Sharda Cropchem IPO: beset with problems, keep away

With the market hitting new highs, companies are lining up with initial public offerings. Crop protection chemicals marketing company Sharda Cropchem’s promoters and PE investor HEP, Mauritius, will offer about 1.1 crore shares (excluding QIP portion of 1.1 crore shares) to retail investors. The offer is priced between ₹145 and ₹156 apiece, which translates to a premium of 12 and 13 times its 2013-14 earnings.

Though the offer price values Sharda’s stock at about 20 per cent discount to its peers — Excel Crop Care and United Phosphorous (UPL), the discount may be justified for four reasons.

First, the company is into distribution of generic active ingredients and formulations which are off-patent and have no entry barrier. Unlike peers such as UPL, Sharda does not own manufacturing assets and hence dependence on third-party manufacturers may risk the company’s ability to meet supply obligations in time and ensure consistent product quality. Further, Sharda is largely reliant on its distribution partners in key overseas markets — Europe and Latin America as it does not have significant front-end presence in these markets.

Second, the company’s corporate governance practices are a cause of concern. For instance, the company has over 1,040 registrations (permission to market) for agrochemical formulations and 155 active ingredients in overseas markets such as Europe, NAFTA (North American Free Trade Agreement) countries and Latin America. Most of them were held by its promoters-controlled group companies — Euroazijski Pesticidi, Croatia and Sharphil Inc, the Philippines, until recently.

While the registrations owned by the Croatian entity have been transferred to Sharda, promoter-owned Sharphil Inc continues to hold select registrations. Also, promoters holding majority stake in group companies that are in the same line of business, may not be in the best interest of minority shareholders.

Some of the product registrations continue to be held in the company’s erstwhile name Sharda Worldwide Exports Pvt Ltd; the name change is yet to be effected. The company has also issued inter-corporate deposits to its group company Axis Crop Science at lower-than-market rates. There have also been instances of related party transactions not being carried out at arms length prices.

Third, Sharda has not followed prudent accounting practises. For instance, the company spends about $13-15 million (₹78-90 crore) on an average annually towards product registrations. This accounts for over 50 per cent of the company’s operating profit. These charges are capitalised by the company and amortised over a period of years from the date of approval of these registrations. This leads to over-statement of profits in the interim period.

Its statutory and regulatory compliance track record has not been consistent either. The company did not conduct internal audit for four consecutive years until 2012-13. It was only in 2013-14 that the company appointed internal auditors. There have been significant delays in payment of service tax during 2011 and 2012. The company has faltered with regulatory filings, too. For instance, Sharda in the past, has delayed/failed to file documents pertaining to foreign exchange remittances mandated under FEMA to the RBI.

Fourth, the company has not been very efficient with working capital management. Sharda’s receivable days for 2013-14 period was at 187 days; meaning — for a credit sale made today, the company will receive payment only after six months. This is significantly higher than peers such as Excel Crop Care (16 days) and UPL (113 days). On the other hand, Sharda paid its suppliers (creditors) within 96 days on an average, last fiscal. This may not only strain its working capital, but will also expose the company to forex fluctuation risk, given that Sharda derives about 97 per cent of its revenues from overseas markets.

Sharda reported flat operational revenues in 2013-14 at ₹782 crore, with a meagre 5 per cent growth in operating profit. The 27 per cent increase in net profit to ₹107 crore was aided by lower depreciation provision.

The issue opens on Friday and will close on September 9. Given that the concerns outweigh the positives, investors may be better off avoiding the issue.

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