Monday, December 27, 2010

K Sera Sera - Invest Now or Wait?

K Sera Sera Productions (BSE: 532081, NSE: KSERAPRO) which traded in the year-to-date between Rs. 10 and Rs. 20, recently held high promise by soaring rapidly and attempting to break out of this band by touching a 52-Week High of Rs. 19.95. But instead, it fell off as from a cliff, and is now trading near Rs. 13, which is closer to its 52-Week Low of Rs. 10.03.

This has created an interesting situation of whether there is an attractive investing or trading opportunity here, or whether the outlook for K Sera Sera has turned negative.

This high-profile film maker / distributor, known for such Bollywood hits like Sarkar (2005), Golmaal (2006), Partner (2007), and many more, has been going through a leaner patch in its original business lines for the last couple of years. 

The first thing to highlight when analyzing a share like K Sera Sera Productions is that currently there are no promoters in this company. Unfortunately, most retail investors either miss out on this cardinal point, or fail to understand the implications - negative and positive - of having no promoter group.

Low or near-zero promoter holding is taken as a heavy negative as per conventional investment wisdom, as there is no powerful group in such companies trying to grow the earnings, net worth, and thus indirectly the share price. And it is no mere coincidence that most so-called penny stocks, trading below the Rs. 20 or Rs. 10 mark have very low promoter holdings.

Though for argument's sake it can be said that many listed private sector banks also don't have a promoter group currently, they have two differences with a company like K Sera Sera. Firstly, in the case of banks, promoter groups are not there mainly due to RBI regulation, whereas in K Sera Sera, promoters are not there anymore, simply out of their choice.

Secondly, even though these banks don't have promoter groups, the rigid regulatory framework within which they are required to operate - in itself - brings reasonable discipline into their management. Investors can't expect that kind of a discipline in an almost unregulated sector, like K Sera Sera's movie, theater, or portal businesses.

For example, a few years back, K Sera Sera's movie production / distribution business was booming with many box-office hits, but the same momentum is not seen now. And in the web portals business, it can face stiff competition from both diversified players as well as niche but deeply entrenched players.The erratic nature is also evident from the operating profit margins of the standalone K Sera Sera that fluctuated between 15-38% (as in FY'10 and Q1 FY'11) or fall deep into the red to even -3000% levels (as in Q2 FY'11).

Now, another question is, what was the choice the promoters exercised to disappear. The mechanism was, of course, successive and massive equity dilution. From a modest Rs. 23 crore as total share capital in their IPO year of 2006, K Sera Sera's March 2010 share capital stands at a whopping Rs. 205 crore - almost 10 times equity dilution within less than 5 years. Needless to say, this is enough to dissolve any kind of original promoter share, especially if they didn't participate in raising fresh capital.

Also, needless to say, the share value of K Sera Sera's IPO subscribers also got diluted to almost nothing of the original. Forget IPO subscribers, the share value of all kind of investors who got in later, also got diluted substantially, as the raising of fresh money continued on a yearly basis.Today, the company's equity is reportedly shared between more than 65,000 shareholders.

The interesting thing is that this dilution culture is still continuing at K Sera Sera. Between March 2010 and September 2010 - that is within just two quarters, the equity base has increased by almost 20 lakh shares or around Rs. 2 crore in additional capital.

Many retail investors are oblivious to the impact of this scale of continuing of dilution. Instead, they find some kind of comfort in the fact that the face-value of the K Sera Sera scrip is still Rs. 10. Of course, the scrip hasn't undergone a split in its history, and what you bought two years back, last year, or this year still carries the Rs. 10 face value. But soon after you buy comes another round of dilution. While this doesn't affect the book-value-per-share much, since the net worth also increases with each equity expansion, it has affected the earnings per share (EPS) over the years.

One look at the balance sheet and P/L account provides enough evidence for this. Between 2006 and 2010, the book value has drifted from Rs. 26 to Rs. 23 (by 2009), but the standalone EPS for an almost similar kind of net profits has nosedived from Rs. 4 levels in 2006 to just 50 paise levels in 2010.

It was not only retail investors who seems to have been ignorant about the effects of this continuous dilution at K Sera Sera. Stock Exchange filings updated on September 30th shows that sizeable investors include Yes Bank with a 2.20% stake, three Shriram companies with a total 5.76% stake, India Focus Cardinal Fund with 4.67%, Oudh Finance with 1.56%, and a few more institutions holding K Sera Sera chunks of 1-5%.

Though it is not clear whether these are pure investments, chances are that some of them - especially with the financial institutions - are the result of share pledging by promoter groups, or debt getting converted into equity.

Anyway, the relevant question is, was the ever continuing dilution also a kind of cashing out by the promoters? Prudent is to think that it was indeed a kind of sell-off. Even if the fresh money raised - almost on a yearly or quarterly basis -was put to effective use, the promoters obviously didn't think that it was useful enough to maintain even a tiny promoter stake. Or, of course, they were unable to bring in matching funds themselves.

Whatever it was, from an investor perspective, this raises many uncomfortable questions about the future of K Sera Sera's scrip, if not the company itself.

However, the company's current leadership prides itself on the aspect of zero promoter holding, arguing that it enables fully professional management. Though this can be true in an ideal sense, especially in some top-performing companies in developed countries, more often than not, just the reverse is seen in action. One reason might be that without no promoter holding, and frequently changing executive management, there is no real vision or at least continuity in whatever vision is being followed.

A case in point is K Sera Sera's recent acquisition of 5% stake in Citi Gold, a leading Australian gold miner, for $6 million or nearly Rs. 27 crore. Until now, a pure entertainment company, K Sera Sera's move is very peculiar, to put it mildly, as this pilot investment is not something of a portfolio investment, but something into which the company plans to possibly add more later.

Further, the management has hinted at entering the oil & natural gas sector of India, and the coal sector in Indonesia. The official reason put forward for the diversification is as a de-risking strategy from the erratic fortunes of the entertainment industry. But the problem with these kinds of drastic decisions is that whether in an almost promoter-less company, the next executive management will have the gumption to stick to such decisions if things go wrong. The current management itself expects the natural resource investments to bear fruit only by 20-30 years.

Some earlier decisions of K Sera Sera like bidding for an IPL Franchisee didn't materialise while an earlier diversification into miniplexes hasn't gathered significant momentum.

On the fundamental or financial side, one problem with assessing K Sera Sera correctly is that the results from the standalone company and the consolidated company (including all its subsidiaries) can be very divergent. For example, in the latest September quarter results, the standalone K Sera Sera's performance has been very poor, whereas the consolidated K Sera Sera has managed a good growth. 

As another example, the recent acquisition of Citi Gold stake was by a subsidiary, K Sera Sera Holdings PTY Ltd, Australia, which in itself is a recently created subsidiary of K Sera Sera Productions FZE, Dubai.. How it all adds up can be a bit confusing for the average investor.

To correctly value the company, better is to look at the consolidated trailing twelve months (TTM) earnings, which comes to around Rs. 4.45, and which works out to a P/E of just 2.92, which is very attractive for a buyer. In contrast, on a standalone basis, the TTM EPS of K Sera Sera Productions is just 54 paise which works out to a P/E of over 24, which looks expensive.

K Sera Sera scrip's continuing range-bound trading below the critical Rs. 20 mark is troubling, as it has become a heavily-traded but low-value scrip, or a so-called penny stock. Such stocks have a market dynamics of their own, as due to the extremely low costs, large stock market operators tend to hoard huge quantities and offload at will. Needless to say, retail investors would be at the receiving end of such operations.

Hence extreme caution should be exercised while investing in such counters. Even for those willing to bet on the K Sera Sera story, only the smallest of investments should be considered initially. The idea should be that, as with all penny stocks, investors should consider only an investment amount that is truly disposable. If the company performs well eventually, the shares can be accumulated. The key events/levels to watch include steady growth on a standalone as well as consolidated basis, and the scrip firmly trading above the Rs. 20 mark after making a new 52-Week High. 

But for all its negatives, one important positive of K Sera Sera should be emphasized. It can be a good takeover target due to three reasons - zero promoter holding, performance as a profit making entity on a consolidated basis,  and cheap valuations. And with the shareholding being 100% public, it is difficult for a buyer to take over K Sera Sera without share price spurting northwards spontaneously and later possibly through a mandatory open offer. 

Interestingly, such takeover-grade buying can even happen overseas, as over 46% of K Sera Sera's equity base is currently existing in GDR form.

Recently, Basmati Securities Pvt. Ltd. had upped its stake in K Sera Sera from 4.94% to 5.68% through open market transactions. But such buying may also be for pure trading purposes.

Anyway, for now, K Sera Sera should be regarded as only an interesting stock to watch closely for real developments. Investments at current levels should be minimum, if at all.

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