Financial Analysis on ITC Group

Submitted to Prof. D.V Ramana

Submitted by

Mani Tiwari (25)

Mayank Agarwal (26)
Medisetty Srikanth (27)
Table of Contents –

1. Executive Summary…………………….04
2. Environmental Analysis………………...05
3. The Indian FMCG Industry……………..07
4. Company Overview…………………….10
5. FSA: ITC Limited………………………12
6. FSA: Inter Company Analysis………….28
7. Du-Pont Analysis……………………….42
8. Economic Value Addition………………44
9. Accounting Policies……………………..46
10. Appendix………………………………..50
 ACKNOWLEDGEMENT

“There is joy in work. There is no happiness except in the

realization that we have accomplished something”
-Henry Ford

The making of any project requires contribution from many people, right from inception
till its completion. In our case also, there had been a few people who have made this
happen. It was not only learning but also an enriching experience.

We would like to thank Prof. Ramana for explaining the concepts of Financial
Accounting to us, for being a source of inspiration and for the valuable suggestions
provided throughout. His constant follow-ups and result orientation ensured that we
successfully meet the deadlines.

The making of any project requires contribution from many people, right from inception
till its completion. In our case also, there had been a few people who have made this
happen. It was not only learning but also an enriching experience.

We thank our colleagues and friends for providing constant encouragement and help.
Finally, we are grateful to our families for their moral support and understanding.

“Teachers open the door, but you must enter by yourself”

- Chinese Proverb
1. Executive Summary
The project assigned to us was to study the financial health of any organization in the
country. We decided to choose one of India’s biggest companies in a sector that has rapidly
grown over the last few years and a company where leaders like Mr. Y.C. Deweshwar are
made, or rather, a company that has been made my Mr. Deweshwar.

Through this report, we try and analyze the environment in which ITC Limited is operating.

Through a thorough environment, industry and company analysis, we aim to understand the
external factors influencing the company and its decision making. Later, we try and evaluate
the various ratios to appreciate their impact on company’s performance over the last three
years.

A Dupont analysis is also done to check the credibility of company as per shareholders,
financial analysts and other mutual funds.

The financial statements of last three years are identified, studied and interpreted in light of
company’s performance. Critical decisions of distributing dividends, Issue of bonus
Debentures and other current news are analyzed and their impact on the bottom line of the
company is assessed.

As a benchmark, we also analyze various components of the company vis-à-vis other

competitors in the same segment.

Finally, we also study the accounting policy of the company is also studied with respect to
valuation of Fixed Assets, Inventory, Investments and Employee related liabilities to end
with the amount of Economic Value Added by the players in that segment for the FY 2007.
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.

Low cost labor

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
3. The Indian FMCG Industry
The Indian FMCG sector is the fourth largest in the economy and has a market size of
US$13.1 billion. Well-established distribution networks, as well as intense competition
between the organised and unorganised segments are the characteristics of this sector.
FMCG in India has a strong and competitive MNC presence across the entire value chain.
It has been predicted that the FMCG market will reach to US$ 33.4 billion in 2015 from
US $ billion 11.6 in 2003. The middle class and the rural segments of the Indian
population are the most promising market for FMCG, and give brand makers the
opportunity to convert them to branded products. Most of the product categories like
jams, toothpaste, skin care, shampoos, etc, in India, have low per capita consumption as
well as low penetration level, but the potential for growth is huge.

The Indian Economy is surging ahead by leaps and bounds, keeping pace with rapid
urbanization, increased literacy levels, and rising per capita income.

The big firms are growing bigger and small-time companies are catching up as well.
According to the study conducted by AC Nielsen, 62 of the top 100 brands are owned by
MNCs, and the balance by Indian companies. Fifteen companies own these 62 brands,
and 27 of these are owned by Hindustan Lever. Pepsi is at number three followed by
Thums Up. Britannia takes the fifth place, followed by Colgate (6), Nirma (7), Coca-Cola
(8) and Parle (9). These are figures the soft drink and cigarette companies have always
shied away from revealing. Personal care, cigarettes, and soft drinks are the three biggest
categories in FMCG. Between them, they account for 35 of the top 100 brands.

THE TOP 10 COMPANIES IN FMCG SECTOR

1. Hindustan Unilever Ltd.

2. ITC (Indian Tobacco Company)
3. Nestle India
4. GCMMF (AMUL)
5. Dabur India
6. Asian Paints (India)
7. Cadbury India
8. Britannia Industries
9. Procter & Gamble Hygiene and Health Care
10. Marico Industries

The companies mentioned are the leaders in their respective sectors. The personal care
category has the largest number of brands, i.e., 21, inclusive of Lux, Lifebuoy, Fair and
Lovely, Vicks, and Ponds. There are 11 HLL brands in the 21, aggregating Rs. 3,799
crore or 54% of the personal care category. Cigarettes account for 17% of the top 100
FMCG sales, and just below the personal care category. ITC alone accounts for 60%
volume market share and 70% by value of all filter cigarettes in India.

The foods category in FMCG is gaining popularity with a swing of launches by HLL,
ITC, Godrej, and others. This category has 18 major brands, aggregating Rs. 4,637 crore.
Nestle and Amul slug it out in the powders segment. The food category has also seen
innovations like softies in ice creams, chapattis by HLL, ready to eat rice by HLL and
pizzas by both GCMMF and Godrej Pillsbury. This category seems to have faster
development than the stagnating personal care category. Amul, India's largest foods
company, has a good presence in the food category with its ice-creams, curd, milk, butter,
cheese, and so on. Britannia also ranks in the top 100 FMCG brands, dominates the
biscuits category and has launched a series of products at various prices.

In the household care category (like mosquito repellents), Godrej and Reckitt are two
players. Goodknight from Godrej, is worth above Rs 217 crore, followed by Reckitt's
Mortein at Rs 149 crore. In the shampoo category, HLL's Clinic and Sunsilk make it to
the top 100, although P&G's Head and Shoulders and Pantene are also trying hard to be
positioned on top. Clinic is nearly double the size of Sunsilk.

Dabur is among the top five FMCG companies in India and is a herbal specialist. With a
turnover of Rs. 19 billion (approx. US$ 420 million) in 2005-2006, Dabur has brands like
Dabur Amla, Dabur Chyawanprash, Vatika, Hajmola and Real. Asian Paints is enjoying a
formidable presence in the Indian sub-continent, Southeast Asia, Far East, Middle East,
South Pacific, Caribbean, Africa and Europe. Asian Paints is India's largest paint
company, with a turnover of Rs.22.6 billion (around USD 513 million). Forbes Global
magazine, USA, ranked Asian Paints among the 200 Best Small Companies in the World

Cadbury India is the market leader in the chocolate confectionery market with a 70%
market share and is ranked number two in the total food drinks market. Its popular brands
include Cadbury's Dairy Milk, 5 Star, Eclairs, and Gems. The Rs.15.6 billion (USD 380
Million) Marico is a leading Indian group in consumer products and services in the
Global Beauty and Wellness space.

There is a huge growth potential for all the FMCG companies as the per capita
consumption of almost all products in the country is amongst the lowest in the world.
Again the demand or prospect could be increased further if these companies can change
the consumer's mindset and offer new generation products. Earlier, Indian consumers
were using non-branded apparel, but today, clothes of different brands are available and
the same consumers are willing to pay more for branded quality clothes. It's the quality,
promotion and innovation of products, which can drive many sectors.

Analysis of Indian FMCG Sector

Strengths:

1. Low operational costs

2. Presence of established distribution networks in both urban and rural areas
3. Presence of well-known brands in FMCG sector
Weaknesses:

1. Lower scope of investing in technology and achieving economies of scale,

especially in small sectors
2. Low exports levels
3. "Me-too" products, which illegally mimic the labels of the established brands.
These products narrow the scope of FMCG products in rural and semi-urban market.

Opportunities:

1. Untapped rural market

2. Rising income levels, i.e. increase in purchasing power of consumers
3. Large domestic market- a population of over one billion.
4. Export potential
5. High consumer goods spending

Threats:

1. Removal of import restrictions resulting in replacing of domestic brands

2. Slowdown in rural demand
3. Tax and regulatory structure

The performance of the industry was inconsistent in terms of sales and growth for over 4
years. The investors in the sector were not gainers at par with other booming sectors.
After two years of sinking performance of FMCG sector, the year 2005 has witnessed the
FMCGs demand growing. Strong growth was seen across various segments in FY06.
With the rise in disposable income and the economy in good health, the urban consumers
continued with their shopping spree.
4. Company Overview: ITC Group
ITC is one of India's foremost private sector companies with a market capitalization of
nearly US $ 15 billion and a turnover of over US $ 4.75 billion. ITC is rated among the
World's Best Big Companies, Asia's 'Fab 50' and the World's Most Reputable Companies
by Forbes magazine, among India's Most Respected Companies by BusinessWorld and
among India's Most Valuable Companies by Business Today. ITC also ranks among
India's top 10 `Most Valuable (Company) Brands', in a study conducted by Brand
Finance and published by the Economic Times.
ITC has a diversified presence in Cigarettes, Hotels, Paperboards & Specialty Papers,
Packaging, Agri-Business, Packaged Foods & Confectionery, Information Technology,
Branded Apparel, Greeting Cards, Safety Matches and other FMCG products. While ITC
is an outstanding market leader in its traditional businesses of Cigarettes, Hotels,
Paperboards, Packaging and Agri-Exports, it is rapidly gaining market share even in its
nascent businesses of Packaged Foods & Confectionery, Branded Apparel and Greeting
Cards.
As one of India's most valuable and respected corporations, ITC is widely perceived to be
dedicatedly nation-oriented. Chairman Y C Deveshwar calls this source of inspiration "a
commitment beyond the market". In his own words: "ITC believes that its aspiration to
create enduring value for the nation provides the motive force to sustain growing
shareholder value. ITC practises this philosophy by not only driving each of its
businesses towards international competitiveness but by also consciously contributing to
enhancing the competitiveness of the larger value chain of which it is a part."
ITC's diversified status originates from its corporate strategy aimed at creating multiple
drivers of growth anchored on its time-tested core competencies: unmatched distribution
reach, superior brand-building capabilities, effective supply chain management and
acknowledged service skills in hoteliering. Over time, the strategic forays into new
businesses are expected to garner a significant share of these emerging high-growth
markets in India.
ITC's Agri-Business is one of India's largest exporters of agricultural products. ITC is one
of the country's biggest foreign exchange earners (US $ 2.8 billion in the last decade).
The Company's 'e-Choupal' initiative is enabling Indian agriculture significantly enhance
its competitiveness by empowering Indian farmers through the power of the Internet.
This transformational strategy, which has already become the subject matter of a case
study at Harvard Business School, is expected to progressively create for ITC a huge
rural distribution infrastructure, significantly enhancing the Company's marketing reach.

ITC's wholly owned Information Technology subsidiary, ITC Infotech India Limited, is
aggressively pursuing emerging opportunities in providing end-to-end IT solutions,
including e-enabled services and business process outsourcing.

ITC's production facilities and hotels have won numerous national and international
awards for quality, productivity, safety and environment management systems. ITC was
the first company in India to voluntarily seek a corporate governance rating.
ITC employs over 21,000 people at more than 60 locations across India. The Company
continuously endeavors to enhance its wealth generating capabilities in a globalizing
environment to consistently reward more than 4,46,000 shareholders, fulfill the
aspirations of its stakeholders and meet societal expectations. This over-arching vision of
the company is expressively captured in its corporate positioning statement: "Enduring
Value. For the nation. For the Shareholder.”
5. Financial Statement Analysis: ITC Ltd.

1. Ratio Analysis

A) Liquidity Analysis
Working Capital: Higher the current assets of a company and lower the current
liabilities, greater is the working capital. A larger chunk of working capital can be
used to fund the long term liabilities of the company and therefore, the larger the
working capital, the better it is for the company.

The following table gives the working capital of the three companies under
consideration for the three year period.

Figure I

Working Capital

30000.00
25000.00
20000.00
Working Capital
(In Rs. Million)

15000.00
10000.00
5000.00
0.00
-5000.00 2004-05 2005-06 2006-07
-10000.00
-15000.00
Year

ITC Marico HLL

Working Capital Days: Working capital days is defined as the ratio of the
working capital to the current liabilities of the company in any year.

For ITC Limited, the working capital shows more than a proportionate increase
when compared to the current liabilities of the company across the three years’ of
consideration. This therefore reflects in better liquidity of the company and is
shown by the upward movement of the working capital ratio in the graph below.
Figure II

Working Capital Days

50000.00 44619.10 0.60

0.55
45000.00 39655.60
0.50
40000.00
34896.80

Working Capital Days

35000.00
0.43 0.40

In Rs. Million
30000.00
25000.00 0.30
17051.91 24540.51
20000.00
0.20
15000.00
0.15
10000.00
0.10
5000.00
5234.52
0.00 0.00
2004-05 2005-06 2006-07
Year

Working Capital Current Liabilities Working Capital Days

Current Ratio: Current ratio is defined as an indicator of short-term debt paying

ability of a company. It is determined by dividing current assets by current
liabilities. The higher the ratio, it is believed that, the more liquid the company.

Here we observe that the current ratio of ITC is increasing over the three year
period under consideration. This is evident from the graph given below.

Figure III

Current Ratio

80000.00 1.80
69350.80
70000.00 1.60
1.43 1.55 1.40
60000.00

1.15 56561.40 1.20

In Rs. Million

Current Ratio

50000.00
44619.10 1.00
40000.00 40264.80
39655.60 0.80
30000.00 34896.80
0.60
20000.00
0.40
10000.00 0.20

0.00 0.00
2004-05 2005-06 2006-07
Year

Current Liabilities Current Assets Current Ratio

The reason why the ratio increases mainly is because of a more than proportionate
increase of the Current Assets when compared to the Current Liabilities.

Liquidity Ratio: Liquidity Ratio also measures a firm’s ability to meet its short-
term financial obligations on time. This is calculated by taking the ratio of the
current assets (less the Inventories held by the company.) The ratio is a better
measure of liquidity of the company. The graph below shows the change in the
same across the last three years.

Figure IV

Liquid Ratio

50000.00 0.80
45000.00 44619.10 0.70
40000.00 0.64
0.67 0.60
35000.00 39655.60
34896.80 30004.10
In Rs. Million

0.50

Liquid Ratio
30000.00
0.43
25000.00 0.40
25407.10
20000.00
0.30
15000.00 14834.00
0.20
10000.00
5000.00 0.10

0.00 0.00
2004-05 2005-06 2006-07
Year

Current Liabilities Current Assets (less Inventories) Liquid Ratio

The company has also shown an increasing trend in the liquidity ratio over the
years. The current assets (less inventories) have again increased more than
proportionately reflecting in an increasing liquidity ratio.

Absolute Cash Ratio: Another measure of the liquidity of the company, absolute
cash ratio measures the ratio of the Cash and Near Cash items in the current assets
to the current liabilities of the company.

According to the graph, the absolute cash ratio follows more or less the same
trend as the other two liquidity measures. The increase again is because of a more
than proportionate increase in the cash items (and near cash items) of ITC
Limited.
Figure V

Absolute Cash Ratio

50000.00 0.60
45000.00 44619.10
0.50
40000.00 0.48
0.51
39655.60

Absolute Cash Ratio

35000.00
34896.80 0.40

In Rs. Million
30000.00
25000.00 22755.74 0.30
20000.00 0.25
19034.69 0.20
15000.00
10000.00
8724.20 0.10
5000.00
0.00 0.00
2004-05 2005-06 2006-07
Year

Current Liabilities Cash and Near Cash Items Absolute Cash Ratio

Inventory days: This measure is one part of the cash conversion cycle, which
represents the process of turning raw materials into cash. The company possesses
raw materials/finished goods as inventories that it can sell off to turn into cash. It
is important to maintain inventories for a company but it is more important that
the company maintains the level of it so that there is no liquidity crunch on the
balance sheet.

The inventory days for ITC limited have fallen over the years. This is because
even though the company has maintained a larger amount of Inventories at the
end of every fiscal year so as to cater to the demand in the following years but the
cost of goods sold of the company has gone up but more than proportionately
when compared to the Inventories thereby resulting in decreasing Inventory days.

Figure VI

Inventory Days

45000.00 195.00

40000.00 191.51
190.00
39346.70
35000.00
185.00
30000.00
Inventory Days
In Rs. Million

31154.30
25000.00 180.00
25430.80
20000.00 175.94
175.00
15000.00 170.71
170.00
10000.00
165.00
5000.00 177.07 230.49
132.79
0.00 160.00
2004-05 2005-06 2006-07
Year

Inventories COGS per day Inventory Days

Debtor Days: This calculation shows the average number of days it takes a
company to receive payment from its debtors, the lower figure the better. A high
figure suggests inefficiency or potential bad debts.

The graph below for the ITC group reflects a fall in the debtor days of the
company. Though, over the period, the total debt to the company has shown an
increase, the sales have risen more than proportionately reflecting in lesser credit
given to buyers.

Figure VII

Debtor Days

8000.00 18.00
16.68
7000.00 6351.90 7330.40 16.00

13.48 14.00
6000.00 6209.40 14.04
12.00
In Rs. Million

5000.00

Debtor Days
10.00
4000.00
8.00
3000.00
6.00
2000.00
4.00
452.41 543.80
1000.00 372.27 2.00

0.00 0.00
2004-05 2005-06 2006-07
Year

Debtors Sales per day Debtor Days

Creditor Days: Creditor days is a similar measure to debtor days. It is the

average time that a company takes to pay its creditors from whom it takes
goods/raw materials on credit facility. Lengthening creditor days may mean that a
company is heading for financial problems as it is failing to pay creditors, on the
other hand it may mean that a company is simply getting better at getting good
credit terms out of its suppliers.

ITC Group is doing well in terms of creditor days. The company pays off its debts
at regular intervals and does not try to accumulate them that could lead to
payment problems in the future. Though the amount of credit given to the
company as increased over the years, the company has registered a higher growth
rate in the sales per ay and therefore the cost of the goods sold.
 Figure VIII

Creditor Days

30000.00 180.00

160.00
25000.00 153.73 22820.60
25486.50 140.00

20000.00 128.88 120.00

20413.50 110.55

In Rs. Million

Creditor Days
100.00
15000.00
80.00

10000.00 60.00

40.00
5000.00
177.07 230.54 20.00
132.79
0.00 0.00
2004-05 2005-06 2006-07
Year

Creditors COGS per day Creditor Days

B) Solvency Analysis

Debt-Equity Ratio: The debt-to-equity ratio offers one of the best pictures of a
company's leverage. The higher the figure, the higher is the leverage the company
enjoys. Mathematically, it is defined as the ratio of the total debt to the total
equity of the company under consideration at any point of time.

Over the last three years, ITC Limited has shown a mix-match of the debt-equity
ratio. This is evident from the graph below that the company paid off a significant
part of its loan in the FY ’06, but again went in for commercial borrowings in the
form of long term loans which resulted in an increase in the debt to the total
equity available with the company.

Figure IX

Debt-Equity Ratio

120000.00 107541.60 0.0350

0.0309 93032.10 0.0300

100000.00
80025.70 0.0250
Debt-Equity Ratio

80000.00
In Rs. Million

0.0187 0.0200
60000.00
0.0150
0.0158
40000.00
0.0100

20000.00 0.0050
1466.80
0.00 2469.80 0.0000
2009.00
2004-05 2005-06 2006-07
Year

Debt Equity DER

Interest Coverage Ratio: The interest coverage ratio is a measurement of the
number of times a company could make its interest payments with its earnings
before interest and taxes. Lower the ratio, higher is the company’s debt burden.
This is measured as the ratio between the profit before interest and taxes to the
interest amount paid that year.

The graph below shows the interest coverage ratio of ITC Limited over the three
year period. It is observed that ITC has reported a gradual and continuous increase
in profit over the last three years of operation. Also, the company’s interest
amount has gone down significantly over the last three years. This has resulted in
a two way push in the figure for Interest coverage ratio, which is measured as
shown above.

Figure X

Interest Coverage Ratio

45000.00 1400.00

40000.00 1198.16 1200.00

32811.20 39299.80
35000.00

Interest Coverage Ratio

1000.00
30000.00
In Rs. Million

25000.00 27155.00 800.00

20000.00 600.00
15000.00
400.00
10000.00
275.03 200.00
5000.00 119.30
424.30 32.80
64.00
0.00 0.00
2004-05 2005-06 2006-07
Year

PBIT Interest Interest Coverage Ratio

Debt to Total Funds: The ratio here is self explanatory and measures the share of
the debt to the total capital employed (funds) in the company. Capital employed
for this purpose, we define as, the amount of long term liabilities of the company,
which comprises of loans and owner’s fund (which includes capital and reserves.)

The diagram below shows the debt share in the total capital employed in ITC
limited. The total funds in the organization have been on the up and this
contribution is entirely due to the profits that the company is accumulating during
the years. The company over the three year period has done away with part of the
loans and has possibly substituted a part of the same for cheaper ones. This
cumulative effect results in an increase in the capital employed in the company
and hence a lower debt share.
Figure XI

Debt Ratio

120000.00 0.035

0.030 94498.90 109550.60 0.030

100000.00

0.025
80000.00 82495.50

In Rs. Million

Debt Ratio
0.018 0.020
60000.00
0.015
0.016
40000.00
0.010

20000.00 0.005
2469.80 1466.80 2009.00
0.00 0.000
2004-05 2005-06 2006-07
Year

Total Funds Debt Debt Ratio

Reserves to Total Fund: The ratio between the reserves maintained by the
company to the capital employed by it measures the level of self created wealth
that is used to fund the company’s operations.

ITC Limited has shown small but continuous increment in the reserve share in the
capital employed. This is because over the last three years, the company has
maintained about 95% of the reserves as capital employed. It can be seen below
that the debt for the company has fallen but the total income, PBIT, and therefore
the reserves, have significantly risen over the years

Figure XII

Rererves Ratio

120000.00 0.947 0.948

103779.40
109550.60
100000.00 89276.90 0.946
82495.50 94498.90
80000.00 0.945 0.944
Resreves Ratio
In Rs. Million

77531.40
60000.00 0.942

40000.00 0.940 0.940

20000.00 0.938

0.00 0.936
2004-05 2005-06 2006-07
Year

Total Funds Reserves Reserves Ratio

Debt Service Ratio: Debt Service Ratio is the ratio of net operating income
(PBIT) to the debt payments. It is a popular benchmark used in the measurement
of an income-producing property’s ability for the business. The higher this ratio
is, the easier it is to borrow money for the business.
 The PBIT for the company has been showing an increasing trend over the last few
years (under consideration.) Also, the debt amount for the company has gone
down over time. This has therefore resulted in a net increase in the debt service
for the period under consideration.

Figure XIII

Debt Service Ratio

45000.00 25.00
22.37
40000.00
39299.80 20.00
35000.00
19.56

Debt Service Ratio

30000.00 27155.00 32811.20
In Rs. Million

15.00
25000.00

20000.00 10.99
10.00
15000.00

10000.00 5.00
5000.00 2469.80 1466.80 2009.00

0.00 0.00
2004-05 2005-06 2006-07
Year

PBIT Debt Debt Service Ratio

C) Profitability
PBIT (Operating Income) to Sales: The ratio between the profit before interest
and taxes (equal to the operating income, in our case) to that of the sales for the
given period during which the profit has been earned is a measure of the
profitability of the company for that period.

As reported earlier, ITC Limited has done well in the last few years and has
continuously reported higher and higher profit every subsequent time. The sales
of the company have also experienced a similar trend that has led to the expansion
of profit. Because the growth in the two components has nearly been equal, the
ratio between them has not changed significantly. It has marginally dropped from
20% to about 19.8% in the FY ’07. This is shown in the diagram below:
Figure XIV

PBIT-Sales Ratio

250000.00 0.201

198415.40 0.200
200000.00 0.200
165105.10
0.200

PBIT-Sales Ratio
In Rs. Million
150000.00
0.199
135853.90
0.199 0.199
100000.00
0.198
0.198
50000.00
27155.00 0.198
32811.20 39299.80

0.00 0.197
2004-05 2005-06 2006-07
Year

PBIT Sales PBIT-Sales Ratio

PAT to Sales: PAT or, the profit after tax is directly correlated with the profit
before tax. The interest component is the sole parameter that can differentiate the
trend followed by the ratio above and this one.

PAT for ITC Limited, like PBIT, has shown an upward trend. The financing
decisions and also the tax have altered the overall impact on the profitability of
the company. While PAT has risen by about 23% over the period under
consideration, the sales have increased by over 46%. This has resulted to a fall in
the PAT-Sales ratio of the company.

Figure XV

PAT-Sales Ratio

250000.00 0.165
0.161
198415.40 0.160
200000.00 0.155
165105.10
0.150
PAT-Sales Ratio
In Rs. Million

150000.00
0.145
135853.90
0.136 0.140
100000.00
0.135
0.135
50000.00 0.130
21914.00
0.125
22353.50 26999.70
0.00 0.120
2004-05 2005-06 2006-07
Year

PAT Sales PAT-Sales Ratio

Return on Networth (RONW): The ratio of net income after taxes to total end
of the year net-worth of the company is called the RONW for that company. This
ratio indicates the return on stockholder's total equity that is invested in the
business.
The networth of the company, ITC Limited, has increased over the period under
consideration, the increment being about 35% fro the three year period. On the
other hand, the increase in the PAT of the company over the two years is about
23%. Therefore the ratio of the PAT to that of the networth of the company has
fallen from about 27.4% to 25.1%. This is depicted in the graph below:

Figure XVI

RONW

120000.00 0.280
0.274
100000.00 107541.60 0.270

80025.70 93032.10
80000.00 0.260
In Rs. Million

0.251

RONW
60000.00 0.250
0.240
40000.00 0.240

26999.70
20000.00 0.230
21914.00 22353.50

0.00 0.220
2004-05 2005-06 2006-07
Year

Networth PAT RONW

Return on Capital Employed (ROCE): The return on capital employed is

another measure of the returns that the business generates. This is expressed as the
ratio between the profit before interest and taxes (PBIT) to the Capital Employed
(Loans and Owner’s Fund) in the business.

For ITC Limited, it is seen that the return on capital employed in the business
increases overtime. While the capital employed rises by about 33% over the last
few years under consideration, the PBIT, profit before interest and taxes shows a
greater rise (approximately 45%) in the time frame. This therefore results in a net
increase in the return on capital employed for the company and the return now
stands at about 36% when compared to about 33% in 2004-05.

Figure XVII
 ROCE

120000.00 109550.60 0.365

0.360
94498.90
100000.00 0.355
0.359
82495.50 0.350
80000.00 0.347

In Rs. Million
0.345
0.340

ROCE
60000.00
0.335

0.329 0.330
40000.00 39299.80
0.325
32811.20
20000.00 27155.00 0.320
0.315
0.00 0.310
2004-05 2005-06 2006-07
Year

Capital Employed PBIT ROCE

Return on Total Assets (ROTA): The return on Total Assets is yet another
method of calculating the return of the company. This is calculated by taking the
ratio between the PBIT (Profit before Interest and Taxes) to the Total Assets of
the company.

The total assets for ITC Limited have increased by over 31% in the last three
years. As reported earlier, the profit before interest and tax, PBIT, has shown
approximately a 45% increase in the stipulated time period. Therefore, ROTA,
which is a measure of these two figures, has shown an increase over the years
under consideration. The return on total assets has risen from about 23% in 2004-
05 to over 25.5% in 2006-07.

Figure XVIII

ROTA

180000.00 0.260
0.255
160000.00 0.255
134154.50
140000.00 154169.70 0.250
117392.30
120000.00 0.245
0.245
In Rs. Million

100000.00 0.240
ROTA

80000.00 0.235
0.231
60000.00 0.230

40000.00 39299.80 0.225

20000.00 32811.20 0.220

27155.00
0.00 0.215
2004-05 2005-06 2006-07
Year

Total Assets PBIT ROTA

Earnings per share: (EPS): Earnings per share, as it is called, are a company's
profit after tax (PAT) divided by its number of outstanding (equity) shares. It is
therefore measured as the portion of a company's profit allocated to each
outstanding share of common stock. EPS serves as an indicator of a company's
profitability.

The PAT (profit after tax or earnings) for ITC Limited has risen by over 23% in
the last three years of operation. It is to be noted that there was a stock split in the
year 2005-06 due to which the face value of the shares changes from Rs. 10/- per
share to from Rs. 1/- per share. As a result, the number of shares changed from
248,221,329 in 2004-05 to 3,762,222,780 in 2006-07.

Figure XIX

EPS

1.000
0.883
0.800

0.600
EPS

0.400

0.200 0.060
0.072
0.000
2004-05 2005-06 2006-07
Year

ITC

Dividend per share: Dividend is defined as the amount of profit that is

distributed among the shareholders of the company. Declaration of this is
dependent solely on the decision of the management, whether they want to retain
it for reinvestment or distribute to the shareholders, the actual owners of the
company. The total interim dividend divided by the number of equity shares of
the company measures the dividend per share in our case.

As mentioned earlier, there was a stock split for ITC Limited in the year 2005-06
that resulted in more than a 10 fold increase in the number of equity shares in the
market. Even though the distributed dividend increased over the last few years
continuously, the dividend per share fell drastically for the company in 2005-06 to
rise again in 2006-07.

Figure XX
 DPS

0.350
0.300 0.312

0.250
DPS 0.200
0.150
0.100
0.050 0.026
0.031
0.000
2004-05 2005-06 2006-07
Year

CFO to PAT: The ratio between Cash Flow from Operating Activities (CFO) to
Profit After Tax (PAT) measures to what extent operations of the company affect
the profit of the company. In other words, how much of the company’s profit
comes from core businesses rather than investment and financing decisions.

For ITC Limited, the cash flow from operating activities has shown a great degree
of improvement. The net cash flow from operations stands over 41.5% in 2006-
07, up from Rs. 15872 million in 2004-05. On the other hand, the PAT has risen
by about 23.2% in the same period. Therefore, the net increase in the CFO-PAT
ratio for the period has been about 15%. This is shown by an upward rising curve
for the CFO-PAT Ratio.

Figure XXI

CFO-PAT Ratio

30000.00 1.000
0.938 0.900
26999.70
25000.00 0.832
0.724 0.800
20966.10
0.700
20000.00 21914.00 22476.10
CFO-PAT Ratio

22353.50
In Rs. Million

15872.00 0.600
15000.00 0.500
0.400
10000.00
0.300
0.200
5000.00
0.100
0.00 0.000
2004-05 2005-06 2006-07
Year

CFO PAT CFO-PAT Ratio

D) Market Based Returns

Price-Earning Ratio (PER): Price-Earnings ratio is a measure of the price paid
for a share relative to the income or profit earned by the firm per share. A higher
P/E ratio means that investors are paying more for each unit of income.

The market value of the shares after the stock split has shown tremendous
response from the market. From a figure of about Rs. 90/- in the market in 2004-
05, the share traded at Rs. 150/- at the end of 2006-07. Also, the earnings per
share, as a result of the split have fallen down drastically to thereby reduce the
earnings per share in the last two years. Therefore, a two way positive movement
has resulted in almost a 2000% increase in the P-E ratio for the company.

Figure XXII

P/E Ratio

250.00 35.000
32.674
30.000
200.00
25.000
194.50 150.40
In Rs. Million

150.00

P/E Ratio
20.000
20.957

89.59 15.000
100.00

88.28 10.000
50.00
5.000
5.95 7.18
1.015
0.00 0.000
2004-05 2005-06 2006-07
Year

Market Value Earnings per share P/E Ratio

Market Capitalization: The market capitalization of the company is defined as

the market value of the number of equity shares being traded in the market at that
point of time.

It is evident from the graph below that the market capitalization for the company
has increased during the last three years by about 70%. This increase can be owed
to an increase both in the market value of shares as also a split in the shares
resulting in a higher number of shares traded in the market. The fall in the
capitalization from FY 2006 to FY 2007 is a result of the fall in market value of
the shares and a lesser magnitude of demand for the same in the open market.

Figure XXIII
 Market Capitalization

800000
732070
700000
600000
565830
In Rs. Million 500000
400000
334330
300000
200000
100000
0
2004-05 2005-06 2006-07
Year

Price Book Ratio: The Price Book ratio is defined as the ratio between the
market capitalizations to the networth of the company at any given point of time.

Over the three year period, the market capitalization for the company has shown a
net upward trend. The market capitalization rose from about Rs. 22.2 billion in
2004-05 to Rs. 565.83 billion in 2006-07. The networth of the company reported
an increase from about Rs. 80 billion in 2004-05 to Rs. 107.5 billion in 2006-07.
The net effect on the PB ratio of the company is therefore shown as an increase by
about 26% and stands at 5.26 in the year 2006-07.

Figure XXIV

PB Ratio

800000 732070 9.00

700000 8.00

7.87 565830 7.00

600000
6.00
In Rs. Million

500000
PB Ratio

5.00
400000 4.18 5.26
4.00
300000
334330 3.00
200000
93032.10 107541.60 2.00
100000 80025.70 1.00

0 0.00
2004-05 2005-06 2006-07
Year

Market Capitalization Networth P-B Ratio

6. Financial Statement Analysis: Inter
Company

Ratio Analysis

A) Liquidity Analysis
Working Capital: Higher the current assets of a company and lower the current
liabilities, greater is the working capital. A larger chunk of working capital can be
used to fund the long term liabilities of the company and therefore, the larger the
working capital, the better it is for the company.

The following table gives the working capital of the three companies under
consideration for the three year period.

Figure XXV

Working Capital

30000.00
25000.00
20000.00
Working Capital
(In Rs. Million)

15000.00
10000.00
5000.00
0.00
-5000.00 2004-05 2005-06 2006-07
-10000.00
-15000.00
Year

ITC Marico HLL

It is evident that ITC is by far the best company (among the three) in terms of
building up its net current assets. The company is increasingly using its short term
funds to pay for the long term liabilities. HLL on the other hand is deteriorating in
quality and is gradually getting overburdened by increasing pressures due to a
negative working capital.

Working Capital Days:

A comparative analysis across other companies in the FMCG segment shows that
HLL has worsened its working capital ratio. In fact, the company has increased
the magnitude of the negative working capital because of which a part of the long
term assets are used to fund the short term liabilities. Marico on the other hand,
has shown a marginal increase in the working capital ratio and still leads ITC’s
working capital ratio by over 50%.

Figure XXVI

Working Capital Days

1.20 1.02
1.00
Working Capital Days

0.80
0.56 0.82
0.60 0.55

0.40
0.43
0.20
0.15
0.00 -0.05

-0.20 2004-05 2005-06 2006-07

-0.27 -0.25
-0.40
Year

ITC Marico HLL

Current Ratio:

The reason why the ratio increases mainly is because of a more than proportionate
increase of the Current Assets when compared to the Current Liabilities.

The graph below shows the comparison of ITC vis-à-vis the other two
competitors chosen in the market. We observe that in the year 2004-5, Marico had
the best Current Ratio but gradually, with a rapid growth in the current assets of
ITC, it has come at par with the leaders with the falling trend in the industry (as
shown by the other two companies) in the sector.

Figure XXVII

Current Ratio

2.50

2.00 2.02
1.82
1.50 1.56 1.55
1.43
Ratio

1.15
1.00 0.95
0.73 0.75
0.50

0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Liquidity Ratio:

Also, when compared to the companies, while the current ratio for Marico and
ITC converges, the gap is more or less the same for liquidity ratio. This implies
that the company as been maintaining a huge amount of inventories (unlike
Marico, whose inventory amount is almost constant) that form a part of the
company’s current assets. The graph below defines the analysis presented here.

Figure XXVIII

Liquid Ratio

1.20
1.13
1.08
1.00
0.89
0.80
0.67
Ratio

0.60 0.64
0.55
0.40 0.43 0.4 0.41

0.20

0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Absolute Cash Ratio:

Marico reflects a phenomenal growth in possessing liquid assets to finance its

current liabilities. Though, it is to be noted that ITC too shows a more than 100%
increase in the absolute ratio. The company is catching up with the leader (among
the three) and is therefore on a good growth path.

Figure XXIX

Absolute Cash Ratio

1.20

1.00 0.98
0.80
0.7
Ratio

0.60 0.61
0.48 0.51
0.40 0.42
0.28 0.31
0.25
0.20

0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Inventory days:

The following graph gives a comparative performance of the company in the

sector. Both HLL an ITC have experienced a fall in the inventory days due to
larger sales and larger cost of the goods sold. Also, both companies have
maintained a larger and larger stock of inventories over the three year period,
every subsequent year. Marico on the other hand has shown more that a 50%
increase in sales in the three tear frame but has still maintained almost the same
amount of inventories every year for its operations.

Figure XXX

Inventory Days

45000.00 195.00

40000.00 191.51
190.00
39346.70
35000.00
185.00
30000.00

Inventory Days
In Rs. Million

31154.30
25000.00 180.00
25430.80
20000.00 175.94
175.00
15000.00 170.71
170.00
10000.00
165.00
5000.00 177.07 230.49
132.79
0.00 160.00
2004-05 2005-06 2006-07
Year

Inventories COGS per day Inventory Days

Debtor Days:

A comparative analysis of the figure under consideration shows that the debtor
days in the industry have a downward trend and ITC is no exception. Companies
like HLL and Marico have shown a more significant fall in the figure owing both
to increasing sales and lesser comparative credit given.

Figure XXXI

Debtor Days

18.00 16.92
15.83
16.00 16.68
15.93 15.54
14.00 13.48
14.04
Debtor Days

12.00 12
10.00
8.00 9.68
6.00
4.00
2.00
0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

 Creditor Days:

Comparatively, ITC has done very well in the FMCG industry. While the other
two companies have registered higher growth in the sales per day of the goods,
ITC has cut its costs significantly and has maintained low creditors on the other
hand to reflect in lower creditor days for the company.

Figure XXXII

Creditor Days

200.00
180.00
177.27 176.56
160.00 176.52
153.73
Creditor Days

140.00
120.00 138.98 110.55
128.88
100.00 84
80.00 54.5
60.00
40.00
20.00
0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

B) Solvency Analysis

Debt-Equity Ratio:

Across the industry, it has been observed that there is a similar sort of a mix and
match. While HLL funds its operations from lower and lower loans every year,
Marico feels that a tradeoff between usage of capital and usage of loans needs to
be done. Increasingly, the latter is funding its operations through more and more
debt, possibly because of a lesser cost of the same.

The graph below interprets the results written above.

Figure XXXIII

Debt-Equity Ratio

1.4000
1.2000 1.3046

Debt-Equity Ratio
1.0000 0.9165

0.8000 0.7030
0.6000
0.4000 0.3030

0.2000 0.0247 0.0267

0.0309 0.0187
0.0000 0.0158
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Interest Coverage Ratio:

ITC Limited is by far the biggest “gainer” in terms of the interest coverage ratio.
While HLL also intends to be a self funded company by letting off its loans from
the open market, ITC follows somewhat the same strategy thereby leading to an
increment in the Interest coverage for both. Also, while the increase in the interest
coverage for HLL is about 1287%, the ITC Group shows a fabulous 1772%
increment in the interest coverage ratio in three years. On the other hand, Marico
Limited uses more and more debt to fund its operation resulting in a lower interest
coverage ratio when compared to oneself two years back!

Figure XXXIV

Interest Coverage Ratio

1400.00
1198.16
Interest Coverage Ratio

1200.00
1000.00
800.00
600.00
400.00 174.50
275.03
200.00 64.00 84.61
38.15 8.29
0.00
12.58 20.60
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Debt to Total Funds:

Comparatively, HLL, also a very big organization with a significant time period
of existence in the market gets self funded and thereby has let go off its debt in
the three years. This has reflected in a lower debt share for the company.
Conversely, Marico, an upcoming organization is constantly borrowing money
from the market, at a rate that is faster than the accumulation of profits (even
though it is doing well in terms of creating wealth for the shareholders, increasing
profit.) Graphically, this is depicted below.

Figure XXXV

Debt Ratio

0.600 0.566
0.500
0.478
0.400
Debt Ratio

0.413
0.300
0.233
0.200

0.100 0.026
0.030
0.024 0.018
0.016
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Reserves to Total Fund:

While ITC has shown an increment in the reserves share to the capital employed,
old companies in the market are also picking up the same trend. HLL is gradually
using more funds of its own to run its operations. On the other hand, a relatively
new organization, Marico has increased the share of debt to acquire a larger
position in the market and get more capital.

Figure XXXVI

Reserves Ratio

1.000 0.940 0.947

0.945
0.900
0.800 0.883 0.895
Reserves Ratio

0.700
0.600 0.562
0.500 0.525
0.400
0.406 0.297
0.300
0.200
0.100
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

 Debt Service Ratio:

Across companies, ITC and HLL follow the same trend in the form of the pattern
followed for the debt service ratio. Both companies have been reporting large
profits and have been letting go of the loans taken from the free market to make
them a more self funded organization. Marico on the other hand reflects a falling
debt service due to a more than proportionate increase in the debt when compared
to the profit for that year.

Figure XXXVII

Debt Service Ratio

30.00

25.00 28.52
Debt Service Ratio

22.37 25.79
20.00 19.56

15.00 10.99
10.00

5.00
1.16 0.68
0.00 1.11 0.43
2004-05 2005-06 2006-07
Year

ITC Marico HLL

C) Profitability
PBIT (Operating Income) to Sales:

Other companies in the segment have experienced a similar trend in the ratio
defined above. While for Marico, the ratio rose from 7.6% to about 11%, the
PBIT figure for HLL is about 14.25% of the Sales. Overall, ITC has the highest
return on the investment, if measured by this parameter.
Figure XXXVIII

PBIT-Sales Ratio

0.250
0.200 0.199 0.198
0.200

PBIT-Sales Ratio
0.150 0.140
0.146
0.132 0.110
0.100
0.076
0.090
0.050

0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

PAT to Sales:

Across companies in the industry, the PAT-Sales ratio has shown a trend that
hovers around the same value. Companies like HLL and Marico maintain a
constant ratio for their company of about 11.1% and 7.2% respectively. This
could be because of the increasing tax that the company has to bear with from the
second year of consideration.

Figure XXXIX

PAT-Sales Ratio

0.180 0.161
0.160
0.135 0.136
0.140
PAT-Sales Ratio

0.120 0.115
0.100 0.107 0.110
0.080 0.070
0.076 0.073
0.060
0.040
0.020
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Return on Networth (RONW):

While ITC Limited was the best company, among the three, when looked at from
the point of view of PBIT or PAT to Sales, the company is a laggard when
measured in terms of the RONW. Clearly, from the diagram below, it is evident
that the other two companies, Marico and HLL are better performers in terms of
the return for the shareholder’s monies. While HLL maintains its high return on
the networth of about 57%, Marico has performed strongly in the last two years to
rise from a low level of 32% to nearly 60%.

Figure XL

RONW

0.700
0.587
0.600
0.573 0.587
0.500 0.565
RONW

0.400 0.332
0.323
0.300 0.240 0.251
0.200 0.274

0.100
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Return on Capital Employed (ROCE):

According to the return on capital employed, the company that has performed the
best (among the three) in terms of wealth creation for the shareholders would be
Hindustan Lever Limited. From a figure of about 33.7% in 2004-05, the company
now has a ROCE of over 55% in the market. The profit margins for ITC hover
around the 35% mark while that of Marico Limited move around 25%.

Figure XLI

ROCE

0.700
0.600
0.573
0.500 0.551
ROCE

0.400 0.337 0.347 0.359

0.300 0.329 0.255
0.248 0.173
0.200
0.100
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Return on Total Assets (ROTA):

When considered on the basis of ROTA, ITC fares as well as HLL which had
been better in terms of ROCE and RONW. The figures for the two companies
hover around the 25% mark in the years under consideration. The corresponding
figure for that of Marico is about 20% (on an average) and ranges from a low of
15.2% to a high of 23.5%. This is presented in the diagram below.

Figure XLII

ROTA

0.300
0.245 0.256
0.250 0.225 0.255
0.231 0.250 0.235
0.200
0.189 0.152
ROTA

0.150

0.100

0.050

0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Earnings per share: (EPS):

The earnings per share of ITC and Marico and ITC have drastically fallen over the
last three years. This is because there has been a stock split in both cases that has
brought down the face value of the shares in the market resulting thereby in an
increment in the number of equity shares available for trade. Therefore, despite an
increase in the total earnings offered by the company, the earnings per share fall
drastically. On the other hand, the number of shares of HLL in the market remains
steady and the earnings (PAT) increases every year. This therefore results in an
increment in the earnings when considered in per share terms.

Figure XLIII

EPS

16.000 14.979
14.000
12.000 12.095
10.000
EPS

8.000 6.977
5.448
6.000
6.153
4.000
2.000 0.883
0.060 0.072 1.854
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Dividend per share:

ITC Limited and Marico over the last few years have experienced a huge fall in
the dividend distributed per share because of reasons mentioned above. The
earnings per share for the third company, HLL, shows an increase in the dividend
distributed per share owing to the increasing dividend paid by the management to
the shareholders.

Figure XLIV

DPS

7.000 6.200
6.000
5.000 5.350
4.000
DPS

2.999
3.000 2.500

2.000 2.500

1.000 0.312
0.026 0.031 0.641
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

CFO to PAT:

Other companies like Marico and HLL, operating in the same segment have
followed more or less the same trend like ITC. Though, on a larger scale, it should
be observed that Marico has reported a 185% increase in the ratio when compared
three years back. HLL on the other hand has reported a marginal fall of about 5%
in the ratio for the period.

Figure XLV

CFO-PAT Ratio

2.000 1.897
1.800
1.600 1.669
CFO-PAT Ratio

1.400
1.085 1.453
1.200 1.036
0.938
1.000
0.800 0.724
0.832
0.600
0.586
0.400
0.200
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

D) Market Based Returns

Price-Earning Ratio (PER):

The industry has altogether shown an increase in the Price-Earnings ratio. It is

observed that in the last three years, the value of P/E has risen for all the three
companies, whether or not the company has gone in for a stock split. Among the
three, Marico has experienced the highest increment in the ratio (in absolute
terms), after ITC Limited itself. The following graph reflects the trend in the ratio
that has been observed in these three companies over the last three years.

Figure XLVI

P/E Ratio

35.000 32.674 33.063

30.000 26.339 32.056 31.038
25.000
P/E Ratio

20.000 20.957

15.000
10.000
2.009 3.604
5.000
1.015
0.000
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Market Capitalization:

Across companies too, the market capitalization has shown a net increase
representing a good growth component in the sector and the confidence of the
buyers who continue to buy the stocks of such companies. HLL and Marico have
consistently shown an increase in the market capitalization for the years under
consideration. This is graphically depicted as below.
Figure XLVII

Market Capitalization

800000.00 732070.00
700000.00
600000.00
In Rs. Million 565830.00
500000.00
334330.00 477877.36
400000.00 434195.34
300000.00
315878.48
200000.00
100000.00 37331.70
1409.40 3130.84
0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

Price Book Ratio:

Across companies, ITC Limited rates poorly for the Price Book Ratio. In fact,
while Marico shows a stupendous performance for the three years reflecting a
2887% increase in the PB ratio, ITC reports only a meager 26% increase. Also,
HLL reports a 16% increment in the ratio, but still manages to hold its position at
the second level pushing ITC to the lowest figure in the industry when compared
across the other two companies.

Figure XLVIII

PB Ratio

25.00

20.00 19.41
15.09 18.83 17.55
PB Ratio

15.00

10.00 7.87

5.00 4.18 5.26

1.20
0.65
0.00
2004-05 2005-06 2006-07
Year

ITC Marico HLL

7. Du-Pont Analysis
Figure XLIX

ROCE =
0.36

Operating
Decision Investmen Financing
= t Decision Decision
0.198 = 1.29 = 1.41

Sales / Sales / Total

Operating Total
COGS / Depreciati Fixed Sales / Sales / Other Assets /
Expenses Assets /
Sales = on / Sales Assets = Inventory Debtors = current Networth
/ Sales = Debt =
0.42 = 0.02 3.32 = 5.04 27.07 Assets = = 0.70
0.36 0.01
8.75

The above diagram shows the Du-pont analysis for ITC limited for the year 2006-07. The
return on the capital employed (ROCE) as per the calculation shown above is about 36%.
This can be broken down into Operating decision ratio, PBIT/Sales, Investment decision
ratio, Sales/Total Assets and Financing decision ratio, Total Assets/Capital employed.

Further, each of the decisions can be broken down to arrive at the sub-segment wise ratio.
The company can cut its expenses wherever the ratio is very high when compared to the
other FMCG industries in the country so as to economize its
operations/financing/investments. The macro level analysis along with a part of the micro
level analysis has been done earlier. We now look at the values that we find out after
putting them in a table to make a comparative study.

Table I

Values for 2006-07 ITC Marico HLL

COGS/Sales 0.42 0.53 0.49
Operating Expenses/Sales 0.36 0.35 0.36
Depreciation/Sales 0.02 0.03 0.01
Sales/Fixed Assets 3.32 7.40 8.86
Sales/Inventories 5.04 7.93 8.65
Sales/Debtors 27.07 37.71 30.41
Sales/Other Assets 4.16 5.60 3.51
Total Assets/Debt 76.74 2.89 100.81
Total Assets/Capital 40.98 11.92 33.17
Total Assets/Reserves 1.49 5.52 2.92
From the table above, we see that the COGS/Sales of all the companies under
consideration are about the 50% mark. Though, ITC lags behind its competitors on this
parameter. What ITC needs to do is reduce the cost of consumption of goods that it buys
as raw materials from the market. It has to make bulk purchases and needs to increase its
negotiating ability through a stronger purchase team.

Operating Expenses/Sales is almost the same for all the three competitors and therefore
ITC is using the best practice here for the operational expenses.

Depreciation/Sales is also at a negotiable level for the company. In fact, the company
holds a better position when compared to Marico. The company can still try and assume a
greater life cycle, if possible, for its machinery and other fixed assets to come at par with
the other leading competitors in the domain for the segment.

The company maintains a high amount of fixed assets that accounts for the high
depreciation. This is reflected here by the small value of Sales/Fixed Asset as reflected by
the company’s balance sheet.

The company also has a policy of maintaining a larger stock of inventories than its other
competitors. This is reflected in the low amount of Sales/Inventories that the company
possesses.

The company maintains a low figure for Sales/Debtors which is a good sign. The
company should make sure that such kind of an advantage over others is maintained.

Sales/Other Assets for the company is at a medium level. The company should try and
take measures to overtake the leader by reducing the amount of other assets maintained or
conversely increasing the sales of the company if such levels of assets are to be
maintained.

Reserves are the liability of the company. ITC Limited maintains a low level for the Total
Assets to Reserves ratio thereby implying a larger reserve than required. The company
should pay off the reserves to the shareholders so as to move towards the better circle of
companies performing the best in the industry.

The higher the figure for the Total Assets to Debt, the better is the company. A larger
debt implies a larger inability on part of the company to pay off its debtors. A larger level
of fixed assets can fund the payment of debt if the current assets of the company cannot
help in funding the same.

Similarly, the company scores very well for the ratio of the Total Assets to Capital and
needs to continue to maintain such high standards.
8. Economic Value Addition
Economic Value Added (EVA), or economic rent, is a widely recognized tool that is used
to measure the efficiency with which a company has used its resources. In other words,
EVA is the difference between return achieved on resources invested and the cost of
resources. Higher the EVA, better the level of resource unitization.

EVA is calculated as the difference between the Net Profit (after tax but before interest)
less cost of capital employed (equity + debt). Interest is not taken as an expense since this
is part of cost of capital (interest on debt).

There is no mentioning of the economic value added for the company in the balance
sheet. WE therefore try and calculate the EVA with the assumptions that we take as per
the industry trend. We first take a simple regression analysis to calculate the average
values of ‘Kd’ and ‘Ke’ by looking at the companies in the FMCG industry.
Table II
Kd Ke
Estimated Values 5.90% 16.38%

We now calculate the NOPAT and the Cost of Capital as per the following formula for
the three companies for the year 2007. The following table shows the values.

Table III

Figures are in Rs. crores ITC Marico HLL

PAT 26,999.70 1,129.10 15,396.70
Interest 32.80 206.00 107.30
Tax 0.3124 0.2478 0.1730
NOPAT 27022.25 1284.06 15485.44

We calculate the values of NOPAT for the companies as given above. We look at the
Cost to employ the capital after that.

Table IV

Figures are in Rs. crores ITC Marico HLL

Debt 2,009.00 2,509.70 726.00
Equity 107,541.60 1,923.80 27,234.90
Capital Employed 109,550.60 4,433.50 27,960.90
WaCC 0.1619 0.1045 0.1611
Cost of Capital 17733.85 463.19 4503.91
Finally, we compute the economic value added for the companies for the year 2007, by
calculating the difference between the NOPAT and the Cost of Capital hence obtained.

Table V
 Figures are in Rs. crores ITC Marico HLL
Economic Value Added 9288.41 820.87 10981.53

Thus, we see that all three companies have reported positive economic value additions;
the magnitude of value addition differs for each of the players. According to the figures
hence obtained, Hindustan Lever adds the highest value to its products and therefore is
among the better companies in the FMCG Industry. It has also been noted in the ratio
analysis that HLL is always decently scored when compared to the other two companies
which are seen at both extremes.

ITC on the other hand is an equally good company, though; we believe there are certain
areas that ITC Limited can improve its position upon. These have been mentioned in the
Ratio and Du-pont analysis of the company as shown above in the report.

Finally, Marico is an upcoming company in the FMCG Industry and is doing pretty well
in the industry. The company has reflected tremendous growth in the return on
investment and is also creating a positive economic value. The company promises to
make huge impact on the overall industry and emerge as one of the leaders of tomorrow.
9. Accounting Policies
Convention

To prepare financial statements in accordance with applicable Accounting Standards in

India. A summary of important accounting policies, which have been applied
consistently, is set out below. The financial statements have also been prepared in
accordance with relevant presentational requirements of the Companies Act, 1956.

Basis of Accounting

To prepare financial statements in accordance with the historical cost convention

modified by revaluation of certain Fixed Assets as and when undertaken as detailed
below.

Fixed Assets

To state Fixed Assets at cost of acquisition inclusive of inward freight, duties and taxes
and incidental expenses related to acquisition. In respect of major projects involving
construction, related pre-operational expenses form part of the value of assets capitalized.
Expenses capitalized also include applicable borrowing costs. To adjust the
original cost of imported Fixed Assets acquired through foreign currency loans at the end
of each financial year by any change in liability arising out of expressing the outstanding
foreign loan at the rate of exchange prevailing at the date of Balance Sheet. To capitalize
software where it is expected to provide future enduring economic benefits.
Capitalization costs include license fees and costs of implementation / system integration
services. The costs are capitalized in the year in which the relevant software is
implemented for use. To charge off as a revenue expenditure all up gradation /
enhancements unless they bring similar significant additional benefits.

Depreciation

To calculate depreciation on Fixed Assets and Intangible Assets in a manner that

amortizes the cost of the assets after commissioning, over their estimated useful lives or,
where specified, lives based on the rates specified in Schedule XIV to the Companies
Act, 1956, whichever is lower, by equal annual installments. Leasehold properties are
amortized over the period of the lease. To amortize capitalized software costs over a
period of five years.

Revaluation of Assets

As and when Fixed Assets are revalued, to adjust the provision for depreciation on such
revalued Fixed Assets, where applicable, in order to make allowance for consequent
additional diminution in value on considerations of age, condition and unexpired useful
life of such Fixed Assets; to transfer to Revaluation Reserve the difference between the
written up value of the Fixed Assets revalued and depreciation adjustment and to charge
Revaluation Reserve Account with annual depreciation on that portion of the value which
is written up.

Investments

To state Current Investments at lower of cost and fair value; and Long Term Investments,
including in Joint Ventures and Associates, at cost. Where applicable, provision is made
where there is a permanent fall in valuation of Long Term Investments.

Inventories

To state inventories including work-in-progress at cost or below. The cost is calculated

on weighted average method. Cost comprises expenditure incurred in the normal course
of business in bringing such inventories to its location and includes, where applicable,
appropriate overheads based on normal level of activity. Obsolete, slow moving and
defective inventories are identified at the time of physical verification of inventories and,
where necessary, provision is made for such inventories.

Sales

To state net sales after deducting taxes and duties from invoiced value of goods and
services rendered.

Investment Income

To account for Income from Investments on an accrual basis, inclusive of related tax
deducted at source.

Proposed Dividend

To provide for Dividends (including income tax thereon) in the books of account as
proposed by the Directors, pending approval at the Annual General Meeting.

Employee Benefits

To make regular monthly contributions to various Provident Funds which are in the
nature of defined contribution scheme and such paid / payable amounts are charged
against revenue. To administer such Funds through duly constituted and approved
independent trusts with the exception of Provident Fund and Family Pension
contributions in respect of Unionized Staff which are statutorily deposited with the
Government. To administer through duly constituted and approved independent trusts,
various Gratuity and Pension Funds which are in the nature of defined benefit scheme. To
determine the liabilities towards such schemes and towards employee leave encashment
by an independent actuarial valuation as per the requirements of Accounting Standard –
15 (revised 2005) on “Employee Benefits”. To determine actuarial gains or losses and to
recognize such gains or losses immediately in Profit and Loss Account as income or
expense. To charge against revenue, actual disbursements
made, when due, under the Workers’ Voluntary Retirement Scheme.

Lease Rentals

To charge Rentals in respect of leased equipment to the Profit and Loss Account.

Research and Development

To write off all expenditure other than capital expenditure on Research and Development
in the year it is incurred. Capital expenditure on Research and Development is included
under Fixed Assets.

Taxes on Income

To provide Current tax as the amount of tax payable in respect of taxable income for the
period. To provide Deferred tax on timing differences between taxable income and
accounting income subject to consideration of prudence. Not to recognize Deferred tax
assets on unabsorbed depreciation and carry forward of losses unless there is virtual
certainty that there will be sufficient future taxable income available to realize such
assets.

Foreign Currency Translation

To account for transactions in foreign currency at the exchange rate prevailing on the date
of transactions. Gains/Losses arising out of fluctuations in the exchange rates are
recognized in the Profit and Loss in the period in which they arise except in respect of
imported Fixed Assets where exchange variance is adjusted in the carrying amount of the
respective Fixed Asset. To account for differences between the forward exchange rates
and the exchange rates at the date of transactions, as income or expense over the life of
the contracts, except in respect of liabilities incurred for acquiring imported Fixed Assets,
in which case such differences are adjusted in the carrying amount of the respective Fixed
Asset. To account for profit/loss arising on cancellation or renewal of forward exchange
contracts and on maturity or cancellation of options as income/expense for the period,
except in case of forward exchange contracts and options relating to liabilities incurred
for acquiring imported Fixed Assets, in which case such profit/loss are adjusted in the
carrying amount of the respective Fixed Asset. To account for gains/losses on foreign
exchange rate fluctuations relating to current assets and liabilities at the year end.

Claims

To disclose claims against the Company not acknowledged as debts after a careful
evaluation of the facts and legal aspects of the matter involved.
Segment Reporting

To identify segments based on the dominant source and nature of risks and returns and
the internal organization and management structure. To account for inter-segment
revenue on the basis of transactions which are primarily market led. To include under
“Unallocated Corporate Expenses” revenue and expenses which relate to the enterprise as
a whole and are not attributable to segments.

Financial and Management Information Systems

To practice an Integrated Accounting System which unifies both Financial Books and
Costing Records? The books of account and other records have been designed to
facilitate compliance with the relevant provisions of the Companies Act on one hand, and
meet the internal requirements of information and systems for Planning, Review and
Internal Control on the other. To ensure that the Cost Accounts are designed to adopt
Costing Systems appropriate to the business carried out by the Division with each
Division incorporating into its Costing System, the basic tenets and principles of
Standard Costing, Budgetary Control and Marginal Costing as appropriate.
10. Appendix

Condensed Financial Statements

Table VI

Balance Sheet
2006 2005 2004
Capital 3,762.20 3,755.20 2,494.30
Reserves 103,779.40 89,276.90 77,531.40
LTL 2,009.00 1,466.80 2,469.80
CL 44,619.10 39,655.60 34,896.80
Total 154,169.70 134,154.50 117,392.30
Fixed Assets 59,760.00 47,612.10 43,836.20
Investments 25,058.90 29,981.00 33,291.30
CA 69,350.80 56,561.40 40,264.80
Total 154,169.70 134,154.50 117,392.30

Table VII

Income Statement
2006 2005 2004
Sales 198,415.40 165,105.10 135,853.90
COGS 84,128.90 64,631.50 48,468.90
Operating Expenses 71,357.50 64,339.00 57,101.30
Depreciation 3,629.20 3,323.40 3,128.70
PBIT 39,299.80 32,811.20 27,155.00
Interest 32.80 119.30 424.30
PBT 39,267.00 32,691.90 26,730.70
Tax 12,267.30 10,338.40 4,816.70
PAT 26,999.70 22,353.50 21,914.00

Table VIII

Cash Flow Statement

2006 2005 2004
Opening CIH 9,779.40 1,277.00 1,098.80
CFF -10,549.00 -9,637.70 -4,816.60
CFI -10,841.50 -2,827.70 -10,953.60
CFO 22,476.10 20,966.10 15,872.00
Closing CIH 10,865.00 9,777.70 1,200.60
Sources:
1. http://www.cmie.com/
2. http://www.naukrihub.com/india/fmcg/
3. http://www.itcportal.com/
4. www.hll.com/
5. www.maricoindia.com/
6. Class notes

Thank you!