It is difficult to understand how this major player in the Indian market got itself into such a morass
The makings of SABMiller
Skol Breweries changed its name forever effective June 22, 2012. It will henceforth be known by its new nameplate SABMiller. For those who are not very familiar with its history, Skol was promoted in the early 1970's by Shaw Wallace, which at some point came under the operating wing of Manohar Rajaram Chhabria. (Shaw Wallace is today a part of the pocket borough of Dr Vijay Mallya). The vestige of its Shaw Wallace heritage will always hover within this company. It currently boasts several beer brands sporting such names as Haywards, and Royal Challenge among others. SABMiller acquired a 50% stake in Skol in 2003 and increased it to 100% in 2005. It claims it has a 23% market share in the beer business.
SABMiller has a long history of operation in India - initially through a joint venture with Narang Breweries which it then swallowed, to its acquisition of Mysore Breweries, followed by Rochees Breweries, and finally to the conquest of Fosters India which is of Australian parentage. SABMiller claims it is the second largest brewer in the world today with more than 200 beer brands and some 70,000 employees in over 75 countries. In India alone it has some 10 breweries spread across the nine states, and in terms of geographical spread its plants orbit the four axis of the compass. Its India head office functions out of Bangalore. SABMiller plc London, the ultimate holding company, indirectly holds 99.26% of the equity of the Indian sibling and it is listed for trading in the London and Johannesburg stock exchanges. Another schedule states that the parent holds 99.23% of the outstanding equity of Rs 2.3 bn through SABMiller Breweries Pvt. Ltd and SABMiller Asia BV. The company still boasts of a few diehard Indian shareholders.
A bitter- sweet annual report
The annual report contains a very memorable adage. It reads "Beer makes you feel the way you ought to feel without beer." Dash good yaar! It is also subject to many interpretations. And, one dekko at the financials of this company and you keep wondering whether the beer that it brews is tasting much too bitter or not. And to think that beer is an all weather stock-- good to be had in good times, in bad times, and at all times.
Its financials are plumbing the very depths of despair and it not that the parent cannot do anything about it. The parent as stated earlier claims it is the world's second largest brewer and such a distinction also implies that it has very deep pockets. But take a look at its year end figures.
On net revenues including other income of Rs 16.7 bn the company ran up a loss before tax of Rs 1.2 bn. In the preceding year the corresponding figures were Rs 14.9 bn and Rs 604 m respectively. That is to say the net revenues including other income was up 11.5% over that of the previous year. The directors' report says that the greater pre-tax loss was due to higher borrowings leading to more interest charges, higher employee payouts, unplanned maintenance work on its breweries, and absorption of loss incurred by the brewing division of SABMiller Breweries Pvt Ltd - et all. (This company was merged into the parent during the year, and additional shares were issued to its principal shareholders following the merger). The company lists a litany of sins for its poor showing and it is thus straitjacketed in a Yes and No situation. Employee handouts rose 22.3% to Rs 1.4 bn, while interest costs rocketed 40.8% to Rs 1.2 bn on higher year-end borrowings of Rs 11.5 bn. The interest costs debited to the P&L account averaged around 10% of borrowings on a rough reckoning during the year. (And, but for the fact that the current liabilities at year end were far in excess of its current assets, the interest costs would have been much larger). Keeping pace somewhat with such hikes was the 'material input costs' which rose 12.7% to Rs 8.5 bn, and 'other expenses' which climbed 17% to Rs 5.9 bn. (A breakup of this expense item is given elsewhere in this column). In other words, all major expense items grew at a faster clip than the percentage increase in sales.
The auditor's report
But there is another unsaid primary reason too. The discounts given of Rs 1.7 bn (Rs 1.3 bn previously) amounted to 5.8% of gross sales against 5.4% previously. Boy oh boy, is selling beer such a tricky exercise or what? In short, the company was rogered every which way by circumstances during the year. The indirect taxes also weigh very heavily on this company it appears. Excise duties amounted to 38.4% of gross sales against 34.9% previously. No enterprise can have any control over the levy of indirect taxes, however. Surprisingly, the depreciation provision fell during the year inspite of a higher gross block at year end. The problem of the company running up losses in its operations is nothing new it appears. According to the auditor's report, the company has accumulated losses of Rs 4.9 bn at the end of the financial year which is more than 50% of its net worth. (More on this development further on in this copy). The report goes on to add that funds raised on a short term basis amounting to Rs 5.4 bn, has been used for long term purposes. This is a cardinal sin in accounting parlance, but given the present shareholding pattern, and the resources of its parent, this is not really an issue here. What is not fully clear is what the parent has in mind in the form of a damage control exercise. Well, if it has one in place it is not very apparent. Furthermore, it has tax disputes - both direct and indirect running into some Rs 755 m pending in various disputes fora.
Fraught with difficulties
That is not all. As the cash flow statement bears out, the company suffered a negative cash flow from its operations during the year. It registered a negative cash flow of Rs 409 m from operating activities against a positive cash flow of Rs 915 m previously or a massive turnaround of Rs 1.3 bn. The negative cash flow was mainly occasioned by a surge in trade debtors by Rs 1.1 bn at year end against a much smaller increase in debtors of Rs 184 m that it registered previously. But inspite of this surge, the trade debts at year end accounted for only 15.5% of gross sales, against a marginally lower 13.9% previously. Add to this the misery factor the higher year-end balances on account of 'loans and advances' and in inventories. And selling beer is also fraught with its own set of difficulties. The year-end provisions on account of bad debts stood at an impressive 8% of trade dues against a marginally higher 9.6% previously. And to think that selling ice cold beer should be a piece of cake. The fact is that the company appears to be making an attempt to guard against such mishaps of debtors not honouring their commitments. The current liabilities have an entry for deposits taken from del credere agents. In business parlance such agents give an undertaking to sell the goods only to financially solvent clients, in return for a higher commission. But on the face of it, the 'del credere' mode of selling does not appear to be working, or some such.
The 'other expenses' schedule includes commission on sales amounting to Rs 288 m against Rs 189 m previously. Separately it has a very vaguely titled expense item called Sales Scheme expenses of Rs 862 m against Rs 708 m previously. The company may like to explain how this expense item differs from the earlier mentioned expense item. Together, the two items add up to a fat outflow. Another big expenditure on revenue account is 'advertisement and publicity' at Rs 956 m against Rs 816 m previously. Inspite of its size, the company appears to be up against some stiffly brewed competition it appears.
Squeezed by the parent
And, as if the company was not haemorrhaging badly enough, its parent added to its misery by squeezing its tithes from its sibling. According to the 'other expenses' schedule it paid out 'Management group service charge' of Rs 298 m against Rs 251 m previously. With all the expense items to manage, and the spending on fixed assets to the tune of Rs 675 m, the company was very hard pressed to make ends meet on the capital flows front. This led to an additional borrowing of close to Rs 2 bn at year end. Total borrowings at year end amounted to Rs 11.46 bn against Rs 9.5 bn previously. A part of this borrowings amounting to Rs 2.3 bn consists of external commercial borrowings, implying that the figure will fluctuate depending on the rupee fluctuation.
The auditor's comments of accumulated losses have also to be seen in the light of how the company has accounted for its accumulated losses. The losses have been set off against the humungous accumulated reserves. These reserves in turn, before setting off the losses, is made up mostly of share premium reserves amounting to Rs 6.1 bn, and general reserves of Rs 1.2 bn. After setting off of the losses, the balance reserves amount to Rs 1.4 bn. Does it not appear extremely ironical that a company which does not know where its next meal is coming from - boasts of share premium reserves of this magnitude? The paid up capital continues to remain at a very sedate Rs 2.3 bn.
Is there any light at the end of the tunnel?
Neither the directors' report, nor even the managing director's statement to the shareholders for that matter, has much to offer by way of succour on the future course of action by the company in getting it out of the current morass. The managing director merely states that 'we are increasingly focused on driving initiatives in areas where we can directly influence our own destiny'. This is a neither here nor there situation. Merely pumping monies into gross block addition does not appear to be the cure. It boasts of gross tangible fixed assets of Rs 12.5 bn and gross intangible assets of Rs 3.6 bn. Thus on a combined gross asset base of Rs 16.1 bn, it could only rustle up gross sales of Rs 29.8 bn, and net sales before discounts of Rs 18.4 bn. That would not amount to much of an asset churning. The intangible assets consist mostly of brand goodwill of Rs 3.4 bn. Mercifully enough, the company is depreciating this asset creation, and it will also continue to show up in the depreciation provision in the P&L account. This branding incidentally is not getting it any value addition whatsoever judging from its financials.
The company could for a start pump in substantial sums into its paid up capital to ease the pressure on its borrowings schedule.
Disclosure: I do not hold any shares in this company, either directly, or under any non discretionary portfolio management scheme
This column Cool Hand Luke is written by Luke Verghese. Luke has been a business journalist, financial analyst and knowledge management head with a professional experience of more than 20 years. An avid watcher of the stock market, he has written extensively on stock market trends. His articles have featured in Business Standard, Financial Express and Fortune India amongst others. He has also been the Deputy Editor, Fortune India and the Financial Editor of The Business and Political Observer.