Dear Friend,

Thank you for visiting my Blog. Not all of us were born in a rich family and we always think about retiring as a CROREPATI. Thinking is one thing, have you done anything to achieve that dream?

In order to become rich, you have to invest and do it wisely. For that you need knowledge and ideas. There are a few good books that I have published which you can buy for a nominal price which can help you with that.
With the New Year on the horizon, the price of all the books have been slashed by 50% or more.

To know more about these books, their price and check out a sneak preview, please Click Here...


Best Wishes!!

Anand

Wednesday, February 23, 2011

Thoughts to Ponder Before Filing your Income Tax Returns

It is that time of the year when everyone is scrambling around to save tax. Oh yes. Its February and by March 31st the financial year is over and everyone is running around trying to figure out options to save their income tax. And it wouldn't be appropriate if I don't write something for my friends who are in the same mood. This article is going to be about things you need think of and consider before making investments to save your income tax.

So, lets get started!!!

What is Income Tax?

Before we get any further, it would be most appropriate to refresh to everyone what Income Tax is. Income Tax is the money every individual owes to the Government in the country where they work and earn an income. So, everyone who works in India and earns an income has to pay income tax to the Government of India. Now, with that being said you are probably saying “I know that already Pal, get down to business will you?”

Oh yes, I will. Just one more thing. The government of India has certain rules on the tax income slabs and the ways that an individual can reduce his income tax liability. All that info that bores you to death can be found below:

Income Tax in India

Changes in Indian Tax Laws for the financial year 2010-2011

Is Saving Tax Good?

Of course yes. I have said it a zillion times and I wouldn't mind saying it again. “Saving Income Tax is Good” for the following reasons:

1. You pay a lesser amount to the government as Income Tax
2. You get to save some money for your future.

We need to Change our Mindset

Yes, you read it right. We need to change our mindset. Everyone looks at investment as an opportunity just to save tax. On the contrary, investment is something you do to save some money for your future and the tax benefit is just an added bonus. The motivation to invest should be to safeguard our financial future and not saving income tax. I normally find that we tend to think about tax first and investments later. As long as something saves tax, we overlook its characteristics as an investment. Most of the time, deciding on investments at the last minute means that they are chosen more for convenience/availability than suitability.

Why should we consider the Characteristics of an Investment?

Because “IT IS OUR HARD EARNED MONEY”. Investing in something that you are not really sure of can effectively mean that “You are flushing your hard earned money down the toilet”
That might sound a bit exaggerating, but the fact is, bad investments can hurt our wallet pretty bad. Just because you save Rs. 30000/- you cannot go and invest in some junk investment option that is gonna rip you off the whole 1 lakh you invested in it. What good would that make? Get the Point?

Given the mandatory lock-in period in all tax-saving investments, it makes sense for investors to carefully consider this factor before blindly investing/locking their money in them.

There are numerous options that are available to save tax. You may want to look at this article for more details about how to save tax using investments by “clicking here

Questions to Ask Yourself before making an Investment Decision to Save Tax:

Since taxes are paid on a yearly basis, tax planning becomes an important activity in the process of saving the amount that a person is entitled to legally (Of course, legally. I wouldn't suggest anything that is illegal, would I?).

However, we need to be careful to consider the following before investing. Lets look at them one by one.

1. What are my Requirements? – Short or Long Term?

This is an extremely important consideration. The aspect of the investment to be considered here is the “lock-in” period. Options like ELSS Mutual Funds have a lock-in period of only 3 years whereas options like PPF have a lock-in of 7 years. So, you need to plan about when you will need the money back before deciding on the investment option.

2. What is my risk taking ability?

This again is a very very important consideration. The returns you earn on your investment will be directly proportional to the risk you are willing to take but at the same time, risky instruments have a potential for loss too. There is no guarantee for capital in investments like ELSS because the money is invested in the stock market. Whereas, investments like NSC or PPF are fully 100% capital guaranteed. So decide on your risk taking ability and choose the investment options appropriately.

3. How much do you know about the product?

It is mandatory to check out the credentials of the investment instrument before putting our hard earned money into it. Don't go by hearsay. Do your own research or consult with your friends who are good in the finance and economics to get their opinion before finalizing an investment.

To add on “Don't believe everything your insurance agent or investment advisor from the bank. Hear everything, do your homework and then finalize the investment”

4. How would I like to invest? – One time or Periodic Intervals?

This is not a very important consideration but nonetheless a useful one. Usually stock market instruments are known to be comparatively safer if invested in regular intervals for ex: through SIP. So if you intend on investing in ELSS schemes a SIP would be a better option than a one time bulk investment.

To wrap up, we have thousands of investment options to save tax. If we plan our tax saving activity efficiently we will not only save tax but also save up a lot of money for our future.


Happy Tax Saving!!!

Tuesday, February 15, 2011

The Art of Financial Planning

In the previous article "Plan for a Better Future" we saw the importance of financial planning. In this article we are going to dig deep into step 3 which is “Design a Plan” to help you all formulate a plan that would help you achieve your financial goals.

Lets get started!!!

Things to consider while formulating a plan

Some of the things you need to consider while designing or rather formulating a financial plan are:
a. Liquidity – How liquid is the investment? Can we get money when we want?
b. Rate of Returns – How good is the investment? How much money would I earn with this investment?
c. Risk Involved – How risky is this investment? Will I get all my money back or will I suffer losses?

All the 3 above mentioned points are equally important. An investment that does not give good rate of returns to beat the inflation rate is bad and so is an investment that is too risky which may result in you losing all your money and so too is an investment that is illiquid and you cant sell it when you want the money. So we need to keep in mind all the above aspects when we plan for the future.

Asset Allocation:

Asset Allocation is very very important when it comes to financial plans. An old saying goes “Never put all your eggs in the same basket” and this is 100% true for financial investments too. For ex: when the stock market crashed a couple of years back, everyone who had investments in the market suffered losses (unfortunately I did too). Luckily some of us did not put all our money in the stock market and had some exposure to other investments like gold or bank deposits which helped us offset our losses. So it is extremely important that you have a balance asset allocation.

You can take a look at some of my articles on investment portfolios to get a good idea of the different types of them using the links below:

What is an Investment Portfolio?

Conservative Portfolio

Aggressive Portfolio

Balanced Portfolio

You can choose any of the 3 types depending on your risk appetite.

Choose your Asset Class based on your goals:

Choosing your asset class must be dependent on the goal you intend on achieving with the investment. For ex: Stock markets are very good in the long run as an investment but they are pretty risky and you may end up suffering huge losses if the market turns volatile in the short term. So if you are planning to achieve your goal of buying a car next year by investing in the stock market, you may end up with losses and not be able to fulfill your goal of buying the car.

The preferable assets classes depending on your investment/goal horizon are:

1. Short Term (< 1 year) – Stick to fixed income instruments like bank deposits and liquid cash 2. Medium Term (1 – 3 years) – Have a healthy exposure to fixed income instruments and have little exposure to stock markets 3. Long Term (> 3 year) – Have a good exposure to stock markets with a decent exposure to fixed income instruments.

Planning how much you can Invest every month:

Planning how much you can spare to invest every month is an important aspect of the financial planning life-cycle. Every month we have fixed expenses like groceries, house-rent or home loan EMI, childrens school fees, petrol expenses for car/bike etc. So, in order to arrive at the amount you can invest every month, you need to do the following:

a. Total your Earnings – Include your income (and your spouse’s income if they are employed) and all other earnings like rental income, bank interest etc
b. Assess your monthly expenses – Include all fixed monthly expenses like rent, electricity bill, telephone bill, petrol expenses, school fees etc
c. Subtract monthly expenses from earnings
d. Subtract any extra expenses – for ex: scheduled car maintenance/service, trips to the doctor, holiday/festival related purchases etc
e. Keep a cushion – Always keep a fixed sum (say 5% or 10% of your monthly salary) as liquid cash in a bank account to meet emergency expenses. This is to ensure that, you don’t eat out of your investments that are designed to achieve a long term financial goal to meet your current cash requirements
f. Subtract cushion from the amount remaining after subtracting monthly & extra expenses from your earnings

This is the amount you can invest every month for your financial future.

Time for Action:

Once you know how much you can save every month, you can then decide on the instruments you wish to invest this amount and then voila!!! You are on your way to a good financial future.

Happy Investing!!!

Plan for a Better Future

Planning for the future is something that we have learnt ever since we were kids. The story of the hard working Ant and the lazy Grasshopper was taught to us when we were in school. We were told that the Ant worked hard and saved food to help itself during the winter while the grasshopper enjoyed during summer and starved during winter.

I guess you are getting a fair idea of what I am going to tell you in this article. Yes, it is about planning for a better future. We all study hard with the aim of getting a nice paying job. Because, without a job you cannot get married, without marriage you cant have kids and so on and so forth. So, in order to settle down in life, we need money and I mean a lot of it. Am not trying to be boastful or pessimistic here, but the fact is, money has become one of the most important aspect of an individuals life (second only to love and family)

Every individual who is in a job and is earning, needs to plan for his financial future. Things like, marriage, childrens education, retirement are in the back of all our minds. This article is about planning our future in a way that would benefit us in the long run.

Lets get started!!!

The following section will have 3 items:
1. Step – The activity under consideration
2. TODO – What we must do

Step 1: Assess your financial health

Before we start charting out a plan for our financial well-being, it is most important to assess our current financial health. It would give us a good idea of where we stand and what needs to be done to reach the place we intend on being. Not all of us have a father who is a TATA or an Ambani. We are all sons and daughters of hard working middle class individuals who have struggled all their lives to give us a better education and eventually a better life. So the onus is on us to make sure that we make the most of it.

TODO: Analyze your savings, loan commitments, investments etc and figure out your current financial status. For ex:

Savings in Bank: Rs. 1,00,000/-
Stock Market Investments: Rs. 5,00,000/-
Car Loan: (-) Rs. 3,00,000/-
Home Loan: (-) Rs. 25,00,000/-
Annual Salary: Rs. 7,50,000/-

If you see the example above, the current status of this individual is pretty grim because he has loan commitments worth 28 lacs and has an annual income of 7.5 lacs and has investments worth 6 lacs. Even if he happens to use all his savings and all his income to pay off the loans, he will need 3 years to do that. This isn’t so nice is it?

Step 2: Identify your goals

The next step to a better financial future is to identify our goals. It could be like “I wanna buy a BMW in 2015” or “I want my son to study in Harvard” etc. It is just what our goal is. As expected, the goal involves a certain amount of money.

TODO: List out your goals one after the other and assign a rough value against it which we must save within the specified time frame in order to achieve our goal.

Ex:

Buy a Car in 2015 – Amount Required: Rs. 5,00,000/-
Daughters Marriage in 2025 – Amount Required: Rs. 10,00,000/-
Sons education in Harvard starting 2020 – Amount Required: Rs. 25,00,000/-

This would give us a fair idea of how money we need for our future goals.

Step 3: Design a Plan

This is probably the most important aspect of them all. Based on our goals and the timeframe we need to come up with a plan using all our available resources.

TODO: Calculate the amount required for each goal and figure out, how much you can spare to save/invest every month in order to achieve that goal.

For ex: Goal – Buy a car in 2015 – Rs. 5,00,000/-

As of today (Feb 2011) there are still almost a full 4 years till the target date of 2015. so if we manage to save Rs. 1.25 lacs every year, in 4 years we will have 5 lacs to buy our dream car. 1.25 lacs every year equals Rs. 10,000/- every month.

So, to achieve this goal, I would have to invest Rs. 10,000/- every month (in some sort of savings scheme, it could be stocks, bank deposits, gold etc etc) for the next 4 years and I will have 5 lacs to buy my car in 2015

Step 4: Execute the Plan

Do I have to say that, this is the hardest part of the plan? Planning to invest a certain amount every month is easy, executing it is extremely difficult. It is our duty to stick to the plan we formulated in step 3 and execute it properly.

TODO: Make sure you spare enough money to meet the plan designed in step 3 every month.

Alert: It is easy to skip the plan when you need some extra cash due to some unexpected situations. I repeat, it is very easy. But if we happen to do that, we will not be reaching our goal. So it is important that we stick to the plan as best as we can.

Step 5: Review the Plan

Every year, as our income and expenditure goes up, we need to review our plan. A plan for a better financial future is not a one time activity. We need to review it yearly and make sure we accommodate the change in value of our goals.

TODO: Check out the cost associated with each of your goals and maybe include new goals into your list or remove completed goals from the list every year. Make sure you make changes to the investment plans to adjust for the new entries added or existing entries removed/modified.

A car that you planned to buy in 2015 which was Rs. 5 lacs today may be 6 lacs in 2014. So, the rate at which you are saving every month wouldn’t be enough to buy your car. So in 2014, when you review your plan, you must accommodate the increased cost and adjust your savings in a way that you will end up with 6 lacs in 2015 and meet your goal.


Conclusion:
To wrap up, let me say that financial planning is very important and every individual who wants a good financial future must take some time to chart out a financial plan for themselves.

All the very best and Happy Investing!!!

Tuesday, February 1, 2011

Types of Private Equity

In my previous article "Private Equity" we saw what Private Equity is and what its purpose is. There are many different types of Private Equity that are available. In this article, we shall take a detailed look at all of them one by one

Venture capital:

Venture Capital involves the financing of start-up companies. These companies generally don’t have the ability to source capital from traditional sources like banks or public markets as they are in the early stages of their life cycle and often generate negative cash-flows. So, rich individuals who can afford to take huge risks usually invest or rather fund such new business ventures.

Financial is provided during the following 3 stages:
1. Seed Stage – For research, assessment and development of an initial concept
2. Start-up Stage – To finance product development and initial marketing of the product
3. Expansion Stage – For the increase of production capacity, development of markets or products or enhancement of working capital.

Growth Capital:

It refers to equity investments, most often minority investments in relative mature companies that are looking for capital to expand or restructure operations, enter new markets or finance a major acquisition with a change in control of business. Companies often seek growth capital to finance a transformational event in their life cycle. These companies are usually more mature than venture capital funded companies. They are able to generate revenue and operating profits, but don’t have sufficient funds for major expansions or acquisitions.

Leveraged Buyout:

The objective of a buyout is to purchase a significant portion or obtain majority control of a company. Buyouts attract a bigger portion of private equity capital, both in number and size of deals, then venture capital transactions. Buyouts lend to concentrate on the later stage financing in a company’s lifecycle, thereby taking on more established and mature companies that have a steady, stable and predictable cash flows from the business. Cash flows generated by these companies can be used to pay down the debt, assuming borrowings were used as part of the acquisition process. Larger deals are usually financed by debt as well as equity. These deals are called Leveraged Buyouts or LBOs.


Distressed Debt:

These debt funds seek to acquire controlling stakes in companies that are in financial difficulties or even insolvent through the purchase of debt. They convert this debt into equity through the reorganization of the company.

Infrastructure:

Infrastructure is broadly defined as the permanent assets a society requires to facilitate the orderly operation of its economy. It is the backbone of the economy and is considered an absolute precondition to sustainable economic and industrial development. Due to the large size, cost and often monopoly characteristics of these asses, infrastructure has historically been financed, built owned and operated by the government. Infrastructure assets include:

1. Transport: Toll roads, airport, railways etc
2. Energy: Gas and Electricity transmission, power generation and distribution
3. Water: Irrigation, portable water, waste treatment
4. Communications: Broadcast/Mobile towers, satellites, transmission networks
5. Social: Educational facilities, healthcare facilities, correctional facilities

Mezzanine:

It is a hybrid of debt and equity financing that is typically used to finance the expansion of existing companies. Mezzanine financing is basically debt capital that gives the lender the rights to convert to an ownership or equity interest in the company if the loan is not paid back in time and in full. It is generally subordinated to debt provided by senior lenders such as banks and venture capital companies. Mezzanine financing is advantageous because it is treated like equity on a company’s balance sheet and may make it easier to obtain standard bank financing.

Secondary Funds:

The secondary market for private equity is a market for the buying and selling of capital commitments to private equity funds by limited partners, i.e., secondary funds purchase existing limited partnership interests from investors in private equity funds after those funds have been partially/fully invested in underlying portfolio companies.

Private Equity

Private Equity is a catch all term that is used to describe various investment strategies. Let me begin with a caution “Private Equity is not for the normal investor who invests his hard earned money in small quantities”. Private Equity products are usually available for investment only for High-Net-Worth Individuals or HNIs as they are more commonly called. This is because, these instruments carry extremely high levels of risk when compared to the normal investment options like shares, mutual funds, bonds etc. This article is just an introduction into Private Equity.

What is Private Equity?

Private Equity refers to the equity capital invested in a private company. You may be asking me how is equity held privately?

Lets say I am planning on starting a new business which requires a capital of 10 lacs but I have only 5 lacs at my disposal. I contact two of my friends who are interested in the new business I plan on starting but are not aware of the business nuances. I convince them to invest in the project promising them private equity as returns. i.e., I will create 10000 units each worth 100 rupees and give 2500 each to my two friends and retain 5000 myself (10 lacs is the total investment and I put in 5 lacs myself so I keep 5000 units or 5 lacs worth of equity myself and give 2500 each to my two friends who invested the 2.5 lacs in my project)

Now there are 10000 private shares of my company that are jointly held by me and my friends.

Aim of Private Equity:

The Aim of Private Equity is to monetize later through trade sale or buyout or an IPO.

Ex:

Buy Out: If I sell my business 5 years later when my business is worth 50 lacs, every rupee invested in my project is worth 5 rupees now. So anyone who is buying my business will be paying 50 lacs as a whole and I will share the proceeds with my friends based on what they invested. i.e., I will give 12.5 lacs each to my two friends for the 2.5 lacs they invested in me.

Trade Sale: If my business is doing very well, potential private equity buyers will be willing to buy into my company. So if my company is worth 50 lacs at the end of 5 years and a potential buyer contacts my friend and strikes a deal, he can sell his 2500 shares of private equity he owns in my company to the buyer who will pay him 12.5 lacs which is the worth of those 2500 shares he owns.

IPO: You might already know what an IPO is. So if I plan on releasing an IPO for my company, I have to take care of my private equity holders too. So lets say I give out 10 lakh shares to the public, a ratio will be decided for private equity holders. So for ex: 2500 private equity shares might be worth 25000 normal equity shares and my friend will be allotted 25000 shares when my company gets listed. He will make a profit by selling these 25000 shares in the stock market.

Risks involved in Private Equity:

The main risk involved in private equity is the fact that, my business might go bust or not make profits as suggested in the preceding paragraphs. There is no guarantee that my business will be a success. So, if I screw up on my business strategies and my company goes bankrupt, the 2.5 lacs my friends invested is gone. I din’t guarantee them returns when they invested. I only projected that if the business goes well, they will make solid profits.

But, as in all investments, rewards from private equities usually outweigh the risks involved.

There are many different types of Private Equity investments available. They are covered in the next chapter "Types of Private Equity"
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All the contents of this blog are the Authors personal opinion only and are not endorsed by any Company. This website or Author does not provide stock recommendations. The purpose of this blog is to educate people about the financial industry and to share my opinion about the day to day happenings in the Indian and world economy. Contents described here are not a recommendation to buy or sell any stock or investment product. The Author does not have any vested interest in recommending or reviewing any Investment Product discussed in this Blog. Readers are requested to perform their own analysis and make investment decisions at their own personal judgement and the site or the author cannot be claimed liable for any losses incurred out of the same.