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Sundaram-Clayton: Profits don't track revenue growth - Outside View by Luke Verghese

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Sundaram-Clayton: Profits don't track revenue growth
Mar 6, 2013

Powering the automobile sector it is, but the financials have little to show for it at the end of the day.

A leading manufacturer of die castings

The company’s constitution underwent quite a change from the time it was first incorporated in 1962 to make die castings for the fledgling automotive industry. The company was set up in technical and financial collaboration of Clayton Dewandre Holdings of the UK. Sundaram Clayton also celebrated its 50th birthday in the year just passed, and without much fanfare at that. True it recorded its highest ever ‘gross revenues’ including other income’ of Rs 11.13 bn in 2011-12 against Rs 8.9 bn previously, but the figures at the other end of the spectrum do not quite match up to the occasion. There was really nothing much to celebrate. Along the way the revenues slumped by close to 50% in the financial year 2008 following the hiving off of the brakes division. This division appears to have been spun off within two years of setting up the plant. That would make for excellent planning no doubt! Though the revenues have grown each year in the last five years following the divestment of the brakes division, but the pre - tax profits have yo-yoed erratically - dropping to as low as Rs 70 m in the financial year 2009 and rallying to a high of Rs 810 m in the latest year.

Divestments and reorganisations

The bigger problem is that the company has suffered quite some in the last decade due to divestments and reorganisations within the eponymous TV Sundaram Iyengar group. During the year several group companies were merged into Sundaram Clayton - no doubt the effort being towards consolidating the hold of the proprietors. TVS Motor Company, the flagship, became a subsidiary as a result. With the next generation taking charge, group companies had to be reconfigured to meet with the demands of emerging exigencies. For example Sundaram Clayton, TVS Motors and TVS Electronics in the main appear to be the exclusive preserve of Venu Srinivasan and his brother Gopal in the great family carve up. The brothers in turn appear to have spun off companies of their own with or without group contributions. In reality Sundaram Clayton is today a hydra headed entity in its efforts to grow in all directions. It has 12 siblings at year end including the American sibling that it has recently incorporated.

A labyrinth

It is a lot trickier than that though. It is a labyrinth out there. Of the 12 offspring, only TVS Motor is a direct subsidiary of Sundaram Clayton. Some eight companies are direct siblings of TVS Motors, while two others are direct siblings of TVS Energy. This in turn is an indirect subsidiary - through Sundaram Clayton and TVS Motor. The exact parentage of the recently incorporated US sibling is not known. Five of the siblings are based out of foreign shores. Besides, it boasts of 30 Indian fellow subsidiaries and another 14 foreign fellow subsidiaries. The term fellow subsidiary implies that these companies have a common holding company, and that holding company in this instance is not Sundaram Clayton. At least this is what I can make of it. Then there are the two associate companies to round up the picture.

The big quirk is that the company still dons the name of its erstwhile collaborators, Clayton, even though there does not appear to be any contribution of any sort by the latter to its wellbeing. For starters none of Clayton’s representatives sit on the board of directors’ of the company. The present holdings of the promoter group amounts to a shade below 80% of the present truncated equity capital of Rs 94.8 m, made up of shares of the face value of Rs 5 each. (The paid up equity capital base is down from Rs 190 m in the preceding year. The share capital took a dive during the year due to amalgamations and mergers of group companies). The promoters holding of 80% is accounted for by four TVS group companies. In this the largest holding of 32% is by Sundaram Industries Ltd, followed by TV Sundaram Iyengar & Sons with 20.07%. So quite obviously Clayton has no equity holding in the company. The company does not appear to be paying any tithes in the form of royalty etc to Clayton either. Hence there is no ongoing technical collaboration either. The name plate of the angrezi company Clayton Dewandre Holdings still continues to shine azure bright in the internet website. Thus, the desi chela must be having a deal of sorts going with Clayton or something.

The production facilities

The company today makes a whole range of aluminium die castings for the automotive industry - from commercial vehicles down to two wheelers. The manufacturing facilities are based out of its three factories in Chennai, Kancheepuram and Hosur. The brakes division as stated earlier was spun off in 2007. And for those with a longer memory, ditto with the mopeds division, which was hived off and then merged with TVS Motors eons ago. Mopeds are however singing their swan song today as citizens’ by and large cotton on to more eclectic modes of transport. The product range on tap today includes gear housings, clutch housings, air connectors, cylinder heads, adaptor oil filter, AC compressor housing, crank case, cylinder head, and cylinder barrels, and so on and so forth. The revenue from operations includes income from the ‘sale of services’ and ‘other operating revenues’. It is not known whether there is a direct linkage between the sale of products, and the receipts from the latter two revenue streams. The latter two accounted for a collective income of Rs 441 m in net revenues of Rs 10.2 bn.

The revenue streams

The most interesting aspect of its operations is that it is heavily dependent on the inflows and outflows of forex to earn its daily bread - but it is a decision entirely of its own making. It also dealt in traded goods, but after the demerger of the non automotive business, it discontinued the purchase and sale of electronic hardware items. This dependence on forex flows can also be a can of worms. In physical terms the company sold 36,488 tons against 32,239 tonnes in the preceding year-a growth of 13%. In aggregated ‘net sales’ excluding other income of Rs 9.73 bn, the domestic sales component amounted to Rs 5.6 bn while the export revenues toted up to Rs 4.13 bn. That makes for a 57.5:42.5 ratio. But the point to note here is that the emphasis during the year was on the export effort. Exports grew 50%, while the sales in the domestic tariff area grew only 16%. But this tacky change in direction has not brought any succour to the company at the end of the day. This situation is also inspite of its commitment to total quality management as the foundation of its management. It has also implemented the best practices in total productivity management and lean manufacturing in its production facilities.

What is equally pertinent to note is that even in the domestic market a slice of the sales effort was directed to group companies. The company effected sales worth Rs 1.73 bn to group company TVS Motors and a pittance of a sale to TVS Electronics. Thus exports and group sales together collectively amounted to Rs 5.87 bn or 60% of all net sales. So to a large extent it is a captive market in a sense that the company is addressing. There is more to come. The company also renders management services to group companies. It supplied services worth Rs 177 m to them including Rs 144 m supplied to TVS Motor. (What management services is TVS Motor in need of that Clayton can supply?) But the big catch here is that the total amount of income that it has booked under the head sale of services is only Rs 162 m. This is not possible. There appears to be a dichotomy of sorts here.

Consumption costs

What is also very interesting here is that of total raw materials and components consumed of Rs 5.49 bn, the consumption of imported raw materials was as high as 60%. Is one to understand from these statistics that the export effort requires the use of imported materials and components (aluminium alloys and ingots) while the domestic market makes use of both the imported and local commodity? If so it would infer that the domestic consumer is being short changed vis-a-vis the foreign consumer. It also infers that the imported materials are of superior quality. Is one to assume that our domestic producers of aluminium and steel are short-changing us too? Or is it also that imported raw materials was cheaper than what was domestically available? Either way the company is in a lame-duck situation. Margins appear wafer thin - but this rule appears to be the lot of automotive ancillaries - barring Bosch India that is.

Ancillary units (or component suppliers) by definition get the short end of the stick from their end user buyers. They have to follow strict quality controls and delivery schedules and the price that they realise is at the dictates of the end user. Fortunately the government has now mandated that they be paid within a reasonable time limit for services rendered. So a part of their ordeal is taken care of by an executive fiat. Presumably the same rules of etiquette by and large apply with regards to foreign revenues too. The group companies that the company is selling to are quite quick in paying its dues. The company could only rustle up pre-tax profits of Rs 556 m during the year on total net revenues of Rs 10.5 bn against figures of Rs 452 m and Rs 8.27 bn previously. The company also realised an extraordinary and onetime profit on sale of securities following the merger of group companies with it amounting to Rs 253 m - which is nothing more than the left hand giving and the right hand taking. But nevertheless it has booked receipts and profits from this measure. Of course it helps immensely that the paid up equity has actually declined to Rs 94.8 m from Rs 190 m previously. It helps to pop up the Earnings Per Share (EPS) if nothing else.

The other income factor

This pre-tax profit has to be seen in conjunction to the ‘sale of services ‘and ‘other operating revenues’ on the one hand and ‘other income’ on the other that it toted up in either year. Other income and such like by definition do not entail any corresponding revenue expenditure. It is however not known what exactly the term services refer to. The first two items added up to Rs 441 m against Rs 440 m previously. Other income amounted to Rs 342 m against Rs 222 m previously. Together they added up to Rs 783 m against Rs 662 m previously. Juxtapose this income receipt with the pre-tax profit in either year and by then it becomes a sort of hopeless situation. But for this moolah the company would have been scraping the nether regions of an open ended barrel. It may interest readers to also know that there was a sharp hike in the dividend inflow from TVS Motors to Rs 327 m against Rs 172 m previously. Was this receipt selectively planned or what? But at the same time one must add that the total return on its investments is spot on. The book value of its investments - both current and long term - amounted to Rs 581 m. The total dividend accretions from the investments amounted to Rs 335 m - not taking into account the topsy turvy state of the portfolio during the year.

The problem is that the company is not able to get an adequate mark-up on the manufactured products on offer. The cost of materials consumed accounts for 55% of net rupee sales. The company is finding it difficult to keep the cost of other major expense items like salaries, finance costs, and ‘other expenses’ under control. It thus has to make do with other items of income to keep its head above water. Surprisingly enough inspite of tight conditions it is able to generate positive cash from operations. But this cash generation is simply not enough to pay for fixed asset expansion. This is when other ingenuity comes into play. Such as the sale of fixed assets, the net sale of current investments, and the tailored dividend receipts. Thanks to such jugglery, the net borrowings at year end were up only marginally to Rs 3.9 bn from Rs 3.6 bn previously.

Based on its financial performance this company can safely be put in the avoid list.

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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1 Responses to "Sundaram-Clayton: Profits don't track revenue growth"

Pradeep Kumar Nair

Mar 7, 2013

Certain scions of the TVS family won't rest in peace till they have run their fiefdoms aground!

A process they started slightly more than 2 decades ago!

Equitymaster requests your view! Post a comment on "Sundaram-Clayton: Profits don't track revenue growth". Click here!

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