Avoid companies that 'buy profits'

For years, I followed a simple theory of appraising companies by the quantum of profits generated. I am beginning to revise my appraisal. I am beginning to believe the market rewards companies that report an increase in bottom line, while reducing their interest outflow and largely ignoring companies that disproportionately increase their interest outflow and bottom lines (buying profits). In a high-cost economy, a company making more money through stronger terms of trade will immediately pare debt and strengthen gearing. This makes interest movements interesting (pun!), telling us where the company might be headed.

These are some of my findings from the corporate results of 2014-15.

Sintex Industries: Long out of favour due to a stretched balance sheet and infrastructure gambles that did not quite take off when intended. There was a profit (consolidated) surge since - from Rs 363 crore in 2013-14 to Rs 526 crore in 2014-15. What interests me is despite an increase in top line by 20 per cent, interest cost moderated by Rs 6 crore to Rs 283 crore. Could this be the start of Sintex's next big innings?

TVS Srichakra: When a company strengthens its total income from Rs 1,924 crore to Rs 2,176 crore, it does not quite catch the eye but when the same company slashes finance costs from Rs 49 crore to Rs 31 crore (2014-15), then you begin to wonder. Profit after tax increased from Rs 56 crore to Rs 99 crore in 2014-15. Who is the CFO?

Kewal Kiran Clothing: The company increased revenues from Rs 366 crore to Rs 408 crore in 2014-15; interest outflow declined from Rs 2.95 crore to Rs 2.66 crore. That means: it generates more than a crore in daily revenues and its interest outflow is less than two days of sale. Profit after tax was marginally lower than in the previous year and, yet interest outflow was down. Obviously the company runs a near-negative working capital operation, rare in conventional business.

Ashok Leyland: The kind of performance that would make anyone believe the country's gross domestic product was firing in double-digits. Total income increased Rs 3,853 crore; profit swing-back (before exceptional items and tax) was Rs 1,075 crore. Interest increase was a mere Rs 65 crore over the previous year. Worth watching this company quarter-on-quarter in 2014-15.

APL Apollo Tubes: Total income increased from Rs 2,496 crore to Rs 3,013 crore. Pre-tax profit increased from Rs 59 crore to Rs 64 crore (after a write-off of around Rs 65 crore for inventory and forex losses). Interest cost increased Rs 5 crore. As the Indian economy revs, this company could outperform.

Srikalahasthi Pipes: This manufacturer of ductile iron pipes reported its lowest interest outflow in the last quarter of 2014-15. It reported four successive quarters of profit growth in 2014-15, starting with Rs 12.84 crore in the first quarter and ending with Rs 30 crore PAT in the last quarter. Wonder what would happen to valuations if the company became debt-free during the course of this year, order book-richness sustained and there was no interest to pay anyone?

The author is a stock market writer, tracking corporate earnings and investor psychology to gauge where markets are not headed