The company needs to find a way out of its financial maze and improve its operational efficiencies.

By Dilip Maitra

Last month, when the Chennai-based Annamalai Chidambaram Muthiah was elected the President of the Board of Cricket Control of India, he was elated. But, at the same time, he also realised he was in the hot seat since the Indian cricket team-which lost 4 of its 8 matches in World Cup 99-had hit a rough patch.

However, Muthiah wasn't worried since he has an equally challenging job on his hands: to resurrect his Rs 5,200-crore SPIC Group. Indeed, his flagship, Southern Petrochemicals & Industries Corporation (SPIC), is incurring operational losses although its net profits were Rs 50.83 crore in 1998-99. At Rs 23 on November 21, 1999-and a market capitalisation of Rs 202 crore, which is just 9 per cent of the company's gross fixed assets of Rs 2,270 crore-the scrip-price reflects the sentiment. And, among Muthiah's 10 other companies, only Tamilnadu Petroproducts managed to earn reasonable net profits of Rs 45.80 crore last year.

To begin with, Muthiah has decided that the flagship will, henceforth, focus only on fertilisers, and has dumped its diversifications. In the 1990s, SPIC had entered new areas like pharmaceuticals, tissue culture, liquefied petroleum gas, and industrial chemicals. Points out Muthiah, 58: ''Now, our primary focus in SPIC is on fertilisers, an area where you will see a lot of activity in the near future.'' Adds P.R. Sundaravadivelu, 62, Managing Director, SPIC: ''We'll look at every opportunity to increase our fertiliser capacity.''

To grow, Muthiah is looking at domestic acquisitions and global joint ventures. At the same time, SPIC has decided to exit unrelated businesses either by selling off units or hiving off its divisions into joint ventures. These cash-inflows will help SPIC reduce its debt of Rs 1,868.44 crore (on March 31, 1999). That, in turn, will allow the company to reduce its interest costs (Rs 156 crore in 1998-99), and improve its profitability. Agrees M.G. Thirunavukkarasu, 50, Director (Finance), SPIC: ''These (unrelated) businesses have huge assets, and we expect to earn sizeable profits by spinning them off.''

Focusing On Fertilisers

In South India, SPIC is a formidable player, with a 35 per cent share of the urea, and a 60 per cent share of the Di-Ammonium Phosphate (DAP) markets. Agrees Uttam Gupta, 45, Chief Economist, Fertiliser Association of India: ''With a wide distribution network, SPIC is the undisputed leader in the South.'' Although its capacities are low-5.12 lakh tonnes per annum (tpa) for urea and 1.92 lakh tpa for complex fertilisers-SPIC's sales are much higher. In 1998-99, it sold 8.38 lakh tonnes of urea, 9.16 lakh tonnes of DAP, and 2.76 lakh tonnes of potassium fertilisers.

The reason is that SPIC also markets urea imported by the State-owned trading agencies like the STC and the MMTC. And, in the near future, if urea imports are decanalised, SPIC's sales might jump further since its joint venture in Dubai-in which Muthiah controls a 51 per cent stake, with the rest being shared by MCN Investment Corporation (US) and Emirates Trading Agency (Dubai)-goes into full production next year. Then, the entire output of this $160-million, 3.96 lakh tpa gas-based unit in the Jebel Ali Free Trade Zone will be imported by SPIC.

Similarly, SPIC will gain from its joint venture in Jordan, Indo Jordan Chemicals Company, in which it has a 52.20 per cent stake. The $170-million unit-which has the capacity to produce 6.86 lakh tpa of sulphuric acid and 2.38 lakh tpa of phosphoric acid-has become a captive supplier of raw materials to SPIC. Admits Muthiah: ''It assures us of an uninterrupted supply of phosphoric acid at a concessional price.'' In 1998-99, SPIC imported 1.80 lakh tonnes of phosphoric acid from its Jordanian joint venture.

Meanwhile, Muthiah is looking beyond organic growth at the acquisition of both urea and DAP units. Two years ago, he applied to the Board for Industrial & Financial Reconstruction to take over Mangalore Petrochemicals & Fertilisers. But that failed when the banks refused to accept SPIC's demands for concessions. Now, Muthiah's eyes are set on the loss-making Madras Fertilisers (sales in 1998-99: Rs 1,150 crore, net loss Rs 35 crore), which may be sold off by the Government of India (GOI) in 2000.

Is fertilisers the right sector to focus on given that the subsidy regime (for urea) is sure to end sooner rather than later? Once that happens, prices will go up, leading to a fall in demand. In fact, even in the present system, manufacturers constantly complain about the delays in the payment of subsidies by the GOI. SPIC itself claims that its financial mess stems from delayed payments which, on March 31, 1999, stood at Rs 300 crore.

However, there are 2 factors that could work in SPIC's favour. One, as Gupta points out: ''The GOI cannot afford to stop the subsidy suddenly. Any reduction will happen gradually and, in the new set-up, older units (like SPIC) will be in a better position to compete.'' The reason: with low depreciation-costs, they will not be under pressure to sell at high prices. In addition, in the decontrol era, SPIC will be able to import urea from its Dubai-based unit cheaper due to low input prices, and the duty-free status of the project.

In addition, the domestic production of both urea and DAP has lagged behind demand. For instance, India imported 23.28 lakh tonnes of urea in 1996-97, and 23.89 lakh tonnes in the next year. In 1998-99, the figure came down dramatically to 5.57 lakh tonnes only because of huge inventories and slack demand. But India will continue to be an importer since, based on the average growth in urea-consumption by 5.50 per cent over the last decade, demand is likely to increase from 192 lakh tonnes in 1998-99 to 260 lakh tonnes by 2004 while domestic capacity will not go beyond 235 lakh tpa.

In DAP, it is a similar situation, where domestic production, at 38.64 lakh tonnes in 1998-99, was less than the demand of 57.06 lakh tonnes. Even if the proposed capacity-addition of 20 lakh tpa in the next few years is taken into account, the estimated annual demand of 70 lakh tonnes by 2004 will be more than the domestic capacity of 60 lakh tpa. And, since SPIC manufactures both urea and DAP, any shift from nitrogenous (urea) to phosphatic fertilisers as the subsidy on the former is reduced, will not impact its bottomlines.

Exiting Unrelated Businesses

Rightly, though, Muthiah is convinced that SPIC's ability to focus on fertilisers depends on its success in getting out of unrelated sectors. Two months ago, SPIC announced the demerger of its pharma and biotech divisions. While the former sold 1,184 mega million units of Penicillin-G in 1998-99, contributing Rs 67.78 crore to the company's turnover, the biotech division produced tissue-cultures of banana, other plantation crops, and ornamental plants, and forest trees, contributing Rs 15 crore to the company's sales.

Moreover, Muthiah is not even bothered about retaining control over them: ''We shall even offer a majority stake if we get serious and strong partners.'' In fact, when the company spun off the LPG division into a separate company last year, it gave a 51 per cent stake to Caltex of the US. Next on Muthiah's list will be the chlor-alkali plant at Manali (sales in 1998-99: Rs 81.29 crore)-which produces industrial chemicals like caustic soda, liquid chlorine, hydrochloric acid-and the shipping division, which has 2 bulk chemical carriers.

Since the valuation of the pharma and biotech divisions is incomplete, it is difficult to estimate the profits that could be earned by hiving them off. For example, SPIC earned profits of Rs 52 crore by selling the 51 per cent stake in the LPG company. While the demergers will help these divisions grow, they will also help reduce SPIC's debt. The Rs 110-crore debt associated with the 4 divisions will be transferred to the new companies, and the profits earned by SPIC may be used to pay off its debt.

Reducing loans is important since, on March 31, 1999, SPIC's total debt was 3 times the company's net worth net of revaluation reserves of Rs 621 crore. Obviously, that resulted in huge interest costs. Therefore, SPIC recently swapped Rs 143 crore of high-cost debt with a fresh loan that was 3 per cent cheaper. It also swapped a Rs 60-crore loan from the ExIm Bank to cut down its interest-rate from 18.50 to 13.50 per cent. And the company issued Rs 100 crore of commercial paper, which it used to redeem Rs 50 crore of high-cost debentures, and plans to raise another Rs 150 crore this year, with a coupon-rate of between 9.20 and 9.50 per cent.

Cleaning Up The Financials

Unlocking value, freeing cash, and reducing debt are the 3 prongs of Muthiah's strategy that will help pull SPIC out of its financial mess. Although SPIC's 1998-99 balance-sheet claimed to have earned net profits of Rs 50.83 crore, the company incurred an operational loss of Rs 19.32 crore (since the net profits figure included Rs 32.81 crore earned from the sale of assets). Also, an interest expenditure of Rs 37.35 crore was capitalised during the year and, thus, not shown in the P&L Account. In fact, SPIC had cumulatively capitalised interest-costs of Rs 120.96 crore as on March 31, 1999.

What SPIC has done is to follow a unique policy for the last 3 years of capitalising interest costs on funds borrowed to either invest or lend to companies within the SPIC Group. Justifies the 1998-99 annual report: ''The company is involved in promoting mega projects which involve substantial capital investment. As the company capitalises borrowing-costs on funds utilised for investment on its own fixed assets or projects, the same principle is also followed in respect of funds invested in the investee company...'' Adds Thirunavukkarasu: ''We sought opinions from eminent accountants stating that Accounting Standard 13 does not prohibit such capitalisation.''

However, chartered accountants that BT spoke to disagree. Despite that, SPIC's auditors, A.F. Ferguson, did not qualify this accounting procedure in either the 1997-98 balance-sheet-in which SPIC capitalised an interest cost of Rs 34.36 crore apart from earning profits of Rs 52 crore from sale of assets-or the next year's one. What is evident from SPIC's balance-sheet is its poor profitability; at 10.70 per cent, its operating margins are among the lowest in the industry compared to Chambal Fertilisers' 42 per cent, Nagarjuna Fertilisers (42 per cent), Gujarat Narmada Valley Fertiliser Company (20 per cent), and Coromandel Fertilisers (20 per cent). No wonder the scrip price is languishing. Says Ravi Kumar, 38, Chief Equity Analyst, Rajanarayan Financial Services: ''We have stopped recommending SPIC for the last 4 years.''

Recovering Its Investments

One way in which SPIC can easily make itself attractive to its investors is by recovering the Rs 1,495 crore that is either invested in the shares of group companies, or has been forwarded as loans and advances to them (Rs 1,195 crore). A sample of its equity investments: Rs 44 crore in Caltex SPIC India, Rs 20 crore in Tamilnadu Petroproducts, Rs 19 crore in Tuticorin Alkali Chemicals, and Rs 20 crore in Manali Petro. The problem: money that is thus locked up accounted for a massive 51 per cent of its capital employed (Rs 2,888 crore) on March 31, 1999.

The management, however, claims that most of the loans are in lieu of future equity, which includes Rs 327 crore given to SPIC Petrochemicals, and Rs 160 crore to its Dubai-based joint venture. Once they are converted into equity, and the plants become operational, SPIC will start earning returns. In 1998, its joint venture in Jordan (SPIC's investment: Rs 350 crore) earned net profits of Rs 56 crore in its first year of operations, and declared a 10 per cent dividend. Explains Thirunavukkarasu: ''The investment in our Jordanian venture has created assets valued at Rs 1,000 crore.''

However, the returns too are meagre. For instance, in 1998-99, the company earned Rs 18 crore as dividends and Rs 57 crore as interest from the money locked up in companies within the group. That represented an annual return of merely 5 per cent while its cost of funds was an average 12.50 per cent. If Muthiah has to regain the confidence of his investors, he has to charge ahead with his restructuring, reap more profits out of his investments, and slash the debilitating debt of the company. Only then can he claim that SPIC has turned SPIC-'n'-span-and turn his attention to Indian cricket.

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