Started as an EOU (Export Oriented Unit) in association with TIDCO (Tamil Nadu Industrial Development Corporation), which currently has a 7.6% stake in the company, SKM Egg Products, based out of Erode, is India`s largest producer of egg powder. The egg powder is exported to Europe and Japan and is used by large scale bakeries and companies involved in the food industry (Kraft and Hindustan Unilever have been the company`s end users at some points in time)
COMPANY VISIT
(felt like National Geographic`s FOOD FACTORY show)
I was given permission to visit the company`s headquarters in Erode. The egg powder unit, which has an installed capacity of 6200 MT, is located 26 km from Erode. Spread on 35 acres of land, the factory is a state of the art, high tech, automated, climate controlled unit. The company had imported its equipment from BELOVO, Belgium, back in 1995 and continues to use the same. A store room adjoining the climate controlled facility houses 4 mi eggs which are fed onto a conveyor belt. The conveyor belt takes the eggs to a suction controlled robotic egg tray which picks up multiple eggs and lays them onto another conveyor which arranges the eggs in the right order. Now the eggs are taken to the breaking machine which, as the name suggests, breaks them and separates the shell from the egg liquid. While the shells are sent out and subsequently sold to a related party, SKM Animal Feeds and Foods, the liquid gets separated into the albumin (white) and yolk (yellow). A heat exchanger is then used to bring the liquids to the required temperatures. The liquid is further sent to a stirring tank where it is stabilized, is subsequently pasteurized and a final spray drying procedure converts the misty egg liquid into powder.
All in all, SKM`s plant at Chennimalai, Erode feels a bit like the National Geographic show FOOD FACTORY. The plant is highly automated with the personnel wearing gloves, head gear etc.
COMPANY MANAGEMENT
This is the first time I am visiting a company`s office for the purpose of equity research. While the promoter was unavailable, I met 3 senior level executives in the Finance, Accounts and Engineering/Production departments. I was expecting hesitant and guarded responses, but this was not to be. The management were open, friendly and very co-operative.
DOMESTIC EGG POWDER SECTOR
Since the company has EOU status, it incurs additional duties and taxes when it tries selling its products in the domestic market. Hence the domestic market contributes to less than 10% of the company`s revenues.
CAPACITY UTILIZATION
Year 2012-13 has seen a major turnaround in the company`s fortunes. While the previous years saw the the company`s utilization hovering around 65-70%, 2012-13 and 2013-14 have seen near 100% capacity utilization rates. The plant is currently running 24 hours a day.
CAPTIVE POULTRY FARM
Some distance away from the egg powder plant is the company`s poultry farm which houses nearly 0.6 mi chickens. 25% of the company`s egg requirement is taken care of by the farm while the remaining are procured from egg producers in the adjacent areas.
THE CHICKEN AND EGG METHOD OF DEPRECIATION
To value live birds, SKM uses a method of depreciation in which all the expenses relating to a live bird that is still unable to lay eggs are capitalized as a fixed asset. Once the bird is productive and is able to lay eggs, it becomes a current asset and is depreciated based on the units of production method. For 2011-12, the amortized value of birds was at Rs 1.8 Crs and for 2012-13, the same was Rs 11.5 Crs. The big jump in this number is due to a change in accounting methodology. The company has confirmed that this unusually high number holds good only for 2012-13 (due to this new methodology) and the same will start decreasing from 2013-14.
The company can probably do a better job of disclosing such significant accounting changes more prominently in its annual report.
FEED MILL LIQUIDATION
The company, for the sake of total vertical integration, had setup a 200 MT feed mill at Karur. The feed mill would produce the required chicken feed and provide the same to the poultry farm. Since feed cost contribute to 70% of egg production cost, the company had thought of bringing this in-house.
Due to large fluctuations in feed raw material price (maize, soya and corn), the company was unable to run the operation efficiently. The company has sold off the feed mill to Hatsun Agro for a sum of Rs 8 Crs in June 2013
(AR 2012-13 has wrongly mentioned that the company has sold off both the feed mill and poultry farm for Rs 8 Crs to Hatsun)
DEBT REDUCTION
The company has confirmed that term loans, which amounted to more than Rs 60 Crs 2 years back, will be cut down to just Rs 30 Crs within the next month or two. 50% of the Rs 30 Crs is owed to the CEO.
TURNAROUND
Years 2010 to 2013, in line with the global economic slowdown, were disastrous for SKM Egg Products. The company had to take on more debt, saw a drop in net worth and had incurred combined losses to the tune of more than Rs 21 Crs (if the effect of deferred tax benefits are removed then this number would have gone up even more). The company`s revenues until then was hovering around Rs 130 Crs.
2012-13 saw a revival in the company`s fortunes with a near 100% capacity utilization, meager profits and a jump in revenues to Rs 200 Crs. 2013-14 (as per moneycontrol) has been a bumper year of sorts with revenues consolidating at Rs 235 Crs and PAT at Rs 6.7 Crs.
The biggest reason for this improvement has been the improvement in the global economy, as is evident from this quarter`s US job growth numbers
EGG WHITE IN HOT DEMAND
Egg white (albumin) is seeing record prices since 1979, thanks to fast food chains offering health conscious consumers egg white dishes.
http://www.ft.com/intl/cms/s/0/86c7f974-de43-11e3-ba13-00144feabdc0.html
http://www.grubstreet.com/2014/05/egg-white-shortage.html
MISSION 2017
For 2014-15, the company expects to touch Rs 270 Crs of revenues with a 5% PAT margin. For 2017, the company has set an ambitious goal of Rs 500 Crs revenue and zero debt status by March 2016 (term loans and not working capital).
Discussions with the company indicate that up to Rs 325-350 Crs revenue can be achieved with the current level of installed production capacity. The company will most likely have to add capex to reach the Rs 500 Crs target.
PROMOTER SHAREHOLDING
As of Annual Report 2011-12, the promoter had cut their stake in the company from 62% to 53%. Currently, they hold 53% (TIDCO`s 7.6% + SKM family`s 45.4%)
For Quarter ending March 2014 (as per moneycontrol), 0.34 Cr shares have been pledged by the promoters, constituting to 13% of total equity share capital under pledged category. AR 2013-13 shows that Mr Shivkumar, company`s CEO, has pledged shares to obtain working capital loan from SBI.
FOREX HEDGING
Forex risk is one of the biggest threats faced by the company. The company has confirmed that dollar and euro hedging for the next 1 year have been done.
VALUATION
With 2.63 Cr shares and a current market price of Rs 12/share, the company`s market capitalization stands at Rs 31 Crs. For 2012-13, the company had a working capital of Rs 30 Crs (current liabilities do not include short term borrowings). From 2012-13 to 2013-14, revenues have seen a 55% jump, hence working capital will be higher than the previous year`s Rs 31 Crs.
This makes SKM Egg Products a net-net.
As per the below link, the project cost of the egg powder plant during its inception stood at Rs 42 Crs.
http://tidco.tn.gov.in/skm.html
With a face value of Rs 10, SKM currently trades for a meager premium of Rs 2.
With term loan debt of Rs 30 Crs and market cap of Rs 30 Crs, SKM has an enterprise value of Rs 60 Crs.
With 2013-14 PAT at Rs 6.7 Crs, the company trades at a trailing P/E of 4.5x.
BUY RECOMMENDATION RATIONALE
At current valuation, SKM Egg Products is a screaming, raging BUY. With global growth picking up, such an attractive valuation is hard to imagine, few months down the line.
The story of the SKM family deserves a very special mention. Mr SKM Mailanandhan, the 70 year old patriarch of the SKM family and a Padma Shri awardee, has built the SKM group from scratch.
Starting as a small time merchant, Mr SKM Mailanandhan, has built a Rs 1200 Crs empire that includes SKM Animal Feeds and Foods, SKM Egg Products and SKM Siddha and Ayurveda.
http://www.skmfeeds.com/about.html#profile
His two sons, Mr Shivkumar and Dr Chandrasekhar are running SKM Egg Products and SKM Animal Feeds and Foods respectively.
Mr SKM Mailanandhan`s success is not a one off case and is a testament of Kongu Entrepreneurship and Kongu Capitalism
(Kongu Nadu refers to the area surrounding Coimbatore)
The company and its promoters have seen the worst of times in the past few years and have been able to tide over the crisis. The company is coming back to shape and is going to see better times ahead.
Mr Shivkumar has been giving the company unsecured loans (anywhere Rs 5- Rs 10 Crs per year) every year and has held the fort in these turbulent times.
SKM Egg Products is my first stock recommendation in which I have taken the initiative to travel to the company`s premises. SKM, being a tiny cap, with little publicly available information forced me to travel to Erode and meet with the company. The company`s commitment and openness was more than enough to convince me that SKM Egg Products is a stock worth holding for a long period to come.
DISCLOSURE: I hold shares at Rs 12/share
thepokaranmoneymanager 