Business Page – June 13, 2004

Business Page

On the line: Sterling Products Limited

Christopher Ram

Introduction

The directors of Sterling Products Ltd, a subsidiary of Secure International Finance Company Inc, part of the Beharry Group of companies, will present their Annual Report for the year 2003 at the company's 49th Annual General Meeting (AGM) on June 29, 2004, one day before the statutory deadline. This, however, is an improvement on last year when the AGM was not held until July 26, a concern of this column with several companies over the years. While shareholders have a right to expect prompt reporting by public companies, this column commends the improvement by close to one month.

There is now a reduced board which after the resignation of the former Chairman, Mr John Carpenter, and Messrs Clarence Hughes, P E Fredericks and Charles Quintin as Directors, is made up of two members of the Beharry family, an employee of that group and Dr Leslie Chin as non-executive Chairman. No doubt the group hopes that Dr Chin's experience at GPC and Neocol would contribute to the revival of the fortunes of the company which has seen its profits decline by 38% since 2000.

Dr Chin's Chairman's report starts with the euphemistic "challenging" year which usually sets the stage for the announcement of bad news. In fact, it was certainly not as bad as 2002 when profits before tax plunged from $186M to $109M, a decline of 42 per cent. While turnover in 2002 was flat compared with the preceding year, turnover in 2003 increased significantly over the preceding year although this did not translate into improvement in the bottom line. Unfortunately the Chairman does not offer shareholders in his rather brief report, any indication of the prospects for the company in the near or medium term.

There was no share activity by those shareholders with a substantial interest in the company as a result of which the Beharry Group retains 58.1% and Demerara Mutual Life owns 8.3 per cent. According to the Stock Exchange Market Journal there has only been one trade since the commencement of the exchange, suggesting a lack of interest in the company by the investing public. The company lost another two managers in 2003 following the loss of four senior managers, including the Chief Executive Officer, in 2002.

As this column said last year, the brain drain is having a debilitating effect on the country and the loss of managerial and entrepreneurial talent is impeding growth in the private sector, which obviously affects the rest of the economy and more importantly the people. This must now be the leading challenge facing the private sector since the education and training system cannot replace the losses from migration.

The results

We now turn to the financial results reported by the company and reported on by Deloitte & Touche as conforming to the Companies Act, 1991 and International Financial Reporting Standards, even though there is no compliance with IAS 19 dealing with Pension Scheme accounting and disclosure (including assumptions and details of the pension assets and liabilities) and certain common non-compliance issues with the Companies Act 1991 as the current DDL case shows.

Profit and loss account

While net sales have increased by 17 per cent, the gross profit percentage continues to decline and dropped from 33.2% in 2001, 29.1% in 2002 and 25.3% in 2003. This suggests either that manufacturing cost is increasing - which is unexpected if not unlikely given the substantial capital expenditure in plant upgrade or that the company is reducing price to retain market share. We noted last year that capital expenditure in plant and equipment ought to lead to greater efficiencies and profitability and the occurrence of just the opposite taking place must reinforce the concern of shareholders about the long-term implications for the company.

The fall in Other Income was the result of reduced interest income while other expenses also fell by $6M or less than 2% over the previous year. Interestingly, while there has been a significant increase in the number of employees from 147 to 169, employment cost fell with the result that the average cost per employee has fallen by 16% to $629,000 per annum per employee. Profit before tax (PBT) remained flat at $109M or 8.55% of sales, down from 9.96% in 2002 and 17.2% in 2001. Gross profit margins and net profit margins fell, as did return on equity and operating return on assets, while earnings per share increased from $3.21 to $3.94.

Last year, the company reported that it was "working assiduously" to increase regional sales, and they now report some success as exports' sales moved from $3M to $22M, or approximately US$110,000, - a measure of the challenge facing the company.

The tax charge of $50M, represents 45% of net profit (compared with 55% in the previous year) and leaves $60M available for distribution. Of this the directors are recommending the payment of a final dividend of $3.00 per share utilising $45M or 76.2% of after-tax profits for the year, a ratio that is very good by Guyana standards and that should pose no difficulties to the company's cash flows as it has over $300M in cash resources. Readers will recall from the 2002 review in this column our comment about the absence of any publicly pronounced dividend policy which is certainly useful information for current and potential investors.

Balance sheet

The balance sheet remains as sound as it was last year, even though cash balances declined by about $70M and working capital by $33M, both of which are insignificant in terms of the overall financial condition of the company. Inventory has increased by some $50M, and therefore represents several months of sales. Despite the 5% reduction in working capital, the company's total current liabilities are covered 3.4 times by its cash resources, while it is in the enviable position that it has no non-current liabilities such as loans.

The company has invested a further $147M in fixed assets mainly the ice cream plant which is due for commissioning in this quarter. In the 2002 review we itemized the several major capital projects undertaken by the company since 2001, financed by a rights issue and noted that the returns from these investments should be reflected by year 2003 to justify their significant cost to the company. This has so far not happened.

Improving the financial statements

Last year we commented on the reporting by the company on its various business segments and note that the 2000 financial statements disclosed four segments while in this year only two are disclosed. Even though the rules of accounting may justify the fewer segments, shareholders and indeed managers might find it useful if the disclosure was more extensive, since the risks and rates of return on the various key product lines.

The last actuarial valuation of the pension scheme was done in 1997 and shareholders were told in the 2000 Annual Report that the "next actuarial valuation scheduled to be carried out as at 31 December, 2000 is in progress." Each year the same thing is being said except that the scheduled date is being shifted! Both the directors and the auditors should have realized by now that something is wrong with this note and that a key human resource and accounting matter - a pension scheme actuarial valuation - is not being treated as seriously as it should.

As they did last year, the financial statements disclose purchases from Beharry Automotive Limited and Edward B. Beharry Confectionery, IT Service and Security Service which are listed as related companies without any indication as to the nature of the relationship. Why the company would list Beharry Automotive Limited as a related party but not GBTI or NAFICO is not clear.

Disappointingly, several of the accounting issues questioned last year recur, including disclosure of the date the financial statements were authorised and by whom (IAS 10), accounting for dividends and provisions for stock obsolescence could certainly have been better, particularly in light of the several months of inventory on hand. The company accounted for proposed dividends as a liability in contravention of IAS 10 which requires the disclosure by way of a note to the financial statements or on the face of the balance sheet as a separate component of equity.

Conclusion

The Chairman notes that the entire board is non-executive, but not that only one member is independent. As stated above, there has been practically no trading in the company's shares on the Stock Exchange and it is therefore difficult to assess how the market perceives it. Substantial restructuring at the level of the board may be partly counterbalanced by loss of key management staff and the slow pace of export business. Even to the controlling group which receives more than just dividends from the company, a return of $3.00 per share on an investment of between $75-$100 per share is less than desirable. It is hoped the company will have real grounds for celebration in its golden anniversary year.

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