CRISIL: Ratings & research giant - Outside View by Luke Verghese

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CRISIL: Ratings & research giant
Apr 11, 2011

Fast forwarding its silver jubilee year?

The most striking feature of this company's working results for the year ended December 2010 is that it appears to have celebrated its silver jubilee, one year ahead of schedule. In the 24th year of its existence the board of directors deemed it fit to announce a onetime special dividend of Rs 100 per share. The total dividend per share for the year accelerated to Rs 200 from Rs 100 previously. The dividend outflow including the tax thereon accounted for 86% of the post tax profit against 56% in the preceding year. Wonder what they have got lined for the silver jubilee year.

CRISIL is India's top dog rating agency having implanted its initial footprint some 24 years ago as the country's first rating agency to boot. Originally christened as Credit Rating and Information Services of India Ltd, it effected a name change along the way after it expanded its brief in an effort to grow at a faster clip. Today it calls itself a global analytical company providing ratings, research, and, risk and policy advisory services. Our defining trait the report observes ‘is our ability to convert data and information into expert judgements and forecasts across a wide range of domains, with deep expertise and complete objectivity'. The Directors' report in similar vein goes for the jugular and uses state of the art lingo to explain to the investor on how the company is evolving as it traverses on its onward journey. One wonders though whether in couching the language in the manner it did helped it to actually reach out to the vast bulk of the shareholding population, given the diverse backgrounds that shareholders come from.

A pretty picture its financials tell

But, what a pretty picture its financials tell. The company has made a bundle these years past, primarily by credit rating debt securities (forecasting the wherewithal of borrowers to repay the principal, along with the interest that they are contracted to pay on due date). They also rake in moolah separately by researching the backgrounds of corporates, and by flogging other such value added data. More importantly there are no depreciating notes to the accounts which are a de-rigueur feature of India Inc. Take a look at the stats. The consolidated income from operations stood at Rs 680 m for the 12 months ended March 2002. Some nine and half years later, for the 12 months ended December 2010, the gross revenues had rocketed to Rs 6.3 bn. The pre-tax profit including other income grew to Rs 288 m from Rs 35 m, or a rise of 722%. Spectacularly enough the market capitalisation rose 2070% to 42.5 bn from 2 bn. And, the revenue generated per employee grew to Rs 2.9 m; from Rs 1.9 m. (Rakesh Jhunjhunwala and his wife Rekha have hit pay dirt by placing their bets on this company. They are the only individuals in the list of top 13 shareholders, and between them held 550,000 shares or 7.8% of the voting capital, as on Dec 31, 2010).

A powerhouse in its line of business

It is always nice to take a call on a company which makes its living by betting on the wellbeing or otherwise of corporates and the corposphere. So how well does this company fare in managing its own state of affairs? Well to start with it is entirely debt free, and besides, it suffers from an overdose of oodles of cash. Which can in moments of weakness be put to uses which cannot be described as being in the best interests of the company. (It seems unsure on where to park this surfeit of dough, and for a company with its background, this is a seeming paradox in a manner of speaking.) It also has enough muscle power in the market to demand that issuers of capital and such like pony up dosh upfront for the services it has on offer - thus adding to its working capital cash pile. At end December 2010 it boasted ‘Fees received in advance' to the tune of Rs 595 m (Rs 556 m previously). This arm-twisting skulduggery is the direct fallout of the pressing need for issuers of capital and such like to have themselves rated before making public issues of capital. So the apparent name of the game is to ride the tiger free of cost. But inspite of its muscle flexing skills, the company too has to suffer the indignity of having to deal with dodgy clients, and consequently it had to provide for bad and doubtful debtors in either year.

It generates its top-line which is categorised under two broad income streams - income from Ratings, and income from Research. The former brought in 53.7% of all revenues streams, while the latter brought in the balance 43.7%. The segment results reveal that generating income under the former is a less expensive proposition than the under the latter, what with a gross margin of 41.7% against 34.2% for the latter. The fact that it is today a subsidiary of Standard and Poor (S&P), the American powerhouse, is probably the best thing that happened to its financials, given the top-line that it rakes in as a result. S&P is the world's foremost provider of independent credit ratings. S&P and its associates together control 52.4% of the voting stock of 71 m outstanding equity shares. (The foreign principals pulled off a smart trick during the year to increase their direct hold - but more on this later.)

How it stacks up on its revenue

The revenue distribution schedule describes how it totes up the big bucks. Only 47% or Rs 2.5 bn that it earned in 2010 was India centric - meaning that 53% or Rs 2.8 bn was ‘dollar' denominated. (This corresponds with the total earnings in foreign currency of Rs 2.8 bn). The UK and the States brought in almost corresponding figures of Rs 1.3 bn each. The rest of the world chipped in with a paltry 209 m. But the firangi outfits relative to their contribution to revenues are a trifle slow in paying up their dues, if the outstanding trade debtors at year end are any indication. Trade debtor dues from companies under the same management accounted for a little over 60% of all trade debtor dues (54% previously).

While the Income from operations accelerated by 20%, the ‘other income' did the magic mantra of rocketing by 223% to Rs 736 m (Rs 228 m previously). This sudden spurt in other income was not due to any sudden superior spurt in fund management skills, but rather due to totally fortuitous circumstances, and very well timed too. This led to a 32% spurt in pre-tax profit at Rs 2.5 bn. The higher pre-tax profits however precluded the taxman from getting its share of tithes. Tax provision as a percentage of pre-tax profit was maintained at a very steady 22%. And that was because the management was careful enough to see that the extra generation of other income was tax man exempt.

The other income factor

The other income in 2010 was largely made up of two extraordinary items - profit on sale of fixed assets, and from profit from sale of investments. The pre- depreciated book value of the fixed assets sold was Rs 54 m, and it also includes the value of buildings worth Rs 24 m. These assets were sold for Rs 319 m, and it realised a profit of Rs 251 m. It sold mutual fund assets of the book value of Rs 999.9 m for Rs 1.0 bn, realising a profit of Rs 17 m. (It also realised a dividend of Rs 24 m from the debt securities). It sold its entire holding in Gas Strategies Holdings, a pound sterling denominated share (book value of Rs 16 m) for Rs 58.7 m, realising a profit of Rs 42.5 m. The company resorted to some fancy footwork in the case of its holding in National Commodity and Derivatives Exchange Limited. It held 3.6 m shares of Rs 10 each in this company at a book value of Rs 10 per share. During the year it purchased an additional 0.9 m shares at Rs 110 per share or a total value of Rs 99 m, and then sold 2.6 m shares for Rs 374 m or an average price realisation of Rs 143 per share. The company realised a whopping profit of Rs 296 m from this exercise. Why this sudden flurry of activity under the other income head of account?

One of the principal reasons for resorting to generating additional other income was its need for whatever reason to buy back a measly 1.3 m shares of the company. This entailed a total outlay of Rs 797 m, at an average price of Rs 6,218 per share - admittedly small beer for a company which was awash in cash, and which does not quite have a clue on where to invest it. (This in itself is an anomaly). These shares have been purchased and then extinguished. But this buyback of shares was the elementary way forward for the foreign principals to consolidate their stake a little further in this company, and at no additional cost to them. In the past year CRISIL the 51.5% subsidiary of the foreign principals, became a 52.4% subsidiary, and at the cost of its own cash flow. This is a point which the directors have not highlighted, for all the transparency that they proclaim. A perfectly legal exercise but it does not leave a very pleasant taste in the mouth. What if the principals decide to increase their stake in this manner over the years, on the ground of not having sufficient avenues to invest its surplus funds, as a lot of companies are now doing? Even after all these twist and turns, the company still has a bundle of cash in excess of Rs 1.2 bn at year end.

Not putting to use its own findings

In this context it is incomprehensible that a company which prides itself on doing cutting edge research on the corporate sector has deemed it fit not to take a call on the findings of its research output, and invest in the equity and quasi equity markets. Or are they prevented under their charter from doing so? If a company cannot profit from its own findings then what is the sanctity or otherwise of the output? It can even invest in real estate. After all it has launched a product called CRISIL Real Estate Star Ratings. Why does it choose to sit on such a pile up of idle cash?

It has a small array of investments - acquired purely to further its business interests than to get a return on equity - the book value of which at end December 2010 was collectively valued at Rs 1.1 bn. They therefore represent ‘tied' investments, which it will have to live with for better or worse. It has eight such investments - including in five subsidiaries. ‘Free' investments are in the form of Rs 100 m plonked down in mutual fund debt schemes. Top of the pops in the tied investment list is its stake in Irevna Ltd UK - a subsidiary-with a book value of Rs 840 m. CRISIL upped its stake in this subsidiary during the year and the acquisition price now averages Rs 409 per share (face value of 1 pound sterling). Separately it has a much smaller stake in Irevna Argentina worth Rs 10.5 m. Next in line is its new baby Pipal Research Analytics and Information Services which it picked up during the year. Against a face value of Rs 10 per share, the acquisition price of this subsidiary works out to an eye popping Rs 11,129 per share, for a total price of Rs 111 m. This must be some fancy capital markets research outreach firm. Then there is its pidgin stake in its subsidiary, CRISIL Risk and Infrastructure Solutions, worth Rs 50 m, and a stake of Rs 56 m in an associate, National Commodity and Derivatives Exchanges.

The increasing foreign connection

Though the company has five direct subsidiaries, it has given the brief financials of seven subsidiaries. (There are in effect eight 100% owned subsidiaries. CRISIL Irevna Hangzhow is yet to get off the ground.) Two of these, CRISIL Irevna Poland, and Irevna LLC USA are step down subsidiaries of CRISIL Irevna UK. Irevna USA has a ‘naam ke vaaste' paid up capital base of 1 equity share of US$ 200. Collectively the subsidiaries rang up a turnover of Rs 2.5 bn and a profit before tax of Rs 87 m, and had total assets of Rs 2.9 bn. It is quite obvious that turning out research reports is one thing, and eking out a profit by doing so is something else. This is inspite of the fact that Irevna was ranked the No.1 firm in the world in financial services research, risk management and actuarial services, by the Black Book of Outsourcing. Predictably none of them paid any ‘taxes' to the parent at year end, but that was not the intention in the first place. CRISIL also has a Joint Venture called India Index Services and Products.

Irevna UK has a bundle of assets - total assets of Rs 2.2 bn - while its wholly owned American subsidiary made do with an asset base of only Rs 175 m. The UK parent drummed up a turnover of Rs 1.1 bn, while the USA offshoot could muster up a turnover of Rs 652 m. It appears that the turnover of research firms at times have no bearing with their asset bases. What is more, the UK firm ‘researched' a loss before tax of Rs 5.4 m, while the US sibling could rustle up a pre-tax profit of Rs 1.2 m. What type of a fuddy duddy inter-se performance is this please? The other interesting revelation is that the UK subsidiary has negative reserve of Rs 5 m as on Dec end 2010, while the US entity has negative reserves of Rs 60 m. How can such well established capital market research firms have such negative backgrounds please? What's more, Irevna UK was advanced a loan of Rs 334 m during the year by the parent. While these two companies are yet to make something of themselves, the other two Irevna subsidiaries, based out of Argentina and Poland are on song.

Pipal Research, for which CRISIL paid top dollar per share, is another interesting case study. It has negative reserves of Rs 19 m, but appears to be on the mend. It turned a profit on its operations in 2010. On what basis was the share valuation arrived at before it seized control of this company? Going at some speed is CRISIL Risk and Infrastructure Solutions who's after tax profit of Rs 50 m equals its capital base of a like amount.

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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