22284437 financial analysis of hindustan uniliver limited

8/7/2019 22284437 Financial Analysis of Hindustan Uniliver Limited

1/37

Financial Accounting Project: Final Report

Financial Analysis of Hindustan Uniliver Limited

Submitted To:Prof. D.V.Ramana

Submitted by:Arun Sharma

DATE: 24th September 2007

CONTENTS

Section I: Background

1


2/37

A. Acknowledgement....3

B. Industry and Environment Analysis.4

C. Brief Introduction of Hindustan Uniliver Limited.9

Section II: Detailed Analysis of HUL

1. Board of

Directors...... 11

2. Ownership

...11

3. Shareholding

Pattern...12

4. Performance Trends of the

company..13

5. Ratio Analysis: Time Series

Analysis14

5.1. Liquidity Ratios.....14

5.2. Solvency Ratios...16

5.3. Profitability Ratios.18

5.4. Market Based Returns... 22

6. Dupont Analysis...23

7. Economic Value Addition24

8.Accounting Policies..26

9. Ratio Analysis: Inter Company Analysis HUL and ITC29

10. Conclusion..34

2


3/37

A. Acknowledgements

We are highly grateful to Prof D.V.Ramana for making the course of Financial

Accounting interesting to learn and easy to understand. We wish to thank XIMB

Academic Team for assigning Prof. Ramana to take the introductory course on Finance

and Accounting. We pay heartily gratitude to Ramana sir for giving us his valuable time

and the immense interaction opportunities to resolve our queries. We are also thankful to

Mr. Alok for answering our queries regarding the quizzes and assignments, especially

when Ramana was not available in the campus.

3


4/37

B. Industry and Environment Analysis:

Indian FMCG Sector in a nutshell: The Indian FMCG sector is the fourth largest

sector in the economy with a total market size in excess of US$ 13.1 billion. It has a

strong MNC presence and is characterized by a well established distribution network,

intense competition between the organized and unorganized segments and low

operational cost. Availability of key raw materials, cheaper labor costs and presence

across the entire value chain gives India a competitive advantage. The FMCG market is

set to treble from US$ 11.6 billion in 2003 to US$ 33.4 billion in 2015. Penetration

level as well as per capita consumption in most product categories like jams, toothpaste,

skin care, hair wash etc in India is low indicating the untapped market potential.

Burgeoning Indian population, particularly the middle class and the rural segments,

presents an opportunity to makers of branded products to convert consumers to branded

products.

Growth is also likely to come from consumer 'upgrading' in the matured product

categories. With 200 million people expected to shift to processed and packaged food

by 2010, India needs around US$ 28 billion of investment in the food-processing

industry. The Indian FMCG sector gives employment for three million people in

downstream activities. Within the FMCG sector, the Indian food processing industry

represented 6.3 per cent of GDP and accounted for 13 per cent of the country's exports

in 2003-04.A distinct feature of the FMCG industry is the presence of most global

players through their subsidiaries (HLL, P&G, Nestle), which ensures new product

launches in the Indian market from the parent's portfolio.

What is in India for FMCG: FMCG Sector is expected to grow by over 60% by 2010.

That will translate into an annual growth of 10% over a 5-year period. It has been

estimated that FMCG sector will rise from around Rs 56,500 crores in 2005 to Rs

92,100 crores in 2010. Hair care, household care, male grooming, female hygiene, and

the chocolates and confectionery categories are estimated to be the fastest growing

4


5/37

segments, says an HSBC report. Though the sector witnessed a slower growth in 2002-

2004, it has been able to make a fine recovery since then. For example, Hindustan

Unilver Limited (HUL) has shown a healthy growth in the last quarter. An estimated

double-digit growth over the next few years shows that the good times are likely to

continue.

Growth: With the presence of 12.2% of the world population in the villages of India,

the Indian rural FMCG market is something no one can overlook. Increased focus on

farm sector will boost rural incomes, hence providing better growth prospects to the

FMCG companies. Better infrastructure facilities will improve their supply chain.

FMCG sector is also likely to benefit from growing demand in the market. Because of

the low per capita consumption for almost all the products in the country, FMCG

companies have immense possibilities for growth. And if the companies are able to

change the mindset of the consumers, i.e. if they are able to take the consumers to

branded products and offer new generation products, they would be able to generate

higher growth in the near future. It is expected that the rural income will rise in 2007,

boosting purchasing power in the countryside. However, the demand in urban areas

would be the key growth driver over the long term. Also, increase in the urban

population, along with increase in income levels and the availability of new categories,

would help the urban areas maintain their position in terms of consumption. At present,

urban India accounts for 66% of total FMCG consumption, with rural India accounting

for the remaining 34%. However, rural India accounts for more than 40% consumption

in major FMCG categories such as personal care, fabric care, and hot beverages. In

urban areas, home and personal care category, including skin care, household care and

feminine hygiene, will keep growing at relatively attractive rates. Within the foods

segment, it is estimated that processed foods, bakery, and dairy are long-term growth

categories in both rural and urban.

5


6/37

Indian Competitiveness and Comparison with the World Markets: The following

factors make India a competitive player in FMCG sector:

Availability of Raw Materials: Because of the diverse agro-climatic conditions

in India, there is a large raw material base suitable for food processing industries.

India is the largest producer of livestock, milk, sugarcane, coconut, spices and

cashew and is the second largest producer of rice, wheat and fruits &vegetables.

India also produces caustic soda and soda ash, which are required for the

production of soaps and detergents. The availability of these raw materials gives

India the location advantage.

Labor cost comparison: Low cost labor gives India a competitive advantage.

India's labor cost is amongst the lowest in the world, after China & Indonesia.

Low labor costs give the advantage of low cost of production. Many MNC's have

established their plants in India to outsource for domestic and export markets.

Presence across value chain: Indian companies have their presence across the value

chain of FMCG sector, right from the supply of raw materials to packaged goods

in the food-processing sector. This brings India a more cost competitive

advantage. For example, Amul supplies milk as well as dairy products like

cheese, butter, etc

Few indicatives of Indian FMG Market

6


7/37

Figure B.1:Consumption Chart

Table B.1: Rural Urban Profile of Market

7


8/37

Figure B.2: Consumption Pattern

Table B.2: Consumer Profile

8


9/37

Figure B.3: Labour Cost Pattern

C. Brief Introduction of Hindustan Uniliver Limited

(Formerly Hindustan Lever Limited)

Brief History: Hindustan Unilever Limited, erstwhile Hindustan Lever Limited (also

called HLL), headquartered in Mumbai, is India's largest consumer products company,

formed in 1933 as Lever Brothers India Limited. Its 41,000 employees are headed by

Mr.Harish Manwani, the non-executive chairman of the board. HLL is the market leader

in Indian products such as tea, soaps, detergents, as its products have become daily

household name in India. The Anglo-Dutch company Unilever owns a majority stake in

Hindustan Lever Limited.

Recently in February 2007, the company has been renamed to "Hindustan Unilever

Limited" to provide the optimum balance between maintaining the heritage of the

Company and the future benefits and synergies of global alignment with the corporate

name of "Unilever".

9


10/37

Prominent Brands: Kwality Walls ice cream, Lifebuoy, Lux, Breeze, Liril, Rexona,

Hamam, Moti soaps, Lipton tea, Brooke Bond tea, Bru Coffee, Pepsodent and Close Up

toothpaste and brushes, and Surf, Rin and Wheel laundry detergents, Kissan squashes and

jams, Pond's talc and creams, Vaseline lotions, Fair & Lovely creams, Lakm beauty

products are some of the prominent brands of the company.

Power Brands: In mid-2000 after M.S. Banga took over the reins at HLL, the company

decided that it would focus on 30 odd 'Power Brands' and carefully plan its entry into

new businesses. Intuitively this made sense, instead of spreading your resources all over

the place concentrate on a few brands. But what it meant was that power brands had to

grow at higher rates to compensate for the loss of sales from other brands. Unfortunately,

the other brands have shrunk faster vis--vis the rate at which the power brands have

grown. This has hit the top line of the company. The company's Vanasapti brand, Dalda,

is a case in point

Appointment of Doug Baille : The appointment of an expat, Doug Baillie, as the CEO

of consumer heavyweight HLL is seen as an indication of the parent companys desire to

hasten the process of Unileverising the Indian subsidiary, it is reliably learnt. Informed

sources said Unilever was not very satisfied with the pace of harmonization of HLL vis-

-vis other global subsidiaries. Within Unilever, it was felt that there was some

opposition from HLLs senior management who wanted HLLs Indian ness to be

maintained.

Project Shakti: It is an initiative take by the group as a way of fulfilling its social

responsibility by empowering the less privileged sections of the society we live in. The

objectives of Project Shakti are to create income-generating capabilities for

underprivileged rural women by providing a small-scale enterprise opportunity, and to

improve rural living standards through health and hygiene awareness.

10


11/37

Hindustan Lever Network: In February 2003 Hindustan Unilever Limited has launched

a new division called Hindustan Lever Network. This division markets a wide range of

Fast Moving Consumer Goods through Network Marketing. Network Marketing was

pioneered in the United States of America in the 1940s by companies like Amway

Corporation and operates by recruiting individuals as consultants. These consultants are

paid a commission on the purchases made by them and on the purchases made by those

recruited by them.

1. Board of Directors:

Chairman: Harish Manwani

CEO and Managing Director: Douglas Baillie

Vice Chairman: M.K.Sharma

Managing Directors Food: S.Ravindranath

11


12/37

Director Finance and IT: D.Sundaram

Directors: A.Narayan

V.NarayananD.S.Parekh

C.K.Prahalad

S.Ramadorai

2. Ownership:

The company is a publicly held organization. The majority of the shares are held by the

parent company Unilever limited.

3. Shareholding Pattern (as on 31.05.2007):

The majority of shares of the company are held by 9 foreign corporate bodies. They hold

54.2% of the total shares. The names of the companies and their share %age are:

12


13/37

Unilever PLC 33.7%

Brooke Bond Group Limited 4.84%

Unilever UK & CN Holdings Limited 2.72%

Brooke Bond South India Estates Ltd 2.39%

Unilver PLC 2.31%

Unilever Overseas Holdings AG 1.81%

Brooke Bond Assam Estates Ltd 1.49%

Unilver Overseas Holdings AG 1.3%

Unilver Overseas Holdings BV 0.85%

The public shareholding of the company is varied and comprises of Mutual funds/UTI

(3.74%), Banks (.3%), Insurance Companies (12.41), FII (12.28), thus the total

institutional public shareholding is 28.73%

In non institutions, corporate bodies hold 1.83%, while 17.56% shares are held by

individuals. In addition to that.46% of the shares are held by other individuals and bodies

such as the director & relatives, trusts, NRIs and clearing bodies. Hence the total public

shareholding comes out to be 48.52%.

4. Performance Trends of the company:

13


14/37

Table 4.1: Performance Trend

This table has been taken from the annual report of the HUL for the year ended on 31 st

December 2006. This table contains key financial indicators which show the performance

of the company in year 2006 and its performance trend for last 10 years.

5. Ratio Analysis: Time Series Analysis

14


15/37

5.1 Liquidity Ratios: Liquidity Ratios indicate the companys ability to meet its short-

term liability. These ratios indicate the availability of liquid asset to meet short term

obligations. Creditors usually check this ratio to assess the ability of firm to meet its

short term obligations.

5.1.1 Current Ratio: Current ratio is obtained by dividing Current Assets by Current

Liabilities. Current ratio gives a quick understanding of the companys liquidity

position but is subjected to window dressing. Current asset consists of Cash,

Inventory and Debtors as major items. Though Inventory and Debtors are

considered liquid asset, the company may find itself unable to collect debt at

right time and convert inventory into cash when it has to pay its creditors.Hence this ratio alone can not provide a clear picture of firms liquidity

position.

5.1.2 Liquid Ratio: Liquid ratio is a better measure of Liquidity because inventory,

which might not get converted into cash when required to do so, is taken out of

the current asset for calculating this ratio.

5.1.3. Absolute Cash Ratio: It is the best measure of the liquidity since only cash and

near cash items are taken for calculating this ratio. Debtors and Inventory are

taken out of the Current Asset and thus left part of current asset give a better

idea of liquidity of the firm.

5.1.4 Working Capital: It is net current asset that a company has to have in order to

smoothly run its day to day operation.Net Current Asset is difference between

CA and CL. It also indicates how the firm is financing its assets. For example if

a company has CL more than CA, i.e. Negative Working Capital, it implies that

the company is financing its long term asset from short term funds. Generally

CL does not carry any cost and hence it increases the profitability of the firm.

15


16/37

5.1.4. Working Capital Days: Working capital days indicate the time taken in

completion of the operating cycle. It is a measure of firms policy of collecting

debt, making payment to creditors and average inventory holding period. The

goods are purchased either in cash or on credit, then it remains with the firm as

inventory for some days, then it is sold and debtors are created, then the cash is

collected from debtors. So, WCD is Debtors Days + Inventory Days- Creditor

Days.

5.1.5. Debtors Days: Time taken to convert debtor into cash. It indicates how

efficiently the firm is collecting its debt.

5.1.6. Creditor Days: It indicates how fast the firm is paying back to its creditors.

5.1.7. Inventory Days: How efficiently the firm converts its inventory into debtors,i.e. how efficient the sales are. It also indicates for how long (on an average)

goods are stocked.

2006 2005 2004Current Ratio 0.70 0.67 0.89

Liquid Ratio 0.36 0.35 0.49

Absolute Current Ratio 0.26 0.22 0.36

Inventory Days 46.67 43.62 54.07

Debtor Days 13.28 17.25 17.99

Creditor Days 138.59 138.87 140.27

Working Capital Days -78.63 -78.00 -68.21Table 5.1.1: Key Liquidity Ratio for HUL

Figure 5.1.1:Trend of Liquidity of HUL

16

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

0.80

0.90

1.00

2006 2005 2004

Current Ratio

Liquid Ratio

Absolute Current R


17/37

Analysis of Liquidity Ratios: Current ratio of HUL has been less than 1 for all the 3

years taken for analysis. This implies that working capital of HUL is always negative.

This is generally considered an aggressive strategy i.e. to financing its long term asset by

short term sources that increases profitability because current liabilities are non interest

bearing items. There is significant difference between CR and LR which indicates that

the current asset of HUL consists of good amount of inventory. Value of sundry debtors

is quite low since there is minor difference between LR and ACR. The liquidity ratios

have decreased from previous year which shows that HUL has reduced its liquidity

further. On analyzing the operating cycle it can be said that HUL takes good amount of

time to pay its creditors and this is how it manage to run its operations with negative

working capital.

5.2. Solvency Ratio: Solvency Ratios indicate the companys ability to meet its Long-

term liability. These ratios indicate the ability of the firm to return the investment

made by its owners and debt providers in the business, in case the company is

closed down. These ratios are usually seen by the debt providers or financial

institutions in order to assess the risk involved in the business. If the firm is closed

down then first it is liable to pay back its loan and then if it is left with something

that belongs to the share holders.

5.2.1 Debt Equity Ratio: Debt Equity ratio is obtained by dividing Long Term

outside Liability (Debt) by Net Worth. This ratio indicates the risk involved for

loan givers. If it is too high then the owner may not be that much concerned for

profit making since he has invested less in the business and hence getting less

return. If the company makes loss ad closed down subsequently, then the owner

does not loose much and loan givers will have to bear relatively more losses.

This ratio also determines EPS.

17


18/37

5.2.2 Interest Coverage Ratio: ICR indicates the firms ability to pay the interest of

the loans taken. It is ratio of PBIT to Interest.

5.2.3. Debt to Total Funds: This ratio indicates the share of the debt in total sourcesused to fund the business. Since total sources are equal to total assets, this

ratio is analyzed to assess the firms ability to meet its long term liability i.e.

ability to pay back its loan, in case the company is closed down.

5.2.4. Reserves and Surplus to Total Fund: This ratio indicates the share of the

Reserves and Surplus in total sources used to fund the business. Since total

source are equal to total assets, this ratio is used to assess the firms ability to

meet its long term liability towards its owner that is, ability to return the shareprofit made by the business that belongs to shareholders, in case the company is

closed down.

2006 2005 2004Debt Equity Ratio 0.03 0.02 0.70

Interest Coverage Ratio 159.31 76.67 12.58

Debt to Total Source 0.01 0.01 0.20

RS to Total Source 0.34 0.32 0.26

Table 5.2.1: Key Solvency Ratios

18

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

0.80

2006 2005 2004

Debt Equity Ratio

Debt to Total Sou

RS to Total Sour


19/37

Figure 5.2.1: Trend of Solvency Position of HUL

Analysis of Solvency Ratios: The loans taken by HUL were high in 2004 which is

indicated by high debt to total source ratio and this is why its ICR ratio was low (as

compared to ICR in 2005 and 2006). It has decreased its loan and currently it is financing

its business mostly by net worth and current liability. Debt to equity ratio has decreased

over the years as it has reduced the loans. Its RS to Total source has increased which

indicates that HUL invests accumulated profit into business with decreasing debt. Now

HULs assets are financed by net worth and current liability with debt being a small

component of total source.

5.3. Profitability Ratio: Profitability Ratios show how successful a company is in terms

of generating returns or profits on the Investment that has been made in the business

i.e. the Profitability ratios indicates the ability of the firm to generate and distribute

the profit. It can be broadly categorized into profit generating ability (PGA) ratios

and profit distributing ability (PDA) ratios. It can be said the higher these ratios the

better it is for the company.

5.3.1 PBIT to Sales: This ratio is obtained by dividing Profit before Interest and Tax

by Sales. This ratio is a measure of the companys profit generating ability on agiven volume of sales. This is the most basic ratio of profit generating ability on

sales i.e. sales margin because it does not take into account the interest and

taxes which the company has to pay.

19


20/37

5.3.2 PBT to Sales: This ratio is obtained by dividing Profit before Tax by Sales. This

ratio gives the companys profit generating ability on a given volume of sales.

This ratio takes the profit after paying the interest in order to assess profit made

(profit margin) after all the expenses except tax.

5.3.3. Operating Expenses to Sales: It is a measure of the expenses that are incurred

on a particular volume of sales. This ratio can be used to analyze the cost

incurred and find out the ways to reduce the operational cost without decreasing

the sales volume.

5.3.4. Return on Net worth (RONW):This ratio gives an indication about the profitbeing made by the firm on the investment made by the owner. This ratio is used

to analyze the business from the perspective of the owner. RONW is an

indicator of profit distributing ability of a firm.

5.3.5 Return on Capital Employed (ROCE): This ratio indicates the profit making

ability of the firm on total capital employed which consists of owners fund and

debt. This is a profit generating ability ratio which is seen by owners and debtproviders.

5.3.6 Return on Total Asset: ROTA tells how efficiently the firm is using its assets

or total sources of fund to generate profit. It is a profit generating ability ratio.

5.3.7 Earning Per Share: EPS is an indicator of profit distributing ability of a firm.This ratio tells how much profit the firm is making on owners investment on a

single share of the company.

20


21/37

5.3.8 Dividend per Share: DPS ratio gives an idea of the actual distribution of profit

to the owners i.e. profit distributed to shareholders per share.

5.3.9 CFO to PAT: CFO to PAT compares the net cash generated from operationalactivities with net profit made by the firm. It gives an idea as to how much

profit is realized and how it is being used in different activities(Investment,

financial, Operational)

Some of the profitability ratio in this report do not match with the values given in

HULS summary of performance because the sales figures taken here are after exciseduty whereas the sales figures taken by HUL for calculating these ratios are before

excise duty i.e. Gross Sales.

2006 2005 2004PBIT/Sales (%) 13.72 12.95 15.96

PBT/SALES (%) 15.38 14.51 15.16

Operating Expense (Other than COGS)/Sales (%) 32.77 30.98 32.32

PAT/OF(RONW) 0.57 0.59 0.57

PBIT/CE(ROCE) 0.61 0.62 0.46

PBIT/TA(ROTA) 0.23 0.23 0.22

EPS 8.41 6.40 5.44

DPS 5.00 5.00 6.00

CFO/PBIT (%) 93.29 133.71 79.59

Table 5.3.1: Key Profitability Ratios for HUL

Analysis of Profitability Ratios: PBIT as percentage of sales is moderately good and

there has not been any significant change in it during last three years. Similar is the case

of PBT/Sales. PBT/Sales are higher than the PBIT/Sales for year 2006 and 2005 whichindicate that PBT is more than PBIT. This implies that interest paid by the company is

negative. On closely watching the financial statement, it has been found that Net Income

from Interest for HUL is positive for the years 2006 and 2005 making PBT higher than

PBIT. That is because Income Received by the company is more than that to be paid.

21


22/37

There has not been any significant change in operating expense as percentage of sales in

last three years. For FMCG business the operating expense to sales ratio around 30% can

be considered good as the company has to spend heavily on its distribution network and

promotional activities. The profit distributing ability of the firm is excellent with return

on net worth (RONW) being around 58% over the years. The profit generating ability

similar to the profit distributing ability is pretty good with ROCE over 60% during the

year 2005 and 2006. ROCE in year 2005 has increased from the figure of 2004, perhaps

because of the decrease in debt (change in capital structure) and increase in current

liability (non interest bearing item). Return on total asset (ROTA) has been moderately

good with almost constant value of around 22% over the years.

0.00

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

9.00

2006 2005 2004

Figure 5.3.1: Profitability Trends of HUL

The face value of Equity Share of HUL is Rs. 1. Analyzing the EPS and DPS, which are

profit distributing ability ratios, for HUL we can see that it has been generating more than

500% times profit for its shareholders over the years. The EPS increased over the years

from Rs.5.xx in year 2004 to Rs. 8.xx in year 2006. It has been generous in distributing

the profit in form of dividend with DPS Rs 6 in year 2004 and Rs. 5 in year 2005 and

2006.

22


23/37

CFO/PBIT(%)

0.00

20.00

40.00

60.00

80.00

100.00

120.00

140.00

160.00

2006 2005 2004

CFO/PBIT(%)

Figure 5.3.2:Comparison of CFO and PAT

The trend of CFO/PBIT is worth analyzing since the companys CFO is close to its PBIT

which indicates that almost entire profit of HUL comes from its operation and the profit

is realized. In year 2005 the CFO is higher than PBIT indicating the negative CFF or CFIi.e. the company has realized the profit(in form of cash) and invested in long term assets

or paid its long term outside liabilities(loans).

5.4 Market Based Returns: Market based return figures indicate the firms position in

the market and the benefits associated with the investment in company. A small

investor, if interested in purchasing the shares of a company, first looks at themarket capitalization of the company and return that he can expect on the price paid

for the share.

5.4.1 Price to Earning Ratio: Return associated with the shares on its market price.

Since the investors buy the share at its market price and not at face value or

book value, this ratio gives information about the actual return on investment.

5.4.2 Market Cap to Net worth (Price to Book Value Ratio): Comparison of marketvalue of the firm with the owners fund. This can give an idea about the success

of the company in increasing the value of owners investment.

5.4.3 Market Capitalization: Market value of the firm. Market capitalization gives

an indication of the companys financial status in the market. Market

23


24/37

capitalization is used to compare the size of the organization in term of market

value.

5.4.4 Average Market Capitalization: Average Market value of the firm over the

year. Average is taken because the market value of shares keeps on changing

and so is market capitalization.

2006 2005 2004Price to Earning Ratio 31.04 32.06 26.34

Market Value to Book Value Ratio 17.55 18.83 15.09

Market Capitalization (in Million Rs.) 477877.34 434195.38 315878.51

Table 5.4.1: Key Market Indicators of HULs Performance

Analysis of Market Based Returns: PER ratio for HUL is not so good with values over

30 in year 2006 and 2005 and somewhat better with value around 25 in the year 2004. It

means an investor will get return around 1/30 times on his actual investment. Market

capitalization of HUL has increased after 2004.

6. Dupont Analysis:

2006 2005 2004

ROCE 0.61 0.62 0.46Operating Decisions

PBIT/Sales (%) 13.72 12.95 15.96

COGS/Sales (%) 53.61 55.96 53.19Dep /Sales (%) 1.08 1.13 1.22

Operational Expense/ Sales(%) 32.77 30.99 32.33

Investment Decisions

Sales/TA 1.65 1.70 1.36

24


25/37

Sales/FA 8.01 7.46 6.54

Sales/CA 3.82 3.99 3.00

Sales/Stock 7.82 8.37 6.75

Sales/Debtors 27.48 21.16 20.29

Sales/Cash 29.03 31.15 14.22

Financial Decisions

TA/CE 2.62 2.75 2.04

TA/LTL 100.81 113.99 4.95

TA/OF 2.69 2.82 3.48

TA/Capital 33.17 29.49 33.06

TA/Reserves Surplus 2.92 3.11 3.89

Table 6.1: Dupont Analysis for HUL

7. Economic Value Addition:

Profit is the output of the GAAP driven accounting assumptions. One of the important

accounting assumptions is that the interest is treated as an expense, whereas the dividend

is treated as distribution of profit. Sometimes, such assumption results in situations where

the companies show the accounting profit but may be destroying the wealth of the

shareholders. EVA measures whether the operating profit is enough compared to thetotal costs of capital employed.

EVA = NOPAT - (Cost of Capital * Capital Employed)

Cost of capital = Cost of Equity x Proportion of equity from capital + Cost of debt x

Proportion of debt from capital x (1-tax rate).

Cost of capital or weighted average cost of capital (WACC) is the average cost of both

equity capital and interest bearing debt. Cost of equity capital is the opportunity return

from an investment with same risk as the company has.

All figures are in Million Rs. 2006 2005 2004

25


26/37

Cost of Capital Employed (COCE) 1.Average Debt 1630 3600 15880

2.Average Equity 25150 22000 21160

3.Average Capital Employed : (1) + (2) 26770 25600 37040

4.Cost of Debt, post-tax % 59 34 52

5.Cost of Equity % 164 155 148

6.Weighted Average Cost of Capital % (WACC) 157 138 107

7.COCE : (3) x (6) 4210 3530 3950

Economic Value Added (EVA)8.Profit after tax, before exceptional items 15400 13550 11990

9.Add : Interest, after taxes 70 120 820

10.Net Operating Profits After Taxes (NOPAT) 15470 13670 12820

11.COCE, as per (7) above 4210 3530 3950

12.EVA : (10) - (11) 11250 10140 8870

Table 7.1: Economic Value Added

Comments: Cost of debt is taken at the effective rate of interest applicable to an AAA

rated company like HLL with an appropriate mix of short, medium and long term debt,

net of taxes. HUL have considered a pre tax rate of 8.90% for 2006 (5.10% for 2005)

after taking into account the trends over the years and market situations.

Cost of Equity is the return expected by the investors to compensate them for the

variability in returns caused by fluctuating earnings and share prices.

Cost of Equity=Risk free return equivalent to yield on long term Government Bonds

(taken at 7.65% for 2006) + Market risk premium (taken at 9%) (x) Beta variant for the

Company, (taken at 0.97) where Beta is a relative measure of risk associated with the

Companys shares as against the market as a whole. Thus HULs cost of equity = 7.65%

+ 9% (x) 0.97 = 16.38%.

EVA Trend over last 10 years:

26


27/37

Figure 7.1: EVA Trend

8. Accounting Policies : Significant Accounting Policies:

8.1. Basis for preparation of accounts: The accounts have been prepared to comply

in all material aspects with applicable accounting principles in India and the

Accounting Standards issued by the Institute of Chartered Accountants of India.

8.2. Revenue Recognition: Sales are recognized when goods are supplied and are

recorded net of trade discounts, rebates, sales taxes and excise duties (on goods

manufactured and outsourced) but include, where applicable, export incentives

such as duty drawbacks and premiums on sale of import licenses. It does not

include inter-divisional transfers. Income from Property Development Activity is

recognized in terms of arrangements with developers, where applicable. Incomes

from services rendered are booked based on agreements/ arrangements with the

concerned parties. Interests on investments are booked on a time proportion basis

taking into account the amounts invested and the rate of interest. Dividend

27


28/37

incomes on investments are accounted for when the right to receive the payment

is established.

8.3. Expenditure: Expenses are accounted for on accrual basis and provision is made

for all known losses and liabilities. Advertising expenses are charged against the

profit of the year to which the activities relate. Revenue expenditure on research

and development is charged against the profit of the year in which it is incurred.

Capital expenditure on research and development is shown as an addition to fixed

assets.

8.4. Goodwill and other Intangible Assets: Intangible assets are stated at cost of

acquisition less accumulated amortization. Goodwill and other intangible assets

(except computer software) are amortized over the assets useful life not exceeding

10 years. Computer software is amortized over a period of 5 years on the straight

line method. Goodwill arising on consolidation in accordance with AS-21 is

amortized over 4 years at quarterly rests commencing from the quarter of

recognition of goodwill.

8.5. Impairment of Assets: Impairment loss, if any, is provided to the extent, the

carrying amount of assets exceeds their recoverable amount. Recoverable amount

is higher of an assets net selling price and its value in use. Value in use is the

present value of estimated future cash flows expected to arise from the continuing

use of an asset and from its disposal at the end of its useful life.

8.6 Fixed Assets: Fixed assets are stated at cost less depreciation. Depreciation is

provided (except in the case of leasehold land which is being amortized over the

period of the lease) on the Straight Line Method (SLM) and at the rates and in the

manner specified in Schedule XIV of the Companies Act, 1956. However,

A. certain employee perquisite-related assets are depreciated over four to six

years, the period of the perquisite scheme

B. computers and related assets are depreciated over four years

28


29/37

C. certain assets of the cold chain are depreciated over four / seven years

D. motor vehicles are depreciated over six years and

E. assets of certain subsidiaries are depreciated on the Written down Value

Method (WDV). The difference between the SLM basis and WDV basis is not

significant. Assets identified and evaluated technically as obsolete and held for

disposal are stated at their estimated net realizable values.

8.7. Investments: Investments are classified into current and long-term investments.

Current investments are stated at the lower of cost and fair value. Long- term

investments, other than in Associates, are stated at cost. A provision for

diminution is made to recognize a decline, other than temporary, in the value of

long-term investments. Investments in Associates are accounted for using the

equity method. Interests in Joint Ventures Interests in Jointly controlled entities

(Incorporated Joint Ventures) are accounted for using proportionate consolidation

method.

8.8. Inventories: Inventories are valued at the lower of cost, computed on a weighted

average basis, and estimated net realizable value, after providing for cost of

obsolescence and other anticipated losses, wherever considered necessary.

Finished goods and work-in-progress include costs of conversion and other costs

incurred in bringing the inventories to their present location and condition.

8.9. Sundry Debtors and Loans and Advances: Sundry debtors and Loans and

Advances are stated after making adequate provisions for doubtful balances.

8.10. Provisions: A provision is recognized when there is a present obligation as a

result of a past event, it is probable that an outflow of resources will be required

to settle the obligation and in respect of which reliable estimate can be made.

Provision is not discounted to its present value and is determined based on the

best estimate required to settle the obligation at the year end date. These are

reviewed at each year end date and adjusted to reflect the best current estimate.

29


30/37

8.11. Retirement / Post Retirement Benefits: Contributions to defined contribution

schemes such as Provident Fund and Family Pension Fund are charged to the

profit and loss account as incurred. The Companies also provide retirement / post-

retirement benefits in the form of gratuity, pensions, leave encashment and

medical. Such benefits are provided for based on valuations, as at the balance

sheet date, made by independent actuaries.

8.12. Taxes on Income: Current tax is determined as the amount of tax payable in

respect of taxable income for the period. Deferred tax is recognized, subject to the

consideration of prudence, on timing differences, being the difference between

taxable incomes and accounting income that originate in one period and are

capable of reversal in one or more subsequent periods. Deferred tax assets are not

recognized on unabsorbed depreciation and carry forward of losses unless there is

virtual certainty that sufficient future taxable income will be available against

which such deferred tax assets can be realized.

8.13. Foreign Currency Translations: Foreign currency transactions are accounted

at the exchange rates prevailing at the date of the transaction. Gains and losses

resulting from the settlement of such transactions and from the translation of

monetary assets and liabilities denominated in foreign currencies are recognized

in the profit and loss account. Exchange differences relating to fixed assets are

adjusted in the cost of the asset.

8.14. Segment Reporting: The accounting policies adopted for segment reporting are

in line with the accounting policies adopted in consolidated financial statements

with the following additional policies being considered for segment reporting:

A. Inter segment revenue has been accounted for based on the transaction price

agreed to between segments which is primarily market led.

B. Revenue and expenses have been identified to segments on the basis of their

relationship to the operating activities of the segment. Revenue and expenses,

30


31/37

which relate to the enterprise as a whole and are not allocable to segments on a

reasonable basis, have been included under unallocated corporate expenses.

9. Ratio Analysis: Inter Company Analysis HUL and ITC

Ratio HUL(2006- 31ST Dec) ITC(31ST March2007)

Current Ratio 0.70 1.63

Absolute Current Ratio 0.26 0.54

Working Capital Days -78.63 56.28

Debt Equity Ratio 0.03 0.02

PBIT/Sales (%) 13.72 30.90PAT/Sales (%) 12.72 21.17

Depreciation/Sales (%) 1.08 2.86

PBIT/TA(ROTA) 0.23 0.35

PBIT/CE(ROCE) 0.61 0.37

PAT/OF(RONW) 0.57 0.26

EPS 8.41 7.19

DPS 5.00 3.10

Market Price of Share 216.55 150.40

Price to Earning Ratio 31.04 20.92

Market Capitalization (in Million Rs.) 477877.34 565830.00

Table 9.1: Key Ratios of HUL and ITC for the Year 2006-07

9.1. Comparison of Liquidity Position: Current Ratio for HUL is negative whereas it

is positive for ITC. This indicates that HUL has negative working capital and ITC

has positive working capital. ITC is funding its short term asset by long term

funds and HUL funding its long term asset by its short term non-interest bearing

sources (CL). One more difference in liquidity position of the two companies can

be seen through the difference between the CR and ACR. There is huge difference

in ACR and CR of ITC which shows that it has less cash or near cash items in its

current liabilities whereas for HUL the difference is moderate. Working Capital

Days for ITC is positive and WCD for HUL is negative. It can be said that HUL

31


32/37

has more current liability to source its asset and ITC has high current asset which

is sourced by long term sources of fund.

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

HUL(2006- 31ST Dec) ITC(31ST March2007)

Current Ratio

Absolute Current R

Figure 9.1.1: Comparison of Liquidity Position of HUL and ITC

WorkingCapital Days

-100

-80

-60

-40

-20

0

20

40

60

80

HUL(2006- 31ST Dec) ITC(31ST March2007) WorkingCapital D

Figure 9.1.2: Comparison of WCD of ITC and HUL

32


33/37

9.2. Comparison of Solvency Position: Two companies are similar in terms of theirsolvency position as indicated by various solvency ratios.

9.3. Comparison of Profitability: Both the PBIT/Sales and PAT/Sales are higher for

ITC than HUL and the difference in these ratios is quite high which indicates that

ITC has higher profit margin on sales than HUL. Depreciation/Sales ratio of ITC

is almost double of that for HUL indicating higher depreciation and amortization

charged by ITC than HUL. The ROTA figure for ITC is higher than it is for HULwhich shows that ITC is generating more profit than HUL on total asset (or total

sources of funds). The other profit generating ability ratios shows a different

picture. ROCE for HUL is higher than that for ITC which is because HUL is

using more current liabilities to fund its assets hence making more profit on its

capital employed. The RONW for HUL is also higher than that for ITC because

of the same reason. So, it can be inferred that HUL is generating more profit for

on its owners fund than ITC. The difference between PBIT /Sales and PAT/ Salesis lower in case of HUL due to its net income from interest being positive i.e. it

has earned more interest than it has paid.

33


34/37

0

5

10

15

20

25

30

35


PBIT/Sales

PAT/Sales (

Figure 9.3.1: Comparison of Profitability on Sales for HUL and ITC

34


35/37

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

PBIT/TA(ROTA) PBIT/CE(ROCE) PAT/OF(RONW)

HUL(2006- 31ST

ITC(31ST March20

Figure 9.3.2: Comparison of Profitability on Investment for HUL and ITC

9.4. Comparison of Profit Distributing Ability: Both EPS and DPS are higher for

HUL than ITC which shows that HUL makes more profit for share holders and

distributes higher profit in form of dividend as compared to that distributed by

ITC. PER for HUL is high as compared with that of ITC which makes HUL less

profitable on the actual investment made on equity shares. Market Price of shares

of HUL is more than that of ITCs share. Market capitalization of ITC is higher

than that of HUL which shows that ITC has more equity capital than HUL.

35


36/37

0

5

10

15

20

25

30

35

EPS DPS Price to Earning Ratio

HUL(2006- 31ST Dec)

ITC(31ST March2007)

Figure 9.4.1: Comparison of Profit Distributing Ability of HUL and ITC

Market Price of Share

0

50

100

150

200

250


Market Price of Shar

Figure 9.4.2: Comparison of Market Price of Shares of HUL and ITC

36


37/37

Market Capitalization(in Million Rs.)

420000

440000

460000

480000

500000

520000

540000

560000

580000


Market Capitalization(in Million

Rs.)

Figure 9.4.3:Comparison of Market Capitalization of HUL and ITC

10. Conclusion: The aim of the FA course was to make us understand the business

decisions behind financial transaction that results into a financial statement, which

we feel have been achieved. Financial statements use a different terminology that

we have understood while working on this project. The ratio analysis helps one to

know the financial health/position of the company and compare the firms current

performance with its previous performance (Time Series Analysis) and its

performance with the other firms performance operating in same industry (Inter

Company Analysis).While working on this project we learned to analyze the ratios

in order to arrive at a conclusion about the companys performance and its financial

position.

22284437 financial analysis of hindustan uniliver limited

Documents