EVA Financial Management at Godrej Consumer Products Ltd

Author : Vishwanath S R

Language : English

Length : 27 pages

Discipline : Finance

Description:

The case discusses the implementation of economic value added (EVA) financial management
system at Godrej Consumer Products Limited (GCPL), a leading FMCG (Fast Moving
Consumer Goods) company in India, in 2001. The EVA program consists of three elements:
EVA centers (business units), EVA drivers (operational practices that improve EVA results), and
an EVA-based incentive program for bonus-eligible managers. The case highlights the
motivations, benefits, mechanics, limitations and issues in implementing EVA. Students are
required to analyze the effectiveness of the EVA compensation system.

Learning Objective: To introduce issues in implementing EVA compensation system

Subjects Covered: EVA, Performance measurement, Incentives, organizational design

Electronic copy available at: http://ssrn.com/abstract=1354422

Implementing the EVA framework is a key business performance initiative in support of our
efforts to evolve as a world class organization and enhance shareholder value. Our main
objective behind implementing EVA is to be driven, measured and rewarded by our ability to
create sustainable shareholder value."1

Adi Godrej

In June 2008, P Ganesh, the CFO of Godrej Consumer products, a well known fast moving
consumer goods company in India, checked his calculations once again. In a while he had to
update Adi Godrej, the chairman of Godrej group, on the long run effects of implementing
Economic Value Added as a performance measure in his company. In the initial years of
implementation the company had experienced substantial improvement in operating and stock
market performance.

Company History

Started in 1897 as a locks-manufacturing company, the Godrej Group is today one of the most
accomplished and diversified business houses in India2. In 1930, Godrej became the first
company in the world to develop the technology to manufacture soap with vegetable oils; that
spirit of innovation has continued throughout the organization's history. Today Godrej is a
leading manufacturer of goods and provider of services in a multitude of categories: home
appliances, consumer durables, consumer products, industrial products, and agri products to
name a few. A recent estimate suggested that 350 million people across India use Godrej
products. The group has more recently entered the real estate and information technology
sectors. The Godrej group has annual sales in excess of $1 billion, a workforce of approximately
18,000, and a strong diversified portfolio of products.

As of 2007 the group had 20 major affiliate and subsidiary companies (see Exhibit 1).

Godrej Consumer Products Ltd. (GCPL) is a major player in the Indian FMCG market with
leadership in the personal care, hair care, and the fabric care categories. It is also one of the
largest marketers of toilet soaps in the country with leading brands such as Cinthol, Godrej
Fairglow and Godrej No.1. The Company has state-of-the-art manufacturing facilities at
Malanpur (M.P.) Baddi (Himachal Pradesh) Guwahati (Assam) and Silvassa.

Godrej Consumer Products Limited was formed as a result of the de-merger of Godrej Soaps
Limited. A major player in the FMCG market with leadership in the personal, hair- care, fabric
and household segments, it has over 950 employees with manufacturing facilities in Malanpur
(MP) and Silvassa and Guwahati. The product range includes Colorsoft liquid hair color and
Godrej liquid and Powder hair dyes, the Fairglow brand, India's first Fairness soap, the Liquid
Detergent brand EZEE etc; In the initial year of operations of Godrej Consumer Products
Limited (GCPL), the sales of GCPL brands increased by 9% from Rs. 406.6 crore in FY 2000-01
1
Godrej completes EVA framework implementation to add shareholder value, News Release, Aug 29, 2001
2
This section is based on the information available on the company’s website.

Electronic copy available at: http://ssrn.com/abstract=1354422

(as part of the Consumer Products Division of erstwhile Godrej Soaps Limited) to Rs. 442.9
crore in 2001-02. Exhibits 2 through 5 provide the financial details of GCPL.

Winds of Change

After liberalization, many multinationals started entering the Indian consumer durables and
FMCG industry. Indian companies like Godrej came under intense pressure due to increased
competition in all segments. After the dissolution of Godrej's joint venture with P&G in 1996,
there was a lot of introspection within the group, which led to the realization that there was a
need to change dramatically to achieve progress. Not only did a lot of managers walk out along
with JV partners, the group did not attract enough talented people with the advent of MNCs in
India. In 2000-01, an appraisal was conducted of all employees in which Adi Godrej, Chairman
and Managing Director of GCPL, also participated.

Adi Godrej commented,

"My evaluation said that I'm too autocratic and not a good listener. People also felt that I do not
encourage teamwork."3

The internal surveys on HRD climate and employee satisfaction reflected that young people in
the organization felt underutilized, and uninvolved in strategic decision-making. Under the
existing multi-step variable bonus plan, three levels of targets were outlined. A salesperson who
had reached level I would never aspire to do more unless he was sure to touch level II, because
he would not get any additional bonus for being midway. It would be more beneficial for him to
report it in the next financial years' sales. The company's figures suffered as a result of such
groupthink. There was clearly gap in communication between the management and the
employees. Something needed to be done to ensure that the company was on track.

SS Sapre, the previous Vice President Finance and Company Secretary added:

“A measure was needed that would align the interests of the employee, the company and the
shareholder4”

Moving Towards EVA

Continuous discussions among the management led to the conclusion that a system of internal
corporate governance was needed that guides all managers and employees and motivates them to
work for the best interests of the company.
In the early 1990s Stern Stewart and Co, New York, introduced the concept of economic valued
added as a measure of performance. Loosely speaking, EVA is a sophisticated cousin of the
residual income measure pioneered by General Motors. Stern Stewart works with clients around
the world in implementing the EVA financial management system.

3
www.openlearningworld.com
4
http://www.etgmr.com/gmroct-dec2/art7_2.htm
EVA starts with the hypothesis that a company has not earned a profit as long as it does not
cover the cost of capital consumed. Expressed as a formula,
EVA = Net Operating Profit after Tax – (weighted average of capital * net assets)
Investors of major US corporations in the US were dissatisfied due to a popular belief that
managers at top corporations are unduly focused on near term earnings and earnings per share, a
measure that does not capture the shareholder value added. Further, academics like Professor
Michael Porter, argued that US managers, due to pressure from Wall Street, due not invest
adequately for the long run because of which US corporations are disadvantaged in the world
markets. In response to these criticisms, Stern Stewart launched EVA and MVA (Market Valued
Added) as performance metrics.
Many US companies like Herman Miller, Coca Cola, and Hershey Foods embraced the EVA
compensation system. Stern Stewart, often produced data to show that the introduction of EVA
indeed results in increases in stock prices and accounting measures of performance like growth
in sales, asset turnover etc. Competing consulting firms like Boston Consulting Group, however,
produced evidence to prove that EVA is not correlated with stock returns.
Following liberalization, Indian companies like Tata Steel, TCS and Dr. Reddy's laboratories
started implementing EVA as a measure of performance. It is normal for companies in India, like
their counterparts elsewhere, to appraise managers on the basis of book profits or EPS or some
such measure. Academics argued that measures like EPS do not capture economic value in the
sense that there need be no correlation between EPS and cash flows or stock prices and
accounting measures can be manipulated by simply changing the accounting policies of the firm.
Godrej considered another alternative- employee stock options that are supposed to align the
interests of managers and shareholders but abandoned the idea because the stock market
fluctuations had practically wiped out the value of the shares held by the employees of FMCG
companies abroad5. After much debate and contemplation, the management decided to go ahead
with EVA. Godrej Consumer Products Limited (GCPL) implemented EVA in the financial year
2001-02.
Six group companies of Godrej (Godrej Consumer products, Godrej Sara Lee, Godrej Foods,
Godrej Industries, Godrej properties and Godrej Agrovet) implemented EVA. This was
facilitated by Stern Stewart & Company. GCPL implemented the EVA programme at all non-
unionized levels. The program covered 2500 employees.
The implementation involved various steps:
§ EVA of various businesses was measured and the implications of the numbers
understood.
§ Targets on EVA improvement were then set over a three year time frame.
§ An exhaustive manual was made about what each function could do to improve the EVA
of the business. This was a detailed task involving the consultants, the functional heads
and HR department.

5
In a stock option plan, an employee is given the right but not the obligation to purchase the company’s stock at a
specific price during a specified time in future. The employee stands to gain if he can purchase the stock at a lower
price than the then prevailing market price.
The project involved four overlapping phases6:

Performance measurement: As a financial measure, EVA is simply the operating profit after
tax, less a charge for the capital used in the business. The measurement phase involved tailoring
the EVA definition for each Godrej business to ensure a simple yet robust financial performance
measure. The 'weighted average cost of capital' for most Godrej businesses was set at 18 per cent
after tax for FY 2001-2002. 'EVA centers' below the SBU level were also identified.

An EVA center represented a separate business unit with its own balance sheet and income
statement.

EVA drivers were operational practices that improved EVA results. Examples of EVA drivers
include profitable growth (e.g. acquisitions), operating efficiencies (e.g. reducing costs) and
utilization of assets (e.g. reducing inventory).

Management processes: This phase involved integrating value-based thinking into the various
management processes, and developing the relevant tools and framework to guide management
in its strategic, operating and financing decisions to improve business EVA. The analysis of the
historical and forecast EVA trends, and the peer benchmarking of Godrej Sara Lee and Godrej
Consumer Products Limited, showed that both are very strong EVA performers relative to other
leading Indian FMCG companies. The strategic planning process was strengthened through
value-based goal-setting techniques to better understand shareholders’ expectations and
improved scenario planning. Sophisticated EVA-based capital investment tools were also
developed.

Motivation: For quite some time the Godrej Group had in place a variable compensation scheme
linked to business performance. Previously, this was linked to sales and profit-before- tax (PBT)
targets. A revised 'performance-linked variable remuneration' (PLVR) scheme was designed to
reward management teams for improving their businesses' EVA relative to shareholders'
expectations. As per Stern Stewart’s recommended incentive architecture, the PLVR scheme has
two key features to better align managerial behavior with shareholders’ interests:

• Firstly, it provides unlimited rewards to encourage outstanding performance.

• Secondly, it has a bonus banking mechanism to encourage consistent medium/long-term
performance, as well as help with retaining star performers.

The new EVA-linked PLVR scheme would come into effect from March 2002.
Training and communication: An extensive training program was undertaken for various
managerial and officer levels. Over 500 employees were trained to ensure an appropriate
understanding of how to manage for EVA, rather than PBT, outcomes by making appropriate
decisions involving investments and/or trade-offs between the income statement and the balance
sheet.

6
Godrej completes EVA framework implementation to add shareholder value, News release, Aug 29, 2001
To implement the system Stern Stewart worked closely with three key teams at Godrej:

§ A steering committee comprising the top management, including Adi Godrej and Nadir
Godrej as well as the business unit heads/ directors to make key policy decisions.
§ An implementation team comprising C K Vaidya, executive director (corporate
personnel), Godrej Industries Limited, S S Sapre, vice president (finance), Godrej
Consumer Products Limited, and Dr S S Sindhu, general manager (personnel), Godrej
Agrovet Limited to monitor overall project progress, ensure organization-wide
coordination across the various business units and functions and achieve full knowledge
transfer.
§ Cross-functional working teams, which were formed at each SBU, to ensure that the
outcome of the project was tailored to meet specific business requirements.
The entire process was completed in 10 months. The time line diagram in Exhibit 6 shows the
major activities involved in implementing EVA.

EVA Calculations and Adjustments

Economic Value Added (EVA) is an accounting based measure of operating performance. The
period could be a month, quarter, half year or a year. The entity whose performance is being
measured could be a division or the firm itself. EVA is the difference between accounting
earnings – with suitable adjustments for interest and some accounting methods – and the cost of
capital used to generate these earnings.
EVA is calculated as:
EVA = NOPAT – (WACC * Net Assets)
Where NOPAT = Net operating profit after tax
= EBIT (1-T)
Net assets = Adjusted book value of net capital at the beginning of the period.
WACC = weighted average cost of capital
= D/V (1-T) Kd + E/V Ke
Where D = Market Value of firm's debt.
E = Market value of equity = Number of shares * current market price.
Convertible debt / preferred securities must be converted if in- the - money and options must be
included if in- the - money
V=D+E
T = marginal tax rate
Kd = marginal cost of borrowing long term after adjusting for offering discount and
issuance cost.
 Ke = cost of equity estimated by Capital Asset Pricing Model.
Stern Stewart argued that EVA explicitly provides accountability for investor capital as
managers are held responsible for both cost of capital and the amount of assets and this would
align the interests of both shareholders and managers.
Skeptics argued that there was nothing new or novel about EVA as residual income, as a
measure of performance, has been around since the 1920s.
Under the residual income method, an explicit cost of capital is specified for the investment
center and is applied on the investment base to arrive at the capital charge .To illustrate, if the
invested capital is $ 100,000 and EBIT is Rs 40,000, the residual income at a capital cost of 15 %
would be:

Residual income = EBIT – (Cost of capital * Invested capital)

= 40,000 – (0.15 * 100,000)
= Rs 25,000
To strengthen the correlation between short-term accounting income based on GAAP and
changes in true economic value, Stern Stewart offered a list of accounting adjustments to
transform accounting income into EVA. Stern Stewart and Co. considers about 250 accounting
adjustments in moving to EVA. In defining and refining its EVA measure, Stern Stewart & Co
has identified over 120 short- comings in conventional accounting. In addition to GAAP ‘s
inability to handle R&D and other corporate investments, Stern Stewart & Co has addressed
performance measurement problems associated with accounting treatments of inventory costing
and valuation, depreciation, revenue recognition, write off of bad debts, mandated investments in
safety and environmental compliance, pension and post retirement medical expense, valuation of
contingent liabilities and hedges, transfer pricing and overhead allocation, joint ventures and start
ups , special issues of taxation , inflation and currency translation. Stern Stewart considers only
15-20 key issues and as few as 5 – 10 key adjustments are actually made in practice.
Exhibits 7 (a) and (b) outline the calculation of Net Operating Profit after Tax and adjusted
capital.

EVA Incentive program

The novelty of EVA is that it enabled companies to tie performance to compensation. Most other
measures like stock returns or NPV or cash flow were not suitable for compensation purposes.
GCPL always had a PBT-linked profit sharing plan. This was also an extension of performance
based rewards. The training workshops made it clear that EVA was not only a more equitable
system but also would reward much more handsomely on achievement of targets. EVA
implementation was a step-by-step implementation for GCPL, designed for better acceptance
from employees. In the first year, emphasis was on business and team performance alone. In the
second year, a multiplication factor ranging from 0 to 1.2 was introduced in the compensation
package to reflect individual performance.
Adi Godrej gave four reasons why the group adopted EVA7:

§ To improve capital efficiency and overall business performance

§ To encourage greater owner-like and entrepreneurial behavior among employees
§ To reduce the “hockey-stick” feature in corporate plans and budgets (i.e. to even out
performance), and
§ To avoid “undesirable behaviors” seen in the previous multi-step variable bonus plan.

Sapre elaborated:
The key factor was that employees would begin to think like owners. They would also start
worrying about where the capital is employed and what returns are being generated from it,
rather than sticking to just their own pay cheques and promotions. This mindset was crucial for
the success of the company. EVA eliminated the problem of multi-step targets because it is a
graph where incentives are plotted against the EVA earned and so every employee gets rewarded
for the amount of work put in by him. EVA would make it possible to have bonus plans with no
upside limits. Bonuses, whether meager or lavish, are earned by beating annually negotiated
budgets. Under the old system, a manager's greatest incentive is to negotiate an easily
achievable budget-and, because the bonus is capped, not to exceed it by too much for fear of
raising expectations or damaging his or her credibility. EVA bonus targets, in contrast, would be
automatically reset each year by formula. If EVA shot up, for example, the following year's
bonus would be based on improvement above the new, higher level of EVA. Over the years,
financial analysts have found conventional accounting to be misleading, under which most
companies appear profitable while many in fact are not8.
Exhibit 8 presents an excerpt from Sapre’s presentation explaining the merits of EVA.
For each manager, a target EVA bonus was set. The payout of the target bonus depended on the
performance of the relevant EVA center and EVA drivers, depending on how goals were
weighted.
The company’s management set an EVA target and EVA performance interval for each EVA
center. The EVA target is based on the expected improvement in EVA from one year to next.
The EVA interval is the shortfall from target that eliminated the bonus altogether.
The first step in calculating annual bonuses was to calculate the division’s actual EVA
improvement over the previous year, adjusted for the expected EVA improvement goal and
interval.
The second step is to determine the bonus payout for the year. If EVA goals were fully achieved,
the company would credit the full amount of the bonus to the bonus bank. Typically, executives
would be paid 2/3rd of the bonus and the remaining 1/3rd was carried forward to the next year to
provide a multi-year horizon for the bonus plan and even out fluctuations in bonus payments.

7
Arundhati Dasgupta, “Why Godrej is captivated by EVA”, Indian Management, July 2002
8
Reeta Gupta, “EVA at Godrej”, General Management Review, n.d
Mittal R K, Neena Sinha, Archana Singh, “Challenges of Implementing Economic Value Added: A case study of
Godrej Consumer products”, Global Business Review, Vol. 9, No. 2, 287-298 (2008)
From this bank balance the manager was paid the target bonus plus the amount carried forward
from the previous year.
Likewise, a decline in EVA performance reduced the bonus payout for the year. But the surplus
in the bonus bank would enable a manager to earn bonus in a year even if the bonus payout is
negative in that year.

Initial experience with EVA

Since the launch of the EVA program during its fiscal year running from April 2001 through
March 2002, all the businesses witnessed significant improvements in overall business
performance, capital efficiency, and market share9. During the three-year period from 2001-02
through 2003-04, the management teams of these six businesses were rewarded using an EVA-
based incentive plan with the classic Stern Stewart architecture. The plan effectively links
rewards for each of the business to their cumulative three-year EVA improvement targets—and
the targets are broken down into annual milestones that are set completely independently from
the annual budgeting process. Among other important features, the incentive plan has no caps or
floors on bonuses, and there is a bonus “bank” to ensure that performance improvements in any
one year are sustained in future years.

During fiscal years 2001-02 and 2002-03, four of the six major businesses exceeded their
“stretch” EVA improvement targets. These stretch targets were derived based on forward-
looking expectations to justify market value estimates of these businesses. For these six
businesses combined, the absolute level of EVA improved from a negative to a positive number
and the rate of EVA improvement was also well ahead of that of the group’s industry peers.

In the years 1999-2001, just prior to the adoption of the EVA system, the group’s year-on-year
EVA growth was negative or quite low relative to that of its peers. But in fiscal 2002, its EVA
increased by more than 1,000%, and it grew a further 80% in 2003. Over this same two-year
period since implementing EVA, sales grew by 18% and pretax profits rose by 60% and the
aggregate return on capital of the six businesses increased by 11 percentage points. Its efficiency
in using working capital in particular improved dramatically: the net working capital to sales
ratio, which was around 7% historically, dropped to –6% in fiscal 2002 and –14% in fiscal 2003.
Once people realized that they were being charged for the use of capital by the EVA system, they
quickly figured out how to operate with less of it. And the combination of increased capital
efficiency and improved profitability meant that operating cash flow generation was so strong
that the group was able to return significant cash to our shareholders in the form of buybacks.
Exhibits 9 and 10 provide the inputs required and the results of EVA calculation for GCPL for
2001-02, 2006-07, and 2007-08. Exhibits 11 and 12 present the stock market performance of
GCPL.

9
Adi Godrej, “Creating Value at a Conglomerate: The case of the Godrej group”, Journal of Applied Corporate
Finance, Vol 16 No 1, Winter 2004
Exhibit 1: Major Companies, Lines of Business and Annual Sales for the Fiscal Year ended
December 31, 2006 / March 31, 2007

1. Godrej & Boyce Mfg. Co Ltd

Subsidiaries of Godrej & Boyce

2. Godrej Industries Ltd

3. Godrej Commodities Ltd
4. Godrej Infotech Ltd
5. Godrej (Malaysia) SDN. BHD., Malaysia
6. Godrej (Singapore) Pte. Ltd., Singapore

Major Subsidiaries of Godrej Industries

7. Godrej Agrovet Ltd

8. Goldmohur Foods & Feeds Ltd
9. Godrej Properties Ltd
10. Godrej HiCare Ltd
11. Godrej International Ltd
12. Godrej Global Mid EAST FZE., Sharjah, UAE

Major Affiliates

13. Godrej Consumer products Ltd

14. Godrej Sara Lee Ltd
15. Geometric Ltd
16. Godrej EFACEC Automation & Robotics Ltd
17. Godrej Hershey Foods and Beverages Ltd
18. Mercury Mfg Co Ltd, SEZ, Chennai
19. Godrej & Khimji (Middle East) LLC, Oman
20. Godrej (Vietnam) Co Ltd

Source: Company
Exhibit 2: Financial Summary

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007
Rs. Crore
-
Total income 522.6 535.09 550.89 614.05 701.48 818.64
Sales 520.48 533.03 548.6 603.46 692.26 799.42
Income from financial services 0.95 0.88 0.46 0.9 1.08 1.97
Total expenses 469.41 484.57 494.96 539.26 592.74 710.7
Raw material expenses 132.17 152.37 171.47 278.65 304.11 384.22
Power, fuel & water charges 10.93 11.16 11.46 16.43 20.99 23.94
Compensation to employees 22.16 25.5 25.55 32.9 43.15 40.5
Indirect taxes 60.05 62.16 63.64 48.7 43.3 46.06
Selling & distribution expenses 84.95 81.81 76.25 89.41 99.48 115.67
Other operational exp. of indl.
enterprises 0 0 0 0 0 0
Other oper. exp. of non-fin. service
enterprises 0 0 0 0 0 0
PBDITA 75.13 79.72 86.83 109.31 145.04 167.86
PBDTA 72.62 78.77 86.01 107.94 142.55 161.83
PBT 63.23 69.78 76.61 97.28 131.77 149.34
PAT 41.98 53.28 64.86 89.59 121.2 132.16
Net worth 53.18 45.56 42.36 49.85 76.16 110.91
Paid up equity capital (net of forfeited
capital) 23.65 23.06 22.74 22.64 22.58 22.58
Reserves & surplus 29.53 22.5 19.62 27.21 53.58 88.33
Total borrowings 22.49 17.85 24.22 6.13 4.87 112.86
Current liabilities & provisions 99.16 98.66 114.49 140.59 163.21 222.38
Total assets 178.57 168.45 189.53 205.52 252.22 455.41
Gross fixed assets 145.98 149.02 172.98 180.55 166.28 283.45
Net fixed assets 93.52 87.82 104.01 101.43 79.91 187.93
Investments 2.46 4 0 0 50.01 71.79
Current assets 76.44 74.9 84.66 103.08 120.95 194.4
Loans & advances 5 0 0 0 0 0
Growth (%)
Total income Error 2.38997321 2.9527743 11.4650838 14.2382542 16.7018304
Total expenses Error 3.22958608 2.14416906 8.9502182 9.91729407 19.9007997
PBDITA Error 6.10941036 8.9187155 25.8896695 32.6868539 15.7335907
PAT Error 26.9175798 21.7342342 38.1282763 35.2829557 9.04290429
Net worth Error -14.328695 -7.023705 17.6817753 52.778335 45.6276261
-
Total assets 59423.3333 5.66724534 12.5140991 8.4366591 22.7228494 80.5606217

Source: Public Databases

Exhibit continued

Profitability ratios (%)

PBDITA Net of P&E/Total income
net of P&E 14.3761959 14.9750509 15.7037118 16.8726314 20.4528885 19.0456638
PAT Net of P&E/Total income net of
P&E 8.03291236 10.0338261 11.7082219 13.6233317 17.0447885 14.6037079
PAT Net of P&E/Avg. net worth 157.878902 108.750253 146.451319 179.329791 189.238949 125.48244
PAT/Avg. net worth 157.878902 107.919789 147.543221 194.317319 192.365685 141.294703
PAT Net of P&E/Avg. total assets 46.9391178 30.9434615 35.9684899 41.8579927 52.0950758 33.1727032
PAT/Avg. total assets 46.9391178 30.7071639 36.2366613 45.356284 52.9558265 37.3528539

Liquidity ratios (times)

Current ratio 0.72855509 0.7453478 0.68351364 0.70525452 0.72196025 0.82223068
Debt to equity ratio 0.42290335 0.39179104 0.57176582 0.12296891 0.06394433 1.01758182
Interest cover 26.1912351 74.8842105 93.8414634 66.9635036 53.1285141 23.3134328
Debtors (days) 8.21544536 16.0919648 12.5082027 5.92446061 3.2610941 3.85354382
Creditors (days) 63.4145497 64.7852154 71.2215976 92.6605735 79.9443484 99.1821824

Efficiency ratios (times)

Total income / Avg. total assets 5.84989086 3.08391447 3.07776971 3.10872042 3.06497138 2.31375154
Total income / Compensation to
employees 23.5830325 20.9839216 21.5612524 18.6641337 16.2567787 20.2133333

Source: Public Databases

Exhibit 3: Consolidated Income Statement Rs. Crore

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007

-
Total income 522.6 535.09 550.89 614.05 701.48 818.64
Sales 520.48 533.03 548.6 603.46 692.26 799.42
Industrial sales 352.71 352.76 372.12 603.46 691.92 796.66
Income from non-financial services 167.77 180.27 176.48 0 0.34 2.76
Income from financial services 0.95 0.88 0.46 0.9 1.08 1.97
Interest 0.5 0.38 0.14 0.64 0.4 1.74
Dividends 0.45 0 0.05 0.25 0.03 0
Treasury operations 0 0.5 0.27 0.01 0.65 0.23
Other income 1.17 1.18 0.81 2.54 6.17 2.31
Prior period income & extraordinary income 0 0 1.02 7.15 1.97 14.94
Change in stock -11.21 2.76 8.93 14.8 12.46 24.22
Total expenses 469.41 484.57 494.96 539.26 592.74 710.7
Raw material expenses 132.17 152.37 171.47 278.65 304.11 384.22
Packaging expenses 24.28 35.6 41.3 0 0 0
Purchase of finished goods 59.01 40.14 33.99 15.27 16.05 12.13
Power, fuel & water charges 10.93 11.16 11.46 16.43 20.99 23.94
Compensation to employees 22.16 25.5 25.55 32.9 43.15 40.5
Indirect taxes 60.05 62.16 63.64 48.7 43.3 46.06
Royalties, technical know-how fees, etc. 0 0 0 0 0 0
Lease rent & other rent 0.79 0.99 1.13 1.53 1.89 3.98
Repairs & maintenance 2.19 1.42 1.4 1.87 2.06 2.2
Insurance premium paid 0.56 0.64 0.71 0.95 1.26 1.49
Outsourced mfg. jobs (incl. job works, etc.) 18.97 21.66 20.6 6.13 8.41 12.46
Outsourced professional jobs 0 0 0.34 0.35 0.44 0.49
Directors' fees 0 0 0 0 0 0
Selling & distribution expenses 84.95 81.81 76.25 89.41 99.48 115.67
Travel expenses 3.84 4.76 4.95 5.26 6.53 8.32
Communication expenses 0 0 0 0 0 0
Printing & stationery expenses 0 0 0 0 0 0
Miscellaneous expenses 13.51 16.85 16.8 20.07 19.25 19.9
Fee based financial service expenses 2.49 2.14 1.74 1.73 1.96 1.56
Treasury operations expenses 0 0.27 0 0 0 1.92
Total provisions 0 0.2 0 0 0 0
Write-offs 0.36 0.05 1.12 0.05 0.02 0.01
Less: Expenses capitalised 0 0 0 0 0 0
Less: DRE & expenses charged to others 0 0 0 0 0 0
Prior period & extraordinary expenses 0 0.41 0.54 0.24 0 0.15
Interest paid 2.51 0.95 0.82 1.37 2.49 6.03
Financial charges on instruments 0 0 0 0 0 0

Source: Public Databases

Exhibit continued

Expenses incurred on raising

deposits/debts 0 0 0 0 0 0
Depreciation 9.39 8.99 9.4 10.66 10.78 12.49
Amortization 0 0 0 0 0 0
Provision for direct taxes 21.25 16.5 11.75 7.69 10.57 17.18
PAT 41.98 53.28 64.86 89.59 121.2 132.16

PBDITA 75.13 79.72 86.83 109.31 145.04 167.86

PBDTA 72.62 78.77 86.01 107.94 142.55 161.83
PBT 63.23 69.78 76.61 97.28 131.77 149.34

Source: Public Databases

 Exhibit 4: BALANCE SHEET CONSOLIDATED - Godrej Consumer Products Ltd. (Rs
in Cr.)

200803 200703 200603

SOURCES OF FUNDS :
Share Capital 22.58 22.58 22.58
Reserves Total 148.98 99.41 56.1
Total Shareholders’ Funds 171.56 121.99 78.68
Minority Interest 0 0 0
Secured Loans 92.1 108.61 68.72
Unsecured Loans 95 65 0
Total Debt 187.1 173.61 68.72
Total Liabilities 358.66 295.6 147.4
APPLICATION OF FUNDS :
Gross Block 389.28 358.48 262.22
Less: Accumulated Depreciation 125.35 110.52 99.18
Less: Impairment of Assets 0 0 0
Net Block 263.93 247.96 163.04
Lease Adjustment 0 0 0
Capital Work in Progress 71.58 39.81 7.06
Investments 0.01 0.01 1.01
Current Assets, Loans & Advances
Inventories 191.56 135.24 100.46
Sundry Debtors 50.95 48.32 30.33
Cash and Bank 42.59 47.49 26.34
Loans and Advances 66.77 46.48 14.28
Total Current Assets 351.87 277.53 171.41
Less : Current Liabilities and Provisions
Current Liabilities 290.45 252 178.74
Provisions 32.24 9.73 9.81
Total Current Liabilities 322.69 261.73 188.55
Net Current Assets 29.18 15.8 -17.14
Miscellaneous Expenses not written off 2.87 0 0
Deferred Tax Assets 1.83 1.37 1.41
Deferred Tax Liability 10.74 9.35 7.98
Net Deferred Tax -8.91 -7.98 -6.57

Total Assets 358.66 295.6 147.4

Contingent Liabilities 209.24 45.92 36.34

Source: Public Databases

Exhibit 5: Key Ratios

Summary

2008 2007 2006 2005 2004 2003 2002 2001

Key Ratios
Debt-Equity Ratio 0.95 0.63 0.09 0.33 0.48 0.41 0.43 30
Long Term Debt-Equity Ratio 0.85 0.53 0.01 0.17 0.35 0.33 0.32 30
Current Ratio 0.85 0.75 0.68 0.66 0.68 0.74 0.76 0

Turnover Ratios
Fixed Assets 3.61 3.96 4.08 3.45 3.44 3.62 7.14 0
Inventory 6.51 7.77 8.56 9.81 12.68 15.68 33.97 0
Debtors 83.46 97.63 118.28 65.49 31.25 24.41 47.73 0
Interest Cover Ratio 17.3 20.04 30.57 31.24 30.92 23.67 13.64 0
PBIDTM (%) 21.28 20.66 21.17 17.82 16.14 15.41 14.91 0
PBITM (%) 19.57 19.09 19.61 16.05 14.43 13.72 13.11 0
PBDTM (%) 20.14 19.71 20.53 17.3 15.67 14.83 13.95 0
CPM (%) 17.84 18.16 19.07 16.03 13.53 11.74 9.87 0
APATM (%) 16.13 16.59 17.52 14.26 11.82 10.05 8.06 0
ROCE (%) 71 99.82 198.12 158.05 121.79 105.21 180.1 0
RONW (%) 113.33 141.31 192.38 186.66 147.51 108.51 157.84 0

Asset utilization ratios

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007

-
Total income / Avg. total assets 5.84989086 3.08391447 3.07776971 3.10872042 3.06497138 2.31375154
Total income / Compensation to
employees 23.5830325 20.9839216 21.5612524 18.6641337 16.2567787 20.2133333

Sales / Avg. GFA (excl. reval. & WIP) 7.14503398 3.61744147 3.44122444 3.45110374 4.08280499 3.96872363
Sales /Avg. net fixed assets 11.1308811 5.87879122 5.7196476 5.8748053 7.63493989 5.96938471

Valuation Ratios

200803 200703 200603 200503 200403 200303 200203 200103

Price Earning (P/E) 21.15 27.8 37.2 22.81 15.97 11.54 9.25 0
Price to Book Value ( P/BV) 18.58 29.95 53.8 35.19 21.97 13.21 7.09 0
Price/Cash EPS (P/CEPS) 18.9 25.17 33.89 20.03 13.75 9.85 7.52 0
EV/EBIDTA 16.97 20.72 27.91 16.3 10.63 7.45 5.01 0
Market Cap/Sales 3.05 4.17 5.92 2.91 1.7 1.13 0.72 0

Source: Capitaline
Exhibit 5 continued

Structure of Current Assets

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007

-
Cash to current liabilities 0.10236371 0.07115136 0.1127079 0.06130268 0.08189578 0.09190881
Cash to avg. cost of sales 8.32522777 5.53042023 10.7278354 6.36871726 8.7936363 11.8043339

Quick ratio 0.38000381 0.33475968 0.25851768 0.14443076 0.14982391 0.28782303

Current ratio 0.72855509 0.7453478 0.68351364 0.70525452 0.72196025 0.82223068
Current ratio (incl. mktbl. securites) 0.75667175 0.78515275 0.68351364 0.70525452 0.72792933 0.82223068
Debt to equity ratio 0.42290335 0.39179104 0.57176582 0.12296891 0.06394433 1.01758182
Interest cover 26.1912351 74.8842105 93.8414634 66.9635036 53.1285141 23.3134328
Interest incidence (%) 22.0272049 4.70996529 3.8982648 9.02800659 45.2727273 10.2437781

Structure of current assets

Inventories 30.64 37.34 49.17 73.8 87.88 117.23
Sundry debtors (outstanding less than six months) 21.81 21.86 13.25 5.18 6.52 9.8
Sundry debtors (outstanding over six months) 0 0 0 0 0 0
Bills receivable 0 0 0 0 0 0
Acccured income, lease rent & other receivables 7.32 4.63 4.81 6.97 4.86 36.52
Expenses paid in advance 0.19 0 0.3 0 0 0.34
Deposits 5.74 3.92 3.17 8.17 7.97 8.78
Sale of investments & other receivables 0 0 0 0 0 0
Cash & bank balance 10.74 7.15 13.96 8.96 13.72 21.73

Structure of current assets (%)

Inventories 40.0837258 49.8531375 58.0793763 71.5948778 72.6581232 60.3034979
Sundry debtors (outstanding less than six months) 28.5321821 29.1855808 15.6508386 5.02522313 5.3906573 5.04115226
Sundry debtors (outstanding over six months) 0 0 0 0 0 0
Bills receivable 0 0 0 0 0 0
Acccured income, lease rent & other receivables 9.57613815 6.18157543 5.68154973 6.76173846 4.01818933 18.7860082
Expenses paid in advance 0.24856096 0 0.35435861 0 0 0.17489712
Deposits 7.50915751 5.23364486 3.74438932 7.92588281 6.58949979 4.51646091
Sale of investments & other receivables 0 0 0 0 0 0
Cash & bank balance 14.0502355 9.54606142 16.4894874 8.69227784 11.3435304 11.1779835

Net working capital -28.48 -25.59 -39.2 -43.08 -46.58 -42.03

- - - - -
Net working capital (as per cost of sales method) 38.9587596 0.44075625 2.36610766 34.0977185 5.61335821 37.1279541

Source: Capitaline
Exhibit 5 continued

Profitability ratios (%)

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007

-
PBDITA/Total income 14.3761959 14.8984283 15.7617673 17.801482 20.6762844 20.5047396
PBDTA/Total income 13.8959051 14.7208881 15.6129173 17.5783731 20.3213206 19.7681521
PBIT/Total income 12.5794106 13.2183371 14.0554376 16.065467 19.1395336 18.9790384
PBT/Total income 12.0991198 13.0407969 13.9065875 15.8423581 18.7845698 18.2424509
PAT/Total income 8.03291236 9.95720346 11.7736753 14.5900171 17.2777556 16.1438483
Cash profit/Total income 9.898584 11.6989665 13.501788 15.6843905 18.5593317 17.0832112

PBDITA Net of P&E/Total income Net of P&E 14.3761959 14.9750509 15.7037118 16.8726314 20.4528885 19.0456638
PBDTA Net of P&E/Total income Net of P&E 13.8959051 14.7975107 15.5545856 16.6468941 20.096925 18.2953838
PBIT Net of P&E/Total income Net of P&E 12.5794106 13.2949597 13.9942168 15.1161641 18.9118097 17.4916013
PBT Net of P&E/Total income Net of P&E 12.0991198 13.1174195 13.8450907 14.8904268 18.5558462 16.7413214
PAT Net of P&E/Total income Net of P&E 8.03291236 10.0338261 11.7082219 13.6233317 17.0447885 14.6037079
Cash profit Net of P&E/Total income Net of P&E 9.898584 11.7232615 13.6214014 15.3880376 18.4014524 16.1590146

PBDITA Net of PE&OI/Sales 14.4347525 15.032925 15.7400656 16.9688132 20.6670904 19.147632

PBDTA Net of PE&OI/Sales 13.9525054 14.8546986 15.5905942 16.741789 20.307399 18.3933352
PBIT Net of PE&OI/Sales 12.6306486 13.3463407 14.0266132 15.2023332 19.109872 17.5852493
PBT Net of PE&OI/Sales 12.1484015 13.1681144 13.8771418 14.9753091 18.7501806 16.8309524
PAT Net of PE&OI/Sales 8.06563172 10.0726038 11.7353263 13.700991 17.2232976 14.6818944
Cash profit Net of PE&OI/Sales 9.93890255 11.7685684 13.6529347 15.4757565 18.5941698 16.245528

PAT Net of PE&OI/Net sales 9.11756402 11.4022979 13.2753217 14.9037422 18.3724729 15.579537
Exhibit 5 continued

Return ratios (%)

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007

-
On Net worth
PBIT Net of P&E/Avg. net worth 247.235803 144.095605 175.045496 198.980588 209.967463 150.29668
PAT Net of P&E/Avg. net worth 157.878902 108.750253 146.451319 179.329791 189.238949 125.48244
PAT/Avg. net worth 157.878902 107.919789 147.543221 194.317319 192.365685 141.294703
Cash profit/Avg. net worth 194.546822 126.79765 169.199272 208.892745 206.634394 149.516224

On Capital Employed
PBIT Net of P&E/Avg. capital employed 187.801743 108.205947 129.55636 170.488757 208.134047 98.1601089
PBIT/Avg. capital employed 187.801743 107.582326 130.364509 183.330236 211.23348 108.487239
PAT Net of P&E/Avg. capital employed 119.925725 81.6640049 108.392962 153.651738 187.586532 81.953706
PAT/Avg. capital employed 119.925725 81.0403833 109.201111 166.493217 190.685966 92.2808365

On Total Assets
PBIT Net of P&E/Avg. total assets 73.5058981 41.0005187 42.9912286 46.4447538 57.801372 39.7326286
PBIT/Avg. total assets 73.5058981 40.7642211 43.2594 49.9430452 58.6621226 43.9127793
PAT Net of P&E/Avg. total assets 46.9391178 30.9434615 35.9684899 41.8579927 52.0950758 33.1727032
PAT/Avg. total assets 46.9391178 30.7071639 36.2366613 45.356284 52.9558265 37.3528539

On GFA
PBIT Net of P&E/Avg. GFA (excl. reval. & WIP) 90.2464136 48.2796064 48.2687241 52.464829 78.0218808 69.7909944
PBIT/Avg. GFA (excl. reval. & WIP) 90.2464136 48.0013573 48.5698156 56.4165618 79.1837457 77.1334955
PAT Net of P&E/Avg. GFA (excl. reval. & WIP) 57.6292127 36.4370546 40.3838916 47.2835411 70.3193654 58.2683811
PAT/Avg. GFA (excl. reval. & WIP) 57.6292127 36.1588056 40.6849831 51.2352739 71.4812303 65.6108822

Source: Capitaline
Exhibit 5 continued

Working cycle & turnover ratios

Mar 2002 Mar 2003 Mar 2004 Mar 2005 Mar 2006 Mar 2007

-
Working cycle (days)
Raw material cycle 17.0193353 32.1659041 34.2836161 34.5089718 38.4971721 33.6766696
WIP cycle 2.87602872 6.23670892 9.50524816 7.99603113 8.67845994 13.7268328
Finished goods cycle 5.10443434 10.6315561 13.1062488 19.9946447 25.9098212 27.7562099
Debtors 8.21544536 16.0919648 12.5082027 5.92446061 3.2610941 3.85354382
Gross working capital cycle 33.2152437 65.1261339 69.4033158 68.4241083 76.3465474 79.0132562
Creditors 63.4145497 64.7852154 71.2215976 92.6605735 79.9443484 99.1821824
- - - - -
Net working capital cycle 30.1993061 0.3409185 1.81828178 24.2364652 3.59780106 20.1689263
Turnover ratios (times)
Raw material turnover 18.117889 9.19830969 8.57993495 10.5769596 9.4812159 10.8383639
Finished goods turnover 40.1937687 20.0804255 25.2643617 52.4257274 92.0743735 79.6101896
Debtors turnover 44.4285105 22.6821277 29.1808511 61.6089842 111.925627 94.7180095
Creditors turnover 7.28795658 3.73833369 3.59856217 3.89867269 5.33183573 6.80977603

Source: Capitaline
Exhibit 6: EVA Implementation Time Line Diagram
Oct ’00 Jul ‘01
Exhibit 7 (a): Calculating Net operating profit After Tax (NOPAT)

NOPAT is calculated by deducting cash taxes from EBIT and adding the value of non- cash
items like goodwill amortization and LIFO charges. Depreciation is deducted to arrive at EBIT
because depreciation is a real economic cost. To arrive at NOPAT:
Net operating profits
Add increase in bad debt reserve
Add increase in LIFO reserve
Add Amortization of good will
Add Increase in capitalized R&D
Add other operating Income
Deduct Cash operating taxes

where cash operating tax is defined as provision for income taxes less the increase in the deferred
income tax reserve, plus the tax saved by unusual loss (gain), plus the tax saved by deducting
interest expense.
That is, NOPAT = Net Sales - Cost of sales - SG&A + Goodwill amortization - Deferred taxes +
Tax shield from interest expense - Taxes on interest income.

Exhibit 7 (b): Calculating Invested Capital

The Capital charge is to be applied on the economic book value of cash invested in business
activities. To arrive at invested capital:
Total Assets
Less: Non-interest bearing current liabilities
Less: Marketable securities and construction in progress
Add: Present value of non-capitalized leases
Add: Equity equivalent reserves10

10
LIFO reserve is added to inventories, bad debt reserves are added to receivables, the cumulative amortization of
goodwill is added back to goodwill, R&D expense is capitalized as a long term asset and smoothly depreciated over
5 years
Exhibit 8: Excerpt from Sapre’s
’s presentation explaining the merits of EVA
§ Improve Capital Efficiency and overall business performance
§ Encourage Greater owner Like and Entrepreneurial behavior
§ Reduce “Hockey-stick”
stick” feature in our plans and budgets
§ Avoid “undesirable behaviors” in previous multi
multi-step
step variable bonus plan
Exhibit 8 continued: EVA Incentives: Pay Bonuses for meeting EVA expectations
• Unlimited upside potential, but with corresponding downside risk
• Bonuses are “decoupled” from budgets
• Bonus banking system
Exhibit 9: Godrej Consumer products Financial Data for EVA calculation, 2001-2002 (Rs
cr unless stated)
PBT 63.2
Interest 2.5
NOPBT 65.7
Cash Operating Tax on PBT 15.4
Cash operating tax on interest 0.9
NOPAT 49.4
MRP 10%
Beta 0.63
Risk Free Rate 11.5%
E/V 0.96
Pre Tax cost of borrowing 14%
Tax rate 35%
Average Capital Employed 107.05
Exhibit 10: Calculation of EVA for GCPL in 2007 and 2008

Calculation of NOPAT (Rs crore)

2007-08 2006-07

Profit before tax (PBT) 169.2 134.4

Interest (incl. forex fluctuation) 8.8 5.8
Profit on sale of Fixed Asset – 0.1
Net operating Profit before tax 178.0 140.3
Cash operating tax on PBT (19.3) (15.8)
Cash operating tax on interest (3.0) (1.9)
Tax Adjustments – 4.8
Net operating Profit after tax
(NOPAT) 155.7 127.4

Calculation of WACC

2007-08 2006-07

Leverage beta (β) 0.68 0.68

Market risk premium (P) 8% 8%
Equity risk premium (Pxβ) 5.4% 5.4%
Risk free return (r) 7.57% 6.96%
Cost of equity {r+ (Pxβ)} 13.0% 12.4%
Equity/market value (e) 0.97 0.95
Wt. Cost of equity
[{r+(Pβ)}e 12.7% 11.8%
Pretax cost of borrowing (I) 8.6% 8%
Retention rate (1-tax rate) 5.7% 5.3%
Debt/market value (d) 0.03 0.05
Wt. Cost of debt {I(1-t)d} 0.2% 0.3%
WACC 12.8% 12.1%

EVA Generated by GCPL (Rs crore)

2007-08 2006-07 2007-08 2006-07

NOPAT 155.7 127.4

Capital Charge (23.2) (16.7)
EVA 132.5 110.7
Source: Godrej (Economic Value Added) Annual Report

Exhibit 11: Stock Price History of GCPL, 2006-08

Date range
First Last Mean Excess Mean
From To closing closing closing Returns returns returns
price price price COSPI
(Rs.) (%)

-
1/6/2006 30/06/2006 170.36605 157.86982 155.0652 8.53484046 -4.06621 -0.28079
-
3/7/2006 31/07/2006 157.63521 151.6711 160.35413 3.47365533 -3.164486 -0.14686
1/8/2006 31/08/2006 152.54781 174.65082 168.95837 15.1510217 5.2300696 0.65618
1/9/2006 29/09/2006 174.55203 178.20706 167.1926 2.0361991 -4.681337 0.115284
-
3/10/2006 31/10/2006 176.13259 165.66144 172.63315 7.03991131 -11.99874 -0.33985
1/11/2006 30/11/2006 168.67436 155.43725 158.57366 -5.7326014 -11.27106 -0.25622
-
1/12/2006 29/12/2006 156.77084 148.12721 152.97752 4.70289164 -5.663764 -0.22726
2/1/2007 31/01/2007 148.67052 152.77007 151.74272 3.79128499 0.2466696 0.196321
-
1/2/2007 28/02/2007 151.78223 148.42356 149.64537 2.84513417 5.6339682 -0.13945
-
1/3/2007 30/03/2007 148.71991 145.26246 141.86381 2.12978369 -3.101572 -0.07439
-
2/4/2007 30/04/2007 141.31108 138.19938 151.70567 4.86229174 -12.5226 -0.1806
3/5/2007 31/05/2007 136.56943 140.02689 139.98455 2.23848861 -3.807942 0.112876
1/6/2007 29/06/2007 138.39694 139.23661 133.18724 -0.5643739 -2.796565 -0.01597
-
2/7/2007 31/07/2007 136.56943 138.44634 136.36288 0.56757716 -5.372467 -0.01969
-
1/8/2007 31/08/2007 133.95165 133.01319 135.68262 3.39375758 -2.473556 -0.1404
3/9/2007 28/09/2007 135.03827 139.53297 137.61161 4.90159673 -9.548549 0.24432
-
1/10/2007 31/10/2007 136.47065 121.70238 124.12484 12.7787611 -32.97551 -0.60298
1/11/2007 30/11/2007 121.40603 126.88856 124.7849 4.26136364 4.3554298 0.214813
3/12/2007 31/12/2007 130.00027 136.27308 135.70637 7.39587388 -4.434094 0.455861
-
1/1/2008 31/01/2008 138.64391 113.45388 123.08321 16.0142511 4.0052705 -0.67742
1/2/2008 29/02/2008 113.60206 133.21076 116.56324 17.4140183 17.361309 0.793147
-
3/3/2008 31/03/2008 133.11198 123.95 131.31022 6.95199934 5.7659285 -0.38105
1/4/2008 30/04/2008 123.55 129.85 126.1875 4.75998386 -6.605361 0.235776
2/5/2008 30/05/2008 132.75 136.05 134.9475 5.34499448 11.816089 0.279628
-
2/6/2008 13/06/2008 130.65 132.75 132.795 2.42557883 5.7991992 -0.22724

Source: Capitaline
Exhibit 12: 5 Year Stock Price History of GCPL