MILLAT TRACTORS LIMITED – Analysis of Financial Statements – Financial Year 2004 – Financial Year 2010

Millat Tractors Limited (MTL) was established in 1964 to introduce and market Massey Ferguson (MF) Tractors in Pakistan. An assembly plant was set up in 1967 to assemble tractors in semi-knocked down (SKD) condition.

The company was nationalized under Economic Reforms Order in 1972 and started assembling and marketing tractors on behalf of Pakistan Tractor Corporation (PTC), which was formed by the Government for import of tractors in SKD condition. In 1980, the Government decided to produce indigenous tractors and entrusted this task to PTC.

In 1981, the MTL took over this task. This was the turning point in the company’s history and it went about the task methodically and rapidly. Just in one year’s time, the company took a giant step towards self-reliance by setting up the first engine assembly plant in Pakistan.

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COMPANY SNAPSHOT
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Name of company Millat Tractors Limited
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Nature of Business Industrial and Engineering
Ticker MTL
Net Sales FY’10 Rs 22,199,909,000
Net Sales FY’09 Rs 15,910,619,000
Profit After Taxation FY ’10 Rs 2,284,498,000
Profit After Taxation FY’09 Rs 1,215,120,000
Share price (avg. over Jun’09-Jul’10) Rs 395.97 per share
Market Capitalization as on 30th June 2010 Rs 11,595,743,870
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The MTL made a strategic decision right in the beginning to bring those manufacturing facilities in-house for which capabilities did not exist in the country and for parts, which required high precision and investment. Therefore, in 1984, sophisticated manufacturing facilities for the machining of intricate components were set up. Currently, critical components like engine blocks, sump, transmission case, axle housing, hydraulic lift cover, front axle support and centre housing are all being machined most successfully in-house at MTL from local sourced castings.

In 1992, the company was privatised. The employees joined hands and took over the management by winning an open bid. To maintain its leadership role in tractor manufacturing in the country, the MTL continues to look towards future, to identify and exploit new opportunities and to consolidate existing ones. The Tractor Assembly Plant is part of this philosophy. The plant started its production in 1992. The establishment of this modern plant not only increased production capacity to 16,000 tractors per year on a single shift basis, but also provided a quantum jump to the quality of the assembled tractors and pushed the MTL into the ranks of the major tractor manufacturing companies of the world. In 1993, MTL also acquired the management control of Bolan Castings Limited (a Public Limited Company specializing in intricate automotive castings) in partnership with employees of the company, in 1993.

The company established a new company named Millat Industrial Products (Pvt.) Limited to manufacture quality automotive batteries, thus enabling the Millat Group to capture the efficiencies associated with vertical integration. In addition, the Millat Group comprises of Bolan Castings Ltd., which produces thin walled castings such as engine block, cylinder head, centre housing etc. Also, Millat Equipment Ltd. produces gears and shafts of international standard for tractors. However, these subsidiaries contributed 1.18% to MTL’s consolidated net sales and 8.15% to consolidated profit after taxation in FY10 (1.14% and 6.50% respectively in FY09). Due to low contribution to consolidated MTL performance, the financial analysis in this report is based on MTL’s standalone tractor operations.

DEVELOPMENTS IN FY10

During FY10 implementation of IFS, a newly established ERP system, took place, resulting in a significant improvement in monitoring of production. It helped to integrate critical supply chain linkages to minimize possible hurdles in production operations. A Quality Control Department was also established comprising a team of trained young engineers. In addition, the centre housing line is being renovated and upgraded with Computer Numerical Control (CNC) machines and Programmable Logic Controllers (PLC) to ensure quality production.

A new high-spec tractor model in 50hp range – the MF-350, was developed for the small to medium-sized farmers. The product was well received and was highly appreciated by the farming community due to its improved features such as power steering, oil immersed disc-brakes, heavy duty straddle axle etc. With the inclusion of this new model, Millat now offers a range of six tractor models that best suit our agro-climatic conditions, size of farms and buying capacities of the farmers.

Presently, MTL has the highest deletion level of 90% and 55% in low engine and high engine capacity tractors respectively. The lower deletion level in high engine capacity tractors still makes it susceptible to exchange rate fluctuations. In the wake of appreciation, the company is therefore at a greater advantage and vice versa. Millat Tractors has the potential to export the tractors but is restricted because of the agreement with their principals M/s AGCO.

RECENT PERFORMANCE (FY10)

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Rupees in 000s FY’09 FY’10 % Change
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Sales – net 15,910,619 22,199,909 39.53
Cost of sales 13,501,499 18,365,734 36.03
Gross profit 2,409,120 3,834,175 59.15
Operating expenses
– distribution & administrative 653,384 690,691 5.71
Operating profit 1,755,736 3,143,484 79.04
Other operating income 198,950 450,555 126.47
Other operating expenses 162,530 247,920 52.54
EBIT 1,792,156 3,346,119 86.71
Finance cost 39,824 9,498 -76.15
Profit before taxation 1,752,332 3,336,621 90.41
Taxation 537,212 1,052,123 95.85
Profit after taxation 1,215,120 2,284,498 88.01
Earnings per share – (Rs) 51.87 78.01 50.40
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Net sales of increased by 39.53% from Rs 15.91 billion in FY09 to Rs 22.20 billion in FY10. This was due to the increased production of tractors, which enabled Millat tractors to fulfil the unmet demand for tractors in the market. This was a significant achievement for Millat Tractors, as its major competitor, Al-Ghazi Tractors, did not witness any significant increase in sales due to restricted production capacity. The demand for tractors rose due to government support schemes like the Benazir Tractor Scheme.

Cost of sales increased by 36.03% from Rs 13.50 billion in FY09 to Rs 18.37 billion in FY10, due the depreciation of PKR against JPY, USD and GBP over July 2009-June 2010. This, coupled with the rise in steel prices, negatively impacted the margins of auto manufacturers and assemblers who import steel and the required components from Japan or elsewhere. With major imports of CKD kits coming from UK, the gross profit of the company is directly related to the Pound Sterling to Rupee price movement and leaves the company susceptible to changes in exchange rate. This resulted in a net 59.15% increase in gross profit, from Rs 2.41 billion in FY09 to Rs 3.83 billion in FY10.

Millat Tractors also managed to boost its fundamentals in the operating expenses category, allowing a minor 5.71% increase in distribution and administrative expenses. Thus the operating profit increased by a large 79.04%, from Rs 1.76 billion in FY09 to Rs 3.14 billion in FY10.

Other operating income greatly increased by 126.47% mainly due to increase in gain on sales of short-term investments. Other operating expenses increased by 52.54% due to investment in workers’ profit participation fund. Thus an 86.71% increase was recorded in the EBIT from Rs 1.79 billion in FY09 to Rs 3.35 billion in FY10.

Finance cost decreased by 76.15% due to settlement of short term borrowing from banks, leading to a marked reduction in finance cost. However, taxation increased by 95.85% due to imposition of 17% Value Added Tax on local tractor sales. Thus the profit after taxation increased by 88.01%, from Rs 1.22 billion in FY09 to Rs 2.28 billion in FY10. A lesser increase was witnessed in the earnings per share, which increased by 50.40% from Rs 51.87 per share in FY09 to Rs 78.01 per share in FY10.

MARKET COMPARISON

The demand for tractors increased significantly in the year 2009-10. The industry booked a total of 74,000 units as against 40,836 units booked in the preceding year, thus registering an increase of 81%. Federal and Provincial tractor schemes and better support prices of crops, especially wheat and rice, were the main contributing factors towards increase in demand.

However, the government’s role as not entirely supportive of the industry as import of tractors was allowed free of taxes or duties while the local industry was subject to tariffs under the Tariff Based System. However, despite these odds, Millat Tractors continued to dominate the market and retained its market share.

At present there are two tractor companies in Pakistan, which are involved in manufacturing of indigenized tractors: a local company, Millat Tractors Limited, which produces Massey Ferguson Tractors under franchise from AGCO; and Al-Ghazi Tractors Limited which is an entity of a foreign UAE-based Group Al-Futtaim purchased under privatisation in 1992 and manufacturing Fiat New Holland tractors. Millat Tractors possesses 57% of the market share while the rest 43% is held by Al-Ghazi Tractors.

The production capacity of each company is currently 30,000 tractors per annum, although Millat Tractors achieves this capacity in double shifts whereas Al-Ghazi Tractors needs to employ a single shift only, due to its larger plant size. In the past, both the companies had failed to meet the supply against increasing demand and the limited capacity of production resulted into abnormal delay in deliveries to the farmers.

Thus in FY10, Millat Tractors adopted the policy of working on overtime schedules, to meet the high demand, resulting in a significant increase in sales and profitability from 29,785 tractors produced in FY09 to 40,177 tractors produced in FY10. The sales statistics in terms of the number of tractors similarly increased from 30,234 to 40,080. However, the major competitor, Al-Ghazi Tractors, did not manage to increase its production, where production marginally from 30,183 units in FY09 to 31,430 units in FY10.

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Ratios MTL Industry
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Liquidity
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Current Ratio 1.40 3.57
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Asset Management
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Inventory Turnover (Days) 40.15 33.01
Day Sales Outstanding (Days) 7.37 6.87
Operating Cycle (Days) 47.52 39.88
Total Asset Turnover 1.89 1.92
Sales/Equity 5.30 3.83
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Debt Management
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Debt to Asset 64.37 40.69
Debt to Equity 1.81 1.01
Times Interest Earned 352.30 1271.86
Long Term Debt to Equity 0.43 0.51
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Profitability
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Gross Profit Margin 17.27 18.51
Net Profit Margin 10.29 11.54
Return on Asset 19.42 22.16
Return on Equity 54.49 42.25
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Market Value
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Earnings per Share 78.01 61.24
Price Earnings Ratio 5.08 4.98
Dividend per Share 65.00 43.75
Book Value per Share 143.16 219.92
Market Price per Share 395.97 306.30
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The market comparison ratios are based on the financial statements of Millat Tractors and Al-Ghazi Tractors for FY10. The financial year of Millat Tractors ended on 30th June 2010, whereas Al-Ghazi Tractors ended its financial year on 31st December 2010. Hence this market comparison is only indicative as the companies may have been subject to different market conditions over their respective periods under review.

The profitability ratios show that Millat Tractors achieved a 17.27 gross profit margin in FY10, compared to 18.51 of the industry average. This indicates that Millat Tractors is achieving its profit margins satisfactorily, although its competitor Al-Ghazi Tractors is better able to manage its cost of goods sold. The net profit margin of Millat Tractors is similarly slightly lower at 10.29 compared to 11.54 prevalent in the industry.

Return on assets for Millat Tractors is also lower at 19.42, compared to the 22.16 industry average. This means that Millat Tractors is not fully deploying its assets to generate the maximum amount of sales. However, return on equity is much higher at 54.49 compared to 42.25 industry average. This is because Millat Tractors has a much lower proportion of equity in its equity-liabilities structure, and coupled with an impressive profitability performance, this gives rise to a high return on equity.

The current ratio of Millat Tractors is lower at 1.40 compared to 3.57 for the industry. This is because Al-Ghazi Tractors has much lower amount of trade payables, Rs 1.24 billion, compared to Rs 7.48 billion of trade payables on Millat Tractors’ balance sheet. However, since the current ratio of Millat Tractors is higher than the benchmark of 1.00, it means that Millat has a sound liquidity position and unlike Al-Ghazi, it does not hold excess current assets on its balance sheet.

The inventory turnover of Millat Tractors at 40.15 days is higher than the industry average of 33.01 days. This indicates that inventory management at Millat Tractors is poorer, thus requiring more number of days to sell the entire inventory stock on hand. However, this can be expected with Millat Tractors’ approach of meeting the unmet demand for locally manufactured tractors. The day sales outstanding for Millat Tractors is also higher at 7.37 days compared to 6.87 days for the industry, due to the higher trade debts of Rs 454 million fort Millat, compared to Rs 364 million for Al-Ghazi. This implies poorer receivables management at Millat, although the higher receivables are to be anticipated in line with Millat’s higher sales. Overall, the operating cycle at Millat was recorded at 47.52 days, compared to 39.88 days for the industry.

Total asset turnover for Millat Tractors was slightly lower at 1.89 compared to 1.92 for the industry, implying that Millat has yet to achieve the high sales turnover in line its investments in assets. However, sales to equity ratio for Millat is 5.30, higher than the industry average of 3.83. This is to be noted in connection with the fact that the equity-liabilities breakup of Millat is Rs 4.19-7.57 billion whereas Al-Ghazi employs Rs 6.36-1.30 billion of equity-liabilities. Thus the lower proportion of equity and high sales at Millat Tractors enables it to enjoy a high sales to equity ratio and this indicates a proper utilization of equity investment to generate the healthy sales turnover.

The debt to asset ratio at Millat is higher at 64.37 compared to 40.69 for the industry, hence the industry can be deemed to be able to meet its debt obligations in a better manner, compared to Millat. Similarly, the debt to equity ratio is higher at 1.81 compared to 1.01 prevalent in the industry. However, this implies the usage of more leverage at Millat Tractors, which is a positive indicator of being able to generate a high return for investors.

Times interest earned for Millat Tractors is consequently lower at 352.30 compare to 1271.86 for the industry, due to the employment of Rs 10.29 billion security deposits borrowing whereas AL-Ghazi does not employ any borrowings. However, Millat’s long term debt to equity ratio is lower at 0.43 compared to 0.51 for the industry, implying that the greater proportion of Millat’s debt is in the category of current liabilities.

In line with its impressive profitability performance in FY10, Millat achieved higher earnings per share of Rs 78.01 per share compared to Rs 61.24 for the industry. The positive indicators of profitability performance were accordingly transmitted to the market, hence the market price for MTL stock averaged at Rs 395.97 per share in FY10, compared to Rs 306.30 per share for the industry.

The price earnings ratio for Millat was also slightly higher at 5.08 compared to 4.98 for the industry, indicating that the strong position as the market leader was greatly reflected in the share price of MTL stock. Millat’s profits were reflected in the dividend per share, which was recorded at Rs 65.00 per share compared to Rs 43.75 per share for the industry. However, the book value per share was lower for Millat Tractors at Rs 143.16 per share compared to an industry average of Rs 219.92 per share. This was due to a higher total shareholder’s equity at Al-Ghazi Tractors of Rs 6.36 billion compared to only 21,468,200 shares, whereas at Millat the figures were Rs 4.19 billion of equity with 29,284,400 shares.

STOCK PERFORMANCE

Stock returns of weekly continuously-compounded returns over January-December 2010 shows that the standard deviation of these stock returns is fairly high at 5.83%. The future stock returns are expected to vary with a standard deviation of 5.83%: this is to be expected from MTL’s high capital gain and healthy dividend payout stock. In addition, the stock price has consistently exhibited an increasing trend throughout FY10, which reemphasizes the strong position of Millat Tractors in the tractor industry.

Beta analysis of the company stock over Jul’09-Jun’10 shows that the beta of Millat Tractors is relatively low at 0.45, as given by the slope of the trend line. This indicates that the stock is not highly reflective of KSE-100 performance. However, this means that the market factors influencing KSE-100 do not greatly impact Millat Tractors and the company is well poised to outperform the market, in line with its strong fundamentals and secure positioning in the tractor industry.

FINANCIAL ANALYSIS (FY04-10)

The profitability ratios of Millat Tractors improved significantly over FY09-10. The gross profit margin improved from 15.14 in FY09 to 17.27 in FY10 due to the well-managed cost of goods sold, even in the scenario of depreciating PKR and rising steel prices. The net profit margin increased by a larger amount, from 7.64 in FY09 to 10.29 in FY10 since the operating expenses were only allowed a 5.71%, thus preserving the gross profits of the company.

Return on assets increased from 17.91 in FY09 to 19.42 in FY10 on the back of an 88.01% increase in profit after taxation, compared to a 73.47% increase in total assets. The increase in assets was driven by an 86.73% increase in current assets resulting from a 19.20% increase in stock in trade, 257.26% increase in trade debts and a 250.83% increase in short-term investments.

Return on equity increased from 36.05 in FY09 to 54.49 in FY10 due to the 88.01 increase in net income, compared to a 24.37% increase in total equity. The increase in equity resulted from a 57.70% enhancement in unappropriated profit, pointing to the strengthening bottom-line of the company.

The current ratio decreased from 1.69 in FY09 to 1.40 in FY10. This was the consequence of an 86.73% increase in current assets as mentioned above, compared to a 124.83% increase in current liabilities. Current liabilities mainly increased due to a 139.60% increase in trade payables. The increase in current assets and current liabilities was the result of higher working capital requirements at Millat Tractors, in order to sustain the 39.53% increase in sales over FY09-10.

Asset management ratios’ analysis indicates that inventory turnover decreased from 48.74 days in FY09 to 40.15 days in FY10 due to 19.20% increase in stock in trade. Thus the improved bottom-line performance at Millat Tractors was driven by an increase in sales augmented by improved inventory management, as a result of the implementation of IFS software.

However, the day sales outstanding increased from 2.88 days in FY09 to 7.37 days in FY10 due to the increase of 257.26% in trade debts. This points to deteriorating receivables management at the company which resulted in more number of days being required to recover trade debts. Overall, the operating cycle decreased from 51.62 days in FY09 to 47.52 days in FY09.

Total asset turnover decreased from 2.35 in FY09 to 1.89 in FY10, indicating that Millat Tractors has yet to generate a sufficiently high sales turnover to justify the 73.47% increase in the value of total assets portfolio over FY09-FY10. However, the sales to equity ratio improved from 4.72 in FY09 to 5.30 in FY10 due to the lesser 24.37% increase in total equity compared to 73.47% increase in total assets.

Debt to assets increased from 50.30 in FY09 to 64.37 in FY10 as a result of the 121.97% increase in total liabilities compared to 73.47% increase in total assets. This implies decreasing ability of Millat Tractors to meet its debt obligations, which are mainly in the category of trade payables; trade payables increased by 139.60% over FY09-10.

Similarly, the debt to equity ratio increased by a lesser amount, from 1.01 in FY09 to 1.81 in FY10, because the increase in equity was lesser at 24.37%. While this bodes negative for Millat Tractors, it also indicates that the company is employing a greater amount of leverage in its working capital requirements, which is likely to enhance sales of the company and ultimately generate higher return for investors.

In addition, long-term debt to equity decreased from 1.53 in FY09 to 0.43 in FY10, since a 65.17% decrease was recorded in long-term liabilities. This was mainly due to settlement of deferred revenue and decrease in deferred tax liability.

However, the times interest earned increased significantly from 44.09 in FY09 to 352.30 in FY10 due to the 86.71% increase in EBIT coupled with the 76.15% decrease in finance cost. Finance cost decreased due to the settlement of short-term borrowings since the mark-up accrued on short-term borrowings in the current liabilities category also decreased by 42.87% over FY09-10.

The earnings per share of Millat Tractors increased from Rs 51.87 per share in FY09 to Rs 78.01 per share in FY10 on the back of high profitability achieved in FY10. The market price per share also exhibited a strong growth from Rs 227.00 per share in FY09 to Rs 395.97 per share in FY10. The growth in profits was shared with the stockholders, by increase in cash dividends per share from Rs 45.00 per share in FY09 to Rs 65.00 per share in FY10. Thus MTL stock proved to a high capital gains as well as a high dividend payout stock.

Thus the price earnings ratio increased from 4.38 in FY09 to 5.08 in FY10, as the healthy performance of the company based on strong fundamentals, was reflected in investors’ perceptions and the market price of the company. However, the book value per share remained almost constant from Rs 143.88 per share in FY09 to Rs 143.16 per share in FY10. This was because the increase in total shareholders’ equity was 24.37% compared to a 25% increase in total number of outstanding shares over FY09-10.

FUTURE OUTLOOK

Today, Millat Tractors Limited is the leading company that specializes in the manufacturing of tractors, diesel engines, Forklift Trucks, and a range of other agricultural equipments. Presently the market share of MTL hovers around 57% in terms of sales. With a present production capacity of 30,000 tractors, the company plans to expand it to 40,000 in the years to come. Capacity utilization, however, exceeds 150%. Machining capacity of major components is being bolstered along with “Double Shift” operation to come at par with the ever-growing demand.

High price of oil in the international market is creating inflationary pressure in the economy. As a result, the cost of borrowing has become higher than the preceding years. This coupled with worldwide shortage of steel is gradually rendering the company inefficient in terms of manufacturing cost. Furthermore, the GoP has regulated the prices of tractors. This coupled with lower deletion level for new entrant is creating an uneven playing field. However, the proposal to allow local assemblers to increase the price of agricultural tractors is under consideration. This will provide a breather to the company and will consequently augment the company revenue.

Worst energy crisis prevailing in the country and lack of skilled manpower are the major risks which are being addressed through standby energy arrangements and in-house training of workforce. The recent natural catastrophe in the form of floods has worsened the conditions and has posed new challenges of rebuilding the infrastructure and rehabilitation of farming community.

Development of new products through innovation and diversification remain in focus for continued growth and progress. Millat has made investments in new machining lines for cylinder block and engine head to maintain high quality standards. In addition, implementation of the IFS software means that the procedural automation and visibility brought by IFS would enable Millat to achieve greater production efficiency in future.

The support of the government to the agriculture sector in terms of support prices to the local farmers provides greater opportunities for MTL. This enhanced income available to the farmers will not only enable them to buy agricultural inputs, but also educate themselves to modern agricultural practices to improve productivity, which is low compared to international standards. The government policy to encourage corporate farming will also create a demand for the company’s products, which could also include higher horse power range of tractors and implements.

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