Analysis: Filatex India Ltd

The current section of the “Analysis” series covers Filatex India Ltd, an Indian manufacturer of polyester, nylon & polypropylene multifilament yarn.

“Analysis” series is an attempt to share with all the readers, our inputs to the company analysis submitted by readers on the “Ask Your Queries” section of our website.

In order to benefit the maximum from this article, an investor should focus on the process of analysis instead of looking for good or bad aspects of the company. She should learn the interpretation of different types of data and transactions and pay attention to the parts of annual reports etc. used to get the information. This will help her in improving her stock analysis skills.

Filatex India Ltd Research Report by the Reader (Chetan Kumbhar)

Hi Vijay Sir,

I hope you are doing great!

Your articles and thought process has helped me to learn all aspects of company analysis. However, it is still, a long way to go.

Learning from your analysis, I have tried my best to understand a company and its financial performance.

Please find the attached analysis of Filatex India Ltd.

Please review it and let me know your comments.

Regards,

Chetan Kumbhar

Filatex India Ltd:

• The company has the business of manufacturing man-made fiber (MMF).
• The company claims that it is in the top 5 manufacturers of polyester filament yarns.

Polyester Fiber Demand and supply in the future:

• Due to a decline in the production of cotton there in good demand for the MMF.
• India is 2nd largest manufacturer of MMF and has advantages in manufacturing cost due to low labour cost

Financial Analysis of Filatex India Ltd:

• The company is growing its sales at a rate of 32% CAGR
• Sales had increased from 400 cr in 2010 to 2874 cr in 2019. 7 times increase in sales.
• PAT has increased from 17 cr to 85 at the rate of 17% CAGR
• However, OPM is largely fluctuating ranging from 2% to 10%.
• In 2014, OPM declined to 2%. In AR2014, the company stated that the revenue increased due to the commission of the polyester plant at Dahej but the reduction in NPM is due to a lack of demand due to a slow economy. (AR 2014 P11)
• However, in 2015 revenue decreased but the OPM% margin increased.
  • The reason for the revenue decrease is in line with the decrease in raw material prices and a deep fall in crude prices.
  • But increase in OPM to 5% due to a higher margin for POY and PSF than the previous year
• The same issue was noticed in 2016
• The same constraints are highlighted by rating agencies
• However, in 2017, the company increased its revenue as well as OPM (9%) and NPM (3%)
  • The company stated that this is due to adding of value-added product
• In addition, the credit rating agency acknowledged the improvement of products with the addition of value-added products.
• The same trend continued in 2018 and 2019.
• Looking at the chairman’s statement, the company is looking at some new addition of capacity and debottlenecked capacity, which will increase the current capacity also company, is trying to add some professionals in management to improve the performance. This can be seen in the 2018 revenue and PAT performance.
  • The same has been appreciated by rating agencies (Brickwork)
• The company is planning to have a captive power plan to reduce the cost of energy.
• In addition, the company is planning to enter into the home textile segment, which is growing at 10-12%. (AR2019 P8)

Free Cash Flow Analysis of Filatex India Ltd.:

• cCFO for the last 10 years is 642 cr and cPAT for the last 10 years is 265 cr. This shows that the company is able to convert the PAT is cash.
• In addition, the company continued into the expansion phase, which consumed 1099 cr in the last 10 years, which led to a deficit of -723 cr, for which the company relied on debt and equity dilution.
• CFO was fluctuating in the past but it growing at a good pace in the last 5 years. Also, last year the company had 164 FCF which they used to reduce the debt due to that debt to equity ratio reduced to 1.3

Fixed Asset Turnover, Inventory Turnover, and Receivable Days of Filatex India Ltd:

• NFAT increased from 3.35 in 2012 to 4.44 in 2014 but again decreased to 2.46 in 2018 due to capex. In 2019, it stands at 3.07.
• Receivable days have improved a lot. In 2016, it was 52 days and decreased to 17 days in 2019.
• Inventory turnover is wide fluctuating but improved compared to peers,

I have compared these all parameters with peers: JBF Industries, Indo Rama Synthetics, and Summet Industries.

• Compared to peers, Filatex has improved the NFT.
• Receivables also decreased to the lowest when compared with peers
• Inventory turnover is highest among the peer members.

This shows that the company has improved all its operations and as stated by the chairman that they are inducting some professionals in the management. I think this management edge is playing an important role in operating efficiency.

In addition, it is interesting to note that all the peers had declined in sales and OPM. However, Filatex India Ltd has improved sales and OPM. This shows that Filatex India Ltd has some advantages over its peers.

Credit Rating Agency Report of Filatex India Ltd:

• Filatex India Ltd.’s rating has been improved from 2015 to 2019, this is due to improvement in sales and OPM margin.
• However, the rating agency withdrew the rating in 2017.
• I think the company moved to another rating agency (Care Rating) in 2017.
• Again, in 2019, the company changed its rating agency (Brickwork).

Management Analysis of Filatex India Ltd:

Promoter Salary:

• Promoters and the whole-time director’s total salary for the last 5 years is 5% of the total profit. This shows that the promoters are taking a salary well below the limit.
• From 2013 to 2019, the profit has grown at 81% CAGR. However, the total salary has grown at 27% CAGR.

The margin of Safety analysis of Filatex India Ltd:

• THE current PE of the stock is 5, which gives a good margin of safety compared to the G-sec bond yield.
• The company’s SSGR is less than the sales growth rate; this shows that the company is growing more than its business potential. This is achieved by increasing the debt and diluting the equity, which we can see.
• In addition, the company does not have a good FCF, which we have seen in the FCF analysis.
• Considering all these parameters, we can say at this condition company does not have good MOS.

Insider Trading:

In 2019 and until 25 March 2020, promoters and immediate relatives have bought the 27.53 cr shares from the open market. This is a positive sign; this shows that the promoter has confidence in the company’s future performance.

• In addition, the pledged shares are decreasing in number.

Stock Warrants and Options:

• The company issued 8,000,000 stocks warrants options to the promoter group in 2014. (AR2014 P 11) and fully converted in 2014 and 2015.
• The company issued the 11,500,000 stock warrants options to the promoter group on March 16, 2016 (AR2016 P17)
  • Face value of share = 10 /-
  • The exercise price of share = 45 / share ( Rs 35/ share premium)
  • Total Value = 45 X 11,500,000 = 517,500,000
  • Share price on 16 March = 7.42
  • However, the company received the full amount of stock warrant: 12.93 cr in 2016 and 38.81 cr in 2017, total = 51.75 cr
• Following the preferential allotment of shares: 10600000 shares to the promoters groups and 950000 shares to the ESOP scheme. (AR 2017 P65)
  • At the current market price of Rs 24 (10 April 2020), the total values of these shares stand for half of the purchase price.

Other Annual Report Points:

• Attendance in AGM: 2015 AGM (AR 2015 P21), Chairman and MD, and other promoters are not attending the AGM.
• Foreign Exchange recalculation: Please give your comments on this.
• A short-term loan to long-term investment: Company raised short-term loans and used that for long-term investment, which is not a good sign. (AR2013 P 33).

Conclusion:

Filatex India is in manmade synthetic fiber manufacturing, which is growing globally in demand due to advantages over natural fiber and changes in global fashion trends. In addition, there is a decline in cotton production.

The cost of production is high in developed countries compared to India.

Coming to financial performance, the company is doing well in the last 5 years; it has increased its sales and profit too. OPM and NPM are stable and improving.

The company is improving its operational performance by inducting professional management and adding value-added products. This can be seen when we compare the performance with peers in India.

However, FCF is not encouraging at this stage. The company is in a continuous expansion phase and all cash is consumed in capex expenditure. Also due to the FCF deficit, the capex is funded by debt and equity dilution, which is not a good sign.

There is no MOS with respect to SSGR and FCF but the company is trading at a PE of 5. This gives good MOS.

In addition, Promoters are buying the stocks from the open market this shows that promoters have confidence in the future performance of the company also pledge shares are decreasing.

Dr Vijay Malik’s Response

Hi Chetan,

Thanks for sharing the analysis of Filatex India Ltd with us! We appreciate the time & effort put in by you in the analysis.

While analyzing the past financial performance data of Filatex India Ltd, an investor would notice that in the past the company formed subsidiaries on two occasions.

The first time, in FY2012, the company formed a subsidiary named Filatex Synthetics Private Limited.

FY2012 annual report, page 8:

During the year under review, the Company namely ‘Filatex Synthetics Private Limited‘ was incorporated on 9^th March, 2012 as its subsidiary Company and no transaction / business has taken place during the financial year 2011-12. Therefore, the subsidiary’s financial statement has not been prepared and consolidated with the annual accounts of the Company.

However, during FY2012, the subsidiary company did not have any business. Therefore, Filatex India Ltd did not prepare the financial statements of the subsidiary company. As a result, it did not prepare any consolidated financial statements as well.

In the next year, in FY2013, Filatex India Ltd sold the shares of the subsidiary company.

FY2013 annual report, page 13:

During the year under review, your Company has sold its shares in the said subsidiary company, consequently it is no more subsidiary of your company. Thus your Company doesn’t have any subsidiary.

As a result, even though the company had a subsidiary in FY2012-FY2013, it seems that the subsidiary did not have any business. As a result, Filatex India Ltd prepared only standalone financial statements during FY2012 as well as FY2013.

The second time, in FY2016, the company formed a wholly-owned subsidiary in Singapore, Filatex Global Pte Limited.

FY2016 annual report, page 14:

Filatex Global Pte Limited, Singapore was incorporated on 3rd Nov, 2015 as a Wholly Owned Subsidiary of the Company. No material transaction/ business has taken place during the financial year ended 31st March, 2016

However, this time, Filatex India Ltd started presenting its consolidated financial statements incorporating the financial performance of its subsidiary company in Singapore.

Nevertheless, the Singapore subsidiary also stayed without any business activities, and in FY2019, Filatex India Ltd dissolved the subsidiary company.

FY2019 annual report, page 49:

Filatex Global Pte Limited, Singapore is a Wholly Owned Subsidiary of the Company as on date. No material transaction/ business has taken place during the financial year ended 31st March, 2019. The Board of Directors of the Company in their meeting held on 25.08.2018 decided to dissolve it. Accordingly Filatex Global Pte Ltd has filed an application for striking off to Accounting and Corporate Regulatory Authority (ACRA) on March 07, 2019. The total financial impact of liquidation of Filatex Global Pte Ltd is Rs. 11.68 lakhs which has been charged off to the statement of profit & loss in year ending March 31, 2019.

An investor would notice that even in the case of the second subsidiary, Filatex India Ltd did not conduct any business in the subsidiary company and after a few years of formation, disposed of the subsidiary.

Nevertheless, this time, Filatex India Ltd prepared its consolidated financials from FY2016 to FY2019.

Subsequent to FY2019, the company stopped preparing consolidated financials and in all the quarterly results for FY2020, Filatex India Ltd has prepared only the standalone financial statements.

Ideally, we believe that while analysing any company, an investor should always look at the company as a whole and focus on financials, which represent the business picture of the entire group. Consolidated financials of any company, whenever they are present, provide such a picture.

Further advised reading: Standalone vs Consolidated Financials: A Complete Guide

Therefore, in the analysis of Filatex India Ltd, we have used standalone financials from FY2010 to FY2015, consolidated financials from FY2016 to FY2019, and standalone financials for the last 12 months (Jan-Dec 2019).

With this background, let us analyse the financial and business performance of the company over the last 10 years

Financial and Business Analysis of Filatex India Ltd:

While analyzing the financials of Filatex India Ltd, an investor would note that in the past, the company has been able to grow its sales at a rate of 25%-30% year on year. Sales of the company increased from ₹399 cr. in FY2010 to ₹2,874 cr in FY2019. However, the sales have declined slightly to ₹2,821 cr in the 12 months ending Dec. 2019 (i.e. Jan 2019-Dec. 2019).

In the last 10 years (FY2010-2019), the sales growth of the company has not been consistent and it faced periods of decline in its sales.

The company witnessed a decline in its sales in FY2012 when the sales of the company declined from ₹486 cr in FY2011 to ₹473 cr in FY2012. Thereafter, the company again witnessed a decline in its sales in FY2015 and FY2016. The sales of the company declined from ₹1,769 cr in FY2014 to ₹1,278 cr in FY2016.

Similarly, when an investor analyses the profitability of the company over the last 10 years (FY2010-FY2019), then she notices fluctuating cyclical patterns in the profit margins as well.

The operating profit margin (OPM) of the company used to be 10% in FY2010, which consistently declined to 2% in FY2014. Thereafter, the OPM increased to 9% in FY2017. The OPM has since then declined to 8% in the 12 months ending Dec. 2019 (i.e. Jan 2019-Dec. 2019).

Such kind of fluctuating business performance indicates to an investor that the business performance of Filatex India Ltd is exposed to cyclical factors.

When an investor notices such kind of cyclical performance in both the sales as well as profitability, then she acknowledges the need for a deeper understanding of the business of Filatex India Ltd to understand the factors influencing the business performance of the company. This is because, once an investor has understood the key factors for Filatex India Ltd, then she would be able to have a view of the expected future performance of the company.

During her analysis of the company, an investor should pay a special focus on the annual reports of the company for the years in which it witnessed a decline in its sales. For example, in FY2016, Filatex India Ltd explained the reasons for the decline in its sales.

FY2016 annual report, page 14:

During the year under review, the Company achieved turnover of Rs. 127823 lacs as compared to Rs. 157276 lacs in the previous year resulting in decrease of approx. 19%. Decrease in turnover is due to decline in the prices of finished goods consequent upon decrease in the price of raw material and deep fall in crude prices.

From the above explanation, an investor can relate that the decline in the sales turnover of the company was due to a decrease in the prices of its products, which is linked to the price of its raw materials, which in turn, is linked to the crude oil prices.

The company also explained the linkage between its sales and the crude oil prices in the press release for the Q3-FY2020 results of the company.

Commenting on the performance for nine months for the financial year 2019‐20, Mr. Madhusudhan Bhageria, Chairman & Managing Director, Filatex India Ltd. said, This year the revenues are slightly less than the same period last year. The drop is due to lower crude prices which have a direct impact on key raw materials i.e. PTA & MEG.

From the above discussion, an investor would appreciate that the company’s sales revenue is dependent on the crude oil price.

When the crude oil prices increase, then the raw material prices of the company increase. In such a case, the company increases the prices of the final goods to its customers, and its sales turnover increases.

On the contrary, when the crude oil prices decrease, then the raw material prices for the company decreases. In such a case, the company has to reduce the selling price to its customers and in turn, its sales turnover decreases.

Let us see the movement of crude oil prices for the last 10 years and try to understand whether we can find this correlation in the movement of crude price and the sales turnover of the company.

The below chart from Macrotrends shows the movement of crude oil prices over the last 10 years.

In the above chart, an investor would notice the following phases/major trends of the crude oil price movements, and an investor can relate these with the sales turnover movement of Filatex India Ltd.

• 2010-2011: Crude oil prices: Increase | Sales turnover of Filatex: Increase
• 2011-2012: Crude oil prices: Decrease | Sales turnover of Filatex: Decrease
• 2012-2014: Crude oil prices: Increase | Sales turnover of Filatex: Increase
• 2014-2016: Crude oil prices: Sharp decrease | Sales turnover of Filatex: Sharp decrease
• 2016-2019: Crude oil prices: Increase | Sales turnover of Filatex: Increase
• 2019-2020: Crude oil prices: Decrease | Sales turnover of Filatex: Decrease over last 12 months

Therefore, an investor notices that the movement of the sales turnover of the company has a direct correlation with the movement of crude oil prices. In addition, an investor would appreciate that the frequent capacity expansion projects undertaken by the company would also have a significant in increasing the sales turnover of the company.

Looking at the above information, an investor can estimate that going ahead whenever there is an upwards movement in the crude oil prices, then she may expect the sales turnover of Filatex India Ltd to increase. On the contrary, if in the future, during any period, there is a decline in crude oil prices, then she may expect the sales turnover of Filatex India Ltd to decrease.

While an investor is able to understand the parameters influencing the sales turnover, she needs to do further analysis to find out the factors influencing the cyclical fluctuating pattern of profit margins of Filatex India Ltd.

The management communicated in the press release for Q3-FY2020 results that it passes on both the increase as well as the decrease in its raw material costs to its customers and as a result, the profitability margin stays constant.

Commenting on the performance for nine months for the financial year 2019‐20, Mr. Madhusudhan Bhageria, Chairman & Managing Director, Filatex India Ltd. said, This year the revenues are slightly less than the same period last year. The drop is due to lower crude prices which have a direct impact on key raw materials i.e. PTA & MEG. However, the EBITDA margin is almost the same as compared to the previous period as the variations be it increase or decrease in raw material prices is passed on to customers.

Looking at the above statement, an investor would expect that Filatex India Ltd is in a position of strength and has its profit margins protected. An investor would expect that the business model of Filatex India Ltd is immune to crude oil prices/raw material price fluctuations.

From the above explanation, an investor would think that if the crude oil prices increase, then Filatex India Ltd increases the prices to its customers and protects its profit margins. Similarly, if the crude oil prices decrease, then Filatex India Ltd decreases the prices to its customers and again protects its profit margins.

However, looking at the huge fluctuations in the profit margins of Filatex India Ltd over the last 10 years (FY2010-FY2019), an investor notices that there is more to the business model of the company than simply passing on the crude oil price changes to its customers and protecting its profit margins.

When an investor reads the available information about Filatex India Ltd in the form of its annual reports, credit rating reports etc., then she gets to understand the important factors like competition in the industry and the bargaining power/negotiating power of different players in this business.

The credit rating agency, CARE, in its July 2017 report (page 2) of Filatex India Ltd mentioned that the company has a very low bargaining power with its suppliers, as its suppliers are very large entities.

These raw materials are derivatives of crude oil and its price is dependent on movement of crude oil prices. Furthermore, key raw material has to be purchased from bigger players; therefore, bargaining power of the company remains low. Hence, any adverse volatility in the raw material prices may affect the company’s margins.

Advised reading: Credit Rating Reports: A Complete Guide for Stock Investors

While reading the transcript of the conference call of the company in Feb 2020 discussing Q3-FY2020 results (page 7), an investor notices that these large suppliers of the company are Reliance, Indian Oil, and Mitsubishi.

Yes, the same vendors like Reliance, Indian Oil and Mitsubishi, they are supplying at reduced prices now. So normally they supply on the import parity basis, So they were charging a small premium because of anti-dumping duty. So now premium has gone away so they are now supplying at the import parity.

An investor notices that the large suppliers Reliance, India Oil etc. have very high bargaining power over players like Filatex India Ltd. When the Govt. of India implemented an anti-dumping duty on the import of PTA, an important raw material for man-made fiber, then these suppliers increased their prices for supplying PTA in line with the anti-dumping duty even though they were producing PTA within India. And players like Filatex India Ltd had to pay a higher price.

It indicates that the suppliers of raw materials in the man-made fiber industry are very large and powerful. Therefore, Filatex India Ltd does not have any bargaining power over these suppliers.

Filatex India Ltd highlighted this aspect to its shareholders in the FY2016 annual report, page 34:

Challenges and Threats

iii) Low bargaining power against large suppliers of key raw materials

From the above discussion, an investor has understood the bargaining power dynamics between Filatex India Ltd and its suppliers. Now, let us focus on the bargaining power dynamics between Filatex India Ltd and its customers.

While analysing the period of FY2013-FY2014 when Filatex India Ltd witnessed its operating profit margin (OPM) declined sharply to 2% and it reported net losses in FY2014, then an investor notices that the company has highlighted a lot of challenges and risks to its shareholders.

FY2013 annual report, page 25:

The profit margins of the industry eroded in last two years mainly due to addition of large capacity of Polyester POY and import of Nylon Filament Yarn (NFY). Substantial import duty concessions, under FTAs signed by the Government of India with ASEAN member countries has become the bane of the industry and emerged as a major threat for the Synthetic Fiber Industry.

The company faced very tough challenges in FY2014 when it reported net losses. It even had to let go of many employees and in turn, reduce its workforce.

FY2014 annual report, page 26:

As a part of rationalization exercise, the company has managed to reduce its workforce to 1338 as compared to 1535 in the previous year.

Further advised reading: How to do Business Analysis of Textile Companies

From the above disclosure by the company, an investor notices that the synthetic fiber industry faced large overcapacity and intense competition from low priced imports.

Filatex India Ltd highlighted to the shareholders that the industry is facing tough competition from cheaper imports from China leading to reduced demand for the yarn producers.

FY2016 annual report, page 32:

Currently domestic textile industry is passing through a bit of upheaval phase due to unabated cheaper imports of fabric from China. This has hit the domestic off take of Domestic Producers of fabrics & fibres.

An investor would appreciate that when an industry faces intense competition from domestic as well as international manufacturers, then obviously, its players would have poor bargaining power over its customers.

The credit rating agency, Brickwork highlighted the low negotiating power of synthetic yarn manufacturers over their customers in its report for Filatex India Ltd in March 2019, page 4:

FIL operates in a highly commoditized and fragmented yarn industry marked by large number of organized players coupled with low entry barriers. Intense competition limits the pricing abilities of the players in the industry. Furthermore, the industry is characterized by players having low bargaining power against ​large suppliers. Additionally, the presence of dominant and integrated players with better bargaining power limits the pricing flexibility of players operating in the segment.

Brickwork’s report highlights that the synthetic yarn industry has a commodity product with low barriers to entry. The industry has intense competition from many players. Moreover, the industry has a few very large and integrated players like Reliance Industries Ltd, which produce its own raw material as well as fiber. Such large players do not let smaller players enjoy any bargaining power with the customers who buy yarn.

Filatex India Ltd also highlighted the intense competition along with its low negotiating power as a weakness and threat in its FY2019 annual report, page 27:

Weaknesses

• Competitive landscape in India
• Commodity nature of product portfolio
• Low bargaining power against large suppliers of key raw materials

Threats

• Cheaper Imports from neighbouring countries enjoying free trade

Looking at the above discussion, an investor would appreciate that Filatex India Ltd operates in an industry, which has very low bargaining power with its suppliers as well as its customers.

The suppliers of the raw material to the company are very large companies like Reliance, Indian Oil etc. who extract the prices that they desire from players like Filatex India Ltd. In the past, when Govt. of India imposed anti-dumping duty on the import of one of the raw materials (PTA), then these domestic suppliers (Reliance, India Oil) increased their prices of domestically produced PTA and Filatex India Ltd had to agree to pay a higher price.

Filatex India Ltd also has low negotiating power with its customers because the synthetic yarn industry is highly competitive with a commodity product having low entry barriers. Therefore, the customers have many choices to buy from different Indian players as well as from cheaper imports.

As a result, while the suppliers of Filatex India Ltd can increase the prices at any time, Filatex India Ltd is not able to increase the prices to its customers as per its will. As a result, we notice that at times, Filatex India Ltd had to take a significant hit on its profit margins like in the periods of FY2014 when it reported an operating profit margin of 2% and it reported net losses.

Read: How to do Business & Industry Analysis of a Company

Therefore, even though an investor notices that the final customer prices of Filatex India Ltd are linked to its raw material prices in turn linked to crude oil prices, still it does not mean that the company has the power to protect its profit margins. It may be a case that when the crude oil prices fall, then Filatex India Ltd has to reduce its prices by a higher fraction but when the crude oil prices increase then it can only increase them by a lower fraction. In such a case, an investor would notice that despite the sales turnover fluctuating in line with crude oil prices, the profit margins of the company would take a hit.

An investor noticed a similar situation in FY2018 when the raw material prices for the company were on an increase but the company had to give competitive discounted prices to its customers in order to generate sales volume. The July 2018 report by the credit rating agency, CARE, page 2, reflects such a tough business situation for Filatex India Ltd.

Although, the PBILDT grew in absolute terms, the margins moderated to 8.62% in FY18 as against 9.33% in FY17 largely on account of competitive prices offered by the company to boost the sales coupled with higher raw material prices.

An investor would appreciate that when the companies operate in commodity product businesses with intense competition with lower barriers to entry having large suppliers with huge bargaining power and customers with many choices to buy, then such companies are bound to face tough business phases. Such companies have to take a hit on their profit margins during business down phases.

Filatex Industries Ltd seems to be one such company.

Going ahead, investors should keep a close watch on the profitability margins of the company.

While looking at the tax payout ratio of Filatex India Ltd., an investor notices that for most of the last 10 years (FY2010-2019), the tax payout ratio of the company has been in line with the standard corporate tax rate prevalent in India. This is because; the company has been disclosing tax in the profit & loss statement (P&L) as per the standard corporate tax rate. However, the company has been paying a lesser tax to the income tax department at the rate of minimum alternate tax (MAT).

This practice has led to the accumulation of deferred tax liabilities (DTL) in the balance sheet of Filatex India Ltd, which is the difference between the standard corporate tax rate and MAT. It effectively means that in the P&L, a company has shown a higher tax (standard corporate tax rate), which it has not yet paid to the income tax (IT) dept. because it is paying a lower rate to the IT dept. at MAT. Therefore, it is carrying the difference as a liability that it would have to settle/adjust/pay in the future.

Further advised reading: How to calculate Deferred Tax

In September 2019, the govt of India decreased the rate of the standard tax rate as well as the rate of MAT. The standard corporate tax rate was reduced from 30% to 22% and the MAT rate was reduced from 18.5% to 15%. (Source: Government reduces corporate tax rate to 22%: Business Standard)

An investor would notice that the amount of deferred tax liabilities (DTL) depends upon the difference between the standard corporate tax rate and the MAT.

Before the recent changes in the tax rate, this difference used to be 11.5% (30% – 18.5%, excluding cess/surcharges etc.). Now with the decline in standard corporate tax rate and the MAT, the tax difference that is the basis of deferred tax liabilities (DTL) for the past periods, has declined to 3.5% (22% – 18.5%, excluding cess/surcharges etc.).

An investor would note that for the past periods, where the company has already paid MAT at 18.5%, the differential has declined from 11.5% to 3.5% as calculated above. For the future periods, when the companies would pay MAT at 15%, the differential for which the DTL would be calculated would be 7% (22%, the new corporate tax rate – 15%, the new MAT rate).

An investor would notice that with the change in the differential basis of the deferred tax liabilities (DTL), the companies had to recalculate the deferred tax liabilities that they need to settle/adjust/pay in future in lieu of their past profits. Moreover, an investor would also appreciate that as the tax differential has reduced from 11.5% to 3.5%, therefore, the deferred tax liabilities of the companies would reduce.

This reduction in the liability means that in the past, the companies have deducted a higher amount of tax from their P&L and created a DTL. However, now with the reduction in the standard tax rate itself from 30% to 22%, they will have to settle a lesser amount in the future.

This requires a reversal in the liability (DTL) created, which has now turned out to be an excess liability. As this liability was created by deducting a higher tax expense (30%) from the P&L in the previous year, now the opposite adjustment would be to add the excess portion of the DTL back to the P&L. The original tax expense entry in the previous periods had the impact of reducing the reported profits (PAT). Now, this reversal entry for adjusting the excess DTL would increase the reported profits.

Filatex India Ltd did this adjustment in the Q2-FY2020 results reported by it when it reported a more than 200% jump in its net profits after tax (PAT) for the quarter on a QoQ basis. The company reported a PAT of ₹61.8 cr in Q2-FY2020 against a PAT of ₹20.3 cr in Q1-FY2019. The main reason for such a sharp jump in PAT is a reversal of DTL of ₹34.7 cr.

Q2-FY2020 results, page 5:

The Company expects to utilise the deferred tax balances over subsequent periods which have accordingly been re-measured using the tax rate expected to be prevalent in the period in which the deferred tax balances are expected to reverse. Consequently, the Company has reversed deferred tax liabilities amounting to Rs. 3,470.07 Lakhs in the current period financial results at the estimated effective tax rate.

The company highlighted this aspect of deferred tax adjustment and the impact of the reduction in MAT in the future in its conference call in Nov. 2019, page 8:

So, from 34.9% to 25 point some percent. So that difference gets reversed. So, that is why a jump in profits. But MAT we now continued to pay at 15% plus 12% surcharge, not at the old rate of 18.5. So, that is the cash flow advantage of around 4%.

Read: How to do Financial Analysis of Companies

Operating Efficiency Analysis of Filatex India Ltd:

a) Net fixed asset turnover (NFAT) of Filatex India Ltd:

When an investor analyses the net fixed asset turnover (NFAT) of Filatex India Ltd in the past years (FY2010-19), then she notices that the NFAT of the company has declined from 4.86 in FY2011 to 3.07 in FY2019.

An investor would notice that the NFAT is calculated as Sales / Net Fixed Assets.

If an investor looks at the denominator, then she notices that one of the key reasons for the reduction in the NFAT is the continuous capital expenditure done by the company in order to increase its manufacturing capacity over the last 10 years. The capital expenditure has led to an increase in net fixed assets from ₹95 cr in FY2010 to ₹928 cr in FY2019.

In addition, if the investor looks at the numerator (sales), then she notices that the sales of the company depend on the volume of yarn produced and the product price, which is dependent on the crude oil price. An investor notices that over the last 10 years, the crude oil price has declined from about $80 per barrel to now $30 per barrel.

Therefore, even if the company kept on utilizing its fixed assets (plant and machinery) with the same efficiency i.e. producing the same kg. of product per machine from the newly added capacities, even then the decline in the crude oil prices would ensure that the sale turnover of the company would be comparatively lesser than the situation if the crude oil prices had stayed at FY2010 levels.

This decline in the product prices linked to crude oil prices seems to be the key reason for the decline in the NFAT of the company.

An investor would appreciate the magnitude of this issue when she reads the transcript of the conference call of the company in February 2020, page 6:

It depends on the price of the raw material like now also this quarter we have done 30% more volume than last year quarter, but the top line is 2% to 3% lower than of last year. The price of the raw material plays a lot of role in the topline,…

The management of the company intimated to the shareholders that in Q3-FY2020, the company sold more than 30% higher volume of products when compared to the previous year; however, due to the decline in product prices (linked to crude oil prices), it reported a 2-3% decline in sales in Q3-FY2020 when compared to the previous year.

Therefore, an investor would appreciate that even if the company keeps on using its assets with the same efficiency of production, a decline in the crude oil prices can result in a reduction in sales turnover and in turn a decline in NFAT.

Further advised reading: Asset Turnover Ratio: A Complete Guide for Investors

b) Inventory turnover ratio of Filatex India Ltd:

While analysing the inventory turnover ratio (ITR) of the company, an investor notices that the ITR of Filatex India Ltd had been witnessing an improvement from 12.4 in FY2011 to 15.7 in FY2019.

This improvement reflects efficient inventory management by the company.

An investor gets to understand some of the steps taken by the company for efficient inventory management in the FY2019 annual report, page 25-26:

The two basic raw materials viz. PTA & MEG are purchased from both domestic and foreign suppliers. This year the company decreased its imports and purchased a majority from domestic players. This allowed the company to maintain less stock as lead time decreased. Therefore, holding levels were lower as compared to previous year and Inventory Turnover ratio improved from 32 days to 23 days.

An investor notices that in FY2019, Filatex India Ltd focused on purchasing its raw material from domestic suppliers instead of importing it from overseas. As a result, it had to keep less inventory with itself as it could buy additional raw material from domestic suppliers at a short notice (lower lead time). This has improved the inventory utilization efficiency and hence improved the inventory turnover ratio.

Advised reading: Inventory Turnover Ratio: A Complete Guide

c) Analysis of receivables days of Filatex India Ltd:

While analysing the receivables days of the company, an investor notices that the receivables days of Filatex India Ltd show two contrasting trends. During FY2011-2016, the receivables days of Filatex India Ltd increased from 18 days in FY2011 to 52 days in FY2016. Thereafter, the receivables days declined and in the FY2019, Filatex India Ltd reported receivables days of 17 days.

An investor would appreciate from the above discussion on the business of Filatex India Ltd that the company operates in a very tough and competitive environment where the customers of the company have many domestic and international options to buy products. As a result, if Filatex India Ltd wished to sell more products from its expanded capacity, then it would have to give generous terms like cheaper prices as well as higher credit periods to its customers. It seems that the increase in receivables days of the company from FY2011 to FY2016 is an attempt by the company to sell products from is expanded manufacturing capacity.

The credit rating agency, CARE has highlighted this working capital intensive aspect of the business operations of Filatex India Ltd in its report for the company in July 2018, page 2:

FIL has working capital intensive nature of business operations. The key raw material Purified Terephthalic Acid (PTA) and Mono-Ethylene Glycol (MEG) are sourced against LC or very low credit period while the sales is made through dealers at a credit period upto 60 days thus necessitating high working capital requirement.

However, the recent improvement in the receivables days of the company indicates that in recent years, the management has taken some active steps to improve its receivables days.

In FY2015, FY2016, and FY2017, the company recognized losses on the receivables that were outstanding for long and where it acknowledged that there is little hope of recovering the same.

FY2016 annual report, page 75:

FY2017 annual report, page 97:

Additionally, in FY2019, the company decided to decrease the credit terms to the customers when it realized that the demand for its products in the market is reviving.

FY2019 annual report, page 25:

The company decided to decrease the credit period to its customers due to slightly higher demand for its products in the market. This led to an improvement of Debtor Turnover ratio from 35 days to 18 days.

Nevertheless, if seen from a complete period over the last 10 years (FY2010-2019), an investor notices that the receivables days’ position of Filatex India Ltd has remained nearly stable at 17-18 days. Receivables days of the company deteriorated during the decade but it managed to bring it under control by the end of the decade.

Further Advised Reading: Receivable Days: A Complete Guide

Looking at the inventory turnover ratio as well as at receivables days of Filatex India Ltd, an investor would notice that the company has been able to keep its working capital position under control and not let it deteriorate over the last 10 years (FY2010-2019). As a result, it has not witnessed a lot of money being stuck in the working capital.

An investor observes the same while comparing the cumulative net profit after tax (cPAT) and cumulative cash flow from operations (cCFO) of the company for FY2010-19.

Over FY2010-19, Filatex India Ltd Limited reported a total cumulative net profit after tax (cPAT) of ₹265 cr. During the same period, it reported cumulative cash flow from operations (cCFO) of ₹642 cr. An investor notices that the company has a very high cCFO when compared to the cPAT over the last 10 years (FY2010-2019).

It is advised that investors should read the article on CFO calculation, which would help them understand the situations in which companies tend to have the CFO lower than their PAT. In addition, the investors would also understand the situations when the companies would have their CFO higher than the PAT.

Further advised reading: Understanding Cash Flow from Operations (CFO)

Learnings from the article on CFO will indicate to an investor that the cCFO of Filatex India Ltd is significantly higher than the cPAT due to the following factors:

• Interest expense of ₹339 cr (a non-operating expense) over FY2010-2019, which is deducted while calculating PAT but is added back while calculating CFO.
• Depreciation expense of ₹221 cr (a non-cash expense) over FY2010, which is deducted while calculating PAT but is added back while calculating CFO.

Therefore, an investor would appreciate that during FY2010-2019, Filatex India Ltd has kept its working capital requirements under check. As a result, it has been able to convert its profits into cash flow from operations.

The Margin of Safety in the Business of Filatex India Ltd:

a) Self-Sustainable Growth Rate (SSGR):

Read: Self Sustainable Growth Rate: a measure of Inherent Growth Potential of a Company

Upon reading the SSGR article, an investor would appreciate that if a company is growing at a rate equal to or less than the SSGR and it is able to convert its profits into cash flow from operations, then it would be able to fund its growth from its internal resources without the need of external sources of funds.

Conversely, if any company attempts to grow its sales at a rate higher than its SSGR, then its internal resources would not be sufficient to fund its growth aspirations. As a result, the company would have to rely on additional sources of funds like debt or equity dilution to meet the cash requirements to generate its target growth.

While analysing the SSGR of Filatex India Ltd, an investor would notice that the company has consistently had a low SSGR (negative to 4%) over the years. One of the key reasons for a low SSGR for the company has been its low profitability. The net profit margin (NPM) of the company has been consistently low at 0%-3% over the last 10 years. The NPM even turned negative in FY2014 when Filatex India Ltd reported a net loss of ₹8 cr.

While studying the formula for the calculation of SSGR, an investor would understand that the SSGR directly depends on the net profit margin (NPM) of a company.

SSGR = NFAT * NPM * (1-DPR) – Dep

Where,

• SSGR = Self Sustainable Growth Rate in %
• Dep = Depreciation rate as a % of net fixed assets
• NFAT = Net fixed asset turnover (Sales/average net fixed assets over the year)
• NPM = Net profit margin as % of sales
• DPR = Dividend paid as % of net profit after tax

(For systematic algebraic calculation of SSGR formula: Click Here)

Therefore, an investor would notice that Filatex India Ltd has continuously had a low SSGR (negative to 4%) over the last 10 years (FY2010-2019). However, an investor would appreciate that the company has been growing at a rate of 25%-30% over the years.

The historical low SSGR indicates that the company does not seem to have the inherent ability to grow at the rate of 25%-30% from its business profits. As a result, investors appreciate that Filatex India Ltd would have to raise money from additional sources like debt or equity to meet its investment requirements.

While analysing the past financial performance of Filatex India Ltd, an investor notices that the company has to rely on both additional debt as well as equity funding to meet the requirement of funds to grow at 25-30% over the last 10 years.

• From Debt: The total debt of the company increased from ₹35 cr in FY2010 to ₹605 cr in FY2019 indicating a net inflow of ₹570 cr (= 605 – 35) from debt.
  • The total debt includes the unsecured loans provided by the promoters to the company.
• From Equity: In addition, the company raised ₹102.05 cr from equity issuances on the following occasions in the last 10 years:
  • FY2011-12: the company raised a total ₹30.3 cr from the promoter group by way of allotting shares against warrants and in additional action, by issuing additional equity shares to the promoter group.

FY2012 annual report, page 47:

The Company has received an amount of Rs.3,029.30 lacs towards issuance of fresh Equity and conversion of Warrants and the same has been utilized towards part financing of acquisition of land, construction of building, procurement of plant & machinery for the project of Polyester Poly-Condensation cum POY.

• FY2014: the company raised a total of ₹12.95 cr by way of allotting 8,000,000 warrants to the promoter group and converting a part of these warrants into equity shares (face value of ₹10/- each) during the year.

FY2014 annual report, page 11-12:

The Company had received Rs. 500/- lacs as application money being 25% of the issue price from 80,00,000 warrant holders and has further received Rs. 795/- Lacs towards balance amount being 75% of the issue price from the holders of 42,40,000 warrants for which the warrant holders exercised the option to convert them into equity shares.

• FY2015: The company received the balance of ₹7.05 cr from the promoter group upon exercise of the remaining warrants issued in FY2014. The total value of the 8,000,000 warrants issued at ₹25/- per share, was ₹20 cr. Out of this, the company had received ₹12.95 cr in FY2014. The remaining ₹7.05 cr was received in FY2015.

FY2015 annual report, page 12:

The Company, during the financial year 2013-14, had converted 42,40,000 warrants into equivalent number of equity share and balance 37,60,000 warrants were converted during the year under review.

• FY2016-17: During FY2016, the company allotted 11,500,000 warrants to the promoters’ group at an exercise price of ₹45 per share. In FY2017, the warrants were converted into equity shares (face value of ₹10/- each) and in total, the company received ₹51.75 cr from the warrants allotment and their conversion.

FY2016 annual report, page 63-64:

During the year the company has allotted 11,500,000 Convertible Warrants on preferential basis to the promoters/others to be converted at the option of warrant holders in one or more tranches, within 18 months from the date of allotment (i.e. March 16, 2016) of warrants into equivalent number of fully paid equity shares of the company of the face value of Rs. 10/- per share at an exercise price of Rs. 45/- per share (including premium of Rs. 35/- per share).

FY2017 annual report, page 31-32:

During the year, the Company on 30th July, 2016 has allotted 1,15,00,000 Equity Shares on preferential basis to the Promoter Group and others upon conversion of 1,15,00,000 convertible Warrants.

Further advised reading: Stock Warrants to Promoters: How to Analyse

Therefore an investor would note that the company raised a total of ₹102.05 cr from issuing additional shares over the last 10 years (102.05 = 30.3 + 12.95 + 7.05 + 51.75). When added to the increase in total debt of about ₹570 cr over the last 10 years, an investor notices that during FY2010-2019, Filatex India Ltd had to infuse additional capital of ₹672.05 cr (= 102.05 + 570) from equity and debt to meet the funds needed for its growth of 25%-30% over last 10 years.

An investor would appreciate that Filatex India Ltd had to raise additional funds from equity and debt because the inherent business model of the company allows it to grow only at a rate of 3-4% from its business profits (Self-sustainable growth rate, SSGR), whereas the company grew its sales at a higher rate of 25%-30%.

Therefore, it does not come as a surprise to the investor that the company has to rely on additional money from debt and equity to meet its growth requirements.

Moreover, the company has taken permission from its shareholders in its annual general meeting in 2019, to raise an additional ₹250 cr by way of issuing new shares. FY2019 annual report, page 44:

The Board of Directors, accordingly, at their meeting held on 2nd August 2019 has recommended to the shareholders to give their consent…..to raise funds through issuance of Equity Shares and / or Global Depository Receipts (“GDRs”).…..upto an amount of Rs. 250 crores (Rupees Two Hundred Fifty Crores) in Indian Rupees and / or an equivalent amount in any foreign currency….

Therefore, an investor would appreciate that the company is attempting to grow at a speed faster than what its internal business profit generation can afford. As a result, it has to rely on continuous additional cash infusion by way of debt and equity dilution.

An investor reaches a similar observation when she analyses the free cash flow (FCF) position of the company over the last 10 years (FY2010-2019).

b) Free Cash Flow (FCF) Analysis of Filatex India Ltd:

While looking at the cash flow performance of Filatex India Ltd, an investor notices that during FY2010-19, the company had a cumulative cash flow from operations of ₹642 cr. During this period it did a capital expenditure (capex) of ₹1,111 cr. As a result, an investor would note that over FY2010-2019, Filatex India Ltd had a negative free cash flow (FCF) of ₹469 cr. ( = 642 – 1,111).

In addition to the capital expenditure, the company had to meet the interest expense of about ₹339 cr on the debt that it had for FY2010-2019. Please note that the amount of interest capitalized by Filatex India Ltd is already reflected in the amount of capital expenditure.

As a result, the company had a total cash shortfall of ₹808 cr (= 469 + 339).

The company met this shortfall from the following sources:

• Additional debt: ₹570 cr as discussed above.
• Additional equity: ₹102.05 cr as discussed above.
• Non-operating income of ₹79 cr over FY2010-2019.

Therefore, an investor would notice that the growth achieved by the company during the last 10 years (FY2010-2019) surpassed the ability of the internal cash generation ability of the company from its cash flow from operations. As a result, the company had to rely on additional debt and equity to meet its funds’ requirements.

Further advised reading: Free Cash Flow: A Complete Guide to Understanding FCF

Free cash flow (FCF) is one of the main pillars of assessing the margin of safety in the business model of any company.

Further advised reading: 3 Simple Ways to Assess “Margin of Safety”: The Cornerstone of Stock Investing

Additional aspects of Filatex India Ltd

On analysing Filatex India Ltd and reading its publicly available past annual reports and reading other public documents an investor comes across certain other aspects of the company, which are important for any investor to know while making an investment decision.

1) Management Succession of Filatex India Ltd:

Filatex India Ltd was founded by Late Sh. Ram Avatar Bhageria and currently, his three sons Madhu Sudhan Bhageria, Purrshottam Bhaggeria & Madhav Bhageria are leading the company.

Mr. Ram Avatar Bhageria established Filatex India Ltd in 1990 and he was associated with the company until his death in 2017, the leadership of the family extended with his sons continuing with the management of the company.

The three brothers Madhu Sudhan Bhageria, Purrshottam Bhaggeria & Madhav Bhageria are now 60 years, 58 years, and 56 years of age respectively.

While reading the transcript of the conference call held by the company in February 2020, an investor notices that the next generation of the Bhageria family has joined the company and is playing an active part in the day-to-day management of the company.

In the conference call, on page 10, Ms. Stuti Bhageria mentions that she and her brother have joined the company and leading various initiatives.

Stuti Bhageria: So I think I mean both for me and for my brother one of the things which we plan to do is to make the company a lot more technically savvy because obviously before we joined, the company’s employee average age is more towards the 40-50 year.

Such a transition of leadership indicates that the company has put in place a management succession plan in which the new generation of the promoter family is being groomed in business while the senior members of the promoter family are still playing an active part in the day-to-day activities.

The presence of a well thought out management succession plan is essential in the case of promoter run businesses as it provides for a smooth transition of leadership over the generations and provides continuity in the business operations of any company.

Further advised reading: Steps to Assess Management Quality before Buying Stocks

2) Shareholding of Filatex India Ltd with friends & relatives who are not classified as promoters by legal definition:

While analysing the issuance of warrants by Filatex India Ltd, an investor notices that in FY2017 (on July 30, 2016), the company allotted 11,500,000 shares to “Promoter Group and others” on the conversion of warrants.

FY2017 annual report, page 31-32:

During the year, the Company on 30th July, 2016 has allotted 1,15,00,000 Equity Shares on preferential basis to the Promoter Group and others upon conversion of 1,15,00,000 convertible Warrants. The paid up share capital of the Company increased to Rs. 43.50 crores from Rs. 32.00 crores.

Therefore, an investor notices that out of the total 11,500,000 shares, a part has been allotted to the promoters and the remaining has been allotted to “Others” who are not classified as promoters.

While analysing the change in the promoters’ shareholding over FY2017, an investor notices that as per the annual report, the number of shares held by promoters increased by 5,200,000 from 20,025,495 to 25,225,495 during FY2017. The company reported that the percentage shareholding of the promoters in FY2017 declined by 4.59% from 62.58% to 57.99.

FY2017 annual report, page 63:

An investor would appreciate that the percentage shareholding of the promoters declined in FY2017 despite getting 5,200,000 shares from warrants conversion because the “Other” non-promoter shareholders received the remaining 6,300,000 shares (=11,500,000 – 5,200,000).

To understand the entities that received these 6,300,000 shares, an investor needs to understand the change in the non-promoter shareholding of the company from June 30, 2016, to Sept 30, 2016. This is because, as per the above discussion, the company had allotted these shares on July 30, 2016.

When an investor compares the details of non-promoter/public shareholders in the shareholding details filed by Filatex India Ltd for June 30, 2016 (Source: BSE) and Sept 30, 2016 (Source BSE), then she notices the following changes:

• Nishit Fincap (P) Ltd: increase of 1,500,000 shares
• ANM Fincap Private Limited: increase of 1,400,000 shares
• Satsai Finlease Private Limited: increase of 2,000,000 shares
• Savita Holdings Private Limited: increase of 1,407,757 shares

Large public shareholders of Filatex India Ltd at June 30, 2016:

Large public shareholders of Filatex India Ltd at Sept 30, 2016:

An investor would notice that among themselves, Nishit Fincap (P) Ltd, ANM Fincap Private Limited, Satsai Finlease Private Limited, and Savita Holdings Private Limited had an increase of 6,307,757 shares (= 1,500,000 + 1,400,000 + 2,000,000 + 1,407,757).

An investor can assume that it is highly probable that these four entities would have received the majority/all of the remaining 6,300,000 shares allotted by Filatex India Ltd on July 30, 2016, to “Other” non-promoter shareholders.

While looking for details of these “other” non-promoter entities, an investor notices that as per the corporate database Zaubacorp, on May 18, 2020, the directors of all these four entities are the same two persons:

• Vimal Kumar Bhageria and
• Ankit Bhageria

Directors of Nishit Fincap (P) Ltd on May 18, 2020 (Source: Zaubacorp)

Directors of ANM Fincap Private Limited on May 18, 2020 (Source: Zaubacorp)

Directors of Satsai Finlease Private Limited on May 18, 2020 (Source: Zaubacorp)

Directors of Savita Holdings Private Limited on May 18, 2020 (Source: Zaubacorp)

Looking at the above information, it seems that on July 30, 2016, Filatex India Ltd allotted 5,200,000 shares to the promoter group and the remaining 6,300,000 shares to the entities controlled by Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria.

Apart from the common surname “Bhageria” of Vimal and Ankit with the promoters of Filatex India Ltd, an investor notices the fact that the entities controlled by them were granted warrants on a preferential basis along with the promoter group. It might also indicate that Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria share a special relationship with the promoters of Filatex India Ltd.

While analysing the previous instances of equity allocation on a preferential basis, an investor notices that in FY2011, when Filatex India Ltd sought permission to issue additional 2,858,603 shares to raise funds via equity dilution, then Nishit Fincap (P) Ltd, and ANM Fincap Private Limited were in the list of entities who got the shares on a preferential basis. The company allotted shares to these entities in FY2012.

FY2011 annual report, page 49:

An investor notices that in the above table, out of the total 2,858,603 shares to be allotted to the “non-promoter” category, 900,000 shares were allotted to Nishit Fincap (P) Ltd (500,000), and ANM Fincap Private Limited (400,000).

In addition, from the above table, if an investor analyses the details of the entity, RMP Holdings Pvt. Ltd mentioned at S. No. 1 in the table that is allotted 900,000 shares, then she notices that the directors of RMP Holdings Pvt. Ltd are also Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria.

Directors of RMP Holdings Pvt. Ltd on May 18, 2020 (Source: Zaubacorp)

Therefore, an investor notices that in FY2012, when the company allotted 2,858,603 shares on a preferential basis, then out of these shares a total of 1,800,000 (= 500,000 + 400,000 + 900,000) shares representing about 63% of total share issuance were allotted to the entities controlled by Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria.

It might be one such case where Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria are close friends or relatives of the promoters of Filatex India Ltd, who are willing to put money in the company when it needs equity. However, they do not fall under the definition of promoter group as per the current law.

An investor may do further due diligence in this situation. This is because, if Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria are relatives/close family friends of the promoters and are willing to vote as per the views of the promoters, then the effective promoter control on the company on March 31, 2017, would be the sum of promoter shareholding declared in the annual report (57.99%) and the stake owned by the four entities controlled by Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria (17.61% = 5.54 + 4.23 + 4.60 + 3.24):

• Nishit Fincap (P) Ltd: 5.54%
• ANM Fincap Private Limited: 4.23%
• Satsai Finlease Private Limited: 4.60%
• Savita Holdings Private Limited: 3.24%

FY2017 annual report, page 65:

If an investor adds up the shareholding of promoters as per the FY2017 annual report (57.99%) and the shareholding of the entities controlled by Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria (17.61%), then she arrives at a total of 75.6% (= 57.99 + 17.61).

An investor may contact the company directly to seek clarifications about the relationship of Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria with the promoters of Filatex India Ltd.

As mentioned above, if Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria are relatives/close-family friends of the promoters and are willing to vote as per the views of the promoters, then the effective promoter control on the company may be higher than the reported promoters’ shareholding of Filatex India Ltd.

Further advised reading: How Promoters use Loopholes to Inflate their Shareholding

3) Debt is shown as inflow under cash flow from operations by Filatex India Ltd:

While analysing the FY2012 annual report, an investor notices that the company has included an increase in the current maturity of long-term borrowing (CMLTB) as an inflow under cash flow from operations (CFO).

An investor can ascertain it via the following steps.

In the cash flow statement for FY2012, an investor notices that the company has disclosed ₹20.64 cr as an inflow on account of “Increase / (decrease) in trade & other payable / provisions” in the CFO under “Movements in working capital”.

FY2012 annual report, page 30:

From the above information, an investor notices that the company has included ₹20.64 cr as an inflow on account of “Increase / (decrease) in trade & other payable / provisions” in the CFO.

While looking at the balance sheet of the company for FY2012, an investor notices that the only item that can lead to an inflow of ₹20.64 cr is “other current liabilities”. In FY2012, the other current liabilities of Filatex India Ltd increased by ₹27.92 cr from ₹23.66 cr in FY2011 to ₹51.58 cr in FY2012 (51.58 – 23.66 = 27.92).

FY2012 annual report, page 28:

In the above balance sheet, an investor would notice that apart from the other current liabilities, there is no other section that indicates an increase by ₹20 cr or more. The common parameter of trade payable had an outflow of ₹8.58 cr as the trade payables had decreased from ₹19.46 cr in FY2011 to ₹10.88 cr in FY2011 (19.46 – 10.88 = 8.58).

Therefore, an investor can assume that the inflow of ₹20.64 cr shown in the CFO calculations under “Increase / (decrease) in trade & other payable / provisions” is related to other current liabilities. If an investor mergers the impact of “Other current liabilities” and “trade payables”, then she arrives at a net impact of the increase/inflow of ₹19.34 cr (= 27.92 – 8.58), which approximates to the inflow of ₹20.64 cr shown in the CFO.

While ascertaining the component of other current liabilities that has led to the inflow/increase of ₹20.64 cr in FY2012, an investor should analyse the detailed note to the financial statements.

FY2012 annual report, pages 39-40:

While analysing the other current liabilities section, an investor notices that out of the total increase in other current liabilities of ₹29.72 cr, the major component is the increase in current maturity of long term borrowing (CMLTB) of ₹18.72 cr, from ₹11.75 cr in FY2011 to ₹30.47 cr in FY2012 (30.47 – 11.75 = 18.72). The rest of the parameters of other current liabilities lead to an increase of ₹9.38 cr from ₹11.72 cr in FY2011 to ₹21.10 cr in FY2012.

Therefore, an investor would appreciate that the ₹20.64 cr of inflow shown by Filatex India Ltd in the CFO calculations under “Increase / (decrease) in trade & other payable / provisions” has a full contribution from the CMLTB, which is nothing but debt component.

Therefore, an investor would appreciate that in FY2012, Filatex India Ltd included the debt inflow as an inflow under cash flow from operations, which had the impact of showing a higher CFO than it actually is.

An investor can crosscheck this finding by ascertaining the cash flow from financing activities of Filatex India Ltd for FY2012.

In the summary balance sheet for FY2012, an investor notices that the long term borrowings (LTB) have increased from ₹28.39 cr in FY2011 to ₹186.32 cr in FY2012 representing an increase of ₹157.93 (= 186.32 – 28.39). Similarly, the short-term borrowings (STB) show an increase of ₹2.66 cr from ₹40.41 cr in FY2011 to ₹43.07 cr in FY2012.

FY2012 annual report, page 28:

Further advised reading: Understanding the Annual Report of a Company

An investor would appreciate that the data of LTB and STB showed in the summary balance sheet excludes the current maturity of long term borrowing (CMLTB). This is because, in the summary balance sheet, the CMLTB is shown under other current liabilities.

When an investor analyses the cash flow from financing activities of Filatex India Ltd, then she notices that the data of inflow from the borrowings of the company in FY2012 corresponds only to the inflow/increase calculated by the investor above using only the LTB and STB data from the summary balance sheet without factoring in the CMLTB.

FY2012 annual report, page 31:

From the above cash flow from financing activities (CFF) table, an investor notices that the CFF table shows a net inflow from LTB of ₹157.93 cr, which exactly matches the increase in LTB calculated above from the summary balance sheet data.

• Proceeds from LTB: ₹163.87 cr
• Repayment of LTB & STB: ₹5.94 cr
• 163.87 – 5.94 = 157.93

Similarly, the inflow from STB in the CFF is ₹2.66 cr, which matches the increase in STB calculated above from the summary balance sheet data.

As an investor would appreciate that the LTB and STB data in the summary excludes the current maturity of long term borrowing (CMLTB), which is shown under other current liabilities.

Therefore, if an investor takes a comprehensive view from all the calculations done by us in the above discussion, then she would appreciate that the data in the CFF only corresponds to the LTB and STB as per the summary balance sheet data. Therefore, the CFF data misses the impact of the current maturity of LTB, which is an increase/inflow of ₹18.72 cr included in the other current liabilities.

At the same time, the calculations of the CFO include the impact of CMLTB through other current liabilities.

Therefore, the net impact of these accounting assumptions is that the inflow/increase due to CMLTB of ₹18.72 cr is shifted from cash flow from financing activities (CFF) to cash flow from operating activities (CFO).

This effectively inflates/increases the CFO by ₹18.72 cr and deflates/decreases the CFF by ₹18.72 cr.

Further advised reading: How Companies Manipulate Cash Flow from Operating Activities (CFO)

4) Use of accounting assumptions to report higher profits/lower losses by Filatex India Ltd:

While analysing the past annual reports of Filatex India Ltd, an investor notices that at multiple occasions, the auditor of the company has highlighted that the accounting assumptions used by the company have led to higher profits (or lower losses) than the situation if the company had used the normally prevalent assumptions.

Please note that by using the accounting assumptions highlighted by the auditor, Filatex India Ltd may not have done anything against the law. However, the auditor would have highlighted the instances where if the company would have used the commonly prevalent accounting assumptions, then its reported profits would have been lower or its reported losses would have been higher.

In FY2014, Filatex India Ltd reported a net loss of ₹8 cr. However, when an investor reads the auditor’s report in the FY2014 annual report, page 30, then she notices that the company had reported its profit higher by ₹18.9 cr by using certain accounting assumptions, which the auditor highlighted in its report in annual report.

FY2014 annual report, page 30:

…the company has added Rs.1996.66 lacs for the year ended March 31, 2014 on account of foreign exchange difference to the cost of qualifying assets and charged depreciation of Rs 106.98 lacs for the year ended March 31,2014, consequently loss for the year would have been higher by Rs 1889.68 lacs,…

The auditor mentioned that if the company would not have followed this practice, then its loss would have been higher by ₹18.9 cr. i.e. the reported loss of the company in FY2014 would have been ₹26.9 cr instead of the reported loss of ₹8 cr (26.9 = 8 + 18.9).

In FY2013, the year when the net profit of the company had fallen sharply from ₹14 cr in FY2012 to ₹2 cr in FY2013, the auditor of the company highlighted that the company has used certain accounting assumptions. As per the auditor, if the company had not used these assumptions, then its profit for the year would have been lower by ₹8.08 cr.

FY2013 annual report, page 30:

…..the company has added Rs.852.02 lacs for the year ended March 31, 2013 on account of foreign exchange difference to the cost of qualifying assets and charged depreciation of Rs 43.47 lacs for the year ended March 31,2013, consequently profit for the year would have been lower by Rs 808.55 lacs,…

Therefore, as per the auditor, if the company did not follow the accounting assumptions that it did, then its profit would have been lower by ₹8.08 cr. It means that instead of the profit of ₹2 cr reported by the company in FY2013, it would have reported a net loss of ₹6.08 cr (= 2 – 8.08) in FY2013.

The observation by the auditor in the FY2013 annual report of Filatex India Ltd was picked up by National Stock Exchange (NSE). As a result, NSE sent a letter to Filatex India Ltd on Dec 26, 2014, to restate its financials by incorporating the observations highlighted by the auditor in the annual report.

FY2015 annual report, page 74:

The company has received letter dated 26th December, 2014 from National Stock Exchange (NSE) advising the company to restate its Financial Statements for the financial year 2012-13 subsequent to the auditors qualification…….

Subsequently, the Qualified Audit Review Committee (QARC) of the Securities & Exchange Board of India (SEBI) had a hearing on the matter. After the hearing, QARC asked Filatex India Ltd to restate its financials as per the auditor’s observations.

Filatex India Ltd then appealed against the QARC/SEBI order in the Securities Appellate Tribunal (SAT). SAT upheld the appeal of Filatex India Ltd and quashed the order of SEBI.

FY2016 annual report, page 76:

Subsequent to the auditors’ qualification relating to treatment of foreign exchange difference during FY 2012-13 onwards, SEBI/QARC vide its letter dated November 05, 2015 advised the company to give effect to Auditors’ said Qualification for the Financial Years beginning from FY 2012-13. The company filed an appeal before the Securities Appellate Tribunal (SAT) at Mumbai, which vide its order dated 29th March, 2016 has quashed the orders of SEBI and hence the company is no more required to take any action on the said qualification.

Therefore, an investor may note that the company may not have violated any law by using its accounting assumptions. However, an investor may make her own adjustments while doing the financial analysis of the company.

Further advised reading: How Companies Inflate their Profits

5) Hedging of foreign exchange fluctuation rate risk by Filatex India Ltd:

While reading about Filatex India Ltd, an investor notices that at any point in time, the company is exposed to foreign exchange rate fluctuation risk due to the foreign currency loans taken by it on which it needs to pay interest and principal repayments, and due to its export sales for which it needs to collect sales receivables.

The credit rating agency, CARE, highlighted this risk in its report for the company in July 2017, page 1:

The strengths, however, continue to be constrained by exposure to volatility in raw material prices and foreign currency fluctuation risk.

Another credit rating agency, Brickwork, highlighted the foreign exchange fluctuation risk for Filatex India Ltd in its report in March 2020, page 3-4:

FIL is also exposed to foreign exchange fluctuation risk on account of part of its term debt in foreign currency and external commercial borrowings.

Filatex India Ltd has also acknowledged foreign exchange fluctuation risk as a concern in its past annual reports.

FY2012 annual report, page 20:

RISKS AND CONCERNS: The Company perceives the following main business risks:

a) Unfavorable Exchange rate fluctuation

While reading the annual reports of the company, an investor notices that the company has consistently mentioned the use of derivatives/forward contracts as a risk-mitigating (hedging) method to protect it from adverse foreign exchange fluctuations.

FY2012 annual report, page 34:

The Company uses derivative financial instruments including forward exchange contracts to hedge its risk associated with foreign currency fluctuations.

The company has continued with its policy of using derivatives/forward contracts for hedging its foreign currency risk.

FY2019 annual report, page 173:

The Group uses derivative financial instruments, such as forward currency contracts to mitigate its foreign currency risks and interest rate risks.

Therefore, from the above information, an investor believes that Filatex India Ltd recognizes its foreign exchange fluctuation risk and has taken steps to mitigate/hedge it using derivatives/forward contracts.

However, an investor notices that despite the above-mentioned hedging policy, Filatex India Ltd has had significant losses due to foreign exchange fluctuations.

In FY2014, when the company reported a net loss of ₹8 cr, one of the major factors contributing to the poor performance of the company was the loss of ₹16.33 cr due to foreign exchange fluctuations.

Credit rating report by CARE for Filatex India Ltd, July 2017, page 2:

The company was impacted for exchange fluctuation losses of Rs.16.33 crore during FY14 which had impacted its profitability.

In the next year, FY2015, the company reported another loss of ₹4.06 cr due to foreign exchange fluctuations and then again a loss of ₹3.23 cr in FY2016 due to foreign exchange fluctuations.

FY2016 annual report, page 75:

These losses on the foreign exchange movement resulted despite the company paying hefty amounts on the forward contracts. The company paid a premium of ₹12.38 cr in FY2015 and ₹12.8 cr in FY2016.

FY2016 annual report, page 105:

Even in the latest quarterly results (Q3-FY2020), the company intimated in its conference call in February 2020, page 3, that it had a loss of ₹7 cr due to foreign exchange fluctuations.

The other factor lowering the net profitability is adversity of foreign exchange rate which eroded the profitability by around Rs. 7 crores.

Looking at the above information, an investor would appreciate that the hedging policy of Filatex India Ltd to mitigate the foreign exchange rate fluctuations leaves room for improvement.

If the company is able to improve its hedging policy to make it more effective, then it can save its precious capital in an environment where the company had to rely on continuous debt and equity funding to meet its growth requirements.

Further advised reading: Steps to Assess Management Quality before Buying Stocks

6) Did Filatex India Ltd have a restructuring of its debt with IDBI Ltd in FY2008?

While reading the FY2012 annual report, an investor gets to know that Filatex India Ltd had issued 841,397 shares to IDBI Ltd on Sept 18, 2007, as a part of a negotiated settlement.

FY2012 annual report, page 36:

Aggregate number of equity shares issued for consideration other than cash during the period of five years immediately preceding the reporting date:

8,41,397 equity shares of Rs. 10/- each issued to IDBI Limited as per terms of negotiated settlement with them at a premium of Rs. 13.77 per share on 18th September, 2007.

A reading of the FY2010 annual report (page 11), indicates to an investor that in the past IDBI Bank Ltd also had a nominee director, Shri Inderpal S. Kalra on the board of Filatex India Ltd.

The Remuneration Committee constituted earlier needs to be reconstituted in view of the withdrawal of nomination of Shri Inderpal S. Kalra by IDBI Bank Limited.

There are no details available in the publicly available annual reports of Filatex India Ltd from FY2010 to FY2019 about the negotiated settlement between the company and IDBI in FY2008.

However, an investor would appreciate that in most prevalent business parlance, a settlement between a financial institution and a company (a borrower) that leads to the allotment of equity shares for a consideration “other than cash” and the nomination of a director by the financial institution on the board of the borrower company, is a result of the debt-restructuring package.

Therefore, it might be a case of Filatex India Ltd taking a loan from IDBI and then defaulting on it. As a result, IDBI might have restructured the debt of Filatex India Ltd and in turn, it might have accepted 841,397 shares of the company for a consideration “other than cash” and nominated a director on the board of Filatex India Ltd.

An investor may contact the company directly to understand more details about the negotiated settlement between Filatex India Ltd and IDBI.

If this settlement between the company and IDBI turns out to be a debt restructuring, then it should not come as a surprise to the investor.

This is because, from the discussion above in the sections on self-sustainable growth rate (SSGR) and free cash flow (FCF), an investor would appreciate that the business of the company does not generate cash sufficient for the growth aspirations of the promoter family. As a result, the company has to raise funds from debt from lenders, unsecured loans from the promoter’s family, friends, and relatives as well as equity dilution by way of warrants and preferential allotment of equity shares.

An investor would appreciate that if a business keeps on growing at a pace that is not sustainable by its business profits/operating cash flow, then one day, the debt burden is expected to become excessive which might result in the company being unable to repay its debt. Such a situation may lead to the companies defaulting to their lenders resulting in negotiated settlements/debt restructuring.

While reading the past annual reports of Filatex India Ltd, an investor comes across incidences that indicate the probability of liquidity stress faced by the company like using short-term funds for long-term purposes.

In the FY2013 annual report, page 33:

According to the information and explanation given to us and on the basis of overall examination of the Balance Sheet of the company, we report that the funds amounting to Rs.2811.92 lacs raised on short term have been used for long term investment.

An investor would note that on many occasions such usage of short-term funds for long-term investments by companies has led to a liquidity crunch, which in many instances has led to their bankruptcy.

Therefore, going ahead, an investor should keep a close watch on the capital expenditure of Filatex India Ltd along with the sources that the company uses to fund the capital expenditure. If the company relies on additional debt or equity dilution, then an investor may take a decision accordingly.

Further advised reading: Why Management Assessment is the Most Critical Factor in Stock Investing?

7) Project Execution by Filatex India Ltd:

While analysing the past performance of the company, an investor notices that Filatex India Ltd has been able to execute its capacity expansion projects at frequent intervals.

The company had started its production with a single manufacturing facility at Noida for 500 tonnes per annum (TPA). Over the years, the company kept on adding manufacturing capacities at Dadra and Dahej. In recent years, the company has been on an aggressive capacity expansion path.

• FY2018: total manufacturing capacity of 237,000 TPA (FY2018 annual report, page 2).
• FY2019: total manufacturing capacity of 328,300 TPA (FY2019 annual report, page 4).
• FY2020: total manufacturing capacity of 383,000 TPA (Investors’ presentation, February 2020, page 3).

Therefore, an investor would notice that Filatex India Ltd has been able to execute its capacity expansion projects at regular intervals.

As per the credit rating agency, CARE, Filatex India Ltd completed its expansion project for bright polymer in Dahej within the estimated cost and time. July 2018 report, page 2:

The company has successfully completed the bright polymer project in Dahej within the estimated cost and time.

As per the credit rating report by Brickwork for Filatex India Ltd in March 2020, the company completed the expansion of the polymerization capacity at Dahej ahead of schedule in FY2020. (Page 2):

​The expansion scheme to increase its polymerization capacity of 150 MT/day through debottlenecking and adding machines for producing 170 MT/day of POY at Dahej unit has commenced its commercial operations w.e.f. 19.09.2019 as against the COD approved as April 2020.

From the above information, an investor may appreciate that the management of the company is able to efficiently execute the capacity expansion projects.

The Margin of Safety in the market price of Filatex India Ltd:

Currently (May 18, 2020), Filatex India Ltd is available at a price to earnings (PE) ratio of about 4.70 based on the last four quarters’ standalone earnings from Jan 2019 to Dec 2019. The PE ratio of 4.70 provides some margin of safety in the purchase price as described by Benjamin Graham in his book The Intelligent Investor.

However, we recommend that an investor may read the following articles to assess the PE ratio to be paid for any stock, taking into account the strength of the business model of the company as well. The strength in the business model of any company is measured by way of its self-sustainable growth rate and the free cash flow generating the ability of the company.

In the absence of any strength in the business model of the company, even a low PE ratio of the company’s stock may be signs of a value trap where instead of being a bargain; the low valuation of the stock price may represent the poor business dynamics of the company.

• Further advised reading: 3 Principles to Decide the Ideal P/E Ratio of a Stock for Value Investors
• Read: How to Earn High Returns at Low Risk – Invest in Low P/E Stocks
• Further advised reading: Hidden Risk of Investing in High P/E Stocks

Analysis Summary

Overall, Filatex India Ltd seems a company that has been growing its business at a fast pace of 25-30% year on year for the last 10 years (FY2010-2019). However, the business performance of the company over this period has been cyclical. The company’s performance has alternated between good periods and poor performance periods. At times, the company witnessed increasing sales along with improving profit margins. However, at times, like in FY2014, the company reported net losses.

The fluctuating performance of the company is primarily due to the high dependence of the raw material and product prices on crude oil prices, which follows a cyclical pattern as well as due to the intense competition in the industry from domestic manufacturers as well as cheaper imports. The synthetic yarn manufacturers face low negotiating power with both their suppliers as well as with their customers. As a result, such companies are deeply affected by economic cycles. Therefore, they show cyclical behaviour in their sales turnover growth as well as profit margins.

Filatex India Ltd has been growing at a pace, which is much faster than what its inherent business profits can sustain. As a result, the company has to rely on a continuous infusion of additional funds by way of debt from financial institutions, loans from promoters, equity infusion etc. to supplement its cash flow from operations so that it can meet its funds’ requirements for capital expenditure.

The reliance on debt seems to have reached excessive levels in the past when it seems that the company had to enter into a restructuring package with IDBI where it had to issue equity to IDBI as well as it had to accept a nominee director of IDBI on its board.

While analysing the equity infusion in the company, an investor notices that apart from the promoters, two persons sharing the surname of the promoters, Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria have played a significant part by subscribing to the preferential issue of warrants as well as equity shares via the entities controlled by them in the past.

Currently, these companies controlled by Mr. Vimal Kumar Bhageria and Mr. Ankit Bhageria are classified as non-promoter entities. However, an investor may take clarifications from the company whether they are close friends/relatives of the promoter who are not classified as promoters as per the law. If yes, then the investor would appreciate that the promoters control more stake in the company than their disclosed shareholding in various corporate announcements.

While analysing the financials of Filatex India Ltd, an investor gets to know certain instances where the company has followed different accounting assumptions than the commonly found ones for different other companies. The company had classified financing inflow as an inflow under cash flow from operations in FY2012. On other occasions, the company showed a higher profit and a lower loss by following accounting assumptions, which the auditor did not agree to.

The auditor of Filatex India Ltd highlighted these accounting assumptions leading to higher profits in the annual report. As a result, SEBI asked the company to restate its financials. The company got a reprieve from the SAT when it quashed the SEBI order.

The hedging policy of the company to mitigate foreign exchange rate fluctuation risk has scope for improvement. The company had been paying a significant amount as a premium for forward exchange contracts. However, still, the company had faced significant losses because of foreign exchange rate fluctuations.

Going ahead, an investor should keep a close watch on the profitability margins of the company as well as the capital expenditure. The investor should focus on the sources of funds used by the company to meet its capital expenditure. The investor should read the annual report of the company thoroughly to understand if the company has followed the accounting assumptions properly or the auditor has highlighted any accounting practice that might increase profits/cash flow from operations.

Further advised reading: How to Monitor Stocks in your Portfolio

These are our views on Filatex India Ltd. However, investors should do their own analysis before making any investment-related decisions about the company.

You may use the following steps to analyse the company: “Selecting Top Stocks to Buy – A Step by Step Process of Finding Multibagger Stocks”

I hope it helps!

Regards,

Dr Vijay Malik

P.S.

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Disclaimer

Registration status with SEBI:

I am registered with SEBI as a research analyst.

Details of financial interest in the Subject Company:

I do not own stocks of the companies mentioned above in my portfolio at the date of writing this article.