In keeping with its restructuring plan, SRF has finally decided to exit from Sriram Bearings. At the same time, it has decided to pick EI DuPont India's 98 per cent stake and Mitsui's 2 per cent stake in DuPont Fibres. In return for its 98 per cent stake, DuPont will be awarded a stake of around 4 per cent in SRF. Once the deal is through, news reports indicate, DuPont Fibres' assets will be transferred to SRF. However, SRF's major benefit will be that it will not be required to take the liabilities of the loss-making DuPont Fibres to its books.

SRF started its restructuring exercise when it divested its stake in SRF Nippondenso. In 1996, it sold its stake in SRF Finance and utilised the money to buy out Ceat's nylon tyre cord unit. In 1998, the company separated itself from the Vision care division and its trading arm SRF International. However, these steps have not really been of any great help to the company's shareholders. A look at the company's latest balance sheet shows that thecompany has a ROCE of only 10.63 per cent. The company has made substantial investments by way of equity and interest free loans. Total investments is to the tune of Rs 108.3 crore, out of which Rs 94.51 crore is in unquoted subsidiaries, all of which are loss making. The company has invested Rs 9.56 crore as long term investment, including Rs 0.90 crore as 61 per cent of its equity in Shriram Bearings. Though the scrip is trading around Rs 46, SRF is unlikely to benefit as the shares are pledged with financial institutions.

Around 15 per cent of the company's Rs 744.3 crore balance sheet (excluding revaluation reserve) is blocked in investments which are not yielding any returns. Apart from its equity holding in Shriram Bearings, SRF has also invested Rs 4.75 crore as preference shares and Rs 2.04 crore as interest free loans. Though SRF has technically exited from Shriram Bearings, it will be pumping in Rs 17.5 crore as preference capital and is also arranging financial restructuring by way of financialinstitutions' investment in the company. Out of the Rs 163.08 crore as loans and advances around Rs 47 crore are interest free loans, which includes a Rs 1.17 crore interest-free housing loan to a managing director.

While the company has been generously lending funds, around 67 per cent of its operating profit was eaten away by interest cost in 1999. The company has taken steps to cut down its interest cost through financial restructuring comprising loan term refixation, replacement of short-term high-cost debts with long-term low cost ones, a foreign currency loan of Rs 108 crore and equity rights issue. These steps succeeded in bringing down the interest burden from Rs 134 crore in 1998 to Rs 106 crore in 1999. Debt stood at Rs 464.36 crore as on March 31, 1999 as compared to Rs 549.72 crore in 1998. However, still more needs to be done.

The current takeover of DuPont Fibres will enable SRF to consolidate its position in the nylon market. SRF will get a 6,500 tpa capacity (which can be doubled) of nylon6,6, a product that was not manufactured by it. With this, the company will be able to meet the needs of the radial tyre industry, which prefers nylon 6,6 over nylon 6. The acquisition will also allow SRF to utilise DuPont Fibre's available capacity for nylon 6 and polyester industrial yarn/fabrics. SRF will become the seventh largest producer of nylon in the world, with its market share in the domestic market increasing to over 50 per cent.

With the automobile industry on a recovery path, SRF is likely to benefit a lot from the acquisition, as tyre industry consume 98 per cent of the 36,000 tonnes of nylon tyre cord fabric produced in the country. Though the cost of the acquisition is not known, it is bound to have an impact on SRF's balance sheet. Unless SRF cleans up its financials there is little hope for its shareholders.

Hughes Software Systems

The phenomenal response to Hughes Software's offer for sale clearly shows that investors find the company to be undervalued at Rs 630 per share. Itis true that the company bears a higher business risk than most other Indian software firms as it has restricted its operations to communications software and services. Also it is largely dependent upon a handful of clients for its revenues. Thus, the loss of even one client could have a severe impact on its earnings. However, as its principal clients are also its shareholders, it is unlikely that the company will lose these clients to other competitors. Though inadequate diversification as far as its client portfolio is concerned, is still a matter for concern, it needs to be recognised that the company was established with the idea of developing solutions solely for its principal shareholder's projects. Since its inception in 1991, the company has expanded its client portfolio to include several others.

What goes strongly in favour of the company is its high EPS growth rates. In fact, the pattern of EPS growth is very similar to that of Satyam Computers during the last four years. For the year ended March1996, Satyam Computers had an EPS of Rs 6.10, which grew to Rs 8.00, Rs 15 and Rs 28 in the following years. Hughes Software's EPS for the year ending December 1995 was Rs 8.63 which grew to Rs 10.27 and Rs 15.25 in the next two years. The annualised EPS for the 15 months ended March 1999 was Rs 28.02. Thus, for Hughes Software, EPS grew at a CAGR of 48 per cent while for Satyam Computers the growth was higher at 66 per cent. Satyam Computers enjoys a discounting of over 75 on the bourses. It is logical to believe that Hughes Software should enjoy a lower discounting than 75. At the same time, considering Sonata Software's discounting of over 60, one could expect Hughes Software to enjoy a P/E of over 50. For the year ended March 1999, Sonata Software recorded an EPS of Rs 9.90 and a negative EPS growth rate. At a price of Rs 630, Hughes Software gets a discounting of just about 22, which is the industry average. Since its performance during the last 5 years has been far better than the industry average, onecould expect the scrip to list at a significant premium to the offer price.

Emcee (with contributions from Shishir Asthana & Sarad Saraf)