CASE Study 1 PDF

Preview

Summary

Case study on the concept of finance...

Description

SECURITY ANALYSIS AND PORTFOLIO MANAGE

T

PROJECT REPORT ON HINDUSTAN UNILEVER LIMITED

Contents Executive Summary

2

Company overview

3

Industry Analysis

3

Competitive position

3

Financial Statement Analysis

4

Balance Sheet Analysis

4

Income Statement Analysis

5

Cash Flow Statement Analysis

6

Valuation

6

Risk Analysis

7

Internal Risk:

7

External Analysis

8

References

1 | Page

10

Executive Summary This report gives an analysis of the firm Hindustan Unilever Limited. It is one of the most giant FMCG mammoths of the country and a subsidiary of Unilever Limited. It has a vast product portfolio ranging from personal care, home care, personal hygiene to other essential household products. The Porters five forces analysis shows the industry analysis of the FMCG industry. The competition analysis gives a fair overview of the position of the firm as compared to its competitors. The financial analysis starts with analysing the Balance sheets of the firm and we use ratios like D/E ratio which shows a value of 0.00 indicating the growth does not happen on the basis of borrowings or loans, propriety Ratio of 0.41 meaning that 41% of the company’s total assets are financed by shareholder’s funds, an overall growing positive working capital, indicating that the company is more than capable to fund its growing current operations, Quick ratio 0.81, meaning that the company has Rs. 0.8 liquid assets to cover each Rs. 1 of its liability and absolute cash ratio 0.68 determining the good financial health of the company. The Income statement analysis reveals a high EPS, a 17% net profit margin, ROE of 82%, ROA of 38%, higher than the industry average. The Cash flow statements analysis reveal a positively growing CFO indicating thriving core business of the company, Negative CFF indicating that the company is repurchasing its stock and paying dividends which is positive sign for the investors. We have used the H- model for the valuation analysis of HUL and found out that that the intrinsic share value was Rs. 1838.97 and the target share price was Rs. 2042.46. The risk analysis of the firm shows an increased supply chain risk, business transformation risk and information systems risk while the talent and the quality and safety risk remain unchanged. An external analysis shows an increased macro-economic instability, climate change issues, commodity risk and others that have affected the firm. Overall, HUL’s bottom-line performance was stable with an effective and well-off 100 bps EBITDA margin expansion that too on a comparable basis. The profit after tax and before exceptional items grew at a rate of 11% despite a challenging year before.

2 | Page

Company overview Hindustan Unilever is the Indian Subsidiary of Unilever group. It was established in 1933 with a huge product portfolio ranging from personal care, home care, food and beverages. Its product categories are spread across 20 categories and the various product sizes and varieties target almost all customer segments. Some of the famous brands are Dove, Lux, Wheel, Surf excel, pond’s, Vaseline, Bru, etc. The market cap of HUL stands at Rs 5,15,726.23 Crore. The company also entered the global top 15 FMCG league. Industry Analysis The FMCG Or Fast-Moving Consumer Goods sector is the 4 th largest sector in India. The current retail market is estimated at 1.1 Trillion USD. The key growth drivers for this sector have been the changes I consumer purchasing habits, buying behaviour, lifestyle changes and awareness about various products. The urban India accounts for 55% of the revenue and the rural consumption is fast catching the pace with 45% share in the revenue pie. The COVID scenario slowed the growth rate for the sector but the digital transformations helped in picking up the pace to an average CAGR of 5.4%. Co mp etetive Riv alry-

Th reat of sub stitu tes -

Por ter 's 5 forces Analysis

Bargain in g p ower of su ppliers-

Th reat of n ew en trants-

Bargain in g p ower o f bu yers -

Competitive position The FMCG sector has cut throat competition with presence of big brands like HUL, Dabur, ITC, Nestle, Godrej, Marico, GSK, Britannia and the latest entrant Jio mart of RIL. ITC is the closest competitor of HUL with a 14% market share as of 2019 and HUL standing at a 12% market share. The FMCG sector comes under the essential category which led the continuation of flow of revenues despite the drop in the business cycle due to COVID. The FMCG sector of India shows a promising future due to technological and digital innovations.

3 | Page

Financial Statement Analysis Analysis of financial statements help us assess the performance of the firm. For our analysis, we have considered the financial statements of HUL for a period of 10 years (2011-2020). Balance Sheet Analysis

A common size statement and a trend analysis of the balance sheet was carried out. The common size statement gives every component of the statement as a percentage of Total Assets and the trend analysis gives a Y-O-Y percentage change of the items. The common size statement clearly shows an overall percentage increase in the company’s equity in comparison to the total assets. HUL’s balance sheet was also analyzed using various ratios. The statement shows a consistent increase in its total assets over the period of ten years which indicates the overall growth of the company. The increase in its total assets was accompanied by an absolute increase in its total shareholders’ funds from Rs. 2734.95 crore to Rs. 8229.00 crore in the given ten-year period. 1.6

● The D/E ratio of the company for the past ten years has been 1.2 around 0.00, which shows that 1 the company does not finance growth in its operations from 0.8 loans and borrowings at all. 0.6 Company’s major competitor, ITC, also has had a history of 0.4 extremely low or zero D/E 0.2 ratio. ● A propriety ratio of 0.41 0 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 means that 41% of the company’s total assets are D/E Quick Ratio financed by shareholder’s Propriety Ratio Absolute Cash Ratio funds. Generally, a propriety Current Ratio CE/TA ratio of more than 0.6 is considered safer given it shows less dependence on external sources. The company’s propriety ratio has slightly increased from 0.26 in 2011 to 0.41 in most recent FY. ● Working capital of the company, which gives the idea of a company’s operational efficiency. HUL has seen an overall growing positive working capital, which indicates that the company is more than capable to fund its growing current operations. The working capital for the most recent FY stood at Rs. 3004.00 crore, which was a substantial increase from Rs. 469.73 crore in 2011. ● HUL’s quick ratio is 0.81, which means that the company has Rs. 0.8 liquid assets to cover each Rs. 1 of its liability, showing that it won’t be able to instantly pay-off the current liabilities. A higher quick ratio is always recommended as it indicates a better liquid position of the company. HUL’s quick ratio is lesser than that of Dabur and ITC, both of which have a quick ratio of more than 1. ● Absolute cash ratio of HUL is 0.68 for the most recent FY. Generally, an absolute ratio of more than 0.5 is considered good. The absolute cash ratio has seen an overall growth from 0.43 in 2011 but has had several ups and downs in the ten-year period. 1.4

4 | Page

Income Statement Analysis

The common size statement analysis/ vertical analysis gives all the components of the income statement as a percentage of the gross revenue earned for the year. The trend analysis gives the percentage change in the items of income statement on a Y-O-Y basis.

The overall profit percentage (PAT) of the company has increased, in absolute as well as percentage terms, from 11.22% in 2011 to 17.22% in 2020. The company’s revenues have grown many folds, which directly impacts the profits. In fact, the growth of revenues from Rs. 20564.64 crore to Rs. 39238 crore overshadows the increased expenses. The overall total expense percentage has decreased from 85.30% in 2011 to 79.11% in 2020, even though in absolute terms the expenses have increased from Rs. 17541.64 crore to Rs. 31,042.00 crore.

40000 35000 30000 25000 20000 15000 10000 5000 0

2011

2012

2013

2014 PAT

2015

2016

Total Expenses

2017

2018

2019

2020

Revenues (Net)

● EPS is a widely used metric for analyzing profits. It shows the money earned per share. A higher EPS is always preferred as investors will readily invest in a company with higher profits. HUL’s EPS has grown considerably over the period of ten years, from Rs. 11 to Rs. 31. ITC, which is a major competitor of HUL, reported an EPS of Rs. 12.33 in most recent annual report. ● HUL reported a net profit margin of 0.17 (17%), which means that for every rupee generated by HUL, Rs. 0.17 was kept as profit. This is comparatively lower to net profit margin of HUL’s competitors like ITC (0.33) and Dabur (0.185). Net profit margin is an important indicator for the investors to assess the company’s profits. ● ROE is a measure of how effectively the company is using its assets to generate profits. HUL’s ROE is 0.82 (82%) which is very high compared to its peers like ITC (0.23) and Dabur (0.28). This indicates that HUL’s management is using its assets much more efficiently to generate profits as compared to other companies in the industry. ● ROA shows how profitable a company is, in relative to its total assets. ROA, unlike ROE, takes company’s debt into account. HUL’s ROA stood at 0.38 (38%) which was higher than other companies in the industry. An upward trend can be seen in ROA of HUL from 0.22 in 2011 to 0.38 in 2020. ● HUL’s ROCE for 2020 stood at 0.86 (86%), which indicates that HUL is generating Rs. 0.86 profit per Rs. 1 capital employed. This is much higher than the industry average indicating an efficient management. 5 | Page

Cash Flow Statement Analysis

10000 8000 6000 4000 2000 0 2011 -2000

2012

2013

2014

2015

2016

2017

2018

2019

2020

-4000 -6000 -8000 CFO

CFI

CFF

● Cash flow from operating activities covers all the money that the company generates from its ongoing daily business activities. It only focusses on the core business activity and does not include capex or investment revenues. HUL’s CFO has consistently shown positive growth in the ten-year period. It grew from Rs. 1923.61 crores in 2011 to Rs. 9173.00 crore in 2020. The positively growing CFO of HUL indicates thriving core business of the company. ● Cash flow from investing activities indicates the amount of money spent/generated from investments. HUL’s most recent CFI shows a positive figure of Rs. 1791.00 crore, though historically the company has seen great variations in its CFI. ● Cash flow from financing activities provide an overview of how the company’s capital structure is managed. HUL has reported consistently negative CFF with the most recent CFF standing at Rs. -6819.00 crore. This can indicate that the company is repurchasing its stock and paying dividends which is positive sign for the investors. ● Operating cash flow ratio shows how well can the cash flows generated from operating activities can cover the current liabilities. Operating cash flow ratio of HUL is 0.82 for 2020, indicates that the company will not be able to cover its current liabilities from the cash that it is currently generating. ● Cash generating power ratio is a measure of how well a company can generate cash from its core business operations as compared to the total cash flows of the company. HUL’s cash generating power ratio has shown a lot of fluctuation over the past ten years, for the year 2020, it stood at 2.94. Valuation The H- Model is a two-stage model which assumes that the EPS growth rate starts out greater than cost of equity and declines linearly to reach a stable steady growth rate, which is less than the cost of equity. Rationale for Using H-Model

6 | Page

● HUL has a robust dividend policy in place wherein the dividend payout ratio has been consistently stable, especially between the years FY 2014 and FY 2020. The 5-year average dividend payout ratio from FY 2016 and FY 2020 has been calculated as 77.67%. We have therefore used the average rate obtained as the constant payout ratio in H- Model. ● Furthermore, we have observed that HUL entered into a high growth phase in FY 2018 due to the acquisition of GSK Consumer Healthcare which further propelled its earnings causing the ROE to also increase in FY 2019. As a result, HUL achieved a growth rate in dividends of 19.13%. Subsequently, the firm witnessed a slight fall in the growth rate in the subsequent year. Assumptions ● Assuming that the growth rate achieved in FY 2019 falls at a linear rate till stabilizing at 3% based on linear forecasts of the FY19 and FY20 growth rates, we found that the value of H starting from 2019 was 11 years. ● We have not factored in the impact of COVID-19 in our estimates. ● We also assume that the Cost of Equity calculated by the CAPM model will remain constant. Results By using the Two- Stage H-Model, we found that the intrinsic share value was Rs. 1838.97 and the target share price was Rs. 2042.46. Risk Analysis We have identified the risks and their implications that are crucial and relevant to HUL affecting its performance and business. Internal Risk:

● Supply Chain Risk (Increased): Supply Chain network is faced with extreme events such as physical, labour unrest, industrial and environmental disruptions, strikes, supplier issues, this negatively impacts the business. HUL has developed contingency plans to acquire alternative materials and substitutes at a short notice in their existing recipes apart from going agile in the wake of COVID-19. ● Business Transformation Risk (Increased with GSK CS integration): HUL is associated in dynamic projects, including organizational transformation, and acquisitions to bring in continuous improvement in the business and strengthen its portfolio with blocks of critical transformation projects. Failure to execute such initiatives can hamper performance and decrease the value of the firm. To ensure there is the seamless integration of the nutrition domain of GSK CH into HUL’s business, they have constituted a team empowered with experienced leadership with a well thought and defined action plan. ● Information Systems Risk (Increased): HUL’s operations are highly dependent on IT systems and the management and storage of information. The cyber threats of unauthorized and malicious access and misuse of sensitive information can hinder the performance of such a large organization. Such attacks can lead to disruption to sales, production, and cash flows in addition to this data privacy are highly important as the majority of the interactions with the customers happen through IT systems. Firewalls and threat tracking systems are placed to respond and mitigate cyber threats. 7 | Page

● Quality Risk (Unchanged): The quality of HUL’s products are of most important and necessary for the brand’s reputation and customer loyalty. The quality degradation can be harmful to the brand image of the company. Labelling needs to be proper so that customers are well educated about a product. ● Talent Risk (Unchanged): A skilled workforce is what keeps HUL running and organizes its transformational projects which a key element for its success. With the ever-changing customer needs and business environment it is necessary for the employees to have the required skill and be flexible in their approach, the company aims at creating programs to retain talent and create a diverse pool of recruits with continuous monitoring. External Analysis

● Macro-Economic Instability (Increased): Local as well as global macro-economic elements may result in a reduction in the spending capacity of the consumers and a weakened growth in the market are now proving to be harsher with the onset of COVID, which can prove to be detrimental to the company’s profitability. HUL’s adaptive business model allows it to adjust to the changing economic downturns and suit better to the customer's needs and priorities. ● Climate Risk: Climate change and Government involvement to curb the extreme changes may affect the performance of certain operations leading to a reduction in the consumer demand and ultimately affecting profitability. Uncertainty in timing and severity of climate dynamics can lead to uncertainties and mismanagement with wastes and increased losses. ● Legal and Regulatory Risk: Consistency in-laws and guidelines is a basic element of HUL's business activities. Expansion or variations in administrative strategies/plans identified with the onset of direct/indirect taxes, imports, data privacy, corporate governance, etc may lead to adverse impact on growth and profitability with increased exposure to civil and/or criminal actions leading to damages, penalties against the company and its employees, degrading the corporate image. Changes to laws and guidelines could materially affect the expense of functioning effectively. ● Currency Risk: The company also experiences the risk of changing foreign currency values which in turn impacts the export revenue and imports of raw material and PPE. The net unhedged exposure to the company on certain financial assets, liabilities and other expenditures amounts to 5 crores payable as compared to 11 crores in 2019. ● Interest Rate Risk: The interest rate risk is also quite important to highlight. This risk comes into play due to lack of certainty about the movement of the future market interest rate of investments such as treasury bills. The investments in the mentioned investment avenues amounts to 0 as compared to 880 in 2019. The Financial Year 2019-20 was quite challenging and difficult for HUL’s business with narrowed and poor economic conditions(macro), diminishing market growths in the FMCG sector that the company operates in, and last but not the least, COVID-19 outbreak bringing in more problems still the company showed competitive growth despite such hiccups. The performance was stable at a rate of 2% Domestic Consumer Growth supported and held at the rate of 2% Underlying Volume Growth. “HUL’s bottom-line performance was stable with an effective and well-off 100 bps EBITDA margin expansion.The margin expansion was due toa robust savings policy, scale optimisations attained through steady volume growths, collectively impacting HUL given the company’s strong portfolio of trustworthy brands.

8 | Page

References https://www.bloombergquint.com/markets/equities/historical-returns HUL Annual Report (2019-2020) https://www.moneycontrol.com/ https://countryeconomy.com/bonds/india?dr=2020-03

9 | Page...