Analysis of Financial Reports of Hindalco Industries Inc

The production of aluminium started in India in 1938 when the Aluminum Corporation of India's plant was commissioned. The plant which was set up with a financial and technical collaboration with Alcan, Canada had a capacity of producing 2,500 ton per annum. Hindustan Aluminum Corporation (Hindalco) was set up in UP in the year 1959; it had a capacity of producing 20,000 ton per annum. In 1965, a public sector enterprise Malco which had a capacity of 10,000 ton per annum was commissioned; by 1987, National Aluminium Company (NALCO) was commissioned to produce aluminium. It had a capacity of producing 0.218 million ton In present scenario, aluminium Industry in India is a highly concentrated industry with the top 5 companies constituting the majority of the country's production. With the growing demand of aluminium in India, the Indian aluminium industry is also growing at an enviable pace. In fact, the production of aluminium in India is currently outpacing the demand. India is world's fifth largest aluminium producer with an aluminium production competence of around 2.7 million tonnes, accounting almost 5% of the total aluminium production in the world. India is also a huge reservoir of Bauxite with a Bauxite reserve of 3 billion tones. Though India's per capita consumption of aluminium stands too low (under 1 kg) comparing to the per capita consumptions of other countries like US & Europe (range from 25 to 30 kgs), Japan (15 kgs), Taiwan (10 kgs) and China (3 kgs), the demand is growing gradually. In India, the industries that require aluminium most include power (44%), consumer durables, transportation (10-12%), construction (17%) and packaging etc.

The Major Players

The Indian aluminium industry is dominated by four or five companies that constitute the majority of India's aluminium production. Following are the major players in the Indian aluminium industry: Hindustan Aluminium Company (HINDALCO) National Aluminium Company (NALCO) Bharat Aluminium Company (BALCO) MALCO INDAL

Indian Copper industry background and overview

The Indian copper industry was opened for private sector investment in 1992. Prior to 1992, industry was dominated by HCL, a public sector undertaking (PSU). The copper industry is highly dependent on the performance of and demand for products like power and telecom cables, transformers, generators and other ancillary components. Its growth is closely linked with country's economic growth. The Indian industry can be classified into two broad categories-manufacturers of refined copper (copper cathodes) and manufacturers of copper products. Of the three manufacturers of refined copper, HCL is the only primary producer, which mines and refines copper; Hindalco and SIL process primarily imported copper concentrate to produce end products like copper bars, rods and wires. The per capita consumption of copper in India is currently at 0.4 kg per annum, which compares poorly with China's per capita consumption of 3 kg per annum. However, India's per capita consumption is unlikely to increase at the same rate as China. China's per capita consumption at a given income level is higher than in the other emerging markets, mainly because it has a higher share of industry in gdp. So Indian copper industry may not show the same growth rate as china. Coppers future trend will be decided by upcoming demand from housing and electrical sectors that are expected to see a boom in future.

Hindalco background

Established in 1958, Hindalco commissioned their aluminium facility at Renukoot in eastern Uttar Pradesh, India in 1962. Later acquisitions and mergers, with Indal, Birla Copper and the Nifty and Mt. Gordon copper mines in Australia, strengthened their position in value-added alumina, aluminium and copper products. Hindalco Industries Limited is the metals flagship company of the Aditya Birla Group and world's largest aluminium rolling company and one of the biggest producers of primary aluminium in Asia. Its copper smelter is the world's largest custom smelter at a single location. The acquisition of Novelis Inc. in 2007 positioned Hindalco among the top five aluminium majors worldwide and the largest vertically integrated aluminium company in India. Today they are a metals powerhouse with high-end rolling capabilities and a global footprint in 12 countries.

Their consolidated turnover of USD 13 billion (60,000 crore) places them in the Fortune 500 league. Hindalco's major products include standard and speciality grade aluminas and hydrates, aluminium ingots, billets, wire rods, flat rolled products, extrusions and foil. A strong presence across the value chain and synergies between operations has given them a dominant share in the value-added products market. Hindalco acquired two Australian copper mines, Nifty and Mt. Gordon, in 2003. During FY2009, Mt. Gordon produced 17,815 tonnes of copper in concentrate. Hindalco's journey has been challenging at times, but truly exhilarating. The fact file of the company in two areas covers, World's largest aluminium rolling company, one of the biggest producers of primary aluminium in Asia, ISO 9001:2000 and 14001 certified, One of the lowest-cost producers of aluminium in the world and India's leading copper producer, India's largest copper smelting and refining plant at Dahej, Gujarat, with two copper mines in Australia, ISO 9001,14001 and OSHAS 18001 certified, Smelting and refining capacity 500,000 tpa, the largest single location smelter in the world. Domestic consumption growth for both aluminium and copper augurs well for Hindalco, which has embarked on the growth plan through low cost Greenfield projects of the company.

Auditor's Report

SINGHI & CO is the auditor for the firm. The auditor is of the opinion that the company's accounts have been properly kept by the company in accordance with the law and the Indian GAAP. The auditor also states that the final accounts prepared comply with the accounting standards Auditor agrees that The Balance Sheet, Profit & Loss Account and Cash Flow Statement dealt with by the annual report are in agreement with the books of account. Auditor agrees that the Company has maintained proper records showing full particulars including quantitative details and situation of Fixed Assets. No material discrepancies between book record and physical inventory have been noticed. No substantial part of fixed assets has been disposed of during the year, which has bearing on the going concern assumption. The auditor has also clarified that non-monetary effects on assets or liabilities such as offering guarantees for loans, using long-term loans for short-term purposes, etc. have not occurred during the period. The auditor has given a clean or unqualified opinion for the company. The auditors have also mentioned the dues in respect of taxes, duties and cess that have not been deposited on account of disputes with the respective authorities. Disputes pending as on 31st March 2010 amounts to 288.1 crore which is 15% of the net profit reported an almost 11% of the current assets. This might look a bit significant but in our opinion this is not a major issue.

This is assuming the mentioned amount is for the worst case scenario, as is generally the case. Moreover, similar pending payments arising out of disputes exist in almost all companies in india specially in metal sector (e.g for Nalco it is 23% of current assets). Auditor states again that The Company does not have any accumulated losses and has not incurred cash losses in the current financial year and in the immediately preceding financial year. The Company has not defaulted in repayment of dues to Financial Institutions or Banks or Debenture holders. The auditor is of the opinion that the said consolidated financial statements (with subsidiaries), read together with significant accounting policies, give a true and fair view in conformity with the accounting principles generally accepted in India The auditor's unqualified opinion, therefore, increases our confidence on the financial statements published by Cipla. No adjustments need to be made to the financial statements on the basis of the auditors report and our analysis of the financial statements reported, we believe, would provide us with meaningful information of the financial health of the company.

Director's Report

The Director's Report begins by outlining a financial summary of the company's performance in the previous financial year, and claims that downturn witnessed in the previous year was arrested and confirmed several measures taken by the Company started yielding results. Directors recommended a dividend of Rs.1.35 per share i.e. @135% per equity amounting to Rs.258.32 crore. This instils confidence in share holders and potential investors. It is also stated that the Company has decided for early adoption of Accounting Standard (AS) 30 on financial Instruments: Recognition and Measurement, in so far as it relates to derivative accounting, from 1st April, 2009. Accordingly, net loss arising on fair valuation of outstanding derivatives as on 01st April, 2009 amounting to Rs. 230.58 crore (net of deferred tax of Rs. 118.73 crore) has been adjusted against General Reserves following transitional provisions. Accounting for all derivatives from 1st April, 2009 have been done as prescribed under the AS 30. As a result, net loss of Rs. (236.12) crore and gain of Rs. 167.75 crore & Rs. 246.09 crore for the year ended 31st March, 2010 have been included under Sales and Raw Materials Consumed & Other Expenses (in Manufacturing and Other Expenses), respectively.

The report also conveys that the shareholders of the Company has approved an Employee Stock Option Scheme ("ESOS 2006"), formulated by the Company, under which the Company may issue 3,475,000 options to its permanent employees in the management cadre. The directors raised concern over profit erosion by lowering of Rupee around Rs.750 crore. Additionally, Rs.100 crore was lost on account of the higher coal cost at Renusagar Power. Against this backdrop, the performance of both the Businesses was satisfactory. Other income at Rs.260 crore was lower by Rs.377 crore, on account of low treasury corpus, post repayment of bridge loan in November 2008, which was taken for Novelis acquisition and for higher project spending. Abundant liquidity kept short-term rates low. This also affected yields on the company's investments which are mostly in liquid plans. It also reduced the cost of working capital borrowing. As a result, the interest and financing charges also reduced from Rs.337crore in FY09 to Rs.278 crore in FY10. The report also states that the company is aggressively pursuing various brownfield and greenfield growth opportunities in Aluminium. The report frankly assesses the current industry problems and prospects. The future growth will partially depend on demand in post recession European market and price competition with china and other Asian countries.

Swot Analysis

Strengths

Large upstream and midstream producer with robust project pipeline. Expansion in strategic locations such as Jharkhand and Madhya Pradesh. This facilitates Access to high quality raw material reserves. Access to relatively cheap labour. Proximity to fast growing Asian markets. Power plants located at pit head. Aggressive and innovative approaches for low cost brownfield expansions, sweating of existing assets, continuous cost reduction and optimising working capital continue to yield results despite inflationary conditions.

Opportunities

Acquisition of Novelis Gives access to the world market. Acquisition of Novelis provides substantive proprietary technology led operations, which is unique in Indian context. Hindalco's Greenfield plants expected to be in global best quartile for manufacturing costs. Hedging strategy should Allow Hindalco to tap into internal resources for downstream operations when market conditions are unfavourable.

Weaknesses

Technology is not upgraded compared to global giants in Aluminium industry. Complexity of operation.

Threats

The impact of foreign currency fluctuation and interest rates. Loss of sales to substitutes. Hirakud outage: Operations of the aluminium smelter at Hirakud have been affected in 2010 continuously due to bad weather with heavy rains and lightning.

Revenue Recognition Policy

Revenue recognition policy at Hindalco is as follows - "Sales revenue is recognized on transfer of significant risk and rewards of the ownership of the goods to the buyer and stated at net of trade discount and rebates. Dividend income on investments is accounted for when the right to receive the payment is established. Export incentive, certain insurance, railway and other claims where quantum of accruals cannot be ascertained with reasonable certainty, are accounted on acceptance basis." Hindalco does not recognize or disclose Contingent Assets.

Changes over time

Hindalco is following same Revenue recognition policy since 2000.

Consistency

As per Accounting Standard 9 (AS9) of Indian GAAP, "Revenue can be recognized when it is certain that economic benefits will inflow, the amount of revenue can be measured reliably, goods have been transferred to the buyer with significant risks and rewards of ownership, and control over goods have been transferred to the buyer". Hindalco recognizes revenue only when goods have been transferred to the buyer with significant risk and rewards of ownership. Trade discounts and rebates are not taken into consideration. Uncertain incomes like Export incentive, certain insurance, railway and other claims are recognized only when the amount is received. Dividend income, which is to be received from investments, is recognized when company is eligible for the same. Considering the way Hindalco carries out its business, it is consistent on revenue recognition principles with AS9 of Indian GAAP.

Conservatism

As Hindalco is a product based company, sales revenue comes from sales of products. If accrual basis accounting is followed, then revenue should be recognized only when it is certain and ownership of goods is transferred with significant risks and rewards. As Hindalco is following similar principle, we can comment that it is only following industry rules and neither less nor more conservative.

Market Comparison

We have compared Hindalco's Revenue recognition principles with two other companies from metal sector, National Aluminium Co. and Hindusthan Zinc. Revenue recognition on domestic sales are similar for all the three firm. But for foreign sales, Hindalco recognizes revenue only when amount is received citing reasons for uncertainty, where as other two companies recognizes revenue on issue of bill of lading.

Fixed Assets Valuation Policy

Valuation policy for fixed assets at Hindalco is as follows - (a) Tangible Assets are stated at cost less accumulated depreciation and impairment loss, if any. Cost comprises of purchase price and any directly attributable cost of bringing the assets to its working condition for its intended use. (b) Intangible Assets are stated at cost less accumulated amortization. Cost includes any directly attributable expenditure on making the asset ready for its intended use. (c) Machinery spares which can be used only in connection with an item of Fixed Asset and whose use is not of regular nature are written off over the estimated useful life of the relevant asset. As stated above, Hindalco records intangible assets at cost less accumulated amortization except goodwill. Goodwill is recorded at cost less impairment loss. For tangible assets, cost less accumulated depreciation and impairment loss is taken as book value. Impairment loss on fixed assets is calculated based on below principle - "An asset is treated as impaired when the carrying cost of assets exceeds its recoverable value (being higher of value-in-use and net selling price). Value-in-use is computed at net present value of cash flow expected over the balance useful life of the assets. An impairment loss is recognized as an expense in the Profit and Loss Account in the year in which an asset is identified as impaired. The impairment loss recognized in prior accounting period is reversed if there has been an improvement in recoverable amount except in the case of goodwill for which specific external event of an exceptional nature that caused impairment loss has actually reversed the effect of that event."

Change over time

There was a change in valuation policy for fixed assets at Hindalco in year 2008. In that year a below clause for machinery spares valuation has been amended - Machinery spares which can be used only in connection with an item of Fixed Asset and whose use is not of regular nature are written off over the estimated useful life of the relevant asset. This change would not affect the financial statements significantly. Probably it was done to make the valuation oriented to primary assets which contribute to the business majorly. Also revaluation of fixed assets has been done in year 2007. Fixed Assets of Aluminum Business had been reinstated at its original cost in 2002-03.

Consistency

As per Indian GAAP, historical cost convention should be followed for valuation of tangible assets, where as for intangible assets it should be checked whether the asset will attribute to any future economic profit and whether the value of intangible asset can be measured reliably. Hindalco follows cost method for measuring fair value for both tangible and intangible assets which is consistent with Indian GAAP.

Market Comparison

When we compare Hindalco's valuation policy of fixed assets to that of National Aluminium Co. and Hindusthan Zinc we observed no significant difference. All of them use cost method for assessing the value and record the asset value as cost less depreciation (amortization for intangible assets) and impairment loss.

Depreciation and Amortization Policy

Depreciation and Amortization policy at Hindalco is as follows - (a) Depreciation on Fixed Assets are provided using straight line method based on estimated useful life or on the basis of depreciation rates prescribed under respective local laws. (b) Leasehold lands (including mining rights) are amortized over the period of lease on straight line basis. (c) Intangible assets, other than Goodwill, are amortized over their estimated useful lives on straight line basis. (d) Depreciation on assets acquired under finance lease is spread over the lease term. Depreciation policy has almost remained consistent since 2000 for Hindalco. Only change has come in the year 2008 when one clause was added for goodwill. Till 2007, company did not have any intangible asset in form of goodwill. Though all other intangible assets are amortized over estimated useful lives, goodwill is estimated each year and if there is any reduction, the amount is written off in form of impairment.

Consistency

As per AS6 of Indian GAAP, "Depreciation of fixed assets is carried out using the straight-line method at rates prescribed under Schedule XIV of the Companies Act, 1956". By looking at Hindalco's depreciation policies we can infer that it is consistent with AS6 of Indian GAAP and the way it carries out its business.

Conservatism

Since year 2000, Hindalco has followed straight line method of depreciation for fixed assets and depreciation rates has been estimated on basis on depreciation rates prescribed under respective local laws. So, it can be inferred that depreciation policies of Hindalco are reasonable and they are neither less nor more conservative.

Market Comparison

Since year 2000, Hindalco has used straight line method of depreciation for tangible assets. For intangible assets except goodwill, amortization has been done based using straight line method. When we compared depreciation policy of Hindalco to that of two other companies namely National Aluminium Co. and Hindusthan Zinc we observed the below findings. Hindusthan Zinc follows depreciation policies as per AS6 of Indian GAAP with below exceptions: Additions and disposals are reckoned on the first day and the last day of the month respectively. Individual items of plant and machinery and vehicles costing upto Rs 25,000/- are wholly depreciated. in respect of additions arising on account of Insurance spares, on additions/extentions forming an integral part of existing plants and on the revised carrying amount of the assets identified as impaired on which depreciation has been provided over residual life of the respective fixed assets. National Aluminum Co. follows below depreciation policies - Depreciation on fixed assets is provided on straight-line method at the rates and manner prescribed under Schedule XIV of the Companies Act, 1956 except in case of certain assets where depreciation at higher rates is provided based on their estimated remaining useful life, evaluated on the basis of technical estimate made periodically:- Earth work portion of: a) Red mud pond at Alumina Refinery b) Ash pond at Alumina Refinery c) Ash ponds at Captive Power Plant Certain assets at Port Facilities are depreciated at rates calculated on the basis of balance lease period of land belonging to the Port Authority on which these assets are installed. Assets costing Rs.5, 000/- or less individually are depreciated fully in the year in which they are put to use. Assets on land not owned by the Company are depreciated over a period of five years. Cost of leasehold land including development expenses thereon is amortized over the period of lease. However, where lease agreement is yet to be signed, such expenses are amortized over a period of 20 years commencing from the year of commercial operation. Classification of plant and machinery into continuous and non-continuous is made on the basis of technical opinion and depreciation provided accordingly. From the above depreciation policies of the three companies, it is apparent that though on larger scale all of them have adopted similar policies, still there are company specific differences which are very specific to the operations of that company.

Inventory Valuation Policy

(a) Inventories of stores and spare parts are valued at or below cost after providing for cost of obsolescence and other anticipated losses, wherever considered necessary. (b) Inventories of items other than those stated above are valued 'At cost or Net Realizable Value, whichever is lower'. Cost is generally determined on weighted average cost basis and wherever required, appropriate overheads are taken into account. Net Realizable Value is the estimated selling price in the ordinary course of business less the estimated cost of completion and the estimated costs necessary to make the sale. (c) Materials and other supplies held for use in the production of inventories are not written down below cost if the finished products in which they will be incorporated are expected to be sold at or above cost

Conservatism

Hindalco follows the weighted-average cost method and, hence, is more balanced in environments of increasing or decreasing prices as compared to the FIFO and LIFO methods. It also takes the lesser value of the cost and net realizable value. Therefore, Hindalco is conservative in its approach. As mentioned earlier, part changes in methods for a particular year to FIFO for some of the goods should be avoided to ensure conservatism. This could have been used to overstate the profits and inventory for the point of view of certain stakeholders like directors of the company whose bonuses might be based on the profits. Clear description for the change in approach should be mentioned, otherwise.

Impact of Clause 49

The broad requirements or issues of clause 49 in the Listing Agreement are as follows: Definition of independent director Definition of independent director - "Institutional directors" Remuneration paid to non-executive directors Requirements related to audit committees Meeting of Audit Committee Role of the audit committee The impact of the all the issues mentioned above have been incorporated by Hindalco in its annual report. The details of which are as follows:

GOVERNANCE PHILOSOPHY

The Company is committed to the adoption of best governance practices and its adherence in the true spirit, at all times. At a macro level, the governance philosophy rests on five basic tenets viz., Board accountability to the Company and shareholders, strategic guidance and effective monitoring by the Board, protection of minority interests and rights, equitable treatment of all shareholders as well as superior transparency and timely disclosure.

Report on Corporate Governance

Guidelines

The Company is fully compliant with the requirements of the prevailing and applicable Corporate Governance Code.

Board of Directors

Your Company's Board comprises of 9 Nonexecutive Directors with considerable experience in their respective fields. Of these, 6 Directors are independent Directors. Clause 49 of the Listing Agreement as amended in April 2008 requires that if the Non-executive Chairman of the Company is the promoter then at least half of the Board of Directors of such Company should consist of independent Directors and the company is in compliance with the above requirement of Clause 49 of the Listing Agreement. The composition of the board is disclosed as on 29th May, 2009. Number of meetings held and their dates are disclosed.

Audit Committee

Date of constitution and the details of chairperson and members of the committee are disclosed. The number of meetings of the committee and their dates are also published.

Shareholders Grievances Committee

The Company has a Shareholders Grievances Committee, which is headed by an independent Non-Executive Director. The details of the meetings held are disclosed

Remuneration to Directors

The details of the remuneration paid to the Director during the year FY 2009-10 are disclosed. Along with this the payments to the Non-Executive Directors is also disclosed.

Other Disclosures

Code of Conduct including Prevention of Insider Trading, CEO/CFO Certification, Report of Corporate Governance, General Body Meetings, Means of Communication and General Shareholder Information details are also provided according to the Clause 49 of the listing agreement. Thus we can see that the Company makes significant disclosures in order to be in compliance with Clause 49 of the Listing Agreement. It provides a great platform for the company to showcase its high corporate governance initiatives before its shareholders. It certainly enhances the image of the company in the eyes of the public and especially potential shareholders.

 

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