A study of Closed-End Funds

An example of Golden Arrow Selected Stock Fund Limited (GASSFL)

The history of closed-end funds began in 1893, more than 30 years before the first mutual fund was formed in the United States. Many investors hold CEFs for long periods of time, and it is not unusual for shares to be handed down from one generation to the next. Closed-end funds are truly unique investments and provide investors an important way to achieve their long-term investment goals.

Open-end funds (more commonly known as mutual funds) continuously offer their shares to investors and prospective investors and stand ready to buy back their shares at all times. Transactions in shares of mutual funds are based on their net asset value (NAV), determined at the close of each business day. Sometimes the transaction price includes an adjustment for a sale, redemption or other charge. NAV is the value of the fund’s assets less its liabilities divided by the number of the fund’s outstanding shares. The invested capital in a mutual fund tends to fluctuate based on investor sentiment.

But closed-end funds have a fixed number of shares outstanding. Following an initial public offering, their shares are traded on an exchange between investors. Transactions in shares of closed-end funds are based on their market price as determined by the forces of supply and demand among investors in the marketplace. Interestingly, the price of a CEF may be above (at a premium to) or below (at a discount to) it’s NAV. The transaction price will also include a customary brokerage charge. The invested capital in a closed-end fund is fixed and will change only at the direction of management. Capital can be increased through the issuance of shares in conjunction with a rights offering or through the reinvestment of certain fund dividends and distributions. Capital can be reduced when shares of the fund are repurchased in conjunction with a stock repurchase program or tender offer.

From the Sector of “Financials” Golden Arrow Selected Stocks Fund Limited (GASSFL) is a Pakistan-based closed-end mutual fund. The Company’s principal activity is to make investment in marketable securities. The Company is managed by AKD Investment Management Limited. Its custodian company is Central Depository Company of Pakistan Limited.

While writing these lines its Share performance is 11.90 PKR while closing as of Feb 06 2015 11:29 GMT. 52 week high and low is 12.00 and 8.15 respectively while volume is 0.3 millions.

Financial Strength looks at business risk. The stronger a company is from a financial standpoint, the less risky it is. The Quick Ratio compares cash and short-term investments (investments that could be converted to cash very quickly) to the financial liabilities they expect to incur within a year’s time. The Current Ratio compares year-ahead liabilities to cash on hand now plus other inflows (e.g., Accounts Receivable) the company is likely to realise over that same twelve-month period. The Long Term Debt/Equity Ratio looks at the company’s capital base. A ratio of 1.00 means the company’s long-term debt and equity are equal. The Total Debt/Equity Ratio includes long-term debt and short term debt.

To check the profitability of the company, I decided to calculate the Gross Margin %, Operating margin % and Net Profit Margin %. These ratios realise overall profitability, or the bottom line. Gross Margin shows the amount of revenue left over after deducting direct costs of producing the goods or services. Operating Profit and Operating Margin trace the progress revenue down to another important level. From gross profit, we now subtract indirect costs, often referred to as overhead e.g., facilities and salaries associated with headquarters operations. Finally, Profit Margin shows you how much of each revenue rupee is left after all costs, of any kind, are subtracted. These other costs include such items as interest on corporate debt and income taxes.

My calculations for some of the years (source: Annual Report Published by the Company) are as follows for reader’s interest. Operating Margin % is 82.58, 89.80 and 93.25 for the years 2011, 12 and 13 respectively. These value measures the percent of revenues remaining after paying all operating expenses. It is calculated as Operating Income divided by the Total Revenue, multiplied by 100. Net Profit Margin % is 81.25, 89.80, and 93.25 for the same years as above respectively. Net Profit Margin is also known as Return on Sales, this value is the Income after Taxes divided by Total Revenue for the same period and is expressed as a percentage.

A company’s ability to operate profitably can be measured directly by measuring its return on assets. ROA (Return on Assets) is the ratio of a company’s net profit to its total assets, expressed as a percentage. ROA measures how well a company’s management uses its assets to generate profits. It is a better measure of operating efficiency than ROE, which only measures how much profit is generated on the shareholders equity but ignores debt funding. This ratio is particularly relevant for banks which typically have huge assets.

To calculate the management’s effectiveness I calculated ROE, ROA and ROI for the same 3 years and it was increasing trend in all these ratios. E.g. ROA is 12.36%, 26.71% and 57% for 2011, 12 and 13 respectively.

The annual dividend is the total amount (PKR) of dividends you could expect to receive if you held the stock for a year (assuming no change in the company’s dividend policy). The dividend yield is the indicated annual dividend rate expressed as a percentage of the price of the stock, and could be compared to the coupon yield on a bond. The Payout Ratio tells you what percent of the company’s earnings have been given to shareholders as cash dividends. A low payout ratio indicates that company has chosen to reinvest most of the profits back into the business.

And my calculations for the same three years showed payout ratio as 92.49%, 62.90% and 39.78% which clearly shows that Golden arrow has chosen to reinvest most of the profits back into their business in those years.

The most important Per-Share Data item is Earnings per Share. That’s because ultimately, the price of your stock is related in some way to the value of the stream of earnings attributable to that share. Calculations regarding this showed also an increasing trend like 0.81, 1.91 and 5.28 for the years of 11, 12 and 2013.

Company’s Financial Statements for year 2013-14 show a remarkable uplift in financial position as net income for these two years after taxation is 802871 and 734748 (Rupee “000”) respectively. And earnings per share are 5.28 and 4.83 for the same years.

We as students of finance were asked by our teacher to study the financial statements of a listed company and I selected this company purely for learning purpose and not for any other intention. Errors and omission are expected.