Part B

Company Analysis
Sundram Fasteners Ltd.

Company Outlook:
Sundram Fasteners Limited is a part of the US $5 billion TVS Group, headquartered in Chennai, India. SFL is a leader in fasteners with a market share of nearly 50 per cent domestically. It has a wide product portfolio consisting of standard, special & high tensile fasteners, cold extruded & precision forged parts, radiator caps, powder metal parts and engine & pump components. Its fastener business accounts for nearly 50 per cent of the revenue. Pump assemblies and engine parts each contribute nearly 14 per cent, while cold formed parts and powder metal parts account for 9 per cent and 10 per cent, respectively. The company has eleven manufacturing facilities in India and four facilities located overseas. Through these acquisitions the company has been able to offer better quality products at a competitive price by leveraging on better technologies with the cost advantages inherent in its Indian operations. SFL derives 60-65 per cent of domestic sales from OEMs out of which 30 per cent is contributed by the commercial vehicle (CVs) segment. SFL is a preferred supplier to world renowned auto-manufacturers such as General Motors, Ford, Daimler Chrysler, BMW, Porsche, Skoda, Volkswagen, Volvo and Caterpillar. Domestically, it caters to Maruti Suzuki, Tata Motors, M&M and Ashok Leyland. None of SFLs customers contribute more than 10- 12 per cent to the companys revenue.

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Strengths and Weaknesses vis-a-vis Sector

Turnover Ratios
Sundram Fasteners has a cash conversion cycle of which is almost twice that of the sector. This is due to very high debtors period as compared to the sector average. The positive here is that the company has a creditors cycle which is greater than the sector and thus able to restrict its cash conversion cycle to the present levels.
2008 Raw Material Holding WIP Holding Fixed Good Holding Debtors Collection Period ( Creditors Payment Period ) Net Cycle 37 24 22 77 103 58 2009 42 23 21 72 106 51 2010 43 23 18 68 113 40 Sector 38 22 13 50 103 21

Component Ratios
Raw Material Costs If we see the common sized statement for the sector, the total operational expenses for the sector are around 81% and 88% for the company. The main culprit here seems to be Other Overhead expenses.
2008 Raw Materials Power & Fuel Cost Employee Cost Other Overhead Expenses Selling and Admin Expenses Total Expenses 2009 2010 2010 Adjusted 55.5% 3.9% 8.8% 14.0% 4.5% 86.6% 61.1% 4.3% 9.1% 9.9% 6.9% 91.3% 56.3% 4.6% 9.2% 9.5% 6.8% 86.4% 64.72% 4.6% 9.2% 2% 6.8% 86.4% 58.0% 2.1% 7.9% 3.1% 10.2% 81.4% Sector

But, the schedules of company show that the Overhead expenses include a substantial portion in the form of contract manufacturing. In 2010, company had a contract manufacturing expense of around `

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102 cr and sold materials worth net sales of ` 212 cr for which it had no installed capacity. We believe that this were the semi-finished goods sourced by the company and should form a part of Raw Material. This treatment shows that the raw material expenses form 64.7% of the total sales of the company and thus is an area of concern. The higher creditors payment can also be one of the contributors towards the higher raw material costs of the company. The power & fuel cost is a larger component of the expenses as compared to the sector. The increase in the power & fuel cost can be attributed to the non-availability of power which led to the Company purchasing power and resorting to self-generation at higher costs. The Company nearly doubled its selling and administration resources from 2009 onwards to attract more customers. Wages & Salaries The wages and the salaries of the company are in comparison with the sector average and just 1.3% more than sector average of 8% and thus are globally competitive; this increase can be attributed to settling of long term contracts in respect of Punducherry and Hosur factories. Power & Fuel Costs Company has a higher power and fuel cost of 4.7% of sales for FY 2010 as compared to the sector average of 2.1 % of net sales
2008 Power & Fuel Cost (% Sales) 3.9% 2009 4.3% 2010 4.6% Sector 2.1%

The company annual report mentions that the higher cost is due to self-generation of electricity done because of power shortages.

Labor Management As mentioned in the sector report the sector has been facing labor issues affecting operations and investor confidence. The Company has maintained its excellent industrial relations record of not losing even a single day due to industrial action since its inception in 1966.

Revenue breakup
The revenue breakup of the company relative to the sector is given below:

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Sundaram Fasteners OEM Exports Replacement 65% 25% 10%

Sector 73% 12% 15%

The company has relatively more diversified revenue base than the sector with 35% of its revenues coming from Exports and Replacements as compared to 27% of the sector. Higher percentage of exports (25% as compared to sectors 12%) makes company more susceptible to foreign currency gains/losses. Higher exports also show a scope of better margins compared to domestic sales as Indian market is relatively more competitive. Replacement market is lower compared to sector because high tensile fasteners in replacement market are sourced more from unorganized sector at lower costs.

Debt Ratios
The table shows the D/E ratio for the company for three years as compared to the sector.
2008 Debt to Equity Ratio Interest Cost/Sales 1.31 2.3% 2009 1.56 3.2% 2010 1.18 2.1% Sector 0.58 1.22%

The debt to equity ratio of the company is quite high as compared to the sector. This leads to higher interest costs (common-size) of 2.1% as compared to 1.22% for the sector.

Margins
The various margins of the firm vis--vis sector are given below
2008 EBITDA EBIT PBT PAT 13.7% 10.8% 8.7% 5.6% 2009 8.3% 5.0% 1.9% 1.2% 2010 13.7% 10.2% 8.1% 5.7% Sector 18.6% 14.8% 13.0% 9.9%

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The EBIDTA are of the firm are substantially lower than industry (13.7 % as compared to 18.6% for the sector). This is primarily because of higher raw material expenses discussed above and higher power and fuel costs.

As a result the PAT margin for company is just 5.75% as compared to around 10% for industry leaders. This is primarily due to low EBIT margins and higher interest costs due to higher D/E ratio.

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Suggestions
The following changes are suggested in the policies of the company to improve its operations and move closer to the industry leaders. The Material Costs of the company are extremely high as compared to the sector (64% compared to 58% for the sector). The material costs can be reduced by: Reducing creditors period from 113 to 110, thereby taking it closer to industry average of 103 days. Entering into bulk futures contract to manage the raw material costs more effectively.

Improving Asset Utilization to generate more revenues out of same resources. An ICRA report mentions the capacity utilization of only 75% for year 2010. The table below shows the increase in capex in percentage as compared to the increase in sales.
2010 Increase in Capex Increase in Sales 7.6% 5.7% 2011 E 16.5% 34.3% 2012 E 14.1% 14.8%

The increase in Capex in FY 2011 is 16.5% as compared to the sales increase of 34.3 % thereby showing an improvement in the fixed asset utilization. Improving turnover ratios to take present cash conversion cycle of 40 days closer to industry average of 21 days. The following table shows the target cash conversion cycle and the respective turnover ratios for next two years:
Operating Cycle Ratios Raw Material Holding WIP holding FG holding Debtors Collection period (Creditors Payment Period ) Net Cycle 2010 43 23 18 68 113 40 2011 E 42 22 16 66 110 36 2012 E 40 22 15 64 108 33 Sector 38 22 13 50 102 21

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Reducing the debt equity ratio of the company to bring in line with the industry average. It will help to reduce the interest burden which is around 4% of sales as compared to 1% for the sector on an average. The expected D/E ratio for the next two years are
2010 Debt/Equity Interest/Sales Current Ratio 1.18 2.1% 1.06 2011 E 1.27 2.0% 1.15 2012 E 1.11 1.8% 1.19

The D/E ratio is expected to increase for the next year due to high capex catering to the increased sales. The target D/E ratio for 2012 is 1.11 which is lesser than the present value of 1.18. The company needs to improve on the expenses on power & fuel which are 4.6 % of sales as compared to the sector average of 2.1%. The expected power costs for the next two years as sales percentage are: 2010 4.7% 2011 E 4.2% 2012 E 4.0%

Power & Fuel (% of sales)

The power & fuel costs can be decreased as the company improves efficiency of self-generated power sources.

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Improved Financials
By incorporating the following changes, the company is expected to improve in its operations in the following manner. External Funding Required (EFR) The following table shows the EFR required if the company continues to operate at its last years efficiency as compared to funding required in case of improvements. 2010 560.1 596.1 1156.3 270.3 2011E 656.6 766.7 1423.3 319.9 34.3% 1791.2 6.0% 77.1% 221.2 147.2 2012E 744.1 851.1 1595.3 345.8 14.8% 2055.5 6.6% 82.0% 50.9 34.4

Net FA CA Total Assets SL % Increase in Sales Forecasted Sales PAT Margin Retention Ratio External Funding Required External Funding Taken

5.7%

The external funding requirement for the year 2011 is ` 221 cr and the external funding taken is only ` 147 cr showing the effect of suggested improvements. Similarly the external funding taken for 2012 is ` 34.4 cr against the requirement of ` 50.9 cr. Cash Flow Analysis The Cash flow from operations is reducing in the next year to ` 86.65 cr. This is due to the working capital investments required for the increased sales of around 34%. CFO increases to ` 188.46 cr for FY 2012 when the reworking capital requirement decreases. The funds generated from the operations show the effect of improving efficiency of the firm. The increase in FGFO against increase in sales is given below. Increase (%) 2011 E 2012 E FGFO 46.5 % 23.3 % Sales 34.3% 14.8% The increase in FGFO for FY 2011 is around 46% as compared to 34% increase in sales.

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ROCE=PBIT/CE 2010 13.01% PBIT/Sales 2010 10.18% 2011 11.06% COGS/SALES 2010 87.59% 2010 2.09% TAX/SALES 2010 2.43% 2011 2.74% 2012 3.08% Sector 4.34% 2011 86.09% 2011 1.99% 2012 85.05% 2012 1.82% Sector 84.96% Sector 1.22% 2012 12.04% Sector 14.82% 2011 15.65% 2012 17.56% Sector 18.39% Total Assets/Capital Employed 2012 1.15 2011 2.73 2011 2.32 Sector 0.70 2012 2.76 2012 2.37 Sector 2.14 Sector 1.59 2010 1.26 2011 1.27 TA/NW 2010 2.75 2010 2.34 2011 2.82 2011 2.30 2012 2.58 2012 2.49 Sector 1.71 Sector 4.47 2012 1.27 Sector 1.78

Sales/Total Assets 2010 1.01 2011 1.12 SALES/FA 2010 2.38 SALES/CA 2010 2.24

INTEREST/SALES

TA/DEBT-Cash

DUPONT ANALYSIS: The Return on Capital Employed in 2010 is 13.01% as compared to the sector average of 18.39%. Over the next two years the ROCE has improved to catch up to the sector. One of the major contributors is the improvement in the EBIT margin from 10.18% to 12.04%, which can be attributed towards the reduction in cost of raw materials, also trying to reduce our interest expense from 2.09% to 1.82% has also added to the improvement. The asset utilization of our company was already ahead of the sector average, this has been further improved upon. Its major contributor being the increase in the fixed asset turnover from 2.38 to 2.14 as compared to the sector average of 2.14. The Total Assets/ Net Worth ration for our company is 2.75 which is higher than that of the sectors 1.71, also our Total Assets/Debt ratio is higher than that of the sector, the reason for this being that the level of debt in the sector is really low. Also this shows that most of our assets are equity financed rather than by debt showing effective utilization of shareholder funds.

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Balance Sheet Sources Of Funds Shareholder's Funds Equity Share Capital Reserves Revaluation Reserves Loan Funds Long Term Loan Short Term Loan 2010 ` cr 21.01 459.14 480.15 277.39 290.52 567.91 1,048.06 ` cr 910.89 350.75 560.14 19.64 579.78 142.39 2011 E ` cr 21.01 547.98 568.99 367.39 347.27 714.66 1,283.65 ` cr 1,060.89 404.32 656.57 32.07 688.63 142.39 2012 E ` cr 21.01 670.06 691.07 379.39 369.47 748.86 1,439.93 ` cr 1,210.89 466.75 744.14 32.38 776.52 142.39

Total Application Of Funds Fixed Assets Gross Block Less: Accum. Depreciation Net Block Capital Work in Progress

Investments Current Assets Inventories Sundry Debtors Cash and Bank Balance Loans and Advances Fixed Deposits Current Liabilities Sundry Creditors Provisions

209.53 260.37 4.65 121.21 0.38 596.14 265.77 4.48 270.25 325.89 1,048.06

267.62 323.88 17.89 162.77 0.38 772.53 313.97 5.93 319.90 452.63 1,283.65

288.42 360.42 30.78 186.79 0.38 866.79 338.86 6.91 345.77 521.02 1,439.93

Net Current Assets Total

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Income Statement 2010 Income Sales of goods manufactured Sales of goods subcontracted ` cr 1,122.09 211.77 1,333.86 Other Income Stock Adjustments Total Income Expenditure Raw Materials Power & Fuel Cost Employee Cost Subcontracting expense Other manufacturing Expense Selling and Admin Expenses Total Expenses PBDIT Interest PBDT Depreciation Profit Before Tax PBT Tax Net Profit Equity Dividend Corporate Dividend Tax Earnings Per Share (`) Margins EBITDA EBIT PBT PAT 11 | P a g e 761.60 62.29 124.27 101.80 26.80 91.56 1,168.32 183.24 27.91 155.33 47.48 107.85 107.43 32.42 75.43 18.91 3.17 3.59 2010 13.7% 10.2% 8.1% 5.7% 1,008.09 74.69 166.87 133.41 35.99 122.95 1,542.00 251.68 35.73 215.95 53.57 162.38 162.38 49.00 113.37 21.01 3.52 5.40 2011 E 14.1% 11.1% 9.1% 6.3% 1,139.60 81.60 191.51 153.11 41.30 141.10 1,748.21 309.86 37.44 272.42 62.43 209.99 209.99 63.37 146.62 21.01 3.52 6.98 2012 E 15.1% 12.0% 10.2% 7.1% 15.43 2.27 1,351.56 2011 E ` cr 1,506.78 284.38 1,791.16 2.53 1,793.69 2012 E ` cr 1,729.19 326.35 2,055.54 2.53 2,058.07

Cash Flow Statement A. Cash Flow From Operating Activities Net Profit Before Tax Adjustments for: Depreciation Interest Expense Loss on sale of investments Loss on sale of assets Interest & Dividend received Unrealized exchange loss FGFO Adjustments for changes in working capital: Trade and other receivables Inventories Increase in provision Increase in Loans & Advances Trade Payables Cash Generated from operations Direct taxes paid Net Cash From Operating Activities B. Cash Flow From Investing Activities Purchase of fixed assets Sale of fixed assets Increase in Capital WIP Sale of Investments Interest received Dividend Received Net Cash Used in Investing Activities C. Cash Flow From Financing Activities Proceeds from term loans Proceeds from other borrowings Interest Paid Dividend and corporate dividend taxes paid Net Cash Used in Financing Activities 2010 ` cr 107.85 47.48 30.73 (0.09) (0.07) (2.53) (15.74) 170.05 23.88 (11.96) 0.00 0.01 (67.38) 225.51 30.89 194.62 2011 E ` cr 162.38 53.57 35.73 (2.53) 249.15 63.51 58.09 1.45 41.56 48.20 135.65 49.00 86.65 2012 E ` cr 209.99 62.43 37.44 (2.53) 307.33 36.54 20.80 0.98 24.03 24.89 251.83 63.37 188.46

(59.67) 0.45 0.15 2.42 0.11 (56.53)

(150.00) (12.43) 2.42 0.11 (159.90)

(150.00) (0.32) 2.42 0.11 (147.79)

(25.71) (58.03) (37.99) (22.13) (143.85)

90.00 56.75 (35.73) (24.54) 86.48 13.24 5.03 18.27

12.00 22.20 (37.44) (24.54) (27.78) 12.90 18.27 31.16

Net increase in cash and cash equivalents (5.74) Cash and cash equivalents - Opening balance 10.78 Cash and cash equivalents - Closing balance 5.03 * Cash & cash Equivalents include Cash and Fixed deposit in the balance sheet 12 | P a g e

Risk Analysis
VALUE DRIVERS IN SUNDRAM FASTNERS:
The value drivers were measured on 5 parameters, which are mentioned in the table. As can be seen operating margin is the biggest value driver as a 1% change in the operating expenses brings about a 60% change in EVA. Value Driver Sales Growth rate Operating Margin Fixed Asset Turnover Working Capital Turnover WACC Change in Value Driver 1% 1% 0.1 0.1 1% % Change in EVA 3% 60% 16% 1% 43%

Thus operating margin and fixed asset turnover can be seen as major value driver which can affect the performance of the company. WACC is another important value driver but is solely on the market. The following table shows the EVA generated over the years: 2008 2009 2010 2011E 2012E Sales 1205.92 1262.2 1333.86 1791.16 2055.54 Operating Profit 130.44 62.71 135.76 189.15 233.04 NOPAT 86.66 44.97 94.79 132.07 162.72 Working Capital 86.81 167.60 30.72 87.94 115.95 Net Fixed Assets 485.89 541.89 560.14 656.57 744.14 WACC 12% 12% 12% 12% 12% Capital Employed 572.70 709.49 590.86 744.50 860.09 EVA 17.94 -40.17 23.89 42.73 59.51 As the table shows the reduction in operating profit in 2009 has resulted in a negative EVA for the company in the year 2009.

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Scenario Analysis
The table shows the various margins ratio, CFO and EVA under three conditions for the year 2011 under the improved operations

Scenario Summary
Optimistic Current Values Pessimistic

Changing Cells: Material Cost Capex Creditors Holding Period Debtors Holding Period WACC Result Cells: Current Ratio Debt Equity Ratio CFO Interest Coverage PAT EBIT Margin EVA

64% 75.0 113 64 11% 1.3 1.2 112.5 6.1 7.1% 12.1% 89.7

65% 150.0 110 66 12% 1.2 1.3 86.7 5.5 6.3% 11.1% 61.9

66% 300.0 107 68 13% 0.9 1.3 61.6 4.9 5.4% 9.8% 35.5

It is seen that in the pessimistic scenario company will have an EBIT margin of 9.8%, The interest coverage ratio also doesnt deteriorate much and goes down to 4.9 from 5.5

There is about 1% decrease in PAT margin from 6.3% to 5.4%. Current ratio drops to 0.9 from 1.2, which is still not low in comparison to sector standards Hence the company will not face any major issues in case such a pessimistic scenario arises
(which is unlikely) with all the parameters going in negative direction. Thus, if the company works on the suggestions provided above in the report, it will make the fundamentals of the company more robust and stable to face bad weather situations.

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Assumptions
Sales growth Rate Sales growth rate has been predicted using the expected growth rates for the different consumer segments of Sundram the year 2011 and 2012 from CRISIL research estimates. Revenue Contribution 10% 33% 5% 5% 13% 25% 10% 2010 130.05 433.50 69.36 60.69 173.40 333.47 133.39 1333.86 2011 E 165.17 27% 572.23 32% 86.01 24% 77.08 27% 202.88 17% 480.19 44% 138.72 4% 1791.15 34.3% 4% 2012 E 180.03 9% 646.62 13% 96.76 13% 85.56 11% 237.37 17% 581.03 21% 149.13 8% 2055.54 14.8% 4%

Cars & LCV's Volume growth Commercial Vehicles Volume growth Tractors Volume growth Two Wheelers Volume growth Others Volume growth Exports Volume growth Replacement Market Volume growth Total Revenues Revenue Growth Price increase

Price increase of 4% for both years has been included in the revenue growth for both years. The company will improve its operating cycle ratios and move towards Sector average over the period of two years as suggested. Items such as employee expenses, SG&A directly linked to sales have been forecast using the percentage of sales method. Interest expense has been calculated at the last years historical rate. Fixed assets have been increased by ` 150 cr according to the MD&A given in the annual report. Depreciation rate has been assumed at the historical rate of 5% of the gross fixed assets. As the company re-negotiated a new labor wages contract in last year, the growth has been taken in proportion to sales without taking inflation in consideration. Tax rates have been taken as the previous years effective tax rate of around 30%. The company will pay 100% dividend on a face value of ` 1 owing to increase in sales in FY 2011 & 2012.

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Sub-Contract expense has been included in the raw material cost as explained earlier. The raw material cost as a percentage of sales has been reduced over the year as explained below: Mar '10 627.07 113.17 740.24 66% 101.80 21.36 123.16 58% 64.7% Mar '11 827.43 151.97 979.40 65% 133.41 28.68 162.09 57% 63.7% Mar '12 932.28 174.40 1106.68 64% 153.10 32.91 186.02 57% 62.9%

COGS for goods Manufactured Stores for goods manufactured Sum Percentage of Sales COGS for goods subcontracted Stores for goods subcontracted Sum Percentage of Sales Total

The raw material expense of the company was 64.7% (including subcontracting expenses) for FY 2010 which was quite high as compared to sector average of 58%. Raw material expenses of the firm have been reduced to 63.7% & 62.9% in 2011& 2912 respectively. Other income projected for FY 2011 & 2012 contains only dividend income of ` 0.11 cr and interest income of ` 2.42 cr as investment of ` 142.4 cr and fixed deposits of ` 0.38 cr have been kept constant. Foreign currency gains/losses and loss on sale of investments have not been projected further. Capital work in progress has been projected using geometric mean of the ratios of Capital WIP to net block for the last three years. The cash and bank balance of the company was around 0.3% of Operating expenditure in FY 2010, which is very low as compared to the sector average of 1 - 1.5%. Therefore the cash balance as a %age of operating expenditure has been increased to 1.1% & 1.7% in FY 2011 & 2012 respectively. Even the current ratio is increasing from 1.06 in FY 2010 to 1.19 in FY 2012. All this will reduce the short term liquidity risk of the company. The fixed deposits have been kept fixed over the two years. Loans & Advances are increased in tune with the sales growth because most of it is loans & advances to trade creditors.

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