Investor Information Why Invest? And Why Invest in the Colombo Stock Market?

Saving for ones future lifestyle and financial stability is a daunting task, with todays complex and changing financial environment. Whether it is saving for your own car, house, saving for your children or simply planning for an early retirement, each individual has his or her own agenda for saving. Individuals are then faced with the dilemma in where to place their savings, is it in the bank where you get a crappy interest or invest in shares which would directly link your investment to the profits of the listed companies. At the end, the decision of investing depends on the individuals appetite to risk and time. If it is short term there wouldnt be a significant benefit in investing in fixed deposits, Government securities, corporate debt or stocks. But if it is long term it certainly needs to be stocks, simply due to the fact that the returns are far greater than the petty returns given by other fixed income securities. With regard to the risk factor as long as you invest in sound stocks there will be no risk in the short term or in the long term. While the fixed income securities provide a guaranteed return, it also carries the risk of negative returns, where the inflation rates are far superior to the guaranteed return. The fact more than 500,000 trading accounts are in operation indicates that the market is well established and is rapidly growing. The question should then be asked Why is there so much of activity in the market? the answer being simply due to the fact that the market has proven to outperform all other kinds of investments in the long run. So dont be left out, invest in the stock market and secure your future. Who can trade in the Colombo Stock Market? Anyone over 18 years of age irrespective of a local or foreign nationality can buy and sell shares in the Colombo Stock Market. What are Stocks/Shares? Stocks or Shares give the same meaning and a share is normally referred to as a unit of ownership. There are varying types of shares namely, ordinary shares, non-voting shares and preference shares, although the ordinary-voting and non-voting share is more common. The control of a company depends on the number of ordinary voting shares owned by an individual. However, all profits made by the company and whatever dividends declared by the company belong to the shareholders or owners. There are quoted and unquoted companies, whilst in the stock market we only find quoted companies, i.e. shares of listed companies in the stock market. There are 256 listed companies on the Colombo Stock Exchange, segregated into twenty different business sectors.

Rights Issue - The raising of new equity capital by, giving the existing shareholders, the right to subscribe for new ordinary shares in proportion to their current share holding. These new shares are usually issued at a discount to market price. A shareholder not willing to take up a rights issue may sell the rights in the market. Bonus Issue - Is the capitalization of the reserves of a company by the issue of additional shares to the existing shareholders, in proportion to their holdings. Such shares are fully paid-up with no cash inflows from shareholders. Methods of profiting from the Colombo Stock Exchange (CSE) Investing in shares can give you returns in two key forms: 1. Dividends - This is where a company distributes a proportion of its annual earnings to the shareholders. Dividends at all times are distributed as a percentage of the nominal/par value of a share. For example, the par value of Caltex Lubricants Lanka Ltd is Rs. 10; for financial year 2005 the company declared 77.5% dividends. This implies that the company has declared 77.5% of the par value of the companys stock, equaling to Rs. 7.75 per share. Stocks in the likes of LLUB, CTC, COXY, NEST are categorized as high dividend paying counters. 2. Capital Gains This is where an investor makes a gain by buying at a lower price and selling at a higher price. The price of a share is chiefly determined by the earnings of the company. For example if a company made a net profit of Rs. 100 million for the financial year 2004 and then reinvested the profits in the business and was able to generate a net profit of Rs. 140 million for the subsequent year; the demand for the share will appreciate causing the share price to rise. By investing in growth companies over a long investment horizon, will certainly give higher returns than many fixed income securities. Even though fixed income securities give a known return, (in the range of 13.5% for 12 months fixed deposit) it is below the rate of inflation causing depreciation of wealth. However, the CSE on the other hand has provided returns over and above the inflation rate, with 27.55% for the year 2005 and 24% for the first nine months of the year 2006, indicating the genuine wealth creation and preserving wealth against inflation. The Risks Involved If you want higher returns it is essential to take higher risk. However, what is important is that you take informed or calculated risk, without taking speculative risk. Inflation will certainly eat into your bank savings, whilst the volatility in the stock market can also eat up your initial investment. However, volatility should not be ruled out as bad, since volatility gives investors a chance to profit by buying shares at an artificial discount.

The fact that a company can go bankrupt or perform way below others in its respective sector can cause investment losses. Then on the other hand, companies dont go bankrupt or fortunes change overnight there would be pre-indication of it. So what have you been doing, until the last moment? (No home work done) By having a well diversified portfolio consisting 10 to 15 stocks with a mix of aggressive and high dividend yield stocks would enable you to overcome many of the above risks. How to Succeed as an Investor? The precise timing of entry and exit is the key to success as an investor in the Colombo Bourse. It is all about buying at the correct price and selling at the right time. But how can you identify the correct price to buy and sell? It depends on the level of price sensitive information available to you. Then we come to the decision point of - What are the factors influencing the price? Key factors are listed out below. Company Related Information/News As Analysts what we have seen is that many Retail investors have very little knowledge about the stocks they purchase or trade on. This is quite risky, as at the end of the day the stock market is not a place to gamble with your hard earned money. Any investor should have a basic idea about the stock they wish to invest in and the industry it operates in. Investors can obtain such information from their respective Investment Advisors, Research Analysts, Company Annual Reports etc. (basic information sources and the basic information is a must have before entering into a stock) Investors should always be vigilant, to stay one step ahead of the game by looking at all information sources sent out by companies in the form of news paper articles, CEO forums, Investor forums and news on corporate websites. But all information should not be taken with positive sentiments; a cautious approach should be taken and comparisons made with other stocks in the same sector, since all information may not be true or practical in economic or rather business sense. Investors should be extra cautious about market rumors regarding takeovers, mergers or even rumors about a large chunk of shares changing hands. You should think rationally and ask the question, is the stock really worth at these levels and how compatible are these acquisitions or mergers in the business sense. Research Paper by Analyst Research papers published by Research/Financial Analyst on the market, economy and especially on stocks may have a significant impact on the price. As once the paper is completed and published the brokering firm publishing the report tends to buy or sell the stock, resulting in significant price movements. However it should be noted that investors should not get car ried away too much in the case of a buy recommendation and the price moves up significantly. An analyst would normally specify a price range within which the stock should be accumulated, beyond which

the stock would seem less attractive based on future earnings. Economic News Investors, especially the retailers tend to pay less emphasis on the economic reports or central bank statistics published on a quarterly basis. The fact is that if the economy is growing and the market is not, means that the market is very much undervalued. On the other hand, the institutional and high net worth investors anticipate the future economic changes and benefit a great deal from actually collecting fundamentally sound stocks at extremely low prices. This would result in the stocks upward movement slowing down once the actual economic data is published. Political News and Sentiment The Sri Lankan stock market is highly driven by political developments, resulting in the overall sentiment changing radically. The marke t activity and momentum is usually maintained by the retail investors. (Looking for quick capital gains) Therefore if there is any negative news in the political arena retailers tend to overreact causing the prices to drop and the sentiment to weaken. However, the high net worths and institutions tend to benefit by this artificial downfall by collecting sound stocks at a discount. Hence its quite advisable not to panic on political news but to stay invested or by collecting more fundamental stocks at artificially low prices. Finally the bottom line is that investors should be well informed about the macro situation as well as the company specific information to make informed decisions and to stay ahead in this game. Interpreting Published Financial Reports If you want to be ahead of the game the obvious starting point would be the company specific annual reports and quarterly statements. This is vital because if you understand the company the chances are more in you making the correct investment decision of buying, selling or merely holding on to the share. For a first timer the respective quarterly statements could be accessed through this website and Annual Reports could be looked at by visiting our Research division at the Head office or by contacting the Colombo Stock Exchange. The starting point of the annual report would obviously be the Chairmans & CEO report together with the business/operations review. Adequate attention must also be given to the auditors report. The Profit & Loss Statement would indicate the operational statistics like the revenue, cost of sales, gross profit, expenses and the all important bottom line. The figures should be compared with the previous years supporting figures to identify the progress of the company. The notes accompanying the accounts should also be analyzed.

The Balance Sheet indicates the financial position of the company on a specific date and this needs to be looked at in detail to identify the growth in assets, receivables, payables, shareholders funds (Net asset Value) and the debts involved. The Cash Flow Statement would be another important statement that seriously needs to be looked at. Profits and cash flows are two different elements, with the latter being crucial to carry on the day to day operations of the firm. The cash flow statement as the name implies indicates all the cash flow streams and gives some indication of the companys possibility of dividend declaration. Key Ratios Investors or for that matter any stakeholder of a company would obviously want to know how the enterprise is faring. Ratio Analysis provides the means of systematically analyzing the financial statements of companies. The key to successful analysis is comparison. It is essential that ratios be compared over time within the business to see whether the business is growing or declining and to also compare it with similar business and industry norms. Here we will be concentrating on the rat ios used by Investors to analyse the risk and return relating to their investments. The following ratios are commonly seen in annual reports, research reports, business magazines etc. So now lets see what the following ratios actually mean! Earnings Per Share (EPS) EPS is the profit attributable to each ordinary share or the earnings the company makes for each ordinary share in existence. Calculated as: [EPS = Profit after tax and preference dividends/ Number of ordinary shares in issue] The growth in EPS is essential, since the growth in EPS means growth in profits per share plus a greater chance of a higher dividend. Investors should compare EPS growth over a period and most importantly should look at future EPS growth. Dividend Per Share (DPS) DPS is the proportion of the companys earnings that the Board of Directors decides to distribute to the ordinary shareholders of the company. DPS is quoted in terms of a percentage of the nominal value of a share and is paid out as cash. Dividend Yield (D/Y) Dividend yield is the return as against the market price or the return for the price paid for the stock. Dividend yield is generally lower than interest yield. This is partly due to the fact that the shareholders expected price appreciation (capital gain) to partly satisfy the expected return.

Calculated as: [D/Y= Dividend/Market Price*100] Dividend Cover The Dividend Cover tells you if a company will be able to pay its dividend or how secure your dividend flow would be. Calculated as: [Dividend Cover = EPS/DPS] Investors and companies like the cover to be at least 1 so the dividend payout will not be affected by a short term fall in profits. Dividend Payout The proportion or percentage of Dividend paid as against the EPS. Calculated as: [Dividend Payout = DPS/EPS*100] Price Earnings Ratio (PER) The PER compares the current share price, with the EPS of the company. Calculated as: [PER = Market Price/EPS] The EPS can be a historical EPS or a future projected EPS. PER sometimes referred to as the PE Multiples, means how many times of earnings an investor is willing to pay to purchase a share. In general, a higher PER based on historical earnings or a low PER based on future earnings suggest that investors are expecting higher earnings, indicating the potential. However, due to market inefficiencies even the historical earnings will not be incorporated in the share price. In other words a high earnings yield share will have a low PER compared to other shares in the same sector. Net Asset Value (NAV) The shareholders funds as the name implies belongs to the ordinary shareholders. Therefore the NAV is basically the shareholders funds for one ordinary share. Return On Equity (ROE) This ratio helps investors to assess how much return the company is making for the total shareholders funds. Broadly speaking, the higher the return on equity, the more successful a company is. Calculated as:

[ROE = Profit Attributable to Ordinary Shareholders/Shareholders Funds*100] What is government security? Treasury Bill Treasury bills carry a maturity period of one year at the time of issue. Interest is paid up front. If an investor buys a treasury bill for SLR 100/- he has to invest an amount lesser than SLR 100/ - . The actual amount will be decided on the prevailing market rates and the period of the investment.

Example Maturity value Interest rate per annum Purchase Date Maturity Date

SLR 100/10% 10/01/2007 31/12/2007

Number of days to maturity is the number of days from 10/01/07 to 31/12/07 which is 356 days

Price to be paid as of 10th January 2007 for SLR 100/ - worth of government security is SLR 91.09. on 31s t January 2007 the investor will get SLR 100/ - as the maturity value. Can the investor en -cash or sell the security before the date of maturity? Yes, even on the following day or any day before maturity the investor can sell the security in the market or can borrow against the security. Will pre-settlement incur any losses? Incurring losses or gains depends on the market rates prevailing at the time of sale. If the market rates have gone up a pre-sale will incur a loss and if the rates are down a pre-sale will make a profit. What costs are involved? The transaction costs that is equivalent to 0.2% of the transaction value. Who can invest?

Sri Lankan citizens who are over 18 years of age are eligible to invest in government securities. Treasury Bonds Treasury bonds are government securities that have a minimum period of more than one year. Generally the minimum tenure is two years. And the longest may run even up to 20 years. It also pays a periodic return to the investors until maturity. Generally once in every six months which is called the coupon income. What is the minimum amount that can be invested in government securities? The minimum you can invest is SLR 10,000/ -. What is the minimum period of investment? You can invest even on an overnight basis. Tenure can be one day to any number of days; seven days, 30 days, three months or any number of years. What is meant by corporate debt instruments? Any instrument that is being issued by corporate to entity to borrow from the public is named a debt instrument; Debentures Commercial papers Asset backed notes All these instruments bear various features such as; Fixed interest Interest rate will be fixed from the date of issue to the date maturity. Variable interest Interest rate will vary over the term of the instrument. A margin will be fixed over a some predetermined base such as the Average weighted prime lending rate, Weighted average treasury bill rate, Sri Lanka inter - bank offer rate etc., Interest rate cap or floor, When the interest rate is a variable rate, invariably it will carry a cap and a floor to avoid extremely low rate to the investor or extremely high rate for the issuer. Options Some debt instruments may have various options that can be exercised either by the investor or the issuer at their own will. The holder/issuer can either exercise the option or can leave to lapse with no benefits or penalties attached there to.

Option to pre-settle the debt, Option to convert the debt to equity at some point of time, Option to get equities in lieu of the interest, are few examples. Warrants The debt instruments may carry additional benefits where the investor can detach from the main investment and deal on them separately with no hindrance to the function of the main instrument.

Types of Shares There are several types of shares that can be purchased in the Colombo Stock Exchange. Namely, Ordinary shares Ordinary shareholders are the true owners of the company. Each single share gives proportionate ownership of the company and its profits. The owners of ordinary shares have the privilege of voting at AGM and EGM. Non-Voting Shares These are ordinary shares with no ownership and thereby no voting privileges. However, they are entitled to profits and dividends. Trading Hours Trading hours in the Colombo Stock Market on a daily basis commences at 9.30 AM while the market closes at 2.30 PM Sri Lankan time. Pre open begins at 9.00 AM Sri Lankan time. In other words orders can be placed between 9.00 & 9.30 AM. Top Transaction Cost Less than Rs.1Million More than Rs.1Million More than Rs.100Million Buying - 1.425% Selling - 1.425% Buying - 1.225% Selling - 1.225% The brokerage fee is negotiable whilst all other fees (SEC, CSE, CDS & Govt.) remain the same. Sec Cess CSE Fees CDS Fees 0.0900% 0.1050% 0.0300%

(Less than a million) Buying - 1.425%

Selling - 1.425%

Govt. Cess Brokerage Total

0.2000% 1.0000% 1.4250%

EXAMPLE 1 Bought 1,000 shares of XYZ at Rs.20/- each, on the 10.10.2006 Transaction Cost - 1000 at Rs.20 at 1.425% = = = Sold 1,000 shares of XYZ at Rs.22/- each, on the 15.10.2006 Transaction Cost - 1000 at Rs.22 at 1.425% = = = (More than a million) Buying- 1.225% Selling - 1.225% Sec Cess CSE Fees CDS Fees Govt. Cess Brokerage Total Day Trading (transactions executed on the same day) 1.625% Bought 1,000 shares of XYZ at Rs.20/- each & sold on the same day at Rs.22/- each, EXAMPLE 2 Bought - 1,000 at Rs.20/1.425% 22,000.00 (313.50) 21,686.50 0.0900% 0.1050% 0.0300% 0.2000% 0.8000% 1.2250% 20,000.00 285.00 20,285.00

= = =

20,000.00 285.00 20,285.00 22,000.00 (44.00) 21 956.00

Sold - 1,000 at Rs.22/at 0.2000%

= = =

PROFIT/LOSS (Rs.20, 285- 21,956) = 1,671.00

Bought 2,000 shares of XYZ at Rs.20/- each & sold 1,000 shares on the same day at Rs.22/- each. EXAMPLE 3 Bought- 2,000 at Rs.20/-

= = =

40,000.00 570.00 40,570.00 22,000.00 (44.00) 21,956.00

Sold - 1,000 at Rs.22/at 0.2000%

= = =

PROFIT/LOSS (Rs. 20.285 (1000@ Rs.20 285) 21,956) = 1,671 Top Payment Cycle The payment cycle comprises of data that enhances the clients knowledge on how the payment & settlement cycle works. T- Trading day When shares are bought EXAMPLE: If shares are bought on the 9.10.2006 (Monday) the payment should be completed on T + 3 (working days). That is the trading day plus three working day thus in this situation the payment should be settled on the 12.10.2006 (Thursday). When Shares are sold EXAMPLE: If shares are sold on the 9.10.2006 (Monday) the settlement should be completed on T + 4 (working days). That is the trading day on which the share was sold plus four working days, thus settlement to the client should be done on the 13.10.2006 (Friday).

Payment Methods Payment by the client on the acquisition of shares & settlement to the client by sale of shares can be executed either by CASH or CHEQUE.

Account opening with CDS The CDS is a 100% owned subsidiary of the Colombo Stock Exchange. The CDS facilities constitute of providing depository facilities and clearing services for securities traded on the Colombo Bourse.

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