Status of Manpasand,Vakrangee, Atlanta?Spot red flags soon

Share prices of many companies dropped as their auditors resigned suddenly.  ManpasandNSE -6.65 % Beverages a few days before the declaration of annual results as its auditor Deloitte Haskins & Sells India quit. There was a 50 percent drop in stock prices in five sessions after it.  Shares of AtlantaNSE -14.63 % tumbled 20 per cent on Friday after Price Waterhouse chartered accountants(PWCA) resigned as its auditors.  Earlier, VakrangeeNSE -4.96 % witnessed a similar development. 

If auditor resigns suddenly, share holders and lenders get suspicious that there is something wrong, creating drop in its share price. Auditor is considered to be reliable of company’s financial statements. If auditors find something suspicious in the accounts of a company or feels that company officers do not like his/her opinions, he/she quits. 

There were issues earlier with the disciplinary powers of the Institute of Chartered Accountants and they have now been moved to an independent body, which looks at disciplinary cases, hence they fearful now. If something goes wrong in accounts of the company, the regulators (CBI or SFIO or an institute), auditors would be held responsible.

Top Red Flags :: ETMarkets.com and market experts identify early signs that something may be not above board in a company. There are five pointers to check ---  

1. Skewed business performance :: Exhibiting unusual profitability in saturated markets or in comparison to peers can possibly have trouble brewing within or organisations with significant changes in financial ratios in current from previous year.  2. Absence or low implementation of policies or frameworks :: Most organisations with global operations would need to comply with applicable Indian and foreign laws, which would require instituting policies or frameworks around whistle-blowing, code of conduct, code of ethics, anti-bribery or anti-corruption. Absence or low implementation of these policies can be a serious red flag, raising questions around corporate governance and ethical concerns.  3. Unusual related party transactions :: Red flags can also be in the form of unusual related party transactions that would include inadequate disclosure of such transactions, fictitious or circuitous transactions. 

4. Behavioural factors :: Perpetrators of fraud can show certain behavioural signs that may be red flags such as apparent change in lifestyle, financial or legal issues, frequent disagreements with the company (compensation/ job/ rotation) and unusually close association with key vendors or customers. 

5. Frequent fundraising/equity dilution :: Normally, one should avoid Companies which keep on raising funds by diluting equity to be avoided, of course it is not a sure sign. It points that business is not self-sufficient to generate funds for expansion and tells us that promoters themselves don’t value their equity much in the company and a lot of times such promoters have even siphoned out funds from the company. 

Too many acquisitions :: An occasional acquisition of a company and that too of a manageable size (with respect to the acquiring company) is understandable; however frequent acquisitions are most definitely a red flag for us. 

Consistently increasing debt :: Bhushan Steel, Amtek Auto where the companies’ debt on balance sheets increased with every passing year. The common pattern that market experts have found is sales and profits of such companies grow every year just like their debt, but suddenly one year, they report huge losses and become bankrupt. 

One should study it carefully to see if it can sustain that debt in the case of a cyclical downturn (eg Jaiprakash Associates, Bhushan Steel, Reliance Communications). 

If the debt servicing coverage ratio is decreasing every year. It is being calculated by dividing EBIDTA with interest and loan repayment obligation in a year. If this ratio has come down to less than 1, it means that company has difficulties in repaying its debt and interest obligations. The possibility of converting the account into NPA is very high. 

Formation of too many subsidiaries :: A lot of times, subsidiaries are formed for the purpose of siphoning off funds. Basically, the modus operandi is that parent company offers loans to such subsidiaries, which then are unable to perform up to the mark or report losses and finally the loans and advances are written off. While there could be genuine cases as well, but a lot of times promoters take out money through such subsidiaries. 

High receivables :: If you find that the debtors of a company are growing at a rate faster than that of sales then there is a big red flag. This implies one of two things - either the company is trying to increase sales by giving more credit in the market or the company is unable to collect money in a timely manner. This could happen due to lack of negotiating power with customers or they have a hard time to give money, at times reflecting (RicohNSE 0.00 % India). 

No or low tax payment :: Another important issue. Many a time, there are companies reporting good profits but paying no or very low tax. This can happen because of tax exemptions or because the company is operating in a jurisdiction where there is no tax (eg Dubai / Mauritius). While there could be genuine reasons for paying no taxes, sometimes a company may be showing profits because there is no cost for show increased profits. Satyam Computers is a great example, which showed non-existent profits as there was no tax it for IT companies. 

Ref. : https://economictimes.indiatimes.com/markets/stocks/news/whats-cooking-at-manpasand-vakrangee-atlanta-how-to-spot-red-flags-early/articleshow/64410977.cms --- Dated : Jun'01,2018.