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Cadila Healthcare: A complex operation at work - Outside View by Luke Verghese

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Cadila Healthcare: A complex operation at work
Dec 4, 2010

Cadila Healthcare is one of the successors of the original avatar, Cadila Laboratories (which is still a member of the group) that was founded in Gujarat in 1952, by the late Ramanbhai Patel and Indravadan Modi. In 1995 the two families split, with the Patel family renaming their company as Cadila Healthcare and the Modi family renaming their company as Cadila Pharmaceuticals. Subsequently, Cadila Healthcare went for an IPO in 2000, while Cadila Pharma remains a privately held company. In 2001 the company acquired the controlling stake in the pharma firm, German Remedies. The company is today run by Ramanbhai’s son, Pankaj Patel, and by the latter’s son, Dr. Sharvil Patel. What is quite unique about this company is that Pankajbhai lords over this company in every which way by virtue of his direct ownership of almost 75% of the outstanding equity of Rs 682 m as on balance sheet date. The shares are held by him in his individual capacity, as a karta of HUF and, as Trustee of the Family trusts. The family would have netted a cool Rs 768 m as dividend, on the expanded equity of Rs 1.02 bn after the recent 1:2 bonus issue. The father and son duo are well remunerated otherwise too. The remuneration paid to the managing directors, at Rs 297 m, accounted for over 12.5 % of all employee emoluments. Collectively, that is also a mega 1 bn bucks in the kitty.

Pankajbhai can never be accused of being myopic. The great helmsman is constantly pumping up the adrenaline by setting new goals and then sailing past. The first goal set in 1995 was to become an Rs 10 bn turnover company by the year 2000. The sights were then raised to become a US$ 400 m company by 2006-07. Now its goal is to catapult itself into the US$ 1 bn club in the current year 2010-11. And it may well do so. In 2009-10, on a consolidated basis, it generated a gross total income of Rs 37 bn, while the revenues generated by the standalone company were Rs 24.7 bn.

The company gets quite a lot of help in achieving its sales targets through the help of an extended family. The company ranks big in exports. The export income at Rs 17.5 bn accounted for over 49% of net sales, with the subsidiaries chipping in substantially in the export effort. The group presently consists of 24 direct and/ or fellow subsidiaries, five 50:50 joint venture companies, and a very uniquely coined partnership firm going by the name of M/s Zydus Healthcare, Sikkim. The three partners of this partnership firm are Cadila Healthcare (96% profit sharing), German Remedies (2%), and Cadila Healthcare Staff Welfare Trust (2%). Why then the need for a partnership firm when they are all part of the same whole. This list of companies excludes the parent’s equity holding in four associate companies (which are bracketed under the title of companies coming under the same management in the annual report). In any event the contribution of these associate companies to the income is only through the dividends declared by them, and accounted for as ‘other income’ by the parent, as a result. Fully 22 of the 24 subsidiaries are 100% owned, and besides, 15 of the 24 are of the videsi variety. They sweep across Japan, Russia, Western and Southern Europe, Latin America, South Africa and North America. Only two of the foreign subsidiaries appear to be in the business of manufacture and sale, while two others are holding companies of the global group. The rest merely market pharma items or are into research and development. The five joint ventures are all based in India, but only three are functional as yet. The total book value of the company’s investment in its subsidiaries and associate companies comes to a not inconsiderable Rs 5.3 bn.

Though the group as a whole may well be on target in achieving the top line that the management has mandated in the current financial year, the going is more than a trifle feverish when one considers the bottom line generation of the standalone entity. In 2009-10, the profit after interest and depreciation but before exceptional items was Rs 5.2 bn. But this profit is inclusive of ‘other operational income’ and ‘other income’ collectively amounting to Rs 6.4 bn. (Minus this collective other income accrual of Rs 6.4 bn and, the bottom-line becomes a real red ink tinged border line case. This situation is rather anomalous, as the bulk of the cash flow generated in the last 2 years has been invested in gross block build up - of Rs 4 bn. This should help generate profits too, and not just more revenues.) The contribution of ‘other operational income’ in this collective other income figure was Rs 5.9 bn, with the latter pooling in Rs 435 m.

The breakup of ‘other operational income’ is very interesting. It earned Rs 4.6 bn in toto, either in the form of partners’ remuneration in a partnership firm (Rs 1.3 bn) or as interest earned on capital in a partnership firm (Rs 3.3 bn). The only readily identifiable partnership firm is the Sikkim based entity. The total capital of this firm is given as Rs 893 m. The brief working results of this firm do not appear to be readily available. But in any event, a return on investment of this magnitude is a most remarkable achievement, especially given the size of Sikkim’s economy. With the returns that this partnership business is generating, and the leverage that it has over its siblings, the parent should immediately transfer the balance 4% profit sharing agreement that it presently does not directly control, to its name. For the matter of record, in the preceding year 2008-09, the collective ‘other income’ totted up to Rs 3 bn, in a profit of Rs 3.1 bn.

The subsidiaries and the joint ventures are an eclectic lot. The collective contribution of the subsidiaries to the top line was Rs 16.3 bn, but the net profit after tax was a more sedate Rs 740 m, given the many stragglers. The three revenue generating joint ventures (in reality two JVs) were however infinitely better performers, and by a mile at that. They collectively generated revenues of Rs 3.5 bn and posted a profit after tax of Rs 1.6 bn, based on the briefest data possible that the company has chosen to furnish. (The company’s share is thus 50% of these reported figures). The book value of the parent’s stake in the capital of its three JVs is shown as Rs 532 m. Its stake in the capital of the two other JVs is not known. It also holds convertible preference shares in an American pharma unit with a book value of Rs 187 m. It is not known whether this company is a JV or not. What is very interesting here is the dividend return on the equity that the parent has obtained. The subsidiaries could only part with a pip squeak dividend of Rs 53 m, while the JVs were infinitely more generous and parted with Rs 305 m. Like the return proffered by the Sikkim partnership, this too is a humungous return on capital. With returns like this, the company should definitely concentrate on more JVs and partnerships! And, if one takes into account the interest free advances of Rs 1.5 bn that the parent has placed at the disposal of the subsidiaries or the corporate guarantees of Rs 4.3 bn that the parent has given to banks for loans availed of by the subsidiaries, and the difference in returns becomes even more glaring. Needless to add, the parent may well have dangled other such lollipops too. Some 60% of the total trade debtor dues at year end accrue from subsidiary companies, in the main from Zydus Pharma USA.

There are many other interesting asides about the subsidiaries and Joint Ventures. Its biggest capital investment is in the Irish subsidiary in which the book value of its equity stake is Rs 2.3 bn. This is followed by other subsidiaries, Liva Healthcare with Rs 616 m, Zydus Technologies with Rs 515 m and Zydus Animal Health with Rs 502 m. While the shares in the Irish subsidiary were acquired at a rate of Rs 90 per share on a face value of pound 1.46 per share, the shares in Liva were acquired at Rs 6,788 per share on a face value of Rs 100 per share. This is a phenomenal price to pay, especially in relation to what this company puts on the table at the end of the day. Liva has a turnover of a mere Rs 501 m and a post tax profit of 67 m, and paid a dividend of Rs 17 m. The Irish subsidiary too is another damp squib. On a total asset base of Rs 3.6 bn, it recorded a sedimentary turnover of Rs 99 m, followed by a post tax profit of Rs 56 m, and nil dividends. The knock out performer here is German Remedies. On a turnover of Rs 70 m, it registered a pre-tax profit of Rs 71 m. And by doing so it has achieved the impossible. How could the pretax profit be more than the revenues please? Zydus Pharma USA, is the top dog among the subsidiaries in sales ranking. It apparently markets the formulations made by the parent, and registered a turnover of Rs 5.7 bn, but had precious little to show at the bottomline level, with a post tax profit of Rs 79 m. There are several other nuggets in this list of subsidiaries, but let it pass.

The company also appears to have paid top dollar in one of its other investments, namely Onconova Therapeutics, USA. It is not known whether this is a JV too. But for a preferred stock having a face value of one cent, it has paid Rs 268 per share in one instance and Rs 167 per share in another instance. This appears to be a very dicey investment. It will help if more ethical information is furnished on its investment in this company. Another interesting feature is that the parent has recorded a loss of Rs 154 m on the sale of long term investments. But a perusal of the investment schedule does not immediately reveal how this loss came about, as there is no change in the parent’s portfolio holding between the two years, barring the reduction in the share capital of Zydus Animal Health from Rs 956 m to Rs 502 m (which does not amount to a sale), the sale of 2.5 lakh shares in Avra Laboratories, and the sale of some tax free bonds.

All in all, a very complex operation at work here.

Disclosure: Please note that I am not a shareholder of this company

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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3 Responses to "Cadila Healthcare: A complex operation at work"

parackal o thomas

Mar 24, 2014

It is no doubt a good company; the only problem is the INSPECTION OF THE MANUFACTURING FACILITIES and if found wanting it may take a hit. It is a danger for the whole pharmceutical business

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mesmer

Dec 8, 2011

In Cadila the author has in the passing touched on the main feature i.e Irish subsidiary – very few know that Ireland was one of the most notorious tax havens and has had the biggest scandals involving Parmalat and an Australian asbestos manufacturer not to speak of other rackets featuring relatively lesser players

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khushal shahani

Dec 14, 2010

cadila healthcare is just a goldmine not doubt.

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