Granules released its annual report for FY16 in July 2016. Its almost a year since the report came out and I am already late . In another couple of months we will get the AR of FY17! The annual report of FY16 marks a continuation of its previous annual reports. The style of presentation keeps changing but the essence of the report is same as previous years. Before continuing with the annual report analysis, I would recommend you to read the following articles. The annual report captures things which are not said in the below articles. So in a way they are complementary to each other.

Let us now start with the important observations from the Annual report for FY16. Granules has logically divided its future into three growth areas and see itself growing in these three areas.

  • PART 1: Traditional Business

The mass market products created using Paracetemol, Metformin, Ibuprofin, Guaifenesin, Methocarbamol. This is the bread-and-butter of the company. Granules is spending loads of money to increase capacity for these molecules. It is also devising new products around these molecules. It has also entered independently into store band Over the counter (OTC) segment for these products. All these initiative should keep the counter ticking. Close to 87% of sales are derived from this traditional business.

  • PART 2: New Business

Granules is doing many things to enter the low volume high margin products. It is filing ANDAs for new products (from its Actus division as well as the US plant). It has also setup and R&D center in Hyderabad with 150+ engineers. The company plans to file 6-8 ANDAs every year and turn them into new products. The aim is to create Formulations out of these new molecules and not limit itself to just the APIs. This should bring in the delta high margin revenue

  • PART 3: Omnichem JV

As the patents are expiring and generic manufacturers are swarming in with low cost generics, the original patent holders are facing the heat and loosing revenue. Granules has entered into agreement with Omnichem to manufacture the generics (API) for these large companies. It has setup a manufacturing plant and API intermediates have already been shipped to Omnichem. Once Granules gets USFDA approval it shall start manufacturing the APIs for these. Granules is betting on this business for its future growth.

Balance Sheet Analysis

The balance sheet includes the Liabilities as well as assets. The Assets and Liabilities should ideally match.

Liabilities:

Liabilities can be broadly divided into Shareholder Funds, Non-current Liabilities and Current Liabilities. Let us look at all the three.

  • Shareholder Funds:
    • Share capital: The share capital increased from 20.4252 crores in FY15 to 21.6712 crores in FY16 due to two aspects.
      • ESOPs issued to the tune of 11,10,000 shares
      • Shares issued to the tune of 1,13,50,230 to promoters in lieu of the warrants that the promoters were given. Promoters are bringing in close to 200 crores in-return which will be used for CAPEX and working capital requirements of the company.
    • Reserves and Surplus: The reserves and surplus has increased from 404.9841 crores in FY15 to 614.1307 crores in FY16. Main highlights with respect to reserves and surplus are as below:
      • Security premium reserve increased from 120.2847 crores to 224.8946 crores mainly due to ESOPS and the shares issued to promoters.
      • General reserves. This was the notable thing. There is no additional amount added to general reserves. Hence the reserves stand at Rs. 207.8674 crores.
      • Surplus in Profit and Loss increased from 72 crores to 176 crores. Since some money (probably around 100 crores) did not go to reserves, the surplus amount has swelled to 176. The company is probably holding this money for the CAPEX requirements. (If the stipulated 100 crores would have gone to General reserves, the surplus would have been 76 crores).
    • The company received Rs 27.1629 crores against the warrants issued to promoters.
  • Non-Current Liabilities:
    • Long-term borrowings: The long term borrowings has decreased from 242.67 crores in FY15 to 184.21 crores in FY16. The company has paid back some of its loans. Out of this 184.21 crores, close to 106.92 crore loan is in Indian currency and 76.71 crore loan is foreign currency loans. Note: 64.32 crores of long term loans were due this year. Since they are due this year they cannot be classified as long term loans and are not shown above.
    • Deferred Tax liabilities: Including Fixed assets depreciation and others this is about 61.15 crores.
    • Long Term provisions: This includes things like gratuity etc and comes to around Rs 5.28 crores.
  • Current Liabilities:
    • Short-term borrowing: Short term borrowings are generally done to meet the working capital requirements. It has increased from 114.86 crores in FY15 to 147.78 crores in FY16. (If the company is not able to pay this then the banks have first right on current assets and if they cannot recover using current assets they can get hold of the fixed assets and sell them to recover the dues).
    • Trade Payables: This is the money that company has to pay to its suppliers, channel partners etc. As on 31st March 2016, this stands at 177.15 crores. This is a dynamic value and keeps changing every day based on payments made by the company to the concerned company. On 31st March 2015 the amount was 183.23 crores. In-principle the trade payable is less by 10 crores for FY16.
    • Other Current Liabilities: This predominantly includes the long-term borrowings that are due this year (about Rs 64.32 crores). Other things like salary and bonus, interest on non-borrowing items, dues to statutory authorities etc, cumulatively come up to 78.86 crores.

If I were to summarize the liabilities:

  • Share Capital increased due to issue of shares to promoters. There is no addition to general reserves this year. Company wants to keep money in the surplus account (probably for its CAPEX needs this year).
  • Long term borrowings have come down by close to 58 crores to a value of 184.21 crores.
  • Short term borrowings have gone up by 33 crores to a value of 147.78 crores.

Assets:

Assets can be broadly divided into non-Current assets and current assets.

  • Non-current Assets:

Non-current assets basically includes assets that are applicable and present in Current FY as well as previous FYs and future FYs.

  • Fixed Assets: Fixed assets of the company have gone up from 540.66 crores in FY15 to Rs 56 crores. This includes tangible assets like land, buildings, plants, machinery, vehicles. After factoring depreciation the value of fixed assets comes to around 440.46 crores. The second component of fixed assets is the intangible assets. This includes technical know-how and software which, after factoring depreciation, amounts to around 82.82 crores. The third component of fixed assets is the capital work in progress (i.e. factories being built). This amounts to around 35.27 crores. Adding these three components gives the total fixed assets at 558.56 crores.
  • Non-current Investments: This includes Granules’s investment in its Subsidiary and JVs (Omnichem, Biocause). Granules has spent some money in FY16 towards Omnichem JV as well as its GIL Life sciences Pvt Ltd. In all the non-current investments amounts to about Rs. 88.5 crores.
  • Long-term loans and advances: The company has given loans to its subsidiaries to the tune of 76.78 crores. Out of this amount the major amount went to its US unit Granules Pharmaceuticals Inc (about Rs 52.49 crores)
  • Current Assets:

Current Assets are relevant only to the current financial year. Hence it mainly includes things that when sold will bring money in this financial year.

  • Inventories: Things like Raw materials, packing materials, work-in-progress items, finished goods materials in transit make up inventories. As on 31st March 2016, the total inventories comes to around 12 crores. This is a very dynamic number and changes every day. Hence it is applicable for a particular day.
  • Trade receivables: This is the amount receivable from its customers (either direct customers or B2B customers). This is about Rs 198.79 Out of this amount only Rs 3.78 crores is pending for more than 6 months and company still believes it can recover this amount.
  • Cash and Cash equivalents: This includes cash in hand, current accounts and its deposit accounts and comes to around 110.70 crores. I think the money received from share sales are parked here.
  • Short-term loans and advances: This mainly includes the credit available with govt like VAT, service tax, CENVAT. This comes to about Rs. 73.19 crores.
  • Other current assets: About Rs 6 crores that includes export and import entitlements.

If I were to summarize the Assets of the company:

  • Non-current assets mainly includes 440 crores worth of fixed assets (after depreciation).
  • Current assets includes about RS 200 crores each of inventories and Trade receivables and 100 odd crores in cash and cash equivalents.

Summary of Balance Sheet:

The company seems to be in a decent shape with the long-term borrowings coming down and short term borrowings being stable. It has fixed assets to cover its both short term as well as long term borrowings. With respect to trade payables I am sure the company has funds to pay its share of dues. Again, on the asset side, its Inventories has a mix of finished goods as well as work in progress items. Importantly, almost all its trade receivables are less than six months old and hence are recoverable. Overall the balance sheet seems healthy.

Cash Flow Statement

The cash flow statement can be divided into three parts: Cash flow from operating activities, Cash flow from investing activities and Cash flow from Financing activities. Let us look at all the three and see where the companies stands with respect to cash flow:

  • Cash Flow from operating activities: Net profit before taxes was about 180 crores. To this when we add back the depreciation & Amortization, interest and dividend income and then subtract trade receivables and trade inventories and also the direct tax, we get the final cash flow from operating activities as about 149.09 crores.
  • Cash Flow from investing activities: This will generally be negative amount because this section talks about buying fixed assets (like factories about 77.28 crores), investing money on subsidiaries (about 16.03 crores), lending money to subsidiaries (about 61.27 crores) these are basically money draining activities. The company also gets money as dividend or interest from others/subsidiaries/companies etc (about 5.77 crores) which is an addition. In all the company spent money for its investing activities to the tune of 83 crores!
  • Cash flow from Financing activities: So the company earned 149 crores from its operating activities and blew off 147.83 crores on investing activities. Now Granules needs to payback its short-term and long-term loans. Now where will this money come from? The company had sold shares to promoters and in return got money (about Rs 105.85 crores). The company also took additional working capital loan of about 32.61 crores. It also received money from share warrants to the tune of about 27 crores. These all resulted in money coming in. The company then paid back some of its long term loans (Rs. 55.04 crores), It paid interest on existing loans (about Rs. 36.86 crores). The company also managed to pay dividends to its shareholders (about Rs. 23.40 crores that includes dividend distribution tax). After doing all this, finally the company managed to have a cash of about Rs 57.21 crores.

Hence the Net Cash Flow for Granules for FY16 = 149.09 crores – 147.83 crores +  57.21 crores = 58.46 crores. Last year the company had a positive cash flow of Rs. 52.23 crores. So the Cash equivalents at the end of FY16 = 58.46 crores + 52.23 crores = 110.70 crores

Though the company had a net cash flow of 57.21 crores for FY16, what is the point, it came in mainly because the promoters pumped in money or else all the money from operating activities was spend on CAPEX and on the subsidiaries. As per Granules MD Krishna Prasad, this would be the state of the company for the next couple of years at-least as the company would be undergoing CAPEX in its bread-and-butter mass market generic products as well as for its expenditure on new molecules. I don’t expect any healthy positive cash flow till probably end of FY19.

Profit and Loss Statement

Let us look at the Revenue, EBITDA, PBT, PAT, EPS numbers for FY16 and compare them with the numbers for FY15.

FY16 (Crores) As a % of sales FY15 (Crores) As a % of Sales % Growth YoY
Total Revenue 1437.20 1297.26 10.78%
EBITDA 284.39 19.78% 212.95 16.41% 33.54%
PBT 180.81 12.58% 127.96 9.86% 41.30%
PAT 118.46 8.24% 90.90 7% 30.3%
EPS 5.73 4.46 28.4%

Revenue grew at a very modest pace of 10.7% this was far less than the 15% which I would have expected the company to grow. However the EBITDA grew at the rate of close to 33%. The main reason for that being the EBITDA margins improved from 16.4% to 19.7% a good 340 basis point up move! Year-on-year PBT grew by close to 41%! However PAT grew at a rate of 30%. One point to note is the increase in PAT margins from 7.% to 8.24% a modest increase but noteworthy nevertheless. With the company focusing more on Formulations, store-brand OTC and Rx in US, I hope to see the PAT margins increase further in future giving an impetus to the PAT. EPS grew by 28% year-on-year. EPS growth is not in-line with the PAT growth due to the increased share capital by way of ESOP and share sale to promoters.

Historical performance

The table below shows the performance of the company over the past five years

FY16 (Crores) FY15 (Crores) FY14 (Crores) FY13 (Crores) FY12 (Crores)
Revenue 1437.20 1297.26 1100.17 766.43 655.34
EBITDA 284.39 212.95 162.60 87.08 80.66
EBITDA Margin 19.78% 16.41% 14.77% 11.36% 12.30%
PAT 118.46 90.90 75.23 32.56 29.95
PAT Margin 8.24% 7% 6.83% 4.24% 4.57%

Historical numbers are indeed amazing! The EBITDA margins have improved from 12.3% to 20%. This resulted in EBITDA growing more than 3.5x from FY12 to FY16. PAT margins improved from 4.5% to 8.24% which directly resulted in a PAT growth of close to 4x from FY12 to FY16. This is the power of growing PAT margins, as the revenue grows and the PAT margins grow, the PAT keeps swelling. The challenge is to constantly keep the PAT margins growing.

Expenditure

An important factor for any company is the expenditures. Is the company able to curtail its expenditure. Lower the expenditure, higher would be the EBITDA and higher would be the PAT. Let us look at the expenditure numbers.

Expense Type FY16 (Crores) % of Revenue FY15 (Crores) % of Revenue FY14 (Crores) % of Revenue FY13 (Crores) % of Revenue FY12 (Crores) % of Revenue
Raw Materials 829.89 57.74% 769.42 59.31% 671.31 61.01% 477.68 62.32% 420.10 64.1%
Employee Cost 125.33 8.72% 106.95 8.24% 85.84 7.80% 59.71 7.79% 45.45 6.93%
Other Expenses 269 18.71% 230.39 17.75% 206.48 18.76% 152.72 19.9% 114.85 17.52

From the table it is clear that Granules, over the years, has been successful in bringing down its raw material costs with respect to its revenue. This has been possible due to the company’s drive into Formulations and high value products leading to higher revenue. Employee cost has seen a marginal rise over the years. The other expenses have remained constant over the years. Hence the rise in EBITDA seems predominantly due to lower raw material costs.

Summary

In summary, we can note the following:

  • The revenue growth at about 11% was tepid. The profit growth at 30% was not worth highlighting either.
  • The company is entering a high CAPEX cycle leading to negative cash flow for the next few years. Traditional business would eat up most of the CAPEX and I feel that return on incremental capital employed would be less.
  • The company realizes the need to increase the profit margin and laying emphasis on high margin formulations business.

There was nothing remarkable to note in the annual report. I felt it was business as usual for Granules.

References

[1] Granules India annual report for FY16.

[2] Granules India annual reports for FY15, FY14, FY13 and FY12.

Disclaimer

I am not a SEBI registered research analyst. The information provided above is my subjective view based on what I have read on different websites, annual reports, and quarterly reports of various companies which I assume to be accurate. The above information should not be treated as an offer/advise to purchase a specific stock/investment instrument. Since these are my subjective opinions, I could be wrong in my understanding or presentation of information. I do not claim that the above information is complete or can be relied upon as such. I cannot be held responsible for any loss or damage caused due to any inadvertent error in the above information. I will not be liable for investment decisions made by readers of this article based on the above information. I am not an investment advisor. I may or may not have position in the above company. Please consult your investment advisor for all your investment needs.