CFA Institute Research Challenge · We initiate analysis of Pakistan Petroleum Limited ... Porter's...

CFA Institute Research Challenge

Hosted by

CFA Society of Pakistan

Karachi School for Business and Leadership (KSBL)

CFA RESEARCH CHALLENGE JAN 31st 2014

Rating BUY

Current Price (29th Jan 15): PKR 220

Target Price (Jan 2015): PKR 248

Upside Potential: 18.25%

PAKISTAN PETROLEUM LIMITED

Ticker – PPL: KA Karachi Stock Exchange - Pakistan

OIL & GAS INDUSTRY – UPSTREAM SECTOR

Exchange Rate: USD/PKR 105.5 Date: 31st January 2013

HIGHLIGHTS

We initiate analysis of Pakistan Petroleum Limited (PPL) with an end of year target price of PKR 248/share, offering an upside potential of 18.25%. Pakistan Petroleum Limited, hereafter referred to as

PPL, is one of the pioneers of natural gas industry in Pakistan, and is currently responsible for

satisfying 20% of the natural gas demand of the country. PPL has posted strong profits over the last 5 years, and has paid substantial dividends to investors. PPL’s Compounded annual revenue growth rate for the past 5 years has been 17.5%. PPL has a diverse product portfolio because of which a decrease in production of one of the products do not affect the overall bottom line. Shift of reliance from gas to crude oil in recent years has improved the overall margins for the company as well.

Our estimates suggest that PPL is undervalued in the stock market, especially when compared

with its peers. Currently PPL is trading at a discount of even its 2P reserves 5.5%. Our valuation

shows that PPL has huge upside impending if the price starts incorporating the 3P reserves, exploration, and other tight-gas reserve potential.

PKR has depreciated 24% over the course of last 3 years. We estimate that the trend will continue in the same way because of the negative balance of payments that Pakistan has as well as the

huge IMF payments that Pakistan has to make, putting increasing pressure on the reserves. PKR depreciation against the dollar has a huge impact on PPL's profitability. Our valuation shows

that 1% depreciation results in 0.4% increase in the target price.

Within its industry, PPL is one of the most aggressive exploration and production company in

Pakistan. In FY13, PPL won the bid for 11 exploration blocks in Pakistan, and simultaneously has

been pursuing international expansion. PPL now has stake in fields in Iraq and Yemen putting it in an excellent position for upside potential in the longer run.

The most important risks to consider for our target price are security and political situation in Balochistan in particular and Pakistan in general. A strike in the province could stall all the operations and affect the performance of the company. Other risks include PKR/USD depreciation assumption, management performance, and valuation risks.

Market Summary

2011A 2012A 2013A 2014F 2015F 2016F 2017F 2018F

Net Revenue 78,252 96,222 102,357 111,128 118,548 118,884 119,486 120,349

EBIDTA 53,320 71,426 70,325 83,234 83,590 83,478 83,303 80,253

Net Income 31,446 40,899 41,951 49,900 52,003 52,730 53,469 52,212

Debt Financing 102 131 165 165 165 165 165 165

EPS 26.3 31.1 25.5 27.0 26.4 26.7 27.1 26.5

DPS 12.0 11.5 10.5 12.2 11.9 12.0 12.2 11.9

BV Per Share 79.0 96.1 90.9 88.3 102.2 116.7 131.4 146.3

Net Profit Margin 40% 43% 41% 45% 44% 44% 45% 43%

Return on Assets 25% 24% 20% 21% 20% 18% 17% 15%

Return on Equity 33% 32% 28% 29% 26% 23% 21% 18%

Dividend Yield 4.8% 5.1% 4.1% 5.5% 5.4% 5.5% 5.6% 5.4%

Valuation DCF NAV Multipliers

Estimated Price 264 255 218

Weights 25% 50% 25%

Target Price 248 PKR

Threat ofNew

Entrants

BargainingPower

Suppliers

BargainingPower ofBuyers

Competition in theIndustry

Threat ofSubsitutes

Porter's Five Forces

52-week price range (PPL) 172.8 - 260.1

Average Daily Volume 1,927,292

As % of shares outstanding 0.1%

Sharpe Ratio (2013A) 0.997x

Dividend Yield (2013A) 4.10%

Dividend Yield (FY14 Q2)

5.5%

Shares Outstanding 1,971,732,223

Market Capitalization 346,531,938

Government Holdings 71%

BV Per Share (PKR - 2013A)

90.9

ROE (2013A) 28%

ROE (2014E) 29%

Debt to Capital (2014E) 0.1%

P/BV 2.32

P/E 8.3

Original Gas Reserves (mn BOE) 2,898,993

Balance Gas Reserves (mn BOE) 775,205

Original Oil Reserves (mn Barrels) 72.3

Balance Oil Reserves (mn Barrels) 48.8

FY 13 Yearly BOE Production 58,719,189

Oil Revenues 27%

Gas Revenues 71%


BUSINESS DESCRIPTION Pakistan Petroleum Limited's history dates back to the establishment of a public limited

company in 1950 whose largest shareholder was Burmah Oil Company (BOC), UK. PPL is one of

the big 5 (other being OGDCL, MARI, POL and UEP) Exploration and Production (Refer Appendix

5) companies working in Pakistan in the oil and gas sector. It is not only a pioneer of natural gas

industry in the country, but has also been at the forefront of technological and exploration

developments such as 2D &3D Seismic Technologies, Stress Field Detection, Electromagnetic

Measurement while drilling, and other technologies for its exploration purposes. Company's

shareholding is a mix of government and private shareholders, with government holding 71

percent, private investors holding 22 percent, and the remaining 7 percent being held by PPL

Employees Empowerment Trust. PPL's gas customers include Sui Southern Gas Company Limited

& Sui Southern Gas Pipelines Limited and GENCO-II, and its crude oil customers are Attock

Refinery Limited, Pak-Arab Refinery Limited, BYCO, NRL, & PRL).

PPL satisfies more than 20% of the national natural gas demand, and also explores and produces

crude oil, condensate, and liquefied petroleum gas. The company has 100% stake in SUI, the

largest gas field, and also operates five other fields. Although PPL's gas production has been

decreasing recently due to depleting reserves at Sui, its crude oil production numbers have

increased which has resulted in an overall increase in profitability for the company. Oil

production increased by 15.13% (9,986 vs. 8,673 barrels/day) in FY13 YoY while gas production

declined by 10% (895 vs. 985 mmcfd) over the same period. Revenue contribution from oil, gas

and LPG stood at 27%, 71% and 2% respectively. Alongside that, company has also invested in

production of tight gas in Pakistan, and this year, company has commenced the first tight gas

production of Pakistan from Rehman-1 wells.

PPL has adopted an aggressive exploration policy to stay competitive in the longer run and to

further improve its reserve replenishment ratio. PPL operates 27 out of the 48 exploration

blocks currently under its name while the remaining 21 are operated by partners. The company

has recently gone global by acquiring an exploration block in Iraq, becoming Pakistan’s first State

Owned Enterprise with transnational operations. It has also acquired 100% shareholding in

“MND Exploration and Production Ltd.” which has provided PPL with working interests in three

exploration fields in Pakistan, and one in Yemen

Current Strategy (Exploration + HRM)

PPL’s recent strategy has been to aggressively explore and develop new hydrocarbon reserves

in the country. In FY13, PPL successfully won 11 exploration blocks in the country, and according

to reports, PPL's success rate on such exploration is 40%. Pakistan faces a huge shortfall in skilled

human resource in the field of geology and geophysics. Hence, PPL has invested heavily in its

employees and the community it works in. The aim is to develop talent internally and retain it

for the longer run. Concurrently, PPL has been revisiting its organizational structure and HR

practices to make the organization more proactive and responsive to changes in Pakistan’s

generally volatile business environment.

INDUSTRY OVERVIEW & COMPETITIVE POSITIONING Exploration and Production (E&P), the largest listed sub sector, constitutes about 30% of the total

market capitalization in KSE. It has evolved in to a concentrated industry where few heavyweights

(State-Owned Enterprises) stay in the limelight (appendix 24). Share of the leading companies

(OGDC, PPL, MPCL and POL) account for more than 60% of the total Oil & Gas production in the

country. Pakistan is rich in natural gas, and has become one of the highest gas dependent

economies of the world. Despite depleting resources, the national gas production in FY2013 was

about 92% of the total locally-produced hydrocarbons (in mmboe terms). However, oil

production has picked up over the last year (growth of about 14% in FY2013) and future prospects

are encouraging. Currently, Pakistan produces 17% of the total crude oil demand from

indigenous resources, which is expected to increase to 20% by FY2017. During the same period,

Gas71%

Oil27%

Others2%

REVENUE BREAKDOWN FY13

GoP71%

PPL Employees Empowerment

Trust7%

Private Investors22%

SHAREHOLDING STRUCTURE

140,000

150,000

160,000

170,000

180,000

190,000

FY12 FY13

DAILY BOE PRODUCTION

Gas Crude Oil

Source: Company Data





gas production is not expected to show much growth, especially when Sui, the biggest gas field

in Pakistan, is fast approaching its useful life.

Industry outlook determined by global economy

The depletion of natural gas reserves is not the only reason for the country’s changing energy

mix. The industry has achieved windfalls over the past few years due to the increase in

international oil prices. Around 8% of hydrocarbons (mmboe terms) yielded 49% of the

revenue for E&P Sector in FY2013. Hence, any future outlook for the industry is heavily

dependent upon the future global economy, its energy requirements and social and political

conditions affecting the oil producing countries. Recently, the discovery of Shale Gas and its ever

broadening potential is being closely watched by industry experts.

Impact of a volatile exchange rate

It is one of those rare industries which benefits from PKR depreciation. The Industry’s revenues

are determined in US dollars and the industry has benefitted from PKR depreciation over the

past couple of years. Although the PLM (N) government entered into yet another IMF program

to stabilize foreign exchange reserves, the prevailing inflation rates and persistent pressure on

the ever decreasing foreign exchange reserves will further dent PKR strength in the future.

Future prospects/Government Regulations

Gas pricing, being regulated by the government, significantly impacts the bottom-line of the

industry. As wellhead prices in Pakistan vary according to the specific Petroleum Policy

applicable to respective wells, these regulations mean that gas revenues are 5.4 times less than

oil revenues (mmboe terms). Also, with effective tax rates increasing in FY2013, major E&P

companies paid higher taxes, thereby, further reducing their profits. The government recently

awarded 50 exploration blocks, for the first time after 4 years. The delay caused by federal-

provincial problems, in the light of the 18th Amendment, looks likely to have been solved. This

will certainly help bring sustainability to the E&P sector, resultantly encouraging new players,

both local and foreign, to bring in much needed investments for the future.

Key indicators of O&G sector

With the E&P space dominated by state-owned enterprises, major players often enter into joint

ventures in order to hedge their risks associated with exploration and development. However,

each player has a competitive advantage that enables them to create shareholder value (E&P

sector ROE was about 30% in FY2013). Table 1 highlights the revenue breakup and production

numbers of each of the major player in the industry. As for the in-depth operational analysis,

following ratios help understand the significant advantages of each player among the peer

group:

Reserve Life (Years) OGDCL (22 years) boasts the longest reserve life among the peers, closely

followed by MPCL (17 years). PPL is not far behind the peers with a reserve life of 14 years

which has shown an impressive growth over the past few years as a result of the company’s

exploration-led growth strategy.

Reserve Replenishment Ratio (3yr Average) Despite its eroding reserves in Sui Gas Field, PPL

has been able to replenish about 90% of their reserves over the last 3 years. At the same time,

OGDCL, on the back of the Qadirpur gas feld has a reserve replenishment ratio of about 121%

over the same period.

Exploration & Development Cost/Barrels of Oil Equivalent (BOE) PPL incurs one of the highest

exploration and development costs among its peers (mmboe terms). POL spends the most per

BOE; however, their production numbers are nowhere near to that of PPL. OGDCL is also quite

close in terms of spending which means that all players are investing in making the industry

sustainable.

EV/EBITDA (Times) PPL has the lowest enterprise multiple of 4.4x among the peer, thereby,

showing that it is the most undervalued stock. Other players like POL and OGDC has a much

higher multiple of 6.4 times.

TABLE 1 (Company Data/Team Estimates)

26%

22%14%

2%

36%

YEARLY GAS PRODUCTION FY13

OGDC PPL Mari POL Others


46%

12%6%

36%

YEARLY OIL PRODUCTION FY13

OGDC PPL POL Others


TABLE 2 (Company Data/Team Estimates)



EV/Barrels of Oil Equivalent (BOE) Just as above, PPL has the lowest EV/BOE (PKR 5197),

effectively showing that PPL offers the cheapest price of one barrel of oil (mmboe terms). This

shows that PPL is trading at a discount as compared to its peers who get much higher prices per

BOE. (OGDC PKR 11,992, POL PKR 17,296).

INVESTMENT SUMMARY

Aggressive domestic exploration

PPL currently trades at discount of its 2P reserves value, which shows the melighupside potential

of the stock if exploration and tight gas potential is incorporated. PPL has been aggressive in

exploring new Oil and Gas wells/fields to replenish their reserves to ensure long term

competitiveness. For instance, higher production at Tal, Adhi and Nashpa are results of PPL’s

aggressive exploration over the last 7 years. Overall, PPL's reserve replenishment ratio was 90%

in 2013. New discoveries at Wafiq -1, Shahdad -1, and Lundali -1 in 2012 will start producing

gas in 2015 and create tremendous upside potential for the share price (appendix 13 for details).

A significant milestone achieved in 2013 was the commencement of pioneering tight gas

production from Rahman-1 block. We estimate that the production from Rahman-1 has added

Rs. 3/share in our target price. The share price is sure to be bolstered by PPL’s securing the grant

of 11 strategically-fit exploration blocks last year.

International exploration

PPL is credited with the major national milestone of acquiring block in Iraq and becoming the

first state owned enterprise with transnational operations where it has planned to invest

$100mn in Iraq and Yemen over the next 5 years. PPL also acquired 100% share in MND E&P

Ltd. which has working interest in one producing field and 3 exploration blocks in Iraq and

Yemen.

Strong Earnings growth - Stronger Fundamentals

PPL will continue to maintain liquid while continuing to pay high dividends as well. EPS for PPL

for the year 2012 and 2013 were 31.1/sh and 25.5/sh respectively, and we estimate it to grow

to PKR 27/sh in FY 14. Importantly, Current Ratio of PPL in FY13 was 2.29, because of strong

earnings and sales we estimate it to keep growing in the foreseeable future, assuming no

material investments are made, and reach 7.05 by Fy18. It has low debt to equity ratio, offers

ROE of 28%, and we expect its solvency ratio to stay between 0.74 in FY13 to 0.89 in FY22. With

changing demographics and stronger exploration intentions we predict that this strong earnings

will continue for PPL in the foreseeable future.

Government Regulations - Petroleum Policy and PIB's Government’s decision of paying off circular debt improved the balance sheet position of PPL.

From having non-earning trade receivables, PPL now has investments paying 11.5%. This is a

continuous source of earning for PPL and will continue to improve their bottom line. Moreover,

Petroleum Policy 2012 has improved the gas pricing mechanism, which couples with PPL’s

aggressive exploration to improve the profit positioning (appendix 15 for details).

Rupee depreciation, higher profits Depreciation of Rupee against the dollar is another important reason why the short term and

long term profitability of PPL is eminent. Although the volumes produced by Pakistan Petroleum

Limited is to fall by 2.5% in FY13 but the profits are still likely to increase by 18.9% due to PKR

depreciation, and our estimates suggest that there will be 1% increase in USD will contribute

almost PKR 1.95 to the target price.

-

10,000

20,000

30,000

40,000

Gambhat Hala Kirthar

RECENT DISCOVERIES 2P RESERVES (MMBOE)

Oil Gas

62%

64%

66%

68%

70%

72%

74%

76%

FY1

1A

FY1

2A

FY1

3A

FY1

4F

FY1

5F

FY1

6F

FY1

7F

FY1

8F

EBIDTA MARGIN %


Source: Team Estimates

-

1,000

2,000

3,000

4,000

5,000

6,000

7,000

FY11A FY13A FY15F FY17F

EV/PRODUCTION (BOE)




Demographics - Increase in Energy Demand Energy consumption was 3.1 percent higher in FY12 as compared in FY11, and we believe that

the trend will continue in the future as well. Industrial and residential need of energy as well as

the sheer number of vehicles has risen exponentially. Recent immigration from rural areas to

urban centers also ensures that whatever PPL produces is bound to get sold every year (appendix

8 & 10)

Change of oil-gas mix leading to better margins PPL’s oil production registered a staggering growth of 15.13%, rising to almost 12kbopd from

9kbopd in FY13. On the contrary, gas production witnessed a decline of 10% to 895mmcfd in

2013. Driven by Tal Block and Naspha, the company’s oil production grew substantially during

the period, and the Net realized prices on oil are 5.4x higher than on gas. Therefore, the

revenue growth from oil production has outweighed decline in gas production. If this change of

mix continues then PPL would not be effected by the decline in gas production (appendix 14 for

details).

Re-alignment of Strategy Under the current leadership with the international mission in mind, the company undertook a

massive re-alignment of strategic organizational goals. The re-structuring included changes in

reporting patterns, reviews of joint ventures and strategic collaborations, exploration and

production strategies and unconventional gas management. Moreover, numerous schemes for

employee and community development have been launched with a vision to stay competitive in

the longer run.

FINANCIAL ANALYSIS

Stable Earnings PPL has enjoyed stable EPS growth in last decade or so and we expect EPS to grow further

reaching a maximum of PKR27.1 by FY17; we expect EPS to decline slowly on YoY basis from

thereon because no replacement of reserves is assumed. Despite not assuming additional

reserves, EPS still remains above PKR20 till FY26 which implies a strong financial position for

PPL. Impressive upcoming earnings is primarily derived by depreciation of PKR and stable oil

prices. We expect government to further increase wellhead gas prices as an incentives to O&G

firms to explore more hydrocarbons to meet the energy needs. We expect oil mix % to increase

in upcoming years implying more profits per BOE. We also expect PPL to maintain EBIDTA margin

due to stable depreciation and amortization charges.

Strong Cash Balances/Solvency

PPL has remained a cash rich company over the last many years and we expect a robust growth

in cash balances in future as well. We expect 31% YoY increase in cash dividend coverage ratio

over next 5 years reaching PKR8.7 in FY18. We also expect current ratio to increase from 2.29

in FY13 to 7.1 in FY18. The trend from thereon remains upward implying a strong fundamentals

of the company. PPL has virtually no long term debt that leaves company with huge cash

reserves to increase exploration and drilling. We also expect PPL to post PKR29.1 operating cash

flow per share by FY18; up from PKR20.7 in FY12. We expect PPL to post 0.89 solvency ratio

(ability to pay off entire debt from operating cash flows) in FY18 up from 0.78 in FY13. The ability

to pay off almost all debt in one year makes PPL one of the most solvent company in Pakistan

(appendix 16).

Payout Ratio

PPL in well known for striking payout ratios ranging from 37% to 59% since FY06 and we expect

the company to maintain 45% payout ratio in upcoming years. Currently, dividend yield is 4.1%

and we expect it to reach 5.4% by FY18.

0%

10%

20%

30%

40%

50%

60%

70%

80%

0

20,000

40,000

60,000

80,000

100,000

120,000

140,000

20

12

20

13

20

14

E

20

15

E

20

16

E

20

17

E

EARNINGS

Net Sales

EBIT

EBITDA

Profit to Common Equity

0.0

10.0

20.0

30.0

40.0

FY1

1A

FY1

2A

FY1

3A

FY1

4F

FY1

5F

FY1

6F

FY1

7F

FY1

8F

EPS v.s DPS

EPS DPS

0%5%

10%15%20%25%30%35%40%

FY1

1A

FY1

2A

FY1

3A

FY1

4F

FY1

5F

FY1

6F

FY1

7F

FY1

8F

NET PROFIT / BOE (%)

-

10.0

20.0

30.0

40.0

50.0

FY07

FY08

FY09

FY10

FY11

FY12

FY13

NUMBER OF CONSUMERS(in millions)

Domestic Total

Source: Pak Economic Survey





DuPont Analysis

Our analysis indicate impaired ROE from 28% in FY13 to 19% in FY18 primarily due to assumption

of no growth in reserves. Similarly ROA declines from 22% in FY13 to 16% in FY18 whereas

Assets/Equity declines from 143% in FY13 to 123% in FY18 due to similar reason. We also expect

Sales/NI to decline from 48% in FY13 to 36% in FY18 primarily due to huge cash reserves

generating interest income only as we have assumed no addition of hydrocarbon reserves.

However, we expect net profit margin to increase from 41% in FY13 to 43% in FY18 reaching a

maximum of 45% in FY14. Higher profit margin is backed by higher oil mix %. From thereon, we

expect net profit margin to decrease slowly due to lower oil mix % and reduced crude oil prices.

VALUATION We have considered three standard approaches to value PPL – Discounted Cash Flow (DCF)

model, Net Asset Value (NAV) and comparable company multiple pricing.

DCF (Gordon Growth Model) Valuation

Free Cash Flow to the Firm (FCFE) is suitable for PPL since the company has no debt in its capital

structure except financial leases for computers and vehicles which do not affect the capital

structure significantly. According to our detailed DCF analysis, we derived a target price of PKR

264. DCFs generally do not work well for oil and gas companies because a) they have high

CAPEX requirement, which reduces Free Cash Flow and may create declining or negative Free

Cash Flow b) consequently, they are even more dependent on the Terminal Value than non-oil

and gas companies. Since energy reserves are scarce and non-renewable; it is not possible to

forecast reserve replenishment accurately. Hence, the analysis does not reveal much.

NAV Valuation

NAV is used as an alternative to traditional DCF for oil and gas valuation since reserves are

assumed to have a finite life. The major differences are a) the company never increases its

existing reserves and there are no additional future CapEx requirements beyond what is

required to develop existing reserves, and b) DCF is calculated at the corporate level, while NAV

model is applied at the asset level. The company’s assets are valued separately and aggregated

at the end. Using NAV model, we derived a target price of PKR 255. The company was valued

on a non-going concern basis. All variables were forecast for the next 25 years after which the

company’s reserves are assumed to be fully depleted. NAV is based on the following factors:

Sales: Sales are estimated using PPL’s production capabilities, and all output is assumed to be

sold. PPL sells its output to refineries at pre-determined rates which are defined under the

petroleum policy. The applicable rates are defined in terms of fields, zones and international oil

prices.

Production: Production has been estimated using a bell curve approach. If a particular field’s

resources have been utilized by less than 50%, the depletion factor (how quickly resources are

extracted) would be high for initial years in the pro-forma statements and then lower for

subsequent years. More emphasis has been placed on Nashpa, Tal Block, and Adhi Fields since

these are the current drivers of PPL’s growth.

Pricing: Well head gas prices vary according to field. A general observation suggests that fields

discovered recently have higher prices as compared to decade old fields like Sui and Kandhkot.

Prices for each field were forecasted for next 25 years through formula provided in relevant

petroleum policies.

Exploration Value: The exploration value is an estimate of the 3P reserves. We have taken this

as 12.5% of existing 2P reserves.

Cash Flows: The cash flows have been estimated using net sales and then deducting royalties,

development & drilling charges & exploration costs. This is in accordance with the NAV

framework.

CAPEX: Under NAV, no CapEx is assumed with the exception Maintenance CapEx & what is

required to develop existing reserves.

Risk free rate 10%

Adjusted Beta 1

Risk Premium 7%

Source: Team’s estimates

Source: Market Data, Team’s estimates

DUPONT ANALYSIS

-

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000

FY1

1A

FY1

4F

FY1

7F

FY2

0F

FY2

3F

FY2

6F

FY2

9F

FY3

2F

DAILY BOE PRODUCTION

Sui

Depleted


0

20,000

40,000

60,000

80,000

100,000

120,000

140,000

20

11

20

15

20

19

20

23

20

27

20

31

20

35

SALES (In Millions)


-

10,000

20,000

30,000

40,000

50,000

2014 2015 2016 2017 2018

DFCF



WACC: PPL operates under a 100% equity structure with the exception of certain financial leases

which do not form a material part of the capital structure. The risk free rate is taken to be 10%

using the 10 year Pakistan Investment Bonds (PIBs). The company’s historical beta is 0.82 while

the adjusted beta comes out to be 1.03. The market risk premium is taken as 7% which is industry

norm. Thus the WACC comes out to be 17%.

Multiples Valuation

We used both Regional & Local PER, EV/EBITDA, EV/BOE Multiples based on a one-year forward

median. The weightage applied to both has been 12.5% & 12.5% respectively. We observed that

PPL’s market price is trading at a long-term discount relative to its peer group in the past. There

were number of factors supporting this discount in previous years, such as a) Influence of major

shareholder being the Government of Pakistan b) Lower multipliers on average for the KSE-100

than for exchanges where peers are listed (country risk).

Historical analysis suggests that PPL is trading at a 20% discount for P/E, 40% for EV/EBITDA,

and 69% for EV/BOE on a local basis. On a regional basis, PPL is trading at a 60% discount for

P/E, and 17% for EV/EDITDA. We highlight the fact that the business environment of the

Company has changed significantly since 2012 when PPL started operating globally. Currently,

PPL together with its subsidiaries (PPL Asia E&P B.V & PPL Europe E&P Limited) has a portfolio of

48 exploration assets of which the company operates 27, including one concession in Iraq, while

21 blocks, comprising three offshore leases in Pakistan and two onshore concessions in Yemen,

are operated by joint venture partners. Hence, diversification should reduce the risk in long-term

perspective (see appendix 17 for more details).

However, since the operation in Iraq & Yemen is still in initial stages and therefore it is difficult to

estimate the future revenues. Hence, we have taken a conservative approach and valued the

subsidiaries on a cost basis to be reflective of a conservative approach.

Based on P/E & EV/EBITDA ratio by using both local & regional peers as base, we have estimated

a target price of PKR 218.

INVESTMENT RISKS MARKET RISK: Commodity price assumptions

Revenues are contingent on an external factor that is normally driven by international demand

and supply. The company’s revenues are linked to a basket of Middle East crude oils which are

used to derive the base prices for gas & crude oil sales. Although Crude oil prices are outside

the company’s controls, however, the prices of PPL’s major revenue driver i.e. Natural Gas are

less sensitive since these are subject to zonal discounts/sliding scale which reduce the

vulnerability to price risk. Furthermore, gas prices of certain fields such as Adhi, Block-22 &

Nashpa etc. are capped and are only subject to change once the international crude oil prices

fall below a certain level.

The future prices of oil were obtained from World Bank forecasted Brent oil prices and median

discount of 2.39% was deducted to reach Dubai Light Prices which can also fluctuate over the

period of time. We conducted a sensitivity analysis to analyze the impact of these fluctuations

in the oil prices on PPL’s share price. Figure on the right shows that the share price of PPL will

increase by 2.21 PKR for each percentage point fluctuation in the oil prices.

MARKET RISK: USD currency assumptions

The company’s revenue are pre-defined in terms of fixed bands which are applicable according

to international Oil prices. These bands also vary on a field & zonal basis. Appreciation of the

domestic currency, i.e. PKR will have adverse impacts on the company’s profitability. However,

keeping in mind the current & historical macro situation of Pakistan, the risk stemming from this

factor is quite low.

A sensitivity analysis was conducted to evaluate the impact of this devaluation on the share

price of the company which is summarized in the adjacent figure and shown in detail in

appendix 21.

P/E EV/EBITDA

Current 8.3 4.44

Peers 9.3 4.36

Forecasted EPS 27 27

Implied Price 251.1 184

Average 218

0.0

5.0

10.0

15.0

2013A

Forward Multiples

Peers MedianEV/EBITDA

Peers MedianP/E

PPLEV/EBITDA

PPL P/E

PPL P/E

Peers MedianP/E

PPLEV/EBITDA

Peers MedianEV/EBITDA

2014F

210.0

220.0

230.0

240.0

250.0

260.0

270.0

280.0

OIL PRICE SENSITIVITY



160.0

180.0

200.0

220.0

240.0

260.0

280.0

300.0

EX C H A N G E R A T E F L U C T U A T I O N




Political Risk: Management Team assumptions

PPL, with 71% shareholding controlled by the government of Pakistan, is subject to the risk of

government intrusion and politically influenced appointments. Although increased media

scrutiny lowers the risk of a non-commercial interest prevailing over the company interest,

appointment of the board/managing director still remains subject to the government’s

discretion.

Political Risk: Petroleum Policy assumptions

The company’s revenues are contingent to petroleum policy which is subject to revision on an

ad-hoc basis. This presents significant uncertainty regarding valuation statistics which has been

done using the old applicable petroleum policies. The Company is a part of the oil and gas sector,

which is one of the most heavily regulated sectors of the economy. Changes in applicable laws

and regulations can adversely affect the Company’s revenues and profitability.

Economic Risk: Circular Debt

The Energy sector has previously been significantly affected by the spiraling circular debt back

in 2007-2008. In FY 2013, the debtor days of the company increased by 5.31 days to 161.35 days.

The situation appears to have repeated itself as the cash-strapped government looks to defer its

obligations until the cash flow situation improves. PPL received PIB’s worth PKR 21,825 Million

carrying a coupon of 11.5% against full settlement of overdue receivables. Although being a

partial resolution of the circular debt crisis, going forward there is material uncertainty regarding

the timely payment of outstanding receivables.

Economic Risk: Competition – Oversupply

The company’s major revenue driver is the Sui Gas Field which is expected to deplete till 2027.

The company’s reserve replenishment ratio is still quite low compared to its local and regional

peers. The Company follows a multi-pronged strategy which consists of seizing the

opportunities for joint bidding and swap arrangements with other E&P companies in order to

reduce its exposure to increased competition and to maintain a balanced exploration portfolio.

Operational Risk: Production & Reserve assumptions

The company is going through a significant change as far as its product mix is concerned. During

HFY2014 the company’s oil production is estimated to go up by 28% mainly due to Nashpa

field while gas production is estimated to decline by 5% due to declining reserves of Sui Field.

Multiple risks stem from the possibility of inaccurate proved reserves data as far as 2P & 3P

reserves are concerned. Numerous uncertainties exist in estimating quantities of proved

reserves. Actual future production may not be in line with the estimated proven reserves.

Operational Risk: Security situation in Balochistan

In the past Sui Gas field has come under militant attacks which resulted in suspension of

production. However, we believe that the Emergency response procedures in place by the

company’s management will avoid disruptions in supply. The company with the help of law

enforcement agencies is expected to safeguard its fields against possible attacks.

Valuation Risk

Valuation has been done using multiple methods e.g. DCF, NAV & Multiples to estimate

accurately the target price. According to Bloomberg, PPL is expected to outperform the KSE-

100 index. This is in line with our expectations based on forecasted financials. However, the

discount factor which has been kept constant at all stages at 17% maybe subject change if the

risk free rate increases. In addition, the terminal growth rate of 5% in is in accordance to long

term growth rate of the economy.

A sensitivity analysis was conducted to capture the impact of this risk on the share price (see

appendix 21).

Risk Mitigating factor

Oil Price Select fields are eligible for zonal discounts,

capped Price on Certain Gas fields

Currency Assumptions

Low probability of USD/PKR appreciation

Management Team

Scrutiny by Media, external stakeholders

Petroleum Policy

Rates revision only for new discoveries

Delay or Default in

settlement

Strong credit policy, Strong ties with

government to recover overdue bills

Disruption in Supply

Crisis management & business continuity

plans in place, collaboration with law enforcement agencies

Economic & political

Instability

Proactive strategy, Regular scrutiny of prevalent situation

Increased Competition

Joint Ventures, swap arrangements

Production & Reserves estimates

Extensive technical studies, third party

verification

150.0

200.0

250.0

300.0

350.0

400.0

DISCOUNT RATE




Macro Risks

These risks include interest rate fluctuations and economic volatility. However, such

uncertainties will affect every player in the market. We are confident in PPL’s ability to weather

the interest rate risk as the company does not have debt expect lease financing for computers

and equipment which forms a very small part of the capital structure. The economic volatility is

not expected to affect the company as Pakistan is already facing an energy crisis, a net importer

of oil and currently under talks with nearby neighbors for import of natural gas.

Capturing all the risks

The impact of all the quantifiable risk which can affect our model and in extension our proposed

price for PPL of 256 PKR after a year was captured in a Monte Carlo simulation. Rather than

noting the impact of CPI, exchange rate, oil prices and risk premium in isolation as was done

under sensitivity analysis, this simulation analyzed the combined impact of all these variables on

the stock price. With the result of this simulation, we can say with 95% confidence that the stock

price will not fall below 224 PKR while there is a 25% probability of it being higher than 270 PKR

(see appendix 20 for more details).

SHARE PRICE MOMENTS PPL's 52-week share price range has been between PKR 170/sh to PKR 260/sh. PPL's share price

has been gradually increasing with an upward trend based on the positive exploration news that

investors received throughout the period as well as on exceeding EPS targets for the periods.

Above graph contains daily price data for PPL from January 2012 to January 2014 and we can

see that the share price reaches its highest level after July due to announcement of good results

and high dividend payout ratio. The fall in the share price is due to the rights issue and closing

of book share that took place on September 2012. Because we have classified it as a defensive

stock we can see that there is relatively no effect of external factors on the share price, and all

the changes are due to the internal news or factors. In the year 2013, we can see that increase

in share price was due to internal factors as well. Share price increased due to the discovery at

Sukhpur and successful production testing at Adam-1, and decrease is once again due issuance

of bonus shares and rights. Since September 2013, share price has been steadily increasing

backed by strong financials and earnings growth.



EXPLORATION Accelerating exploration activity

On the back of the recent exploration licenses awarded to PPL (10 Exploration licenses), it is

evident that PPL is moving on to high prospect areas of Baluchistan and offshore areas. This

would further consolidate their recent success at Gambat, Hala and Tight gas reserves potential

at Kirthar (Gambat with gas reserves of 290 bcf and Hala with gas reserves of 90 bcf). Looking at

PPL’s impressive record, we see high chances of PPL adding to its hydrocarbons reserve in the

medium-term as the company seeks to accelerate exploration. As per our estimates, the

forecasted expenditure is shown on the chart on the left.

Diversified Exploration Portfolio:

In FY13, PPL has 48 exploration blocks (27 operated by the company, 21 by partners) as opposed

to 33 blocks in FY10. Overtime, PPL has diversified its portfolio not only in terms of ownership

but geographically as well. PPL has most of it exploration blocks in Sindh, where geology is well

understood, and is a low risk and low cost area, following decades of exploration. After much

turbulence in Baluchistan, PPL has again entered the area after getting bulk of the blocks there

at the recent license bidding. PPL also has acquired 3 offshore exploration blocks and 3

international blocks (2 in Yemen & 1 in Iraq). The company has applied for extension on

exploration licenses at the offshore blocks as it is optimistic for the future and the offshore

region is relatively unexplored as of now. Offshore Indus is regarded as the world’s second-

largest delta and bears many similarities with many producing deltas in the world. Almost all the

areas in Offshore Indus have been leased out and major multi-national operators (including

Shell, Eni, and UEP) have developed significant interest in this area.

Geographically Spread Gas Reserves:

PPL’s hydrocarbon reserves (Gas specifically) are spread geographically with in Pakistan. As Sui

was one of the first to start commercial production, it helped PPL serve its customers for a major

part of the second half of the last century. Sui still holds about 55% of the total PPL gas reserves,

followed by Kandkhot and Adhi as net in line. As soon as security and political conditions became

severe in Baluchistan, PPL due to its ability to explore other parts of the country was able to find

alternates to fast depleting resources in SUI. Over the years, PPL has shifted its hub of activities

towards Sindh where it currently has about 24 exploration blocks. Other parts of the country e.g.

Kyber Pakhtunkhwa and Punjab, also has PPL’s presence in the region.

CORPORATE GOVERNANCE & SOCIAL RESPONSIBILITY

PPL’s business integrity and its relationship with investors require a wide-ranging and a

comprehensive governance structure. The Board of Directors is at the forefront, through

spending quality time at board meetings and discussions, in order to ensure a strong and an

effective governance system is in place. Resultantly, PPL publishes high quality of Annual

Reports, creates a stringent Audit and Internal Control and emphasizes upon Business Ethics and

Anti-Corruption measures like Whistle Blowing Policy.

PPL recognizes and respects the rights of each and every stakeholder, especially the local

communities, by conducting multiple programs like Rural Development Programs, Emergency

Relief, Business Community Plan, Occupational Health Surveillance Program and Corporate

Philanthropy (appendix 23). This endeavor to fulfill their Social Responsibility has led PPL to

numerous Awards and Recognition.

Being a member of the United Nations Global Compact (UNGC), it stands committed to UNGC’s

principles of sustaining good governance practices; include sustainable socio-economic

development of disadvantaged communities, environmental conservation and high standards of

health and safety as well as human resource development.

50%

19%

13%

6%6%

6%

WELL-DIVERSIFIED PORTFOLIO

Sindh Balochistan KP

Punjab Off-Shore International

3%

55%15%

3%

5%

4%1%

14%

PPL'S GAS RESERVESAdhiSuiKandhkotMazaraniQadirpurGambat Block




0

2

4

6

8

10

12

14

20

08

20

09

20

10

20

11

20

12

20

13

20

14

E

20

15

E

THO

USA

ND

S

Forecasted E&D Expenses

Exploration (Rs. Mn)

Development (Rs. Mn)

Appendix 1: Income Statement

Income Statement

2012A 2013A 2014F 2015F 2016F 2017F 2018F

PKR ('000)

Gross Sales 120 124 137,813 151,253 151,682 152,449 153,551

Net Sales 96,222 102,357 111,128 118,548 118,884 119,486 120,349

Field Expenditure (27,051) (30,603) (27,041) (30,968) (31,318) (31,869) (32,808)

Royalties (11,471) (12,292) (12,970) (14,142) (14,182) (14,254) (14,357)

Gross Profit 57,700 59,461 71,117 73,438 73,384 73,363 73,185

Share of profit from joint venture

68 - 93 99 99 99 100

Other operating income

11,594 6,893 8,649 9,911 9,911 9,911 7,237

Other operating expense

(4,655) (3,333) (3,967) (5,467) (5,482) (5,510) (5,550)

Finance Cost (179) (394) (424.14) (506) (507) (510) (514)

Profit Before Tax 64,529 62,628 75,468 77,476 77,405 77,354 74,459

Taxation (23,629) (20,677) (25,567) (25,473) (24,675) (23,886) (22,247)

Profit After Tax 40,899 41,951 49,900 52,003 52,730 53,469 52,212

Preferred Dividends

(0.041) (0.042) (0.044) (0.044) (0.044) (0.044) (0.044)

Profit to Common Equity

40,899 41,951 49,900 52,003 52,730 53,469 52,212

EBITDA 71,426 70,325 83,234 83,590 83,478 83,303 80,253

Shares outstanding

1,314,477 1,643,110 1,971,732 1,971,732 1,971,732 1,971,732 1,971,732

EPS 31.11 25.53 27.00 26.37 26.74 28.00 26.48

DPS 11.50 10.50 12.15 11.87 12.03 12.60 11.92

Payout Ratio 37% 41% 45% 45% 45% 45% 45%



Appendix 2: Balance Sheet

Balance Sheets (Annual) 2012A 2013A 2014F 2015F 2016F 2017F 2018F

PKR ('000) Share Capital 13,145 16,431 19,717 19,717 19,717 19,717 19,717 Reserves 113,239 132,923 162,246 200,276 253,596 325,022 395,348

Total Equity 126,384 149,354 181,963 219,994 273,313 344,740 415,065

Provision for de-commissiong obligation 14,335 15,990 15,990 15,990 15,990 15,990 15,990 Long-term liability for gas development surcharge - - - - - - - Finance lease liability 131 165 165 165 165 165 165 Deferred liabilities 1,562 1,813 1,813 1,813 1,813 1,813 1,813 Deferred income - - - - - - - Deferred taxation 6,872 8,908 - - - - -

Non-Current Liabilities 22,899 26,875 17,967 17,967 17,967 17,967 17,967

Trade and other payables 18,096 33,398 18,210 19,453 18,096 33,398 24,876 Current maturity of long-term liability for GDS - - - - - - - Current maturity of finance lease liabilities 83 109 109 109 109 109 109 Current maturity of deferred income 1 - - - - - - Taxation 3,087 3,165 3,165 3,165 3,165 3,165 3,165

Current Liabilities 21,268 36,672 21,484 22,727 21,370 36,672 28,150

Total Liabilities & Equity 170,551 212,901 221,415 260,688 312,651 399,379 461,182

Fixed Assets 55,747 70,481 18,973 18,973 18,973 18,973 18,973 Property, Plants, & Equipment 55,313 70,079 18,962 18,962 18,962 18,962 18,962 Intangible Assets 434 402 10.55 10.55 10.55 10.55 10.55 Equity accounted investment in joint venture 413 - 0 0 0 0 0 Long term investments 20,346 55,707 55,707 55,707 55,707 55,707 33,418 Long term loans 21 1,519 1,519 1,519 1,519 1,519 1,519 Long term deposits 698 743 743 743 743 743 743 Deferred Tax Asset - - - - - - - Long term receivables 72 293 293 293 293 293 293

Non Current Assets 77,297 128,742 77,234 77,234 77,234 77,234 54,945

Stores and spares 3,468 2,835 30,811 32,096 50,159 40,337 40,631 Trade Debts 50,159 40,337 32,881 34,369 53,627 43,173 43,799 Loans and advances 692 1,003 1,003 1,003 1,003 1,003 1,003 Trade deposits and short term prepayments 161 283 283 283 283 283 283 Accrued financial income 553 1,496 1,496 1,496 1,496 1,496 1,496 Current maturity of long term investments 748 2,001 0 0 0 0 0 Current maturity of long term receivables 4 29 29 29 29 29 29 Other receivables 528 1,652 1,652 1,652 1,652 1,652 1,652 Short term investments 35,265 28,339 51,797 82,221 124,877 182,018 238,278 Taxation - - - 0 0 0 0 Cash and bank balances 1,675 6,184 24,229 30,304 2,291 52,154 79,066

Current Assets 93,254 84,159 144,180 183,454 235,417 322,144 406,237

Total Assets 170,551 212,901 221,415 260,688 312,651 399,379 461,182



Appendix 3: Cash Flow Statement

Cash Flow Statement 2012A 2013A 2014F 2015F 2016F 2017F 2018F

PKR ('000)

Net Income 40,899 41,951 49,900 52,003 52,730 53,469 52,212

Non Cash Charges 6,898 7,698 7,767 6,115 6,073 5,948 5,795

Unwinding of Discount

Adjusted Net Income 47,797 49,649 57,667 58,118 58,803 59,417 58,006

Changes in WC (19,420) 25,124 (9,212) (5,538) (251) (449) (645)

Change in Trade Debts (18,063) 9,822 (10,571) (3,399) (154) (276) (396)

Change in Payables (1,357) 15,301 1,359 (2,139) (97) (173) (249)

Gains and Losses on sale of assets

Change in Stores and Spares

(1,195) 632 (933) (252) (11) (20) (29)

CF from Operating 27,183 75,405 47,522 52,328 58,540 58,948 57,333

CAPEX (2,085) (2,516) (2,750) (2,750) (1,925) (1,233) (734)

Current Maturity and LT Investments

(698) (1,252) 2,001 0 0 0 0

Changes in Short Term (14,414) 6,926 (30,918) (39,901) (41,584) (42,165) (42,755)

CF from Investing (17,197) 3,158 (31,667) (42,651) (43,508) (43,398) (43,489)

Dividends paid (15) (17) (24) (23) (24) (25) (23)

Preferred Dividends (0) (0) (0) (0) (0) (0) (0)

CF from Financing (15) (17) (24) (23) (24) (25) (24)

Net Change in Cash 9,970 78,546 15,831 9,653 15,008 15,525 13,820

Beg of year Bal 1,503 1,675 6,184 9,311 21,844 36,848 52,491

Ending of year Bal. 11,473 80,221 22,015 18,964 36,853 52,373 66,311



Appendix 4: Ratio Analysis

Ratio Analysis FY12A FY13A FY14F FY15F FY16F FY17F FY18F

Profitability Ratios

Gross Profit Margin 60% 58% 64% 62% 62% 61% 61%

EBIDTA Margin 74% 69% 75% 71% 70% 70% 67%

Net Profit Margin 43% 41% 45% 44% 44% 45% 43%

Operating Margin 67% 61% 68% 65% 65% 65% 62%

Return on Assets 24% 20% 20% 17% 15% 13% 11%

ROE 32% 28% 26% 22% 18% 15% 13%

FCF (In millions) 26,292 72,257 89,648 92,542 92,704 93,022 93,423

Operating/Liquidity Ratios

Days Payable Outstanding

148 149 151 152 153 154 155

Total Assets Turnover 0.68 0.68 0.68 0.68 0.68 0.68 0.68

Current Ratio 4.38 2.29 3.62 4.91 6.41 7.92 10.01

Cash to Current Liabilities

1.74 0.94 1.94 3.23 4.73 6.24 8.33

Solvency Ratio 1.08 0.78 0.96 0.92 0.92 0.92 0.89

Assets/Equity 1.35 1.43 1.31 1.26 1.22 1.19 1.16

Solvency

Fixed Charge Coverage ratio

361 160 179 154 154 153 146

Debt/Equity 0.1% 0.1% 0.1% 0.1% 0.1% 0.0% 0.0%

Valuation

P/E 6.0 8.3 8.1 8.3 8.2 7.8 8.3

EPS Growth 18.2% -17.9% 5.8% -2.3% 1.4% 4.7% -5.4%

FCF Yield 10.7% 20.9% 21.0% 21.7% 21.8% 21.8% 21.9%

EV/EBIDTA 2.94 4.44 4.29 3.65 2.98 2.29 1.37

EV/Production (BOE) 3,218 5,197 6,175 5,293 4,372 3,403 1,989

EV / Reserves (BOE) 0.25 0.38 0.47 0.43 0.38 0.32 0.20

Price/Book Value 1.95 2.32 2.23 1.77 1.45 1.23 1.07

Market

EPS 31.1 25.5 27.0 26.4 26.7 28.0 26.5

DPS 11.50 10.50 12.15 11.87 12.03 12.60 11.92

Earnings Yield 16.6% 12.1% 12.3% 12.0% 12.2% 12.8% 12.1%

Payout Ratio 37.0% 41.1% 45.0% 45.0% 45.0% 45.0% 45.0%

Enterprise Value 209,657,4

83 312,173

,416 357,487

,484 305,052

,480 248,465

,630 190,657,

603 109,814

,003



Appendix 5: Upstream Analysis

Raw oil or gas are initially explored, extracted and then produced by the E&P companies. They are then processed

by refineries and lastly, the OMCs make available these products to the consumer. However, analyzing the E&P

sector through the lens of international business, we bring to forefront the riskiness of current business scenario.

In a report published by Ernst & Young titled ‘Top 10 Oil and Gas Business Risks for 2010’, the two core factors in

strategic analysis i.e. ‘Access to reserves’ and ‘overlapping of service offerings’ have reduced in relativistic

measures. However, to comprehend the entire picture, we take into considerations all four quadrants of Financial,

Compliance, Strategic and Operations in view to better understand the trickledown effect to the local region where

PPL operates.

Source: Petrostrategies.org

Appendix 6: Pakistan Proved Reserves

Source: US Energy Information Administration (EIS)


Appendix 7: Pakistan Natural Gas Production

Appendix 8: Pakistan’s Oil Consumption




Appendix 9: Pakistan Natural Gas Proved Reserves

Appendix 10: Pakistan Natural Gas Consumption




Appendix 11: Pakistan Total Oil Production

Appendix 12: GDP vs Consumption



Appendix 13: Activity Map



Appendix 14: Production

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

FY0

6A

FY0

7A

FY0

8A

FY0

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FY1

0A

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1A

FY1

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FY1

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7F

FY2

8F

FY2

9F

FY3

0F

FY3

1F

FY3

2F

FY3

3F

Yearly Oil Production (Barrels)

Adhi Kandhkot (Con) Sui (Con) Mazarani

Adam Qadirpur (Cond.) Miano Manzalai

Mamekhel Maramzai Makori Makori-east

Gambat Block Hala Block Mela Naspha

0%

20%

40%

60%

80%

100%

Field Wise Revenue Share

Adhi Sui Kandhkot Mazarani Chachar Adam

Block-22 Qadirpur Miano Sawan Manzalai Mamikhel

Maramzai Makori Makori -east Mela Gambat Block Hala Block

Lundali Latif Tajjal Naspha Kirthar




0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100% F

Y06

A

FY0

7A

FY0

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FY1

0A

FY1

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FY1

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3A

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4F

FY1

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1F

FY3

2F

FY3

3F

FY3

4F

FY3

5F

FY3

6F

FY3

7F

FY3

8F

Yearly Field Wise Gas Production (mmcf)

Adhi Sui Kandhkot Mazarani Chachar Adam

Block-22 Qadirpur Miano Sawan Manzalai Mamikhel

Maramzai Makori Makori -east Mela Gambat Block Hala Block

Lundali Latif Tajjal Naspha Kirthar



Appendix 15: Field Wise Gas Price

1.00

1.50

2.00

2.50

3.00

3.50

4.00

4.50

5.00

5.50

6.00

Field Wise Gas Price

Adhi Sui Kandhkot Mazarani

Chachar Adam Block-22 Qadirpur

Miano Sawan Manzalai Mamikhel

Maramzai Makori Makori -east Mela

Wafiq - Gambat South Adam - Hala Lundali Latif

Tajjal Naspha Kirthar

Source: Team Estimates via Petroleum Policies


Appendix 16: Expected Cash Flows

Appendix 17: Multiples Comparison

Multiples Comparison P/E EV/EBITDA

Company 2013A 2014F 2013A 2014F

CNOOC (China) 8.2 8.1 2.92 2.45

PetroChina (China) 10 8.6 4.97 4.36

Sinopec (China) 7.5 6.8 4.03 4

Cairn India 4.8 5.1 3.31 3.32

ONGC (India) 9.4 8.8 3.46 3.38

PTT pcl (Thailand) 7.4 7.3 3.69 5.12

PTT exploration 9.5 9.3 6.41 5.77

AWE (Australia) 21.3 45.8 3.77 3.69

Beach Energy (Australia) 13.5 11.3 3.54 3.48

Oil Search (PNG) 67.9 17.9 16.86 15.11

Origin Energy (Australia) 17.5 17 8.6 8.54

Roc Oil Company (Australia) 4.4 3.5 1.34 1.37

Santos (Australia) 21.5 19.8 6.8 6.73

Tap Oil 114 43.7 0.48 0.44

Woodside Petro (Australia) 15.8 13.9 6.04 6.02

OGDC 12.52 9.3 4.7 4.48

POL 8.94 8 6.6 4.6

Median 10.0 9.3 4.03 4.36

43%

32%

25%

Forecasted 2014

CF fromFinancing

CF fromInvesting

Cash & cashequivalents atend of year

40%

40%

20%

Forecasted 2015

CF fromFinancing

CF fromInvesting

Cash & cashequivalents atend of year




Appendix 18: Risk Matrix



Appendix 19: Regression Analysis

Company Name Ticker R2 ᵨ T-stat for ᵨ

PPL PPL 27% 51.72% 11.91

CNOOC CNOOC 70% 83.86% 5.72

PETROCHINA PTR 62% 29.67% 8.969

ONGC ONGC 9% 29.67% 11.33

We ran a basic regression analysis for testing the correlation of PPL stock prices along with its regional

peers with Arab Light Oil prices. The dependent variable can be defined as stock prices of each company,

while the independent variable was the Arab light Oil prices. The period was for the regression was

defined as 2009-2013. To further supplement the analysis we conducted t-test for correlation

coefficient, and with 5% level of significance we conclude that all the correlation coefficients are

statistically different from 0.

Conclusions

The purpose of this analysis was simply to test the correlation of PPL’s stock performance and oil price

trends. The correlation coefficient (ρ) for PPL stock price, turned out to be 0.52. This showed significant,

positive relationship. Moreover, we sought to check whether PPL differs significantly, in the manner of

this relationship, from the regional competitors. The conclusion is that there are no significant

differences, with the exception of ONGC, which is an Indian based company.

30

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3

1-A

pr-

13

1-J

ul-

13

1-O

ct-1

3

$/B

AR

REL

PK

R/S

HA

RE

DATE

PPL Share Price Arab Light Price



Appendix 20: Monte Carlo Simulation Monte Carlo Simulation was conducted in addition to the sensitivity analysis to analyze the combined impact of variables that affect our target stock price.

Variable Distribution Parameters Explanation

Δ g (OIL P)

Normal X = 0 SD = 1%

The future prices of oil may fluctuate around a standard normal distribution which will be multiplied with production volume to get revenues in USD

Δ USD/PKR

X = 4% SD = 1.5%

Gives the devaluation rate of PKR in range of 1% to 7% with 95% probability. These rates are then used to convert the revenue of PPL to PKR

ΔCPI X = 8% SD = 2.5%

Changes in inflation will be 0% on average with a standard deviation of 2.5% on a normal curve which will be used to get the final CPI

Δ Risk Premium

X = 7% SD = 1.67%

Risk premium will vary from 2% to 12% with 99% probability. This premium and CPI will be used to calculate discount rate at each iteration which will also follow a normal distribution

The time period selected for this analysis was the same as in the valuation, which is 25 years from 2015 onwards.

10,000 iterations were performed to allow the variables to distribute along their curves and get an

accurate estimate

The result of the Simulation is presented in the following graph



Appendix 21: Sensitivity Analysis

Oil Prices

As discussed in the report oil price is a major part of the Valuation model used to price this share.

Therefore, an incorrect estimation of this variable can impact the price. We believe that the investor

should be able to judge the impact different values of this variable will have on the share price. These

values are analyzed in the sensitivity analysis above where each percentage point rise in the price of oil

causes the share price to rise by 2.21 PKR. The range of price vary from 235 PKR to 276 PKR with oil price

fluctuations of -10% to 10%. The relationship between oil price and share price is linear which means

sensitivity remains the same at each point in the graph.(Team Estimates)

Exchange Rate

Depreciation of rupee against dollar works in favor of PPL since it receives price for oil and gas in USD.

Hence fluctuations in the exchange rate will affect its revenues and in extension the share price. We

believe that the investor should be able to judge the impact different values of this variable will have on

the share price. These values are analyzed in the sensitivity analysis above where each percentage point

rise causes the share price to rise by 9.5 PKR. The range of price vary from 204 PKR to 278 PKR with

exchange rate fluctuations of -2% to 6%. The relationship between exchange rate and share price is non-

linear and share price becomes more sensitive at higher fluctuation rates. (Team Estimates)

210.0

220.0

230.0

240.0

250.0

260.0

270.0

280.0

-10% -9% -8% -7% -6% -5% -4% -3% -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%

160.0

180.0

200.0

220.0

240.0

260.0

280.0

300.0

-2% -1% 0% 1% 2% 3% 4% 5% 6%


CPI

Another major part of the projections is the Expected Consumer Price Index (ECPI), which has been

assumed to affect a lot of cost heads. Therefore, an incorrect estimation of this variable can impact the

price. For this purpose a sensitivity analysis was performed for the expected consumer price index. The

ECPI was varied from 0% to 20% (the value in the base model is 8%), with intervals of 1%, and the

recalculated share prices were recorded. The range of price vary from 181 PKR to 360 PKR while each

percentage point change in CPI causes the price to fall by 9 PKR on average. (Team Estimates)

Risk Premium

Another major part of the NAV Valuation model used to price this share is the Market Risk Premium.

Therefore, an incorrect estimation of this variable can impact the price. We believe that the investor

should be able to judge the impact different values of this variable will have on the share price

For this purpose a sensitivity analysis was performed for the market risk premium. The market risk

premium was varied from 0% to 16% (the value in the base model is 7%), with intervals of 1%, and the

recalculated share prices were recorded. The range of price vary from 193 PKR to 342 PKR while each

percentage point change in risk premium causes the price to fall by 10 PKR on average. (Team Estimates)

150

200

250

300

350

400

150

200

250

300

350

400


Discount Rate:

Another major part of the NAV Valuation model used to price this share is the Discount Rate. Therefore,

an incorrect estimation of this variable can impact the price. We believe that the investor should be able

to judge the impact different values of this variable will have on the share price

For this purpose a sensitivity analysis was performed for the market risk premium. The market risk

premium was varied from 4% to 30% (the value in the base model is 17%), and the recalculated share

prices were recorded. The range of price vary from 176 PKR to 476 PKR. (Team Estimates)

150.0

200.0

250.0

300.0

350.0

400.0


Appendix 22: Stock Price Simulation The risk associated with PPL stock was also measured through calculation of Value at Risk (VAR) using

Monte Carlo Simulation. Following parameters were used for this simulation

Simulation Parameters

Stock Price 221.22

Mean Returns 21%

Std Dev. 32%

Time Step (Year) 0.08

Number of Runs 10,000

Descriptive Statistics

Mean 273.9

Median 261.8

Standard Deviation 87.3

Skewness 0.9

Minimum 88.8

Maximum 751.0

Upside Potential 70%

Count 10,000

As per the result of this simulation, we can say with 95% confidence that the share price will not fall below 155 PKR in a year.


0

0.01

0.02

0.03

0.04

0.05

0.06

STOCK PRICE SIMULATION RESULT

SellHold

Buy


APPENDIX No 23: CORPORATE GOVERNANCE AND SOCIAL RESPONSIBILITY

FRAMEWORK & MECHANISM: THE GLOBAL COMPACT

PPL became a member of UNGC in April, 2006 and has remained

committed to its principles of sustaining good governance practices

ever since.

HUMAN RIGHTS Principle 1: PPL respects the rights of it human resource by

supporting their right to education, healthcare, and basic civic

amenities.

Principle 2: PPL conducts its business according to the highest

ethical standard.

LABOR STANDARDS Principle 3: PPL acknowledge the rights of collective bargaining and

freedom of association (Unionization) and fosters the relationship

between Management and Workers as a result.

Principle 4&5: PPL supports abolition of child labor and elimination

of forced and compulsory labor

Principle 6: PPL provides equal opportunities for employment and

does not discriminate on the basis of race, religion, sex, language,

and social origin

ENVIRONMENT Principle 7: PPL complies with National Environmental Quality

Standards.

Principle 8: PPL is committed to raise awareness about

environmental issues among the masses and other stakeholders,

and work towards minimizing its own impact on the environment.

Principle 9: PPL is committed to investing in the latest

environmental-friendly technology to reduce its own carbon

footprint.

ANTI-CORRUPTION

Principal 10: PPL is committed to eliminate corruption within its own

business operations as well as with its relationships with external

stakeholders. This is to be achieved through implementation of

stringent ethical codes and policies.

Corporate Governance Methodology: For assessing the overall strength of Corporate Governance policies

AND Social Responsibility at PPL, we have tried to rate their actions as

per the United Nations Global Compact framework & mechanism and

assigned ratings to each criteria. As a result we have given them a

score of 7.8 out of 10. We have given extra weightage to Environment

and Anti-corruption (30% weight) as opposed to Human Rights and

Labor (20% weight)

UNITED NATIONS GLOBAL

CHARTER

HUMAN

RIGHTS

LABOR STANDARDS

ENVIRONMENT

ANTI-CORRUPTION


According to our estimates, PPL receives a score of 7.8 (out of 10) on their

implementation of the United Nations Global Compact. Although, the score is

quite impressive, considering it is an E&P company, there is still vast room for

improvements. Some of such areas are discussed below:

As most of the exploration blocks are situated near extremely undeveloped

areas, comprising of deprived and underprivileged population, PPL can most

certainly do more in assisting for the betterment of the society in general and

community in particular.

PPL, being a state-owned enterprise, has deep and entrenched level of

bureaucratic layers, which has impeded the company from realizing its

potential. This has meant that a lot more can be done to promote ethics and

anti-corruption policies within the organization.


UNGC Criteria PPL’s Score for each Criteria

PPL’s Score after applying Weights

HUMAN RIGHTS 9 1.8

LABOR STANDARDS

9 1.8

ENVIRONMENT 7 2.1

ANTI-CORRUPTION 7 2.1

TOTAL SUM 7.8

20%

20%

30%

30%

Governance Methodology Weights

HUMANRIGHTS

LABORSTANDARDS

ENVIRONMENT

ANTI-CORRUPTION


APPENDIX No 24: PORTER’S FIVE FORCES

Threat of New Entrants: [Rating = 2]

High barriers to enter the market

Exploration licenses needed: About 8 local and 2 foreign firms were awarded licenses recently

High level of technical expertise required

High capital costs

Bargaining Power of Suppliers: [Rating = 3]

limited number of drilling machinery and equipment producers, detonation and seismic systems

Entrance of reputed international players like Schlumberger, Weatherford etc have increased options

available to existing players for latest technology.

Specialized labor force required

Bargaining Power of buyers: [Rating = 2]

Highly regulated industry where both upstream and downstream companies are state-owned, therefore

government regulations play an important role in the buyer-seller relationship.

Limited number of buyers

Competition in the Industry: [Rating = 1]

More than 60% of the total hydrocarbons being produced by the 3 leading companies. HHI index is greater

than 0.25 (High concentration)

Relatively large competitors

Higher Oil production gives higher revenues to the players. Long term focus towards increasing the share of

oil in the production mix

Joint Ventures are common in order to hedge their risks associated with exploration and development

Threat of Substitutes: [Rating = 1]

Highly inelastic demand and all that is produced is easily sold off as Pakistan is an energy starved country.

Globally, shale gas is touted to become a substitute for natural gas and similar fossil fuels.

Soure: Team Estimates

00.5

11.5

22.5

3Threat of New Entrants

Bargaining PowerSuppliers

Bargaining Power ofBuyers

Competition in theIndustry

Threat of Subsitutes

Disclosures: Ownership and material conflicts of interest: The author(s), or a member of their household, of this report does not hold a financial interest in the securities of this company. The author(s), or a member of their household, of this report does not know of the existence of any conflicts of interest that might bias the content or publication of this report. Receipt of compensation: Compensation of the author(s) of this report is not based on investment banking revenue. Position as a officer or director: The author(s), or a member of their household, does not serve as an officer, director or advisory board member of the subject company. Market making: The author(s) does not act as a market maker in the subject company’s securities. Disclaimer: The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with CFA Society of Pakistan, CFA Institute or the CFA Institute Research Challenge with regard to this company’s stock.

CFA Institute Research Challenge

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