First Leasing Co.: Chugging along the beaten track
At some point in time the management of First Leasing made a mid course correction in its main objects, which is probably the primary reason for its continued well being
The good News
Let me start with the good news. This is the 'one' company co-promoted by Dr A C Muthiah which is still extant. That in itself is an epoch making event and should be taken note of by all management students. As a matter of fact First Leasing is actually gaining strength-proving yet again that if the management is left in competent professional hands, the company will prosper. Now for some more good news please. The company is still run by the same co-promoter who begat it in 1974 or so - Mr Farouk Irani (But boy is Mr Irani well remunerated for his troubles. His salary package for the year was Rs 17.8 m. This payout accounts for 58% of all employee remuneration for the year! Is this company a one man show or what?)
(Besides, Mr Irani realises all too well that the best place to put your money is where your mouth is. He has also advanced substantial monies to the company as fixed deposits. The company has paid out Rs 5.5 m during the year as interest on the deposits. The company has taken on fixed deposits to the tune of Rs 98 m from two directors.)
First leasing company
It was also christened as First Leasing, probably because it was the first leasing company to open its doors for business in India. This is yet another feather in the cap of Chennai where the company is headquartered. It would also appear that First Leasing still continues to be a lodestar to the non banking financial services industry. For, unlike its more illustrious shooting star country cousins it is able to hold its head well above water on a consistent basis. The company also boasts a 36 year unbroken track record in dividend payment. But at the same time it is not difficult to see why the leasing industry attracts so little attention in the mindsets of investors. Bonus shares account for a minuscule 0.8% of the paid up equity capital of Rs 228 m. At year end though, the reserves and surplus amounted to a healthy Rs 2.8 bn. It is also an industry which does not attract any predators. The promoters' holding is a mere 27.3% of the outstanding capital.
The company has provided a snapshot of its performance results from 1974, the very first year that it recorded revenues. From gross revenues of Rs 0.8 m in that year to Rs 2.3 bn in 2010-11, it has indeed come a long way. There was a slump in the revenues in 2003 and it could top the revenues of 2002 (16 months figures) only in 2009 when it suddenly gained traction again. In 2010-11, the revenue growth accelerated 22% to touch an all time high of Rs 2.3 bn.
Income from windmill operations
Presently, the gross revenues also include income from windmill operations. It contributed a miniscule Rs 27 m to the top-line against Rs 39 m previously. What exactly was the objective of this diversification attempt is not known. Suffice to say that windmill generation also begets 100% depreciation in the year of installation of the windmill. That would appear to be the principal attraction. The company does not appear to have provided the statutory breakdown of the operations of the windmill division which is a separate line of activity. So there is no knowing the commercial expediency of this line of business either. But without making a song and dance of it, the company has also quietly hived off the windmill division during the year. At least the fixed assets schedule shows a deletion on this account. The windmill which had a book value of Rs 15.7 m was apparently flogged for 11.2 m, or some such, based on a perusal of the balance sheet data.
Income from Capital gains
The bigger revelation about the company's functioning is that the net profit has shown an almost consistent increase in each year over that of the preceding year irrespective of the decline in revenues from 2003 to 2008. This is indeed a feat worth emulating if only one knew how. Was there any change in accounting practices post 2002, or a change in the business module perhaps, which helped jack up the bottom-line despite falling revenues? There was also a quantum leap in net profits by 103% to Rs 707 m in 2010-11. But as the directors' report avers, this leap in profit was due to a one time receipt of Rs 540 m from the sale of one of a portfolio holdings (Credit Analysis and Research - CARE) which led to a whopper of a capital gain. As a way to generate some traction of the profitability front, the company also bought and sold debt securities, which appears to have become a de-rigueur activity in corporate India. But if this capital transaction did bring in any monetary gains, there is no sign of it.
In line with its performance statistics, the directors' report states that the 'Leasing industry holds immense potential. A positive development for the leasing industry is that Indian industry is shedding its conservative attitude of preference for asset ownership and increasingly moving towards leased equipment'. The report also adds that there has been a huge demand for lease financing in respect of consumer goods and infrastructure sectors as compared to other markets. Leasing it says is also the only avenue for companies with unproven track records due to their inability to access the capital markets or avail of bank loans. It may not be out to place to state here that the directors' report and the management discussion and analysis report contains a number of gross grammatical errors!
Borrowing more and more to be in business
What comes across very clearly is that there is no way that First Leasing can survive by self financing. (Presumably this is a basic problem that afflicts the non banking financial services industry.) The company has to borrow more and more each year just to be in business. During the year loan (unsecured loans) funds accelerated by Rs 1.2 bn to Rs 11.7 bn from Rs 10.5 bn. On the flip side, 'stock on hire' rose by Rs 1.4 bn to Rs 12.3 bn from Rs 10.9 bn. In other words the basic building block of its business rose at a marginally higher pace than the growth in debt accumulation. If one were to combine the year end book figure denoting 'Stock on hire' and the figure denoting 'Net lease investment' the amount of assets loaned out would amount to Rs 14.3 bn against Rs 12.9 bn previously. (One is assuming here that the 'net lease investment' refers to the stock on lease.) That is to say the cumulative total of the stock on hock just about hovers above the accumulated debt.
Its inability to generate cash flows from operating activities is quite apparent from its cash flow statement. Though the company shows a healthy year-end profit on its operational activity, the fact of the matter is that the company is out of pocket when it comes to cash flow from operations. The net cash generated from operations was a negative Rs 1.5 bn, against a negative Rs 1 bn in the preceding year. This is one of the several anomalies that one encounters in the accounting business. It made good the monies in the latter year by resorting to the sale of securities which generated Rs 536 m, and from the proceeds of net borrowings to the tune of Rs 1.1 bn (if the anomaly stated below is rectified). (The situation was almost identical in the preceding year too except that there was no cash generation from the sale of securities.) However there appears to be an anomaly in the statement of 'cash flow generated from financing activities'. The statement says that it repaid borrowings to the tune of Rs 55 m during the year. This figure is however shown as cash inflow instead of cash outflow. How could this be? If the effect of this figure is deducted as it should be, it would affect the cash flow negatively by Rs 110 m.
The nomenclature of its current assets
The other interesting aspect is that the nomenclature of the current assets that it lends out. Almost the entire stock that it has lent out is 'stock on hire' and not 'stock on lease'. Now, this company is supposedly primarily in the leasing business, or is it? But the lease portfolio appears to be very very limited. Why then does it continue to portray itself as a leasing company when it most definitely is not? It has long since moved on as the leasing business from the operational viewpoint is infinitely more cumbersome. The point is that the ownership issues of assets lent out, the accounting for income and expenses etc, and which in turn drastically alters the beneficiary for tax credits, for both stock on lease and stock on hire. In this specific instance the company claims only a teeny weenie amount as depreciation at year end - implying that it is primarily in the hire purchase business. Why then does the directors' report harp on the immense potential of the leasing industry when it is primarily in the hire purchase business? Has the management lost its bearings or what?
In sum total there is really very little to commend this company to a prospective shareholder.
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.