Enthused by a bottomline growth of 27.68 per cent for the third quarter ended September 1999, HLL's stock closed higher on Wednesday at Rs 2,430. Especially, since the net profit of Rs 724.82 crore for the nine month period ended September 1999, signals that the FMCG major is again well on the way to achieving the 25 per cent annual earnings growth it had targeted for itself. Importantly, one has to mention here that last year's bottomline was depressed to the extent of Rs 12.93 crore, which was the net stamp duty payable with respect to the amalgamation of erstwhile Pond's (India). But even without this exceptional item charge, the bottomline growth for the nine month period is a solid 23 per cent.

However, a closer examination of the results reveals that HLL's bottomline again owes a lot to factors other than its operations. What with net profits helped by lower interest rates, higher non-operating income and a lower tax rate. Incidentally, this has been a trait at HLL for sometime now. Take for example the reduced interest burden of the company, which is down 46.55 per cent in the third quarter to a mere Rs 3.56 crore. This is thanks largely to the fact that the majority of HLL's debt is an interest free sales tax loan. Now consider the other income component, which accounts for nearly 20.88 per cent of pre-tax profit in the third quarter. For HLL, this is recurring income, comprising largely of dividend from subsidiaries and dividend income from investments. All of this augurs well for the company.

But this aside, the company's performance on the operational front is pedestrian to say the least going by its high standards. A reflection of which is the mere single digit 6.95 per cent sales growth achieved in the third quarter. This incidentally is even lower than the 7.17 per cent growth clocked by the FMCG major in the first half of the current fiscal. More importantly, the third quarter signals the start of the 1 per cent royalty payout to Unilever. Thus total expenditure for the third quarter inculdes a charge of Rs 4.90 crore for the royalty payment and a Rs 17 crore charge which has been apportioned in the third quarter for business restructuring.

Furthermore, it is the increased cost of raw materials and ad-spend on brand building for new categories of ice cream, culiniary products and personal products, which appear to have created a drain on margins. In fact operating margins even without the royalty charge have slipped in the third quarter albeit marginally from 13.79 per cent to 13.69 per cent. This is in contrast to the buoyant operating margins in the first half.

Given this background and the fact that while volumes in detergents and stronger margins in the personal care range would improve its overall performance, competition and the investments in brand building could put HLL's operating margins under presssure. Additionally, HLL might well have to do much better than the single digit revenue growth, if it wants to offest the drain on earnings from the added royalty burden.

ACC

As was expected, ACC's cement division has posted a loss in the second quarter of 1999-2000. The PBT of Rs 1.89 crore (Rs 14.10 crore) includes profit on sale of investment of Rs 13.61 crore (Rs 8.33 crore). This is as clear a indicator of the poor quality of earnings. The sale of investment has resulted in income from dividend and interest being lower - Rs 2.8 crore (Rs 11.36 crore). The key issue is having sold its captive pwoer plants and investments, ACC is left with little option but to make profit by selling cement and this, as results have proved, is a difficult proposition.

The basic problems with ACC are the variable cost structure and the location of its plants and the first is linked to the second. Take the Wadi I & II units. These sell predominantly - between 85 and 90 per cent - in Maharastra and Karnataka, the regions in which prices are nothing to get excited about. On the other hand, Gagal I & II (based in HP accounting for 20 per cent of the capacity and 24.6 per cent of the dispatches in the second quarter) have dispatches mainly in Punjab, HP and Haryana. Here the prices were better and the units also enjoy freight subsidy like Gujarat Ambuja's unit in the region. These units operated at 92 per cent in the second quarter and must have done well because not only is power cheap but consumption per unit is also lower because of PPC. Madukkarai in TN (7 per cent of the capacity and 9 per cent of the dispatches) operated at above 100 per cent in July and August and at 89 per cent in September. This unit serves TN and Kerala, where realisations were excellent and hence itis bound to have done better than probably any other unit. Together, these units accounted for 34 per cent of the dispatches made in the second quarter. The newest among these units is Gagal II set up in 1994. As far as other units are concerned, prices were a disaster with the exception in AP but the plant operated at less than 70 per cent. As regards direct costs there was hardly any improvement in 1998-99 as compared to 1997-98 and there is no reason to believe that the first half of the current year was any different. One only has to compare the key cost components - power & fuel and raw material cost of the cement majors to realise that with the probable exception of ICL, ACC is the highest cost producer. One of the reasons could be that it sources 85 per cent of its coal requirement through CIL i.e. domestic coal.

By transfering its captive power units at Wadi (income already reflected), Kymore and Jamul (25 MW each thermal power plants), the company expectes to reduce power cost but unless prices improve sharply in regions other than HP and South, the cost reduction will not have a material impact. The low average cost of acquistion (Rs 20 per share) of ICICI and HDFC resulted in ACC staying in the black in the second quarter. In one of the next two quarters it will be profit on transfer of CPPs. Unless ACC cuts costs the Ambuja way, nothing except prices determined in the south-like cartel manner will help the company and even then margins will not be impressive.

With contributions from Percy Dubash & Urmik Chhaya