Snapshot on Indian Logistics Industry

Indian Logistics Industry

ü  Globally, the logistics industry is valued at US$ 3.5 trillion. (Source: CII)

ü  The U.S., which contributes to over 25% of the global industry value, spends close to 9% of its GDP on logistic services.

ü  The Indian Logistics Industry is presently estimated at US$ 90 billion, which is expected grow at around 10-12 % each year. (Source: CII) 

ü  The industry has generated employment for 45 million people in the country  in comparison with the IT and ITeS sector which employs approximately 4.3 million people.

ü  It is  forecast to grow at a  Compound Annual Growth Rate (CAGR) of  approximately 8% over the next three to five years.  (Source: CII) 

Strengths

ü  India’s logistics story is indeed an attractive one, fuelled by factors like a rapidly growing economy, the increase in outsourcing of logistics and a significant government thrust on investment in infrastructure.

ü  Additionally, changes in tax and regulatory policies like the plan to introduce a uniform Goods and Service Tax (‘GST’) to obviate the need for multiple warehousing will lead to a consolidation of the industry.

Weakness

ü  Less economy of scale due to high fragmentation within Industry.

ü  Lack of skilled and knowledgeable manpower

ü  Growth in infrastructure is not sufficient enough to support growth in sector.

Opportunities

ü  Boom in average income of average Indian. 128 million households are expected to have annual income between 2-10 lakh by 2025 as compared to 13 million in 2006.

ü  10% annual growth in Manufacturing Sector

ü  Indian logistics market is likely to cross the $ 200 billion figure by 2020, fueled by the consistent growth of the economy and key industries such as automotive, engineering, pharmaceuticals, and food processing. (Source: 'Yearly Sectoral Analysis: Indian Transportation Logistics')

ü  Emergence of India as IT Super power which will enable logistics companies an IT support of International level.

ü  Presently, Indian logistics industry is highly fragmented and is still evolving, with the top 100 listed players only having a miniscule 2 per cent market share.

ü  Globalization of manufacturing systems  coupled with advancements in technology is compelling companies across verticals to concentrate on their core competencies and avail the cost saving potential of outsourcing.

ü  This is expected to contribute to an increase in the need for integrated logistics solutions, which is the niche, every Third Party Logistics Service (‘3PL Services’) provider is aiming to exploit.

Threats

ü  Supply Chain delays drive up the logistics costs

ü  Fierce competition from not only the established players but majorly from unorganized ones.

Industry Statistics

ü  The Indian logistics market recorded revenues of about $ 82.10 billion in 2010, witnessing a growth of about 9.2 percent over the previous year. (Source: 'Yearly Sectoral Analysis: Indian Transportation Logistics').

ü  Annual logistics cost- 13% of the GDP out of which 4.3% is wasted due to various inefficiencies. (Current GDP=1.38 trillion USD)

ü  Highly Unorganized with organized sector responsible only for 6% of the logistics activity although it is increasing with a rate of 20%.

ü  Share of 3rd Party Logistics only 10%

ü  The total logistics spend (total logistics market size) in India represents around 6.2 percent of the country’s total GDP. However, it represents about 11.6 percent of Services GDP (contribution of the services sector in the total GDP). (Source: The Automotive Horizon)

Political

ü  Over all government spend has increased from USD 10 billion to 30 billion and is expected to rise in near future.

ü  Special economic zones for development of Logistics parks. (Mumbai, Kolkata, Chennai and Hyderabad etc.)

ü  National Highway Development Project

ü  End of indirect tax regime after implementation of GST. Other tax reforms like VAT

ü  The much-awaited implementation of the nationwide uniform Goods and Services Tax (GST) regime, which was scheduled to become effective from April 1, 2010 has been delayed by a year by the Union Government due to non-agreement of several State Governments on the proposed tax revenue sharing model between the Centre and the States. However, since there has been no notable consensus on the issue between the Central and the opposing State Governments, the implementation of GST could be delayed further. On the other hand, market participants related to various industries have been hoping for a faster implementation of the new tax regime, because it is expected to bring in major transparency in tax policies, collections and also significantly reduce the tax burden for companies. Implementation of GST is also expected to revamp the supply chain process and logistics infrastructure for majority companies in each industry.

Key Factors affecting the Indian Logistics Industry

ü  Growth in GDP and trade are the core drivers

ü  Supportive regulatory changes are catalyzing growth by removing inefficiencies

ü  Ongoing infrastructure buildup improves long-term prospects

ü  Containerization gains momentum; specific segments will benefit more

Technological

ü  As of 2010, only about two-thirds of the end users reported to using some form of technology solution to support their logistics functions. These solutions included basic inventory management packages and barcode systems. However, usage of exclusive logistics technologies such as warehouse management systems, transportation management systems and radio frequency identification is significantly low across industries. (Source: CEO, Frost & Sullivan)

ü  India’s logistics technology market is set to grow at 19.8 percent between 2010 and 2015, to cross $ 600 million by 2015. This growth is driven by demand from the thriving logistics, retail and manufacturing sectors, as well as government promotion. However, these technologies are highly expensive, making them unaffordable for majority of logistics service providers and end users, thus limiting the full potential growth of the Indian logistics technology market.  (Source: CEO, Frost & Sullivan)

Recent M&A and Equity Funding transactions in the Industry

ü  The Indian logistics sector is expected to witness a consolidation wave, considering the reviving fortunes of the sector with booming end-user industries. Industry experts report that even private equity and venture capital firms are eyeing a slice of the logistics sector, which saw testing times for the last 12-16 months.

ü  FedEx’s acquisition of AFL Logistics and Transport Corporation of India’s (TCI) 51 percent equity stake acquisition in Infinite Logistics Solutions Pvt Ltd. In 2010 (Source: The Automotive Horizon)

ü  Apart from these, companies such as Toll Global Logistics, Allcargo Global Logistics, and FH Bertling Ltd have been actively seeking to expand their size in India through the inorganic growth mode.

ü   In addition, private equity firms and leading finance organisations have been actively investing in Indian logistics companies. International Finance Corporation (IFC) invested $ 5 million in Snowman Frozen Foods Ltd, a Bangalore-based company that transports, stores, and distributes frozen and chilled foods.

ü  Eredene Capital, a UK-based fund house that invests in logistics projects in India, took 90 percent stake in MJ Logistics, a 3PL cold storage service provider for processed food and retail industries. (Source: The Automotive Horizon)

ü  Recent 5 M&A (Source: Deal Curry, VC Circle)

o   NYK Line acquires stake Tata Martrade International Logistics in 2010 (Port Services)

o   Hitachi Transport Systems acquires stake in Flyjac in 2010 (Transportation)

o   PSA International acquires stake in Chennai Container Terminal in 2010 (Ports)

o   Toll Group acquires stake in BIC Logistics in 2009 (Transportation)

o   Louis Dreyfus Armateurs acquires stake  in ABG LDA Bulk Handing in 2009 (Bulk Cargo Handling)

New Entrants in the Industry

ü  Entry of 3rd party logistics providers

ü  Series of mergers and acquisitions leading to consolidation of industry (DHL acquired Blue Dart, TNT acquired Speedage Express Cargo Service and Fedex bought over Pafex. )

ü  Entry of global giants like Gazeley Broekmen (Wal-Mart's logistics partner), CH Robinson and Kerry logistics.

ü  Entry of large Indian corporate houses like Tata, Reliance and Bharti group.

ü  Expansion through franchisee

Competitive Analysis

ü  The logistics market in India is highly fragmented with several thousands of unorganised participants holding the dominant share of the market. These include unregistered transporters, storage providers and freight-forwarding agents. The leading 3PL service providers in India continue to be those with a strong nationwide

ü  surface transportation services such as TCI, Om Logistics and GATI. Leading international logistics players such as DHL, FedEx and TNT have a strong brand presence in the country, but their market presence is high only in the Express Logistics Services segment. Government-owned units dominate the market in their respective segments - such as Indian Railways and Container Corporation of India (CONCOR) in rail transport; Shipping Corporation of India (SCI) in ocean cargo, Central Warehousing Corporation (CWC) in warehousing.

Factors affecting Business Valuation (Part 2)

Let us continue with our previous month’s discussion on the factors affecting business valuation.

Reliance / non-reliance on founder

The background, capacity and profile of the founder(s) of the organization speak a lot about a Company. The weight given to the profile or background of the promoter increases if the Company is either directly run by the promoter(s) themselves or management team of the Company is dependent on the directions of the promoter(s) for its functioning. But, if the Company is more in the hands of a team of professionals, then, that weight placed on the reliance on founder automatically comes down. The reliance factor of the promoter plays an important role as the guiding principles and the method of operation of the Company is designed by them.

The Financial Aspect

The value of assets and liabilities and the financial condition of the business is one of the obvious measures of valuing a Company. The values of the assets and liabilities can be based on the book value or the market value. One should attach a valuation based on what you know rather than an assumption. Though, assumption plays a key role in the process of valuation, what is primary is to consider what is available as a fact or certified fact. Audited Financial statements provide a true and fair view of the overall financial status of the Company. However, optimistic a future projection of the Company is, what is underlying is their past history. Due weight must be given to the past trend of the financial condition of the Company.

The earning capacity

The primary driver for any Company is its earning, so naturally, earning capacity of a company is the primary driver of its value too. The preferred measure of earning capacity for the purpose of valuation is Cash Flow as it represents a purer form of earnings.  Adjusting the net income or loss of a company for the items like depreciation & amortization, non-recurring items, transactions with your own self, discretionary expenses, interest expenses, common errors and the like produces a cash flow figure that represents a much more accurate picture of the earning capacity of a company.

Dividend paying capacity

While valuing a business, better consideration is given to the dividend-paying capacity of the company rather than to dividends actually paid in the past. Retention of a rational portion of profits in a company to meet competition must gain more recognition. For example, dividends paid out in a closely held Company is generally dependent on the needs of the shareholders or by their methods of tax planning, instead of by the ability of the company to pay dividends. The controlling team can choose salaries and bonuses as alternates for dividends, thus reducing net income and understating the dividend-paying capacity of the company. Since, the declaration of dividends is discretionary with the controlling shareholders, dividend payments are considered less reliable criteria of fair market value than the capacity to pay.

Intangible assets and goodwill

Valuation of intangible assets and goodwill are made based on certain generally accepted principles of calculation. Many times, intangible assets and goodwill calculation is given less importance due to the complexity of their calculation. But, when valued and considered, the intangibles become a major consideration in the process of valuation. Valuation of the business considers the high value of the business intangibles and their impact on the future success of the business. The intangibles many times are specifically noted as the major source of company growth and success after the business purchase.

The size of the block to be valued

The effect of fund size has an on the valuation of the business. There exists a convex relationship between fund size and the valuations. The valuation is positively correlated to measures of limited attention such as fund size per shareholder and excess fund size per shareholder.

The marketability of shares

Lack of Marketability of the shares is one of the most common discounts considered in business valuation.  It directly has a monetary impact on the determination of the final value. This is because marketability is directly related to the ability to convert an investment into cash quickly at a known price and with minimal transaction costs. Similarly, a higher capability to market the shares results in improvement of the business value. A valuation professional cannot directly apply the discounts based on average method based on industry, a thorough analysis of the characteristics of the business and a rational must support the discount on account of marketability factor.

Rights attached to shares

Controlling interest level is the value that an investor would be willing to pay to acquire more than 50% of a company’s stock, thereby gaining the attendant prerogatives of control. Some of the prerogatives of control include electing directors, hiring and firing the company’s management and

determining their compensation;  declaring dividends and distributions, determining the company’s

strategy and line of business, and acquiring, selling or liquidating the business. This level of value generally contains a control premium over the intermediate level of value, which typically ranges from 25% to 50%. An additional premium may be paid by strategic investors who are motivated by synergistic motives.

The first discount that must be considered is the discount for lack of control, which in this instance is

also a minority interest discount. Minority interest discounts are the inverse of control premiums, to which the following mathematical relationship exists: MID = 1 – [1 / (1 + CP)]. Mergerstat defines the “control premium” as the percentage difference between the acquisition price and the share price of the freely-traded public shares five days prior to the announcement of the M&A transaction.

Rights attached to minority interests

The intermediate level, marketable minority interest, is lesser than the controlling interest level and higher than the non-marketable minority interest level. The marketable minority interest level represents the perceived value of equity interests that are freely traded without any restrictions.  These interests are generally traded on the stock exchanges where there is a ready market for equity securities. These values represent a minority interest in the subject companies which are small blocks of stock that represent less than 50% of the company’s equity. 

Non-marketable, minority level is the lowest level on the chart, representing the level at which non-controlling equity interests in private companies are generally valued or traded. This level of value is discounted because no ready market exists in which to purchase or sell interests. Private companies are less “liquid” than publicly-traded companies, and transactions in private companies take longer and are more uncertain. Between the intermediate and lowest levels of the chart, there are restricted shares of publicly-traded companies.

Valuation discounts are actually increasing as the differences between public and private companies is widening . Publicly-traded stocks have grown more liquid in the past decade due to rapid electronic trading, reduced commissions, and governmental deregulation.  These developments have not improved the liquidity of interests in private companies, however. Valuation discounts are multiplicative, so they must be considered in order. Control premiums and their inverse, minority interest discounts, are considered before marketability discounts are applied.

Written by: CA. Aparna RamMohan

Source: Published in the Feb 2011 issue of the News Bulletin of KSCAA (same author)

Factors affecting Business Valuation

Last month, we got introduced to the world of valuation. Our discussion on what is valuation, characteristics of a good business valuation model and a brief on the approaches of valuation got us started. Let us move on to the next phase of discussion, which is on the factors affecting a business value.

In an environment as dynamic as prevalent in a business world, definitely, there are more than one factor which determines the growth, sustainability and value of a business. The factors affecting the value obviously differ with industry, scale, location, market so on and so forth. If we start listing down all of them to analyse its affect on value then valuation will become a never ending too complicated a process. Hence, one of the generally accepted rules is to consider the “relevant” valuation factors affecting the performance of the business.

Each case needs a careful consideration of the factors affecting the business in a significant manner. To list down a few of the commonly considered factors while valuing a business are:

·         The nature of the business and its history,

·         Business Growth

·         Customer Base

·         Audited Financial Statements

·         Litigation and Disputes

·         Minimize Discretionary Spending

·         Deal Structure

·         Role of management, vision, and strategy,

• Staff competency
• Reliance / non-reliance on founder

·         The book values of assets and liabilities, and the financial condition of the business,

·         The earning capacity,

·         Dividend paying capacity,

·         Intangible assets and goodwill,

·         The size of the block to be valued,

·         The marketability of shares,

·         Rights attaching to shares, minority interests,

·         Market share, and strategic positioning,

·         Risk/reward aspects,

·         Level of gearing, and

·         Accounting adjustments.

• Business reputation
• Potential for growth
• Industry conditions
• Superiority
• Vulnerability
• Political and economic outlook
• Cash flow
• Production capacity
• Ability to increase revenues
• Cost competitiveness
• Business’s use of technology
• Ability to reduce costs
• Comparable businesses and industries

·         Prevailing legal issues

• Potential to improve customer relationships
• Ability to borrow against business or assets
• Performance results and ratios
• Location
• Presentation of premises
• Existing relationships with suppliers and customers
• Intellectual property
• Goodwill  and other intangibles
• Condition of books and records
• Computerisation
• Tax implications
• Alternative opportunities
• Affordability
• Working conditions
• Property lease conditions

·         Rate of growth in the economy,

·         The amount of inflation,

·         Interest rates as well as the value of other stocks and bonds

·         Scale of operation

·         Barriers to entry

·         Whether the business has any monopolistic powers in buying or selling goods and services, or in intellectual property such as registered trade-marks and patents

Having listed such a long list of factors that can affect business valuation, let us move on to understand each one of them in depth:

Nature and history of the business

The first impression about a business is totally dependent on its history and the nature of business it is into. A business with strong background and a success story behind its growth earns more attention and value. The decision of considering a business for purchase or investment is based on its prior years’ growth pattern and its future projection of further growth. Another related factor is the nature of business, whether the current market conditions are favourable to its sustainability and growth or not.

Business Growth

What is that buyers look for? Growth!!! If a business can display methodical quality revenue and earnings growth, then the business valuation will be favourable. It helps to improve the value if future growth prospects can be substantiated and clearly articulated to the buyer.

Customer Base

The growth of a business is directly proportional to the growth of revenue which again depends on the growth in customer base. If a business has a diverse customer base, then its value will be higher than the businesses dependent on a few key customers only. If the top ten customers constitute more than 50% of the revenue for the year, then, this factor will have a negative impact on valuation.

Audited Financial Statements

An audited financial statement improves the certainty and accuracy of the numbers presented by the business, as it represents a third party confirmation by an independent qualified professional. The audited financial statement by a reputed auditor adds value. An unaudited financial statement leads to uncertainty prompting the buyer to increase their risk premium thereby reducing the valuation of the venture.

Management Team

Management team plays a key role in determination of the value of the business. The quality of the management teams is one of the most important requirements for silent buyers like a private equity or a venture capitalist firm. Whenever the silent buyers’ role is only to invest in the Company and not to manage it, the investments are based on various projections and future potential of the Company. In such cases, the investor places more reliance on those businesses, wherein, the management capacity and capability to run the show is better. A professional and experienced management team can add value.

Competency of the Staff

The value of the Company is not only affected by the management team but also by the key employees of the organization. The employees who fit into the definition of key employees are those who manage the important functions of the organization, eg: operation head, plant in charge, warehouse in charge, finance head, HR head etc. Having too many employees does not help as it shows a lower per employee efficiency, similarly, an understaffed business also looses value as the organization becomes dependent on the available employees and the loss of those employees could be detrimental to the business.

Litigation and Disputes

Exhibition of any kind of legal and / or customer dispute to the buyer or investor will only lead to reducing the value of the business. It does not mean that a business with disputes cannot be sold at all. The seller has to ensure that all the legal and / or customer disputes pertaining to the business is solved and closed before the organization is marketed for sale. The mistake of slaying a litigation or dispute will not help, as if it gets detected in the due diligence, then, this could be a major deal breaker. In addition to the buyer walking out of the deal, the price of your business to others in the market will also be significantly reduced.

Minimize Discretionary Spending

Strictly keep the personal expenses away from the Company’s books. Personal expenses how much ever supported by documents are “personal”. If detected by the due diligence team or the buyer, the personal expenses will be reduced from the total expenses shown in your books for the purpose of valuation. Further, buyers or investors will become sceptical of substantial discretionary add-backs and will price the business accordingly.

Deal Structure

Tax implications of a deal structure needs to be clearly understood. It is not only what the seller gets from the sale of the organization that matters, what matters is ultimately what you keep. The deal structure has to be beneficial to the seller not only with respect to the sale proceeds but with respect to the net sale proceeds. It is important to consider the tax liabilities and other liabilities arising from the business incorporation status and hold back provisions. What the seller finally retains is the sale proceeds after discounting such liabilities. It is advisable to analyse asset vs. equity sales, earn-outs, sinking fund provisions, capital etc before the decision for sale is taken.

Written by: CA. Aparna RamMohan

Source: Published in the Jan 2011 issue of the News Bulletin of KSCAA (same author)