EMBEE

FINANCIAL ANALYSIS OF INDIAN AUTO ANCILLARY INDUSTRY AT EMBEE FINANCIAL SERVICES PVT. LTD.

A SUMMER PROJECT STUDY SUBMITTED IN PARTIAL FULFILLMENT FOR THE REQUIREMENT OF THE TWO YEAR POST GRADUATE DIPLOMA IN MANAGEMENT (FULL-TIME)

BY

ABHISHEK MIGLANI 53F/2010 LAL BAHADUR SHASTRI INSTITUTE OF MANAGEMENT , DELHI

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ACKNOWLEDGEMENT

summer

project

is

an

opportunity

for

learning

and

self-

development. I consider myself honoured to have people lead me through in completion of this project. I am grateful to Mr. Mukul Bansal , Chairman and Mr. R.P. Sinha , Managing Director who gave me this opportunity to work and learn in their firm. My heartiest thanks to Mr. Ashok Nayyar , Senior Vice President who inspite of his busy schedule constantly guided me throughout the project on all technical and non-technical aspects. I am very grateful to Mr. Ashok for he advised me not only on issues related to my project but also on other academic and professional aspects I discussed with him. I would also like to take this opportunity to thank Mr. Kamal Miglani , Sr. Finance Manager, Bharat Gears ltd who introduced me to Auto Ancillary Industry. Last but not the least I thank all those who shared valuable information that helped in the successful completion of this project.

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EXECUTIVE SUMMARY

The Auto Ancillary Industry is highly fragmented and has a USP of very low Net Profit Margins ranging from 0.5 % to 10 %.Industry indirectly has a lot of influence on countrys GDP as a very high proportion of low skilled labour is employed by this Industry. The total turnover of this Industry in FY 11 was $26 billions and export contributed $5 billion to this figure. There are 3 types of markets which the Indsutry caters to : 1. OEM (Original Equipment Manufacturers ) Maruti , Honda , escorts etc 2. Exports 3. After Sales

The main advantage to the India Auto Ancillary Industry is the low Employee cost which is to the tune of 10-15 % of total cost where as in Western countries , the figure revolves around 25-30 %. The study was conducted on mainly 8 companies , all of which had Product and Clientele differentiation. The study also tries to find out the financing trends in the Industry. One of the company Krishna Maruti Pvt. Ltd. Has been studied in detail and a Credit Rating Report has been prepared. It was concluded after the study that Auto Ancillary Industry is highly fragmented and is Heterogeneous in nature.Some important findings and conclusions are mentioned in the Conclusions.

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TABLE OF CONTENTS

1. Objective of Study 2. Company Profile of Embee financial services Pvt Ltd. 3. Indian Auto Ancillary Industry An overview 4. Industry Structure 5. Future Prospects 6. Study Conducted (a) (b) (c) (d) (e) (f) Identifying companies Company wise financial Analysis Summary of financial Analysis Financing trend in the industry Credit Rating of Krishna Maruti Pvt. Ltd Result and Validation of Result

5 6

8 10 13

17 19 22 23 24 28 30 36 37 41 42 43

7. Credit Rating Models 8. Auto Ancillary and Inflation 9. Conclusion 10.Constraints in the study 11.References 12.Balance sheets and Profit and loss Accounts

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Objective of the Study

The primary objective of my study is to do financial analyses of Indian Auto Ancillary Industry in terms of : 1. Industry Profit Margin and other important ratios 2. Financing trends in Auto Ancillary Industry 3. Credit Rating of an unlisted company

Along with the above objectives, some of the underlying objectives to do the research are as follows: y To gain a theoretical experience in one of the most debated topics in academic as well as professional circles. y To analyze the practical implication of the theoretical aspects learnt during the MBA program.

y To gain practical knowledge of the actual working of the credit risk management activities in India.

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COMPANY PROFILE

VISION
To be the most preferred integrated Management & Financial services provider to Corporates, Small & Medium Enterprises & HNIs clients!!!

BRIEF OVERVIEW

The company got incorporated in the Year 1995, having its registered office at Chandigarh It has evolved from a modest beginning in Year 1995 to a leading financial services group of North India, in a time span of 15 years The company is promoted by CA Mr. Mukul Bansal, a visionary & the driving force behind the company; and supported by a lead team of professionals who have strong Academic credentials & professional experiences It is an integrated Niche financial services group, providing one stop solution to the Corporates, SMEs & HNIs in the areas of Corporate Finance & Investment Banking, Portfolio Management, Business Consulting, Legal & Statutory services etc.

MAJOR DEALS

Amicable settlement of FCCB buy back & roll over for Venus Remedies Ltd. of amount $14mn

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Raised $55mn through private equity placement of Nectar Life Sciences Ltd.

Successful CDR of Winsome Group, involving 15 Banks and $50mn, in first strike Numerous Debt Syndication deliveries

M&A / DEMERGER ASSIGNMENTS FOR :

Alchemist ltd , Chandigarh Venus Remedies , Panchkula Shiva Texfabs ltd , Ludhiana Kashmir Apiaries ltd , Ludhiana Surya Pharamaceutical ltd , Chandigarh

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INDIAN AUTO ANCILLARY INDUSTRY AN OVERVIEW

The Indian auto ancillary industry has come a long way since it had its small beginnings in the 1940s. If the evolution of the industry is traced in India, it can be classified into three distinct phases namely: Period prior to the entry of Maruti Udhyog Ltd, Period after the entry of Maruti Udhyog Ltd and Period post Liberalization. The period prior to the entry of Maruti Udhyog Ltd was characterized by small number of auto majors like Hindustan Motors, Premier Automobiles, Telco, Bajaj, Mahindra and Mahindra, low technology and assured business for most of the auto-component manufacturers. The entry of Maruti in the 1980s marked the beginning of the second phase of the industry. The autoancillary industry in the country really showed a spurt in growth during this period. This period witnessed the emergence of a new generation of auto ancillary manufacturers who were required to meet the stringent quality standards of Marutis Korean collaborator Suzuki of Japan. The good performance of Maruti resulted in a upswing for the domestic auto ancillary industry. It was during this period that auto components from India began to be exported. The entry of foreign automobile manufacturers ranging from Mercedes Benz, Ford, and General Motors to Daewoo following the government liberalizing the foreign investment limits saw the beginning of the third phase of the evolution of the industry. The auto anciallry industry witnessed huge capacity expansions and modernization initiatives in the post liberalization period. Technological collaborations and equity partnerships with world leaders in auto components became a common affair. However, the global automobile majors soon realized the folly of their estimations in India. The market did not seem to be as big as it appeared to be.

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Hence, sales targets went awry. The tough competitive scenario saw a lot of consolidation in the industry and it still continues unabated. The Auto Ancillary industry has already attained a turnover of US$ 26 billion in FY11. The industry provides direct and indirect employment to around 12 million people. The contribution of the automotive industry to GDP has risen from 2.77% in 1992-93 to 4.5% in FY11.The industry is also making a contribution of 17% to the kitty of indirect taxes of the Government. Of the total turnover of Automotive Industry , 40 % comes from Auto Ancillary Industry. The Indian auto component industry has been navigating through a period of rapid changes with great lan. Driven by global competition and the recent shift in focus of global automobile manufacturers, business rules are changing and liberalisation has had sweeping ramifications for the industry. The global auto components industry is estimated at US$1.2 trillion. The Indian auto component sector has been growing at 20% per annum since 2000 and is projected to maintain the high-growth phase of 1520% till 2015. The Indian auto component industry is one of the few sectors in the economy that has a distinct global competitive advantage in terms of cost and quality. The value in sourcing auto components from India includes low labour cost, raw material availability, technically skilled manpower and quality assurance. An average cost reduction of nearly 2530% has attracted several global automobile manufacturers to set base since 1991. Indias process-engineering skills, applied to re-designing of production processes, have enabled reduction in manufacturing costs of components. Today, India has become the outsourcing hub for several global automobile manufacturers. Innovation and cost pruning hold the key to meeting the global challenge of rising demand from developed countries and competition from other emerging economies. Several large Indian auto component manufacturers are already gearing to this new

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reality and are in the process of substantially investing in capacity expansion, establishing partnerships in India and abroad, acquiring companies overseas and setting up greenfield ventures, R&D facilities and design capabilities. Some leading manufacturers of auto components in India include Motor Industries Company of India, Bharat Forge, Sundaram Fasteners, Wheels India, Amtek Auto, Motherson Sumi, Rico Auto and Subros. The Indias Top 500 Companies, published by Dun & Bradstreet in 2006, listed 22 auto component manufacturers as top companies in India with a total turnover of US$ 3 bn. These companies are in the process of making a mark on the global arena, and some have already acquired assets abroad.

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Industry Structure

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The total turnover of the Indian auto component industry is estimated at US$26 bn in 2010. The industry has the resources to manufacture the entire range of auto products required for vehicle manufacturing, approximately 20,000 components. The entry of global manufacturers into India during the 1990s enabled induction of new technologies, new products, improved quality and better efficiencies in operations. This in turn effectively acted as a catalyst to the local development of the component industry. The Indian auto component industry is extensive and highly fragmented. Estimates by the Department of Heavy Industries, Government of India, indicate there are over 400 large firms who are part of the organised sector and cater largely to the Original Equipment Manufacturers (OEMs). Another 10,000 firms exist in the unorganised sector that operates in a tier-format. The firms in this segment operate in low technology products and cater to Tier I and Tier II suppliers and also serve the replacement market Around 4% of the companies operating in the auto component segment cater to 80% of the demand emanating from OEMs. Within the unorganised segment, apart from supplying in the aftermarket, a number of players are also involved in job work and contract manufacturing.

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Source :ACMA The range of products manufactured, with each broad product segment having a different market structure and technology, has negated any possible concentration of the market in a few hands. The market is so large and diverse that a large number of players can be absorbed to accommodate buyer needs. However, there are a select few large companies that have integrated their operations across the value chain. The key to competing in this industry is through specialisation by product-type, and integrating operations across the related area of specialisation. An interesting insight provided by a study conducted by the National Council of Applied Economic Research revealed that the market segments for auto components included OEMs constituting 33%, local components having 25% with the balance 42% comprising of spurious market including re-conditioned parts. A large part of the spurious or grey market companies are in the

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unorganised sector.

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The regional base of auto component manufacturers is mostly concentrated in the West, North and South of India.This regional concentration of auto component manufacturers has been dictated by the emergence of automobile manufacturers in these regions. The set up of Tata Motors, Bajaj, Mahindra & Mahindra and TVS in the 1950s and 1960s laid the foundation for auto component manufacturers in the West and South, whilst the entry of Maruti during the 1980s created the base in the North. MARKETS Auto Ancillary companies are totally dependent on Auto companies and thus there is a huge risk involved for this over dependence. Generally Auto Ancillary companies diversify there risk by balancing their revenues from 3 types of Markets : 1. OEM 2. After Sales 3. Exports EXPORTS Factors like Low cost and Quality assurance are leading to rapid growth in Exports of Auto components YoY. The Exports are expected to grow by 32 % in FY11 to $ 5 billion.

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Exports ($bn )
6

5 4 3 Exports ($bn ) 2
1 0

FY08

FY09

FY10

FY11(E)

Source : ACMA 80 % of total exports are made to OEM and 20 % is After Sales. 54 % of Exports are made to Asia and 34 % to Europe. FUTURE PROSPECTS

Poised to grow by over four-fold to US$ 113 billion by 2020, the Indian auto component industry is one of the front runners for grabbing the global auto components outsourcing market. The total passenger car production in the country will jump four times to reach 9 million cars by 2020, according to Automotive Component Manufacturers' Association (ACMA). Although a major chunk of this will come from the fast growing domestic market, exports are likely to form around 35 per cent of the total market by 2020.

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"India would be among the top-five vehicle producing countries in the world by 2020," says ACMA.A recent ACMA report puts the turnover of the auto component industry at about US$ 26 billion in 2010-11, up 18 per cent from US$ 22 billion in 2009-10. The report states that 40 per cent of the auto component industry was dominated by body and structural products in 2009, 20 per cent by engines and exhaust, and 10 per cent each by suspension and braking parts, transmission and steering parts, electronics and electrical and interiors. By 2015, body and structural will account for 35 per cent of the auto component industry, engines and exhaust 20 per cent, suspension and braking parts, transmission and steering parts and electronics and electrical will account for 13 per cent each and interiors 9 per cent. The potential compound annual growth rate (CAGR) of the auto component industry is estimated to be around 18 per cent in the period 2010-11. Exports from the auto component industry are estimated to be worth US$ 5 billion in 2010-11, according to the ACMA report. Europe is likely to have accounted for 36.9 per cent of India's auto components exports in 2010-11, followed by Asia with 28.1 per cent and North America with 24 per cent. The industry has witnessed a shift in the composition of exports over the years. Investments in the auto component industry are estimated at US$ 12 billion in 2010-11, according to ACMA. Destination India India has proven product-development capabilities and proximity to emerging markets. The Asian country is also turning out to be an attractive destination as a global outsourcing hub and manufacturing base for original equipment manufacturers (OEMs), especially after the global economic downturn. With the finalisation of the Automotive Mission Plan (AMP) India is expected to become a preferred destination for design and manufacture of automobile. The plan envisaged an investment of

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US$ 40 billion and provided a road map to help transform India into a global automobile player. The AMP proposed a 25-point plan that included making India a manufacturing and export hub for small cars, multiutility vehicles, two and three-wheelers, tractors and components. Furthermore, Indian companies are compliant with global automotive standards, e.g. the Japanese Industrial Standard Committee (JISC) and DeutschesInstitutfrNormung (DIN). India offers the advantage of low manufacturing costs due to economies of scale, low design, research and labour costs, and local sourcing of tools and components. Large Indian players contribute around 43 per cent of the total production, while foreign companies such as Magna, Visteon, Valeo, Bosch, Federal-Mogul Corporation and Denso contribute 15 per cent. Auto component exports are expected to grow to US$ 30 billion by 2020. Indias share in the global auto components market is expected to rise from 0.9 per cent in 200809 to 2.5 per cent in 2015.

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STUDY CONDUCTED

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ANALYSIS OF THE AUTO ANCILLARY INDUSTRY

Identifying companies
Since the Industry is highly fragmented , It was necessary to identify some companies which can represent the Industry and can be targeted for the financial analysis. The following companies were identified and analyzed : 1. 2. 3. 4. 5. 6. 7. 8. Krishna Maruti pvt ltd. Rico Auto ltd. Sona Koyo Steering ltd. Bharat Gears ltd. Elofic Industries pvt ltd Ashim company Asahi Glass India Sandhar Caana pvt ltd.

The companies were identified from a diverse background taking into consideration following factors 1. Turnover : Companies with a turnover in the range Rs. 4 crore to Rs. 1000 crore were identified to get a bigger perspective. Ashim Company is a proprietorship firm with annual turnover of Rs. 4 crore where as Krishna Maruti is pvt. Ltd company with an annual turnover of over Rs. 900 crores. 2. Product Category : It was necessary to choose companies manufacturing different kind of products.

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Company Krishna Maruti Rico Auto Products Seats , Door trims Engine parts (32) Clients Maruti Suzuki GM India Markets OEMs OEM, After sales, Exports OEM OEM , After Sales, Exports OEM OEM , After Sales , Exports OEM , After Sales OEM

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Sona Koyo Steering Bharat Gears

Steerings Gear Box

Ashim company Elofic Industries

Tractor parts Fuel Filters

M&M, Mahindra Tata Motors , Swaraj Mazda Escorts JCB , ACE , HM

Asahi Glass India Sandhar Caana

Auto Glasses

All OEMs

Crane Parts

Escorts

3. Diverse Clients The companies identified had diverse clientele. Some of their major clients are mentioned below.

4. Markets catering to : There are 3 kind of markets which Auto Ancillary Industry cater to : (a) (b) (c) OEM Exports After Sales

As seen , companies from diverse markets were analyzed.

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ANALYSIS
The company wise analysis is presented here where as the Industry analysis and other important findings will be there in the conclusion

1. Bharat Gears : Overview : Bharat Gears Ltd. (BGL) is one of the world leaders in gears technology and India's largest gear manufacturer. The company caters to markets in USA and North America BGL is a major global supplier of automotive gears and heat treatment furnaces. The company manufactures a wide range of Ring Gears and Pinions, Transmission Gears and Shafts, Differential Gears, Gear Boxes majorly for the automotive industry. Financial Anlaysis : The company has a sales of over Rs. 250 crores and a PAT margin above Industry average at 6.74 %. Companu has a very high employee cost at 16 % of total cost and liquidity ratios are average. 2. Krishna Maruti : Overview : Krishna Maruti was established in 1995. It is a Joint Venture with Maruti where Maruti holds 29 % stake. It manufactures Door trims , Seats and other Interior of the cars. It gets it 99 % revenue from Maruti Suzuki ltd. Financial Analysis : The company has sales of over Rs. 900 crores with a PAT margin of 2.5 %. Company has very little equity capital of Rs. 4.24 crores. It follows Just in Time approach in its Inventory management.

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3. Elofic Industries : Overview : Elofic was founded in the year 1951 by its present Chairman Mr. M.S. Sahni. The origin was very humble, with only a handful of dedicated workmen manually producing around 100 filters per day and covering a range of just 10 applications. Today, with a production capacity of over 42 million pcs per annum, Elofic is better known as a brand leader in India. It manufactures filters for all vehicles like passenger cars, tractors, commercial vehicles, etc in its three State-ofthe-art production units at Faridabad (near New Delhi), Nalagarh (in Himachal Pradesh) and at Hosur (near Bangalore) Financial Analysis : The company has a sales of around Rs. 100 crore and a PAT of Rs. 9.46 crore. The company has a very high current ratio of 2.12. The company is not much leverage and interest burden is ver low. 4. Rico Auto : Overview : Rico is a world-class engineering company supplying a wide range of high precision fully machined aluminium and ferrous components and assemblies to automotive OEMs across the globe. Ricos integrated services include design, development, tooling, casting, machining and assembly across ferrous and aluminium products. Financial Analysis : With a sales of around Rs. 800 crore and PAT of Rs. 3.49 crore . The company is highly leverage with Debt to equity ratio of over 4 and very high Interest burden. The interest burden is just 10. Companies ROA is very low and Net operating cycle is on the lower side.

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5. Sona Koyo Steering :

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Overview : Sona Koyo Steering Systems Limited (SKSSL) the flagship company of The Sona Group, is currently the largest manufacturer of steering systems for the passenger car and utility vehicle market in India. Its collaborator and partner, JTEKT Corporation, is the market leader in Japan and in the recent past announced a merger with Toyota Machine Works. Financial Analysis : The company having sales of Rs. 855 crore and PAT of Rs. 23.07 crore follows just in time inventory approach for many of its products. Companys days on inventory is just 17 and has a negative Net operating cycle. Company derives 50 % of its revenue from Maruti Suzuki ltd.The company has a very high cash ratio of 0.85 and is less leverage but its Interest Burden ratio is 50 %.

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SUMMARY OF FINANCIAL ANALYSIS

COMPANY Bharat Gears STRENGTHS Higher than average ROCE and ROA Higher than average Current and Quick Ratio WEAKNESS High Employee cost , Longer Net Operating cycle Very low profit margin , Highly leverages, High Interest cost, Longer Cash Conversion cycle Lower Cash Ratio

Rico Auto

Elofic Industries

Sona Koyo Steering

Krishna Maruti

Asahi Glass India Ashim Company

High profit margin . Higher Current Ratio, Very low leverage , Lower Interest Burden Shorter Cash Conversion Cycle , Lower days in Inventory, Higher cash ratio Shorter Cash Conversion cycle , Lower days in Inventory , Lower Interest burden Sufficient data not available Sufficient data not available

Lower ROCE, Higher Interest burden

Higher Leverage

Sufficient Data not available Sufficient data not available

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FINANCING TRENDS

Most of the companies fund themselves with both Fund Based and Non Fund Based financing . Capital Expenditure is usually funded by Long term loans and Working capital needs are also met through short term financing from Banks. There are also some examples of recent Private equity Investments in Auto Ancillary Industry. International Finance Corporation, the World Bank's private investment arm, has lined up an Rs 162-crore investment in Coimbatore-based Craftsman Automation while Motilal Oswal PE has invested Rs 40 crore in Delhi-based Minda. Raising capital through IPOs is not preferable in the Industry. The reason given by managements was that they do not get justified valuations from Capital Markets as the Investor sentiment is not upbeat due to low margins.There are very few companies which are listed. Some of the big names include Rico Auto , Sona Koyo Steering. Most of the Marutis vendors require very less working capital since they use Just in time inventory approach and there days in Inventory is low.`

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CREDIT RATING OF KRISHNA MARUTI PVT. LTD.

CREDIT RISK
Basic Understanding - The risk of loss of principal or loss of a financial reward stemming from a borrower's failure to repay a loan or otherwise meet a contractual obligation. - Credit risk arises whenever a borrower is expecting to use future cash flows to pay a current debt. - Credit risk is closely tied to the potential return of an investment. - Higher the perceived credit risk, the higher the rate of interest that investors will demand for lending their capital. - Credit risks are a vital component of fixed-income investing, which is why ratings agencies evaluate the credit risks of thousands of corporate issuers and municipalities on an ongoing basis. - Credit Rating agencies gained wide spread acceptance post the US Sub Prime crisis and the various corporate scandals that were unearthed subsequently. - The corruption present in the industry also came to limelight at the same time. Some examples of credit rating agencies are: Moodys, Fitch, Standard & Poors, and ICRA, CRISIL and Care in India.

Identifying parameters Parameters were identified on the basis of information collected from Finance Managers and studying Rating reports of D&B.

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Liquidity Ratios

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1. Quick Ratio : Quick ratio is a measure of Current Assets present excluding Inventory to meet Current Liabilities. It is necessary not to include Inventory because many companies in Auto Ancillary sector do not hold Inventory for longer period.

2. Receivable in days : It is very important to know how many days are taken to convert your Credit sales to Cash. It is a very important factor to consider because most of the sales happen in Credit.

3. Inventory in days : It is necessary for a good borrower to manage its inventory efficiently . Thus , it becomes an important ratio.

4. Payable in days : Payable in days is on a higher side in this Industry so it becomes important to know if the company being assessed does not have below average Payable in days.

5. Operating cycle : It is the sum of Receivable in days and Inventory in days and describes how much time a company is taking from buying an inventory and converting credit sales into cash. The shorter the time , the better for the company.

6. Net Operating cycle : It is Operating cycle Days in payable. It also takes into consideration that payment has to be made to supplier from whom the company has bought supplies on credit. If it is negative , this implies company is working on advances and does not require much working capital. The greater it is, the more bad it is for company.

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7. Asset /Equity : It lets us know , how much Asset is financed by Debt i.e. not financed by Equity. It is a measure of leverage of the company.

8. Interest Coverage Ratio : After determining the level of leverage a company has , we need to use Interest coverage ratio to see how much Operating Income the company is generating to pay off its Interest. The greater it is , the better.

9. Interest Burden ratio : It describes how much burden interest payments are making on operating income. Interest cost is a significant cost of the total cost and thus it is imperative to see if it is not making too much hit on Operating Income.

10. EBIT Margin : Interest cost is a significant cost of total cost. Thus it is also important to see earnings without interest and tax.

11.Net Profit Margin : Net Profit Margin is net profit divided by Sales. It is a very important ratio for any Industry under consideration.

12. ROCE : Return on capital Employed tells what is the return the company is making on its capital employed ( Total Assets Current liabilities ). It considers only operating Income and is a good measure for an industry like Auto Ancillary where Depreciation costs and Interest costs are very high.

13. ROA : Instead of Capital employed where we do not take into consideration Current liabilities, ROA considers total assets which is equal to sum of equity and liability.It considers net profit instead of operating profit.

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14. Sales Growth trend : Sales growth is an important parameter , because it affects the whole balance sheet and P&L of a company. Especially for Auto Ancillary industry where the margins are very low, it becomes all the more important.

13. Cash flow from operations/EBIT : For a lender , it is very important to know that how much Cash is being generated from operation of the company to whom he is lending. EBIT is operating income and the above mentioned ratio indicates how much cash is being generated more or less than EBIT.

14.Client Concentration ratio : It becomes very important in Auto Ancillary Industry to understand how much dependence an Auto Ancillary unit has on its client especially if its a OEM. The evaluation of this parameter is totally subjective. The case in study Krishna Maruti pvt ltd. Has only 1 major client Maruti Suzuki. But given the goodwill Maruti holds , the risk for Krishna MAruti subsidizes. 15. Revenue Breakup : It takes into consideration how much revenue is being generated from OEM segment , After Sales segment and Export segment. An overdependence on any one segment creates a risk. The case in study Krishna Maruti has exposure to only OEM segment , but the risk subsidizes given the goodwill Maruti holds.

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RISK ASSESMENT OF KRISHNA MARUTIY PVT. LTD.

LOW RISK

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VALIDATION OF THE MODEL

The above result is validated by using Piotroski Model, which is explained in the following pages. Using Piotroski Model which calculates a score out of 9 based on certain parameters, we arrived at a score of 8 out of 9. The closer the score is to 9 , the lesser is the risk. Thus , our result is validated using Piotroski Model.

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MODELS

Introduction Risk assessment is a step in a risk management process. Risk assessment is the determination of quantitative or qualitative value of risk related to a concrete situation and a recognized threat (also called hazard). Quantitative risk assessment requires calculations of two components of risk: R, the magnitude of the potential loss L, and the probability p, that the loss will occur. In qualitative systems, the information categories relevant to creditworthiness are also defined on the basis of credit experts experience. However, in contrast to classic rating questionnaires, qualitative systems do not assign a fixed number of points to each specific factor value. Instead, the individual information categories have to be evaluated in qualitative terms by the customer service representative using a predefined scale. This is possible with the help of a grading system or ordinal values (e.g. good, medium, poor). The individual grades or assessments are combined to yield an overall assessment. In credit assessment, therefore, these models constitute an attempt to use experience in the lending business to make statements as to the future credit-worthiness of a borrower. The quality of heuristic models thus depends on how accurately they depict the subjective experience of credit experts. Therefore, not only the factors relevant to creditworthiness are determined heuristically, but their influence and weight in overall assessments are also based on subjective experience. In the development of these rating models, the factors used do not undergo statistical validation and optimization.

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Piotroski Model

A discrete score between 0-9 which reflects nine criteria used to determine the strength of a firm's financial position. The Piotroski score is used to determine the best value stocks, nine being the best. The score was named after Chicago Accounting Professor, Joseph Piotroski who devised the scale according to specific criteria found in the financial statements. For every criterion (below) that is met the company is given one point, if it is not met, then no points are awarded. The points are then added up to determine the best value stocks.

Profitability Positive return on assets in the current year (1 point). 1 y Positive operating cash flow in the current year (1 point). y Higher return on assets (ROA) in the current period compared to the ROA in the previous year (1 point). 1 y Cash flow from operations are greater than ROA (1 point) Leverage, Liquidity and Source of Funds
y

Lower ratio of debt-asset in the current period compared value in the previous year (1 point).1 y Higher current ratio this year compared to the previous year (1 point). 1 y No new shares were issued in the previous year (1 point). 1 Operating Efficiency
y y y

A higher net margin compared to the previous year (1 point). A higher asset turnover ratio compared to the previous year (1 point).

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If a company has a score of 8 or 9 it is considered strong. If the score adds up to between 0-2 points, the company is considered weak. With any investment system, looking at past results doesn't always mean it will work in the future but historical data does affect the trend that persists. Modified Beneish Model It is a mathematical model that uses financial ratios and eight variables to identify whether a company has exploited loopholes in accounts. The variables are constructed from the data in the company's financial statements and, once calculated, create an MScore to describe the degree to which the earnings have been exploited. The forensic accounting model can also be used by auditors, lenders, securities analysts and regulators to quickly screen a large number of firms and identify those with the greatest potential for manipulation of their earnings reports. The evaluation of the model suggests a systematic relation between financial statement disclosures, stock market variables and the likelihood of earnings manipulation. Most of the data in the model can be extracted from an annual report. The model contains variables intended to capture distortions in financial data produced by earnings manipulation. The basic premise underlying these variables is that accounting is a double-entry system. That is, firms cannot inflate revenues or deflate expenses without simultaneously bloating an asset account SGI - Sales Growth index DRI Day Sales Receivable index NMI Net Margin index SGAI Sales and General Administrative Expense index LVGI Leverage index Once calculated, the eight variables are combined together to achieve an M-Score for the company.

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The Beneish model calculated here is the 5 score model which includes the above variables and is modified. This was because of the lack of data at hand The other Beneish model is the actual 8 score model which uses 8 variables in total. Calculation sales current year Sales Growth _____________ Index =

sales prior year

(sales prior year minus cost of goods sold prior year)/sales prior year Gross Margin Index =

_____________________________

(sales current year minus cost of goods sold current year)/sales current year

receivables current year/ sales current year Days' Sales Receivables Index = in ________________________________

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receivables prior year/sales prior year

sales, general and current sales current year

administrative year

expenses /

Sales GA ________________________________ Index = sales, general and administrative prior year / sales prior year expenses

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AUTO ANCILLARY INDUSTRY AND INFLATION

The rising commodity prices since last two years have been a double hit on margins for the Industry : both on the increasing cost and increasing Inflation sides. The industry has come up with some measures to decrease the effect of inflation : Frugal Engineering : Frugal Engineering or Gandhian Engineering is the science of breaking up complex engineering processes/products into basic components and then rebuilding the product in the most economical manner possible. Frugal engineering results in simpler and easier to handle processes and cheaper products with necessary features.

Usage of Common Engine Parts : Auto and Auto ancillary companies have started using common engine parts. For example Maruti has replaced its earlier engine portfolio of both F-series and K-series engine with only K- series engine now. A classical example of reducing cost was when Maruti decided to bring down weights of all components of Maruti by 1 gram. This would bring down the weight of the car by 2.6 kg which would eventually save Rs. 150 per car.

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CONCLUSION

Some important findings and conclusions of my study have been : 1.Suppliers of Maruti Suzuki : (a) Joint Ventures :- Maruti has a unique model of forming joint ventures with its strategic suppliers to keep a say in their management and also reduce cost by keeping margins of their suppliers low. Maruti has Joint ventures with 14 Vendors which includes Asahi India , Jay Bharat Maruti , Mark Exhaust , Krishna Maruti , Sona Koyo Steering. (b) Just in Time : Maruti Suzuki encourages its vendors to adopt Just in Time process. This has significantly reduced their inventory cost and days in Inventory. The case in study Krishna Maruti pvt ltd has a days in inventory of just 12 days. Another supplier Sona Koyo steering which receives 50 % of its revenues from Maruti Suzuki has a days in inventory of 17 days.The Average for the Industry is 37 days. This also means that using Current Ratio for comparing companies in Auto Ancillary Industry is not fruitful because many vendors who supply to Maruti have low inventory because of Just in Time approach.

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Days in inventory
60

50 40 30 Days i i ve t ry 20
10 0

(c) Lower than Average Days in receivables Maruti has a policy of paying to its suppliers with in 30 days which reduces the days in receivables of their suppliers. The Industry average is 47 days. (d) Lower Working Capital Since days in Inventory and Receivables are very low for Marutis suppliers , they usually operate in advance and have very few working capital needs. 2. Low Profit Margin : Net profit margin ranges from 0.5 % to 10 % and the average is 2.07 which is a very unique feature of this Industry. Some of the companies which were not included in the study also has low Profiit Margin. GoodYear Tyres and Rubber 1.91 % Amtek India 8 % This clearly shows there is a pressure on Net profit Margin in the Industry.

3. ROCE is a good parameter to compare efficiencies:

El fic I dustries

Bharat Gears

Krish a Maruti

Ric Aut

aK y

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Since ROCE does not takes Interest cost into consideration, which may vary significantly from firm to firm , it may be a good parameter to compare efficiency of two companies. 4. Interest Burden Ratio is an important parameter : Interest cost can be very significant for some companies

Interest Burden
90 80 70 60 50 40 30 20 10 0

5. Industry has very high days in payables : On talking to many Finance managers and accessing the Balance sheets , it was noticed that days in payables are in the range of 60-120 days with the Industry Average being 80/ 6. Some firms are very capital Intensive and some are not at all : Some firms like Bharat Gears which are involved in manufacturing of complex designs equipment are very capital Intensive because they require high tech machinery whereas firms like Elofic Industries which is into manufacturing of fuel filters is less capital dependent. 7. Accounting procedures are based on too many assumptions

El fic I dustries

Bharat Gears

Krish a Maruti

Ric Aut

S aK y Steeri g

I terest Burde

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It was quoted by almost all Finance Managers interviewed that many companies use different assumptions to arrive at profit. This is infact one of the reason as to why no promoter prefers Inorganic Growth in this Industry.

8. Advantage to India Auto Ancillary Industry is only because of lower Employee Cost : Employee cost in Indian Auto Ancillary Industry is close to 10-15 % where as in US it is in the range of 25-30 %.The average in the study was 10 %. 9. No company can dominate the industry.: However there can be monopoly in product category. For example : Asahi India has 77 % market share in Auto Glass segment and Lumex has over 80 % market shares in Head lamps category. 10. Promoters of many big companies are in close relationships : This was a very typical characteristic of the industry. For example Promotor of Sona Koyo , Mr.Surendar Kapur is son-in law of Bharat Gears promotor Mr. Ronak singh , Mr.OS Kanwar , promoter of Apollo tyres is son of Mr. Ronak Singh

Thus , in the end , I can conclude that financial comparision between any two companies in the Industry is simply not possible due to the reasons mentioned above.

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CONSTRAINTS IN THE STUDY

y The biggest constraint in the study was very fewer number of

companies in this segment which were listed. Thus there was the need to take financial data from unlisted companies. Most of which were reluctant to give the data due to confidentiality issues.

y For appropriate analysis of the Industry , it was necessary to

have a word with senior management of the companies which again became difficult because the April May are the months when Audit takes place and most of the Senior Management people were busy in the same.

y The data gathered from unlisted firms were till FY10,as FY11 financial statements were not prepared till May and thus latest trends could not be identified properly.

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REFERENCES

1. D&B report on India Auto Ancillary Industry 2. ICRA report on Auto Ancillary Industry 3. ACMA 4. Rediffmoney.com 5. Websites of Rico Auto , Bharat Gears and Sona Koyo Steerings.