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CRISIL: Up, up, and away - Outside View by Luke Verghese

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CRISIL: Up, up, and away
May 28, 2012

A company on a roll - if there is one. But it will help if it can be a little more forthcoming on its operational aspects, and how the siblings fit in into its greater scheme of things

This is my second take on the financials of this company, having done a similar on its working results for the year ended December 2010.

Celebrating its silver jubilee in muted style

A slick and glossy annual report running into 156 pages is CRISIL's way of rewarding its shareholders in the silver jubilee year of its corporate existence. (The shareholders get no goodies whatsoever. As a matter of fact the dividend has been slashed to Rs 778 m from Rs 1.4 bn in the preceding year - excluding dividend tax that is). This anomaly is on account of a special dividend paid out in the preceding year. It has however chosen to highlight its achievements in bold letters in the report. The company is India's first, largest, and biggest credit rating agency. One out of every two companies rated in India has a CRISIL rating. Two thirds of India's corporate bonds and 45 banks, which account for 90% of India's banking industry are rated by CRISIL. It has also pioneered the concept of SME ratings (small and medium enterprises) in India in 2005 and has so far rated the highest number of SMEs anywhere in the world. Then there is the global research and analytics division, which it claims is the world's largest provider of equity and credit research services. It also boasts a research division, an infrastructure advisory, and risk solutions - all of which contribute to the growth and well-being of the company. Being a subsidiary of McGraw Hill and Standard and Poor combined, also helps add to its punch immensely.

The secondary market price of the share is scaling the moon.

Given its various performance parameters, and the miniscule paid up equity capital of Rs 70 m relative to its total assets base of Rs 3.7 bn, the secondary market price of the share is now scaling the moon. The share price has of late hit the four digit mark. The directors had also wised up on reducing the face value of the share from Rs 10 face value to Re 1 face value to give the share the extra punch. Not to be forgotten is the brainwave of the directors' to do a buyback of the shares during the year further reducing the floating stock on the one hand and, enhancing the holding of the principals by a like amount on the other. It bought back 9.1 lakh shares from the secondary markets during the year. The point is also that some 52.4% of the paid up capital is presently held by its foreign principals, and hence this quantum falls outside the ambit of the definition of floating stock, giving the share that extra edge. It may also interest readers to know that Rakesh Jhunjhunwala and his patni Rekha are the only individuals who hold more than 1% of the equity capital in the company. With a holding of 7.75 % or 5.5 m shares, that translates into a total market value of Rs 5.5 bn or more!

Fall in margins

It is sort of unfortunate then that in its 25th year of operations the company saw a fall in margins. The top-line from its mainstay operations rose 21% to 6.4 bn. Other income which largely includes profit from sale of assets and investments, and hence not quantifiable in advance, fell to Rs 430 m from Rs 736 m previously. (But still, other income accounted for an impressive 17.4% of pre-tax profit against 29.2% previously). To CRISIL's credit however, this is the first company that I have surveyed which has developed the unique ability of selling its fixed assets at a profit each year, in addition to the normal practise of selling securitised investments at a profit. (In 2010 it made a profit of Rs 251 m on the sale of fixed assets, while in 2011 it made a profit of Rs 64 m). It is probably time then for the company to publish a priced booklet on this magic mantra, and explaining the modus operandi. It would sell like hot cakes, no doubt about that.

Cumulatively, gross revenues rose 13.3% to Rs 6.8 bn from Rs 6 bn previously. But the pre-tax profit fell marginally to Rs 2.47 bn from Rs 2.51 bn previously. With the tax man taking away a larger bite of the pre-tax book profit than in the preceding year, the post tax profit fell to Rs 1.86 bn from Rs 1.96 bn. What is interesting here from a services company perspective is that the tax provision amounted to only 23.4% of the pre-tax profit for the year-if one leaves out the wealth tax provision that is. The tax provision is still way below the base rate applicable to such corporates.

Its basket of services

Though the company has a basketful of services on offer, the revenues are clubbed under two main heads - Ratings and Research. The research income is coming more into focus both top-line and bottom-line wise. The income from ratings accounted for 51% of all revenues, while the income from research brought in the balance. The respective contributions were 54% and 46% in the preceding year. More importantly, the segmental profits are also showing a similar tectonic shift. Ratings revenues brought in only 53% of the segmental profits, against 59% previously. Research revenues brought in 47% of the profits against 41% previously.

As stated earlier, the company witnessed a marginal fall in pre-tax profits, which the otherwise well documented directors' report has not touched upon, for whatever reason. The reason for the press on margins appears to be unique. Income from operations grew 21%. The largest slice of revenue expenditure as would be expected is on employee costs. HR costs have risen more sharply by 23% to Rs 2.5 bn. Employees now total 3,207 nos against 2,815 previously - a growth of 14.3%. That would make for an average outflow of Rs 7.6 lakhs per employee against Rs 7.1 lakhs previously on a rough basis (after deducting recoveries). There are two other major expense heads-Establishment costs and Other expenses - where too there are recoveries of expenses. (These expenses therefore can be flipped up or down depending on the extent of the recoveries). The former rose only modestly by 7.3% to Rs 657 m. But the latter rose disproportionately by 46% to Rs 1 bn. The single biggest culprit under this head of expenditure is Professional Fees which rose 89% to Rs 657 m. This expenditure obviously refers to legal costs. This is an odd item of expenditure and not very germane to the company earning its place under the sun under the normal course of business. The company has no explanation on offer either. It must be a mundane matter to the management or something.

A surfeit of riches

Not that the company is out of pocket as a result. On the contrary the company has a surfeit of riches. It has a cash hoard of Rs 2 bn at year end. Not including sums invested in select equities with a book value of Rs 1 bn, and loans advanced to its siblings of Rs 360 m, and what not. Helping generate this moolah is the fees of Rs 742 m (Rs 594 m previously) that it received in advance for services to be rendered. The point is that the credit rating services that it renders is obligatory for corporates seeking to raise capital from the public. So the company goes for the jugular you see. (It is therefore a bit comic to notice that the company even provides for bad debts on trade dues).

Consequently, the head of finance has both an easy task and a difficult task at the same time. On where the company can invest the surplus cash for example. The management still has not found an answer. I do not know whether the company's charter debars it from investing in a slew of investment outlets - such as real estate, or the primary or secondary stock markets, mutual fund schemes, in the commodities markets, ICDs, money market operations, start ups, or some such. Why not father a banking undertaking? The only brainwave that it has been able to germinate to date is to buy back its own shares - albeit marginal sums at that. It has enough cash on hand to reduce its share capital to zilch!

Its cash flow generation is nothing short of a walk in the park. It generated a net cash flow of Rs 2.4 bn from operations in 2011, against a much lower Rs 1.3 bn previously, showing that cash flow generation, and profits, can swing in opposite directions in the same year. The trick in the much larger cash flow generation in 2011 was that there was a complete flip in the position of trade debtors, and trade creditors, and a much larger increase in fees received in advance, relative to the position in the preceding year. The company's take that the debtors constituted 14% of total operating revenues in 2011 against 19% previously is not strictly right, as if one takes into account the fees received in advance then it almost cancels out the figure of the debtors balances figure at year end. In other words there was literally no debtor balances at all.

The group contribution

The other principal factor having a bearing on CRISIL's performance is the weightage of group companies in its overall revenue generation-a significant play which the company is silent on. The schedules to the accounts tell us that some 44.4% of total revenues or Rs 2.8 bn is generated through the modicum of 'professional services rendered to group companies'. Just three group companies are the beneficiaries of CRISlL's good offices - the parent and two wholly owned siblings. CRISIL on its part has also paid professional fees to its siblings but these figures cumulatively are of minor import. There is a medley of other transactions too both on revenue and capital account with group companies, but they are not as material. For the matter of record, CRISIL has eight subsidiaries, seven fellow subsidiaries, one joint venture, and one other related investment. The joint venture undertaking is named India Index Services and Products Ltd and the other related investment is National Commodity and Derivative Exchange Ltd. Its investment in Caribbean Information and Credit Rating Agency (which for some reason is clubbed under Other Investments) is depreciated and fully provided for. How can a credit rating company of all things go belly up please? This must rank as a first or something of its kind. The very important factor to note here is that group company trade debtors' account for 62% of all trade debts, against a marginally lower 60% in the preceding year. That is to say CRISIL is giving a longer credit line to its associates to pay up its tithes than it does to non-group companies. Why should this be so please? Who is running the show here please? There is no mention of the margins that CRISIL has been able to generate on sales to group companies - but one can presume that there is an arm's length distance on such matters of import. It also implies that the group companies can manipulate the revenue streams of CRISIL.

The siblings

This brings us to the performance results of its siblings. The cumulative investment in its siblings and other non entities as stated earlier is a cool Rs 1 bn. The heftiest investment by far is in Irevna Ltd UK at Rs 840 m. These shares were acquired at a hefty premium of Rs 409 per share to the face value of Rs 1 pound sterling each. Next in the pickings is Pipal Research and Analytics with an outlay of Rs 111 m. On a face value of Rs 10 per share these shares were acquired at an eye-popping price of Rs 11,128 per share. This company must rank as the ultimate epitome in financial research or something. There are only two other investments of any reckoning - National Commodity and Derivative Exchange, and CRISIL Risk and Infrastructure Solutions. The outlay in the former is Rs 56 m while in the latter is Rs 50 m.

So what do these siblings bring to the table at the end of the day? CRISIL has published the brief financials of 8 siblings - including a defunct one, and two step down subsidiaries - Irevna Poland and Irevna USA. As stated earlier Irevna UK (Rs 1.24 bn) and its subsidiary Irevna USA (Rs 614 bn) received services collectively valued at Rs 1.85 m from CRISIL during the year against Rs 1.38 bn previously, from my understanding of the financials. Irevna UK in turn racked up a service income of Rs 2 bn during the year. But sad to say this company has yet to report its bottom-line in black ink. It managed a loss before tax of Rs 21 m. What is not very clear in this arrangement is whether Irevna UK added value to the services sold to it by CRISIL and then flogged these services to its clientele or did it generate income of its own too? Quite obviously the answer is a little more complicated than that, but there is no immediate way of knowing the how and the what of it. In any event what prevents the UK subsidiary which was acquired for a bomb relatively speaking from turning a profit? What are the longer term plans of CRISIL in this matter? Irevna UK also boasts substantial assets of Rs 994 m and investments in siblings and has negative reserves of Rs 26 m.

The three other Irevnas' on display are on a slightly better footing. Irevna USA toted up revenues of Rs 834 m, but whether this includes the sale of services of Rs 614 m to it by CRISIL or not is not known. The good news however is that it racked up a marginal pre-tax profit of Rs 13 m. But the interesting revelation is that it was able to claim a tax credit of Rs 11.6 m or something, and thus the post tax profit accelerated to Rs 24.5 m. But this company too has negative reserves of Rs 36 m. Irevna Poland and Irevna China are still babes in the cradle, but thankfully they are sailing above the Plimsoll line on the profitability angle. And what of Pipal Research for which CRISIL paid a king's ransom. It generated a turnover of Rs 289 m and a pre-tax profit of Rs 37 m. Small beer in the overall scheme of things, but its value addition to the parent may be much greater than the figures reveal. It is CRISIL Risk and Infrastructure which appears to be the outperformer here. On a paid up equity of Rs 50 m it was able to generate a turnover of Rs 592 m and pony up a pre-tax profit of Rs 132 m.

But, significantly, none of these companies have declared any dividend. The parent CRISIL is quite at home with matters as they are, it would appear. A billion bucks investment is small change for CRISIL, if the benefits accruing in other well meaning ways are much larger. Only, one does not have a clear view of how it all fits in though.

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.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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