital, thus making them a risky investment option.
b) It is difficult to choose the right Fixed Deposit in the absence of a 'rating'. This is because apart from NBFCs and housing finance companies, other companies need not go for a rating for their fixed deposits.
c) Company fixed deposits have higher risk than bank fixed deposits because these type of deposits are unsecured, if the company goes bust you will lose your money, and unlike banks, they don’t have any backing of the RBI. RBI does not rate company fixed deposits, and in case of default by the company – RBI is not going to back them in any way.
d) Company fixed deposits may be unsecured debt, which means there is no underlying collateral, and in case of default, you won’t get the funds back by selling off your documents.

How to chose a Company for a Fixed Deposit?
a) Do look at the financials of the companies. The company must be making profits and paying dividends year after year.
b) If the company is posting sustained fall in revenues and profits, it is a cause for concern. Simply avoid companies that are making losses
c) You will be better off looking at taxes and dividends paid by the company. Since these two are cash expenditures, paid to outsiders such as government and non-promoter shareholders, there is little accounting jugglery possible here. A sustained increase in taxes paid and dividends indicates that company's business is doing well. If you can do some number crunching, do look at the interest coverage ratio - just divide 'earnings before interest and tax' by the interest paid by the company. Higher the number, the better it is. You can also look at the debt-equity ratio - total debt divided by shareholder funds. Lower the number, the better it is.
d) Look for a good rating on the deposit scheme wherever available.

Other important notes on Company Fixed Deposits
a) Company fixed deposits are rated by Rating Agencies. The rating agencies hand out ratings to the particular offering, and that can help you make a decision. For example, The Shriram Transport Finance FD scheme was rated tAA (investment grade) by Fitch. These ratings can help raise flags if any offering is rated low, and you can possibly avoid such fixed deposits.
b) Today, investors have many such options like Ansal Housing, Apollo Hospitals, Unitech, Bilcare, Godrej Properties and Unitech. Typically, one can earn around 9-12% from these company fixed deposits.
c) In case of companies listed on stock exchanges, you can get yearly and quarterly numbers of these companies on websites of the exchanges.You can get most of the information about a company when you go to your securities account or visit other common websites like http://www.nseindia.com/ or http://www.moneycontrol.com
d) Company fixed deposits are not always unsecured debt. In some cases, they issue secure debt as well.

    Like most investing decisions, whether you invest in these things or not, and how much money you do will depend on your particular circumstances. If you prefer safety over everything else, then it is best to leave these things alone. If you have a moderate risk appetite then you might as well try investing money with some of the better known companies.
    A beginner in this field may be lost in the numbers game. Hence it is better to stick with companies that are accepting fixed deposits for a long period of time. A long track record surely offers some comfort.

    An extra 1 to 2 % of interest earned through thoughtful investment in a consistent manner in company fixed deposits can go a long way in fast pacing your financial freedom. The reason for that is simple. There is an amazing power in compounding.

    Cheers
    Manoj Arora

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    2 comments:

    1. Good post, i really like the part that says if you are beginner player then you should look into investing in companies offer company fixed deposits for longer periods and have sound books.

      ReplyDelete