Liberty Shoes: Not run in the most transparent way
It appears that the primary beneficiaries of the company's well-being is the well entrenched promoters
High Sounding notes
The Chief Executive Officer, Mr Adesh Kumar Gupta, commences his missive to the shareholders on a pious note. He quotes Gautama Buddha "We are what we think. All that we are arises with our thoughts. With our thoughts we make the world". Further on in his mission statement he puts his finger on the pulse saying "We also realise that it's no longer the product or service that differentiates our brand; rather it's the customer experience with that product or service that sets our brand apart from the competition." How one wishes that all corporates had a similar value statement to make!
The company in a nutshell
So what is Liberty Shoes all about? A look at the summary results of the 10 years that the company has appended to the annual report shows that its revenues including other income has consistently increased each year over that of the preceding year except in three years - 2002-03, 2004-05 and 2008-09. Looked at it from the year end gross block figures however, the gross revenues including other income, which stood at 1.5 times the year end gross block in 2001-02, touched a high of 3.3 times in 2003-04, and then flip flopped before touching a low of 1.9 times in 2008-09 and then settling at 2.1 times for the latest year. (One must add here that the other income is extraneous to sales but there is no way of weeding out this anomaly in this calculation).The obvious conclusion is that there is consistency in inconsistency. Besides, the number of pairs of shoes sold each year and the profit after tax moved in a haphazard manner. In other words, it was an equally topsy turvy situation here too. Given the yo-yoing pattern of the bottom-line, the company would appear to suffer from a severe case of lack of pricing power or some such. The directors' report says as much - the profits for the year were impacted mainly on account of higher input costs including employee costs. The statement on input costs is not quite on the button, the latter is.
The management has been kind enough to list certain broad statistical details of the top 6 listed footwear companies. In terms of rupee sales the numero uno is Bata India with sales of Rs 11.1 bn. Bata accounts for 41% of the total sales of the 6 companies on display. Next in line is Relaxo Footwear with sales of Rs 5.5 bn, followed by Mirza International with Rs 3.8 bn, and Super House Ltd with sales of Rs 3.5 bn. Liberty is 5th in the list with sales of Rs 2.6 bn (sales for the year ended March 2010) .The straggler in the list is Super Tanneries with sales of Rs 360 m. Other comparisons are difficult to make given the medley of capacities, and the medley of products that are manufactured. Among other bits of valuable information offered is that India produces 2,065 m pairs of different categories of shoes which is second only to China. India exported 115 m pairs in 2010 and consumed 95% of its production in the domestic market. That is to say the total production was 2.3 bn pairs. During 2010-11 the exports of leather and leather goods touched Rs 175 bn as against an export performance of Rs 161 bn previously. The footwear sector accounts for a significant share of these exports.
The principal promoters of this 25 year old Karnal, Haryana-based Company appear to be the Guptas and the Bansals. The promoters either individually-39.9%, or through bodies corporate - 26.2%, collectively hold 66.1% of the outstanding equity of Rs 170 m comprising of 17 m shares of Rs 10 each. (Bonus shares account for 50% of the paid up capital). There has also been in the recent past a dispute between the partners of the holding company, Liberty Enterprises, regarding the franchise agreement entered into between the partnership firm and Liberty Shoes, and the decision of the arbitrator has now has been appealed against before the civil court, Karnal, by the affected parties to the dispute. What exactly are the legal issues involved has not been suitably spelt out by the company, as also the financial implication on the company when the court passes its verdict.
Earning its bread
The way the topline is oiled today the company largely makes and sells leather and non-leather shoes, and trifling sums of leather shoe uppers and PVC/EVA soles. The company also has the capacity to make on an in-house basis 7.5 m pairs of shoes and on a franchisee basis 3.1 m pairs of shoes or a total capacity of 10.6 m pairs of shoes (on franchise basis for whom please?) . The company produced 7.7 m pairs in 2010-11 against 6.7 m pairs previously. According to the Profit & Loss account, the company recorded gross sales of Rs 3.05 bn in 2010-11 against Rs 2.7 bn previously, or a rise of Rs 14.7%. Sales net of excise rose 14% to Rs 2.97 bn. (However the schedule which gives details of the production, sales, and stocks, shows total gross sales of only Rs 2.6 bn against Rs 2.1 bn previously. How did the company achieve the balance sales?) The company also purchased Rs 275 m worth of finished goods against Rs 360 m previously. What value addition the company realised on the sale of the bought out goods is not known. The company eked out a marginal increase in the unit realisation of no-leather shoes to Rs 203 per pair against Rs 202 per pair previously. On leather shoes it was able to obtain a price of Rs 551 per pair against Rs 534 per pair previously. It is apparently a tough business to be in. To be noted here is that the company also exported finished products worth Rs 430 m during the year-or close to 15% of net sales and the export realisations are also factored into the above unit price realisations.
To the company's credit the consumption cost of raw materials (which is by far the largest item of consumption) after adjusting for year-end stocks, rose only 12.4% to Rs 1.5 bn. Thus, the increase in costs of the largest item of expenditure was well controlled. But the company was unable to rein in cost increases on two other items of expenditure. Manufacturing costs rose 20.7% to Rs 247 m, while employee handouts rose 32% to Rs 357 m. Significantly, advertising expenditure rose 89% to Rs 58 m (does it have anything to do with Hrithik Roshan peddling the company's wares?) But such items of expenditure, individually speaking, are however relatively small beer in the overall scheme of things.
Complex organisational structure
As can be expected with any family run company, it is a fairly complex web in its operational structure. For starters it appears to have two holding partnership companies - Liberty Enterprises and Liberty Group Marketing Division. It also has another prominent cog in the wheel called Geofin Investments Pvt Ltd, along with Liberty Footwear Company, Liberty Innovative Outfits and possibly many many more. (Separately it has two subsidiary companies, but more on it later).
In 2003, the company took over the footwear business of the two partnership firms on a franchise basis-which still continues. That is to say it took over the fixed assets, intellectual properties; know how, distribution networks etc. But the catch here is that no ownership rights, tangible or intangible has been transferred to the company. For this exclusive benefit (what benefit?) Liberty shoes has to part with a whole lot of dosh each year to 3 partnership firms even though the agreement appears to be with only 2 partnership firms. At least this is my understanding of the fine print. The total amount paid in 2010-11 to the three family owned entities was a cool Rs 169 m against Rs 164 m previously (with the requisite approvals of the central government as the company dutifully proclaims). In plain English this is what is also called conjuring up patently one sided sweet heart deals that publicly listed companies get into with privately held companies for the sole benefit of the proprietors. The administration, selling and distribution expenses schedule of the P&L account also lists an expenditure item called Royalty of Rs 90 m. To whom has this royalty been paid and for what purpose please? Was central government approval obtained for this payment too?
This is not all. Liberty Shoes has 'infinite' inter-se transactions with group companies too. It received services worth Rs 15 m from group companies. It sold goods worth Rs 351 m to group companies. (One cannot get a lowdown on the unit price realisation here as the quantity of goods sold is not mentioned). It apparently paid out Rs 186 m on licence agreements, and not Rs 169 m as per my calculation. It paid salaries and wages of Rs 48 m of group companies! It took loans of Rs 201 m from group companies and paid back Rs 256 m to them. (The loans were availed of at 12% coupon rate). The total interest of Rs 76 m debited to P&L account appears to have been at a coupon rate of 8%. It has given corporate guarantees of Rs 50 m on behalf of group companies. The trade debtor dues at year end amounted to 47% of sales to group companies against 32% previously. (The total trade debtor outstanding at year end was only 25% of all sales) . But should such ambiguities surprise anyone at all? Then there are such tricks as rent for office premises paid to several group affiliates running to over Rs 10 m for the last financial year and the outsourcing of shoe upper production to a subsidiary. Even better is the trick of paying the pagaar of the employees of its wholly owned subsidiary Liberty Group Marketing Division amounting to over Rs 48 m in the latest financial year. It would appear that the parent is being bilked every which way by the privately held group companies. So who cares anyway. Add to this masala mix the dividend inflows from its very favourable shareholding and it is a double whammy all the way.
The subsidiary capers
As stated earlier it has two subsidiaries, one owned to the extent of 94% and the other wholly owned sporting the names of Liberty Retail Revolutions Ltd, and Liberty Foot Fashion Middle East FZE. The parent has Rs 100 m equity investment and Rs 50 m in fully convertible debentures in the former and Rs 12 m equity stake and share application moneys pending allotment of Rs 17.2 m in the latter. Now, the other income schedule of the parent does not show any dividend income accruing to it in either year. Not that it matters. Liberty Retail appears to have several conflicting figures for those who like to play with numbers. The brief financial details of the company furnished as per Sec 212 (8) shows that it has share application money's worth Rs 55 m pending and that it ran up a post tax loss of Rs 18.9 m. But the investment schedule of the parent shows share applications moneys of only Rs 50 m (the balance Rs 5 m may be on account of outside shareholder dues) and, besides, the statement furnished under Sec 212(1) (e) shows that the company ran up a loss of Rs 18.5 m during the year. It is another matter that this company is performing poorly for whatever reason with accumulated losses of Rs 33.5 m. Inspite of the accumulated losses it boasts reserves of Rs 91 m! This sibling is also a fairly large sized operation with total assets of Rs 457 m and a turnover of Rs 480 m. It also sourced finished goods worth Rs 350 m from the parent, and was paid Rs 38.5 m for shoe upper production charges. Why is this company haemorrhaging when it is a mere lackey of the parent and little else?
The second subsidiary, based out of Middle East is as yet a non performing asset for reasons not known. But apparently, there are some plans in the anvil given the injection of additional capital in the last financial year. Hopefully the fortunes of this sibling will be the very opposite of the grind that Liberty Retail is going through.
Brave and forward looking statements from the chief executive officer notwithstanding, this is not a company which will instil any confidence in 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.
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