Case study for corporate finance, Corporate Finance

ABAN LOYD CHILES OFFSHORE LTD.

1.) SHAREHOLDER VALUE

            (a)  Company Profile 

Aban Loyd Chiles Offshore Ltd (ALCOL), promoted by MA Abrahams (Managing Partner of Arab Constructions, Madras) and Asian Techs Ltd. (Cochin) in collaboration with Indian Offshore Inc., USA, was incorporated on September 25, 1986. ALCOL obtained the certificate of commencement of business in February 1987. The company is in the business of providing and operating ships, vessels, rigs, structures, equipment and personnel required for on-shore and off-shore drilling, oil field services, etc. ALCOL was formed consequent to the government's decision to indigenise the oil sector and encourage Indian joint venture companies. Two jack-up rigs, which were purchased from USA and named as Aban-1 and Aban-2 are in operation from November and December 1987 respectively. During 1986-87, the company concluded a collaboration agreement with India Offshore Inc., USA for both technical know-how and equity participation. ALCOL provides services in oilfields. It owns offshore oil rigs and gets contracts from ONGC. It also operates ONGC's rigs on a contract basis and provides drilling services.

 

Recently, Hitech Drilling Services India (HDSIL) merged with ALCOL. ALCOL, the flagship of the Rs 500-crore Aban group, in March 2001, had acquired a 22.5 per cent stake in HDSIL held by Tata Industries for a consideration of Rs 42 crore, at a price of Rs 92 per share. Subsequently, ALCOL made an open offer for the remaining 77.5 per cent stake in HDSIL at the same price (Rs 92 per share). HDSIL is engaged in oil exploration and provides drilling rigs to ONGC on service contracts renewable every two years. It has two offshore jack-up rigs Hitdrill I and Hitdrill II, both on charter hire to ONGC. It also has a floating oil production facility at Tahara.As part of its diversification plan, ALCOL is setting a 103 MW power plantnear Ennore under Aban Power Co. Ltd. (formed as a company separately for generation of power). It also proposes to set a 3 mn tonne capacity petroleum refinery. It plans to enter hire purchase and leasing business and undertake the execution of mechanical engineering, structural and civil construction      contracts Alcol, among the top players in the oil drilling sector, is expected to witness a huge rise in net profit on the back of a rise in charter rates for drilling rigs. The government's plan for NELP III may also prove beneficial         for Alcol, which offers offshore oil exploration blocks to private sector and overseas explorers.

 

Aban Loyd Chiles Offshore Limited is expanding its operations quickly to take advantage of the buoyancy in charter rates for drilling rigs and vessels. The company has recently entered into a JV arrangement to add another rig to its aready impressive array of rigs and vessels.

 

Significant Performance Indicators

 

                        Market Price per share            Rs. 152.50

                        Book Value per share              Rs. 169.70

                        P/BV                                       0.898

                        Since, P/BV ratio is less than one, we can say that the current market price is below it's current potential and hence there is a tendency for the share price to  go up. This implies that we should buy more shares of the company as it is in  the profitable direction.

 

Another important performance indicator is its acquisition and economies of scale. Aban Loyd Chiles Offshore's (Aban) decision to buy out offshore drilling company Hitech Drilling Services India will catapult it as the undisputed leader in this segment.This acquisition makes Aban a clear market leader in the Indian offshore drilling industry. The acquisition adds a 300-ft jack-up drilling rig and one floating production facility to its existing two offshore rigs. Currently, one of the two drilling rigs of Aban is being upgraded, while Hitech's rigs are engaged in long- term time charters. The Aban group's other interests include on-shore oil drilling and mechanical/ civil construction. The group had earlier acquired a 300-ft jack-up rig from Mahindra and  Mahindra, which is now drilling in Bombay High. This acquisition will create economies of scale and the combined turnover to touch Rs 200 crore.

Shareholder Value Maximization Framework

 

                        Value Maximization Measures (Source: www.indiainfoline.com)

 

                        Adjusted Profit After Tax (PAT) = Rs. 106.00 million

                        Adjusted Earnings per share (EPS) = Rs. 16.90

                        Number of Shares (PAT/EPS) = 6.30 million

                        Market Price per share (MP) = Rs. 152.50

                        Market Capitalization (MC = MP x n) = Rs. 960.75 million

                        Book Value per share (BV) = Rs. 169.70

                        Net Worth (BV x n) = Rs. 1069.11 million

                        Price-to-Earnings per share (P/E = MP/EPS = MC/PAT) = 9.00

                        Price-to-Book Value per share (P/BV = MP/BV = MC/NW) = 0.898

 

VALUATION

 

            Expected Rate of Return for Oil companies in India =  12.5%
             Long term growth rate for this industry in India =  10%    Seeing the past and recent trends, we can say that the growth in the oil sector in India  has been constant and expected to continue the same way. Hence, we consider the  "Constant Growth Model" for it's Dividend Valuation Model. Please find the calculation of the intrinsic value for ALCOL in the hand-written attachment in the  following page.

 

 

            Dividend Valuation  for ALCOL

 

Basic Dividend Valuation accounts for the Present Value (PV) of all the future dividends, i.e.

 

PV  =    Div1      +     Div2      +   ......    Div ¥ _

            (1+Ke )1        (1+Ke )2                  (1+Ke )¥

 

The Constant Growth Model asumes that dividends will grow forever at a constant rate of growth (g) of the concerned industry. The Intrinsic Value (IV) is given as :

 

IV  =      D1 __    +  _  D2 _    +   ......  _  D ¥ ___

            (1+Ke )1        (1+Ke )2                   (1+Ke )¥

 

      =   D0 (1+g)   +  D0 (1+g)2   +   ...... D ¥ (1+g) ¥

              (1+Ke )1         (1+Ke )2                     (1+Ke )¥

 

      =   D0 (1+g)     =         D1 ­ __

            (Ke - g)            (Ke - g)

 

D1 :      Dividend at time t

Ke :      Investor's Expected Rate of Return

g  :       Constant Growth Rate

For ALOCOL (Oil industry in India) :          

Ke = 12%         g = 9%             D0 = Rs. 4.5 / share

 

            IV  =  (4.5) x (1 + 0.09)    =    Rs. 163.50

              (0.12 - 0.09)

 

MV  =  Rs. 152.50

 

Since, IV > MV, therefore, we should buy shares of ALCOL. This is because, it's market value has not yet reached it's current worth given by it's Intrinsic Value and the share price of this firm is expected to increase.

 

 

3.         COST OF CAPITAL

 

            Let's assess the Balance Sheet of our company ALCOL for the last 2 years as under:

 

                                                                                                           0203-(12)              0103-(12)
                SOURCES OF FUNDS

                Owner's Fund Equity Share Capital                  62.79                      62.79
                Share Application Money                               10.92                      0.00
                Preference Share Capital                                0.00                        0.00
                Reserves & Surplus                                      1,245.04                1,229.16
                Loan Funds
               
Secured Loans                                              2,428.00                754.79
                Unsecured Loans                                          100.00                   0.00
                Total                                                           3,846.75                2,046.74

                USES OF FUNDS
                Fixed Assets
               
Gross Block                                                  4,603.40                1,970.95
                Less : Revaluation Reserve                              0.00                        0.00
                Less : Accumulated Depreciation                     2,188.23                966.30
                Net Block                                                      2,415.17                1,004.65
                Capital Work-in-progress                                 8.75                        6.11
                Investments                                                  65.41                      115.64
                Net Current Assets
                Current Assets, Loans & Advances                     1,370.06                1,110.59
                Less : Current Liabilities & Provisions                 254.89                   279.71
                Total Net Current Assets                                    1,115.17               830.88
                Miscellaneous expenses not written                     242.24                  89.47
                Total                                                               3,846.74               2,046.75
                Note :
               
Book Value of Unquoted Investments                 26.85                      2.00
                Market Value of Quoted Investments                  41.66                      4.39
                Contingent liabilities                                          53.27                      0.00
                Number of Equity shares outstanding               6,278,760.00        6,278,760.00

 

            Let's consider the Net-Worth of the company for the Equity component as would be  required in calculation of Debt-Equity(D/E) ratio. This means that "Reserves and  Surplus" would also form a part of the Shareholder capital.

 

                                                                                                (Rs. millions)

            Debt                :           Secured Loans                            2428.00

 

            Net-Worth       :             Equity Share Capital                 62.79

                                                Share Application Money           10.92

                                                Reserves and Surplus              1245.04

                                                                                                1318.75

 

            Debt-Equity (D/E) ratio = 2428.00 = 1.85

                                                       1318.75

 

            Debt Share = 65% = 0.65

            Equity Share = 35% = 0.35

 

            Weighted Average Cost of Capital (WACC)

 

            A)        Cost of Equity Capital, Ke

                        Equity Share

                        i)   Cost of Risk-free Debt                    6%

                        ii)  Market Premium                             10%

                        iii) Beta Value                                     1.09 

                        iv)  Cost of Equity (i + ii x iii)               16.9% 

 

            B)        Cost of Debt, Kd = (Interest rate)*(1 - Tax rate)

                                                    = 12 * (1 - 0.08)

                                                    = 11%

 

            WACC = (Cost of Equity)*(Equity Share) + (Cost of Debt)*(Debt Share)

                         = (Ke * 0.35) + (Kd * 0.65)

                         = (16.9 * 0.35) + (11 * 0.65)

                         = 13.065 %

 

            Financial Risk due to it's Capital Structure:

It's seen that the Debt portion is very high compared to the Equity portion in ALCOL. In the first impression, it may appear to be a very risky proposition for the investors. Well, this is true since the "Beta" value is also on the higher side. However, on drilling further, we may conclude that when ALCOL raised funds through debts, mainly Secured Loans, not much was raised through Equity. This shows the strength of the company and its reputation in the market. Besides, the company has been growing at a constant rate in the past years and have a good rapport in the market. The expected rate of return is also just above average, indicating that the element of financial risk in the company is moderate.

 

4.         FINANCIAL STATEMENT ANALYSIS

 

                Ratio Analysis                                                     0203 (12)              0103 (12)

 

                Per share ratios

                Adjusted E P S (Rs.)                                      16.88                      2.65

                Adjusted Cash EPS (Rs.)                                84.30                      23.62

                Reported EPS (Rs.)                                       20.78                      16.83

                Reported Cash EPS (Rs.)                               88.21                      37.80

                Dividend Per Share                                         4.00                        3.00

                Operating Profit Per Share (Rs.)                     177.58                   60.67

                Book Value (Excl Rev Res) Per Share (Rs.)       169.71                   191.52

                Book Value (Incl Rev Res) Per Share (Rs.)       169.71                   191.52

                Net Operating Income Per Share (Rs.)             289.65                   109.10

                Free Reserves Per Share (Rs.)                        159.71                   181.51

 

                Profitability ratios

                Operating Margin (%)                                     61.30                      55.61

                Gross Profit Margin (%)                                   41.52                      36.47

                Net Profit Margin (%)                                      6.31                        11.66

                Adjusted Cash Margin (%)                              25.62                      16.36

                Adjusted Return on Net Worth (%)                    9.94                       1.38

                Reported Return on Net Worth (%)                  12.24                      8.78

                 Return On long Term Funds (%)                    25.45                      24.75

 

                Leverage ratios

                Long Term Debt / Equity                                 1.82                        0.47

                Total Debt/Equity                                           1.93                        0.58

                Owners fund as % of total Source                    34.09                      62.12

                Fixed Assets Turnover Ratio                            0.43                        0.34

 

                Liquidity ratios

                Current Ratio                                                 5.38                        3.97

                Current Ratio (Inc. ST Loans)                          2.50                        1.94

                Quick Ratio                                                    4.57                        3.47

                Inventory Turnover Ratio                                  9.71                        6.09

 

                Payout ratios

                Dividend payout Ratio (Net Profit)                  22.59                      19.64

                Dividend payout Ratio (Cash Profit)               5.32                        8.74

                Earning Retention Ratio                               72.19                      -24.60

                Cash Earnings Retention Ratio                      94.44                      86.01

                Coverage ratios

                Adjusted Cash Flow Time Total Debt               4.78                        5.09

                Financial Charges Coverage Ratio                  1.70                        1.39

                Fin. Charges Cov.Ratio (Post Tax)                  1.69                        1.55

 

                Component ratios

                Material Cost Component(% earnings)          8.25                        14.68

                Selling Cost Component                              0.00                         0.00

                Exports as percent of Total Sales                 101.47                   105.96

                Import Comp. in Raw Mat. Consumed            0.00                        0.00

                Long term assets / Total Assets                    0.60                        0.50

                Bonus Component In Equity Capital (%)         0.00                        0.00

 

            Position of the firm in terms of the following:

 

            a)         Short-term Solvency

 

                        Current Ratio = Current Assets / Current Liabilities

                                               = 5.38

                        This has increased from 3.97 in the previous year to 5.38 in the current year, indicating that the working capital of the company has increased and hence  strengthening its liquid position.

 

                        Quick Ratio = (Current Assets - Inventory) / Current Liabilities

                                            = 4.57

                        This has increased from 3.47 in the previous year to 4.57 in the current year, indicating that there was some reduction in its Inventory as a part of it was sold off.

 

            b)         Long-term Solvency

 

                        Debt-Equity Ratio = Total Debt / Net Worth

                                                      = 1.93

                         This has increased from 0.58 in the previous year to 1.93 in the current year,  indicating that a lot of funds was raised in the last 1 year through debt. This  means the financial risk of the company has increased to some extent and it  also shows its good reputation in the market, which enabled it to raise a huge amount in the form of debts.

 

                        Long-term Debt-Equity Ratio = (Long-term Liabilities) / (Net Worth)

                                                                        = 1.82

                        This has increased from 0.47 in the previous year to 1.82 in the current year, indicating that the amount of long-term loans has increased considerably and  the expected rate of return is also quite good, despite moderate financial risk.

 

            c)         Activity

 

                        Inventory Turnover Ratio = (Cost of goods sold) / (Average Inventory)

                                                                  = 9.71

                        This has increased from 6.09 in the previous year to 9.71 in the current year, indicating that things are positive for the company, since inventories are the least liquid form of asset.

 

                        Adjusted Cash flow time Total Debt = 4.78

                        This has reduced from 5.09 in the previous year to 4.78 in the current year,  indicating that the cash coverage has improved in the current year.

 

            d)         Profitability

 

                        Please consider the figures in the table of ratios under "Financial Statement Analysis" and concentrate on the Profitability Ratios therein. It is clear that  there has been improvement on all the fronts except in case of Net Profit   Margin ratio, which has decreased substantially. This can be attributed to payment of principle and corresponding interest for the loan taken in last 1  year. However, this can also be viewed as a positive indicator as the company has a good policy of returning the debt in a timely manner.

 

 

 

 

 

Posted Date: 7/24/2012 2:29:38 AM | Location : United States







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