1.

INTRODUCTION
The companies chosen for the project are HPCL and IOCL which belong to the oil sector.
The oil and gas consumption contributes about 15% to India’s GDP .The Oil consumption is
expected to grow at about 5% annually for the next decade and the prices of petrol and diesel
have been deregulated . With this the potential for growth for companies belonging in oil
sector has increased. This in turn will attract the investments of foreign investors as well as
shareholders of the company. Therefore more and more funds in the form of shareholder
capital will be provided to the companies in this sector to fuel their growth. The companies
thus will become an important part of the portfolio holders of the investors and they will be
keen to know the everyday events in the domestic and international market

2. COMPANY OVERVIEW

2.1 HPCL
HPCL (Hindustan Petroleum Corporation Limited is an Indian state owned oil and
natural gas company based in Mumbai. It has been ranked 267th in fortune global 500
rankings of the world’s biggest corporations for the year 2012. The refining capacity has
steadily increased from 5.5 million metric tonnes in 1984 to 13.0 million metric tonnes in
2008. In 2012 HPCL’s fourth quarter net profit jumped to Rs.4631 crores, which is four
times more than the previous year profit. The company has been given the status of
Navratna by the Indian government.
The products dealt by the company are – Petrol, diesel, Lubricants, LPG, Aviation
Turbine Fuel and Furnace Oil.
It has total employee base of 11200, total assets of US$ 15.91 billion and total equity of
US$ 2.46 billion. The company is listed on both BSE and NSE.

2.2 IOCL
IOCL (Indian Oil Corporation Limited) is also a state owned oil and gas corporation
with its headquarters in New Delhi. The company is world’s 83rd largest public
corporation accoding to fortune 500 list. The company has been given the status of
Maharatna by the Indian government. Indian Oil and its subsidiaries account for 49%
share in the petroleum products, 31% in the refining capacity.
In 2012 IOCL sold 75.66 million tonnes of petroleum products and reported a profit
before tax of Rs. 37.54 billion. The products dealt by the company are – Petrol, Diesel,
LPG, Aviation fuel, Naphtha, Lubricants, Kerosene and Furnace oil.
It employs over 36000 people and has total assets of US$ 40.88 billion and Equity of
US$ 11.59 billion.
There are on the other hand some concerns for the companies. The volatility in the
crude and the subsidy burden eats into the profit of these companies. Moreover many
bureaucratic hurdles in projects are hurting company advancement.
1
3. COST OF DEBT
The cost of funds debts, bonds and debentures measures the current cost to the firm of
borrowing funds. There are it is governed by two variables
1. If the level of interest rates increases then the cost of debt increases
2. If the default risk of the firm increases then the cost of bonds and debentures also
increases
The cost of debt can be found out by taking average weight of all the loans and other funds
raised through the sale of bonds and debentures and then computing the average rate of
interest for the loan taken which is termed as cost of debt, represented by Kd.
Tax adjustments for cost of debt –
An important effect of cost of debt is the tax shield. As the interest is a tax deductible
expense, the firm gets a saving in terms of tax liability. The interest thus acts as a tax shield
and the tax liability of the firm is reduced. Therefore the effective tax rate for the firm will be
Ki = Kd (1- t)
Where Ki is the cost of debt after tax
Kd is cost of debt before tax
t is tax rate

3.1 SOURCES OF DEBT FOR HPCL –

Total debt stood at Rs.6291.37cr in the financial year 2011-12. Out of this Rs.1000cr was due
to non-redeemable bonds at 7.7%. Unsecured loans from various sources like banks foreign
investors amounted to Rs.5291.37cr.
The total interest paid to loan providers and debenture holders was Rs.1203.26cr.
To compute the interest rate on loan we need to find the interest paid in rupees to the loan
providers. For this we subtract the interest given to debenture holders from the total interest
paid and get interest on loans as –
Interest on loans = (interest paid on loans / unsecured loans value)
= 1126.26 / 5291.37
= 21.28 %
Kd (weighted average) = (5291.37 * 21.28 + 1000*7.7) / 6231.37
= 19.125%
Tax rate is 33.2175 %. The corporate tax is 30 % with 7.5% surcharge, 2% education cess
and 1% further SHE cess. So net tax rate comes out to be 30 * 1.075 * 1.03 which equals
33.2175 %

2
Kd (after tax) = 19.125 * (1 - 0.332175)
= 12.772%

3.2 SOURCES OF DEBT FOR IOCL

Unsecured loans of Rs.11007.6cr which is financed by foreign investors, foreign oil
companies and raising bonds in international market. Also in 2011-12 period a total of
Rs.4711.4cr was raised by issuing convertible bonds under various series which consisted of
different interest rates –
 Series 8 of Rs.1070 cr @ 11%
 Series 11 of Rs.1415 cr @ 9.28%
 Series 9 of Rs.1600 cr @ 10.70%
 Series 8b of Rs.500 cr @ 7.40%
 Series 5 of Rs.126.4 cr @ 10.25%
The cost of debt Kd can be computed by taking weighted average of all the series of
bonds as –
Kd (cost of debt) = (1070*11 + 1415*9.28 + 1600*10.7 + 500*7.4 + 126.4*10.25) /
4711.4
= 9.973 %
The cost of debt for the unsecured loans is assumed to be equal to the cost of debt by
computing weighted average of the series of bonds because in the balance sheet of IOCL
the interest rate for the unsecured loans is not mentioned.
Kd (after tax) = 9.973*(1 – 0.332175)
= 6.661 %

4. COST OF EQUITY AND RETAINED EARNINGS

Computing the cost of equity is the most difficult exercise as there is no commitment
from the board of directors to pay a fixed dividend to the shareholders. Moreover equity
shareholders are the last claimant of the money. On the other hand as the investment in
the shares is most risky, the investors expect maximum returns from the company in this
case.
For calculating the cost of equity which is a measure of the return to the shareholders we
have used the Dividend growth model in which it is assumed that the dividend grows
over a period of time. And that the rate of discount at which the expected dividends are
discounted to determine their present value is called the cost of equity share capital.

4.1 COST OF EQUITY FOR HPCL

According to dividend growth model-

3
Ke = D1 / P0 + g
Where, Ke is the cost of equity
D1 is the dividend given in the next year, D1 = D0 * (1+g)
P0 is the present share price of the company
G is the growth rate.
In computing Ke we have ignored the addition of g to the equation as it was negative and the
overall value of Ke would be negative which is not possible. The reason for this behavior is
that the dividend per share has been on a constant decline over the past 4 years for both the
companies. To determine the value of Ke more in line with the actual value we have used
CAPM model also.
Putting the values in the equation Ke = D1 / P0
D0 = Rs.8.5,
g = -2.786%
P0 = Rs.294.9
Ke = 2.81 % ,which is very low for an investor
Also Ke = Kr = 2.81 %
Where Kr is the cost of retained earnings. This is because if the retained capital if distributed
to the shareholders then the shareholders would invest the same money in the shares of the
company and hence would expect the company to invest them in some projects and receive a
minimum return which is equal to Ke . Hence the cost of retained earnings (Kr) is equal to Ke.

4.2 COST OF EQUITY IOCL –

Similarly the Ke value for IOCL can be computed by the same model –
The values are –
Growth rate = -2.41%
D0 = Rs.5
P0 = Rs.257.22
Ke = 1.89 %
Also Ke = Kr = 1.89%

4
 4.3 INTERPRETATIONS OF KD AND KR VALUES
 The cost of debt for HPCL is more as compared to the cost of debt for IOCL
 This implies that the borrowing cost for HPCL is more as compared to that of IOCL
 For Ke and Kr the dividend growth model computed values of Ke very low. So nothing
concrete could be inferred from these values. CAPM model is used for determining the Ke
values for the firms. This is because the growth of dividends is highly negative for the past 4
years.

Company Kd (cost of Debt) Ke (cost of Equity)

HPCL 12.957% 2.81%

IOCL 6.761% 1.89%

5
5. CAPM MODEL

5.1 SYSTEMATIC RISK

Systematic risk can be defined as the risk a company pertained due to external factors, like
government policies, inflation rate or any other factor which is out of the management’s
control.
Beta β is termed as the measure of systematic risk, it can also be defined as the number
describing the correlated volatility of an asset in relation to the volatility of the benchmark
that said asset is being compared to, which is BSE Sensex in our case.
Technically it can be find out through following equation,

𝜷 = 𝒄𝒐𝒗𝒂𝒓𝒊𝒂𝒏𝒄𝒆(𝑹𝒋, 𝑹𝒎)/𝝈𝒎𝟐
Where,
Rj= firm’s return
Rm= Market return
𝜎𝑚𝟐 = Market’s variance
In our case we have used last 12 years data from 01/04/2000 to 31/03/2012 in order to
calculate beta for respective companies.

5.2 IMPLICATION OF BETA

Following can be interpreted from respected beta values
Beta value Interpretation
β<0 Market and stock moves opposite to each
other
β=0 There is no correlation between market and
stock movement
0<β<1 Both market and stock moves in same
direction but degree of movement is less for
stock
β=1 Both market and stock are moving
simultaneously
β>1 Both market and stock moves in same
direction but degree of movement is greater
for stock

5.3 IOCL’S SYSTEMATIC RISK

6
Daily return for the stocks of IOCL was computer through following formulae:
Rj= P1-Po/ P1
Where,
P1= Price of current day
Po= Price of previous day
Average was taken for the return and then it is annualized through following formulae:
Annualized return= ((1 + average return)245)-1%
By applying the values in our model, we calculated following as our results:

PARTICULARS DETAILS

Average Daily Return 0.11

Annualized return 30.01%

Market St.Deviation 1.719312

Variance 2.956033

Covariance of IOCL 1.46258

Beta 0.494778

This signifies that if market escalates by 1 point, there is positive movement of .49 in IOCL,
vice-versa.

5.4 HPCL’S SYSTEMATIC RISK

Similarily, we have calculated financials for HPCL by first calculating return, market
variance and covariance for HPCL over these years. Following are the details of systematic
risk for HPCL:

7
 PARTICULARS DETAILS

Average Daily Return 0.06

Annualized return 15.6%

Market St.Deviation 1.719312

Variance 2.956033

Covariance of HPCL 1.65

This

Beta 0.55
signifies that if market escalates by 1 point, there is positive movement of .55 in HPCL.
From above analysis we can say that both the stocks are quite stable and does not show too
much of volatility towards market risk. Following graph shows the movement of these stocks
throughout these years.

8
 350.00
300.00
250.00
200.00
150.00
100.00
50.00
0.00
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
-50.00
-100.00

IOCL HPCL BSE

Trend over the years

On following three occasions there was dip in all three stocks due to systematic risk:
1) GULF WAR II took place in 2003-2004 shooting up crude prices. Downsizing annual
return for all three stocks.
2) Due to sub-prime crisis returns failed sharply in 2008.
3) Due to weak ₹ and higher crude prices, both companies conceded high losses again
downsizing returns in 2010-11.

5.5 COST OF EQUITY

Cost of equity is calculated through capital asset pricing model (CAPM), through following
formulae:
Ke=𝑅𝑓+𝛽(𝑅𝑚−𝑅𝑓)
Where,
Rf= Risk free rate of T-Bill 8.4%
Rm=Market return of BSE 15.65%
Following are the cost of equity for both the companies:
IOCL: 11.99%
HPCL: 12.45%

9
6. WACC (WEIGHTED AVERAGE COST OF CAPITAL)
A calculation of a firm's cost of capital in which each category of capital is proportionately
weighted is called working average cost of capital. All capital sources - common stock,
preferred stock, bonds and any other long-term debt - are included in a WACC calculation. All
else equal, the WACC of a firm increases as the beta and rate of return on equity increases, as
an increase in WACC notes a decrease in valuation and a higher risk.

The WACC equation is the cost of each capital component multiplied by its proportional
weight and then summing:

Ko = Kd(1-t)*wd+ Ke*we + Kr*wr

HPCL
Particulars Value(in Crores) Weight Cost in % WACC in %

Share Capital (EQUITY) 339.01 0.01746 11.99 0.2094

Reserves & Surplus 12,783.51 0.65847 11.99 7.8969
Long-Term Borrowing (DEBT) 6291.37 0.32407 12.77 4.1383
Total 19,413.89 1.00 12.1959
* Cost of Debt used here is After Tax Cost of Debt.
Weighted Average Cost of Capital (Ko) for HPCL = 12.2445%

IOCL
Particulars Value(in Crores) Weight Cost WACC
Share Capital (EQUITY) 2,427.95 0.0325 12.45 0.4046
Reserves & Surplus 55,448.75 0.7423 12.45 9.2410
Long-Term Borrowing (DEBT) 16,826.76 0.2252 6.66 1.5001
Total 74,703.46 1 11.1458
* Cost of Debt used here is After Tax Cost of Debt.
Weighted Average Cost of Capital (Ko) for IOCL = 11.1458%
 In both the cases we have taken, Kr = Ke, as cost of retained earnings can be calculated as
opportunity cost which company incurs.
 By Calculating WACC for both the companies, we find that cost of capital is more for
HPCL than IOCL.

10
6.1 CAPITAL STRUCTURE
Capital structure refers to the way a corporation finances its assets through some combination
of equity, debt, or hybrid securities. A firm's capital structure is then the composition or
'structure' of its liabilities. When people refer to capital structure they are most likely referring
to a firm's debt-to-equity ratio, which provides insight into how risky a company is. Usually a
company more heavily financed by debt poses greater risk, as this firm is relatively highly
levered.

For HPCL
Share Capital 339.01
Reserves & Surplus 12,783.51
Equity (Share Capital + Reserves & Surplus) 13,122.52
Debt 6291.37
Debt to Equity Ratio 0.479:1

For IOCL
Share Capital 2,427.95
Reserves & Surplus 55,448.75
Equity (Share Capital + Reserves & Surplus) 57,876.70
Debt 16,826.76
Debt to Equity Ratio 0.290:1

Below graph depicts the Capital structure of both the companies by representing equity and
debt in form of percentages in the respective companies. So for HPCL we have 67.59 % equity
and 32.40 % debt. Similarly in case of IOCL we have 77.47% equity and 22.52 % debt.

CAPITAL STRUCTURE
Percentage

80
60
40
20
0
HPCL IOCL
Equity 67.59346015 77.47526018
Debt 32.40653985 22.52

• Variability of earnings for the equity shareholder is more for levered company HPCL
than less levered company IOCL as Debt to Equity ratio is higher for HPCL compared
to IOCL. Also investment in HPCL will be more risky than IOCL due to higher debt
to equity ratio.

11
6.2 VALUATION
It’s the process of determining the current worth of an asset or company. There are many
techniques that can be used to determine value, some are subjective and others are objective.

NOI Approach
The essence of this approach is that the capital structure decision of a firm is irrelevant. Any
change in leverage will not lead to any change in the total value of the firm and the market
price of shares as well as the overall cost of capital is independent of the degree of leverage.
Formulaes:
The value of the firm, given the level of EBIT, is determined by,
V = EBIT/Ko
Where V-D = E, market value of the Equity
EBIT = Earnings before Interest & TAX
Interest = Interest on Debt

Valuation using NOI method for HPCL

Profit before Tax 1219.24
Finance cost 2139.24
Earnings Before Interest and Tax (Profit before Tax + Finance cost) (Amount In Rs Crores) 3358.48
Capitalization rate (Ko) 0.122445
Total firm value (Amount In Rs Crores) 27428.47809
Debt (Amount In Rs Crores) 6291.37
Market value of equity (Amount In Rs Crores) 21137.10809

Valuation using NOI method for IOCL

Profit before Tax 3,754.31
Finance cost 5,590.54
Earnings Before Interest and Tax (Profit before Tax + Finance cost) (Amount In Rs Crores) 9,344.85
Capitalization rate (Ko) 0.111458
Total firm value (Amount In Rs Crores) 83841.8956
Debt (Amount In Rs Crores) 16,826.76
Market value of equity (Amount In Rs Crores) 67015.1356

Value of Equity as per Market Capitalization as on 31st March 2012

For calculating the value of equity, we find Value of a share in market on 31 st March 2012.
From Yahoo Finance we found the historical Value for both the companies. Also No. of shares
were found from the respective companies Annual report for the financial year 2011-12.

FOR HPCL
Market Value on 31st March 2012 (Amount In Rs) 294.9

12
 No. of Shares 338,627,250
Value of equity as per Market Capitalization as on 31st March 2012 (Amount In Rs ) 99,861,176,025

FOR IOCL
Market Value on 31st March 2012 (Amount In Rs) 257.22
No. of Shares 2,427,952,482
Value of equity as per Market Capitalization as on 31st March 2012 (Amount
624,517,937,420
In Rs)

Value of Equity as per Relative Valuation

Relative valuation, also referred to as comparable valuation, is a very useful and effective tool
in valuing an asset. Relative valuation involves the use of similar, comparable assets in valuing
another asset.
Some of the most common and useful metrics to utilize in relative valuation include:
a) price to earnings ratio
b) return on equity
c) operating margin
d) enterprise value
e) price to free cash flow
When performing a relative valuation, a company's sector should be used to determine the most
logical multiple to use. Here we have used Price to Earnings Ratio of the industry to calculate
the value of equity. Market Value per share is calculated by multiplying P/E ratio and Earning
per share. Value of equity is calculated by multiplying no. of shares with the market value.

So Value of Equity = P/E ratio (for industry) * EPS * No. of shares.

FOR HPCL
P/E Ratio 12.89
EPS (Amount In Rs) 26.29
Market Value of Equity Per Share (P/E * EPS) (Amount In Rs) 338.8781
Value of Equity as per Relative Valuation (Amount In Rs) 114,753,359,088

FOR IOCL
P/E Ratio of industry 12.05
EPS (Amount In Rs) 16.29
Market Value of Equity Per Share (P/E * EPS) (Amount In Rs) 196.29
Value of Equity as per Relative Valuation (Amount In Rs) 476,593,718,478
Interpretation:
 From all the above methods, we find that Value of IOCL is much more than value of
HPCL.

13
Also from the above methods used, we find that, value of share for HPCL is undervalued and
value of share for IOCL is overvalued from industry average respectively.

7. INDIFFERENCE POINT
It’s that point where a common Earnings Before tax and Interest (EBIT) is calculated when
Earnings per Share (EPS) for two companies are equated. So at that value of EBIT for both
the companies we get EPS same for both the companies.
Therefore, Equating Earnings Per Share for HPCL and IOCL we have:
((EBIT-Interest HPCL) (1-Tax Rate))/No. of shares of HPCL =
((EBIT-Interest IOCL) (1-Tax Rate))/No. of shares of IOCL -------------------------------A
Assuming EBIT to be ‘x’, we have
Interest HPCL = Rs 2139.24 (in Crores)
Interest IOCL = Rs 5590.54 (in Crores)
No. of shares of HPCL= 338627250
No. of shares of IOCL= 2427952482
Tax Rate = 33.2175%
From the calculation, by using the equation A we have value of x = Rs 1579.87097 Crores.
So for EBIT of Rs 1579.87097 Crores, we have equal Earnings per Share for HPCL and
IOCL.

8. LEVERAGE ANALYSIS
 Operating leverage: A type of leverage ratio summarizing the effect a particular
amount of operating leverage has on a company's earnings before interest and taxes
(EBIT). Operating leverage involves using a large proportion of fixed costs to variable
costs in the operations of the firm. The higher the degree of operating leverage, the
more volatile the EBIT figure will be relative to a given change in sales, all other
things remaining the same. The formula is as follows:
% change in EBIT
% change in sales

 Financial leverage: A leverage ratio summarizing the affect a particular amount of

financial leverage has on a company's earnings per share (EPS). Financial leverage
involves using fixed costs to finance the firm, and will include higher expenses before

14
 interest and taxes (EBIT). The higher the degree of financial leverage, the more
volatile EPS will be, all other things remaining the same. The formula is as follows:
% change in EPS
% change in EBIT

 Combined leverage: A leverage ratio that summarizes the combined effect the
degree of operating leverage (DOL), and the degree of financial leverage has on
earnings per share (EPS), given a particular change in sales. This ratio can be used to
help determine the most optimal level of financial and operating leverage for a firm.
The formula used is:
% change in EPS
% change in sales

Degree of Operating Leverage, DOL = (% change in EBIT) / (% change in sales)

Degree of Financial Leverage, DFL = (% change in EPS) / (% change in EBIT)

Degree of Total Leverage, DTL = DOL* DFL

Financials - IOCL

PARTICULARS 2011-12 2010-11 % Change

SALES (Rs. Crores) 433,706.59 331,526.90 32.03

EBIT (Rs. Crores) 9344.85 11768.38 (-)20.59

EPS (Rs.) 26.92 45.45 (-)40.77

Leverage Calculations - IOCL:

Operating leverage (-)20.59 / 32.02 = (-)0.64

15
 Financial leverage (-)40.77 / (-)20.59 = 1.98

Combined leverage (-)40.77 / 32.02 = (-)1.27

Leverage Interpretation - IOCL:

The above table shows the computation of the operating, financial & combined leverage for
IOCL. The operating leverage of IOCL is (-) 0.64 which means that if there is 1% increase in
the sales of the company then the EBIT (Earnings before Interest & Taxes) goes down by
0.64%. Similarly the financial leverage of the company shows the relation between the
percentage changes in Earnings per Share (EPS) due to a percentage change in EBIT. The
financial leverage of IOCL is 1.98 which shows that the volatility of change in EPS with a
change in EBIT is high. The financial leverage indicates if there is 1% change in the EBIT
then the change in EPS will be 1.98% in the same direction.

Financials – HPCL

PARTICULARS 2011-12 2010-11 % Change

SALES (Rs. Crores) 188,130.95 142,396.49 32.11

EBIT (Rs. Crores) 3358.48 3229.79 3.98

EPS (Rs.) 16.29 30.67 (-)46.88

16
Leverage Calculations - HPCL:

Operating leverage 3.98 / 32.11 = 0.12

Financial leverage (-)46.88 / 3.98 = (-)11.76

Combined leverage (-)46.88 / 32.11 = (-)1.46

Leverage Interpretation - HPCL:

The above table shows the computation of the operating, financial & combined leverage for
HPCL. The operating leverage of HPCL is 0.12 which means that if there is 1% increase in the
sales of the company then the EBIT (Earnings before Interest & Taxes) goes up by 0.12%.
Similarly the financial leverage of the company shows the relation between the percentage
changes in Earnings per Share (EPS) due to a percentage change in EBIT. The financial
leverage of HPCL is (-)11.76 which shows that the volatility of change in EPS with a change
in EBIT is very high. The financial leverage indicates if there is 1% change in the EBIT then
the change in EPS will be 11.76% on the opposite side.

9. DIVIDEND POLICY AND P/E RATIO :

Dividend is the distribution of a portion of a company's earnings, decided by the board of
directors, to a class of its shareholders. The dividend is most often quoted in terms of amount
each share receives (dividends per share).

In 2011-12 HPCL gave 287.83 Crore Rupee as the total annual dividend, 186.25 Crore Rupees
less than previous year. IOCL gave 1214 Crore Rupee as total annual dividend, 1093 Crore
Rupee less than previous year.

Some Formaulae are:

Dividend Yield- It shows how much a company pays out in dividends each year relative to its
share price = Dividend per Share / Market Price per share

Dividend Payout Ratio - It is the fraction of net income a firm pays to its stockholders in
dividends

17
 = Dividend per share
Earning per share

Retention Ratio- The percent of earnings credited to retained earnings/ the proportion of net
income that is not paid out as dividends.

= 1- Dividend Payout Ratio

P/E Ratio – A ratio of a company's current share price compared to its per-share earnings.

= Market Price per share

Earnings per share
Ratios for IOCL and HPCL for last five years:

HPCL
Year 2011-12 2010-11 2009-10 2008-09 2007-08

Dividend 287.83 474.08 406.35 17 7.78 101.59

No of Share 33.86 33.86 33.86 33.86 33.86

Dividend per
Share 8.500590667 14.00118 12.00089 5.250443 3.000295

EPS( Rs) 26.92 45.45 38.43 16.98 33.51

Market Price 294.9 334.64 291.9 243 230.81

DPR 0.315772313 0.308057 0.312279 0.309213 0.089534

Retention Ratio 0.684227687 0.691943 0.687721 0.690787 0.910466

Book Value Per

share 387.52 370.49 341.32 316.88 311.59

Dividend Yield 0.028825333 0.04184 0.041113 0.021607 0.012999

P/E Ratio 10.95468053 7.362816 7.595628 14.31095 6.887795

18
 IOCL
Year 2011-12 2010-11 2009-10 2008-09 2007-08

Dividend 1214 2307 3156 910 656

No of Share 242.79 242.79 242.79 121.398 119.2

Dividend per
Share 5.000205939 9.502039 12.99889 7.496005 5.503356

EPS(Rs.) 16.29 30.67 42.1 24.3 58.39

Market Price 257.22 317.69 282.04 89.7 103.19

DPR 0.306949413 0.309815 0.308762 0.308478 0.094252

Retention Ratio 0.693050587 0.690185 0.691238 0.691522 0.905748

Book Value Per

share 238.38 227.9 208.21 362.43 344.58

Dividend Yield 0.019439413 0.02991 0.046089 0.083568 0.053332

P/E Ratio 15.79005525 10.35833 6.699287 3.691358 1.767255

Graphs:

16
14
12
10
8 DPS HPCL
6 DPS IOCL
4
2
0
2011-12 2010-11 2009-10 2008-09 2007-08

19
DPS OF HPCL AND IOCL

0.35
0.3
0.25
0.2 DPR HPCL
0.15
DPR IOCL
0.1
0.05
0
2011-12 2010-11 2009-10 2008-09 2007-08

DPR OF HPCL AND IOCL

0.1

0.08

0.06
Dividend Yield HPCL
0.04 Dividend Yield IOCL

0.02

0
2011-12 2010-11 2009-10 2008-09 2007-08

DIVIDEND YIELD OF HPCL AND IOCL

18
16
14
12
10 P/E HPCL
8
P/E IOCL
6
4
2
0
2011-12 2010-11 2009-10 2008-09 2007-08

P/E RATIO OF HPCL AND IOCL

Interpretation:

20
 HPCL has been increasing the total Dividend every year except last year and IOCL has
decreased the total dividend paid for the last two years.

 In 2011-12 Dividend Yield of HPCL is higher than that of IOCL implying that HPCL
gives more dividend per share as compared to IOCL for per Rupee invested, but this
has not always been the case.

 Higher P/E ratio of IOCL as compared to HPCL shows that investors are willing to pay
a higher price for per Rupee earning from IOCL.

 This shows that the investors have a positive image about IOCL and are expecting
higher earnings growth in future.

21
10. WORKING CAPITAL MANAGEMENT
Cash flows in a cycle into, around and out of a business. It is the business's life blood and
every manager's primary task is to help keep it flowing and to use the cash flow to generate
profits. If a business is operating profitably, then it should, in theory, generate cash
surpluses. If it doesn't generate surpluses, the business will eventually run out of cash and
expire .The faster a business expands, the more cash it will need for working capital and
investment. Good management of working capital will generate cash will help improve
profits and reduce risks. In this report the working capital turnover ratio was calculated by
using the following ratios:

1. Inventory Turnover Ratio

The formula for inventory turnover:

The formula for average inventory:

The average days to sell the inventory is calculated as follows:

Application in Business

A low turnover rate may point to overstocking, obsolescence, or deficiencies in the product
line or marketing effort. However, in some instances a low rate may be appropriate, such
as where higher inventory levels occur in anticipation of rapidly rising prices or expected
market shortages.

Conversely a high turnover rate may indicate inadequate inventory levels, which may lead
to a loss in business as the inventory is too low. This often can result in stock shortages.

Cost of sales yields a more realistic turnover ratio, but it is often necessary to use sales for
purposes of comparative analysis. Cost of sales is considered to be more realistic because
of the difference in which sales and the cost of sales are recorded. Sales are generally

22
recorded at market value, i.e. the value at which the marketplace paid for the good or service
provided by the firm. In the event that the firm had an exceptional year and the market paid
a premium for the firm's goods and services then the numerator may be an inaccurate
measure. An item whose inventory is sold (turns over) once a year has higher holding cost
than one that turns over twice, or three times, or more in that time. Stock turnover also
indicates the briskness of the business. The purpose of increasing inventory turns is to
reduce inventory for three reasons.

 Increasing inventory turns reduces holding cost. The organization spends less money
on rent, utilities, insurance, theft and other costs of maintaining a stock of good to be
sold.

 Reducing holding cost increases net income and profitability as long as

the revenue from selling the item remains constant.

 Items that turn over more quickly increase responsiveness to changes in customer
requirements while allowing the replacement of obsolete items. This is a major concern
in fashion industries.

2. Debtors turnover ratio:

Debtors turnover ratio accounts receivable turnover ratio indicates the velocity of debt
collection of a firm.

Formula of Debtors Turnover Ratio:

Debtors Turnover Ratio = Net Credit Sales /Average Trade Debtors

The two basic components of accounts receivable turnover ratio are net credit annual sales
and average trade debtors. The trade debtors for the purpose of this ratio include the amount
of Trade Debtors & Bills Receivables. The average receivables are found by adding the
opening receivables and closing balance of receivables and dividing the total by two. It
should be noted that provision for bad and doubtful debts should not be deducted since this
may give an impression that some amount of receivables has been collected. But when the
information about opening and closing balances of trade debtors and credit sales is not
available, then the debtors turnover ratio can be calculated by dividing the total sales by the

23
balance of debtors (inclusive of bills receivables) given and formula can be written as
follows.

Debtors Turnover Ratio = Total Sales / Debtors

Significance of the Ratio:

Accounts receivable turnover ratio or debtor turnover ratio indicates the number of times
the debtors are turned over a year. The higher the value of debtor turnover the more efficient
is the management of debtors or more liquid the debtors are. Similarly, low debtors turnover
ratio implies inefficient management of debtors or less liquid debtors. It is the reliable
measure of the time of cash flow from credit sales.

3. Creditor turnover ratio

It indicates the number of times sundry creditors have been paid during a year. It is
calculated to judge the requirements of cash for paying sundry creditors. It is calculated by
dividing the net credit purchases by average creditors. Net credit purchases consist of gross
credit purchases minus purchase return. When the information about credit purchases,
opening and closing balances of trade creditors is not available then the ratio is calculated
by dividing total purchases by the closing balance of trade creditors.

Creditor Turnover Ratio = Total purchases/Total Trade Creditors

Creditor Turnover Ratio = Net Credit Purchases/Average Trade Creditor

Working capital turnover ratio indicates the velocity of the utilization of net working capital.
This ratio represents the number of times the working capital is turned over in the course
of year and is calculated as follows:

4. Working Capital Turnover Ratio:

Working Capital Turnover Ratio = Cost of Sales /Net Working Capital

The two components of the ratio are cost of sales and the networking capital. If the
information about cost of sales is not available the figure of sales may be taken as the
numerator. Networking capital is found by deduction from the total of the current assets
the total of the current liabilities.

Significance:

24
 The working capital turnover ratio measure the efficiency with which the working capital
is being used by a firm. A high ratio indicates efficient utilization of working capital and a
low ratio indicates otherwise. But a very high working capital turnover ratio may also mean
lack of sufficient working capital which is not a good situation.

HPCL IOCL
Ratios Formula 2011-12 2011-12
Inventory turnover ratio:
Cost of goods sold 56943.23 202283.1
Average inventory 27765.67 106113.72
Cost of goods sold/Average inventory 2.0508502 1.90628601
Days 360 360
Inventory conversion period Days/ITR 175.536955 188.848891
Debtors turnover ratio: Net Credit sales 178139.23 437706.59
Average Debtors 5203.59 19934.735
Net Credit sales /Average Debtors 34.2339097 21.9569806
Days 360 360
Debtor collection period Days/DTR 10.5158892 16.3956969
Creditors turnover ratio: Net Credit purchases 109370.73 190824.41
Average Creditors 17212.35 62897.21
Net Credit purchases /Average
Creditors 6.35420091 3.03390898
Days 360 360
Creditor payment period Days/CTR 56.6554324 118.658801
Working capital turnover
ratio: Cost of goods sold 56943.23 202283.1
Average working capital 5938.27 61855
Cost of goods sold /Net working
capital 9.58919517 3.27027888
Working Capital turnover period 37.5422539 110.082355

Cash Reserves 226.38 307.01

Analysis:

 HPCL has a higher inventory ratio with a greater inventory conversion rate of 175
days. This means that HPCL is able to sell its products more quickly as compared
to IOCL, thereby reducing the amount of funds blocked in form of inventory

25
 HPCL has a higher Debtors turnover ratio of 34.233 with a greater conversion rate
of 10.5 days. This means that HPCL has a much better receivables management
system as compared to IOCL.
 HPCL has a higher Creditor turnover ratio of 6.354.However the no of days is 56.4.
The credit period is lower as compared to IOCL.
 This means that HPCL gets a lesser credit period from its creditors as compared to
IOCL, Thereby increasing the requirement of cash required for purchases.
 HPCL has a lower Net Working Capital however it has a faster turnover ratio. Also
it utilises lesser cash reserves as compared to IOCL which means that it is more
efficient with its working capital.
 It is evident from above that HPCL has a better inventory management, receivables
management cash management and working capital management policies, as
compared to that of IOCL.
 The only negative point for HPCL is the lesser credit period it gets, which the
management must try to extend, to lower the requirement of working capital further.
 HPCL has an aggressive approach towards working capital management, whereas,
IOCL has a more conservative approach. This is evident from the fact that HPCL
uses lesser cash reserves but better working capital turnover ratio.

26
 11. PORTFOLIO ANALYSIS
Portfolio is a grouping of financial assets such as stocks, bonds and cash equivalents, as well
as their mutual, exchange-traded and closed-fund counterparts. Portfolios are held directly by
investors and/or managed by financial professionals.

Risk-Return Analysis

Calculation Steps:-
 The daily stock prices for the years 2004-2012 have been taken from the Yahoo
Finance.

 The return is calculated for each day using the formula:

= ln (End day price / Previous day price)*100

 The Daily Return is annualized using the formula:

o Annualized Return = ( 1 + Daily return)n − 1
o where n is the number of the trading days( here we have taken 245 days).

 The Risk is calculated by calculating the variance of the returns.

 The Daily risk is then annualized using the same formula:

Annualized Risk = ( 1 + Daily risk)n – 1
 Beta is calculated using the formula:
= Covariance of security and market / Variance of market

11.1 PORTFOLIO – I
 We have made a portfolio of three securities in equal weights.
 The securities are IOCL, HPCL and BSE.
 BSE sensex has been used as market Index.

Iocl Hpcl Bse

Average Return 0.05103463 0.003027313 0.065800559
Annualised Return 0.13315178 0.007444377 0.174870999
Standard Deviation 2.78676873 2.530383798 1.716062158
Variance 7.76607993 6.402842164 2.944869331
Maximum Return 2.83780335 2.533411111 1.781862718
Minimum return -2.7357341 -2.52735649 -1.650261599

Covariance Matrix

IOCL HPCL BSE

27
 IOCL 7.76208298 4.3134369 1.50436883
HPCL 4.3134369 6.39954683 1.56862894
BSE 1.50436883 1.56862894 2.9433537

Portfolio risk and return – (Equal weights)

Portfolio return is the weighted average return on individual securities.

Portfolio risk depends on the co-movements of return of two securities. It can be calculated by
following formula - (in case of 2 securities)
= 𝜎2xW2x + 𝜎2y W2y +2 WxWy 𝜎x 𝜎y Corxy

Annualized Return 0.133151781 0.007444377 0.174870999

IOCL HPCL BSE
0.33 0.33 0.33
IOCL 0.33 0.845290836 0.469733278 0.163825765
HPCL 0.33 0.469733278 0.696910649 0.170823691
BSE 0.33 0.163825765 0.170823691 0.320531218
Variance 3.471498173
standard deviation 1.863195688
Mean Return 0.104104162
% Return 10.41

Interpretation
 IOCL is the most risky security in the portfolio and BSE Sensex is safest.
 Also IOCL is more risky than HPCL, and also gives a higher return as compared to
HPCL.
 The portfolio return is equal to 10.41%

Coefficient of variation allows to determine how much volatility (risk) an investor is

assuming in comparison to the amount of return he expects from his investment. In
simple language, the lower the ratio of standard deviation to mean return, the better
the risk-return tradeoff

= 1.863196 = 17.8974
0.104104

11.2 PORTFOLIO – II

 We have made a portfolio of three securities in equal weights.

 The securities are IOCL, HPCL and BSE oil and gas.
 Prices for the years 2004- 2012 have been used to analyze the portfolio.

28
 BSE oil and gas index has been used as market Index.

Iocl Hpcl Bse Oil & Gas

Average Return 0.05103463 0.003027313 0.059877967
Annualized Return 0.13315178 0.007444377 0.15795685
Standard Deviation 2.78676873 2.530383798 1.957825294
Variance 7.76607993 6.402842164 3.833079884
Maximum Return 2.83780335 2.533411111 2.017703261
Minimum return -2.7357341 -2.52735649 -1.897947328

Covariance Matrix

IOCL HPCL BSE oil & gas

IOCL 7.762082977 4.313437 1.961460878

HPCL 4.313436897 6.399547 2.033273588

BSE Oil & gas 1.961460878 2.033274 3.83110712

Annualized Return 0.133151781 0.007444377 0.15795685

0.33 0.33 0.33
IOCL HPCL BSE oil & gas
0.33 IOCL 0.845290836 0.469733278 0.21360309
0.33 HPCL 0.469733278 0.696910649 0.221423494
0.33 BSE Oil & gas 0.21360309 0.221423494 0.417207565
Variance 3.768928774
Standard Deviation 1.941372909
Mean Return 0.098522493
%return 9.85

Interpretation
 IOCL is the most risky security in the portfolio and BSE oil and gas is safest.
 Also IOCL is more risky than HPCL, and also gives a higher return as compared to
HPCL.
 The portfolio return is equal to 9.85%

= 1.94137= 19.70
0.09852

29
Conclusion
Since, the coefficient of variation is lower for portfolio 1 as compared to portfolio 2, it
offers a better risk-return to investors.

30
12. REFERENCES

1. http://www.hindustanpetroleum.com/En/UI/AboutUsHomeLand.aspx
2. http://www.iocl.com/aboutus.aspx
3. http://capitalmind.in/2011/06/t-bill-auctions-at-8-1-indian-yield-curve-inverts/
4. http://www.iocl.com/InvestorCenter/AnnualReport.aspx
5. http://www.hindustanpetroleum.com/En/UI/Financials.aspx
6. http://in.reuters.com/finance/stocks/overview?symbol=HPCL.BO
7. http://in.reuters.com/finance/stocks/overview?symbol=IOC.BO
8. http://in.finance.yahoo.com/q?s=hpcl.bo&ql=1
9. http://in.finance.yahoo.com/q?s=IOC.BO&ql=1
10. http://in.finance.yahoo.com/q?s=%5EBSESN&ql=0

31