Should you wait for later tax free bond issues or invest in the REC issue?

REC is the first company to come out with tax free bonds this year, and I have written about them earlier last week. In that review I said that there is not much difference in bonds from different companies and it doesn’t really matter which company you buy the bonds from.

However, Shiv pointed me to a review of REC bonds by Business Line in which they recommend that you buy these bonds instead of waiting, and their rationale makes sense to me.

The interest rates on these bonds are capped at the maximum G-Sec rate of comparable maturity and BL states that if interest rates were to go down in the near future, something which the RBI could do because of growth slowdown, then the later issues that hit the market will be at a lower rate than the REC issue.

This is akin to what happened this year when the rates are lower when compared to the issues that came out last year. I think that the chances of a rate hike are very unlikely so if you are just procrastinating and don’t have a good reason to wait then go ahead and buy the REC tax free bonds.

Now let me emphasize here that I’m not saying that these bonds are the greatest investment on the planet and everyone should go out and buy them today, there are certainly other options depending on your situation and Ashok has given a good example of one in his situation.

I’m simply stating if you want to buy tax free bonds from the primary market this year,  then it is a good idea to do so now instead of waiting for other issues which might have a better rate. No one knows the future, but the odds of interest rates going lower is a lot greater than interest rates going down.

Should you book profits in last year’s tax-free bonds to invest in new tax-free bonds?

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at

I was reading an article a few days back which had the headline “Why one should book profit in existing tax-free bonds and invest in new issues” and a couple of financial experts shared their views that investors should book profits in the existing tax-free bonds and invest the sale proceeds in the new issues like the currently running REC tax-free bonds.

Sanjay Shah raised a similar query here yesterday. This is what he had to say:

Sanjay Shah December 3, 2012 at 5:33 am

Hi Manshu / Shiv,

I had been allotted 1,000 bonds of REC in it’s March 2012 issue. Period is 15 years carrying an interest of 8.12% (HNI category). It’s currently listing at a premium of 9%. Given that I am in the 20% tax bracket and that the sale of the REC bonds will mean profits earned will be added to my income, plus 0.5% brokerage charge, do you recommend I sell those and re-invest in this issue? (and thus replace myself in the Retail category).

Additionally, I had been allotted 336 bonds of PFC in it’s February 2012 issue. Period is 10 years carrying an interest of 8.2% (HNI category). It’s currently listing at a premium of 6%. Given that I am in the 20% tax bracket and that the sale of the PFC bonds will mean profits earned will be added to my income, plus 0.5% brokerage charge, do you recommend I sell those and re-invest in this issue? (and thus replace myself in the Retail category, plus net a 15 year bond instead of a 10 year bond).

I had invested in the earlier bonds with a view of keeping them till end of tenure and the same holds true this time as well. However, I don’t have enough funds to remain invested in all three issues and hence need to decide if I should shift which series I am invested in.

Thanks in advance.

Here is what Manshu had to say in response:

Manshu December 3, 2012 at 7:11 am

Based on your situation I don’t see any value in selling and shifting to a lower interest bearing bond. If anything, the decline in interest rates will mean that the premium on your existing bonds go up even more.

Here is what I had to say in response:

Shiv Kukreja December 3, 2012 at 4:45 pm

Hi Sanjay… If I were at your place, with funds limited for two investments only, I would have kept my investments in the old tax free bonds only. This is because of two reasons – first, if you sell your old bonds in the markets now, you’ll have to pay STCG tax on the capital gains made till date as per your income tax slab. Second, the market value for these new bonds would be as per the yield to maturity (YTM) for the new buyer and not as per 7.88% or 7.72%.
But, if you can manage to hold your old bonds for 2-4 months more till your investments complete one year and you also manage to buy and hold the new bonds till their maturity, then probably it makes sense to try replacing yourself in the Retail category. This would result in a YTM of 7.88% or 7.72% for you. Am I clear to you or was it too complicated?

Taking from there, I have a view that if you are in 30% or 20% tax bracket, it is not a great idea to invest in this year’s tax-free bonds with the proceeds from the sale of last year’s tax-free bonds. Firstly, you will have to pay short-term capital gain (STCG) tax as per your income tax slab. So, your returns would effectively get reduced by the STCG tax you pay and also by the brokerage you pay when you sell your existing bonds.

Secondly, as all new issues will carry the “Step Down” feature and the buyers of these bonds in the secondary markets will not get the additional coupon rate of 0.50% per annum, these new tax-free bonds will always trade at a market price factoring into the reduced coupon rate.

Also, as Manshu pointed out, the decline in interest rates will mean that the premium on your existing bonds go up even more. This is because the existing REC tax-free bonds are already trading at a higher yield to maturity (YTM) of 7.49% as compared to the original coupon rate of 7.38%. So, if the yields of both these bonds are equal, then either the old tax-free bonds will appreciate in value or the new tax-free bonds will fall in value.

In what situation or when should you book profits in the old tax-free bonds?

1. If an investor wants to book profits, he/she should do that either after completion of 1 year from the date of allotment or after the next ex-interest date. Investors in the 30% or 20% tax bracket can save their tax outgo by selling these bonds after a year and pay only 10% flat long-term capital gain (LTCG) tax on these listed bonds. Moreover, the market price of these bonds fall two days before the ex-interest date. So, one can sell these bonds after this date to minimise their tax outgo.

2. If you are 100% certain that you will hold these bonds for more than 7-10 years, then also you might think of selling the existing bonds. But, there would not be extraordinary gains out of it.

Many of the brokers might encourage you to sell your existing investments in tax-free bonds to invest in the new tax-free bonds. I would say you should do your homework first and your objectives must be clear before you follow your broker.

Book Review: Makers: The New Industrial Revolution

Makers is the most amazing book I’ve read in recent times, and I’m not surprised that I liked this so much because it is about one of the things I’m quite fascinated with viz. 3D printing.

The book is by Wired editor Chris Anderson who is actually in the process of quitting Wired and doing his startup which is around 3D printing full time.

Chris Anderson takes a look at the current state of 3D printing, traces its history and talks about how this is changing the way manufacturing is done currently, and what it means for the industrial economies of the future.

For a long time now, people have been saying that the future of manufacturing is no longer assembly lines, and this book does a lot more than that in terms of showing what people are currently doing with this technology and how much it could potentially change our lives in the future.

I learned about a lot of new things from the book in terms of things currently done like the Kickstarter project, 3D printing in biology, how cheap 3D printers were, additive and subtractive technologies, CNC machines, laser cutters etc. but most of all the macro view on how all this is changing our lives and what manufacturing could look like is very insightful and I don’t think it has even been written before.

It shouldn’t surprise you then that Makers also figures in FT’s list of best books of 2012. I highly recommend this book and will end this short review with small passage from the book that sums it up nicely.

the Third Industrial Revolution is best seen as the combination of digital manufacturing and personal manufacturing: the industrialization of the Maker Movement.


CARE (Credit Analysis and Research) is coming out with its IPO and the issue opens on the 7th December 2012 and closes on the 11th December 2012.

They have fixed a price band of Rs. 700 – Rs. 750, and based on this the issue size is approximately Rs. 500 crores.

CARE is a well known credit rating agency, and the company rates debt instruments that are issued in the Indian markets. Though the company rates IPOs as well, most of its revenues are generated on rating debt instruments, and the business is dependent in on how well the market for new debt issues is doing.

CARE is the second largest credit rating agency in India and was the third credit agency to be set up in India after CRISIL and ICRA.

CARE Financials

It is quite a profitable company and has grown at a scorching pace of 55.6% CAGR in the five year period leading up to 2011. For some reason the prospectus doesn’t have number for 2012 and I couldn’t find these financials elsewhere.

The EBITDA margin is an amazing 77.1% and the PAT margin is equally impressive 51.6%. The company has no debt, and it’s net worth is Rs. 3,024.20 million. That’s about Rs. 106 per share.

Here is the total revenues and profit after taxes for the last 3 years in Rs. Millions. For some reason the prospectus doesn’t have numbers for 2012.





Total Revenues




Profit After Tax




This gives an EPS of Rs. 31.9 for 2011, and at Rs. 700 which is the lower end of the price range, the P/E multiple comes out to be about 22.

The company already has Rs. 106 per share in assets so you can really think of the offer price as Rs. 600 and at that price the P/E multiple comes out to be Rs. 18.8 times.

Its competitors CRISIL has a P/E multiple of about 37 and ICRA has a P/E multiple of about 26 so CARE has certainly priced its IPO quite reasonably.

CARE Capital Structure

CARE isn’t issuing any new shares for this IPO and is offering existing shares for sale. This means that the equity base of the company isn’t increasing the earnings won’t be diluted to the extent of the new shares issued like in the case of other companies (Bharti Infratel in an example) where new shares are issued.

  • Existing outstanding shares: 28,552,812
  • Present offer for sale: 7,199,700
  • Shares after IPO: 28,552,812
This also means that money from this IPO will not go to the company but rather to the companies that are selling their shares in CARE.
The companies that are selling their CARE shares are IDBI Bank, Canara Bank, SBI, IL&FS, Federal Bank, ING Vysya, Tata Investment, IL&FS Trust and Milestone Trusteeship. Of this, IDBI Bank and Canara bank are selling over 2 million shares.


CARE IPO is an IPO of a good profitable company that has shown good growth and is reasonably priced. There’s everything going for the company but as far as IPOs are concerned you can never really say what will happen to the stock price. In fact this IPO reminds a lot of the MOIL IPO which was quite similar in terms of being reasonably priced, debt free, good growth but somehow that stock didn’t do well after its IPO. I think a large part of that is just the timing of IPOs where they are issued when the market is doing well, and of course when the market goes down (which it inevitably will) everything goes down with it, and even good companies fare badly, and that’s why IPOs should be treaded carefully even of good companies.

Bharti Infratel IPO Review

Bharti Infratel’s IPO is the biggest after Coal India’s IPO back in October 2010, and I think I didn’t do a single IPO review in between these two as there weren’t many good companies that came out with IPOs in that duration.

The price band of the Bharti Infratel IPO has already been decided between Rs. 210 and Rs. 240, and they are offering 10% of the equity (188.9 million shares) which makes this a roughly $825 million or Rs. 4,500 crore IPO.

Bharti Infratel Overview

Bharti Infratel is a subsidiary company of Bharti Airtel and it is the tower infrastructure provider to cellular phone companies. The company builds, operates and runs tower infrastructure for wireless telecom providers. It is going to be the first listed company of this kind as Reliance Infratel which had plans to list earlier this year didn’t go through with its IPO. 

However that doesn’t mean there aren’t other companies in this business. This is a very competitive market and there are many players in the tower business (though not listed), there are players like BSNL and MTNL who handle their own portfolio, then subsidiaries of companies like Reliance Communications and Tata Teleservices, independent companies like GTL Infrastructure Limited, American Tower Corporation, Aster Telecom Infrastructure Private Limited and Tower Vision India Private Limited.

The interesting thing about Bharti Infratel is that although is a subsidiary of Bharti Airtel, it has ownership stake in another tower company called Indus and through that Bharti Infratel provides tower infrastructure service to not only Bharti Airtel, but Vodafone and Idea Cellular as well.

This ownership structure is shown in the chart below that I took from the prospectus.

Bharti Infratel IPO Ownership Structure


Bharti Airtel owns the majority stake of 86.1% in Bharti Infratel and Bharti Infratel in turn fully owns Bharti Infratel Ventures that it uses for its business, and then it has a 42% stake in Indus Towers as well.

Indus Towers is a joint venture between Bharti Infratel, Vodafone India and Aditya Birla Telecom and while Bharti and Vodafone own a 42% stake in the company, Aditya Birla Telecom holds a 16% stake.

All of this then begs the question – how much money does Bharti Infratel make from its parent company and how much money does it make from other customers?

In 2012, Bharti Infratel’s consolidated revenues were Rs. 95,970.6 million. Indus revenues were Rs. 121,033.6 million, and Bharti’s Infratel’s 42% stake gives them Rs. 50,834.11 million from that. So, approximately 54% of Bharti Infratel’s revenues come from its stake in Indus.  The take-away from this is that although the name and the 86% ownership stake of Bharti group may connote that the company depends on its promoter for the bulk of its revenue, that’s not quite the case and it also gets significant revenues from Vodafone and Idea Cellular.

Bharti Infratel Financials

The telecom sector has shown tremendous growth in the last few years, so it is no surprise that Bharti Airtel has also done pretty well in that time period.

Here are Bharti Infratel’s key financials for the last few years (In Rs. Millions):


Year Ended

March 31st 2012

Year Ended

March 31st 2011

Year Ended

March 31st 2010

Year Ended

March 31st 2009

Total Income










Profit After Tax





The company also has a positive operating cash flow and has negligible debt, so it is in a good financial position.The diluted EPS for the 2012 was Rs. 4.29 and that gives you a rather high P/E multiple of 48.9 on the lower range of the IPO price band.

Bharti Infratel Capital Structure

The company currently has 1,742,408,730 shares outstanding and it’s going to issue 146,234,112 new shares during the IPO, the remaining 42,665,888 will be offered by existing shareholders. This means that the new number of outstanding shares of the company is 18,886,428,420.

Existing Shares
New Issue 146,234,112
Total outstanding shares after the IPO 1,888,642,842

Based on the new number of outstanding shares and Profit After Tax last year of Rs. 7,507.3 million, you can calculate the new EPS post listing to be Rs. 3.97 and the new P/E multiple based on that as 52.9 times.

The company’s profit for the first quarter of 2012 was Rs. 2,130.7 million, and if you simply multiply it by 4 to annualize it you get Rs. 8,522.8 million and at that rate the projected EPS for the next year will be Rs. 4.51 and P/E multiple will be 46.5 times.

This valuation seems to be on the higher side to me, but Reuters has a story that talks about analysts using the EV / EBIDTA method and based on that number, the analyst concludes that the Bharti Infratel IPO is cheaply valued.

Objects of the Issue

The IPO will include a combination of shares from existing shareholders and fresh issue of shares from the company. So only a part of the money raised from this issue (fresh shares) will go to the company. The rest will go to the existing shareholders.

That part of the money raised will go towards installation of new towers and upgrading existing towers. The prospectus lists down that the funds raised will be utilized to install 4,813 towers among other uses for the funds.

 Issue Open and Close Date

The IPO will open on December 11th 2012 for retail investors and will close on December 14th 2012, and will offer investors an opportunity to invest in a company that gives them exposure to a new area as no other company is tower business is currently listed. The financials of the company are good, and so it’s only a question of valuation and people investing in the company will have to take a call that the IPO is fairly valued, and that they won’t be able to get this share at a lesser price in the future after the stock starts trading in the market.

SBI Life – Smart Income Protect Review

SBI Life Insurance has come out with a new traditional participating plan called SBI Life – Smart Income Protect. Under this plan, you pay a certain premium for 5, 10 or 15 years, and after that the plan pays you a guaranteed amount every year for the next 15 years. You can also choose to get a lumpsum paid at maturity. There is an insurance component to the plan as well.

Returns of SBI Life Smart Income Protect

The returns of this plan are divided into two parts – the guaranteed part and the non guaranteed part.

Let’s look at the guaranteed returns from this plan first. You get 11% of the sum assured every year for 15 years after you have paid for 5, 10 or 15 years based on which plan you choose.

The Smart Income Protect plan page has a very helpful calculator that allows you to input your details and shows you how much your premium is expected to be. The payout is of course 11% of the sum assured so that part doesn’t change.

The non guaranteed part is the sum that you will get as lumpsum based on the discretion of the company, and based on how much profits they have themselves generated. The benefit illustration shows this at 6% or 10%, which is the standard number all insurers pick to show these type of calculations.

I put in some details to calculate premium and payout for a 29 year old who takes the policy without any riders and got the following details. (Click to enlarge)

SBI Life Smart Income Protect


I have created this spreadsheet for calculating the return on this policy and it shows that if you only consider the guaranteed returns then the IRR of this policy is 2.3%, if you consider the bonus they have shown at 6% then your IRR is 4.01% and if you consider the bonus at 10% then your IRR is 5.30%.

The one thing to note about this IRR calculation is that I have included the value of service tax in the cash outflow as well, and that may change to a higher or lower rate in the term of your policy.

Insurance Component of Smart Income Protect

The plan offers life insurance and then you have the option to choose up to four of the following riders:

  1. SBI Life – Accidental Death benefit rider (UIN: 111B015V01)
  2. SBI Life – Accidental Total & Permanent Disability benefit rider (UIN: 111B016V01)
  3. SBI Life – Criti Care 13 Non Linked Rider (UIN: 111B025V01)
  4. SBI Life – Preferred Term Rider (UIN 111B014V01)

You have to remember that any such plan will at best partly fulfill your insurance needs, and if you want to really insure yourself then the term plan is the best way to go where you can get a large amount insured with relatively lower premiums.

If you have a term plan, then these type of plans will help you supplement that insurance but on their own, this won’t fully take care of your insurance needs. Other than that, this looks like a fairly standard offer for these type of plans.

Tax Benefits Under Smart Income Protect

The most important tax benefit is under Section 80C, where the premium can qualify for tax deduction within the overall 80C limit. If you choose the Criti Care 13 Rider then that’s eligible for tax deduction under section 80(D).

In the last budget they put in a condition that if the premium exceeds 10% of the sum assured in any year then the premium won’t be eligible for 80C deduction.

The way this plays out in these type of policies is that if you choose a term of 15 years then the premium will be less than 10% of the sum assured but then if you chose a period of 5 years then it will certainly be higher than 10% of the sum assured. I think the 10 year range is somewhere in between but this is something you have to keep in mind if you want the tax benefit.

Look at what the premium is and if it’s greater than one tenth of the sum assured then you aren’t eligible for the 80C deduction.

Now, should you opt for a higher term just because of this reason? That’s a lot harder to answer and you have to also consider that there are so many other things you can buy that will be eligible for 80C deduction that this question could just become irrelevant.

Surrender Value of Smart Income Protect

The surrender value ties in nicely to the question of the term of plan because you really stand to lose a lot if you surrender the plan, and that’s true for all plans in general, and for that reason if you’re making a long term commitment you should be ready to go through it.

In the case of this plan, if you surrender before the lapse of the first two years then you don’t get anything back, and if you surrender after that then you get 30% of the premiums paid excluding the premium paid in the first year so you can see for yourself how much you stand to lose if you surrender the plan. The surrender value doesn’t consider the rider premiums. This is the guaranteed surrender value and then there is a non guaranteed surrender value which is calculated based on factors like demographics and product performance, but I think it’s safe to say that you should expect to lose a lot if you’re not able to go through the term of the policy.

Rebates under Smart Income Protect

There are certain rebates available if you insure over a certain amount as shown in this table.

SBI Life Smart Income Protect Rebate

I think this covers all the main aspects of the policy that I could think of and if you have any questions or think that I’ve left something out then please leave a comment.

Weekend Links for the last day of November

Let’s start this week with a pressing issue of our time viz. Section 66A of the IT Act that’s being used to detain people for posts on Facebook or Twitter, and the language of the act really lends itself it these type of actions.

The Supreme Court has agreed to hear a PIL seeking scrapping of 66A, and I’ll be watching this with keen interest as it is a really important cause in my mind.

This week was a good one for Indian investors as a Goldman Sachs upgrade of Indian equities helped fuel a small market rally.

Investment Yogi compares the RGESS with ELSS.

MediManage reviews HDFC Ergo Super Top Up Health Insurance.

A fascinating piece about growing food in the desert.

Some great lessons from a successful start-up founder.

Finally, Chris Anderson has some great productivity tips.

Enjoy your weekend!