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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~90 views
Financial Analysis Series Post 4: Learn how to analyze the effects of change in revenue recognition policy.
Case studies explained: Kaveri seeds (1/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Now, you understand what activities a company usually considers as revenue and where you can find these details. Let's dig a bit deeper into this issue from an analytical mindset. (2/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
We discussed factors one should keep in mind before analyzing Net Operating revenue. We mentioned two reasons among a few others, Revenue Recognition policy changes and Accounting Standard changes. Let’s understand each of these in detail.(3/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Revenue Recognition policy changes case study: Kaveri Seeds

Kaveri Seeds is a Indian Listed Company which is into research, production, processing and marketing of various high quality hybrid seeds. (4/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
If we take a look at last 7 years figures of the company’s reported Operating Revenues, we see a huge drop in turnover for 2016 and 2017, almost 23% and 21% Year on Year respectively (YoY - computed as (current year figure/ previous year figure) -1 ).(5/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
FY16 was a difficult year for Kaveri Seeds owing to poor cotton acreage (cotton farming) owing to really unattractive cotton prices set by Maharashtra Govt and two consecutive years of really bad Drought season. Below is screenshot of the Chairman's message from A.R FY 2016 (6/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
However, things improved slightly in FY17 owing to the good monsoon season & yet Revenue figures seems to have dropped almost by 21%!

To understand why this has happened, Let’s take a look at the Revenue recognition policies of FY16 & FY17. Below are the snapshots. (7/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Yes!, till FY16, Revenue was net of just sales returns and taxes, but FY17 onwards, the company started reporting it net of trade discounts, and sale schemes discounts.(8/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
In Kaveri Seed’s line of business, dealer discounts or scheme discounts are a great way of driving sales by keeping dealers motivated (Almost 10-20%). As a result, sales schemes/ discount numbers are huge! (9/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Hence a corresponding drop in FY17 numbers, as they are reported Net of discounts and FY16 and prior revenue figures were reported Gross (including discount) .

Note “Correlation doesn't imply Causation'' (10/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Just because there has been a huge change in Revenue figures, does not imply there’s always something wrong with/ change in revenue recognition policy or Accounting standards. (11/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
It's just one of the checkpoints which we are trying to cover through this reading which an analyst should definitely look into. We will keep adding more such checkpoints to develop a complete analytical mindset of a true Financial Analyst. Continuing (12/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
If someone were to simply calculate Revenue growth rate of the last 7 yrs, it would be just a CAGR of 3.9%. Would it be right? NO! Since half of the past 7 year figures are Gross Revenue & the remaining half are Net! with the difference being almost over 10% every year! (13/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
So, what should an analyst do in this case? Make them comparable! There are two ways to do this, either make all figures gross or all figures net. Both methods are fine, however, since the numbers going forward will be reported on a Net Basis. (14/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
The only choice we have is to adjust historical gross figures to Net figures! (Since we won't be getting sales schemes discount figures going forward as the number reported would be net of it. One may hope to find them in footnotes, but they aren’t present, we have tried:) (15/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Let’s see how to make all Revenue figures Net of sales scheme discount! Simple, find the sales scheme discount figures in the expenses footnotes and net it out of Gross reported revenues! We have done this analysis for your understanding below: (16/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Note: As one can observe, the Sales Scheme discounts as a % of revenue are calculated as Sales Schemes figure/ Revenue for the yr. This % ranged from 13-20% which happens to be huge. However, this figure won't be available as revenue figures will be reported on a net basis.(17/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Considering its a huge cost to the firm, an analyst should always track such numbers, even if they are not being explicitly disclosed, one can ask for guidance for the same in conference call discussions. (18/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
For the CAGR calculation, we have used the RATE formula in excel, which takes in present value & ending value to compute the growth rate. In above image, we have calculated 7 years CAGR by taking the yr end value of 2013 as the beginning value of 2014.(19/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Also, to confirm if our understanding is correct, FY17 onwards, we wouldn't expect any Sales scheme discount no. under the same expenses footnote where it used to be disclosed earlier, it would be netted out of Revenues. And our understanding is verified by the same! (20/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Moreover, we further verified our understanding from the concall discussion by the management too! (Snapshot attached)
If we take a look at the revenue growth rates, we would see a huge difference in the CAGR! (6.4% Vs 3.9%). (21/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
This is precisely what we were talking about earlier, when we said not to directly take the company reported numbers, but to understand them first before using them at your disposal. (22/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
Unfortunately, the art of data punching is highly underrated and data vendors are overrated in today’s financial world as it saves time, and given the materiality and probability of such error rates are very much minimal, it ends up being the only choice.(23/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views
However, like we mentioned earlier, what we want to deliver through this content is for an analyst to gather ground level understanding of data which happens only when data punching is done manually rather than sourcing figures from secondary sources (24/n)
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Finnacle Shah Classes

@finnacle_shah_classes
4 years ago ~10 views

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