June 24, 2013 (Chinavestor) An investor can take Petrochina’s (NYSE:PTR) net profit figures for a particular fiscal year and use it as an indicator for the firms profitability. However, whilst this may produce an initial ‘buy’ response, an astute investor may wish to take a closer look at Petrochina’s (NYSE:PTR) financial statements and make a judgement call once they have analysed the fundamentals of the firm. Profitability in a firm is undoubtedly one of the highest means of measure, but a company’s liquidity may paint a clearer picture of corporate health. If one had to be made into accepting this truth, then they should realise a firm can declare bankruptcy even though they have made a profit for the year.
PTR’s business operations are formed under three main sections; Cash from Operating Activities, Investing Activities and Financing Activities. Cash inflows and outflows are attributed to these sections with only the cash actually received making the statement and transactions going towards the income statement.
Analysing the statement of cash flows is preferred by financial analysts who want to view the company as what it is. Operating cash flows signal how much cash is generated from its normal activities and whether it has the ability to conduct daily business operations efficiently. PTR’s Operating Cash Flows (OCF) for FY12 had decreased 17.5% to RMB 239288 from RMB 290155 in FY11. A decrease in OCF is usually attributable to changes in working capital and alterations in taxes. Also, PTR posted a decrease in profits for the year of 13% which, even when an increased DD&A charge is added back, caused the cash from business operations to decrease.
FY10 showed record profits of RMB 139992 million. This translated into higher cash flow figures where RMB 318796 million represented the cash from operations during that year. By analysing the downward trend, the decrease in OCF could be mainly due to the increase in taxes PTR pays. The Peoples Republic of China imposes taxes and levies which affect the overall cash flows of any business operating in China, however, with regards to the Oil and Gas industry, this effect has been more significant. Payments of these taxes and levies increased from FY10; 27% in FY11 and 25% in FY12. Whilst Petrochina (NYSE:PTR) has hedging policies to mitigate the effects of foreign exchange rates and crude oil prices, protecting their funds from state government impositions is much more difficult. If an investor had to make a judgement based on Fig 1, they would recognize that even though revenues increased quite steadily over the past five fiscal periods, OCF decreased steadily from FY10. As we recalled earlier, FY10 posted very high profits followed by decreases in net profits. The inverse relationship of Revenue and OCF from Fig 1 supports the fact that increases in PTR’s operating expenses contributed to lower profits, hence lowering OCF, regardless of the high revenues posted. Growth in revenues usually should coincide with advances in OCF which has not been the case here. OCF to revenue ratio should technically increase YOY. Whilst PTR appeared to be in good financial health in FY08, FY09 and FY10 with percentages of 16%, 26% and 22% respectively, a sudden decrease materialized in FY11 and FY12, producing results of 14% and 11% respectively. Whilst taxes and other expenses may be at the forefront of depleting OCF, changes in PTR’s inventory and working capital could alter the figures posted for OCF. Petrochina (NYSE:PTR), like any company, needs to be able to meet their short term obligations.
Working capital for PTR is negative for the last five fiscal years and has decreased sustainably throughout. Before making a judgement on whether negative working capital cycles signal an inefficient company, it must be noted that certain industries manage working capital differently. The Oil and Gas sector may actually produce profits through these negative working capital cycles. For example, PTR may not have been able to operate refining of a product within a certain credit period, adding to the negative working capital. Uncertainty presides over an Oil and Gas firm specializing in E&P. Reductions in daily oil reserves, brought by miniscule changes in conditions, will lead to decreases in working capital as well as changes in foreign exchange hedging polices. For PTR to maintain good working capital management, PTR will need to improve day to day operations and make sure current assets exceed the liabilities. Their ability to cover their liabilities in the short term can provide us with another look on how liquid the company is. It is however with no surprise that their ability to meet these short term commitments has diminished since FY10. OCF to current liabilities were 47% in FY11 and 30% in FY12, contrary to the 80% PTR averaged up till FY10. This analysis only represents one business operation of Petrochina (NYSE:PTR). Return on Capital Employed has also decreased, in line with working capital changes. The rise in investment assigned to production of oil fields and other reserves has led to the decrease in ROCE. In FY12, ROCE was 11% whereas in FY11 it reached 29%, implying when PTR had their lowest change in working capital, they managed to gain better returns on their capital. Once the Cash Flow from Investing and Financing Activities are scrutinized, we can deliver a better judgment whether the overall cash flow of PTR looks healthy.
To be continued...