The company makes a concoction of chemicals and other bric- a -bracs but the input cost of materials and finished goods that it outsources appear to put a brake on its operations
A long haul operator
BASF (Badische Anilin und Soda Fabrik) has been operating in India for a longer period of time -69 years --than India has existed as an independent nation-66 years. But despite its foreign branding this is not a company which is on a top of the mind recall among the investing fraternity. Headquartered out of Mumbai, the company makes do with ten manufacturing facilities in the six states of Maharashtra, Karnataka, West Bengal, Rajasthan, Himachal Pradesh and Gujarat. The company indulges in dual operations -manufacturing and trading. It manufactures and sells herbicides, polyurethane, automotive and OEM coatings, admixture systems and 'Others'. The traded items include herbicides, pigments, polyurethane, fungicides, and 'Others'. For segment information purposes the company divides its operations into six divisions: -- agricultural solutions, performance solutions, plastics, chemicals, functional solutions and 'others'. The last consists of technical and service charges. The biggest division by this count is Performance Products, followed by agricultural solutions, Plastics, Functional Solutions and 'Others'. Of the six divisions only the plastics division reported a bottom-line dipped in red ink. The company is shutting down a part of its plastics biz -polystyrene-- due to the non viability of operations. However, the business divisions have undergone a realignment of sorts in the New Year commencing April 2013.
The company has during the year shut down the operations of its expandable polystyrene business due to acute competition -- which if I am not mistaken is also one of its older manufacturing facilities. The company is however in the process of adding substantially to the gross block. The parent company, BASF Germany, owns 73.3% of the outstanding capital of Rs 433 m through the holding company and two siblings. It boasted of 40,843 shareholders at year end, and the share price sallied from a low of Rs 500 in April 2012 to a high of Rs 781 in December 2012.
A very structured operation
This company operates just like many other MNCs operating in India. It is a totally structured operation right down to the last T- from the goods and raw materials that it outsources from the parent and fellow siblings, to the goods that it sells to the parent and fellow siblings, to the services rendered, to the services received, to the royalty and technical fees paid, to the loans that it has sourced from the parent, et all. To put matters in perspective the related group companies with whom transactions have taken place during the year number 106. It is a giant operation on a worldwide scale. From the looks of it, three of the fellow subsidiaries are India based.
From the 10 year financial highlights that the company has presented it is operating in a very competitive market. The sales have risen 522% in 2012-13 from the base year 2003-04. The pre-tax profit however got short-changed along the way. It rose 248% over the same period. One of the reasons for the shortfall in margins appears to be the rise in personnel cost. This expense rose 542% to Rs 2.93 bn. This is inspite of the fact that the number of employees rose to only 2,076 members from 917 members in the base year period. In other words, the per employee cost rose from Rs 0.5 m in the base year to Rs 1.4 m in the latest year. The revenue realisation per employee rose from Rs 7.1 m to Rs 19.5 m over the same period-or by 175%. This rate of growth appears to be on the lower side. Also, it is only in the latter two years - 2011-12 and 2012-13 - that the company has gone on a gross block addition drive. In the earlier year, it added Rs 1.8 bn, while the addition in the latter year amounted to Rs 3.9 bn.
Earning its tithes
As I had stated earlier the company earns its tithes though the sale of manufactured goods and traded goods. The net sales during the year amounted to Rs 37.5 bn. This includes traded goods worth Rs 12.7 bn or 34% of all sales. Then there is service income of Rs 1.76bn (indent commission andtechnical/service charges) other operating revenues of Rs 104 m and other income of Rs 39 m. Together, theseindividual sums add up to Rs 1.9 bn. Now, juxtapose this figure with the pre-tax profit of Rs 1.78 bn. (In the preceding year the corresponding figures were Rs 1.44 bn and Rs 1.5 bn respectively). It would appear on the face of it that but for this moolah from such side income (on which there is no revenue expenditure) the company would be out of pocket at the end of the day. True, the indenting commission is a factor of revenues accruing from the sale of goods-but its direct link if any to the main body of the revenues is not decipherable. The company it appears has a major problem on hand in generating sufficient value from the input cost of materials. In 2012-13 for example the cost of materials consumed amounted to 75% of the nett sales of goods against a similar percentage figure in the preceding year. Apparently, the goods that it hocks in the market suffer from intense domestic competition among other things. There is another matter of import to be factored in here. Assuming that all the purchased finished goods were sold in the year of purchase the company would have obtained a gross margin of Rs 2.2 bn against a margin of Rs 3.1 bn previously. The other costs associated with the sale are not known, but the company may have made a decent margin on this exercise.
The group factor
There is also a flip side to the issue. The vast bulk of the sales are affected in the domestic market. In the sales total, the export quantum is miniscule at Rs 2.6 bn. But the company has perforce to import the vast bulk of the raw materials that it consumes. In 2012-13 some 56% by value of its raw material consumption was imported-the same as previously. In terms of figures the imports amount to Rs 10 bn. If one looks at the table of related party disclosures, its exports to group companies amounted to Rs 2.14 bn (82% of all exports) while its imports of 'goods and materials' from group companies amounted to Rs 16.5 bn. The company bought traded goods valued at Rs 10.5 bn, and consumed materials valued at Rs 17.9 bn. Thus the imports of 'goods and raw materials' of Rs 16.5 bn from group companies amounted to 58% of all such imports of Rs 28.4 bn (Rs 10.5 bn plus Rs 17.9 bn). Such a high level of imports could be another very important factor on why the consumption cost of materials and goods weighs so heavily on revenue expenditure -thus limiting the value addition that the company can achieve on sales. The point that also needs to be answered in detail is as to why it is so important for BASF India to source so much of its raw materials and finished goods from abroad and that too from group affiliates. Is this a part of the larger perpetual group accommodation plan?
Among the other big income/expense items are the services rendered of Rs 1.86 bn and the services received of Rs 932 m. These two items appear to be of a recurring nature but no further details are known of their composition. The company also paid royalty and technical fee of Rs 330 m - this expense too quite obviously is of a recurring nature.
Large capex spend
The fact is also that the company is unable to generate sufficient cash from operations to fund large capex outlays. This is inspite of the fact that it collects its sales dues quickly enough and that inventories are also on the lower side. As a matter of fact the trade payables are more than the trade receivables. As stated earlier the company has stepped on the pedal in the last two years in terms of capex spending. Given the capex spend of Rs 3.9 bn during the year; the company had no alternative but to borrow additional debt to the tune of Rs 1.9 bn. Consequently the year end debt amounted to Rs 3.7 bn --no less. The directors' report states that the company is in the process of constructing a new chemicals production unit at Dahej in Gujarat at a capital cost of Rs 10 bn. The unit will make polyurethanes, care chemicals, and polymer dispersions. This outlay, the company adds, marks the single biggest investment in India so far. The new unit will be an integrated hub for polyurethanes manufacturing etc. The exact spending on this unit so far is not known but the gross block of all tangible assets at year end stood at Rs 9.3 bn - not including the capital work in progress of Rs 3.2bn. The directors' report also states that the new unit has been inaugurated.
Hopefully, the margin generation will see a substantial rise along with a sharp boost in the top-line when the new unit goes into full stream--whenever that is. This and the closure of the loss making plastics unit should make a difference to the company's fate so to speak. What is NOT stated up-front however is the extent of raw materials etc which may be imported to feed the new unit and possibly add to consumption costs in the process? We will have to wait and see how it all pans out at the end.
But as things stand at present it is not a very hopeful scenario.
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.