The topic that I chose for my Research and Analysis Project was "An analysis of the Business and Financial performance of NATIONAL REFINERY LTD (NRL ) over Three year period."
Analyzing business and financial Position of any organization is one of the core skills required for any accountant. It gives an opportunity to understand corporate culture of organization.
Ratio and financial analysis always attracted me during my studies, furthermore I have a keen interest in applying various business models to the organization. I wanted to apply what I learned during my ACCA studies. Moreover I wanted to broaden my knowledge , for this reason I selected advanced financial management paper to improve my financial analytical skills to help me in making this thesis. Also I found this topic easier as compared to other topics and the information can be easily accessible from a number of sources.
REASONS FOR SELECTING ORGANIZATION
After selecting the topic I did some research about the company and chose to do my research on NRL by taking account of its operations as it is the key player in the oil refining industry and the ease in accessibility of various information as its shares are listed at all 3 stock exchanges of Pakistan. Also I want to join some oil company after my studies so I thought it would be a great opportunity for me to analyze oil industry.
National Refinery Limited (NRL) was incorporated on August 19, 1963 as a public limited company. The Government of Pakistan had decided to place the National Refinery Limited under the administrative control of Ministry of Petroleum & Natural Resources in November 1998. In June 2003 the Government of Pakistan decided to include NRL in its privatisation programme by selling of 51% equity. The Company has been privatised and the management handed over to the new owner (Attock Oil Group) on July 7, 2005
Business activities and refinery's overview
NRL is engaged in the manufacturing. Production and sale of large range of petroleum products. The refinery complex of the Company comprises of three refineries, consisting of two lube refineries and one fuel refinery. The fuel segment is a diverse supplier of fuel products and offers gasoline, diesel oil, kerosene, and furnace oil. The lube segment provides different types of lube-based oils, asphalt and wax-free oil for different sectors of economy. National Refinery Limited currently possesses the fourth position, with PARCO being the market leader. The market share of NRL stands at 13% (Business Recorder, 2011).
PROJECT OBJECTIVE
The primary objective of this RAP is to present a detailed analysis of the business environment and financial performance of NRL over three year period. This will be accomplished by assessment of various business models to analyze the macro and micro environment of the company and mainly through ratio analysis by calculating and evaluating key financial ratios and then comparing its performance with the most suitable competitor in the industry. Drawing conclusions and providing recommendations based upon by analysis are also the key objectives.
RESEARCH QUESTIONS
ï‚· What primary and secondary sources should be used to collect relevant information?
ï‚· What are the ethical issues and how they should be minimized or completely removed?
ï‚· What accounting and business techniques should be used to analyze the business and financial performance of the company keeping in mind their limitations?
ï‚· What are the IT skills required? Do I have enough knowledge of MS-OFFICE required in making this RAP?
ï‚· What are the interpersonal and communication skills needed to interact with different people in the project?
ï‚· What is the proper referencing technique and how do I reference the work of others to avoid plagiarism?
EXPLANATION OF OVERALL RESEARCH APPROACH
I decided to follow the procedures mentioned in the BSC info pack and subsequently carried my research step by step using the headings mentioned in the pack.
First of all I selected a qualified chartered accountant as my mentor and agreed on the timings and content of the meetings. Then selected the topic and the company. I requested operational employees and accounts assistants to help me in my analysis. I selected these people as operational members could help me in technical matters of SWOT,PEST AND FIVE FORCES and provide data about business environment while accounts staff would provide information about financials. I felt that primary data is important because the employees has the most relevant and clear idea about the industry and the company's accounting practices although this RAP is carried out mostly by secondary data using online media. Then acquired approval and decided the timings of the interviews with these personnel to gain information about its business and financial environment. Then I identified the aims and objectives of the project by thinking what I want to achieve in this research report and carefully formulated my research questions. I selected the business models and stated their limitations. During this process, I had some ethical and communication problems like confidentiality issues so I took steps to minimize them .The next phase was important one as it required a practical evaluation of data. I analyzed the performance of the company by computing key ratios and assessed the company's profitability, liquidity and capital and debt structure and also review the company with an investor's point of view. I applied the business models to the company, evaluated its strengths and weaknesses and considered the macro-environment as well. In the end I gave the conclusions and carefully considered how well I have been able to answer my research questions, furthermore I gave some recommendations which I found suitable under realistic circumstances.
2. INFORMATION GATHERING AND BUSINESS TECHNIQUES SOURCES OF INFORMATION
Sources of information can be categorized as primary and secondary sources. Primary data is the data observed or collected from firsthand experience which allows the researcher to obtain original and non-edited data. Primary sources included interview held with key personnel of NRL. Secondary data is data that has been collected by others for their own purposes but which may be used by a researcher for his different purposes. Secondary sources on the other hand included annual reports of NRL, ACCA textbooks, business magazines, newspapers and information obtained from surfing the web.
DESCRIPTION OF METHODS USED TO COLLECT INFORMATION, INCLUDING ONLINE ACCESS
Data Collection is an important aspect of any type of research study. A major source of my information came through internet research but I also focused on obtaining primary data. I used non probability sampling strategy as I selected people which I thought would represent the whole population and because of their availability. Response rate was high as almost all questions were answered by these people. I conducted interviews with two field engineers Mr.Usama Zahir and Mr.Ali Murtaza to gain insight on refinery's operations and discussed technical aspects regarding business models. These meetings were quite informative and gave me a good idea about the business environment of NRL and other refineries. Two accounts assistants Mr.Muhammad Shahbaz and Mr. Nauman Paracha helped me in providing relevant financial information and gave tips on calculating the ratios and analyzing them and the gave me a clearer view about the trend in ratios and the factors that affected the performance during 3 years and the industry performance. Secondary data was collected from a number of sources. The list of them is given below.
Annual audited accounts of the company proved to be valuable source of reliable data about its financial situation, all NRL financials for 3 years were available on the website. Annual reports of Attock Refinery (competitor) were also available on their website.
Different newspapers (Business Recorder, The News etc) and various magazines.
Google and other websites. I collected most of the data using these and company's website. Another important source of information was http://www.brecorder.com/.
ACCA and other textbooks. I refreshed my knowledge of ratio and business analysis using these books. I asked my teacher to help me in this regard.
Some analysts reports were used to make my research more valuable through their findings and recommendations.
LIMITATIONS OF INFORMATION GATHERING
Some limitations of information gathering that arose during the process are stated below :
Information that is collected from NRL website may be favorably biased towards the company and may present the picture that is best suitable to the company. Information from interviews may be limited due to respondent tendency to please or impress, create false personal image or end interview quickly. Internet has huge amount of data and selecting the relevant data for my thesis was one of the limitations. Some of the reports were not available free of cost. Confidential policies of company and non-availability of information in a manner required for analysis are some of the limitations. Also there is a generic limitation of information due to the wide use of estimates and different accounting standards in the preparation of financial statements. Secondary sources of information are likely to possess plagiarized texts, misleading statements and subjective conclusions based on the author's biasness. Such information affects information integrity. A generic limitation of non probability sampling is because some members of the population have no chance of being sampled, regardless of its size, the entire population cannot be known.
ETHICAL ISSUES
The first ethical issue was of plagiarism i.e. close imitation of data. I used internet to collect most of the data so there was a risk of plagiarism if proper referencing method would not be adopted. To eliminate this, I used Harvard referencing system as mentioned in Oxford Brookes degree pack and clearly referenced all quotations. Access to confidential information was also a major issue as the employees were hesitant to give out required information so I obtained approval of the relevant authority.
ACCOUNTING AND BUSINESS TECHNIQUES AND THEIR LIMITATIONS
RATIOS
Ratio analysis is a fundamental means of examining the health of a company by studying the relationships of key financial variables. Many analysts believe ratio analysis is the most important aspect of the analysis process. A firm's ratios are normally compared to the ratios of other companies in that firm's industry or tracked over time internally in order to see trends. To evaluate companies, analysts use many ratios, including measures of liquidity, profitability, debt, operating performance, cash flow, and valuation (http://www.chegg.com/homework-help/definitions/ratio-analysis-11, n.d.).
LIMITATIONS
Ratios deal mainly in numbers, they don't consider issues like product quality, customer service, employee satisfaction etc .
Ratios are the indicators of the past, only assumptions can be made about the future performance by them.
Ratios are most useful when they are used to compare performance over a long period of time or against comparable businesses and an industry, this information is not always available.
Financial information can be massaged in several ways to make the figures used for ratios more attractive (FTC, 2011).
Comparison with competitors can be highly distorted due to the use of different accounting estimates.
Figures taken can be several years old, so inflation impact is not properly reflected.
FIVE FORCES ANALYSIS :
Porter explains that there are five forces that determine industry attractiveness and long-run industry profitability. Michael Porter's five competitive forces can be used to examine and analyze the competitive structure of an industry by looking at 5 forces of competition that influence and shape profit potential. These competitive forces are
- The threat of entry of new competitors (new entrants).
- The threat of substitutes.
- The bargaining power of buyers.
- The bargaining power of suppliers.
- The degree of rivalry between existing competitors.
LIMITATIONS :
The model ignores non market forces and underestimates the influence of a company's core competencies on its ability to achieve profit. It overemphasizes the importance of industry structure as a determinant of company performance.
Overall, Porters Five Forces Model has some major limitations in today's market environment. Porter's theories are based on the economic situation in the eighties. It is not able to take into account new business models and the dynamics of markets (FTC, 2011).
SWOT
SWOT analysis (alternately TOWS analysis) is a strategic planning method used to evaluate the Strengths, Weaknesses, Opportunities, and Threats involved in a business venture. It involves specifying the objective of the business venture or project and identifying the internal and external factors that are favorable and unfavorable to achieve that objective (http://en.wikipedia.org/wiki/SWOT_analysis, n.d.).
LIMITATIONS
ï‚· It may cause organizations to view circumstances as very simple because of which the organizations might overlook certain key strategic contact which may occur.
ï‚· Classification of some factors as strengths, weaknesses, opportunities and threats might be very subjective as there is great degree of uncertainty in market.
ï‚· SWOT Analysis does stress upon the significance of these four aspects, but it does not tell how an organization can identify these aspects for itself.
ï‚· There are certain limitations of SWOT Analysis which are not in control of management e.g. price increase , government legislation ,economic environment etc.
PEST :
PEST is an acronym that stands for Political, Economical, Social and Technological. It is an external macro analysis that provides a strong framework used by global and multinational corporations to set the stage to develop specific tactics to mitigate the risks involved in executing their vision in unfamiliar environments.
LIMITATIONS :
The external factors considered during PEST analysis are dynamic and they change at a very fast pace. In today's dynamic environment, these changes may occur in less than a day's time, thus making it tricky to predict.
Collecting enormous amounts of relevant data from the right sources becomes a bit of a problem. This makes PEST analysis not only time consuming but costly as well.
3. ANALYSIS
SECTOR OVERVIEW
Oil sector can be divided into following categories:
UPSTREAM - EXPLORATION AND PRODUCTION
At present, 17 foreign E&P companies including major multinational companies are operating in Pakistan.
MID-STREAM - REFINING
There are 7 refineries currently operating in Pakistan, of which major ones are:
PARCO: production 100,000 barrels per day equivalent to 4.5 million tons.
NRL: production 65,000 barrels per day equivalent to 2. 8 million tons.
ARL: production 42,000 barrels per day equivalent to 1. 8 million tons.
Oil sector has been a major contributor in the economic development of the country.
It contributes more than Rs. 230 billion to national exchequer annually (Business Recorder, 2011). Oil sector of the country is organized and regulated by ministry of petroleum and natural resources. The consumption of furnace oil in the country has jumped by 11% in 2011, as the power plants, have been forced to switch over to oil for generation of their electricity following the gas supply suspension to them. Likewise, the sale of Motor Gasoline (MOGAS) also surged by a significant 34% owing to increased gas load shedding in the country. Overall, oil consumption has reached 8.4 million tons, showing a rise of 5%. According to the provisional oil sales number for November 2011, oil consumption in the country increased by 11% annually (Salman Abudhoo, 2011). Petroleum products and natural gas account for about 80% of commercial energy use, hydroelectricity for about 15% and coal and liquefied petroleum gas (LPG) for the balance.
The last refinery was built in 1966 and there has been no significant increase in existing refineries since then.
RATIO ANALYSIS
It is used by investors and other stakeholders to assess the performance of company.
NET TURNOVER
NRL
NRL
NRL
ARL
ARL
ARL
FY09
FY10
FY11
FY11
FY10
FY09
Net Turnover (Rupees in million)
109,578
110,186
148,558
116,397
88,184
77,260
Turnover growth (%)
(18)
0.6
34.8
31.9
15.7
(16)
NRL recorded a phenomenal increase of 35% in sales in FY11 because demand for motor gasoline increased by over 27% over the preceding year mainly due to 50% increase in cars sales and 44% increase in motor cycles' sales, gas shortage in winters, three days holiday of CNG per week and extraordinary increase in use of generators due to frequent power outage. NRL achieved the highest ever-annual exports of lube base oils and sold the highest ever number of Wax this year (NRL Director's Report, 2011). This is in line with the industry averages as all refineries showed remarkable increase in sales this year due to higher local demand. The sales grew by nominal 0.6% in FY10, however ARL has managed to achieve 16% sales growth this year because of high export sales. Negative growth in sales of 18% occurred in FY09 (ARL,-16%) due to low demand of gasoline and high speed diesel oil. The main reason was decreased buying power of customers because of credit crunch in FY08.
PROFITABILITY ANALYSIS
Profitability determines a firm's ability to create economic value in excess of value expended,
to grow, remain solvent and repay debt (McKinley, 1984).
NRL
NRL
NRL
ARL
ARL
ARL
FY09
FY10
FY11
FY11
FY10
FY09
Gross profit/(loss) (Rupees in million)
5276
6,332
10,007
1,557
(509)
1,918
Gross profit/loss margin (%)
4.81
5.75
6.74
1.34
(O.6)
2.5
Profit/(loss) before tax (Rupees in million)
2,813
5,135
10,028
2,492
(181)
1,072
Profit/loss after tax (Rupees in million)
1,533
3,284
6,568
1,117
126
1,016
Net profit margin (%)
1.40
2.98
4.42
0.95
0.14
1.31
Return on capital employed (%)
8.80
17.76
29.69
19.21
1.21
10.24
Return on assets (%)
3.63
6.34
11.57
4.34
2.08
2.79
GROSS PROFIT MARGIN
The gross profit margin shows an increasing trend. It was 6.74% in FY11 which is 17% higher than the margin of FY10 which was 5.75%. Cost of Sales has varied correspondingly to almost near levels as of the sales (33%). Ultimately there is increase in gross profit of 58%. The gross profit margin in FY10 was 5.75% as compared to 4.81% in FY09. Cost of sales for FY10 stood at Rs.103.8 billion, as compared to Rs.104.3 billion the previous year. The largest component of cost of sales is crude oil consumed, which stood at Rs.102 billion. The reason of this was increase in prices of fuel in the international market. The petroleum development levy charge increased by 565% over the FY09, causing a setback, the fuel segment of company recorded a loss of Rs.707 million in FY10 and Rs.2.69 billion in FY09 (NRL Director's Report). The refinery product prices in Pakistan are linked to the prices in the Gulf region. The Arab Light crude oil prices increased by 44.3% to an average US $83.34 per barrel in FY09 as compared to US $57.77 per barrel during FY08, also commercial and industrial power tariffs had increased by 120% causing a lot of problems for businessmen and industrialists alike. (Nauman Tasleem, 2010).
As compared to the gross margin of NRL, ARL's margin in FY11 was low at 1.3% (-0.6%, FY10) due to its inability to cover production costs.
NET PROFIT MARGIN
Net profit margin shows the same increasing trend, it has almost doubled during FY10 as compared to 1.4 in FY09 mainly because of significant decrease in finance cost of 244% in FY10. Administrative, selling and distribution costs for the year grew by 13%, an expected rise considering the factor of inflation and rising salaries. The increase in expenses cannot be attributed to a single factor and is the combined effect of small increases in all expenses. In FY11 the profit before tax has almost doubled and finance cost has further decreased by 363% while admin and general expenses were in line with the previous year.
The net profit margins of NRL were excessively greater than ARL as its post-tax profit was 488% higher in FY11 as compared to its competitor. ARL suffered loss before taxation in FY10.
RETURN ON CAPITAL EMPLOYED
ROCE has been constantly increasing indicating good value and potential for growth. Profit before taxation was doubled in FY11 as compared to FY10 while reserves increased by 20% while in FY10 reserves increased by 11% and profit before taxation increased by 103% as compared to FY09. It has a higher ROCE than industry average due to higher PBIT. However ARL had a higher ROCE in FY09.
RETURN ON ASSETS
During FY11 the ROA was 11.57 due to higher profits attributed. While in FY10 it was 6.34 and then further declined to 3.63 in FY09. Although there was increase in total assets from FY09 to FY11 the increase in profits went on higher percentages to generate higher ROA's. It indicates efficient use of company assets for income generation. In FY11, the PPE declined by minimal 0.4% because NRL disposed some assets which were not producing cash flows to the company. It is fairly above ARL which has managed to achieve higher profits in FY11.
NRL
NRL
NRL
ARL
ARL
ARL
FY09
FY10
FY11
FY11
FY10
FY09
Current ratio
1.58:1
1.50:1
1.68:1
0.96:1
0.91:1
0.87:1
Quick ratio
1.08:1
1.13:1
1.07:1
0.8:1
0.75:1
0.70:1
Cash to current liabilities (Times)
0.31
0.51
0.28
0.09
0.07
0.15 LIQUIDITY ANALYSIS
CURRENT RATIO
NRL has a quite stable liquidity, as it has current ratio remained fairly above 1 for five consecutive years with only a slight deterioration occurred in FY10 when it fell from 1.58 to 1.51 when current liabilities rose 6% more than the current assets. Cash and bank balances increased significantly by Rs.7.8 billion in FY09 to Rs.16.2 billion in FY10,a rise of 107%. Trade debts also grew by 10% but this also indicates more illiquid assets of the company tied up against receivables. In FY11 ,current ratio rose to 1.6 as there was 6% increase in current assets while current liabilities stood same. Although trade debts have fallen by 15% in FY11 ,NRL has cancelled out the effect with slight decrease in trade payables as compared to previous year. There is 78% decrease in cash balances indicating the fact that cash has been paid to settle up current liabilities. This is confirmed by looking at fall in cash to current liabilities which has fallen to 0.28 from 0.51.
NRL is performing better than its competitor and its liquidity is quite stable as compared to ARL which has current and quick ratio below 1 in all three years. This declining trend can be explained by the fact that all the refineries finance their operating funds requirements by taking short term loans from the banks. They have very low non-current liabilities on their balance sheet.
QUICK RATIO
There was a slight increase in FY10 when it goes to 1.13 from 1.07 in FY09 . The proportion of stores, spares and chemicals decreased by 3% in FY10 and then further decreased by 2% in FY11, causing the ratio to fall at 1.07 but this is very satisfactory as compared to ARL. The main reason behind this was to avoid stock-piling of chemical products to avoid loss of goodwill.
NRL has better cash to current liabilities ratio than ARL due to strong cash balance and reserves
.
EFFICIENCY ANALYSIS
In terms of asset management, NRL has remained relatively stable, as shown in the following table.
NRL
NRL
NRL
ARL
ARL
ARL
FY09
FY10
FY11
FY11
FY10
FY09
Debtors collection period (Days)
41
51
37
77
125
74
Inventory turnover period (Days)
44
42
40
29
31
35
Payables payment period (Days)
83
88
67
120
182
143
Assets turnover(Times)
2.59
2.13
2.62
1.81
1.50
1.71
DEBTOR COLLECTION PERIOD
It shows a mixed trend in NRL. Although trade receivables increased by 12% to Rs.16,291 million in FY10 as compared to previous year of Rs.14,481 million, the sales level remained almost same during both years ,this resulted in rise of debtor days to 51 in FY10 (41, FY09) and then fell to 37 days in FY11 due to 35% increase in sales And 15% decrease in trade debts . This is quite satisfactory when compared to industry average as ARL lags behind in collection of receivables due to its slack credit policy.
INVENTORY TURNOVER PERIOD
The company's inventory turnover period has decreased slightly from 44 days last year to 42 days in FY10. This is due to 3% decrease in level of inventory over the period. It further decreased to 40 days in FY11 when the proportion of stores, spares and chemicals further decreased by a small 2%. This shows efficient management as less cash is tied up in inventory and more free cash flow is available to the company, however it is still behind its competitor which has better inventory turnover days.
PAYABLES PAYMENT PERIOD
Payables payment period of the NRL increased by 5 days in FY10 due to increase in trade payables of 29% while stability in sales and cost of sales and then it is reduced to 67 days in FY11 which is a good sign and reason of this decline is the small decrease in trade creditors. This will earn good reputation among its creditors. The payment period of ARL also improved to 120 days in FY11 and as it has a relatively stable and long time period to settle its creditors.
ASSETS TURNOVER
Total asset turnover again declined, dropping from 2.5 in FY09 to 2.1 in FY10 with sales remaining stable and assets increasing by 22%. In FY11 it moved up to 2.6. due to remarkable increase in sales as compared to 9% increase in assets, indicating efficient use of assets to generate sales. ARL showed a similar trend, but it has a low asset turnover than NRL.
DEBT AND CAPITAL STRUCTURE
NRL
NRL
NRL
ARL
ARL
ARL
FY09
FY10
FY11
FY11
FY10
FY09
Debt to asset ratio (%)
59
62
56
71
76
72
Long term gearing (%)
0.7
0.7
0.9
0
0
0
Inertest Cover (Times)
2.17
8.32
67.86
79.00
2.14
2.46
DEBT TO ASSET RATIO
The debt to asset ratio increased from 59% in FY09 to 62% in FY10, showing an increase of the company's debt. This shows that debt management of NRL declined in FY10. The company is however still in a better position than its competitor, which has an average debt to asset ratio of 78%. Total liabilities for NRL stood at Rs.32 billion, a 28% rise. Total assets on the other hand stood at Rs.51.6 billion, a smaller rise of 22%. In FY11 it declined to 56% because current liabilities stood almost same while assets have increased by 9%. Long term gearing ratio is very low at 0.7% and has slightly increased to 0.9% in FY11. This is characteristic of the industry as almost all refineries exhibit this phenomena. They have no or very low long term debt and usually finance their operations using internal resources. ARL has gearing of 0 in all 3 years.
INTEREST COVER
The interest cover was increased to 8.32 times in FY10 because of tremendous decrease in finance cost of 244% then previous year while profits rose by 11%. In FY11 it has risen to record high 68 times due to further decrease in finance cost of 363% and PBIT has almost doubled during the year. This is in line with industry averages due to high profits and tremendous decrease in finance costs (ARL, 584% decrease in finance cost in FY11). The company can easily pay interest out of its profits.
INVESTOR ANALYSIS
NRL
NRL
NRL
ARL
ARL
ARL
FY09
FY10
FY11
FY11
FY10
FY09
Earnings per share (Rupees)
19.17
41.08
82.14
25.63
1.48
11.92
Share price (Rupees)
220.02
182.85
352.26
119.86
79.86
154.86
Price Earning ratio (Times)
11.48
4.45
4.29
4.68
53.96
12.99
Dividend per share (Rupees)
12
20
25
2
-
-
Dividend yield (%)
5.68
10.94
7.10
1.67
-
-
EARNINGS PER SHARE
The earnings per share of the NRL keeps on increasing over the three years because of increase in net income attributable to the company. It rose to 114% in FY10 and then further increased to 100% in FY11 indicating the fact that NRL has been quite efficient at using its capital to generate income. Same trend is seen in industry, ARL has managed to increase its EPS to Rs.25 in FY11 in spite of previous year losses. This positive growth is also building the shareholders trust in the company and they might also be willing to invest more.
PRICE TO EARNINGS RATIO
The price earnings ratio was 4. 45 in FY10 as compared to 11.48 at the end of FY09, indicating low level of confidence on company's shares by investors, while there was constant increase in earnings. The share price has thus not risen as earnings would indicate and fell to Rs.182 as compared to Rs.220 in the previous year. This under-pricing in refining sector can be related to overall poor situation and in efficiencies of capital markets in FY10. Sudden growth in dividend yield also confirms the under-pricing of stock value. Opposite trend was seen in FY11 when PE ratio further declined to 4.2 as share price grew up to Rs.352. ARL had a better PE ratio during all 3 years indicating better shareholder confidence although its share price is quite lower.
DIVIDENDS
NRL paid its shareholders a dividend of Rs.20 in FY10 and Rs.25 in FY11, as compared to a dividend of Rs 12 per share announced in FY09. This increase is because of improvement in earnings over the years. Dividend yield was quite stable in FY09 and marginally higher in FY11 but was highest in FY10 and may be attributable to the fact that FY10 was a difficult year for company and it wants to payout more dividend to earn their confidence.
ARL paid dividend of Rs.2 in FY11 and gave nothing during FY09 and FY10 due to low profits.
SWOT ANALYSIS
STRENGTHS
NRL is the second largest oil refinery in Pakistan. It enjoys a competitive edge, as it is the only refinery producing Lube Base Oil in Pakistan (Business Recorder, 2012).
National Refinery has completed its project of self-power generation. It is meant for continuous uninterrupted power supply and to avoid plant shut-down (http://www.nrlpak.com/utilities.html, n.d.).
NRL has strong balance sheet reserves and it has retained its AAA and A1+ long and short term credit rating by PACRA for seventh consecutive year.
NRL has obtained various Quality Control and environmental certifications like ISO 9001, 9002, OHSAS 18001 and ISO 14001.
It has a strong brand name and customer loyalty in national and international market, furthermore, government protection is its main strength.
WEAKNESSES
NRL has not realized the importance of marketing. It has no outlet of its own in the country, it fully relies on oil marketing companies in this regard (Muhammad Shahbaz, 2012).
Sludge disposal and oil spills due to theft or poor condition of boilers lead to contamination and increase in costs.
Heavy reliance on only one supplier.
OPPORTUNITIES
The demand of the petroleum products is increasing at the rate of about 10% in Pakistan. Share of the petroleum products is about 40% of the current energy consumption in Pakistan and is constantly increasing. This is a substantial opportunity to grow. Also upcoming pipeline project of Peshawar would enable NRL to capture AFGHANISTAN'S oil market.
NRL has various opportunities to diversify itself in the gas exploration sector in Baluchistan which has huge gas reserves.
THREATS
Currently, oil refineries face tough times due to circular debt crisis. Production of oil refineries has fallen to 35% due to Rs.450 circular debt in oil sector. If government does not resolve this issue soon, it will hamper the production of crude oil affecting the refinery (Zeeshan Javed, 2012). The increase of oil prices in the international market has badly affected the economy, and as a result, the government is no longer in a position to provide the same amount of relaxation as before. The government has been gradually reducing the subsidy level.
CNG as a substitute product is greatly being promoted by the government hundreds of CNG stations are in place and other hundreds are being developed. This poses a great threat to the company's local sales of gasoline.
Pakistan is facing uncertain economic and political situation, as well as severe power crises. (Wajeeh Sani, 2011)
Security concerns relating to theft or damage of strategic assets especially in northern side close to Afghanistan.
PEST :
POLITICAL AND LEGAL FACTORS
Government has significant influence on the refining and oil industry in the sense that it regulates oil prices in Pakistan and refinery's pricing formula is controlled by Ministry of Petroleum. NRL imports petroleum products so it must comply with the import and export laws that government defines. There has been stability in the government during past five years. There are industrial laws for the protection of labor rights. In NRL there is labor union and these laws will be directly affecting the practices in the company for the determination of salaries and other benefits. Like all other listed companies, National Refinery Limited is governed by its Memorandum and Articles of Association, Code of Corporate Governance and the Companies Ordinance 1984.
ECONOMIC FACTORS
During inflation prices of products go high. Sale of petroleum products also effect during the inflation. Inflation rate in Pakistan keeps on rising and now it is at 10.2%. as a result of higher inflation ,the buying power of customers may suffer a set back. GDP was projected at 2.5% in 2011 (Asian Development Bank, 2011). Pakistan's economy has suffered in the past from decades of internal political disputes, a fast growing population and mixed levels of foreign investment. Rupee is constantly depreciating against Dollar, affecting the value of supplies.
SOCIAL FACTORS
Socio-cultural forces determine the values, beliefs and lifestyles of societies where oil companies operate. During the recent years, a large number of people bought cars and motorcycles due to soft loans and leases provided by banks, also number of generators increased due to frequent power outage and hence sale of petroleum products increased. Although now the people is switching towards CNG because of high petroleum prices.
TECHNOLOGICAL FACTORS
The refining industry is extremely technology driven. Technology is the key element from exploration to the refinement of oil and there is greater use of automation. There is improvement in techniques in the refining processes with more sophisticated technology is now being used to improve the margin. The company has a strong information technology capability. Computerized instrumentation and auto-tank gauging are being applied.
FIVE FORCES ANALYSIS
THREAT OF ENTRY
It is low in refining industry due to high investment and infrastructure costs as well as use of highly sophisticated technology. There are currently 7 refineries and 17 exploration and production companies in Pakistan which have developed strong market share and due to high unit costs, only big refineries are able to achieve economies of scale. Hence it is very risky and difficult for a new player to enter in this industry.
THREAT OF SUBSTITUTES
Substitute products and services limit the profit potential of firms and their source of value creation (Reilly and Brown, p. 498). This threat has increased in the past as government heavily supported CNG industry and more and more people preferred CNG because of high petroleum prices. However oil is the dominant source of energy and all industrial units require petroleum products and load shedding of CNG in the country has reduced this threat to a very low level.
COMPETITIVE RIVALRY
In the refining sector there are few major and strong players with less power. Also there has been a stagnancy in growth since the last refinery built up in 1966 and there has been no significant increase in capacity of the existing refineries. At the same time, exit barriers in the refinery business are quite high. There is moderate to high level of competition between refineries, with each refinery trying to increase its market share.
BARGAINING POWER OF BUYERS
The price of crude oil is determined on a global level, based on the economic relationship between global demand and supply of oil, and in the country, OGRA determines oil prices so there is nothing much the buyers can do. However independent power producers have a higher bargaining power which can exert pressure on refineries through different measures.
BARGAINING POWER OF SUPPLIERS
Refineries in Pakistan mostly buy their oil from Arab countries as there is very less crude oil extraction in Pakistan. NRL has only one major supplier (ARAMCO) which is based in Saudi Arabia and small local companies and hence its purchases are a major proportion of supplier's business, so their bargaining power is quite high.
CONCLUSIONS
FY09 and FY10 have been very challenging years for the entire oil sector, especially the refineries. FY09 saw severe fluctuations in international petroleum prices, with prices of Arab Light crude reaching all time high and then slumping to a low price. The stabilization in prices was not sufficient to maintain profitability, as the guaranteed return for the refineries was withdrawn, causing an erosion of the gross refiners margin (GRM). Crude oil prices continued to fluctuate during the year primarily because of international events like Japanese earthquake, weaker economic growth in USA and Europe and political uncertainties in the Middle East. Additionally, increase in demand from emerging economies of China and India also contributed to the increase in the oil prices. The year 2010 proved to be another difficult year for national economy. GDP growth remained weaker as the country had suffered severe losses due to the devastation caused by the unprecedented floods in August 2010. Most refineries had low profits like ARL which had losses in 2010.
In spite of all the above, NRL had earned profit after tax of Rs. 3284 million in FY10 as compared to Rs.1533 million in FY09. All profitability ratios were high while a small decrease in liquidity ratios occurred Efficiency ratios fell mainly due to circular debt crisis, debt to asset ratio also went down but they all were well above industry averages. EPS and dividend yield increased, while share price and PE ratio decreased.
FY11 remained a good year for refinery in term of sales and other financial figures as tremendous increase in sales was witnessed due to high demand of local gasoline and fuel products. During the financial year, the company contributed Rs. 31,962 million to the national exchequer in the shape of direct and indirect taxes and earned valuable foreign exchange of US $295 million through the export of Naphtha and Lube Base Oil (NRL Director's Report, 2011). All profitability ratios increased in FY11 backed up by higher operating and net profit. Liquidity position was improved a little bit as well as efficiency ratios. The receivables and the payables situation have improved in FY11 in terms of payment and receipt promptness due to the government's short-term attempts to deal with the inter corporate circular debt. Finance costs and accrued interest kept on declining, increasing the interest cover. EPS, share price and dividends all increased but PE ratio slightly fell. NRL outperformed its competitor in all three years and recorded impressive increases in earnings.
Overall the company has showed excellent signs of profitability over three years, It has adequate funds in the form of cash and bank balances and short-term investments to maintain its liquidity. The company is managing its liquidity without any long-term and short-term
borrowings. In terms of asset management, NRL has remained relatively stable, with only a small decline in FY10. The company has no long term loan and finances all the projects through internal resources.
NRL performed better than it's competitor in all financial ratios except inventory turnover and PE ratio. It's competitor ARL had better PE ratios.
NRL has utilized its strengths effectively to maintain its key position in the refining industry of the country. Although it has some weaknesses and threats like hostile economy conditions. There are many opportunities available that can make the company even a better player.
RECOMMENDATIONS
There is a lot of un-explored oil exploration area in Pakistan. Only a few companies are in the field . Due to this un-explored potential Pakistan and eventually NRL has to rely on imported crude oil. In my opinion, in presence of its financial strength, growing market and scarcity of raw material within Pakistan coupled with high prices, NRL can consider further backward integration and indulge in the field of oil exploration. In this respect they may adopt joint venture strategies. In case they succeed, they will be fully backward integrated and least financial risks will be there for them. The crude oil market is highly unstable and there is a rising trend in crude oil international prices. If they have their own input, they will be able to generate greater profits.
NRL should be more careful regarding its PE ratio which is below industry average in spite of higher earnings. More measures are necessary to obtain investor confidence.
NRL should engage itself in more marketing activities. It can promote their products through out the country and explore export market. For this purpose, it can use it's website.
