Like all construction companies this company too appears to be overextended, and undercapitalised to boot, and the warts may be beginning to flower out of the woodwork
In the news for the wrong reasons
IVRCL was the front page news of the economic journals for reasons that its management would not like it to be in. If news reports are to be given credence to, then the management of the supposedly floundering, and the cash strapped company is likely to change hands through a hostile acquisition, though the promoter group is reportedly looking for a white knight of sorts to ward off the unwanted attention of Subhash Chandra of the Essel Group. The holding of the promoter group in the voting capital according to the annual report of the company for the period ended March 2011 is a mere 9.5%. (Collectively the biggest shareholders are the FIIs, who together hold more than 50% of the outstanding equity capital. If the FIIs were a single composite, then IVRCL would be its subsidiary!). News reports however aver that the management stake has since upped marginally. The share holding of Chandra in IVRCL however still exceeds that of the promoters, and logically speaking, he should make a bid for control of the company.
The management of the company as is its want waxes eloquent on its remarkable acumen and success in bagging projects in a cross section of segments, and its continued foray into emerging lines of business. In keeping with its mouth watering prognostications, the top gun E Sudhir Reddy is giving in to large helpings as pagaar for rendering his yeoman services to the company. In 2010-11 it amounted to a hefty Rs 137 m (Rs 182 m previously). This looks like a king's ransom, man! This compensation package amounted to 6.2% of all employee remuneration for the year. Significantly, the two executive directors on the board, Balarami Reddy and Ashok Reddy, had to make do with payouts of about Rs 5.4 m each - small beer in comparison, for their good work. There appears to be no prescribed order whatsoever in the compensation package payable to the working directors.
company was formed back in 1987 to take up infrastructure construction work and is today, according to the annual report, undertaking a slew of projects in water canal construction, to reservoirs, buildings, industrial structures, bridges, flyovers, highways, roads, power transmission, water treatment plants, real estate development, oil and gas, et all it appears. Among its several subsidiaries is the formerly top of the mind recall Hindustan Dorr Oliver (55% owned by IVRCL) the Mumbai based engineering, procurement, and construction (EPC) company, originally of American parentage. The first Indian owner of Hindustan Dorr Oliver was the late Manohar Rajaram Chhabria. IVRCL is a Hyderabad based company and as stated is today headed by E Sudhir Reddy.
Its financial health
Given the media reports on the financial health of the company, it appears an opportune moment to have a dekko at the latest published annual report of the company. It could also be that the company's wellbeing may have undergone a dramatic change for the worse since the last audited report. But, still, one can afford a sneak peek and try and figure out the figures behind the mass of data. I may also add here that the financials of the majority of infrastructure enterprises that I have surveyed to date represents business acumen at its most tepid. Despicably low owned capital bases, large contracts, joint ventures and subsidiaries by the dozen, high gearing, poor margins, delayed completion schedules, cost overruns, and goose bumps generating notes to the accounts that run into endless pages, seem to be the lot of such enterprises.
Whether the promoters of IVRCL had a much grander design in mind or not when the company was initially christened is not known, but the present name plate is in any case quite a mouthful in itself. Besides, the full form of IVRCL if any is not known either. Whatever, the ten year brief performance statistics - 2001-02 to 2010-11 that the company has published along with the annual report makes for interesting reading. The crucial parameters shown here do not show any sign of distress. The turnover has increased in each financial year over the preceding year. In 2001-02 it toted up revenues of Rs 3.9 bn. By 2010-11 it had grown to Rs 56.5 bn. That is a quantum jump by any standard over a nine year time span. (The company also makes and sells galvanised steel structures, but its contribution to the top-line is very insignificant. Its contribution to the bottom-line if any is not known). There are other reasons too for this jump in turnover and we shall examine this aspect later on in this copy. The profit before tax grew sequentially up to the year 2007-08 when it recorded a pre-tax profit of Rs 2.9 bn. It floundered the next year and then rose to an all time high of Rs 3.3 bn in 2009-10, before receding to Rs 2.3 bn in 2010-11.The profit after tax had a more bizarre journey as the tax provision on the pre-tax profit varied widely from year to year.
To sustain the growth in turnover, the company started to pump in monies into its gross block over the years. Consequently, the gross block to turnover ratio which peaked at 9.6 times in 2005-06 from a ratio of 5 times in 2001-02, then fell on a sustained basis to 6 times the turnover by 2010-11. But the real masala bit here is in two other ratios. The paid up capital merely inched up to Rs 534 m in 2010-11 from Rs 104 m in the base year. The reserves and surplus on the other hand rocketed to Rs 19.3 bn from Rs 796 m over the same time span. But the catch is on how it got there. Apparently, the company made an issue of capital in 2005-06 and the shares were issued at some fancy premium. The point is that over 50% of the reserves consist of share premium account. The securities premium account stood at Rs 10.5 bn, or 54% of all reserves as on March 31, 2011. On the face of it, there does not appear to be anything out of the ordinary in the figures which have been furnished. But, quite obviously, there must be something else going on.
The full form annual report
A look at the full form annual report of the latest two years may be a bit more forthcoming. And sure it is. The company has accumulated loans to the tune of Rs 21 bn - up from Rs 16.1 bn previously. Consequently, the interest payout rose to Rs 2.6 bn from Rs 2.1 bn previously. (On a percentage basis the interest debited to P&L account would amount to a little over 11 for the year, roughly speaking). And, during the year the holders of foreign currency convertible bonds decided not to exercise their conversion option into equity shares and hence the bonds were redeemed which included a 47.5% redemption premium on the principal amount. Apparently the bond holders saw no value in the conversion option. (One wonders why?) It has investments valued at Rs 6.3 bn in 28 group companies - up from Rs 6.1 bn previously. (This earned the parent a less than paltry dividend income of Rs 32 m in the latest accounting year.) Of the total investment, Rs 6.18 bn is invested in 19 subsidiary companies. This includes two investments in piddly foreign based companies. It must be noted that the vast bulk of the total investment - amounting to Rs 5.57 bn - was into just two companies - Hindustan Dorr Oliver and IVRCL Assets and Holdings. (However, the market value of these two investments is shown as Rs 11.8 bn!) The latter is predominantly the asset holding arm of the parent. This company, through SPVs, or special purpose vehicles, is engaged in the business of infrastructure projects and real estate projects. This sibling also develops residential and commercial complexes in major cities in the South of the Vindhyas.
The many tentacles
According to the notes to the accounts, the parent boasts of 91 subsidiaries /step down subsidiaries, 24 joint ventures, four associate companies, and seven enterprises owned or significantly influenced by key management personnel. The parent in turn has furnished the brief financial data of 91 subsidiaries etc as required under law. Now we are finally getting somewhere. It must be noted here that the subsidiaries/JVs and associates have a growing clout in the wellbeing of the parent. That is to say close to 38% of the revenues that the parent toted up in 2010-11 is accounted for by sales to siblings, against a lower 29% previously. The parent has also advanced loans to the tune of Rs 5.8 bn, up from Rs 3.3 bn previously, to its siblings and to joint ventures. It says that these loans are interest bearing-but only just. At year end the clients' have held on to Rs 6.4 bn of the company's money as security for good performance, etc. Such unilateral agreements can play havoc with its cash flow. Separately, there is another figure of Rs 3.6 bn pertaining to a similar charge. That is a gross total of Rs 10 bn under siege.
The working capital scenario
The company also seems to be maintaining an excess of net current assets at year end. The net current assets of Rs 27.4 bn is half that of the gross current assets of Rs 54.5 bn. But the gross current assets at year end also include such tricky accounting figures as unbilled revenues of Rs 9.7 bn. The company is affecting the same credit terms for sales affected by it. That is to say the trade debtors at year end amounted to 35% of gross revenues, same as for the preceding year. But at the same time the trade debts over six months rose sharply relative to total debtor dues. (The dues from siblings averaged 26% of all dues in both the years). Also to Its credit the current liabilities include advances received from clients of Rs 7.3 bn, and dues to JVs and siblings of Rs 1.7 bn. Also equally significantly, the auditor's report does not carry any qualifications on any deviations that the company's accountants having adopted from sound accounting principles.
The cash flow statement does show some strain on its finances. The cash flow from operating activities ponied up a net cash inflow of Rs 2 bn against Rs 1.8 bn previously. But this cash inflow was insufficient to meet other exigencies. Exigencies such as gross block addition of Rs 2 bn, and loans to siblings to the tune of Rs 2.6 bn. Hence it was out of pocket to the tune of Rs 4.3 bn on the investment front. This deficit was made good by additional borrowings and a reduction in net cash in its books.
The catch if any may lie in the finances of its numerous siblings, associates, and joint ventures. As stated earlier there is no dearth of them. (The welter of inter-se transactions with group companies, as stated earlier, makes it difficult to put a finger on where the margins really kick in from). The parent has furnished the brief financials of 91 siblings. Mercifully enough, only 14 of them have generated any revenues. Of this lot of 15, only four have revenues in excess of Rs 1 bn. The substantial bulk of the revenues were generated care of by just two entities - IVRCL Assets & Holdings Ltd and Hindustan Dorr Oliver Ltd. The former generated revenues of Rs 6.8 bn, but notched up a pre-tax loss of Rs 352 m. And, after tax provision of Rs 116 m, it posted a post tax loss of Rs 467 m. Is one to assume from this jumble that it recorded substantial revenue expenses which are not admissible as tax deductible expenses, and hence the tax provision? But, financially, this company also appears to be on a very strong wicket. On a paid up capital of Rs 1.9 bn it boasts reserves of Rs 21.9 bn. It also has total assets of Rs 31.7 bn. (This loss then may be a one off event or something). The parent in comparison has total assets of Rs 41 bn.
The other biggie, Dorr Oliver posted revenues of Rs 9.4 bn and toted up a pre-tax profit of Rs 779 m. It was also the only sibling to declare a dividend - Rs 58 m. On a paid up capital of Rs 144 m it had reserves of Rs 2.5 bn. There are a few oddballs too. One such is IVR Hotels and Resorts for example. On a capital base of Rs 4 m it has gargantuan reserves of Rs 4.5 bn, piddling revenues of Rs 50 m, and recorded a next to nothing pre-tax profit. It also has total assets of Rs 4.5 bn. This is a highly improbable concoction as any student of finance and common sense will aver. Another juicy tidbit is the oddly named Alkor Petroo, which is into oil and gas exploration, and has drummed up some very incongruous figures.
Then there are the top heavy ones - large capital bases, large assets, but as yet to generate traction on the revenue and the cash flow front. Among the more prominent worthies are Chennai Water Desalination Ltd, Salem Tollways, IVRCL Indore Gujarat Tollways Ltd, Jalandhar Amritsar Tollways, Kumarapalayam Tollways and SPB Developers. All these companies have total assets bases running into the billions of rupees, but generate low revenues and make losses at the end of the day. And barring Salem Tollways, and Chennai Water Desalination, they have paid up capital bases which are completely out of sync with the respective total assets size. These worthies could well be the ones that are indirectly pulling down the good run of the parent - though there is no sign of that as yet from the parent's accounting point of view. Besides, the status of the JVs and IVRCL's stake in them, and the liabilities if any, is not immediately known.
All in all, this adds to the enigma of this company in particular, and to the greater enigma of construction companies in general. This is a hydra headed construction group which in a fairly short time span has bagged contracts over multiple disciplines. Developing these multidisciplinary skills at a trot is no mean achievement. But the finances are not exactly in order. And, how the group's activities dovetail into that of the business empire of Subhash Chandra beats me all ends up.
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.