Muhammad Ibrahim Section-A

Background

Descon Engineering Limited was founded in 1997, with office size of 5000 square feet

based in Pakistan. Abdul Razak Dawood joined the company in 1981 and is known as the

founder of the company. He remained chairman and oversaw company’s expansion till August

2018. Originally the company operated as an engineering enterprise. Later on, with tireless and

vigorous efforts of its chairman, the company expanded its operations in chemicals and power

businesses. To date, Descon Engineering Limited is a renowned brand, a conglomerate

multinational company that have 15 businesses which are indulged in Construction, Power,

Inspection and Chemical industry. This Pakistani company surfaced with only four engineers and

now its operations are carried out by more than 30,000 employees, these employees are a mix of

30 different nationalities employed in Pakistan and the Middle East. The company gained the

honor of being the first Pakistani company to operate in six countries having four manufacturing

units.

Introduction

Descon Engineering Limited is a public limited company which owns and operates

chemical and power plants and has a place in inspection and construction. Descon Chemicals

Business consists of Descon Oxychem Limited. While, the power business was established in the

form of Descon Power Solutions (DPS). Descon also owns two self-supporting power plants

(IPP), Altern Energy Limited and Rousch Power Limited. Descon Oxychem limited will be the

focus of this report.

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Descon Oxychem limited being a subsidiary company whose management and operations

are controlled under Descon Chemical Enterprise is one of the leading firm to capture most of

the market in Hydrogen Peroxide (HP) in Pakistan. It initiated in 2008, and rapidly evolved its

operations in international regional markets. This was possible as the company used state-of-the-

art plants to achieved rapid growth in providing its services at a cost-effective way. In 2008,

Descon Oxychem incorporated in Pakistan stock exchange selling majority of its ownership to

Descon Engineering (55%) and rest to family members (38%) and associated companies (17%).

The company conducted the IPO of 32.5million common share to the general public at par value

of Rs.10 per share out of Rs.102million total capital. At first Descon Oxychem was authorized to

issue one billion one hundred million rupees (1,100,000,000) as share capital divided as Rs.10

per share, which later increased to two billion two hundred rupees (2,200,000,000) share capital

that included additional 110million preference shares at Rs.10 each. The current market

capitalization is of 2.82billion rupees.

Mission and Vision

Company’s mission is based on four principles of Safety, innovation, sustainability and

customer focus. The goal of the company is stay up to date with the ever changing demands in

the market and meeting customer needs along with providing incident-free workplace to it

employees. The vision and the long term aim of Descon Oxychem is to stay market leader in

Pakistan for supplying all oxidative solutions which are based on hydrogen peroxide.

Furthermore, the aim also involve targeting research and innovation in a way that also serves as a

means of sustaining the environment along with maximum satisfaction on both employee and

customer level.

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Following is the organization chart listing the hierarchy of the company:

Where naming the top employees of the company we have: Taimur Dawood head the

company being the chairman. Imran Qureshi as CEO and Muhammad Saqib Abbas as Chief

financial officer. Company secretary being Abdul Sohail.

Targets and Achievements

Descon Oxychem limited target to employ its reach and innovation towards building a

better future along with protecting and sustaining the environment. It secure a good public image

by providing a quality product to its customers which consequently maximizing the returns to the

stakeholders. It aimed to be the primary supplier of customized chemicals for textile, food and

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beverage safety, industrial and customer markets. Since the foundation and success it focused on

international market for mash and paper, electronic assembling and cosmetics. It became the

market leader capturing most of the market and maintained its position till date. Furthermore, the

company entered the global market supplying around 4.6million tons of hydrogen peroxide by

2017. It reap around 12 to 15 percent total international chemical industry revenue.

Financial statements

Descon Oxychem Limited’s fiscal year ends at June 30 of each year.

(Source: PACRA)

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Industrial analysis

Descon Oxychem Limited (DOL) operates in Pharma and Chemicals industry producing

hydrogen peroxide which reap around 12 to 15 percent of world’s chemical industry revenues.

The major consumer of hydrogen peroxide (HP) is the textile sector of Pakistan which recently

face shortage of HP, leading to increase in its prices. All Pakistan Chemical Manufacturers

Association (APCMA) has viewed this situation as the main contributor of the price hikes

experienced in this industry. This sector benefits from government protection against

international competition, as imports are charged with 11% tariffs. In Pakistan there are total

twenty four Chemical companies which are officially listed in Karachi stock exchange, out of

which two parties are working in this Hydrogen Peroxide Sector one being Descon oxychem

limited and the other is Sitara Peroxide Limited.

Both companies compete domestically with a production capacity of 30,000MT per

annum each. When aggregated, this industry face approximately around 60,000 tons of domestic

demand, 10% of which is met by imports. This sector is further divided in two regions: North

region, in which Descon Oxychem Limited capture majority of the market share of 55% rest

taken by Sitara Peroxide, and Southern region where Descon takes the market share of 44% and

the rest of 56% is apprehended by Sitara Peroxide and imports equally. Descon Oxychem

Limited abide by the regulations listed by Securities and Exchange Commission of Pakistan

which ensures the financial requirements are being fulfilled by the company, also Pakistan

Standards and Quality Control Authority (PSQCA) is the regulatory body in charge of making

sure all the safety and health regulations are complied with.

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Credit risk analysis

With the expertise of the project team equipped with ISO, ASME and OHSAS

certification Descon Oxychem limited has gained the leading position especially in the North

region. As there are only two manufacturers in this sector Descon Oxychem limited managed to

have excellent rating with immense support by its financially stable and experienced business

group parent company. Furthermore, efficient plants, production process, control environment

and technological infrastructure enable the company to maintain a good long-term credit rating.

From the Table below we can see that Descon Oxychem has a short term rating of ‘A1’ from the

year September 2011 to June 2018 with Stable outlook, which mean there are very low chances

of rating being change in expected future. Short-term A1 rating states that Descon Oxychem is in

very strong position to pay back its debt timely. The liquidity position enable the company to

meet any short term repayment of liabilities. Descon Oxychem is given a long term rating of ‘A’

from the period September 2011 to June 2018 with a stable outlook which has changed to

Positive outlook in the second half of 2018. ‘A rating’ tells the investors that there is very low

expectations of credit risk, however, there is still same risk involve giving the company’s beta

(market risk) value of 1.53.

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(Source: PACRA)

Both Short term and Long term ratings is issued by the Pakistan credit rating agency

limited (PACRA). The company face a positive outlook in later 2018 due to timely execution of

its expansion plan, as from November 2018 the Descon Oxychem limited shifted its preference

share to inter-company loans and by taking the fiscal space available it undergo an expansion of

capacity by 25%. Improving its stand in the competitive market and adding to the profitability of

the firm means that there is a positive impact on the credit rating. With already enough free cash

flow available to pay off the debt the company benefits from the international price increase in

Hydrogen Peroxide market which further improved the cash flow condition of the firm. Descon

Oxychem Limited as the Figure 2 shows has maintained its credit rating for more than 8 years.

Business risk

Descon Oxychem Limited is currently the market leader with capturing 53% of the

market share of Hydrogen Peroxide in 2018. With the announcement of Engro Polymer to enter

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the market of Hydrogen Peroxide it is estimated that the market share of the company will fall.

Company may manage to maintain its position if there is seen an increase in economic activities.

There is an increased in the revenues earned by the company due to the price hikes in the

international market, this has largely impacted the business risk in favor of the company. Also

because of the same international price rise the company has maintained the margins reflecting

the cost increase in the prices face by the end consumer. In order to cater the increased demand

of Hydrogen Peroxide, the 25% expansion in capacity would help the company in lowering the

risk of loses.

Financial risk

Descon Oxychem limited screens its capital structure based on gearing ratio, it has a low

solvency risk. Although the company get credit period of 90 days by the souring partners the

sales of the company are almost all on cash basis. The company is very slightly levered as in

2017 it made a repayment of its long-term debt, dropping the high long-term debt percent

contributing to capital structure of 21.2% in 2016 to only 2.4% in 2017, this trend remained the

same for the coming year. However, for financial year 2020, Descon Oxychem plan to expand its

capacity of hydrogen peroxide by 7000MT which will be financed mainly by debt. Furthermore,

there is improving trend for earning per share of the company from the 2016 of 0.44 to 2.01 in

2017 and 3.16 for the year 2018. Also the company has a high PE ratio of 8.82x for the fourth

quarter of 2018 and expected earnings growth of 187.3% for the first quarter of 2019, this is due

to the improvement in manufacturing efficiencies and selling price which enhanced the

productivity and profitability of the company.

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Liquidity and Profitability Ratios

Ratios Year 2018 Year 2017 Year 2016 Year 2015 Year 2014

Cash to Current Assets 19.3% 4.1% 31.1% 11.8% 1.1%

Cash to Current 42.8% 4.9% 24% 18.9% 2.5%

Liabilities

Current ratio 2.22 1.21 0.77 1.61 2.26

Acid test 2.12 1.10 0.74 1.35 1.94

Inventory turnover 39.17 times 36.17 times 18.18 times 13.26 times 18.17 times

Receivable turnover 39.11 times 32.39 times 22.41 times 16.62 times 14.97 times

Payables turnover 7 times 7.8 times 7.62 times 10.33 times 12.08 times

Days sale in inventory 7 days 12 days 10 days 33 days 21 days

Days sale in receivable 7 days 13 days 12 days 23 days 20 days

Days Purchase in 52 days 53 days 48 days 52 days 34 days

payables

Net trade cycle -38 days -28 days -26 days 4 days 7 days

Trend Analysis

Cash based ratio over the five year period showed that company is more confident

about its operations as it maintain low cash to current assets, for instance for 2018 cash only

contribute towards 19.3% of total current assets this being higher than 2014 cash level however

smaller than 2016. Cash to current liabilities was also higher for 2016 compared to previous

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years, one of the reason for having slightly higher cash level is be due to the fact that company

reduced its debt to equity ratio in this year. This ratio reached the highest of five years in 2018

when current liabilities were reduced significantly. The company experience a fall in current

liabilities in 2018 because the accrued finance cost was reduced notably over the year after

long-term debt being reduced in 2016 along with most part of the interest payments being

made in 2017. The company is no longer oblige for interest on the current portion of long-term

debt and has no “finances under markup arrangement” liability thus have better current ratio in

2018. Although current asset are similar for 2018 and 2017 the company managed to cut its

current liabilities from year 2017 improving the current ratio for the year 2018. Along with

2018, the company experienced ideal current ratio in 2014 as well, whereas only 2016 shows

slight concern of the liquidity position. The current ratio which Descon Oxychem experience of

2.22 is measurably higher than the industrial average of 1.

Acid test ratio for the company in 2018 of 2.12 is also better than the industrial

composite of 0.57, along with this Descon maintain good amount liquid assets to meet the

current liabilities for all the five years, having the minimum ratio of 0.74 in 2016. Inventory

turnover is 39.17 versus 5.54 for the industry, stating the fact Descon is performing very well

compared to industry as it has less cash invested in its inventory. Over the years inventory

circulation has improve causing the company hold less inventory, requiring less cash tied up in

inventories stock. Receivable turnover of 39.11, is also higher than the industrial composite of

37.19, meaning the company make efficient collection from trade debtors than the industry on

average. Payable turnover is showing a decreasing trend from the year 2014 to 2015, this

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shows that the company is developing better and stronger bargaining power as the creditors

give longer credit term.

Day’s sale in inventory and day’s sale in receivable are quite good for the company, both

showing improving trend over the five years. This means that Descon Oxychem require only 7

days to sell the inventory and 7 days to collect from the debtors for 2018, which has improved

from requiring 21 and 20 days respectively in 2014. The company is able to collect from the

debtors much earlier than the rule of thumb credit policy of 30 days of the industry. The

company also effectively delays its payment to the creditors having around 52 days to pay in

2018, this has also improve from 2014 of 34 days. For 2016 to 2018 the net trade cycle for the

company is excellent as it collects and circulate receivables and inventory faster than paying its

creditors, and for the rest it only requires 4 and 7 days for 2015 and 2014 respectively to

complete the whole circle of selling inventory to collecting receivable and paying for the cost of

the creditors.

Solvency analysis

Ratios Year 2018 Year 2017 Year 2016 Year 2015 Year 2014

Total Debt to 12.9% 20.5% 40.6% 85.7% 81.4%

Total Capital

Total Debt to 0.148 0.257 0.684 6.03 4.36

Equity Capital

Long-Term Debt - - 0.074 4.97 0.446

to Equity Capital

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Short-Term Debt 1 1 0.89 0.174 0.102

to Total Debt

Descon Oxychem has made a change in its capital structure as it moves to remove the

long-term debt from its statements in 2016. The company saw a remarkable fall in the total debt

to total capital from year 2014 of around 81.4% to 12.9% in 2018. Consistent with the removal

of long term debt the ratio of total debt to equity has fallen over the years. From 2016 to 2018

this ratio is below the industrial norm of 1.16. However, for year 2015 and 2014 it experience

high debt to equity capital, meaning majority of the finances come from debt financing in these

two years. Descon Oxychem moves towards a more conservative capital structure, with lower

financial leverage and lower risk. Company only had one year, 2015, in which its long-term debt

to equity went above the industrial average of .559, and rest the ratio remain below the norm.

Short term debt over the year become the main liability face by the company starting from as low

as 0.102 to reaching 1 in 2018.

Asset composition

Ratios Year 2018 Year 2017 Year 2016 Year 2015 Year 2014

Inventory to 1.29% 2.21% 1.27% 3.9% 2.57%

total assets

Cash to Total 5.54% 1% 8.69% 2.84% 0.2%

assets

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Accounts 1.93% 3.11% 2.1% 3.29% 3.08%

receivable to

total assets

Total debt to 12.9% 20.5% 40.6% 85.7% 81.4%

total assets

The company maintain low inventory level which is consistent with its inventory

turnover, as it can be seen from above table, from 2014 to 2018 company maintain around 2.57%

to 1.29% inventory among its total assets. Furthermore, cash level and account receivables are

also low stating that company maintain its cash and receivable effectively.

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