INTERNSHIP REPORT ON ISLAMABAD STOCK EXCHANGE (GUARANTEE)

LIMITED, UNIVERSITY CAMPUS BRANCH, PESHAWAR

IQBAL MARWAT

INSTITUTE OF MANAGEMENT STUDIESUNIVERSITY OF PESHAWAR

Session 2007-08

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INTERNSHIP REPORT ON ISLAMABAD STOCK EXCHANGE (GUARANTEE)

LIMITED, UNIVERSITY CAMPUS BRANCH, PESHAWAR

Internship report submitted to the Institute of Management Studies inPartial fulfillment of the requirements for the degree of Master of

Business Administration

December 2008

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INSTITUTE OF MANAGEMENT STUDIESUNIVERSITY OF PESHAWAR

INTERNSHIP REPORT ON ISLAMABAD STOCK EXCHANGE (GUARANTEE)

LIMITED, UNIVERSITY CAMPUS BRANCH, PESHAWAR

Supervisor:

Signature __________________________________

Name __________________________________

Designation __________________________________

Organization __________________________________

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DEDICATION

This report is dedicated to my parents whose hard-work and prayers made me reach to the place where I am today.

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ACKNOWLEDGEMENT

Say (O Prophet Sal Lallalla Ho Allayhi Wasallum) if you love Allah, follow me, Allah will love you.

(AL-Quran)

First and foremost is the help of our Gracious, Benevolent and Merciful God and Holy Prophet Muhammad (Sal Lallalla Ho Allayhi Wasallum) that enable me to complete the report successfully.

With great reverence I ecstasy in expressing gracious thankfulness to my meritorious supervisor, Mr. Abdul Wahid (Professor, Institute of Management Studies) couraging guidance, expert advice, pain stocking efforts & his precious time. It was his cordant motivation that has always elevated me to complete my research, whenever aggrieved distressed during my research. His devoted love and support is worth appreciation.

Special thanks to Dr. Shahjhan Khan (Director, Institute of Management Studies), Dr. Professor Abdul Qayum Khan (Dean, Institute of Management Studies), Professor Zia Uddin Khan for their help and encouragement in my report.

I find no appropriate and suitable words for sincerity, genuineness, seriousness and solemnity of Mr. Aftab Ahmad Ch. Managing Director Islamabad Stock Exchange and all my office colleagues name by name.

I would also like to thank my friends who provided me with all the help I required during the period spend on my dissertation.

I gladly acknowledge that the indispensable and indivisible love of my parents remained assisted and encouraged me to complete the report.

This report is not an individual’s efforts in fact it is teamwork. I hope that this report will prove to be a milestone in equity market in Pakistan.

Finally I am again thankful to my Allah who gave me courage and supported me to complete this report.

Muhammad Iqbal Marwat

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LIST OF CONTENTS

CHAPTER 1: INTRODUCTION OF STUDY………………………………………1

1.1 Brief History………………………………………………………………………..11.2 Stakeholders of the Organization …………………………………………………..11.3 Regulatory of ISE…………………………………………………………………..21.4 Functions to be Performed by ISE………………………………………………….31.5 Organizational Structure……………………………………………………………41.6 Employees of ISE…………………………………………………………………..61.7 State of Communication…………………………………………………………….71.8 Organizational Climate……………………………………………………………...71.9 Physical Facilities to Employees……………………………………………………81.10 Product Lines………………………………………………………………………8 1.11 Business Volume…………………………………………………………………..91.12 Stock Market Operations…………………………………………………………..91.13 Code of Corporate Governance…………………………………………………..101.14 New Risk Management System…………………………………………………..11

CHAPTER 2: ACCOUNTING AND FINANCIAL REVIEW OF ISE……………12

2.1 Structure of the Finance Department………………………………………………122.2 Number of Employees Working in the Finance Department……………………...122.3 Finance and Accounting Operations……………………………………………….132.4 Accounting Review………………………………………………………………...132.5 Financial System Review…………………………………………………………..152.6 Mobilization of Funds……………………………………………………………...152.7 Audit………………………………………………………………………………..18

CHAPTER 3: ANALYSIS……………………………………………………………19

3.1 Critical Analysis of Theoretical Concepts………………………………………….193.2 Financial Analysis…………………………………………………………………..193.3 Comparison of ISE with KSE and LSE…………………………………………….33

CHAPTER 4: FINDINGS & RECOMMENDATIONS……………………………37

4.1 Future Prospects of the Organization………………………………………………374.2 Weaknesses of the Finance Department…………………………………………...374.3 SWOT Analysis…………………………………………………………………….384.4 Recommendations for Improvement and Action Plan……………………………..44

LIST OF PERSONS INTERVIEWED……………………………………………..46

BIBLIOGRAPHY…………………………………………………………………….46

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LIST OF TABLESBusiness Volume……………………………………………………………..9ISE Index……………………………………………………………………10Main codes for assets & liabilities…………………………………………...13Rate of Depreciation…………………………………………………………14Allocation of Funds………………………………………………………….17Key Figures & Ratios of KSE, LSE & ISE………………………………….35Cross-Sectional Analysis of ISE……………………………………………..35

LIST OF CHARTSRegulatory of ISE…………………………………………………………….2Organizational Chart………………………………………………………….5Organizational Structure of Finance Department……………………………12

LIST OF GRAPHSAllocation of Funds…………………………………………………………..18Current Ratio………………………………………………………………….20Cash Ratio…………………………………………………………………….21Debt Ratio…………………………………………………………………….22Debt to Equity Ratio………………………………………………………….23Return on Assets……………………………………………………………...24Return on Equity……………………………………………………………...25Comparison of ISE with KSE and LSE………………………………………34

LIST OF ACRONYMS

CFS Continuous Funding SettlementCOT Carry Over TransactionsDCA Department of Companies’ AffairsDIC Department of Internal ControlDIR Department of Investors’ relationsISE Islamabad Stock ExchangeKSE Karachi Stock ExchangeLSE Lahore Stock ExchangeMD Managing DirectorNCCPL National Clearing Company Pakistan LimitedNCSS National Clearing Settlement SystemOTC Over the CounterRBQ Ready Board QuotationRMS Risk Management StructureSECP Securities Exchange Commission of PakistanTFC Term Finance CertificateVAR Value at Risk

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EXECUTIVE SUMMARY

1. The Islamabad Stock Exchange is a company limited by guarantee incorporated under Companies Ordinance, 1984 in Islamabad. The main objective for the establishment of the Islamabad Stock Exchange is to provide a securities market and trading infrastructure for the less developed northern part of Pakistan.

2. The purpose of this Internship report is to review the existing policies and practices of Islamabad Stock Exchange and to give recommendations to improve the existing system. For this purpose, general study of all operations keeping main focus on finance and administration practices is made.

Report findings are as follows:

1. The future of the Islamabad Stock Exchange is quite bright and there is no serious threat faced by it which could affect on its going concern status.

2. Although, this institution is faced with a number of challenges especially the liquidity problems of the Exchange from trade turnover point of view and rigorous competition yet I believe that this organization would come through all such challenges and would emerge as a vibrant institution of the capital market of the country.

3. The Risk Management System of the ISE has been revamped recently and now the risk management system may be ranked with any developed country’s stock exchange. This has increased the efficiency of the system thus increased the confidence of the investors not from inland but also of foreign fund managers.

My recommendations are as follows:

1. ISE should induct more trained and qualified staff especially in Accounts and Finance Department. ISE should give special consideration in developing HR policies.

2. ISE should also develop better ways for more marketing of its products and should develop a separate department for marketing and research and development. There is a great need of proper marketing strategies by management of ISE.

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BACKGROUND AND PURPOSE OF STUDYING ISLAMABAD STOCK EXCHANGE

I joined Islamabad Stock Exchange (ISE) in April, 2004 as DIR Assistant. Dedicated hard work paved my way for promotion in quicker successions and ultimately I reached to the level of Manager (Operations). However, despite working at senior managerial level I was lacking sufficient knowledge of management. This drawback persuaded me to undertake instant business management course and now I am in the final stages of MBA program, I feel inner confidence and satisfaction that at least I can now take up the modern life challenges of the business world. I am also fully poised about the current position is to grow in real terms and what strategic measures are imperative if this institution is to grow in real terms and what roles are needed for in future.

Being a mandatory requirement for MBA, I made my focus for the internship job at the new risk management regime introduced by Securities and Exchange Commission of Pakistan, the regulator of capital market in Pakistan, as an integral part of capital market development reforms organized at the behest of Asian Development Bank. This issue was not only new one but also had a lot of challenges in it. The whole programme was designed by the experts from International Securities Corporation (ISC) a Singapore based firm.

The risk management is an integral part of Stock Exchanges functioning. The core of the risk management system is to protect the interest of all traders at all tiers of trades. When a trade is executed, the stock exchange is required to have certain risk management system backing to ensure the smooth settlement until settlement date. The Stock Exchanges in Pakistan viz Karachi Stock Exchange (KSE), Lahore Stock Exchange (LSE) and Islamabad Stock Exchange (ISE) were having outdated risk management regime whereby the trader had to deposit certain percentage of margin as a security. However, internationally this system had been phased out since nineties and it was on the top of the agenda of the foreign donors of Pakistan to get this system replaced as soon as possible. This outdated system was also a great hindrance for the promotion of portfolio investment in Pakistan. Therefore, I got a chance not only as my official job but also to make a focus for my internship. While developing and implementing the new system I got to know about international practices. Therefore I made this system as an integral part of my internship report.

SCOPE OF STUDY

In this report, I have written about the organizational briefly, its functioning, its departments and its organization etc. Besides, SWOT analysis of the organization, risk management regime and some brief recommendations have been made in the said report

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keeping in focus the finance and accounting review of ISE. I hope that my report would be found quick informative and a comprehensive document about the ISE.

METHODOLOGY OF RESEARCH

I have used many secondary data resources as mentioned in references to collect data about ISE. For primary data collection, I have interviewed mostly the heads of all departments of ISE. Being an employee of ISE, I also have direct hands-on experience which gave me enough knowledge to contribute to my report.

The methodology of research consists of all methods, which were possible during the internship in ISE. The following methods were adopted by me,

A. INTERVIEWS

The interviews were made on daily basis form the concerning departments in ISE. There are number of personas covered in interviews both top and lower management. The interviews were made in the form of prepared and unprepared. Before the interview general discussion were made for creating feasible environment.

B. QUESTIONNAIRE

In prepared interviews the questions were asked consist on following nature,

i) Open Ended Questions:

The open questions were asked more as compared to other types of questions. The open ended questions asked in different directions. The questions were asked more in number to top management when the response was given than an open discussion were made.

ii) Closed Ended Questions:

Closed-ended questions were less in numbers as compared to other questions asked by me. The questioner were first developed and then asked to the management in the form of scaling.

iii) Techniques in Questions:

The methods of questions in open-ended technique were change question to question. In unprepared method the questions were asked according to information that I got from the respondent. But in open-ended questions were asked usually positive provided if the response was expected according to desire. If there was chance variation in questions than the questions were asked positively and then negatively after time consecutively.

C. SOURCES OF WRITTEN DATA

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The data were collected from various authentic sources includes the newspapers, international books, national level books and literature as stated in bibliography.

D. OTHER METHODS

It includes the general observation, discussion with investors and consults the different record of Islamabad Stock Exchange (ISE).

SCHEME OF REPORT

Scheme of report is as follows:

Chapter – 1 gives general introduction of ISE, its history, stakeholders, regulatory, organizational structure, functions, employees, state of communication, organizational climate, physical facilities, product lines, business volume, stock market operations code of corporate governance and new risk management system.

Chapter – 2 gives a complete review of accounting and financial system of ISE.

Chapter – 3 consists of critical analysis of theory with practical study, financial analysis, future prospects, SWOT analysis, conclusion and recommendations.

Chapter – 4 tells my findings and my action plan for improvement of ISE.

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CHAPTER 1: INTRODUCTION OF STUDY

1.1 BRIEF HISTORY

The Islamabad Stock Exchange was incorporated on October 25, 1989, under the company’s ordinance 1984 as a company limited by guarantee. The exchange first time started trading in July, 1992. The main function of exchange is to conduct, regulate, trade securities, government bonds, shares of companies and other related investment.

1.2 STAKEHOLDERS OF THE ORGANIZATION

The ISE has mainly three stakeholders which are as under:

1.2.1 Members/Brokers

At present there are 121 members of Islamabad Stock exchange. These members have been elected by the Board of Directors of the Exchange. The members may be individuals of high net worth or the bodies corporate. Out of above mentioned 121 members, 86 members are companies whereas rests are individual persons.

1.2.2 Listed Companies

This segment contains the companies whose shares can be traded at the Exchange. At present there are 261 listed securities at ISE. The ISE has its Listing Regulations to discipline and control the listed companies which inter alia include sections relating to approval of listing and even delisting.

The management of Stock Exchange first observes the listing regulations for a company with authorized regulations. When a company gets approval for listing in Stock Exchange, it offers the shares for sale to the general public through Initial Public Offering (IPO). This means that the shares are first offered for sale to general public. When public accepts the offer they purchase the shares from exchange and got ownership right in company. The future value of share is depending on the performance and repute of company. If the performance is good and demand is high, then the value of shares will be appreciated. Conversely if performance is bad then the value of shares will go down, it is because the insufficient demand for shares will occur in the market. The investors can earn the profit on shares by two ways, first from the appreciation of shares, which is also called capital gain, secondly when they receive dividends on shares.

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1.2.3 Investors

This is the most important segment of any stock exchange. Rather it would be appropriate to say that investor is the backbone of the whole capital market to which the stock exchange is a constituent. Therefore, all parameters, rules and regulations encircle the protection of the interest of the investors.

1.3 REGULATORY OF ISE

1.3.1 SECP

SECP is the main regulatory of ISE which works under ministry of finance which in turn also comes under the parliament. SECP was established on January 1, 1999 by dissolving the Corporate Law Authority which was formed in 1981 under a Special Law. It administers the compliance of the corporate laws in the country and is run by the Commissioners under a Chairman. SECP is primarily responsible for the protection of investors, regulation of markets and dealings in listed securities.

1.3.2 Central Depository Company (CDC)

Islamabad Stock Exchange is linked to the Central Depository System (CDS) of the Central Depository Company. The company was developed to remove physical securities management. The current prevailing system helps in transferring shares from one client account to another through an electronic

Ministry of Finance

SECP

Parliament

Islamabad Stock Exchange

National Clearing Company (NCCPL)

Central Depository Company (CDC)

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book entry system (CDS). The main aim of the CDC is to act as a central depository of securities on behalf of all the financial institutions and investors.

1.3.3 NCCPL

In the capital market development program, Asian Development bank gave recommendations to have a separate individual and centralized system for all three Stock Exchanges of Pakistan. So in replacement of the old system, a complete automated electronic settlement system was developed called the National Clearing & Settlement System (NCSS) which is also linked to ISE. Any security which becomes live in Central Depository System, on ready status, is inducted accordingly into the National Clearing & Settlement System (NCSS).

The main purpose of the NCSS system is to act as clearing house for all capital market transactions. The system provides clearing and settlement services for all markets including Ready, Future, CFS, IPO, etc. The system caters and facilitates brokers, non brokers, and banks. This system is operated by National Clearing Company of Pakistan Limited (NCCPL), which has been registered as a separate legal entity.

1.4 FUNCTIONS TO BE PERFORMED BY ISE

The Stock Exchange acts on two levels - one as a primary market and the other as a secondary market. As a primary market, the Stock Exchange will liaise with investment banks and businesses that are looking to raise capital by selling shares. This process involves the business being 'listed' on the Stock Exchange or 'floating'. In this case, the business will effectively get its capital through the initial sale of its shares.

Much of the Stock Exchange's work, however, is as a secondary market. People buying shares may wish to do so for a variety of reasons - to secure dividends or to see the price of the shares rise, for example. If people wish to sell shares then it would be very inconvenient for the business itself to take the shares back and then sell them on to someone else. Such a process would be extremely disruptive and not help planning.

The Stock Exchange, therefore, acts as a market that puts those wanting to sell shares in touch with those seeking to buy. ISE is performing its functions on both levels. Hence, it is performing actual functions as the prescribed functions.

Other functions performed by ISE are as follows:

Companies Affairs Functions• Provide listings to Companies• Monitor listed companies• Provide quotations to media• Ensure listing requirements and code of corporate governance by companies

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Internal Control Functions• Grant membership to brokers• Control members• Monitor computerized trading• Perform market surveillance• Manage Risk Management System

Investors Relations Functions• Provide Information to Investors• Deal with Complaints of Investors• Educate Investors• Handle Default & Legal Cases• Keep Media Relations

1.5 ORGANIZATIONAL STRUCTURE

The organizational structure of the ISE hierarchy is as under:-

1.5.1 Main Offices

The Board of Directors is the highest decision making body of the Exchange. The Board of the ISE comprises 10 Directors. Five Directors are elected each year from amongst the members/brokers by the general body of the Exchange whereas Four Directors are nominated by SECP from amongst the private sector professionals. The Managing Director is the tenth member of the Board by virtue of his office. The current Board for the term 2008 is as under:-

Broker/Member Directors Non-Broker/Member Directors

1. Mr. Zahid Latif Khan 6. Mr. Aftab Ahmad Ch. MD2. Sheikh Muhammad Shabbir 7. Mr. Tariq Khamisani 3. Mr. Raffaqat Ali Ch 8. Mr. Rafid ud Deen Ahmad4. Syed Nooh Adnan 9. Mr. Aslam Khaliq5. Sheikh Riaz Ahmad 10. Mr. Zouhair A. Khaliq

All elected and nominated Directors retire in the AGM by October 31 each year and new Board is elected accordingly.

1.5.2 Organizational Chart

The following is the organizational chart of the ISE:-

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1.5.3 Departments of the ISE

i. Department of Internal Control headed by Mr. Kamran Anwar

This department deals with the members affairs and trading matters and mainly represents the operations.

ii. Department of general Administration headed by Syed Nayyer Ashfaq

This department is responsible for the overall management of the administrative and accounts affairs of the Exchange.

iii. Department of Companies Affairs headed by Mr. Asghar Abbas Naqvi

Listed companies correspondence, listing applications and continuous listing requirements are monitored by this department.

iv. Department of Investors Relations headed by Mr. Waris Niazi

Investors’ facilitation desk and investors’ complaints, investors’ education etc are organized by this department.

1.5.4 Comments on the Organizational Structure

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The highest decision making body is the Board of Directors which have an even blend of member and non-member directors. Therefore, the decision making is quite neutral and impartial.

On the other hand the departments of the ISE are doing very well. All officers are hardworking and professional in their relevant fields and they are trying to equip themselves by imparting latest knowledge about the functioning of the departments and stock exchanges around the globe.

1.6 EMPLOYEES OF ISE

1.6.1 Qualification, Experience and Training of Employees

ISE had 55 employees in year 2008. ISE usually hires fresh graduates. Those graduates after being hired get their Masters (most prefer MBA degree) through self-financing or at times finance provided by ISE. When graduates are hired, they have to work for two months as trainees in ISE and after successful completion of training period; they are hired for a permanent position in ISE. After hiring, no further training to employees is given. Employees of ISE mostly gains experience after working in ISE.

1.6.2 Duties of Employees

Employees perform the duties of their departments. There is a lack of proper job description of every job and also there is lack of staff in ISE which sometimes leads to confusion in performance of duties by employees. Due to lack of workforce, all employees of ISE have extensive workload.

1.6.3 Salary and Packages

The level of salary is very low in ISE as compared to other business. On the time of offering for first joining it start from Rs.9000. There is no other reward for employees of ISE on excellent performance. However the exchange pays fee of employees’ children who are not more than two in numbers.

1.6.4 Performance Evaluation

The performance of an employee is evaluated on the basis of every six months. The performance is evaluated with the help of performance evaluation committee. The letters are sent to employee for purpose of acknowledgement from secretary on the behalf of committee.

1.7 STATE OF COMMUNICATION

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1.7.1 The filing system

For manual handling of filing system, ISE has established a separate sub-department called “Record Room”. This department keeps the record of all the listed companies. These records include annual reports, semiannual reports & public notices issued by the companies time to time. This department is also responsible for keeping the information’s about the businesses of the companies, type of the company, dates of subscription of their shares, under/over subscription & prospectuses of new listed companies.

1.7.2 Correspondence and Updating of Data

Record Room also dispatches the letters, reports and notices to the companies. It also keeps the record of all the ISE members. It keeps a proper contact with LSE & KSE. This department is a vast department having the records of 283 companies, their files & annual reports. Billing sent to members is also handled by this department. All the cheques and letters of member of ISE are received by this department & then delivered to the concern departments and members. This department is under the direct control of secretary of ISE who is responsible for keeping all the records safe and update. Data in this department is always kept updated by its Manager who updates the records as soon as he gets any updates.

1.7.3 Inter-Communication between Staff of ISE

All management employees of ISE have good writing skills and they do correspondence with other departments and members through written communication. All these written communication is also done through record room. Other than written correspondence, ISE has have the facility of telephone to all its employees and computers have been provided to them through which they can also send email to each other.

1.8 ORGANIZATIONAL CLIMATE

1.8.1 Behavior of Employees

The behavior of employees including top management vary from person to person, at average it is good. The main problem in the way of employee is the time availability from work. Despite this problem they coordinate with each other.

1.8.2 Culture, Language and Dress The employees belong to different areas of the country, so ISE is the multicultural organization. Most of the communication is done in Urdu but the official language, which is used in correspondence, is English. All officers are

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bound to wear paint shirts with ties by secretary of exchange. As far as concern with lower management they have option in dress.

1.9 PHYSICAL FACILITIES TO EMPLOYEES

1.9.1 Building of ISE

The building of exchange is situated at 101-E, Fazal-e-Haq Road, Blue Area, Islamabad. This building has been acquired on rental basis; however, the ISE management is also in process of construction of its own Tower at Blue Area, in front of City Bank, Islamabad which will be completed in the end of 2009. This would be a 22 storey twin tower which would fulfill the needs of work space of all employees of ISE.

1.9.2 Furniture and Equipment

ISE provides working desk and computers to all its management employees. Telephones are also provided to most of the employees. ISE provides stationeries to all its employees who need them.

1.10 PRODUCT LINES

1.10.1 Ordinary Shares

The most common form of shares, other than preferred stock; entitles the owner to a share of the corporation’s profits and a share of the voting power in shareholder elections. Holders receive dividends which vary in accordance with the profitability of the company and the recommendations.

1.10.2 Preferences Shares

Preference shares are the shares have a preference over ordinary shares, carry a fixed/specified rate of dividend which is paid before the dividend on ordinary shares. There are many types of reference shares, such bas non-cumulative, cumulative, and redeemable etc. preference shares some times do not carry voting rights.

1.10.3 Future Contracts

A future contract is a standardized contract, trade on a futures exchange, to buy or sell a certain underlying instrument at a certain date in the future, at a specified price. The future date is called the delivery date or final settlement date. The pre-set price is called the future price. The price of the underlying asset on the delivery date is called the settlement price.

1.10.4 Term Finance certificates

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A debt instrument issued for the purpose to raise fund in the form of redeemable capital.

1.10.5 Mutual Fund Units (both open end and closed end)

A mutual fund is simply a financial intermediary that allows a group of investors to pool their money together with a predetermined investment objective. The mutual fund will have a fund manager who is responsible for investing the pooled money into specific securities (usually stocks or bonds). When you invest in a mutual fund, you are buying shares (or portions) of the mutual fund and become a shareholder of the fund.

1.11 BUSINESS VOLUME

The average volume of shares in million from July 1, 2007 to June 30, 2008 is 2.31 million shares per day. Detail of the business volume is as follow:

For the Month of Volume

July 2007 3.05August 2007 1.93September 2007 2.12October 2007 3.19November 2007 1.89December 2007 2.14January 2008 2.99February 2008 2.81March 2008 2.15April 2008 2.11May 2008 1.49June 2008 1.43Total 27.3

1.12 STOCK MARKET OPERATIONS

1.12.1 Market Days and Timings

The Exchange operates the market five days in a week starting from Monday and ending on Friday.

The market remains open from 9:30 to 3:30 from Monday to Thursday and an extra session is also held on Friday from 3:00 to 4:30 p.m.

1.12.2 Settlement System

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The Exchange follows a T+2 settlement systems whereby each trade when executed in settled after two days. For this purpose a schedule is announced by the Exchange in advance.

1.12.3 ISE Index

Index in statistical terms is an indicator which at once glances shows the position of the market. As compared to KSE-100 which is also an important macro level economic indicator of Pakistan, the ISE has ISE-10 index which has been constructed on similar pattern as of KSE-100. This index comprises a basket of 10 most liquid companies listed at ISE. The base year is December 31, 2004. The index behavior during 2007- 2008 was as under:-

For the Month of ISE 10- Index Average

July 2007 3131.52August 2007 2910.14September 2007 2621.73October 2007 2439.93November 2007 2790.14December 2007 2344.27January 2008 3508.37February 2008 3046.19March 2008 3391.55April 2008 3800.63May 2008 3041.19June 2008 2734.56

1.13 CODE OF CORPORATE GOVERNANCE

The code of corporate governance was implemented in 2002. It was only applicable on listed companies, however, the ISE even not being a listed company decided to observe voluntarily this code to a great extent. As regards enforcement of this code, the department of Companies affairs of the Exchange is mainly responsible. This department ensures that the code must be abided by listed companies in letter and spirit. The main provisions of code of corporate governance are following,

1. All listed companies shall encourage effective participation of independent director non executive directors, including that representing minority interest, on their board of directors who represent the minority shareholders.

2 The director of listed company shall, at the time of filling their consent to act as such, give a declaration in such consent that they are aware of their duties and powers under the relevant laws and the listed company’s memorandum and article of association and the regulation of listing in the Stock Exchange.

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3. No listed company shall have a director, a person who is serving as a director of ten other listed companies.

4. No person shall be elected as a director of a listed company if:I. His name is not borne on the register of National tax paper except where

such person is non-resident andII. He has convicted by court of competent jurisdiction as a defaulter in

payment of any loan to banking company, a development institution, or being member of Stock Exchange, he declare defaulter of such exchange.

1. A listed company shall endeavor that no person is elected or nominated as a director if he or his spouse is engaged in the business of stock exchange.

2. The tenure of directors should be for three years.3. The directors of listed companies shall exercise their powers and carry their duties

with the sense of objectivity judgment and independence in the best interest of the company.

4. The chairman of listed company, if present shall preside over the meeting of board of directors.

5. The board of directors shall meet at least once in the quarter of every financial year.

6. All listed companies shall make carry appropriate arrangements for courses for their directors, for making acquaint them with their duties and responsibilities.

7. the appointment, remuneration and term and conditions for employment of the chief financial officer, the company secretary and the head of internal audit of listed companies shall be determined by the CEO with approval of the board of directors, the CFO or the company secretary of the listed companies shall not be removed except by the CEO with the approval of the board of directors.

8. The quarterly un-audited financial statements of listed companies shall be published and circulated along with director’s review on the affairs of the listed company for the company.

1.14 NEW RISK MANAGEMENT SYSTEM

The risk management system is known to be the backbone of every stock exchange. The ISE had adopted a margin based risk management system whereby every trade initiator had to deposit certain margin with the Exchange so that the Exchange must secure the trade until settlement.

This system was not based upon any statistical or scientific manner. Therefore, the risk management system of the Exchange was most criticized particularly by the foreign fund managers. Besides during March 2005 crises, the system could not work effectively, therefore, there was a great desire to change the system with globally tested system.

Therefore, the SECP decided in June 2006 to introduce VaR based system. The system was fully implemented on December 04, 2006. The system was thoroughly studied during the month of December 2006. Certain bugs were identified and discussed in collaboration with stakeholders and accordingly rectified.

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CHAPTER 2:ACCOUNTING AND FINANCIAL REVIEW OF ISE

2.1 STRUCTURE OF THE FINANCE DEPARTMENT

The Finance Department is headed by a Deputy Manager namely Syed Nayyer Ashfaq who is a chartered accountant by qualification and profession. He is overall head of administration and finance. The main job of finance department is the investments of the surplus revenues of the Exchange and book keeping etc.

Here it is worthwhile to mention that Islamabad Stock Exchange is a non-profit organization. No part of its revenue can be distributed amongst its members. Any revenue surplus can only be utilized for the growth oriented objects besides welfare of the employees of the organization. As such the Finance department functions are quite limited contrary to any other financial institution having the objective of the maximization of shareholders wealth.

2.2 NUMBER OF EMPLOYEES WORKING IN THE FINANCE DEPARTMENT

At present there are three employees in the Finance Department headed under the dynamic leadership of Mr. Sagheer Mushtaq. Then under Syed Nayyer Ashfaq who is the Deputy Manager of Department of Gerneral Administration, there come two Assistant Accounts Officers and one Accounts Assistant.

Head – Finance and Accounts Department(Sagheer Mushtaq)

Deputy Manager(Syed Nayyer

Ashfaq)

AssistantAccount Officer

(Nasir)

AssistantAccount Officer

(M. Ashfaq)

Accounts Assistant (M. Imran )

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2.3 FINANCE AND ACCOUNTING OPERATIONS

As narrated above, the scope of function of Finance Department is quite limited. Mainly that department has to carry out all book keeping related functions and ensure timely audit of the Exchange. In all such functions this department is quite efficient and during my tenure in that department I learned a lot about the accounting heads and funds placement mechanisms.

2.4 ACCOUNTING REVIEW

2.4.1 Accounting system of the Organization

The Islamabad Stock Exchange follows historical cost convention principles. The Finance Department has established a system of internal control, and prepares and presents the above said statements in conformity with the approved accounting standards and the requirements of the Companies Ordinance, 1984.

In Finance Department there is no direct entry made about the good name. The account title is established in software with code number chart by department. When a code is entered in system the account name is written and further process for entry is done in ledger and trial balance automatically.

The formation of code is made chronologically

Main code: 01Sub code: 01-001

01-002Main code is written for title name and sub code is written for further explanation of accounts. The finance department uses the 30 main codes for assets and for liabilities.

The some important main codes are, Main Codes

Main codes for assets Main codes for liabilitiesFixed assets 01 Accumulated deficit 30Accumulated depreciation 02 Member fund 31Long term investment 03 Clearing house taxes 32Capital work in progress 04 Rent received in advance 33Security deposit 05 Advance from companies 34Advance against expenses 06 Accrued expenses 35Advance against salaries 07 Payable audit fee 36Advance against source 08 Security deposits from companies 37Advance against tax deduction 09 Member default 38Advance prepaid 10 Sundry creditors 39

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2.4.2 Depreciation

The depreciation is charge at the different rate according to exchange policy. The depreciation is charged with through straight line method. The important rates of depreciation are as following,

Rate of DepreciationAssets Rate

Furniture 10%Office Equipment’s 10%Computers 33%Automation/Software/Intangibles 33%Motor Vehicle 20%

2.4.3 Vouchers

There are following four types of vouchers used in the finance department for making payments, cheque received and deposit in the bank, journal entry and cash payment vouchers.

Bank Receipt Vouchers. Cheque Payments Vouchers. Journal Vouchers. Cash Payment Vouchers.

The voucher contains the following things:

(i) Name of the Organization (ii) Voucher type(iii) Date of the voucher(iv) Voucher number(v) Account title(vi) Account code(vii) Narration

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(viii) Reference (ix) Amount debt (x) Amount credit (xi) Amount in words (xii) Amount in figures (xiii) Name of person who made the expense, give revenue or

adjustment(xiv) Name of person who review the voucher (xv) Authorization

(xvi) Person who received the payment

2.5 FINANCIAL SYSTEM REVIEW

The Finance Department deals with all expenses and revenues for the Stock Exchange. The department uses both methods manually and through computer for recording entries.Sidat Haider prepares the software, which is used by department for accounting purpose.The exchange pays the specific amount for such right using; beside this the software maker also provides technical services about the software.

The finance department keeps all the financial data in electronic form. All financial statements such as balance sheet, income statement, statement of cash flows are prepared electronically through the software prepared by a renowned chartered account firm i.e. M/s. Sidat Haider Murshad and Co. The main features of the said system are as follow:

General Ledger System with strong reporting features backed by a robust design, the application is positioned to take care of all the accounting requirements and effectively support in the management analysis and decision making process. It is offering features like Budgeting, Cost Centers, User Defined System Configuration, Customized Reporting and many more. The General Ledger makes the day to day accounting operations of any business environment and easy job, thereby allowing the management more time to focus on core business activities and get ahead of competition.

Sidat Hyder Financials General Ledger is a very comprehensive accounting tool which helps to maintain the records very effectively and efficiently. It is developed in Power Builder as a front end tool. Regarding Backend tools for data storage it can run with the following tools:

1. Oracle (9i and 10g)2. Sql Server3. Sybase4. DB2 of IBM

As for as Data storage is concerned, the data is stored in databases of the above mentioned Databases management servers. The application can store all the data in the database unless the space allocated for the database is full.

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The reporting speed depends highly on the specifications of the Server Machine. Reports will be generated more efficiently when the server machine has good specifications.

The management of the Exchange keeps close eyes on all these financial statements and particularly the current, quick and cash ratios for all decision making and preparing the future business plans.

2.6 MOBILIZATION OF FUNDS

2.6.1 Permission for Mobilization of Funds

The funds cannot be mobilized without the permission of Secretary and Managing Director. Before expenses the list is made for expenses through a minute sheet and approval is endorsed by the hierarchy before mobilizing the fund. It is sent to associate manager, managing director and chairman for approval. After the approval on sheet the voucher is made according to list and payment is given in form of cheque or cash. If the expense is related to routine matter and small, then payment is made in the form of cash. In case of high payment, cheque is made. If the other departments want to do some expenses for the purpose of business then they will sent Internal Office Memo (IOM) to finance department. The internal office memo also contains the quotations from different stores. After observing the best alternative the associate manager of general administration asks accountant to prepare minute sheet for approval, the remaining process will remain same for expenses.

2.6.2 Generation of Funds

The following are the major sources for the generation of funds:

A. Fee and Subscriptions

a. Listing Fee i. Annual Listing Fee

ii. Additional Listing Feeiii. Initial Listing Feeiv. De-listing Fee

b. Inactive Membership Feec. Trading Fee – LAGAd. Membership Subscriptione. Partnership/Membership Transfer Feef. AGM Extension Fee

B. Profit on Investment and Bank Deposit

C. Other Income

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a. Dividend Income b. Rental Income c. Gain on sale of fixed assetsd. From members against servicese. Old liabilities written backf. Miscellaneous

2.6.3 Sources of Funds

The revenues are received from all above sources. Fee and subscription being the largest source of revenue collects around 64% of total revenue. On the other hand profits on investments get around 14% of revenue. The other miscellaneous income head earns approximately 22% of the revenue. When finance department receives the revenues, the vouchers are made with name of sources and date at which it is received by department. The vouchers are made with the help of carbon papers. The original copy is given to the person for his record and carbon copies who contains the yellow and red color is maintained in the record. The revenue sources of the ISE are as under:-

1. Income from Service Charges on Trade @ Rs.2.60 per Rs. 100,000/- valuing transaction.2. Annual Listing Fee @ Rs. 25,000 per annum from each listed company.3. Additional Listing Fee @ 0.1% on the increased magnitude of paid-up capital.4. Initial Listing Fee @ 0.1% of the paid-up capital being listed by the Exchange from each of the new listing subject to a maximum of Rs. 1.0 million.5. Profits from Bank Deposits

The above items are continuous/permanent sources of funds.

2.6.4 Allocation of Funds

For the purpose of allocation of funds, budgets are prepared annually. For the purpose of preparation of budget, the finance department asks all other departments to send the estimated expenses and revenue. The departments send their reports accordingly. The finance department compares all estimated budgets before closing of year; if the situation is not according to standard then the finance department asks other departments to make efforts for meeting the standards.

Department Allocation of Funds (Rs.) PercentageDepartment of General Administration 37,780,259.00 81.84%

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Department of Internal Control 4,346,000.00 9.41%Department of Company affairs 1,308,000.00 2.83%Department of Investors Relations 2,727,828.00 5.91%

Allocation of Funds

Department of General

Administration

Department of Internal Control

Department of Company

affairs

Department of Investors Relations

Department ofGeneral Administration

Department ofInternal Control

Department ofCompany affairs

Department ofInvestors Relations

2.7 AUDIT

The audit is made with strict measures; there are two types of audits which are used in ISE:

2.7.1 Internal AuditThere is a separate internal audit department which overall sees the financial controls. The qualification of Internal Audit is ACMA.

2.7.2 External AuditThe audit is done at the end of quarter in ISE by M/s. KPMG Taseer Hadi and Company, Chartered Accountants.

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CHAPTER 3:ANALYSIS

3.1 CRITICAL ANALYSIS OF THEORETICAL CONCEPTS

During my internship, I critically examined the theoretical concepts what I studied as my curriculum with those being practiced and applied by the Exchange.

As regards book keeping, we had studied the American systems whereas the ISE was following the British system like all Pakistani companies. In this system the liabilities are listed on the left hand side whereas the assets are ranked on the right hand side. This was all together different from the theory what we studied. Besides, Assets are listed from upward to downward according to their liquidity i.e. lesser liquid assets are listed first like fixed assets whereas the other assets are listed in seriatim/series according to the liquidation capacity. In this manner the cash is the last item of the current assets.

The ISE follows strict budgetary controls and all out efforts are made avoid any deviations but this scheme of arrangements does not hold right in case of revenue. The revenue side is highly unpredictable. However, I have observed that most of the items the revenues have been collected in access of the budgets. I therefore, feel that budget estimates should be more rationalized.

I also observed that the officers at the helm of affairs of finance department were least concerned over the financial ratios. Although the Exchange was in profit but no body bothers to examine the current, quick as well as cash ratios. The Exchange has undertaken a big project in the form of construction of ISE Towers but such ratios are not vigilantly monitored.

While my internship at finance department, I saw every officer was over burdened. There was a great workload on each staff members; therefore, I earnestly feel that some more qualified accountants/finance officers should be inducted in the said department.

3.2 FINANCIAL ANALYSIS

3.2.1 Financial RatiosA. Liquidity Ratios

i) Current Ratio = Current Assets/Current Liabilities

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03-04 04-05 05-06 06-07 07-083.00 4.10 4.29 2.93 3.09

Current Ratio

0

2

4

6

2004 2005 2006 2007 2008

Period

Rat

io

Comments:

The ISE has a good current ratio and for the past three years, ISE has maintained good ratio of about 3 which is much better than an ideal ratio of 2. as compared to year 2005-2006, the said ratio has decreased 32%. This decline is primarily due to heavy cash outflows for the building project of the ISE.

ii) Quick Ratio = Current Assets – Inventory/Current Liabilities

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

The ISE is a service oriented industry. Contrary to any production unit, it is not required to maintain any inventory; therefore, Quick Ratio in its true sense is meaningless in the case of ISE and is equivalent to current ratio.

iii) Cash Ratio = Cash + Marketable Securities/Current Liabilities

03-04 04-05 05-06 06-07 07-082.61 2.05 3.15 0.92 1.48

Comments:

The ISE had been maintaining good cash ratio. For a service organization, cash ratio of 1 is an ideal figure and it means that the company is just maintaining cash according to its current liabilities and cash is not lying idle rather it is used in business and operations. Decline in cash ratio in

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2006-07 is again due to outflows regarding building project which is now in middle stages.

Cash Ratio

2004, 2.61

2005, 2.052006, 3.15

2007, 0.92

2008, 1.48

B. Asset Turnover Ratios i) Receivables Turnover = Annual Credit Sales/Accounts receivables

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

The ISE has no sales revenue. Being a service related industry it derives revenue from listing fees and operational levies from trade. Therefore, this ratio is not practical in the ISE’s case.

ii) Average Collection Period = Accounts Receivable/Annual Credit Sales/365

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

The ISE has no sales revenue. Being a service related industry it derives revenue from listing fees and operational levies from trade. Therefore, this ratio is not practical in the ISE’s case.

iii) Inventory Turnover = Cost of Goods Sold/Average Inventory

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

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The ISE has no sales revenue. Being a service related industry it derives revenue from listing fees and operational levies from trade. Therefore, this ratio is not practical in the ISE’s case.

iv) Inventory Period = Ave Inventory/Annual Cost of Goods Sold/365

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

As explained above, this is also meaningless in ISE’s case as this also relates to the sales receivable.

C. Financial Leverage Ratiosi) Debt Ratio = Total Liabilities/Total Assets

03-04 04-05 05-06 06-07 07-080.27 0.48 0.58 0.71 0.78

Debt Ratio

0.27

0.480.58

0.710.78

0

0.2

0.4

0.6

0.8

1

2004 2005 2006 2007 2008

Period

Ra

tio

Comments:

ISE had been maintaining good debt ratio in the past. The debt ratio indicates the percentage of asset financed by creditors, and it helps to determine how well creditors are protected in case of insolvency. If creditors are not well protected, the company is not in a position to issue additional long term debt. From the perspective of long term debt paying ability, the lower this ratio, the better the company’s position. In ISE’s case, this ratio would increase the assets base and this ratio has reached to the level of 0.71, however, once the building project is complete, it would

22

increase the assets base and this ratio would certainly decrease once income flow from rental income is streamlined.

ii) Debt to Equity Ratio = Total Debt/Total equity

03-04 04-05 05-06 06-07 07-08

0.36 0.91 1.37 2.49 0.54

00.5

11.5

22.5

2004 2005 2006 2007 2008

Period

Debt to Equity Ratio

Comments:

The Debt-Equity Ratio of ISE is increasing gradually. The debt of the ISE mainly due to new building project and it has increased as compared to equity. This computation compares the total debt with the total shareholders’ equity. The debt/equity ratio also helps determine how well creditors are protected in case of insolvency. From the perspective of long-term debt-paying ability, the lower this ratio is, the better the company’s debt position.

iii) Interest Coverage = Earnings before Interest & Taxes/Interest Charges

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

Although, the ISE has obtained huge financing for its building project but it is spending nothing on financial charges/interest at the moment. The ISE has obtained bridge financing on long term basis which interest is payable from the year 2011. The interest charges are also accumulated in the capital work in progress. Therefore, the calculation of this ratio would

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be meaningful once the income from the project in shape of rentals and royalties are also included in the income and the interest charges are recognized in the profit and loss account. The present P & L account does into have any figures available for interest/financial charges.

D. Profitability Ratiosi) Gross Profit Margin = Sales – Cost of Goods Sold/Sales

03-04 04-05 05-06 06-07 07-08N/A N/A N/A N/A N/A

Comments:

This ratio gives a measure of net income generated by sales. While it is desirable for his ratio to be high, competitive forces within an industry, economic conditions, use of debt financing, and operating characteristics such as high fixed costs will cause the net profit margin to vary between and within industries.

As explained above, this ratio is also meaningless in ISE’s case as there is no sales revenue in the P & L statement of accounts of ISE.

ii) Return on Assets = Net Income/Total Assets

03-04 04-05 05-06 06-07 07-080.05 0.04 0.04 0.01 0.02

Return on Assets

2004

2005

2006

20072008

Comments:

Return on assets measures the firm’s ability to utilize its assets to create profits by comparing profits with the assets that generate the profits compute the return on assets. The decline in the ratio in ISE’s case is mainly due to the fact that there is no income from building project of

24

the ISE on the other hand, the assets base is increasing massively due to increase in capital work in progress for the building project of ISE. However, once substantial income which has been projected from the new building in shape of rentals starts, this ratio will also start rising.

iii) Return on Equity = Net Income/Shareholder Equity

03-04 04-05 05-06 06-07 07-080.07 0.08 0.09 0.07 0.09

Return on Equity

0

0.05

0.1

2004 2005 2006 2007 2008

Period

Rat

io

Comments:

The return on equity measures the return to both common and preferred shareholders. Presently the equity in ISE’s case is Assets minus liabilities. The ISE being a guarantee limited company does not have any share capital. The equity comprises of the general entrance fund of members, Investors Protection Fund, Members Protection Fund and accumulated profits. As such, this is not an appropriate representation of equity. So, instead we can say that it is return on funds equity in respective of stock exchange.

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Please refer to Page # 26 – 30 for Vertical and Horizontal Analysis

3.2.3 Financial Statement Analysis

A. Balance Sheet (Vertical Analysis)

The vertical analysis reveals that significant portion of the Balance Sheet comprise of Fixed Assets. Due to construction of the new building of the ISE, the capital work in progress which is the major part of Fixed Assets is mounting rapidly. During the year 2007-08, the Fixed Assets were 82.09% as compared to last year share of 74.32%.

Short Term Investment comprises 6.78% of total assets which is a healthy sign and mentions the financial health and liquidity position of the company. The company has 3.26% cash equivalents which is a standard figure.

From the liabilities side, current Liabilities comprise just 4.58% and it means that the company is not gong to face any liquidity problem in near future. The non current liability is not going to face any liquidity problem in near future. The non-current liabilities out of which Deposits and Receivables make a stake of 50.13% are notable as it has in total 73.38% portion of Liabilities and Funds (Equity). These deposits relate to the installments of the sale proceeds of the rooms and floors sold out by the Exchange in the new building of the ISE.

The ISE is a non-share capital company. The sponsors’ equity is represented by Funds that accumulate to the tune to 22.04% of the Liabilities and Equity section of the balance sheet during the year 2007-08. Till 2007 Members Protection Fee and Investors Protection Fee were included in funds but accounting practices changed in 2008 and instead of funds, they were included in non-current liabilities. This was the reason for decrease in Funds of ISE in 2008.

In short, the financial health of the company from the balance sheet perspective as on June 30, 2008 is good.

B. Balance Sheet (Horizontal Analysis)

Balance Sheets horizontal analysis from the perspective of time period shows that the Fixed Assets have increased 1544.43% over last year. This is again due to the increase in the work in progress – ISE building project. Long Term Investment has been increased by 302.08% due to the dividend received from the associate companies, which contribute to strengthen the balance sheet.

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When we evaluate the current asset side of the balance sheet, overall it is decreased by the 100.79% as compared to the last year which was 115.38%. The Bank Balance-Fund has been decreased to 35.22% and Cash & Bank Balance has been dropped by 26.64%. The main increases are occurred under the Current Assets are Accounts receivables by 149.87% and Advances, Deposits, Prepayments by 444.27%.

Short Term Investment dropped to 943.94%. The Funds’ (equity) size reduced 147.81% due to change in accounting practices. The accumulated surplus also grew 1526.02% on account of carry out of retained earnings.

Non-current liabilities show enormous increase of 10680.38%. This increase is due to significant rise in the deposits and receipts head on account of sale/bookings of offices in new building. As such there is no negative impact on the financial health of the company on this count. Current liabilities also increased significantly. An increase of 1450.15% has been witnessed this year. The major portion of the accrued liabilities relate to a bill of the building contractor relating to monthly payments which was paid in time on a date subsequent to the date of balance sheet.

In short the overall size of the balance sheet has increased to the tune of 492.93% which shows healthy performance on the part of the ISE.

C. Income Statement (Vertical Analysis)

The vertical analysis of Income Statement divulges that major segment of the Income Statement consist of Fee & Subscriptions for the studied five years period i.e. 2004-2008, which contributes almost 64% to 74% in the gross revenues during the past five years. If we see the expenditure portion for the above mentioned period, the ranges from 53% to 72% of the gross revenue each year during last five years. According to the vertical analysis of the income statement there is an increase in the amount of expenditure 62.66%.

The expenditures in comparison to the income have been curtailed. Operating profit has decreased to 37.34%. Taxation was slightly increased to 13.08%.

The income statement also reveals the entire amount has been carried forward/retained and nothing has been distributed as the ISE is a not for-profit company and does not have a share capital as such no dividend is payable to any stakeholder.

Although the size of the company is small but it is performing well and there is no question about its going concern position in near future. The

32

overall result of the vertical analysis is the ISE is improving its profit margin on yearly basis, which is the healthy sign for the company.

D. Income Statement (Horizontal Analysis)

Income statement’s horizontal analysis from perspective of time period shows that the Fee & Subscription have increased by 194.63% over last year. Gross revenue is showing modest sized increasing trend.

The expenses also show 202.19% increasing trend during 2007-08 which were 170.59% for the penultimate year. The operating profit for the year was 196.61% whereas last year it was 255.36%.The growth is of average size over the preceding five years. Taxation has increased. The surplus for the year has also increased to the tune to the 209.09% this year. The overall performance from horizontal analysis point of view is good but yet there is room for better performance.

3.3 COMPARISON OF ISE WITH KSE AND LSE

The ISE belongs to the securities market industry in Pakistan wherein services are provided to members, listed companies and investors. The present securities market industry comprises of three Stock Exchanges viz. Karachi Stock Exchange, Lahore Stock Exchange and Islamabad Stock Exchange which provide facilities to the listed companies to raise capital by enlistment of shares at stock exchanges, investors may sell and purchase shares in the stock exchange and the members provide services to the investors for consideration of their brokerage/commission.

The Karachi Stock Exchange was incorporated in 1949. The Lahore Stock Exchange was established in 1970 whereas Islamabad Stock Exchange was established in 1992. Although ISE is the youngest of three exchanges yet it has given splendid performance both in terms of operations as well as finance. The ISE is not behind the other Exchanges for offering the range of products to its members and investors. The operations are the total simulation of other two Exchanges. The only difference comes from the level of liquidity. The liquidity means the volume of the business that is available in a particular stock exchange. The KSE which is situated at Karachi, the economic and financial hub of Pakistan has the biggest pool of the liquidity. Most of the financial sector is based at Karachi. The daily traded volumes of KSE have almost 95% of the institutional trade. Besides, international portfolio investment also routes from KSE. The public trade chunk is just around 5%. The average daily turnover of KSE is approximately 400 million shares. On the other hand Lahore which is the host city of Lahore Stock Exchange is the second largest city of Pakistan and also number two in economic and trade terms after Karachi. However, there is not significant trade participation by the institutions yet it has a significant potential for growth. The average trade volume of LSE is 50 million.

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Then there comes the number of Islamabad Stock Exchange. The ISE does have great potential but the problem is that, the Islamabad is mainly the city of government and corporations employees who do not have good propensity to save and invest. Besides, Islamabad does not have any considerable institutional base. The technological advancements have also enabled the members of other exchanges to establish their roots of business in Islamabad at the cost of trade volumes of the ISE. As a result the trade volumes of the ISE remain at lowest level. The trade volume of the ISE is in the range of 2.5 million shares a day. As such the ISE is positioned at a very low profile as compared to other Exchanges. The low trade volumes of the ISE are also resulting in the lesser income of the Exchange. The trade transaction fee is the major source of income for a stock exchange but due to the factors stated above, the ISE income being derived from the trade transaction fee is quite below the desired level.

ISE-LSE-KSE

1% 13%

86%

ISE

LSE

KSE

The listed companies also provide a big source of income. At KSE, there are more than 725 listed companies while at LSE, there are 635. However, at ISE, there are only 263 listed companies which are quite dynamic, progressive and vibrant. Therefore, low number of listed companies provides less income from this sector to the ISE. As a result thereof the ISE is earning quite lower than its potential. Even odds are not quite favorable for future as the competition is likely to grow in securities market industry in Pakistan as besides local exchanges, the globalization is also paving way for other exchanges especially of the region as well as from US and western European countries. Therefore, ISE needs vigorous strategic planning to meet the future requirements.

The ISE belongs to a services oriented industry. In a service oriented organization, efficiency, transparency, vibrancy, innovation both in the product lines and delivery/ execution and dynamism are the keys to success. Every organization must allocate its resources in a manner so that it must remain competitive in foreseeable future. The ISE has also developed its mission and vision statements in a manner that it must perform vibrantly in the years to come. The strategic planning of the ISE is also based on this core parameter.

I have analyzed the investment pattern of all the exchanges particularly the comparison of ISE with other two exchanges viz. LSE and KSE. In order to cater the futuristic needs of the business directions, both these exchanges are investing major portion of their resources in technology and advancement of the securities market outreach in the length

34

and breadth of the country as well as abroad. However, the ISE has not prioritized its preferences to that direction.

The ISE is in process of construction of its own building at Jinnah Avenue, Blue Area, Islamabad which would be in the shape of a twin towers to be known as ISE Towers. This is a two billion worth project and once it would be completed, it would add to the grace of the beautiful city of Islamabad. The ISE is utilizing its own resources as well as more than one billion debt has been raised by the Exchange to finance this project which would be repaid through sale of offices in the building. This project envisages providing enormous funds to the ISE upon completion. Thereafter, abundant funds would be available with the Exchange which would definitely be employed for the acquisition of new technologies and collaboration with the world renowned institutions so as to bring a turnaround for the ISE and bring it in competition with the other exchanges.

Key Figures & Ratios of KSE, LSE & ISE   KSE LSE ISEParticular (thousand Rs.)      Current Assets 2,529,499 1,432,512 168,275Non-current Assets 1,336,140 921,333 2,858,021Total Assets 3,865,639 2,353,845 3,026,296       Current Liabilities 619,813 980,558 399,587Non-current Liabilities 118,952 169,699 2,230,863Total Liabilities 738,765 1,150,257 2,630,450Total Funds 3,126,874 1,203,588 395,845       Net Income 314,085 104,369 7,519       Ratios      Current Ratio 4.081 1.461 0.421Debt Ratio 0.191 0.489 0.869Debt to Equity Ratio 0.236 0.956 6.645Return on Assets 0.081 0.044 0.002Return on Equity/Funds 0.100 0.087 0.019

Cross-Sectional Analysis of ISERatios Avg

RatioDeviations

KSE LSE ISECurrent Ratio 1.987702 2.093 -0.527 -1.567Debt Ratio 0.516327 -0.325 -0.028 0.353Debt to Equity Ratio 2.612368 -2.376 -1.657 4.033Return on Assets 0.042692 0.039 0.002 -0.040Return on Equity/Funds 0.068719 0.032 0.018 -0.050

ISE lacks current assets as compared to KSE and LSE causing a big deviation in Current Ratio of ISE but its non-current assets are more than the other two. So, in terms of total assets ISE isn’t lagging behind. Also, ISE has more total assets than LSE. However, total liabilities of ISE are more than KSE and LSE due to big figure of long-term loan in non-

35

current liabilities which leads to a big debt ratio and debt to equity ratio. Return on Assets of ISE is also less than KSE & LSE as the net income of ISE is a lot less than LSE and KSE owing to the reasons mentioned above. KSE and LSE have a lot more funds than ISE due to big surplus earned every year. This is the reason which results in negative deviation of Return on Equity/Funds ratio of ISE. ISE has capacity to earn same level of income only if it had more companies listed and large volumes of trade.

CHAPTER 4:

36

FINDINGS & RECOMMENDATIONS

4.1 FUTURE PROSPECTS OF THE ORGANIZATION

The stock exchanges in Pakistan are mutualized entities. However, the pressure of globalization of the world economies has also imposed changes and reforms on the securities market of Pakistan so as to bring it at par with the rest of the exchanges of the world and create attraction for the foreign investors. With this view, the stock exchanges are soon to be converted into for profit companies instead of not for profit entities which are the present legal stature of the exchanges in Pakistan. After demutualization, the stock exchanges shall not be owned by its members rather these would be owned by the shareholders.

The ISE has appointed IGI Investment Bank as its financial adviser to undergo the process of demutualization. This process would bring innovations in the systems of the ISE as the management of the Exchange would be run by the professional exchange operators which would bring new technologies and procedures with them for adoption in the Pakistani environment.

The ISE is likely to get billion of rupees through its building project in near future. Besides, ISE would be getting a sizeable perpetual income from rental of the abundant offices space that would be rented out to the commercial entities. The rental income would be one of the biggest sources of fund for the ISE in near future.

The ISE upon having ample funds in hand would initiate the developmental activities with more zeal in future. Besides, the ISE would also initiate the projects for the promotion of investment knowledge in the length and breadth of the country.

Thus the future of the ISE looks bright in the days to come.

4.2 SHORTFALLS/WEAKNESSES OF THE FINANCE DEPARTMENT

The ISE presently has a small scaled finance department. However, the way the operations and monetary size of the organization is increasing, this department would be needing expansion. I have observed a few weaknesses of the Finance Department of the ISE which have been narrated critically by me as under:

1. Presently only one chartered accountant is serving as a head of finance department which I think is not sufficient. I therefore, foresee the induction of two or three more persons from the field of finance like ICMAs and MBA (Finance) graduates etc. are needed to be inducted in the said department.

37

2. I have also observed that the budget prepared by the organization from the expenditure side is not very practical and it is prepared in isolation with relevant departments. In certain circumstances the budget is often kept side while making some corporate decisions.

3. The persons deputed for book keeping are not quite proficient and even they don’t know properly about different heads of accounts and all the time they have to consult the head of the department for certain entries of the accounts.

4. The balance sheet as well as the other statements of accounts like income statement and statement of cash flows are not automatically prepared and a lot of manual processes are involved to generate these reports from the system. Therefore, the ISE needs to revamp its computerized accounting software.

5. Payments through cheques are made through manual handwriting. No software is installed for the purpose although several cheques are issued in a day.

6. The organization does not have fixed assets register. The Exchange’s policy of depreciation needs review and instead of straight-line method. Declining Balance Method should be employed as the ISE is mostly using the IT equipment which becomes obsolete in a period of at maximum three years. Therefore, more depreciation is needed to be charged in the earlier years.

7. The investment policy is not run on principles of finance. I never saw any body making capital budgeting and projecting its cash inflows/outflows and discounting on the basis of opportunity costs. They only compare the existing rate of returns and make huge investments.

8. Except for the above shortfalls/weaknesses the department is performing its functions quite diligently.

4.3 SWOT ANALYSIS

The following are the SWOT factors with their brief analysis:

4.3.1 Strengths

The strength factors of the ISE are as under:

a. Most sophisticated trading system

The trading system of the ISE is fully automatic equipped with most modern technology. This has boosted the overall efficiency of the system. Thus 3000 trades can now be conducted in a minute’s time.

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b. State of the Art Risk Management System

The Risk Management System of the ISE has been revamped recently and now the risk management system may be ranked with any developed country’s stock exchange. This has increased the efficiency of the system thus increased the confidence of the investors not from inland but also of foreign fund managers.

c. Close Liaison with SECP

The management of the Exchange maintains a close liaison with the apex regulator of the capital market of the country i.e., Securities and Exchange Commission of Pakistan unlike other exchanges in Pakistan. Thus both the institutions are working closely for the development of stock market in Pakistan.

d. Skillful Professional Employees

The employees of the ISE are highly skillful in their respective fields. They are qualified enough to meet the future challenges.

e. Formation of CDC

The ISE is an equity partner of the Central Depository Company of Pakistan (CDC). This company has phased out the physical handling of the shares certificates and now shares are dealt with in book entry form in electronic mode.

f. Formation of NCC

Earlier the three stock exchanges were having their own respective clearing houses. Now a company named National Clearing Company of Pakistan Limited has succeeded those clearing houses. The ISE is also a shareholder of NCCPL. This company provides a central system for clearing and settlement of trade executed at each exchange.

g. Equity Partner of National Commodity Exchange

The ISE is also an equity partner in the formation of National Commodity Exchange. This exchange shall provide a venue for offering future prices in all commodities. Thus a better pricing mechanism for commodities will be introduced in the country. At the same time diversity of investments would also be achieved.

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e. Monitoring and Surveillance

ISE has a good monitoring and surveillance team which is quite effective to save the market from abuses by any quarters. Thus this aspect also caters as an effective tool for risk management.

f. Self Regulatory Organization

The ISE is a Self Regulatory Organization (SRO) under Securities and Exchange Ordinance, 1969. By virtue of SRO status, it can also frame rules and regulations for any need that may rise for efficient market operations.

g. Sharia Compliant Investment Forum

The normal trading at ISE in the scrips which are not generally involved on interest based practices is sharia complaint. A lot of people opt stock market investments for the sake of dividends and capital gains by investing within the confines of Islam.

h. Maximum Returns

The investments in stocks fetch more returns as compared to any other ordinary contemporary investments. This fact is proven performer.

i. Financial Health

The financial health of the ISE is quite strong. It is making profits for the last many years. This sound financial health allows the company to undertake diversified market operations and make investments in assets building.

4.6.2 Weakness

The following are the weaknesses of the ISE:-

a. Small Sized Organization

The ISE is a small sized company as compared to other two Stock Exchanges in the country. At present there are 263 listed companies at the ISE whereas at KSE this number is 725.

b. Shortage of Manpower

The ISE is in short of professional manpower. There being unique nature of its business, the skillful human resource is not ordinarily available in the market.

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The ISE has to appoint untrained qualified persons and then to groom them for sophisticated jobs which is a time consuming job.

c. Outsourced Trading System

The trading system of the ISE is totally outsourced and it is operated by outside people who don’t have any affiliation with ISE, therefore, at items there occurs problems regarding service level.

d. Mutualized structure

The Exchanges are presently mutualized entities and so is also the ISE being a guarantee limited company. Often the members make influence on decision making affairs therefore, interest factor cannot be eliminated and transparency issues must be addressed accordingly.

e. Car Parking Problem

Being situated at Blue Area, investors face a lot of problems for parking their cars. As a result, the climate of investment is suffering due to this sole problem.

f. Illiquid Market

The buyers and sellers are not in huge number; therefore, the ISE market is not very liquid. At times, investors face problems while disposing their investments.

g. Lack of CFS Financing

Financing plays a great role for development of trade volume in an exchange. At ISE, the investments in CFS are comparatively lower. Therefore, sometimes, financing is either not available or it is available at much higher cost.

h. Less Reliable Remote Trading

The remote trading based on internet is not highly reliable and at times problems occur in it.

i. Less Adaptive to Automation

Many departments of the ISE are still operating manual practices and automation has not been adopted as yet.

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4.3.3 Opportunities

The following are the opportunities of ISE

a. Improving Economic Fundamentals of the Country

The economic fundamentals of Pakistan like GDP, per capita income etc are improving with the result the stock markets investments are also giving better results.

b. Pro-Stock Market Policies of the Government

The current regime of Pakistan is highly supportive of the stock market reforms and its expanded role for the economic uplift of the economy.

c. Increasing Portfolio Investment

The portfolio investments in the country are gradually increasing and now it is touching a figure of 4 billion US dollars. Therefore increasing interest of the foreign fund managers would definitely increase investment level in the ISE.

d. Privatization of State Owned Enterprises by GOP

The privatization of the state owned units like OGDCL, PTCL, SNGPL, and SSGPL etc are adding diversity and depth of the stock market. Issues offered by the way of privatization would boost investments at ISE.

e. Mass Media Campaign

The ISE is spending a modest size budget for mass media campaign for promoting stock market awareness. For this purpose several seminars across the length and breadth of country has been conducted by the ISE. As a result the number of investors is increasing rapidly.

f. Introduction of CFS Mk II

The SECP is introducing a CFS market irrespective of the Exchange magnitude. This level playing field would provide tremendous boost to the ISE.

g. Demutualization

The ISE would be demutualized during 2010 which would eliminate the interest of the members of the exchange. Thus demutualization would pave a way for the improvement of overall affairs of the Exchange.

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h. Unified Trading Platform

The ISE in collaboration with LSE is making a unified trading platform which would make a healthy campaign with KSE.

i. Merger of All Stock Exchanges

The SECP is mobilizing efforts to unify all the three stock exchanges. Once demutualization is occurred, this objective would be pursued more aggressively. The ISE would get great benefit out of this scheme.

j. Formation of South Asian Federation of Exchanges

The ISE has been very instrumental in forming federation of South Asian Stock Exchanges. This would provide a forum or mutual cooperation. Thus ISE would be benefiting by learning the experiences of bigger Indian Stock Markets.

k. E-Commerce

The E-Commerce has provided great opportunities to the Exchange to trap the uncovered market. The Exchange has swiftly moved towards the electronic internet based trade.

l. New Building

The ISE is in process of construction its own building which would be a 22 storey tower. This building would make more visibility of the ISE and trade volumes would certainly go up once it is completed.

4.3.4 Threats

The following are the significant threats of the institution

a. New Securities Legislation

The SECP is in process of introducing new legislation in lieu of Securities and Exchange Ordinance, 1969. The draft legislation as circulated by the Commission bears very strict conditions for continuing registration on annual terms.

b. Transaction Taxes

Transaction taxes were introduced during year 2005 and the tax rate was doubled during 2006. This has significantly increasing the business cost. It would make long term impacts on business.

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c. Geographical Location

The ISE is located in federal capital which does not have very big potential for investments in stocks.

d. Liquidity Problems

The ISE market is facing liquidity crunch due to lesser availability of investments orders. That causes routing the investment order to other exchanges.

e. Technological Moderations

The other exchanges brokers by virtue of technological advancements are intruding the ISE market. There being no code of ethics or legislation, the competition is increasing with the result in shrinking profit margins.

f. Speculation Activities

The speculation activities not only pose threats to the risk management but also to the brokers in shape of unsettled losses to be borne by members.

g. Drain of Skillful Human Resources

The institutions operating in securities and capital market are hiring the services of skillful human resource working in the ISE. So far 163 trained people have left the job in the wake of better prospects. Since its operation ISE hired about 200 people and about 163 have been switched their jobs to the other institutions.

4.4 RECOMMENDATIONS FOR IMPROVEMENT AND ACTION PLAN

1. Based on my experiences, I suggest that the ISE should develop a team of accounts and finance professionals at its own cost instead of outsourcing the job. The following professionals are badly needed for this purpose:

a. Chief Financial Officer One

b. Accounts Officer Two

c. Database Administrator One

Once, this team is developed after hands on training on the system, the Exchange would be in a position to make swift developments regarding the finance department, trade and allied system. This would also add to strength to the system.

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2. The ISE should acquire a state of the art system for accounting so that it must have reports for ready reference and analysis.

3. The persons engaged in the finance department must be accordingly trained so that they may not ask about petty issues pertaining to routine matters.

4. As they are using a comprehensive GLS accounting software which has the facility of printing of cheques, but they are still writing the cheque manually, through which the increase the chance of error.

The following are some recommendations for the organization relating to operations and general affairs:

5. Exchange may conduct seminars for public awareness about new system. Once the public would comprehend new system, they would be in a better position to make investment decisions.

6. This system must also be propagated effectively, as this is a big achievement on part of the management of the ISE and it would also attract foreign portfolio investment through ISE members.

7. R & D section may be established by the Exchange so that continuous developments may be suggested, evaluated and incorporated in the system.

8. Proper system audits from recognized IT solution providers may be made so that system must be constantly checked at all tiers and it must be ensured that the same is being followed in letter and spirit.

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LIST OF PERSONS INTERVIEWED

1. Syed Nayyer Ashfaq, Deputy Manager, ISE.

2. Sagheer Mustaq, Finance Executive, ISE.

3. Waris Niazi, Deputy Secretary, ISE.

4. Saqib Jalil, Manager Internal Control, ISE.

5. Hafeez Pani, Risk Management Officer, ISE.

BIBLIOGRAPHY

1. Ashraf, Mehwish. (2007). Capital Market. Pakistan Economic Survey 2006-07.

2. Ashraf, Mehwish. (2009). Capital Market. Pakistan Economic Survey 2008-09.

3. Expert Committee on Demutualization and Integration/Transformation. (2004). Report on Demutualization and Integration/Transformation of Stock Exchanges.

4. Hanif, Kamran (2009). SHMA (Information Solutions).

5. Islamabad Stock Exchange. (2008). Islamabad Stock Exchange (Annual Report 2008).

6. Islamabad Stock Exchange. (2007). Islamabad Stock Exchange (Annual Report 2007).

7. Islamabad Stock Exchange. (2008). About us, Regulation, FAQs, Technology. Retrieved December 1, 2008, from http://www.ise.com.pk

8. JS Global Online. (2008). Regulatory Framework. Retrieved December 1, 2009 from http://jsglobalonline.com/3_regularotry_frame_work.php

9. Karachi Stock Exchange Department of Investors Relations. (2004). Equity Investments - A Guide to Investors, Vol 1.

10. Karachi Stock Exchange. (2008). Karachi Stock Exchange (Annual Report 2008).

11. Lahore Stock Exchange. (2008). Lahore Stock Exchange (Annual Report 2008).

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