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SABIC Introduction
Saudi Arabic Basic Industries Corporation (SABIC) is the largest petrochemical company in the GCC and is ranked as the 4th largest chemical company based on its global sales. The main products of the company include chemicals, plastics, polymers, steel, and fertilizers. In addition to this, the company also has technology and investment management businesses. The company operates different businesses through its subsidiaries that are managed by its central management, which is led by the companys CEO, Yosef Al-Banyan.
The company was set in 1976, and its head office is located in Riyadh, Saudi Arabia. The ownership structure includes a 70% share of the Saudi government, and the remaining 30% of the companys equity is held by corporate and individual investors. The companys stocks are listed on Tawadul and its code is 2010. The group employs more than 40,000 employees ( SABIC Annual Report 2016, 2016).
Business Model
SABIC adopted a corporate business model in the 1990s. Before this, the company operated as a holding company. The business model of SABIC indicates that the parent company owns subsidiaries in different countries. The group has 25 subsidiaries include Saudi European Petrochemical Co., Arabia Petrochemical Co., Fiber Reinforced Thermoplastics BV, and Saudi Industrial Investments Company ( SABIC Annual Report 2016, 2016).
The company prepares financial statements on a consolidated basis and eliminates all transactions between the parent company and its subsidiaries. The company also has holdings in its associates in different countries. Saudi Industrial Investments Company is mainly responsible for managing the companys investments and joint ventures. In recent years, the firm has invested in new innovative companies and allowed young entrepreneurs to bring new ideas for the companys business.
The global business model of the company promotes diversity in culture and people who work for it. The company prepared its financial statements by generally accepted accounting standards issued by the Saudi Organization for Certified Public Accountants (SOCPA) ( SABIC Annual Report 2016, 2016, p. 98). However, the company has adopted the International Financial Reporting Standard (IFRS) and will prepare its consolidated financial statements for the year ending 2017 accordingly.
Profitability of SABIC
The Key Performance Indicators (KPIs) and ratios of SABICs profitability are provided in the following table.
Table 1. Profitability KPIs and Ratios.
It could be indicated that the companys revenue declined in the last three years, which was due to the low oil price. The company suffered due to oil price volatility that affected its cost of sales. It is also noted that the companys operating income and net profit also declined during 2014-16. The low oil price affected the companys core businesses producing products including plastics, polymers, and fertilizers. Another factor, which affected the companys profitability, was the high cost of steel.
The management report of the company indicates that the company focused on managing its operational costs. It also merged different business units for better management and cost control. It was also reported that the company attempted to improve its resource management system and techniques and benefit from the governments decision to reduce subsidies for utilities ( SABIC Annual Report 2015, 2015).
From Table 1, it could be noted that the companys net profit margin fell in 2015, but its value increased in 2016. The reason for this was that the company focused on increasing operational efficiency by overcoming operational losses and better management of its activities. The return on equity also declined in the last three years as its net income and EPS fell. It must be understood that shareholders objective is to maximize their return on investment (Wahlen, Baginski, & Bradshaw, 2017).
Therefore, the company should be concerned with the situation and take the necessary steps to improve its profitability in 2017 and onwards. The return on assets also reduced from its high value of 6.87% in 2014 to 5.63% in 2016. It could be highlighted that the companys operations are highly capital intensive and the low value of the return on assets implied that it generates low sales in 2016 as compared to 2014 and 2015. Lowering sales and net income could severely affect the outcome of its investments and create problems for the company (Taylor, 2012).
Risk Analysis and Derivatives
The analysis of the companys annual reports of the last three years indicates that it faces different risks including credit risk, commission rate risk, liquidity risk, current risk, and fair value risk related to its financial instruments ( SABIC Annual Report 2016, 2016, p. 116). These financial instruments include cash and cash equivalents, short-term investment, accounts, and other receivables, derivative financial instruments, investments in securities, advances, short-term bank borrowings, accounts payable, accruals, long-term debt, and other liabilities ( SABIC Annual Report 2016, 2016, p. 116). The management including the risk committee oversees the companys exposure to these risks and undertakes steps to ensure that these risks are managed efficiently.
The company holds its cash in banks with high credit ratings ( SABIC Annual Report 2016, 2016). There are no significant commission-based assets. However, the company carries out commission rate swaps between fixed and floating rate contracts to manage its borrowings ( SABIC Annual Report 2016, 2016). The liquidity risk is managed by monitoring the companys current ratio and quick ratio values. It is also noted that there are many transactions between subsidiaries of financial value. It could be noted that the company also uses derivatives to manage currency risks ( SABIC Annual Report 2016, 2016).
There is a risk of exchange rate differential because these subsidiaries are located in different countries, and they are regulated by international laws and regulations (Drake & Fabozzi, 2013). The company manages this risk through current swaps and futures contracts. These ensure that the companys exposure to fluctuations in exchange rates remains within the acceptable limit (Brose, Flood, & Krishna, 2014).
The difference between historical cost and fair value of assets and liabilities is referred to as fair value risk ( SABIC Annual Report 2016, 2016). Since the company uses historical cost accounting for preparing its consolidated financial statements, therefore it assesses all its assets and liabilities for their fair values and makes provisions in its financial statements accordingly. It must be noted that any gain or loss due to fair value accounting is recognized and reported in the companys income statement. Therefore, all gains or losses from the companys hedging activities including derivatives are recorded in the income statement (Brose at al., 2014).
References
Brose, M. S., Flood, M. D., & Krishna, D. (2014). Handbook of financial data and risk information. Cambridge, UK: Cambridge University Press.
Drake, P. P., & Fabozzi, F. J. (2013). Analysis of financial statements. Hoboken, NJ: John Wiley & Sons.
SABIC Annual report 2015. (2015). Web.
SABIC Annual report 2016. (2016). Web.
Taylor, F. (2012). Mastering derivatives markets: A step-by-step guide to the products, applications, and risks. Harlow, UK: Pearson Education Limited.
Wahlen, J. M., Baginski, S. P., & Bradshaw, M. (2017). Financial reporting, financial statement analysis and valuation. Boston, MA: Cengage Learning.
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