India Gate manufacturer KRBL annual report-some comments

Recently, I read the annual report of KRBL. Following observations

• Typical 'lala' company with sole propritary auditor albeit quite well paid at 18lakhs, underpaid professional KMP(CFO at 35lakhs and CS at 7 lakhs; cost auditor at 0.5lakh).
• Spent just 10% of CSR budget(!)-prudent financial management :D
• Brand focus with commensurate R&D investments
• Exports are largely to middle east
• However, the company substantiates its leadership posiiton claim with data from AC Nielen on overall, traditional and modern trade market shares. 

Some accounting red flags via unexplained expenses growth in key items not commensurate with sales/explained factors

Amounts in Lakhs

Note	Pg	Item	FY 2016	FY 2015	Variance	Comment
29	149	Internal Auditor's Fees	32.5	20.22	61%	E&Y appointed from 1 Oct 2015, at probably double the remuneration of earlier auditor(Pg41)
29	149	Land, Warehouse & Godown Rent	948.75	278.72	240%	Topline growth only 7%, so this is unusual
29	149	Insurance Charges	144.92	77.95	86%	Topline growth only 7%, so this is unusual
29	149	Testing & Inspection Charges	107.4	28.02	283%	Export Sales growth only 40%(overall 7%) so this is unusual
30.02	150	Auditor Remuneration(Taxation matters)	10.77	1.69	537%	Unexplained auditors payments-red flag

In totality, since the CAGR in revenues, EBIT, PBT are in line, and there has been debt reduction, the company does not seem a risk. However, above is an example of analysis which one could do to identify accounting risk.

Those interested in the annual report can download from below:

http://krblrice.com/fy-2016/annual-report/2015-16%20Annual%20Report_KRBL%20Limited.pdf

Key takeaways from DLF Annual Report 2015-16

Can be downloaded from http://www.dlf.in/images/downloads/DLF_Annual-Report-2015-16-Final.pdf

• Employee cost reduced from Rs 349crores to 316crores despite a 20% revenue growth. 
• 31.3MnSqft is rented out for Rs 26000MINR(annualized) at a 95% occupancy rate. This equates to Rs 850/Sqft/year or Rs 71/Sqft/month(!!). This with a reinvestment capex of just 5% of rental revenue. 
• Investments in infrastructure paying out
• 16lane road 8.5kms length from Delhi to Golf Course road nearing completion
• Cybercity metro investments and highway spend
• Consolidated Borrowing costs reduced y-o-y from 11.86%(11.48% standalone) to 11%(10.55% for standalone)
• CSR Spend of 10.4crores is fully spent
• Around 2000 permanenent employees of which 18% women
• MD&A section contains details on litigation notably SEBI, COMPAT and P&H court orders. This is material but cannot be fully appreciated from the annual report.
• Possible transfer pricing complexity here-since holding company does NOT account for majority of assets or profits. Below table indicates this. There does not seem negligible risk of tunneling since these key entities are nearly all 100% owned. But this profit split is strange.
  

How management affects financial reporting-the case of Tata Power and Adani Power

As a veteran reader of annual reports would know, accounts (even audited ones) are subject to several adjustments/interpretations. This is because on the same facts, different people can take the same view. Auditors merely ensure that the management interpretation does not cross canons of incorrectness.

Facts in brief
Adani and Tata had bidded for coal based power plants respectively with capacities tied up under power purchase agreements (“PPAs”) for twenty five years with substantially fixed tariffs. The PPAs for these plants were made based on the commitments / understanding that domestic coal linkages would be available to meet the fuel requirements. However, adequate coal linkages were not made available due to various reasons not attributable to the respective subsidiary companies. In response to pleas for compensating the losses due to above, the respective state electricity regulators had granted part relief in form of interim compensatory tariffs, however this matter was litigated and has not reached finality as of now.

Stance taken by Adani Power-Recognize revenue
As per the assessment by the Management, it would not be unreasonable to expect ultimate collection of an equivalent amount as the CT towards relief due to impact of Force Majeure events which is predicated on the legal advice that the CERC may be guided by the principles of restitution / mitigation of the impact of the promulgation of the Indonesian Regulations and non-availability of short supply in determining the extent of impact of Force Majeure events. In view of the aforesaid, the Company has continued to recognise total revenue of H3,374.66 Crores on account of the CT upto 31st March, 2016 (including H674.19 Crores for the year ended 31st March, 2016 and H857.35 Crores for the year ended 31st March, 2015) based on the formula and methodology prescribed by CERC vide its order dated 21st February, 2014 considering the same as the most appropriate basis for measuring impact of the Force Majeure

Stance Taken by Tata Power-No revenue recognition-Director's report for FY 2015
CGPL has been legally advised that it has a good arguable case. However, in view of the pending appeal as mentioned above and considering that the amounts associated are significant, CGPL has not recognised revenue amounting to ` 757.89 crore for the year ended 31st March, 2015 and ` 1,019.06 crore for the period from 1st April, 2012 to 31st March, 2014. 
Above stance not expected to change as the company has not recorded this income in the audited accounts for the year ended 31 Mar 2016.


Takeaway
Both the below companies are audited by the same Big 4 auditor Deloitte. Yet on very similar facts and the identical rulings, the companies took a very different view to revenue recognition, and the . Tata Power conservatively chose not to record revenue considering the high stakes involved, while Adani Power decided to record it basis management assessment. Accounting risk is therefore higher in the latter, from an investor perspective. While the statutory auditor has qualified the audit report in Adani possibly for this reason citing it as an internal control weakness, this is more a process rebuke than calling it wrong accounting
According to the information and explanations given to us and based on our audit, a material weakness has been identified as at 31st March, 2016 in the Company relating to inadequate internal financial controls over financial reporting in respect of revenue recognition on account of additional tariff claims pending determination by regulator, and final outcome of the litigations.

Interesting nuggets from company quarterly results from Jan 1 to Jan 25,2014

As per the quarterly reporting calendar mandated by the Indian securities regulator SEBI, listed companies are supposed to release their quarterly income statement within 45 days from end of the quarter(and balance sheet every half year). Notes to accounts are also mandatory, and while often overlooked, give very interesting information which could otherwise be overlooked, or only mentioned by discerning news sources like Mint newspaper. Why should investors bother? All these are issues which go directly to the quality of earnings considerations, and warrant a relook at the investment thesis, as also early warning flags even if not highlighted in company press releases

Following goes
1) In Note 3 of its results, CAIRN INDIA disclosed an one time P&L charge of Rs 1555 Mn(around Rs 1395 Mn post tax) on account of measuring its outstanding employee stock options via Black Scholes method instead of intrinsic value method(only accountants would really go into these details). While this impact was hardly 1.5% of the year to date PAT, it was still quite interesting to see such large impacts and the timing of this non mandatory charge-maybe cleaning up the books to reduce CSR charge? http://www.bseindia.com/xml-data/corpfiling/AttachLive/Cairn_India_Ltd_230114.pdf

2)In their report annexed to DISH TV financials, the auditors i.e KPMG flagged attention to the erosion in net worth, non renewal of license(till date, though mere formality), and the company's mismatch in depreciating CPEs over 5 yrs, but booking the advance revenue in 3yrs. This was probably another long drawn audit unadjusted difference, which the company expensed this time  http://www.bseindia.com/xml-data/corpfiling/AttachLive/Dish_TV_India_Ltd_230114.pdf

3)THERMAX Group expensed nearly 10% of their previous years profit(i.e 10% of 350 crores cf Rs 35 crores)  being provision made for estimated liability likely to arise upon its claim for deduction of certain business expenses being held inadmissible consequent to a survey u/s 133A of the Income Tax Act This was despite not having received an order after the survey!! Usually companies vehemently contest the charges as being without merit etc, but Thermax seems to have rolled over! Also, the closure of the Mundra SEZ unit for not having received environmental clearances, affected this quarter http://www.bseindia.com/xml-data/corpfiling/AttachHis/Thermax_Ltd_210114.pdf

4) ASHOK LEYLAND credited the net profit around Rs 14 crores, from sale of immovable property to its profit and loss instead of directly to equity via general reserve. This change was done this quarter i.e Dec13 onwards, just when the company shifted into losses! http://www.bseindia.com/xml-data/corpfiling/AttachHis/Ashok_Leyland_Ltd1_210114.pdf

5)In KEMROCK financials, the auditor drew attention to the debt restructuring of the company referred to in Note 5 of the financials, which are missing!! 4!!! http://www.bseindia.com/xml-data/corpfiling/AttachHis/Kemrock_Industries_and_Exports_Ltd_160114_Rst.pdf

McDonald India franchise Hardcastle reverse listing-many questions unanswered

Nearly two months ago, the Jatia family surprised the stock markets by announcing the reverse merger of their family jewel Hardcastle Restaurants(which operates the McD franchisee) into their publicly listed shell company Westlife Developments. The shock and awe tactic unfolded in December first week, when the company announced the reverse merger, along with the bonus issue, corporate restructuring http://articles.economictimes.indiatimes.com/2012-12-13/news/35796999_1_hardcastle-restaurants-mcdonalds-market-cap  The share price promptly doubled and has been in the upper circuit ever since. However, poring into the filings, a different and surprising picture emerges

1. Why were 'non promoter' shareholders gifted 10.81% of the company free via bonus shares only to them? The company had announced that to meet the SEBI minimum public listing requirements, 'non promoter' shareholders holding 14.29% of the company(before bonus) were now given 1:1 bonus shares, to bring their total holding to 25%. Note that this did not compensate the promoters for their stake dilution, not did the company receive any fresh resources. It could have met the requirement by Mar-13, or even done a QIP(Qualified Institutional Placement). That it chose to give bonus shares, seems either very generous promoters, or else some possible extraneous considerations due to tax planning etc! Given the concentration in non promoter shareholding, as also the fact of shareholding changing hands for very short periods to an erstwhile employee, this is quite a possibility. I do not see the rationale of rewarding the FII(New leaina investments) otherwise. 

Stake%	PostBonus	Sep-12	Jun-12	Dec-11	Sep-11	Mar-11
Rajiv Himatsingka	15.70%	8.97%		13.81%	13.81%	14.06%
Gaurang Agarwal			8.97%
New Leaina Investments	8.47%	4.84%	4.12%
Source:- Moneycontrol.com shareholding pattern disclosures

2. Why does the press release give the picture that merger is 'contemplated' when the fact remains that merger has already happened. To be fair, the press release talks about 'Westlife Development Ltd proposes merger to make Hardcastle Restaurants a direct subsidiary' , which strictly speaking means what they are doing-a scheme of arrangement to amalgamate the holding company layers. But this does not result in any change in economic ownership(ok agreed that indirectly the Jatia family still owns stake in the intermediate companies, but minority stake at that). The fact is since HRPL was acquired before closing of FY12, merger happened de-facto
3. Why does the annual report differ from the Clause 41 annual audited accounts filed with SEBI? http://www.bseindia.com/bseplus/AnnualReport/505533/5055330312.pdf contains the financials with the effect of the merger, while the filing with BSE(on the same date) http://www.bseindia.com/corporates/AnnPdfOpen.aspx?Pname=Westlife_Development_Ltd_071212_Rst.pdf|1 contains numbers as if no amalgamation had taken place 

This would make an interesting case study some day, especially the answer to #1