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United Breweries: A depressing scenario - Outside View by Luke Verghese

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United Breweries: A depressing scenario
Dec 31, 2012

A company in acute distress if there is one-at least this is what the financials are crying out

Four years shy of its centenary

The most notable aspect of this company is that it is just four years shy of celebrating its centenary as a corporate entity. The big wonder of course is that it has successfully survived the many battering rams that it has been subjected to these past many years. That in itself is a fit case for celebration. The company we are informed is the principal holding company of the UB group through which the promoters and the promoter group own a controlling interest in a number of companies collectively and forming the UB group. The company is the mother hen to 21 siblings of which 10 are of the videsi variety and the rest are India based entities

However, collectively speaking, the siblings are not up to much good but that should come as no surprise to those who have been long term observers of India Inc in general and the UB group in particular. Thankfully enough one of the erstwhile siblings - Kingfisher Airlines (KFA) fell off this vaunted list in February 2012 - but that was only because Kingfisher Airlines very thoughtfully issued additional capital against optionally convertible debentures, and the holding company did not subscribe to its share of this additional capital. One wonders why the parent did not opt to subscribe to its share of the kitty. A well thought out reason perhaps? No dosh to spare? But the directors' report adds that United Breweries (Holdings) is exposed to significant guarantees given on behalf of KFA. The report also very suggestively adds that to this date no such guarantees have devolved on the company. This is really swell information, yaar!

Many offshoots bearing the same name

United Breweries (Holdings) also has five other companies named Kingfisher under its siblings' belt and they sport such colourful names as Kingfisher Finvest, Kingfisher Training and Aviation Services, Kingfisher Aviation Training, and Kingfisher Goodtimes. Then there is the overseas sibling calling itself Kingfisher Beer Europe Ltd.

The report also informs that 'the company has invested in these subsidiaries besides making significant advances to them over the years. Being strategic long term investments and considering the respective business plans of the respective subsidiaries, no impairment is presently addressed'. But the ides of March are ticking...and how!

The auditor's report

The auditor's report to the shareholders is as usual the most interesting copy of the annual report and accounts. From the manner in which the notes are worded on this count it is not exactly very clear what the auditor is getting at. However I am giving below their observations almost verbatim. Among other nuggets we are duly informed that the revenues include an amount of Rs 521.1 mof guarantee/ security commission charged to Kingfisher Airlines. KFA however has not accrued the charge in view of the restrictions imposed by the lenders. The total charge accrued by KFA is Rs 646.7 m. Another note regarding inclusion in the income for the year, interest of Rs 1.2 bn charged to certain subsidiaries and associates, the ultimate realization may take a protracted period of time. The company has significant financial exposure on various counts to KFA amounting in toto to an astronomical sum. It includes equity investment of Rs 21 bn, loans and advances of Rs 10.5 bn, other receivables of Rs 2 bn, and corporate guarantees of Rs 89 bn. If even some of these guarantees befall on United Breweries (Holdings), then even if it sells its last silver rupee it is unlikely that it will be able to honour even some of the limited commitments. The last note in this colourful list informs that there is a non provision for significant decline in the value of investments amounting to Rs 700 m and for probable loss arising out of non recovery of outstanding loans and advances of Rs 1.6 bn.

How it earns its living

The annual report avers that the company's revenues comprise of sale/ lease rentals of property at UB City, Bangalore, export sales, trademark licence fees, dividends, guarantee commission, and interest on loans and deposits. Due to the economic slowdown several lessees of the rental space especially the retail lessees have renegotiated the rentals. This has affected the potential revenue of the company. This statement does not appear to reflect the correct situation on the ground. Have a look at the figures on display. The company earned gross revenues of Rs 5 bn against Rs 3.9 bn previously. Even the other income component has appreciated at Rs 161 m against Rs 124 m previously. Thus, the total revenues grew to Rs 6.6 bn from Rs 5.1 bn previously or put differently the revenues and other income grew over 29% over the reporting period. For the present at least the revenues appear to be on track. It will also help if the directors apply their mind before approving the directors' report to the shareholders.

Where the company lost ground and serious ground at that was in the profitability aspect. The profit before tax declined to Rs 8.3 m against Rs 62 m previously, and this was not due to trade factors but extraneous factors - which please note. The company took a severe dunking it would appear. The financials do not quite a pretty picture make though it continues to generate a surplus in the cash flow from operations. It generated positive cash of Rs 1.26 bn - the same as mentioned previously from operations. But the picture got all mixed up after that, and inspite of the company trying to generate cash from the sale of fixed assets and investments. Consequently the company was quite out of pocket at the end of the day. It was forced to increase its loan portfolio to balance its books.

Expenditure spinning out of control

In reality the company is in a very unenviable position. Though the total revenues rose over 29%, some major components of revenue expenditure are spinning out of control. The biggest item of revenue expenditure in its books not surprisingly is finance costs. This expense item rose 58% to Rs 3.5 bn on the back of a minor 7% increase in borrowings to Rs 24.8 bn. This would imply that the company is either paying very high interest charges on its loan portfolio or better still that the borrowings during the year were considerably higher than the year end loan portfolio would seek to reveal. Materials consumed rose by 33% at Rs 2 bn. That percentage increase makes for a lesser pace of increase than the increase in revenues from bought out sales - and this item is the second biggest item of expense. The manufactured sales rose 38% to Rs 2.7 bn from Rs 2 bn previously. This would also infer that the company was not able to register end product price increases to cover higher production costs. Other expense items are relatively very minor in nature.

The company earns its revenue streams from a complex mix of receipts. It includes bought out sales, property development, dividends, guarantee commission - an art which Vijay Mallya has perfected - lease rent, income from property maintenance, licence fees, management service fees, profit on sale of investments, duty drawback and so on. The interesting tit bit here is that the bulk of these receipts are not of a regular and recurring nature. But inspite of this factor the company very creditably cobbled together higher receipts for the year. Add to this the 'other income' factor. This in the main includes interest receipts and exchange gain of Rs 1.6 bn. This is a sizeable constituent accounting for over 24% of gross revenues. The exchange gain can go either way and depends more on the luck of the draw.

No manufacturing base

The company does not manufacture anything for sure. What it does do is to buy and then sell. It bought and sold alcoholic beverages, leather products, readymade garments and a miniscule quantity of pharma products. The latter appears to be a new line of activity. For segment reporting purposes the biggest revenue generator is alcoholic products with revenues of Rs 1.8 bn and it also generates a positive margin. Leather products and readymade garments generate revenues but it is a touch and go situation on the margin generation front. These two businesses are on tap merely to burnish the top-line it would appear. The really big margin generators are guarantee services which almost suffers no expense and property development which again represents the net income received from the developer. Then there is an item called 'Others' which brings in both top line and some bottom-line. This in sum toto is what the company is all about - and there is really nothing to holler about.

Its investment and loan portfolio

As stated earlier where the company is really coming up short is the return that emanates on its 'investment' portfolio and on its 'loans and advances' portfolio. This is also the major reason why it is 'over borrowed'. It has non-current investments valued in the books at Rs 16.4 bn. Then there are the 'loans and advances' to subsidiaries amounting to Rs 19.6 bn. The investments in turn consist of trade investments of Rs 12 bn and investments in siblings to the tune of Rs 756 m, in other companies amounting to Rs 9.5 m, and in the preference shares of two subsidiaries of Rs 3.6 bn. The biggest investment by far is its equity stake in Kingfisher Airlines at Rs 9.3 bn at an average price of over Rs 46.67 per share or 56% of the total investments. Next in line is the preference share investment in Kingfisher Finvest India of Rs 2.5 bn. This is followed by the equity investment in United Breweries of Rs 1.1 bn and the preference share investment of Rs 1.15 bn in UB Overseas Ltd. Then there are the dollar denominated equity investments of Rs 697 m, dollar denominated preference shares of Rs 1.2 bn and an equity investment in Kenyan shillings of Rs 7.6 m. Of the dollar denominated investments the largest single stake is in Rigby International amounting to Rs 660 m.

The parent obtained a total dividend of Rs 113 m on its investment portfolio in the latest accounting year - with not a dime coming in from the siblings. It also earned an interest income of Rs 1.3 bn. But the makeup of this interest income is not known - including the interest if any from bank deposits etc. The point is also that the cash flow from financing activities shows an interest receipt of only Rs 24 m! The respective conflicting figures for the preceding year are Rs 1.16 bn and Rs 8.7 m. It would appear that under the mercantile system of accounting that the company has adopted the vast bulk of the interest income accounted for in its books represents the interest receivable but not actually received! Ha! Ha! However, where the company really scores is in its working capital management - and that is largely by default. The current liabilities stand at Rs 10 bn while the current assets weigh in at Rs 4.9 bn. This is precisely the way a market leader should function - but United Breweries Holdings is no market leader by any stretch of imagination.

The siblings

We could also stretch our imagination to the financial performance of the many siblings that it has authored. It has published the brief working results of 11 India based offspring and 10 based out of foreign shores. And what a 'pretty sight' they make for. As stated earlier none of them have parted with a dividend for starters -but that is basically because they are out of pocket at the end of the day. And that is hardly any surprise. The company with the largest capital base is its firangi sibling UB Overseas Ltd at Rs 1.3 bn - mostly of the preference share variety. But it has negative reserves of Rs 599 m, NIL revenues and ended with a pre-tax loss of Rs 31 m. It also has investments valued at Rs 3.4 bn. It is quite obvious then that the investments yield no revenues. How can any company churn out such whacko results please? The company generating the biggest loss is Kingfisher Finvest which on a mere capital base of Rs 10.5 m and revenues of Rs 61 m ended up with a magnificent pre-tax loss of Rs 787 m. It also boasts of investments valued at Rs 10.4 bn. More to the point cannot these investments yield even a dime? What do these mega investments really represent? Besides, there appears to be a severe mismatch between the paid up capital and the book value of its investment portfolio.

Then there is Bangalore Beverages which on an almost non- existent capital base of Rs 0.5 m and total assets of Rs 15.8 bn, rustled up revenues of Rs 1.5 bn, but could only report a pre-tax loss of Rs 1.9 m. This is nothing short of 'ingenious' use of capital. Then there is UBH (BVI) Ltd -incorporated in the British Virgin Islands--which on revenues of Rs 8 m reported a loss of Rs 183 m. What in heaven's name is this company up to? Yet another worthy, Rigby International, produces another standout performance and is vying to go one up on its brethren United Breweries of America Inc on the negative honours list. Suffice to add that each one of the companies in the list is an extraordinary nugget in itself.

The overall scenario represents a picture which is frightening in its intensity.

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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