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Sicagen India: Not focussed enough on the brass-tacks - Outside View by Luke Verghese

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Sicagen India: Not focussed enough on the brass-tacks
Oct 4, 2012

A company which wears many hats at the same time is trying to make a go of it in its own bizarre manner

A business in trading and distribution

Sicagen India has been around since 2004 and its primary business is in trading and distribution of building materials, and commercial vehicles. The company is headquartered in Chennai and principally operates in the South and in the East of the country. The board of directors has seen an upheaval of sorts during the year with the appointment of three new directors and the resignation of two directors. It currently consists of one whole time director who is also designated as the managing director, and three independent directors.

The background

The company was originally formed as a 100% subsidiary of Sical Logistics. The latter in turn was the logistics arm of the AC Muthiah group of companies. It was spun off from the parent in 2006 and made into an independent entity. Sical Logistics was subsequently sold to VG Siddhartha Hegde of Cafe Coffee Day fame. The two most conspicuous absentees from the board of directors of Sicagen are Annamalai Chidambaram Muthiah and his beta Ashwin Muthiah. But the proxies in all effect have been appointed by them. The promoters and their associates numbering 18 in all, hold 47.1% of the outstanding equity capital of Rs 396 m. But another schedule lets out that three corporate shareholders-Ranford Investments, Damolly Investments, and Twinshield Consultants each hold more than 5% of the capital collectively amounting to close to 45% of the paid up capital. In other words the balance 15 promoter category shareholders hold 2.13% of the management stake. It will also be nice to know who the principal shareholders of the three investment companies are.

The company makes do with a capital base of Rs 396 m. And this capital base is backed up by ample reserves and surplus of Rs 3.6 bn. At first surmise it would appear that the company has been able to squirrel away considerable post tax profits into its general reserves account. But a look at the reserves and surplus schedule belies any such expectations. The biggest constituent of this schedule is the securities premium account. At Rs 2.94 bn it accounts for almost 82% of all reserves. Apparently, the shares of the company were issued at a healthy premium to the face value. This is a very noteworthy achievement. Another Rs 285 m is made up of capital reserves. That adds up to another 8%. In other words close to 90% of the reserves constitute sums not accounted for by genuine post tax profits. Some Rs 351 m is kept as the surplus in P&L account to take care of any exigencies on the post tax profit front in any year. Nice thinking alright.

Its humungous investment portfolio

Given the composition of Sicagen's investment portfolio it is not difficult to see why this company was hived off from the parent before the parent itself was offloaded. The company states that it is primarily into trading and distribution. Oh yeah? In reality it is primarily an investment company and has dud group investments to boast of. If you look at it clearly it is also in the business of manufacturing or so, but more on this later on in this show. Take a look at its investment portfolio. And the list that is displayed on its balance sheet is not the full story. The notes to the accounts have to be seen in conjunction to the list of its investment portfolio. That will give the full story.

The second largest item on the asset side of the balance sheet is investments valued at Rs 1.3 bn. (The largest asset item is long term loans and advances at Rs 1.7 bn).The book value of the non current investments have grown from Rs 426 m previously. The two newcomers in the list are Wilson Cables, the Singapore based sibling with an equity investment of Rs 415 m at a price of Rs 76.5 per share (face value unknown) and Greenstar Fertilizers with a preference share capital of Rs 500 m (face value unknown). Both these companies are privately held and are 100% subsidiaries of the parent to boot. Greenstar is the first company that I have come across that makes it to the 100% subsidiary status on the basis of issue of preference shares. There is another company which is in the same mould as Greenstar, and that is EDAC Engineering which is an 83% subsidiary of the parent. This is on the basis of a preference capital holding of Rs 100 m (face value unknown). In the preceding year it was a 100% subsidiary based on a preference capital holding of Rs 150 m. Shares of the value of Rs 50 m were redeemed during the year. The arithmetic that the company has used to arrive at the balance percentage preference share holding in the company is a bit complex. (I am presuming here that EDAC Engineering has no equity capital base). By holding 1.5 million preference shares the holding amounted to 100%. Therefore logic demands that if the current percentage holding is 83% then the number of shares held should amount to 1.24 m shares and not 1 million shares. Just about anything goes I guess.

The preference share portfolio at Rs 600 m accounts for 45.2% of the total portfolio. In the preceding year the preference share portfolio accounted for 35.2% of the total portfolio of Rs 426 m. The equity stake holdings like that of the preference holdings is a part of the A.C. Muthiah stable of companies. The list includes such listed exotica as SPIC (Southern Petrochemical Industries Corporation) and First Leasing, and privately held companies sporting the names of Mitsuba Sical, EDAC Automation, and South India House Estates and Properties. The combined market value of the quoted companies is surprisingly enough marginally above that of the book value. Proactively enough the notes to the accounts states that the market value of certain quoted companies (there are only two listed companies in its portfolio holding) is lower than the book value by Rs 70 m - but this blip is considered as temporary in nature). The notes to the accounts on the portfolio investments are quite mind boggling on the one hand, and a trifle difficult to comprehend too.

More of the same It appears that 1.99 million equity shares of SPIC are pledged with lenders and are yet to be released. Of this number close to 1.6 million equity shares under dispute and pending adjudication. Another 3.82 million equity shares of SPIC pledged with lenders is under dispute and are thus excluded from the portfolio. The same appears to be the situation with another block of 2,450 equity shares of SPIC. Further, another ten million equity shares of South India House Estates and Properties held by the company is pending dispute and not vested with the company. (What is the dispute about please?). Its entire portfolio holding in yet another group company, MCC Finance, amounting to 2.36 million equity shares is not accounted for in the books of the company as it has apparently filed for liquidation. Given that SPIC is in the ICU or some such it really does not make any material difference whether the disputed SPIC shares are shown in the list of portfolio holdings or not. Both Wilson Cables are Greenstar Fertilizers are privately held entities, but the parent has deemed it fit to present the brief financials of Wilson Cables but not that of Greenstar Fertilisers. It has also presented the brief financials of South India House Estates and Properties too. But one point that is coming across very clearly is that the parent is not getting much bang for the buck on its investment portfolio. The dividend receipts in 2011-12 amounted to Rs 17.8 m against and Rs 7.4 m previously. The latter income was on a significantly lower portfolio holding. More importantly, why was it so important for Sicagen to invest Rs 951 m in two privately held companies? What are the other inter-se deals if any?

A makeshift attempt at manufacturing

As stated earlier it also has manufacturing facilities. It has a speciality chemicals plant at Pondicherry, Beta Industries (whatever that is) unit at Chennai and the cable unit in Singapore. However according to the schedule listing out the cost of products sold, it appears to be manufacturing and selling only drums-period. At least this is my understanding of how it works. Presumably the other manufacturing plants relate to the discontinued business. The gross revenues of Rs 9.13 bn are in itself a four step affair. It consists of sale of products (gross) amounting to Rs 9.01 bn, sale of services of Rs 62.9 m, other operating revenues of Rs 25.7 m, and other income of Rs 30.9 m. Take away excise taxes of Rs 40 m and one arrives at net revenues of Rs 9.12 bn. Sale of products consists mostly of traded goods bringing in almost 96% of revenues, with manufactured goods making good the balance.

How the revenues add up

The biggest revenue earner by far in traded goods is the sale of vehicles-it is an agent of Tata Motors, followed by steel pipes, steel, cables, and spare parts. Sale of services has taken a quantum leap of 115% to Rs 62.9 m. The revenue from manufactured goods -drums is an eye-popper. The cost of drums sold is Rs 403.6 m and the revenue realised on sale is also Rs 403.6 m. In the preceding year too, the two figures were identical. Is one to understand that the company actually lost money on this exercise - taking into account the many overheads? This appears to be a bizarre state of affairs. Just who is the buyer of these drums please?

Separately, the company has accounted for net income from discontinuing operations. On the revenue side it includes income from sale of products, sale of services, and, other income amounting in all to Rs 340 m. The pre-tax profit added up to Rs 74 m. In the preceding year such incomes amounted in all to Rs 207 m with a pre-tax profit of Rs 40 m. It would appear that the company has decided to can a line of business which has made more money in the latter year than in the preceding year. But, I guess the directors know best what they are doing.

Other income basically consists of dividend incomes of Rs 17.8 m, followed by interest income of Rs 11.3 m, and sundry other receipts that it managed to rustle up. As one can see the dividend returns on its investments are a pittance, but on expected lines.

The peanuts dividends

If the dividend incomes are zilch, take a look at how the company's moneys are deployed. It boasts of such entries as long term trade receivables (over one year duration) amounting to Rs 91.2 m. Then there are long term loans and advances amounting to a humungous Rs 1.74 bn (Rs 1.74 bn previously) and short term loans and advances amounting to a further Rs 288 m (Rs 834 m previously). There does not appear to be any explanations forthcoming, as to which entities are the beneficiaries of the company's largesse, and for what purpose. Suffice to add that these loans appear to be of a non interest bearing nature.

The influx of investments into the books, and the higher carrying level of inventories at year end were however marked by a net reduction in the out-standings on account of 'loans and advances'. It is as simple as that. The net cash flow of Rs 715 m that it generated from operations was however not quite enough to take care of the splurge in investments to the tune of Rs 900 m. So it had to resort to additional borrowings to take care of this deficit, and to account for the payment of dividend.

The siblings

It would not be out of place to take a call on the financial health of the two siblings whose brief financials have been appended. The first, South India House Estates & Properties, is apparently a real estate holding on Sicagen. It boosts of total assets of Rs 761 m but drums up revenues of a mere Rs 7.9 m. With no revenue expenses to speak of and no tax provision to boot it generated an identical pre-tax and post tax profit of Rs 7.3 m.

The other, Wilson Cables, has a capital base Rs 238 m and reserves of Rs 526 m. It was acquired at a premium by Sicagen as its 100% holding in this company has a book value of Rs 451 m in its books. It has total assets of Rs 842 m and generated revenues of Rs 1.18 bn for the financial year ended March 2012. But it could only generate a miniscule pre-tax profit of Rs 15 m. After a hefty tax provision of Rs 12.4 m it was scraping the bottom of the barrel with a post tax profit of Rs 2.7 m. On the basis of these results why did Sicagen pay a premium to buy into this company?

It is advisable for investors to keep clear of such entities.

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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