209 | Page PROFITABILITY ANALYSIS IN SELECT CEMENT COMPANIES -A DU PONT APPROACH Dr. K. Bhagyalakshmi 1 , Dr. P. Krishnama Chary 2 1 Lecturer, Dept. of Commerce and Business Management, University College for Women, Kakatiya University, Warangal, Telangana. (India) 2 Professor, University College of Commerce and Business Management and Director IQAC, Kakatiya University, Warangal, Telangana, (India) ABSTRACT The profit margin measures the relationship between profit and sales. Financial soundness of a firm is depends upon its profitability. The management of the firm naturally eager to measure its operating efficiency. Similarly the owners invest their funds in the expectation of reasonable returns. The operating efficiency of a firm and its ability to ensure adequate returns to its shareholders depends ultimately on the profits earned by it. Cement is vital to the construction sector and all infrastructural projects. The construction sector alone constitutes 7 per cent of the country's gross domestic product (GDP). Since the cement sector notably plays a critical role in the economic growth of the country, the present paper focuses on the analysis of profitability of the six selected cement companies viz., Ultra Tech, The India, J.K, ACC, Ambuja and Madras Cements Ltd. during 10 years period from 2003-04 to 2012-13, in terms of P/V Ratio, Operating Profit Ratio, Net Earnings Ratio, Dividend Pay Out and Earnings Retention Ratios etc. by using the Statistical techniques like Percentages, Ratios, Averages, Standard Deviation (S.D), coefficient of variation (C.V) and Du Pont Approach. Since the Return on Investment (ROI) is one of the most successful yet simple technique ever conceived to aid both decision-making and performance evaluation, it also analysed in detail in this paper. The paper concludes that, the highest average P/V ratio, OPR and NER and ROI are observed in Ambuja Cements Ltd. among the selected cement companies. Keywords: DPO, NER, OPR, P/V, ROI etc. I. INTRODUCTION The profit margin measures the relationship between profit and sales. Financial soundness of a firm is depends upon its profitability. The management of the firm naturally eager to measure its operating efficiency. Similarly the owners invest their funds in the expectation of reasonable returns. The operating efficiency of a firm and its ability to ensure adequate returns to its shareholders depends ultimately on the profits earned by it. The profitability of a firm can be measured by following profitability ratios. 1.1. Contribution Margin Contribution margin concept indicates the profit potential of a business enterprise and also highlights the relationship between cost, sales and profit. Contribution margin is the excess of sales revenue over variable
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PROFITABILITY ANALYSIS IN SELECT CEMENT
COMPANIES -A DU PONT APPROACH
Dr. K. Bhagyalakshmi1, Dr. P. Krishnama Chary
2
1Lecturer, Dept. of Commerce and Business Management, University College for Women,
Kakatiya University, Warangal, Telangana. (India)
2Professor, University College of Commerce and Business Management and Director IQAC,
Kakatiya University, Warangal, Telangana, (India)
ABSTRACT
The profit margin measures the relationship between profit and sales. Financial soundness of a firm is depends
upon its profitability. The management of the firm naturally eager to measure its operating efficiency. Similarly
the owners invest their funds in the expectation of reasonable returns. The operating efficiency of a firm and its
ability to ensure adequate returns to its shareholders depends ultimately on the profits earned by it. Cement is
vital to the construction sector and all infrastructural projects. The construction sector alone constitutes 7 per
cent of the country's gross domestic product (GDP). Since the cement sector notably plays a critical role in the
economic growth of the country, the present paper focuses on the analysis of profitability of the six selected
cement companies viz., Ultra Tech, The India, J.K, ACC, Ambuja and Madras Cements Ltd. during 10 years
period from 2003-04 to 2012-13, in terms of P/V Ratio, Operating Profit Ratio, Net Earnings Ratio, Dividend
Pay Out and Earnings Retention Ratios etc. by using the Statistical techniques like Percentages, Ratios,
Averages, Standard Deviation (S.D), coefficient of variation (C.V) and Du Pont Approach. Since the Return on
Investment (ROI) is one of the most successful yet simple technique ever conceived to aid both decision-making
and performance evaluation, it also analysed in detail in this paper. The paper concludes that, the highest
average P/V ratio, OPR and NER and ROI are observed in Ambuja Cements Ltd. among the selected cement
companies.
Keywords: DPO, NER, OPR, P/V, ROI etc.
I. INTRODUCTION
The profit margin measures the relationship between profit and sales. Financial soundness of a firm is depends
upon its profitability. The management of the firm naturally eager to measure its operating efficiency. Similarly
the owners invest their funds in the expectation of reasonable returns. The operating efficiency of a firm and its
ability to ensure adequate returns to its shareholders depends ultimately on the profits earned by it. The
profitability of a firm can be measured by following profitability ratios.
1.1. Contribution Margin
Contribution margin concept indicates the profit potential of a business enterprise and also highlights the
relationship between cost, sales and profit. Contribution margin is the excess of sales revenue over variable
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expenses. From contribution margin, fixed expenses are deducted giving finally operating income or loss.
Contribution margin is thus used to recover fixed costs. Once the fixed costs are recovered, any remaining
contribution margin adds directly to the operating income of the firm. Contribution margin is a highly useful
technique for planning and decision- making by the management. The contribution margin can also be
expressed in the form of a percentage. The contribution margin ratio is also known as “Contribution to Sales”
(C/S) ratio or Profit-Volume (P/V) ratio. This ratio denotes the percentage of each sales rupee available to cover
the fixed costs and to provide operating income to a firm. The ratio helps in knowing the effect on income of a
firm due to increase or decrease in sales volume. The P/V ratio is useful to management in deciding whether to
increase sales volume.
1.2. Operating Profit Margin
The operating profit (and net profit margin) is an indicative of management‟s ability to operate the business with
sufficient success not only to recover from revenues of the period, the cost of merchandise or services, the
expenses of operating the business (including depreciation) and the cost of borrowed funds, but also to leave a
margin of reasonable compensation to the owners for providing their capital at risk.
1.3. Net Profit Margin
The net profit margin measures the relationship between net profits and sales. The ratio of net profit (after
interest and taxes) to sales essentially expresses the cost price effectiveness of the operation. A high net profit
margin would ensure adequate return to the owners as well as enable a firm to with stand adverse economic
conditions when selling price is declining cost of production is rising and demand for the product is falling. A
low net profit margin has the opposite implications. However, a firm with low profit margin can earn a high rate
of return on investment if it has a higher inventory turnover. The profit margin should, therefore, be evaluated in
relation to the turnover ratio. In other words, the overall rate of return is the product of the net profit margin and
the investment turnover ratio.
1.4. Return on Investment (Du Pont Approach)
Return on investment is one of the most successful yet simple technique ever conceived to aid both decision-
making and performance evaluation. This technique was first developed by Du Pont Company for analysing and
controlling financial performance. It brings together the activity ratios and profit margin on sales and shows how
these ratios interact to determine profitability of assets.
According to “Du Pont Approach” Return on investment can be computed with the help of the following
formula:
Return on Investment (ROI) = Sales / Total Assets * Earnings After Tax / Sales
The first term of the equation expresses the total asset turnover. This measures efficiency of asset management.
Other things being equal, the greater the index, the more efficiently assets are being managed. The second term
of the Du Pont analysis exhibits the return on sales ratio. It measures efficiency of expense control since the
difference between sales and earnings after tax presents the expenses and taxes of the company, the smaller
these expenses, the higher will be the ratio of earnings after taxes to sales. In other words, larger return on sales
would mean the management success in controlling expenses. Thus, the second term of the Du Pont analysis is
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an index of expense control. If the index of asset management efficiency is multiplied by the index of expense
control, the result is a magnified index of the company‟s financial well being. In order to make the analysis
more meaningful the ROI of the company must be compared with industry averages and with the company‟s
own ROI of the past years. Where the company‟s ROI is below the industry average, the Du Pont analysis
provides sufficient clue to deficiency in asset management or absence of effective expense control or both.
Further, if a comparative study of the company‟s ROI of the past few years reveals declining tendency, if
focuses attention on the management efficiency of the company. Thus calls for prompt corrective action before
the situation goes out of control.
II. NEED FOR THE STUDY
The cement sector notably plays a critical role in the economic growth of the country and its journey towards
conclusive growth. Cement is vital to the construction sector and all infrastructural projects. The construction
sector alone constitutes 7 per cent of the country's gross domestic product (GDP). The industry occupies an
important place in the Indian economy because of its strong linkages to other sectors such as construction,
transportation, coal and power. India is the second largest producer of quality cement in the world. The cement
industry in India comprises 183 large cement plants and over 365 mini cement plants. Currently there are 40
players in the industry across the country. Since the operating efficiency of a firm and its ability to ensure
adequate returns to its shareholders depends ultimately on the profits earned by it and Return on Investment is
the ultimate parameter of the financial performance of a firm, the need is felt to undertake a study on the
profitability of the selected cement companies.
III. OBJECTIVES
The following are the objectives of the study.
1) To present the conceptual framework of profit margin.
2) To analyse the profitability of select cement companies in terms of Profit-Volume (P/V) Ratio,
Operating Profit Ratio (OPR) and Net Earnings Ratios (NER) including Dividend Pay Out (DPO) and
Earnings Retention Ratios (ERR).
3) To examine the Return on Investment (ROI) of select cement companies by using the Du Pont
Approach.
IV. SOURCES OF DATA AND METHODOLOGY
4.1. Sources of Data: The present study is based on secondary data. The sources of secondary data consists of
Annual Reports, circulars, research periodicals, Text Books, news papers like Economic Times, websites and
other published sources. The data collected from the above sources for the period of 10 years from 2003-04 to
2012-13.
4.2. Methodology: The following methodology is adopted for conducting the study.
Aggregate financial variables relating to profitability of selected cement companies are processed, tabulated,
analyzed and interpreted for a period of 10 years i.e. from 2003-04 to 2012-13 with the help of statistical
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techniques like Percentages, Ratios, Averages, Standard Deviation (S.D), and Coefficient of Variation (C.V) and
also Du Pont Approach. Finally conclusions have been drawn based on the facts revealed by the study.
V. SELECTION OF SAMPLE
For the purpose of the present study, six cement companies have been selected as sample namely, 1.Ultra-tech
Cement Ltd., 2. The India Cements Ltd., 3.J.K Cement Ltd., 4. ACC Ltd., 5. Ambuja Cements Ltd. and 6.
Madras Cements ltd.
VI. ANALYSIS AND DISCUSSIONS
The collected data of selected companies have been analysed as under.
Now it is proposed to examine the structure of profitability of the selected cement companies in terms of P/V
Ratio, Operating Profit ratio and Net Earnings ratio. These ratios are based on the premise that a firm should
earn sufficient profit on each rupee of sales. If adequate profits are not earned on sales, there will be difficulty in
meeting the operating expenses and no returns will be available to the owners.
6.1. P/V Ratio
The analysis of P/V ratio of the selected cement companies is given in TABLE 1 during the study period. All the
selected companies have shown an increase in the contribution margin in absolute terms from 2003-04 to