- Wealth PMS (50L+)
As part of a new initiative we will review annual reports of companies. Annual reports of some companies are voluminous and lot of the material can be skimmed or skipped. We will highlight the important sections that one should look at while reading annual reports under this series.
We start with reviewing the annual report of Balkrishna Industries (BKT), manufacturer of OHT (off highway tires).
First: Read the Annual Report Here.
Companies usually have two separate sections for the director’s report and the MDA, however in the case of BKT these sections have been merged. Director’s report usually gives a snapshot of the financial performance of the company for the current year and brief commentary for the same.
The MDA section is very helpful. Some of the important things that companies discuss in this section are industry structure, important developments that the company is undertaking, outlook for the following year, opportunities, threats, risks and concerns. Some of the interesting things that we came across in the BKT annual report are:
Important information one can gather from the above is the nature of the business “large varieties low volume segment”, companies need to maintain large no of SKUs. Meaning, you can’t just create a tyre that goes on a 13/15 inch rim, you might need vastly different widths, rim sizes, treads, weight etc.
Also major markets for the companies products is abroad (developed markets), And segments – agricultural, industrial, construction and mining. Growth rate of the overall industry – 4-5% in this case, one can further check what is the growth rate of the company – is it above or below the industry growth rate and investigate the reasons for the same.
Company has undertaken a carbon black project, this is used as raw material for manufacturing tyres. 27-30% of the raw material cost is carbon black.
Carbon black is a very important part of tyre manufacturing – it is literally what makes tyres black, and having to procure it externally adds time and cost (and cuts margins) from the tyre making process. With BKT seeing this, they want to push their own sourcing for Carbon Black – so that efficiency can be increased over time.
The business environment is challenging however the company is taking steps to continue growth in its business – deeper penetration in existing markets, outreach to OEMs (company derives majority of its sales from the replacement market), increasing product range.
The company see’s at opportunity in the earthmoving and mining segment. BKT derives about 65% of its revenues from the agricultural tyre segment, however 65% of the industry is the industrial tyre segment (construction, mining, earthmoving) the industry is estimated to be $15 billion. There is also a shift seen from the bias to the radial segment, 37% of tyres currently manufactured by BKT are radial.
Some of risks that the company faces are fluctuation in raw material prices – major raw materials required to manufacture tyres are natural rubber, synthetic rubber and carbon black – these form 70-75% of the raw material. Foreign exchange (FX) risk – majority of the raw material of the company is imported, however since 85% of the companies revenues are generated through exports the company enjoys a natural hedge.
Financial snapshot for the current and previous year for BKT are as below
On a consolidated basis revenues have increased by 18% and profits by 3%. We will look at the financial statements in detail later in the post.
There is an increase in promoter shareholding at the end of FY18 as compared to the previous year. Promoters hold 58.30% of the company. None of the promoter shares are pledged.
Financial institutions – mutual funds and FIIs hold 28.96% as compared to 31.52% in the previous year. Non institutions – Individuals and bodies corporates hold 12.74% as compared to 14.11% in the previous year. The company issued a bonus (1:1) on 27th December, 2017.
Mutual funds which own shares in the company are – HDFC, Franklin Templeton, Invesco, ICICI and SBI. Amansa holdings run by veteran fund manager Aakash Prakash owns 28.31 lakh shares in the company translating to 1.46% stake.
It is very important to look at the compensation of directors and KMP of the company and compare it with the ceiling as per the companies act,2013.
The managing director and joint managing director take home Rs 63.50 Cr as salaries and commissions, this is below the ceiling limit of Rs 113 Cr or 10% of the net profits of the company. The net profits of the company for FY18 were Rs 736 Cr, however net profits are calculated as per section 198 of the companies act,2013 and the ceiling limit is arrived at. Other independent directors were paid Rs 12 lakhs towards board meetings. Mr Basant Bansal, CFO of the company was paid Rs 1.38 Crs as salaries and perquisites.
While 63 cr. looks like a lot of money, it’s actually very small as a percentage of the net profits earned.
Comparison of remuneration of KMP with the median remuneration of employees of the company are as below.
The average remuneration of employees works out to Rs 4 lakhs and the company had 2,712 employees as on 31st March, 2018.
Below is the breakup of the debt at the beginning and end of the financial year. Companies have been reporting their debt positions in this format since the last 2-3 years.
The company has reduced substantial amount of debt during the year, it has retired debt to the extent of Rs 526 Cr during the year. Total debt outstanding at the end of FY18 was Rs 836 Cr.
In BKT’s case, it is useful to look at past reports. You will understand that the bulk of the debt was taken to expand (double) capacity a couple years back, and they have used most of their cash flow to retire that debt as the capacity has come into use.
It is very important to go through the auditor’s report on the financial statements of the company. In the past auditor’s have made observations in certain companies which were red flags enough for the investor to sit up and take action. This section is not voluminous and investors can quickly go through this section.
Below is the opinion of the auditor’s for the financials of BKT
The auditor’s report is satisfactory, however they haven’t audited the financial statements of the 5 foreign subsidiaries.
BKT has 7 subsidiaries and financials off those companies are merged with the standalone to present the consolidated financial statements. Before we look at the consolidated balance sheet, profit and loss and cash flow statement of the company, details of the subsidiaries are as below.
The net profit of the 6 subsidiaries is Rs 1.46 Crs.
Some of our observations from the above balance sheet are as below
Some of our observations from the above profit and loss are as below
Cash Flow Statement
The company has generated cash flow from operations (CFO) of Rs 750 Cr, it is important to compare the CFO withe net profits for the year. The company posted net profits of Rs 736 Cr before adjustments. This is in line with the CFO that the company has recorded, the reason we compare the CFO with the net profits is to check if the company is able to convert its accounting profits (recorded on the P&L) to cash. CFOs are also called as the cash profits.
CAPEX undertaken during the year is Rs 420 Cr, this is majorly funded by the sale of investments that the company has on its books. Company realized net amount of Rs 305 Cr by the sale of investments. The net cash flow from investing activities is Rs 92 Cr, this can be easily met by the CFO.
The free cash flow which is difference between the cash flow from operations and cash flow from investing is Rs 661 Cr (753-92). Positive free cash flow can be used to retire debt, pay dividends, do buybacks. BKT has retired debt to the tune of Rs 701 Cr. Company has also paid dividends to the tune of Rs 121 Cr.
One must also look at the RPT to check if things like products being sold, raw material purchase, rent paid, royalty payments are carried out related parties. Below are the details of RPT of BKT
One can see that there are no significant RPT for the company.
Contingent liabilities are not recored in the financial statements, they are off balance sheet items and are reported separately. These may be claims made against the company which are under dispute. While these may not materialise in the immediate future, it is a good practice to check the quantum of these liabilities. Below are contingent liabilities of BKT
One can observe that the biggest item in the above table is corporate guarantees given by the group to the president of India to the tune of Rs 1814 Crs. While we do not have details of the same, these look like guarantees that the company has to make as part of running its business. There are disputed claims to the tune of Rs 65 Cr and these have reduced from the last year.
We hope that readers have got important insights of BKT after going through the above review. Many investors make their investing decisions without reading the annual report, however going through annual reports of companies is very important and a starting point of making good investing decisions. We would also recommend going through annual reports of competitors and global players operating in the same industry to get a better understanding of the business.
NOTE: Please do not consider this article as a recommendation, It is purely for informative purpose only. Authors may have positions in the stocks mentioned, so consider our analysis biased. We own the stock in our PMS. There is no commercial relationship between Capitalmind and the companies mentioned in this analysis.
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