Perfect Circle: Good in parts - Outside View by Luke Verghese

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Perfect Circle: Good in parts
Jan 31, 2012

A branded automobile ancillary unit

If my memory serves me right, this company started life almost fifty years ago as Perfect Circle Victor, with a plant at Nashik in Maharashtra. It was set up by Anand Automotive Ltd in technical and financial collaboration with Dana Holding Corporation USA to manufacture piston rings, plates, piston ring castings, and gaskets for the automobile industry. Gasket manufacture was spun off in 2001 into a separate company sporting the name Victor Gaskets India.

Perfect Circle India is today a part of an 18 company conglomerate (according to the company website) of the Anand Group, which is almost completely into the manufacture of branded automobile ancillaries. Somewhere along the way the shares held by the foreign collaborators were acquired by the Anand Group and the company was also delisted for trading from the local bourses. At some point of time the engine component business of Dana Corporation was also acquired by Mahle Engine Components USA, and with whose parent firm Perfect Circle India has a technical collaboration today. (The parent company is Mahle International GmbH, Germany). In 1976 the company altered its name to reflect the new reality. The company is delisted for trading, as the promoter group controls some 95% of the outstanding piddling equity capital of Rs 33.3 m. But there are still some 2,900 individual shareholders holding over 1.4 m shares of the company, besides insurance companies, banks, FIIs, and NRIs holding bits and ends.

Financials do not make for pleasant reading

The company has published its brief working results and financials for the immediate ten years past. It does not make for very pleasant reading. Like all ancillary units the company has little or no firepower in recovering material input cost increases by extracting higher selling prices to the extent that it would like. The following is what the figures reveal. Rupee sales have increased almost consistently in each year over that of the preceding year barring two of the ten years under consideration. But the pre-tax profit presents a stark picture. In two of the ten years it posted a pre-tax loss, while in the balance eight years it was a roller coaster ride. Closer to the point, in 2010-11, net rupee sales grew 33% to Rs 1 bn. But material costs rose a whacking 74% to Rs 305 m. (The company's raw materials and components are almost completely iron or oil based and the cost structure of these items are rising inexorably). Other expenses rose 31%. Included under the latter head are such major expense items of expenditure as power and fuel, repairs to plant and machinery, packing and forwarding, advertisement and publicity and so on. (Given the dedicated market that the company supplies its produce to, why did the company spend Rs 48 m on advertising?) It appears to have complete control over cost increases on the HR front however. Personnel expenses grew only 19%.

No consistency in production volumes

The rapid growth in major expenses is only a part of the vexed issue. Though the company claims it is the preferred supplier to Original Equipment Manufacturer (OEM) units and to the replacement market, it has difficulty in gunning its plants at a uniform tilt, as the ten year details of production show. The items that it manufactures are classified in this schedule under two heads - piston rings and castings. There appears to be no consistency in the volumes that it produced under the two heads over the ten year period. How could a company which claims to be a market leader and a preferred supplier be unable to increase production and produce consistently in line with a rapidly growing automotive market? More so as it exported some 30% by value of all that it sold in 2009-10 and 2010-11? In the schedule of licensed and installed capacities, the individual production is classified under three heads - Rings, Semi finished products, and Ductile division. (One may also add here that the capacities of the latter two divisions appear to be substantially underutilised). The company seems to have separate classifications depending on the exigencies of the situation it appears.

Good in parts

The company's functioning like the proverbial curate's egg is good in parts. On the one hand it has not made any provision for doubtful debts or advances, either on account of 'trade debtors,' or on 'loans and advances' account for the two years under review. This is a most remarkable achievement for a company operating in the Indian firmament. Creditably enough, the trade debtor out-standings at year end constituted only 14% of all sales revenues accruing during the year. All the more so, considering that 30% of the revenues accrued outside India. Even the inventory levels at year end relative to the rupee sales, have been well contained. As a matter of fact the value of net current assets at year end appears to be excessive, in the context of the year-end figure of gross current assets. The other most interesting revelation is that the company does not have any money, either in the form of equity or debt, locked in the capital structure of its group companies. But there is a smokescreen here - and more on this point later on in this copy.

But, simultaneously there are some niggling asides. For example the gross block appears to be substantially depreciated. At year end the accumulated depreciation accounted for 62% of the total gross block including the non depreciable gross block. The point is also that the gross block has been revalued by Rs 40 m, and hence it is difficult to arrive at the non revalued gross block for the plant and machinery to calculate the extent of the depreciation provided on the Plant and Machinery (P&M). In reality therefore the plant and machinery is more depreciated than it appears to be. The company also does not appear to be spending much on the refurbishment of its manufacturing fixed assets. For example in 2010-11, the cash flow statement reveals that the excess cash generated from operations was largely utilised to reduce debt by Rs 40 m. The point is also that the annual report dwells at length about the company being the first to develop high quality piston rings, and it manufacturing a number of critical components etc for the ancillary industry.

Some syrupy deals with its associates

Though the company does not have any direct investments in its group companies, there are other deals aplenty with them. At year end it had outstanding dues of Rs 125 m which it had advanced to two group companies - Anand Automotive and Victor Gaskets India. (They are both classified as fellow subsidiaries). This advance is not shown separately in the Loans and Advances schedule, but a star sign merely states that some of the loans have been advanced to group companies! It does not look like there is any coupon rate attached to these advances, as the other income schedule does not show any interest receipts corresponding to these advances. As a matter of fact the Other Income that the company garnered during the year played a not inconsiderable role in the bottom-line generation. Other Income accounted for 22% of pre-tax profit against 16% previously. The company gained considerable sums during the year due to the favourable forex turn, while it went against the company in the preceding year.

Not only did the company advance monies to the two group companies, it also has some one sided deals with them too. The company received services worth Rs 50 m from these two entities, and it also reimbursed services rendered by them to the tune of Rs 9 m. The second deal appears to be independent of the first deal, and appears more of the category of expenses reimbursed. What these services are has not been explained in any manner.

Disputed liabilities

The more germane point on the subject of negatives is the large sums lying in disputed liabilities. The revenue department has disallowed a carry forward loss claim of Rs 130 m that the company made for the financial year 2006-07. The dispute is now lying with the Commissioner of Income Tax (Appeals). Separately the company says that the contingent liability in respect of income tax matters amounts to Rs 53 m, while the contingent liability in respect of sales tax matters is Rs 13 m.

All in all this company appears to lack the goodwill juices. One also wonders why its diehard shareholders still continue to party with this company.

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 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.


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