The company is growing by leaps and bounds but there is no clarity on the real purpose of the incorporation of the siblings
Extolling the performance results
Judging from the turn of phrase used to extol the performance results of the company it would appear that the promoters of Bhushan Steel are riding on a permanent high. The script writer is not lacking in colour. The phrases used to paint its virtues lily white include- meticulously planned, target markets, embrace best of global technologies, product quality, right timed expenditures, advantageous position, demand acceleration, robust strategies, expansion agenda, catapult ourselves into the echelons of steel leadership in India, momentous completion of Phase 3, and so on and so forth. It would seem that the verbiage is backed up by performance results too, and that the promoters mean good for the minority shareholders of this offspring of theirs. Well, yes and no.
The chairman Brij Bhushan Singhal, his son Neeraj Singhal and some group companies together have it all going their way too in the voting capital stock. From the available data they individually and through group entities control a shade less than 68% of the paid up equity of Rs 425 m. This however restricts the ability of the company to issue additional equity share capital as the father/ son duos who presently control 50.63% of the paid up equity will find it difficult to be able to subscribe to their respective shares. The company is isted for trading in the BSE-Sensex and NSE-Nifty, and the share price during the financial year - Rs 2 face value--fluctuated from a high of Rs 528 in April 2011 to a low of Rs 297 in December 2011.
Turnover growing at a fast pace
The 10 year financial summary reveals a company growing by leaps and bounds. Gross sales have grown from Rs 12.63 bn in the financial year ended 2003 to Rs 108 bn in the financial year ended 2012.The earnings before interest, depreciation and taxes rose from Rs 2 bn to Rs 30.3 bn over the same period. The net profit on its part did a jig of its own -rising from Rs 550 m to Rs 10.2 bn. The statistic growing faster than the rest is the addition to gross block. The gross block including capital work in progress grew from Rs 13 bn to Rs 290 bn over the same point of time. That is also to say that the gross block to gross sales ratio is slowly slipping. In the financial year 2003 it stood at 1:0.97. By FY 2008 it had slipped to 1:0.62 and by 2012 it was down to 1:0.37.In other words the company is slowly becoming asset heavy due to the work in progress
For the matter of record the company is 29 years young and its manufacturing facilities are situated at Ghaziabad, Orissa, and Maharashtra. The company manufactures primary steel product and secondary steel products presently, and by 2014 it will also be making processed steel (specific steel products for customers). Specifically, the company makes hot rolled and cold rolled steel strips, sheets and coils, cold rolled and colour coated galvanised steel strips and coils, precision tubes and large diameter pipes, hardened steel strips, billets, etc.
The company also makes do with eight companies which are classified as group entities and they appear to focus on numerous activities including energy, aviation, infrastructure, trading and electronics. They are also all closely held entities. These group companies however differ drastically from the 16 siblings and step downs whose financials have been appended to the annual report, and barring Bhushan Buildwell Pvt. Ltd in which the parent has a miniscule equity stake of Rs 0.049 m, the parent does not appear to have any stake in any of the other seven companies. It is also a group that believes that big is beautiful. It makes do with 51 bankers to the company! There is another head of item called Technical Support-and it names 29 companies in this respect.
The company makes do with a unique share capital base. The total capital base amounts to Rs 1.28 bn. Of this base the preference capital is as much as Rs 860 m and is made up of non convertible redeemable cumulative preference shares, and non convertible cumulative redeemable preference shares. But even here the promoters have the company in a bear hug of sorts. Identifiable family firms hold 23.73% of the preference share capital. It appears that the promoters are hell bent on keeping the company as close to their chest as possible.
The share capital base is supported by humungous reserves of Rs 72.68 bn. But the reserves include securities premium account of Rs 25.93 bn, capital reserve of Rs 1.25 bn, and debenture redemption reserve of Rs 1.93 bn. The balance amount of Rs 43.5 bn is made up of free reserves. It also boasts humungous borrowings of Rs 213.5 bn against Rs 165.61 bn in the preceding year. This debt has to also be seen in conjunction to the figure of capital advances amounting to Rs 17.3 bn. It must be noted though that Rs 75.6 bn of this debt are in the form of foreign currency loans and are thus subject to dollar/ rupee fluctuations. (In 2011-12 the company suffered a forex loss of Rs 4.8 bn and it has been accounted for in the finance costs schedule. In the preceding year it gained Rs 431 m on this count and it was accounted for in the other income schedule!) Ha! Ha!
The borrowings in turn are also counterbalanced by a tangible and intangible gross block of Rs 182 bn and capital work in progress of Rs 90.6 bn -- adding up totally to Rs 272.6 bn against Rs 197.48 bn previously. (The accumulated depreciation on the usable gross block of Rs 182 bn in percentage terms is a mere 13.4%). Mercifully, the amount falling under the head Investments comes to a mere Rs 3.04 bn largely invested in one associate and one sibling-but that may well change given the new equationsin the offing. The investments schedule shows that it has seven siblings, one associate and one joint venture. (Another schedule states that it has 11 siblings, eight step down siblings, one joint venture and two associates). They are largely made up of steel companies incorporated in several states, a few finance companies, a holding company in Australia, and step down siblings to take advantage of the coal and iron deposits in Australia. For the present it does not appear to have made any 'loans and advances' to group companies. But the emerging locus standi could infer that large sums may well be invested as share capital and loan capital in these companies in the years to come and this may not be a good augury. For the present the share investments do not yield more than a dime - but that should hardly be seen as surprising.
The largest capital users besides the gross block include inventories of Rs 33.1 bn which accounts for 31% of gross revenues from operations, and long term advances which adds up to another Rs 28.26 bn (made up mostly of capital advances for the expansion project). Next in the pecking order are trade receivables of Rs 12.2 bn and accounting for only 11.3% of gross revenues from operations. This in turn points to the efficient management of the recovery of sales dues. . The current assets at year end of Rs 54.98 bn (including cash of Rs 3.34 bn) are considerably lower than the current liabilities figure of Rs 75.98 bn showing very deft working capital management.
The company's ability to generate margins rests principally on two factors. Drumming up large enough revenue gains to take care of higher depreciation provision and the exigencies arising from larger finance costs on the one hand, and its ability to check the input cost of materials consumed on the other. Materials consumed accounted for 50% of gross revenues which is only marginally higher than in the preceding year. It appears to be a highly automated operation given the marginal outflow of dosh on account of employee benefit expenses. The interest costs debited to P&L account works out to 4.9% of the total borrowings at year end. This low percentage rate is largely because the bulk of the interest payout has been debited to gross block on account of the ongoing capital expenditure. Taking this also into account, the total interest that it paid out would work out to 9.2% on the year end debt.
Thanks to a 42% jump in the gross realisation of revenues, and its ability to control material inputs costs, the company was more than able to take care of the increase in depreciation which grew by 123% to Rs 6.2 bn, and interest costs which rose 134% to Rs 10.4 bn. The other significant item of expenditure is 'Other expenses'. This however grew only 25% to Rs 13.5 bn. Consequently the company was able to maintain the profit before tax at Rs 13.6 bn. The tax provision is still relatively small partly because of the much heavier claim for depreciation for tax purposes, and in booking the benefit of MAT (minimum alternative tax) credit which is still fairly substantial.
The cash flow scenario
More importantly the company is able to generate sufficient cash from its operations to finance some of the additional capex. The cash flow from operating activities amounted to Rs 28.5 bn during the year. This was substantially larger than the Rs 10.1 bn that it generated in the preceding year. This jump in cash generation from operations in itself stems partly from the larger write back of provision for depreciation and interest payout -- as is the norm, and in keeping a strict control on the growth in inventories, and a decline in loans and advances. This cash flow was not quite enough to meet the major exigencies however. There was a massive spending of Rs 46.7 bn on fixed assets compounded by the outflow of Rs 26.3 bn on interest account. Consequently, the company resorted to a two pronged strategy to rake in the moolah to fill the gap. The debt increased by Rs 40.4 bn, while the cash generated from the additional issue of permanent capital including non convertible debenture application money brought in another Rs 8.3 bn. The additional share capital was issued at a substantial premium to the face value-which is really money for jam from the company view point. The percentage dividend if any has to be paid only on the face value of the shares.
Given the emerging importance of the siblings, one has to turn the periscope on to their financial wellbeing or otherwise. It does not make for appetizing reading. The parent has furnished the brief financials of 16 siblings. The parent on its part in its investment schedule has a large investment of Rs 1.26 bn in the Australian sibling acquired at a cost of Rs 48 per share. It has two minor investments of Rs94 m each in two finance companies acquired at an identical cost of Rs 21.76 per share of the face value of Rs 10 each. It has also subscribed to the preference shares in two steel siblings, Bhushan Steel Bengal and Bhushan Steel (South) at very fancy premiums to the face value of Rs10. What exactly is the game plan here? The two most striking features of the 16 siblings however is that none of them have registered any revenues, but they have all made investments of their own collectively adding up to Rs 3.3 bn. What do these investments constitute please? Besides, none of the investments generate any income to the respective holding companies concerned.
The 'summary statement of financial information' of the 16 siblings seems to be at odds in some respects with that of the investment schedule of the parent. The company with the largest capital base is Bhushan Steel Australia in which the parent has an 85% equity holding. It boasts a capital base of Rs 1.52 bn and negative reserves of Rs 77 m. It has an investment portfolio of Rs 685 m, total assets of Rs 1.44 bn, and NIL revenues, but still managed to rig up a pre-tax loss of Rs 58 m. This loss could be as a result of interest costs or something or borrowed moneys etc. But more importantly what do the assets of this sibling consist of please? Next in the pecking order is the Australia based Bowen Energy with a capital base of Rs 890 m. This unit may well be a step down sibling or something. It has reserves of Rs 143 m, a total asset base of Rs 1.52 bn, zilch revenues and a loss before tax of Rs 23 m. The bulk of the assets appear to consist of capital work in progress.
Next in the queue is Jawahar Credit and Holdings Ltd. It has a capital base of Rs 218 m in which the parent has a 79.4% stake. The parent holds 4.3 m shares of the face value of Rs 10 each in this company. That would amount to Rs 43.21 m. Based on the 79.4% holding, the full capital base should amount to 5.44 m shares or Rs 54.43 m. This makes for a very anomalous situation given that the total capital base as stated earlier is Rs 218 m-or have I got it wrong along the way? Or take for example the imbroglio in the investment in Bhushan Capital & Credit Services Pvt. Ltd. This company is shown as having a permanent capital base of Rs 203 m. The parent has an 85.2% stake in this company. The parent's holding consists of 4.32 m shares of Rs 10 each in the sibling. In other words the total capital base should consist of 5.07 m shares or Rs 50.7 m. This capital base is actually way below the company's present paid up capital base. So what is cooking here? Both these companies, though they give the impression of being finance companies, are merely investment vehicles, and as stated earlier have no revenues accruing to them.
Of the three steel siblings that it has given birth to-Bhushan Steel Bengal, South, and Orissa, the first two have capital bases acquired at fancy premiums and very little to show for it except the investments of Rs 211 m made by Bhushan Steel Bengal. The third has a very low capital base acquired at par and nothing to show for it either. It will help if the parent can shed some light to its minority shareholders on what exactly is the modus operandi by which it is taking such investments forward. Managements believe (wrongly) that they are not answerable to ordinary shareholders for the ways and means position of the siblings and that they can ride rough shod over the siblings at will. This is an anomalous belief which has to rectified under law.
The fate of the joint ventures and associate companies is unknown but do not expect anything out of the ordinary here too.
Like the proverbial curate's egg this is a company which is good in parts.
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.