Strategic management report engro polymer and chemicals limited

Engro Polymer and Chemicals Limited

Table of Contents

1.0 History and Overview…………………………………………………………………………………………………………………………3
1.1 Mission Statement .................................................................................................................................. 4
1.2 Core Values ............................................................................................................................................. 4
1.3 Products .................................................................................................................................................. 5
1.4 Major Customers .................................................................................................................................... 5
1.4 Exports .................................................................................................................................................... 6
1.5 Economic Performance .......................................................................................................................... 6
2.1 Political .................................................................................................................................................... 7
2.2 Economic ................................................................................................................................................. 7
2.3 Social ....................................................................................................................................................... 8
2.4 Technological .......................................................................................................................................... 8
2.5 Environmental ......................................................................................................................................... 8
3.1 Strengths ................................................................................................................................................. 9
3.2 Weaknesses ............................................................................................................................................ 9
3.3 Opportunities ........................................................................................................................................ 10
3.4 Threats: ................................................................................................................................................. 10
5.1 SPACE MATRIX – Diagram ..................................................................................................................... 14
5.2 ANALYSIS ............................................................................................................................................... 14
6.1 Financial Situation ................................................................................................................................. 15
6.2 Marketing .............................................................................................................................................. 17
6.2.1 Customer Focus.............................................................................................................................. 17
6.2.2 Market Development ..................................................................................................................... 18
6.2.3 Horizontal Expansion and Vertical Integration .............................................................................. 18
6.2.4 Related Diversification ................................................................................................................... 19
6.2.5 Corporate Social Responsibility ..................................................................................................... 19
6.2.6 Research and Development ........................................................................................................... 19
6.2.7 Competitive Advantage ................................................................................................................. 20
6.3 Human Resource and Administration ................................................................................................... 20
7.1 Problems related to Forecasting and Inexperience .............................................................................. 21

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7.2 Problems related to financial and debt management .......................................................................... 22
7.3 Management Issues .............................................................................................................................. 23
8.1 EDC-VCM Plant Action .......................................................................................................................... 24
8.2 Debt Management ................................................................................................................................ 25
8.3 Export Plan ............................................................................................................................................ 25
8.4 Back-up and Forecasting Plan ............................................................................................................... 25
8.5 Product and Market Development ....................................................................................................... 26
9.0 Conclusion……………………………………………………………………………………………………………………………………….27

9.1 Future Financial Outlook ....................................................................................................................... 27

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1.0 History & Overview
Engro Polymer & Chemicals Limited previously Engro Asahi Polymer & Chemical Limited is one
of the subsidiaries of Engro Corporation, the leading Pakistani business conglomerates with
stakes in the fertilizer, food, petrochemicals, power generation, automation and terminal storage
industries. Engro Group consists of following subsidiaries:

Engro Asahi Polymer & Chemicals Limited was a joint venture between Engro Chemical
Pakistan Ltd. (ECPL), Asahi Glass Company and Mitsubishi Corporation (Japan), each with a
50%, 30% and 20% shareholding, respectively. Later, Asahi Glass Company decided to move
out of Poly Vinyl Chloride (PVC) and Vinyl Chloride Monomer (VCM) business worldwide and
offered to sell its holding. Engro Chemicals bought the entire shareholding of Asahi Glass
Company and increased its share to 80%.

In June 2008, EPCL went public by offering 50 million shares and received the amount of Rs.
2.8 billion against the offered amount of Rs. 900 million. After the initial public offer Engro‟s
share in EPCL remained to 56%. Other shareholders included IFC (15%), Mitsubishi (11%),
Individuals (9%) and others (9%).

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EPCL started as the only PVC manufacturer in Pakistan with a capacity of 100,000 tons per
annum and its operations are located at Port Qasim in Karachi. Its plant was commissioned in
November 14, 1999 and IFC assisted in the financing of this plant. In 2009, EPCL made
expansion in the plant horizontally and vertically by installing 50,000 tons more PVC resin
facility and a facility to manufacture Ethylene di Chloride (EDC) and Vinyl Chloride Monomer
(VCM), which are the basic raw material and PVC resin manufacturing. In order to diversify the
business and lessen its dependence on the PVC resin business, EPCL also installed Caustic Soda
plant with a capacity of 105,000 tons. Now EPCL has a capacity of producing 150,000 tons of
PVC, 240,000 tons of EDC, 216,000 tons of VCM and 105,000 tons of Caustic Soda, annually.

1.1 Mission Statement

Our mission is to achieve innovative growth which creates value for our stakeholders,
customers and employees.
Our commitment is to maintain higher standards of ethics, safety and environmental
responsibility

1.2 Core Values

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1.3 Products

Being the sole manufacturer of PVC resin in the country, EPCL‟s PVC resin sold under the
brand name of SABZ dominates the domestic market. SABZ is available in 5 variations
listed below,

SABZ PVC AU-58
SABZ PVC AU-60
SABZ PVC AU-67S
SABZ PVC AU-67R
SABX PVC AU-72

The above listed products differ in their molecular weight and are used according to application.
SABZ PVC AU-72 is a high molecular weight suspension resin, therefore, it is used as a raw
material in the production of electrically insulated PVC cables. Whereas, SABS AU-60 is a
medium-low molecular weight suspension resin and is used as raw material in the rigid PVC
application.

EPCL also started the production of Caustic Soda and sells it to textile mills, leather mills and
soaps and detergent manufacturers.

The Company is also expanding its warehousing network to ensure that PVC stock is
readily available in various key cities of the country. EPCL currently has six warehouses in
five cities namely, Karachi, Lahore, Multan, Faisalabad Islamabad and Quetta.

1.4 Major Customers

The customer base of the Company comprises of all categories of PVC application manufacturers.
The largest domestic consumer is the Pipe Sector. This sector is showing strong growth on a
consistent basis. This is because the PVC pipes are now increasingly used in housing and
construction, water supply and sewerage, telecommunications and agriculture. The Company‟s
other customers include manufacturers of artificial leather, shoes, garden hoses, cable compounds,
films, rigid sheets, etc.

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1.4 Exports

The Company has established itself as a regular supplier to several businesses in the region
thus establishing a strong customer base outside Pakistan. The international customer base is
located in Sri Lanka, Bangladesh, UAE, Bahrain, etc. High Product quality with its strategic
geographical location has given the company an advantage to successfully provide a level of
exports at a competitive price.

1.5 Economic Performance

EPCL has maintained a steady pace of business development through complete business reviews,
risk management, technical services, impact of back integration project, customer services,
sales/market share, financial risk management, financial review etc to estimate the company's
economic performance.

EPCL plays an important part in the development of national economy with a strong sense of
responsibility for their people by protecting and preserving their interests, hence growing profits.

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2.0 PESTE ANALYSIS
2.1 Political

Different rules and regulations do exist that companies dealing with chemicals have to follow.
There have been situations in the past, where EPCL and Government of Pakistan have some tax
issues to settle. Still, in 2010 there are pending tax rebates, for which EPCL had also filed
requests to the taxation department. Due to the lag in solving the issue by the income tax
department and excise duty department EPCL has also filed cases in Sindh High Court and even
Supreme Court. The payment of Rs. 84 million is still pending

The geo-political situation and frequent instances of unrest are also affecting the operations of
the company. This is in the form of delay in procurement of raw materials and distribution of
their products to the market. Therefore, in order to resolve the delayed procurements issues,
EPCL has installed tracking devices in all of its Caustic Soda transportation vehicles in order to
keep track of he product delivery process and to keep the customers updated with the product
delivery process.

Being a player in the chemical industry, EPCL could have aced opposition from the
environmental agencies, but EPCL is very transparent in environmental reporting as it is
following the maximum environment friendly standards in production. Last year, ACCA-WWF
an international environment agency awarded Pakistan Environmental Reporting Award to
EPCL for its transparent reporting and environment friendly standards.

2.2 Economic

The economic situation in the country also indirectly affects the business of EPCL. This is
because the demand of the major products of the company, like PVC, is majorly related to the
rise and fall of the construction industry. And, the amount of construction taking place depends
on the earning of the population, the economic situation of the government, investment and
developmental projects in the country. This is because the products that are made out of PVC are
mainly used by the construction industry, like pipes, door and window frames, etc. So, if there is
a lot of construction going on, demand for ECPL products will also be on a rise and vice versa.

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The demand for PVC was expected to grow at the rate of 14% every year in domestic market due
to low per capita PVC consumption and increased infrastructure development. But, unfortunate
floods on 2010 had severely affected the demand for PVC in the domestic market. The PVC
demand in Pakistan is again expected to rise in 2H2011, due to full swing in flood relief
operations.

2.3 Social

The social factor affects EPCL in a way that the international economy has just shown some
signs of economic recovery, whereas, Pakistan is still passing through tough liquidity crunch and
financial crisis due to the recent floods. Therefore, the social behavior of the population of the
country has now strongly shifted from that of the spenders to the savers, which has also affected
the demand for PVC in the domestic market. Moreover, the current uncertainty and law order
situation in the country has also contributed in shifting the social behavior of the population from
active spenders to passive spenders.

2.4 Technological

Technology plays an important part in any industry. Every now and then, breakthroughs in the
world of technology are happening and constant evolution is taking place. Being a manufacturing
company EPCL works with different machines, equipments and even processes which are a part
of technology. EPCL will have to keep itself updated with the latest PVC manufacturing
technology to avoid any technology obsolescence risk. EPCL is producing PVC with the raw
material known as VCM which is the common international technology; the other traditional
method was the production of PVC resin through calcium carbide. EPCL has to keep keep track
of the PVC manufacturing technology to prevent itself from operating on less efficient
technologies.

2.5 Environmental

Almost all chemical manufacturing plants release different kinds of gases and produce solid and
hazardous waste, such as sanitary waste, that cause environmental pollution and even health
hazards. ECPL shows strong conviction in keeping itself environment friendly by adopting
various international standards and internally built Environment Management System – EMS.
The company is also ISO 14001:2004 certified and is being regularly audited for environmental

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compliance. To make its expansion project extremely environment friendly, it envisages state of
the art environment initiatives like waste handling, liquid waste disposal, new waste water
treatment unit and on site Evaporation plant for treating waste.

3.0 SWOT
3.1 Strengths

The parent brand name of Engro Group lends the market an financial strength to all its
subsidiaries including Engro Polymer and Chemicals Limited.
EPCL is the sole producer and marketer of PVC (Poly Vinyl Chloride) resin in the
market, thus operating as a monopoly. It covers 70%-80% of the total market for PVC
resin.
Chlorine, Ethylene di Chloride and Vinyl Chloride Monomer manufacturing facilities
which are the basic raw material in the production of Poly Vinyl Chloride. These raw
material facilities are achieved through backward integration plan of EPCL.
Loyal customer base that has been established through years of strategic long term
relationship building..
High entry barriers in the PVC manufacturing market also serve as one of the major
strengths of EPCL. These high entry barriers have been achieved through continuous
investment in processes thus reducing the cost of producing PVC through backward
integration.

3.2 Weaknesses

EPCL has a weak management, proven by inefficient forecasting, inability to plan for
unforeseen incidents, delays in decisions etc.
EPCL has been facing operational constraints due to the maintenance needs of the used
VCM plant EPCL bought in 2008.
Weak interest coverage and quick ratio adds to liquidity crunch that EPCL is going
through, due to which it is breaching its debt obligations.

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3.3 Opportunities

EPCL can further increase its production capacity of PVC from 150,000 tons as in
Pakistan the demand for PVC is going to increase in future due to extremely low per
capita PVC consumption as compared to the region. Pakistan has per capita PVC
consumption of 0.7 kg where as China, India and Thailand has per capita PVC
consumption of 7.5 kg, 1.2 kg and 8.5 kg respectively.
International demand for PVC is very high, so EPCL can expand its markets
internationally especially to India, China and Indonesia where are per capita PVC
consumption is expected to grow in near future due to the extent of infrastructure
development going in these countries.
Infrastructure development in the flood affected areas also serve as an opportunity for
EPCL as PVC pipes, windows, doors and other material will be required in huge
quantities.
Drip irrigation system is a huge opportunity for EPCL as smart use of water is being
promoted by Govt. of Pakistan and the awareness of technologically advance irrigation
system is increasing in domestic markets. This drip irrigation system includes PVC pipes
as a major part of the system thus directly increasing the demand for PVC pipes and
indirectly increasing the demand for PVC resin.

3.4 Threats:

Ethylene prices in the international market posses itself as major threat to EPCL. After
the installation of the production facility of EDC and VCM, ethylene remains as major
raw material that EPCL has to purchase in order to manufacture PVC. Thus, earning per
share is highly sensitive to the ethylene prices in the international market.

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Future economic downturn may result in lower demand of PVC resin by the industries
use PVC as a raw material.
High depreciation and interest charges due to recent facility expansion also serve as a
major threat to EPCL. In case of any further breakdowns on the plant EPCL can have
irreversible damages to the balance sheet and income statement.
Due to the lack of experience of operating EDC and VCM plants, EPCL had a fire
incident in December 2009 which had a very negative impact on the already sensitive
current and interest coverage ratio and the bottom line. The in experience can further
hamper operations and maintainenece of EDC and VCM plants.
Geo-political situation in Pakistan serves as major threat to the timely distribution of the
raw material to EPCL and manufactured PVC resin to customers.
PVC manufacturing technology with EPCL can become obsolete in the near future.

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4.0 TOWS Matrix
Strengths: Weaknesses:

1. Strong branding of Engro 1. Weak management
Group 2. Operational constraints due
2. Sole producer of PVC to maintenance needs
in Pakistan 3. Weak interest coverage and
3. Backward integration for quick ratio- debt obligations
raw materials breached
4. Loyal customer base
5. High entry barriers

Opportunities SO Strategies WO strategies

1. Increase production S2O3O4: If demand of PVC W2O1: If the company can
capacity products increase in the overcome its current
2. Expand in international market then this will be totally operational constraints ,
markets beneficial for ECPL as they production capacity can be
3. Infrastructure development are the sole PVC increased more effectively
in flood affected areas-rise in manufacturers in the market
PVC demand S3O2: Other than
4. Increased demand of internationally selling its main
advanced irrigation system- products like PVC, the raw
increase in PVC demand materials being manufactured
in-house can also be sold
internationally

Threats ST strategies WT strategies
1. Ethylene(raw material)
price increase S3T1: Already being into W1T2T3T4: By strengthening
2. Economic downturn backward integration, the its management, EPCL can
decrease demand of PVC company can also consider in- avoid some threats. They will
3. Breakdowns and other house production of Ethylene be better able to forecast
incidents in the plant demand situations and thus
4. In-experience in handling S1T4: The strong brand name make decisions about
plants of VCM and EDC of Engro can help to attract overcoming related problems.
5. Geo-political situation managerial and technical Similarly, having a better HR
hampering supply and talent from the market could have saved them form a
distribution number of operational
6. Technology used becoming problems caused by not
obsolete having professionals or
technical people right at the
start.

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5.0 Space Matrix
S.No: Particulars Ratings

Financial Strength (FS)
1. Profitability +3
2. Revenues +4
Sub Total +7
Industry Strength (IS)
1. Growth potential +4
2. Profit potential +4
3. Ease of entry into the market +2
4. Capacity utilization/productivity +3
Sub Total +13
Environmental Stability(ES)
1. Rate of inflation -4
2. Demand variability -4
3. Competitive pressures -2
4. Ease of exit from the market -5
Sub Total -15
Competitive Advantage
1. Market share -1
2. Product quality -2
3. Customer loyalty -3
4. Control over suppliers and distributors -4
Sub Total -10
Conclusion:
ES Average is -15/4= -3.75, IS Average is +13/4= +3.25
CA Average is -10/4= -2.5 , FS Average is +7/2= +3.5
Directional Vector coordinates: x-axis: IS+CA= +3.25+ (-2.5)= +0.75
y-axis: FS+ES= +3.5 + (-3.75)= +0.25

Scale

-CA and ES values can range from -1 to -6 (-1 being best and -6 being worst)
-IS and FS values can range from +1 to +6 (+1 being worst and +6 being best)

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5.1 SPACE MATRIX – Diagram

FS
Conservative A
Aggressive

(0.25, 0.75)

CA IS

Defensive Competitive

ES

5.2 ANALYSIS

The space shows that ECPL has the internal strengths and competitive advantage to pursue
aggressive strategies. The company has a strong brand name and a monopolistic characteristic
because of which they can reap the benefits of opportunities available to them. They can go for
strategies such as expansion, market development and market penetration using their strengths
and competitive advantage.

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6.0 Current Situation
Engro Polymer and Chemical-EPCL limited being the sole manufacturer and producer of Poly-
Vinyl Chloride enjoys the monopoly in PVC market. EPCL is a subsidiary of Engro Corporation
which owns majority of the share in the organization. Engro Corporation is the second largest
producer of urea in Pakistan with other subsidiaries including Engro Foods Limited, Engro
Energy Limited, Engro Avanceon, Engro Vopak Terminal Limited.

EPCL‟s current situation in this case study has been reported with respect to the four key areas of
the organization which include Finance, Marketing, Administration and Human Resource.

6.1 Financial Situation

On the financial front, EPCL is in red since 2009 and has reported a heavy loss of Rs. 790mn in
3Q2010 with a projected loss of around Rs. 926mn for the year 2010 against Rs. 232mn loss in
year 2009 and handsome Rs. 353mn after tax profit in 2008. These heavy losses in 2009 and
2010 are mainly attributed to the backward integration and horizontal expansion of the facility at
Port Qasim during 2009, where Engro invested $250mn a 236% non-current asset growth over
2008 and 393% non-current liabilities growth over 2008. In-addition the financing costs,
operating costs and rise in fuel prices also contributed to the losses reported in 2009 and 2010.

The company after expanding the plant has a capacity of producing 150,000 metric tons of PVC
as compared to 100,000 metric tons previously, reporting an increase of 50% to capture the
projected growth in the PVC market. In addition to this horizontal expansion, EPCL also
integrated backwardly to produce the basic raw materials for PVC that were Vinyl Chloride
Monomer-VCM (capacity of 204,000 tons), Ethylene Di Chloride-EDC (capacity of 230,000
tons) and Chlorine (capacity of 94,200 tons) to lower the cost of raw material and improve the
profitability. A plant to produce Caustic Soda (capacity of 105,000 tons) was also installed to
improve the product offering of EPCL.

These expansions also brought some difficult times for EPCL when a fire incident was reported
in December 2009 where all the plants had to be shutdown. Plants PVC, EDC and Caustic Soda
were re-opened later in the same month with minor maintainenece but VCM plant remained un-
operational till April of 2010 due to which the plant could not commercial operational status till

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the September of 2010. This incident also contributed to the heavy losses in 2010 as the plant
remained un-operational but the depreciation costs, financing costs and operational cash charges
were levied in the balance sheets and income statements plus the high cost of importing VCM
was being incurred by EPCL despite of having the facility. VCM prices rose from USD 880 to
USD 985 in just the 3rd quarter of 2010.

EPCL has net revenue of around Rs. 10.5bn in first 9 months of 2010 with a growth of 28% if we
compare it to the same 9 months period of 2009. EPCL had recorded net revenue of Rs. 11bn in
2009 which was the highest since its inception and EPCL is expected to cross that mark this year
with just Rs. 0.5bn away in just first 9 months of 2010. Unfortunately, these high revenues are
not affecting the bottom line of the company as COGS also increased 34% in 9M2010
particularly because of the non-availability of the in-house VCM plus high fuel, operations and
financing cost which grew by shocking 197% in 9M2010 over the period of 9M2009.

EPCL‟s gross margin has been decreasing ever since 2006 and is down to the level of 6.05% in
9M2010 from the highest in the company history, 19.40% in 2006. Which means that the
company‟s COGS has been increasing since 2006 and EPCL is unable to control it despite its
effort to produce VCM in-house. The gross margin is expected to rise once the VCM plant is
100% operational and produces enough VCM to satisfy the demand of EPCL‟s PVC plant. But
Ethylene and fuel price increases in the international market remains a concern for EPCL.

The net profit margin of EPCL is also showing alarming result for EPCL as in 9M2010 the net
profit margin has shown a negative growth of 7.52% as compared to 0.26% negative growth in

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9M2009. This negative growth is attributed to the above mentioned COGS, operating and
financing costs. The outlook for the 4Q2010 also looks grim and EPCL is expected to file a loss
Rs. 926mn which is further expected to show a negative growth due to low demand of PVC in
domestic market.

The current and quick ratios of EPCL are also decreasing ever since the expansion. Current and
quick ratios currently are at the level of 0.66 and 0.32 in 9M2010 dropped down from the level
of 3.62 and 2.84 in 2007. This shows an alarming situation for the EPCL and it is facing
challenges in honoring the short-term and long term debts to the extent that, it remains in breach
of the loan payment agreement.

Another alarming sign for EPCL is the Interest coverage ratio which has decreased to the extent
that it is in negative, -0.23 in 9M2010. The interest coverage was at the level of 25.32 in 2008
which has been drastically decreased due to heavy expansion financing.

The return on stakeholder‟s equity is also on a strong negative trend with return falling from
positive 18.63% in 2006, negative 3.65% in year 2009 to negative 11.49% in 9M2010. In
addition EPCL also announced Rs. 1.28 loss per share in 9M2010 as compared to Rs. 0.04 loss
per share in 9M2009 and Rs. 0.45 loss per share in 2009. It is projected that the EPCL‟s loss per
share for 2010 will be Rs. 1.46.

6.2 Marketing

Engro Polymer and Chemical Limited being the only supplier of PVC in Pakistan enjoys the
complete market share of PVC but unlike other monopolistic organizations and businesses in
different industries values its customers a lot. In fact, the core values pyramid of Engro Polymer
describes “Customer Focus” as one of the core value of EPCL, which states that, customer needs
are their primary focus as they define the reason of EPCL‟s existence.

6.2.1 Customer Focus
EPCL is the organization of its words; it has actually worked mutually with its clients to help
them grow their business. Help is in terms of both managerial and technical support. EPCL has
more than 400 small and big customers and according to CEO, Mr. Qadir, there is not a singe
customer out of these 400 customers that has not been visited by the professionals of Engro
Polymer.

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Engro Polymer has directly helped PVC pipe industries in growing their businesses and in result
their capacity has doubled over the period of five years. In addition, 10 years ago, the industry
could only manufacture PVC pipes with only 4 inches diameter but now, they can manufacture
PVC pipes with 20 inches in diameter with additional uses. Moreover, EPCL also technically
supported dying cable compounding industry in a way that previously the industry used to import
10,000 tons of cable compound but now it is manufacturing 8,000 tons of it.

EPCL specializes in customer focus to the extent that they also work to help customers of
customers. Drip Irrigation System is that sophisticated technology that helps farmers in
preserving water while increasing their agricultural output. This technology promotes the use of
PVC pipes which ultimately helps PVC pipe manufacturers and their consumers in conserving
water.

EPCL, in addition to the above taken steps also helps in developing the customer human resource
through proper trainings and guidance. With this 16 Customer Technical Audits were also
conducted in order to help improve its customers production processes, recipes, quality of the
product and output of the factory. EPCL has also equipped all of its vehicles of Caustic Soda unit
with trackers to ensure timely delivery of the raw material to the customer.

6.2.2 Market Development
In order to target handsome growth rate in revenues and profitabity and to lower its dependence
on domestic market Engro is also exporting excess of PVC to international customers in Sri
Lanka, Bangladesh, UAE and Bahrain. However the exports are limited due to the huge demand
of PVC in domestic market.

6.2.3 Horizontal Expansion and Vertical Integration
EPCL in order to meet the growing demand of PVC in the Domestic and International Market
grew horizontally with an addition of 50,000 KTons PVC manufacturing capacity. This addition
has increased PVC production EPCL by 50% to 150,000 KTons. Plus it also integrated itself in
backward direction with the installation of the raw basic raw materials manufacturing capacities.
The new plants enable EPCL to manufacture Chlorine, Ethylene di-chloride - EDC and Vinyl
Chloride Monomer – VCM, which are the basic raw material in PVC production. This backward
integration helped EPCL in lowering its dependence on imported VCM which incurred higher
cost and risks due to international market and exchange rates

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However, this expansion and integration could not help EPCL in 2010, as due to unfortunate fire
incidence at the factory in December 2009, VCM plant suffered damages and could not be put on
commercial production status until September, 2010. Delay in the VCM plant start-up caused in-
house VCM shortages which also effected the PVC production as VCM was also short in
international. This long delay also contributed primarily in filling huge losses in the income
statements of EPCL in first three quarters of 2010 with total expected loss of Rs. 1014 million in
2010.

6.2.4 Related Diversification
EPCL has also diversified in a related business with the production of Caustic Soda. The demand
of Caustic Soda is around 230,000 tons in domestic market and EPCL with its caustic soda plant
has a capacity to manufacture 105,000 tons with major customer being textile industries and
soaps and detergents factories. The Caustic Soda market is growing in Pakistan and EPCL in
order to not to solely base its revenue chain on PVC has expanded into Caustic Soda market.

6.2.5 Corporate Social Responsibility
Corporate Social Responsibility is also one of the key concern areas for Engro Polymer as it
invests huge amount in building a safer, healthier and a prosperous community. EPCL spent Rs.
8.4 million in 2009 in different projects. Projects include, 100 hectares of plantation projects to
contribute towards greener Pakistan, clear drinking water project was installed by EPCL in
Razzakabad and Ghangar Phatak, Earth day celebration with the local community and various
Education projects including, Support Community Schools, EPCL Scholarship Programs,
Taleemi Mela Sponserships and Donations.

6.2.6 Research and Development
EPCL also ensures that it conducts proper research and development in order to continuously
improve its products, facilities and processes. In an effort to modernize its products, EPCL local
researchers developed lead free pipes for use in portable water systems, food grade geo
membrane for lining water reservoirs, medical compounds or I.V sets and syringe gaskets.
Furthermore, EPCL is also studying the methods to utilize the Hydrogen which is available at
site and ways to grow PVC and Caustic Soda capacity.

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6.2.7 Competitive Advantage
Competitive advantage to Engro Polymer is its position as a sole manufacturer of PVC in the
Pakistani market. Engro Polymer enjoys the complete market share of Pakistan‟s PVC market
with less than 5,000 tons of PVC resin imports by small traders. EPCL has a very strong
advantage over traders who incur high duties, freight charges, financing costs and warehousing
charges while importing PVC resin.

This cost advantage will sustained by Engro Polymer in long term in way that it has now
installed EDC and VCM plant which are the basic raw materials of PVC, thus reducing costs,
increasing entry barriers and weakening importers further.

In addition, the long-term customer relationship management of EPCL has also developed as one
its key strengths in the market. The infrastructure and value addition facilities that EPCL has are
very difficult to imitate, thus making sure that the competitive advantage is for long-term and
sustainable.

6.3 Human Resource and Administration

Engro Polymer believes that the success of the organization is highly dependent on the skills of
its workforce. EPCL specially focuses on the development of the employee so that he/she can
better handle professional challenges. According to the figures of 2009, EPCL has 350
employees, which has doubled from 2007 due to expansion/integration plan. At Engro Polymer
the rights of the employees are respected and the organization promotes freedom of opinion,
expression and open dialogue policy.

EPCL offers market competitive compensations and awards incentives on the employee‟s level
of performance which automatically triggers an enthusiasm to excel. Incentive like Employ
Share Scheme has also been introduced at Engro to reward employees and to build a sense of
ownership in them. This policy of EPCL makes sure that the employees grow as the organization
grows. EPCL also puts especial emphasis on the regular training and skill development of its
employees. For this, various training on different subjects like management, plant operations and
maintainenece, IT, marketing and finance are conducted. In 2009, EPCL invested around Rs. 54
million on trainings and travelling.

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Despite the above measures, technical human resource planning has served as a major flaw for
the organization. After the expansion and integration, EPCL faced lack of VCM plant operations
maintainenece specialties in its existing human resource. Due to the lack of operations and
maintenance skills, EPCL incurred huge losses in terms of VCM plant catching fire and delayed
re-startup of the plant. EPCL after facing the losses has hired international expertise in operating
and maintaining the VCM plant. Had it been done before, EPCL might not have faced the fire
incident and ultimately huge losses and delayed re-start-ups.

Plus, covering more of the administrative side of the Engro Polymer, there still are many gaps in
the productions processes. VCM plant re-start-up was unnecessarily delayed due to lack of
planning of maintenance schedules, moreover, when there was a shortage of in-house VCM in
last half of 2009 and first half of 2010, there was no future risk, back-up and alternate supplier
planning due to which EPCL had to limit PVC to plant to the capacity of 116,000 tons with
maximum capacity of 150,000 tons.

7.0 Problems Analyses
Engro Polymer, being in losses for a couple of years, has problems mostly related to
inexperience in managing backward integration, forecasting, financial management and some of
management issues. The losses are the result of some inappropriate and late decision making by
the organization. We will discuss each of problems under each category.

7.1 Problems related to Forecasting and Inexperience

Engro Polymer is the largest and the only PVC producer in Pakistan. From 2008 however, some
of the major changes in the production occurred. Company‟s PVC production was decreased due
to shortage of the imported raw material that is VCM. The company did anticipate the shortage
earlier as well and decided to set up another VCM production plant in the country. This new
plant was needed to manage the shortfall and the plant was expected to operate by 2009. This
was good backward integration decision as it would have drastically reduced the raw material
import cost of EPCL due to in-house VCM and EDC manufacturing facilities. But due to
inefficient prediction and forecasting of shortfall, the shortage started to occur before the plant‟s
operations could begin. The company then decided to purchase VCM from international market

21


on spot basis. The raw material in international market was on peak prices and therefore it added
to the costs of Engro Polymer. In addition, the forecasting of future demand in 2008 and 2009 for
2010 and onwards was unrealistic considering the financial crisis had just started at that time.
EPCL should have taken a more realistic path towards forecasting future demand of PVC.

Moreover, after the inauguration of the VCM plant, it caught fire in December of 2009 due to
lack of expertise in managing the new VCM and EDC plants. If EPCL would have hired
experienced professionals to manage new VCM and EDC plants, it would have been facing
much lesser extent of financial problem than it is facing now.

After the fire incident at VCM plant, EPCL suffered form extremely low level of in-house VCM
production till September of 2010, which again forced them to import VCM from the
international market on higher prices while incurring depreciation and interest charges on the
newly imported plant. VCM in the international market fell short in 2010 due to which the PVC
plant operated on 71% efficiency in first 9 months of 2010. This phenomenon had a double
negative impact on the income statement of EPCL while reporting a loss of Rs. 790 million in
9M2010.

7.2 Problems related to financial and debt management

Apart from the above mentioned problem, another problem in Engro Polymer was seen as related
to financial and debt management. Engro Polymer has been breaching few of loan agreements
and form past one year; the raw material costs have been drastically increased and the in-house
raw material production is on extremely low levels. Moreover, the investment for new VCM
plant have also added to the debts. Engro‟s long term debt to equity ratio has increased by 67%
from 0.21 in 2007 to 0.64 in 2009 and the interest coverage ratio has decreased by 94.3% from
25.32 in 2008 to 1.44 in 2009, thereby adding to the poor financing and payback policies.

Other reasons adding to the costs include incremental costs due to depreciation of assets,
financial credit term agreements and increasing fixed costs due to expansion and backward
integration.

Analyzing the problem strategically, the financial analyses of the organization have not been
calculated properly, the company is relying on too much of debts from banking and other
entities. Common stocks have also been issued to the general public, to whom; Engro has failed

22


to give dividends for past couple of years. The debt ratio of the company is greater than the
industry average and the company is expected to be in loss at least till the end of year 2011 or
1H2012.

7.3 Management Issues

Engro Polymer is a result of acquisition of Esso (later renamed as Exxon) in 1991 and it is now
part of Engro Group which has a diversified range of products from Fertilizers to foods. It is
important to understand that the management of Exxon was taken over by the management of
Engro and therefore there was a shift in management style. The company‟s profitability
condition was very positive and the future was optimistic as well. However, Engro group
gradually started diversifying into other categories, especially Engro foods after which the
expansion was rapid, the financials were needed and company started relying too much on debt
financing. In spite of the fact that Engro Polymer is a separated entity and operates irrespective
of what the other entities in Engro group are up to, the link between the companies under the
name of „Engro‟ cannot be broken. Therefore, when the fertilizer business, which is the cash
cow, was doing excellent in the market, polymer business still had to rely on debt financing from
external sources, whereas the same cash could have been provided by fertilizers as credit on
lower rates. Therefore the lack of coordination within the business under Engro Group is
minimal.

The management in Engro Polymer business has not been proactive enough to assess the market
situation, the availability of VCM in local and international markets. The prediction was late and
therefore as a result, the new plant was not ready to operate while the local unavailability of
sufficient VCM was prevalent. This further resulted in reliance on external finances in order to
meet the demands, as a result, the cost of raw material increased and profits decreased to extent
of transferring into losses. The company also breached some of the contracts and is expected to
default on few other payments by the end of the year due to late-commercialization of the VCM
plant.

The overall management decision regarding the most important factors like production facility
expansion, financial and debt management pose a great threat to the organization in future. Engro
Polymer has been on reactive approach rather than proactive one as the company was not able to
anticipate the future problems and kept relying too much on debt. This may also be due to the

23


lack of competition, because of which the management has been complacent in taking such
decisions. The overall growth of Engro Group has neglected some of the core businesses like
Engro polymer and therefore resulted in consistent losses.

8.0 Future Proposed Strategy
After the detailed and thorough analysis of Engro Polymer and Chemicals Limited, we have
prepared a strategy that will enable EPCL to come out of these difficult times successfully. The
strategy is named as “The New-Fangled Approach”, which encompasses,

EDC-VCM Plant Action
Debt Management
Export Plan
Back-up and Forecasting Plan
Product and Market Development

8.1 EDC-VCM Plant Action

EPCL‟s VCM plant caught fire in December of 2009 due to lack of expertise and experience of
EPCL in managing the new facility. After the fire, VCM plant remained un-operational since
April 2010 and could not achieve the Commercial Operations status since September 2010 due to
which EPCL reported huge losses.

This lack of expertise and experience in operating VCM plant was due to non-hiring of experts
for the job. EPCL now should hire international experts for the job, so that future such incidents
can be minimized. EPCL with its international expertise should focus on the efficiency of the
VCM plant as it affects the capacity of the PVC plant as well.

Operating VCM plant at 100% efficiency would (1) reduce the raw material cost, (2) improve the
efficiency of the PVC and (3) most importantly will play a major role in bringing EPCL out of
losses.

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8.2 Debt Management

There is a need to take EPCL out of losses through proper debt management. The debt on EPCL
is accruing huge interest charges due to which EPCL is breaching many of its loan agreements.
Debt refinancing is an attractive option for EPCL, where the debt refinancing should not be done
through financing institutions but through Engro Corp. itself. Engro Corp. being the major
shareholder in EPCL should refinance it debt on lower interest rates with deferred payments.
Term finance certificates like Engro Rupiah or sucking cash out of its cash cow like Engro
Fertilizer can provide the amount needed to refinance the debt on lower interest rates.

This debt refinancing would immensely reduce the interest rate pressure on EPCL and would
also provide EPCL with cash to inline its operations once again.

8.3 Export Plan

After the recent economical situation and floods in Pakistan, the demand for PVC is not expected
to remain upbeat for the 4sth quarter and 1H2011. Therefore, EPCL can have excess of PVC in
2011 which can be exported to earn more revenue. The more profitable export arenas for EPCL
can be China and India as their per capita PVC consumption is on low levels as compared to
Korea per capita PVC consumption of around 20kg.

Furthermore, as Caustic Soda demand in domestic
market is 230-240k tons, EPCL‟s caustic soda
production will produce excess in the market and
prices locally will fall further. Therefore, instead of
completely focusing on domestic market with caustic
soda production, EPCL should equally focus on
exporting caustic soda to India and China.

8.4 Back-up and Forecasting Plan

After the unfortunate fire incident at VCM plant and delay in commercial operations, EPCL
faced massive shortages of in-house VCM. This shortage forced EPCL to again start importing
VCM until its plant gets operational. EPCL, then started importing VCM on higher prices due to
international supply shortages and then had to stop PVC plant, courtesy further shortages in

25


international market. Due to this VCM supply and demand situation in international market,
EPCL suffered with high cost of goods sold which increased by 55% from 2008 to 2009,
whereas, gross profit only increased by 2% during the same period.

EPCL, in order to prevent itself from such situations in the future should keep its VCM plant
functional at100 efficiency, through proper maintenance, operations and management skills and
expertise, as it is a basic raw material in PVC production. Moreover, if the VCM plant still goes
offline as a result any unfortunate incident, EPCL should have a fixed back-up VCM supplier
with whom EPCL is the primary customer to be served.

In addition, realistic future domestic PVC demand, revenue and net income forecast could have
lessen the loss that EPCL is expected to report in 2010. According to EPCL in 2009, the
domestic PVC demand was expected to grow at 10%-14% growth for next 3-4 years instead of
the fact that financial and political crisis had just begun at that time. Now in 2010, EPCL is
facing low demand due to almost no infrastructure development projects in Pakistan and passive
behavior of the market towards construction of homes, which is not only reducing the revenues
but also increasing losses by charging the same fixed cost and interest charges over the new
imported machinery.

In order to prevent this in future, EPCL should conduct proper and more importantly realistic
forecasting in terms of future demand patterns and revenues. This would not only help EPCL in
reducing the risk of low efficiencies but also EPCL would be able to plan future expansions and
growth plans more productively.

8.5 Product and Market Development

Whenever the organization is going through the low demand phase of its products, product and
market development serves as a savior in such situations. EPCL can increase the uses of PVC by
proper research and development.

Drip irrigation system is an excellent initiative by EPCL as it not only increases the agricultural
productivity but also indirectly increases the demand of PVC resin. EPCL should aggressively
pursue the introduction of Drip Irrigation System in Pakistan as it holds huge potential. Further
more adding to the uses of PVC, unplasticized polyvinyl chloride sheets are commonly used in
US, UK and Australia in construction of homes as it is low maintainenece material. This use can

26


also be promoted in flood affected areas where there is urgent need of home building with
finished building material.

In addition, market development of PVC resin and Caustic Soda in China and India would help
EPCL cover future low demand of its products in domestic market by selling them in
international market.

9.0 Conclusion
Engro Polymer and Chemical Limited holds huge prospects in Pakistani market due to its status
as only PVC resin manufacturer and major Caustic Soda manufacturer in the country. Moreover,
the backward integration in the PVC plant strengthened its operations as fully operational VCM
plant would not only drastically reduce the raw material cost due to in-house production but
would also increase the entry barriers in the industry because of EPCL‟s cost advantage.

EPCL is expected to further grow and turn itself in to profits in coming 3-4 years once again
provided it follows the above proposed strategies and the natural environment remains constant.

9.1 Future Financial Outlook

According to the management of EPCL, the product demand is projected to go down further
domestically due to liquidity crunch. The situation is expected to exist till the 1H2011 and then
in 2H2011 the demand is again expected to show some positive signs as the flood relief schemes
come in full swing. EPCL is going to focus on export of PVC to China, India and Middle East in
2011 to balance the demand and production. The company is also expecting heavy decline in raw
material prices as VCM plant will again begin its operation on 100% efficiency from 4Q2010.

Plus the prices of PVC and Caustic Soda have risen in the international markets and are expected
to remain at the same level which will further strengthen the top-line of the company.
International Chlor Vinyl margins are also increasing in the international market which will
further lessen the COGS burden on EPCL.

Based on these sector and market assumption and provided the internal and external
environmental factors remains constant, 4Q2010, Year 2011 and 2012 can be projected as,

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Heads 4Q2010E Consolidated 2010E
Net Sales 3885770 14396500
COGS 3657984 13532710
Gross Profit 227786 863790
Operating Expenses 374247 1247109
Operating Income -146461 -383319
Financing Charges 377042 1394061
Earning Before Tax -523503 -1777380
Tax 209401 672727
Earning After Tax -314102 -1104653
Earning/Loss per share -0.47 -1.77
Rs. In „000‟, except „Earning/Loss per share

Heads 2010E 2011F 2012F
Net Sales 14396500
COGS 13532710
Gross Profit 863790
Operating Expenses 1247109
Operating Income -383319
Financing Charges 1394061
Earning Before Tax -1777380
Tax 672727
Earning After Tax -1104653
Earning/Loss per share -1.77
Rs. In „000‟, except „Earning/Loss per share

28

Strategic management report engro polymer and chemicals limited

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