Pakistan Strategy 2016
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7 January 2016
IMS Research
+92-21-3713600
• Despite macro support from lower int’l oil prices and record low interest rates,
coupled with transformative developments led by CPEC, the Top-Down rerating
theme fell flat in 2015 as P/E remained unchanged at 8.5x. The KSE-100’s 2.1% gain
for the year was the lowest since CY11, while the Index was kept in check by
incessant foreign selling. However, this was still enough to comfortably beat both
MSCI EM & FM.
• 2015 can repeat in 2016 if upgrade to EM status does not come to pass (decision due
in mid-CY16). In our view, however, even a concrete roadmap for the same can drive
strong valuation rerating (10x) that can be topped up by progress on CPEC. On the
flipside, a largely cash-based market precludes a sharp market decline if the Top-
Down setting becomes less palatable and global risk-off sentiment prevails.
• Interim headwinds to corporate profitability, traditionally the Pakistan Market’s
strong suit, restrict our Dec’16 Index target to 38,000 points. We favor Financials,
Insurance, Construction, OMCs and Autos. Top picks include MCB, ABL, LUCK, CHCC,
PIOC, PSO, EFERT and FEROZ.
Top-Down is conducive; lower volatility to counter uncertain outlook
There is much to like about 2016. Notwithstanding periodic noise escalation, the broader
domestic political landscape appears in equilibrium while security conditions have
improved given firm push on Zarb-e-Azb and geopolitical epicenter shift to the Levant (rise
of ISIS). At the same time, a “lower for longer” outlook on int’l oil price spells positives for
the economy that can operate beyond IMF support. With upgrade to EM status a tangible
possibility (can take P/E to 10x on its own) and elements such as CPEC progress having the
capacity to deliver +ve surprises, the Top-Down backdrop remains favorable.
Risks arise if MSCI Upgrade does not occur and foreign selling seeps into 2016, thereby
keeping the valuation rerating theme in check again. That said, even if the Top-Down
setting becomes less palatable, we point to a cash-based market that since CY09 has
curbed market volatility and will likely act as a buffer against significant downside.
Bottom-Up headwinds call for cherry picking
A commodity-heavy Index tilt restricts IMS Universe profit growth for FY16F to 7% (ex-E&P
and Fertilizer: 12%). However, a cherry picking stance in selected stocks can still result in
substantial alpha. We see twin themes playing out for 2016 – while weak farmer
economics will likely result in a tough environment for rural-linked plays (FMCG, Fertilizer,
Tractors), the urban side should benefit from low commodity prices and greater availability
of private sector credit.
Accordingly, we favor Banks (improved macros can drive rerating), Insurance (general
insurers to see both retail and corporate demand), Construction (CPEC + urban
infrastructure development), OMCs (contained circular debt + white oil demand) and
Autos (Four Wheelers preferred over Two). We thematically like the entertainment and
hospitality sectors, but listed options here are limited. Outside the macro-driven theme,
we like selected Pharmaceuticals as well on the new drug pricing policy.
Intermarket perspective
Our Dec’16 Index target is 38,000 points with potential for 40,000 points on upgrade to EM
status or a tangible roadmap for the same. While we do not rule out initial market
weakness, particularly if ongoing foreign selling (US$315mn net outflow in CY15) continues
into CY16, a largely cash-based market should keep any downside in check. Our favored
stocks for 2016 include MCB, ABL, LUCK, CHCC, PIOC, PSO, EFERT and FEROZ. These can be
complemented by selected stocks likely to meet MSCI EM criteria (including ENGRO, FFC,
UBL) alongside a sprinkling of high D/Y themes (IPPs particularly HUBC). Outside our
formal coverage, we flag MARI, NML, AICL, ASTL, PAEL and CPPL as interesting names.
MSCI, light my fire
Market Snap
As of Year End Dec - 15
KSE100 Index 32,816.3
Market Cap (PkRbn) 6,947
Market Cap (US$bn) 66.33
CY15 Return 2.10%
Market PE (x) 8.5x
Avg. Daily Vol (mn shrs) 246.6
Avg. Daily Td Val (PkRmn) 11,408
Avg. Daily Td Val (US$mn) 111.4
CY15 KSE100 Index - High 36,229
CY15 KSE100 Index - Low 28,927
Market Free float 29%
Sym TP
(PkR)
2016F Return
P/B
(x)
P/E
(x)
D/Y
(%)
CYTD
(%)
LUCK 750.0 2.3 9.6 3.2% -1.0%
CHCC 131.0 1.8 11.2 3.3% 31.3%
PIOC 125.0 2.2 10.9 5.5% 6.1%
PSO 458.0 0.9 6.2 4.0% -9.0%
MCB 267.0 1.6 8.4 7.4% -29.1%
ABL 130.0 1.1 6.1 8.0% -17.0%
EFERT 109.0 2.6 7.3 9.2% 7.7%
FEROZ 1,639.0 3.5 11.4 6.7% 93.7%
Source: IMS Research
Pakistan Strategy
Contents Pakistan Strategy 2016 Page
2016 Strategy - Synopsis Pg 3
Top Picks for 2016 Pg 3
Other Potential Stocks Pg 3
2015 in Review: Pakistan survives a turbulent year Pg 4
2016 Strategy - Pictorial Representation Pg 5
Top-Down is conducive Pg 6
MSCI Upgrade – Case Study Pg 8
Bottom-Up headwinds call for cherry picking Pg 10
If 2015 repeats… Pg 11
Sectors & Top Picks Pg 13
Cements Pg 14
• Lucky Cement - Valuations not reflecting premium status Pg 15
• Cherat Cement - Early Bird Pg 16
• Pioneer Cement - Holding the fastest growth potential Pg 17
Oil & Gas Marketing Pg 18
• Pakistan State Oil - Beneficiary of potential improvement in the power sector Pg 19
Automobile Assembler Pg 20
Insurance Pg 21
Commercial Banks Pg 22
• MCB Bank - Still the go-to bank Pg 23
• Allied Bank - Underappreciated Pg 24
Fertilizer Pg 25
• Engro Fertilizer - Safest exposure to Pakistan’s Fertilizer space Pg 26
Oil & Gas Exploration Pg 27
Pharmaceuticals Pg 28
• Ferozsons Lab - Still room for price play Pg 29
Power Pg 30
Food & Personal Care Products Pg 31
Textiles Pg 32
Other Stocks Pg 33
Mari Petroleum Company Limited Pg 34
Nishat Mills Limited Pg 34
Pak Elektron Limited Pg 35
Adamjee Insurance Company Limited Pg 35
Amreli Steels Limited Pg 36
Cherat Packaging Limited Pg 36
Disclaimer Pg 37
3 | P a g e
Pakistan Strategy
2016 Strategy - Synopsis
• Pakistan continues to stand out against global peers but the KSE-100 may be range-bound in
2016 unless MSCI upgrade to EM status occurs or Banks surprise on growth. A cash-based
market and un-stretched valuations (P/E: 8.5x; at 35% discount to MSCI Asia Pac-ex Japan)
will provide downside protection.
• Our Dec’16 Index target is 38,000pts with offered 16% return slightly lower than 10yr
average return of 20%. While the Top-Down theme remains supportive, interim headwinds
to broader corporate profitability call for a cherry picking approach to generate alpha. That
said, there is potential for 40,000pts subject to MSCI upgrade to EM.
• With segments of the economy growing at peak-Musharraf era levels, we like cyclical
themes including Banks, Insurance, OMCs, Cements and Autos. Outside the macro-driven
theme, we like selected Pharmaceuticals as well on the new drug pricing policy. We are less
sanguine regarding prospects for Consumer Staples, Fertilizers and Tractors particularly
given their premium valuations.
• Our favored stocks for 2016 include MCB, ABL, LUCK, CHCC, PIOC, PSO, EFERT and FEROZ.
These can be complemented by selected stocks likely to meet MSCI EM criteria (including
ENGRO, FFC, UBL and LUCK) alongside a sprinkling of high D/Y themes (IPPs particularly
HUBC). Outside our formal coverage, we flag MARI, NML, AICL, ASTL, PAEL and CPPL as
interesting names.
Top Picks for 2016
Symbol Company
Name 31-Dec-15
Target
Price
(PkR)
Upside Total
Return Stance
2016F Return
P/B
(x)
P/E
(x)
D/Y
(%)
CY15
(%)
LUCK Lucky Cement 495.04 750.0 51.5% 54.7% BUY 2.3 9.6 3.2% -1.0%
CHCC Cherat Cement 90.18 131.0 45.3% 48.6% BUY 1.8 11.2 3.3% 31.3%
PIOC Pioneer Cement 90.86 125.0 37.6% 43.1% BUY 2.2 10.9 5.5% 6.1%
PSO Pakistan State Oil 325.77 458.0 40.6% 44.6% BUY 0.9 6.2 4.0% -9.0%
MCB MCB Bank 216.85 267.0 23.1% 30.5% BUY 1.6 8.4 7.4% -29.1%
ABL Allied Bank 94.26 130.0 37.9% 45.9% BUY 1.1 6.1 8.0% -17.0%
EFERT Engro Fertilizer 84.13 109.0 29.6% 38.8% BUY 2.6 7.3 9.2% 7.7%
FEROZ Ferozsons Lab. 1,106.90 1,639.0 48.1% 54.8% BUY 3.5 11.4 6.7% 93.7%
Source: IMS Research
Other Potential Stocks
Symbol Company Name 31-Dec-15 PE (x) T12m Return CY15 (%)
MARI Mari Petroleum Company Limited
697.14
13.6 46.6%
NML Nishat Mills Ltd.
94.87
8.5 -21.6%
PAEL Pak Elektron Ltd.
62.54
18.4 52.8%
AICL Adamjee Insurance Co. Ltd.
56.51
6.8 14.3%
ASTL Amreli Steels Ltd.
60.07
15.9 12.2%
CPPL Cherat Packaging Limited.
303.11
13.8 91.6%
Source: IMS Research
4 | P a g e
Pakistan Strategy
2015 in Review: Pakistan survives a turbulent year
• The KSE-100 Index gained 2.1% in CY15 (-1.1% in US$ terms), its worst performance
since CY11 (-5.6%; in US$: -10.0%). In comparison, the MSCI FM and EM indices
both shed 17% in the year under review leading Pakistan to once again outperform
peers.
• While the market posted a smart recovery after a bout of foreign selling in Feb/Mar
(liquidation of a foreign fund), a global-risk off sentiment punctuated by sustained
FPI outflow dragged the Index lower in 2HCY15. After three consecutive years of
net inflows, FPI outflow for the year registered at US$315mn.
• In valuation terms, the Pakistan Market ended the year where it started – at a P/E
of 8.5x. In doing so, it ignored multiples positives including record-low interest
rates, signing of the landmark CPEC agreement and inclusion in the MSCI Review
List for EM upgrade. In fact, the last major rerating for the market occurred in mid-
CY13 following the PML-N election win which took P/E up from < 7x.
2011 redux or inflection point? Although the market did not rerate, several developments in the last year can have long
lasting implications. In particular, these include (i) agreements pertaining to the China-
Pakistan Economic Corridor (CPEC) – a US$46bn multi-year deal that can transform the
energy & infrastructure landscape and (ii) MSCI putting Pakistan on the Review List for
potential upgrade to EM status. Put together, these spell significant +ve’s for both FDI and
FPI outlook. At the same time, data and anecdotal evidence suggest a significant
improvement in security conditions with Operation Zarb-e-Azb poised to extend for the 2nd
consecutive winter. Although too early to say, the rise of ISIS shifting the geopolitical center
point to the Levant, can lead to sustainably better conditions in the AfPak region. Finally, a
“lower for longer” oil price outlook is on balance +ve for Pakistan’s macros, if not for the
commodity-heavy Index at large.
Market developments A cash-based market carries both +ve’s and –ve’s. While average volumes/value clocked in
at a subdued 246mn/US$111mn (vs. 208mn/US$93mn in CY14), market volatility remained
in check for the 6th consecutive year where the difference between the Index’s high-low
was just 25% vs. a 63% differential since the KSE-100 Index was introduced in 1992.
However, despite a quicker pace to IPOs (8 in 2015) and the creation of the Pakistan Stock
Exchange (amalgamation of the Karachi, Lahore and Islamabad bourses), sustainably higher
volumes are unlikely in the absence of improved market leverage. This is underpinned by a
more interventionist regulator which can lead to long-term +ve’s but can affect sentiment
in the short-term.
In a turbulent year, KSE 100 ends 2.1% up
28,000
29,000
30,000
31,000
32,000
33,000
34,000
35,000
36,000
37,000
1-J
an
20
-Jan
8-F
eb
27
-Fe
b
18
-Mar
6-A
pr
25
-Ap
r
14
-May
2-J
un
21
-Ju
n
10
-Ju
l
29
-Ju
l
17
-Au
g
5-S
ep
24
-Se
p
13
-Oct
1-N
ov
20
-No
v
9-D
ec
28
-De
c
DR cut by
100bps to
US$700mn
CSF received
DR cut by 50bps
to 8%
Gas tariffs
increased
by up to
63%
Surprise
Chinese
Yuan
deval
PTI rejoins
Parliament
S&P ups
Pakistan's
credit
rating
DR cut by
100bps to 7%;
TR introduced
50bps below
FY16 Fedeal
Budget
announced
Pakistan added
to MSCI review
list for
Moody's
upgrades
Pakistan's
credit rating
Iran
Nuclear
Deal
Status
quo in
MoUs related to
CPEC signed ADB agrees to
provide US$6bn
over next 5yrs
DR/TR cut by
50bps to
6.5%/6.0%
Fitch
Assigns
Rating B
to
Pakistan
US interest
rate status
quo
US$500mn
Eurobond
Issued
PkR sheds
0.7%DoD
vs. US$
SBP keeps DR
unchanged
Dr. Asim
admits to
terror and
corrupton
charges
Incumbents
win in LB
elections
US Fed
raises
FFR by
25bps
CPEC-
financial
close of Port
Qasim coal
power
project
Source: IMS Research
Countries CY15 Chg
China 9.4%
Vietnam 6.1%
Korea 2.4%
Pakistan 2.1%
MSCI World -2.7%
Philippines -3.9%
Malaysia -3.9%
Bangladesh -4.8%
India -5.0%
Sri Lanka -5.5%
Taiwan -10.4%
MSCI AAXJ -12.0%
Indonesia -12.1%
Thailand -14.0%
Singapore -14.4%
MSCI EM -17.0%
MSCI FM -17.3% Source: Bloomberg
5 | P a g e
Pakistan Strategy
Macro conditions positive for Banks & Insurance
PSDP + CPEC. We like Cements, Steel & Glassware
Sweet spot continues. Prefer 4-wheelers over 2
Stagnant circular debt + growing demand
Top-Down: Triggers headed for Materialization
Risk
Factors
• Deterioration in security climate • Macro indiscipline post IMF program • Sharp commodity price swings
Bottom-Up calls for cherry picking
Corporate profits to grow 7%YoY in FY16F vs. 10yr average of 16%YoY.
Ex-E&P and Fertilizer growth is 12%YoY Medium term growth trajectory is intact
Financials
Construction
Automotive
Oil Marketing
Falling crop prices & higher input costs compressing
farmer incomes
This is slowing growth for Consumables particularly
Food as well as Footwear and selected 2-wheelers
Urban sector doing much better on higher disposable
incomes together with improved access to credit
Expect Financials, Construction, Entertainment, Hospitality,
Durables and high-end Staples to outperform
• Political disruption • Global risk-off sentiment & FPI outflow • Regulatory overzealousness
Terrorism shifts focus from AfPak to Levant (ISIS), Zarb-e-Azb has curbed militancy
Peace dividend not probable, but cannot be ruled out
Valuation
Rerating
Improved Security
Limited headline growth
Rural Income Compression
Positives for the Urban side
GDP rate heading for 5%; CPEC can be game changer
Low oil prices & int. rates trickling down with urban growth to outpace rural
Macro Uptick
MSCI - EM upgrade decision due in mid-CY16
Regulator can drive LT reforms but leverage revamp is needed
Regulatory Backdrop
Civil-Military relations in balance with Army content to stay in background
LB elections favor incumbents. PML-N can win again in 2018
Political Equilibrium
6 | P a g e
Pakistan Strategy
Top-Down is conducive
• Notwithstanding periodic noise escalation, the broader domestic political landscape
is in equilibrium while security conditions have improved given firm push on Zarb-e-
Azb and geopolitical epicenter shift to the Levant (rise of ISIS).
• A “lower for longer” outlook for international oil price is positive for the economy
that can operate beyond IMF support, in our view. With upgrade to EM status a
tangible possibility and CPEC progress having the capacity to deliver positive
surprises, the Top-Down backdrop remains favorable.
• Unlike 2015, triggers may witness materialization in 2016 which can unlock valuation
rerating, possibly to 10x P/E. Risks occur on continued FPI outflow but a largely cash-
based market lowers volatility and offers downside protection.
Politics: 7yr itch? With the 2014 PTI sit-ins left in the past, the domestic political environment is much more
stable underpinned by the ruling PML-N’s strong showing in the recent Local Body elections
(Punjab). While pressure points exist and will likely lead to periodic noise via (i) COAS term
end in Nov’16, (ii) the festering Dr. Asim Hussain issue and even (iii) progress of US election
campaigns, there is an equilibrium in civil-military relations where the Army appears content
to stay within the background. With low oil prices helping to avert anti-incumbency
sentiment, we see PML-N winning out again in the 2018 General Elections, leading to policy
continuity from the top.
Security: Watershed developments The tragic events of the Army Public School (APS) tragedy in late 2014 galvanized political
will and public support, providing impetus to Operation Zarb-e-Azb that is set to continue for
the second consecutive winter. Data backed by anecdotal support suggests significant
improvement in security conditions which importantly, looks sustainable. In this regard,
while the emergence of ISIS raises geopolitical temperatures, the heat map is concentrated
in the Levant (esp. Syria, Turkey & Iraq) with conditions in the Afghanistan/Pakistan region
appearing much better in comparison. While we believe it is too soon to expect a peace
dividend in Pakistan, even consideration of the same speaks of immense gains on the
security front.
Economy: Standing on its own Headline macroeconomic metrics have continued to improve with (i) GDP growth looking to
accelerate from the mid-4% mark particularly as private sector credit offtake rises, (ii) FY16
CPI shaping to average < 4%YoY and (iii) interest rates likely to stay in single digits across the
medium-term. Furthermore, two historically problematic areas stand much improved –
Forex reserves with the central bank now imply 4.5 month import cover while the fiscal
deficit is projected to clock in less than 5% of GDP for FY16. Considering Pakistan has needed
Security conditions have improved
0
2,000
4,000
6,000
8,000
10,000
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
9M
CY
15
Civillian casualties Millitants killed
Source: SATP & IMS Research
LB elections: No anti-incumbency yet
0
500
1,000
1,500
2,000
2,500
3,000
3,500
PML-N PPPP PTI Indp. Others
No of Seats
Punjab Sindh KPK
Source: ECP & IMS Research
Unlike 2015, rerating triggers
can materialize in 2016, if the
Pakistan Market is upgraded to
EM status
7 | P a g e
Pakistan Strategy
IMF support when the import cover has dropped to 1.0m-1.5m, the Balance of Payments
position is strong enough to withstand completion of the ongoing IMF program in Sep’16,
particularly if international oil prices remain subdued. This takes into account potential SBP
intervention to contain PkR volatility while still letting the currency weaken gradually.
While we see risks from decelerating remittances (+7.6%YoY in 5MFY16) and weak exports (-
13.9%YoY in 5MFY16), we flag significant FDI potential from CPEC as a counterbalance. From
a medium to longer-term perspective, we highlight Pakistan’s strong domestic demand
theme that dilutes impact from rising US interest rates and China slowdown (China accounts
for a modest 9% of Pakistan’s exports).
Regulatory backdrop: MSCI upgrade can provide major uplift By far the most important development for 2016 is likely to pertain to MSCI’s decision to
upgrade Pakistan to EM status. Recall that Pakistan was part of the EM basket from 1994-
2008 before the events of late 2008 (price freeze for 110 days) first led to Pakistan classified
as a standalone market before being included in the FM Universe. In our view, an upgrade
(decision due in mid-2016) or even a concrete roadmap for the same will likely unlock major
valuation rerating for the Pakistan Market where P/E could conceivably reach 10x especially
as the trend of FPI outflow will likely reverse.
In the absence of an MSCI upgrade, factors such as creation of the Pakistan Stock Exchange
(amalgamation of the Karachi, Lahore and Islamabad bourses) are unlikely to enthuse local
GDP and Credit offtake poised to accelerate…
-5%
0%
5%
10%
15%
20%
0%
1%
2%
3%
4%
5%
6%
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15
Real GDP growth (LHS) Private Sector Credit (YoY)
Source: SBP & IMS Research
FDI remains an issue but CPEC can be transformative
-100%
-50%
0%
50%
100%
150%
0
1,000
2,000
3,000
4,000
5,000
6,000
FY0
2
FY0
3
FY0
4
FY0
5
FY0
6
FY0
7
FY0
8
FY0
9
FY1
0
FY1
1
FY1
2
FY1
3
FY1
4
FY1
5
FDI (US$ mn) - LHS Δ FDI (%)
Source: SBP & IMS Research
Adequate import cover to steady PkR
0.0
1.0
2.0
3.0
4.0
5.0
92
96
100
104
108
112
Jan
-13
Mar
-13
May
-13
Jul-
13
Sep
-13
No
v-1
3
Jan
-14
Mar
-14
May
-14
Jul-
14
Sep
-14
No
v-1
4
Jan
-15
Mar
-15
May
-15
Jul-
15
Sep
-15
No
v-1
5
SBP Import Cover (mths) PkR/US$ (LHS)
Source: SBP & IMS Research
…inflation & interest rates likely to remain in single-digits
0%
2%
4%
6%
8%
10%
12%
14%
Jan
-12
Ap
r-1
2
Jul-
12
Oct
-12
Jan
-13
Ap
r-1
3
Jul-
13
Oct
-13
Jan
-14
Ap
r-1
4
Jul-
14
Oct
-14
Jan
-15
Ap
r-1
5
Jul-
15
Oct
-15
Jan
-16
Ap
r-1
6
Jul-
16
Oct
-16
Jan
-17
Ap
r-1
7
CPI YoY Discount Rate
Source: SBP & IMS Research
8 | P a g e
Pakistan Strategy
investors particularly if market volumes remain dull. This has a silver lining however - a
largely cash-based market also lowers volatility and offers downside protection.
MSCI Upgrade – Case Study Pakistan was a part of MSCI Emerging Markets from 1994-2008 until market freeze for 110
days led to downgrade to Frontier space. From EM removal effective Dec 31’08 to inclusion
into FM (gap of 5m), the market saw FPI outflow of almost US$300mn. While Pakistani
companies have met requisite EM quantitative criteria for long, it was only in mid-CY15 that
Pakistan was formally added to the MSCI review list for potential upgrade to EM status.
Will upgrade finally happen? In our view, inclusion in the formal review list indicates that MSCI and the broader foreign
investor base is finally beginning to be comfortable on qualitative upgrade criteria which
pertains to ease of capital flows and stability of institutional framework, among others. In
terms of quantitative criteria, at least 3 companies are needed to each meet the
requirements.
Qualitative Criteria
• “Significant” openness to foreign ownership
• “Significant” ease of capital inflows/outflows
• “Good and tested” efficiency of operational framework
• “Modest” stability of institutional framework
Considering Pakistan was earlier part of the EM space, meeting these qualitative criteria
should not be problematic, in our view.
Qualitative Criteria
At least three companies to each meet (i) absolute market cap of US$1.26bn, (ii) free float
market cap of US$630mn and (iii) 15% ATVR (Annualized Traded Value Ratio). While 11
companies meet the first criteria, this list trims to 8 companies if the free float requirement
is added, and finally to just 4 names (FFC, UBL, ENGRO, LUCK) if the liquidity metric is
imposed.
Companies meeting upgrade criteria
(Abs mkt cap US$mn) Free float (Mkt cap US$mn) AVTR
OGDC 7,044
KEL 2,124
HBL 1,474 ENGRO 750
ENGRO 172%
NESTLE 4,392
UBL 1,983
MCB 1,142 PPL 713
LUCK 36.5%
HBL 2,947
FFC 1,665
OGDC 1,057 LUCK 644
FFC 26.3%
PPL 2,924
LUCK 1,609
FFC 916
UBL 17.6%
MCB 2,854
ENGRO 1,501
HUBC 811
HUBC 15.4%
PAKT 2,327
HUBC 1,081
UBL 793
PPL 13.2%
Source: MSCI & IMS Research
Lack of leverage has kept volumes in check…
-
100
200
300
400
500
600
-
50
100
150
200
250
300
350
400
CY
05
CY
06
CY
07
CY
08
CY
09
CY
10
CY
11
CY
12
CY
13
CY
14
CY
15
Avg .Vol (shr mn)- LHS Avg. Val Trd. (US$mn)
Source: KSE, IMS Research
…but this prevents major market downside
0%
40%
80%
120%
160%
200%
CY9
3
CY9
5
CY9
7
CY9
9
CY0
1
CY0
3
CY0
5
CY0
7
CY0
9
CY1
1
CY1
3
CY1
5
Hi-Low differential for KSE-100 Index
Source: KSE, IMS Research
MSCI EM – Pakistani Co’s (2008)
Weight (%) in
Stock MSCI EM MSCI Pak MCB 0.05 25.8
OGDC 0.04 20.5
JSCL 0.03 13.5
PTC 0.02 9.2
PSO 0.02 8.9
UBL 0.02 8.0
FFC 0.02 7.7
NBP 0.01 6.5
Total 0.21 100
Source: MSCI Barra
9 | P a g e
Pakistan Strategy
As per MSCI, upgrade will only occur if the change in status is viewed to be irreversible. We
believe an upgrade will be announced in Jun’16 if 2-3 additional companies meet criteria
(can happen if volumes pickup in OGDC/MCB/PPL and HUBC/LUCK witness an increase in
market cap). However, if only 4 companies meet the upgrade criteria and that too with a
thin margin, MSCI will likely continue to keep Pakistan on the review list and reconsider the
matter in 6m-12m.
What can this mean? From EM removal effective Dec 31’08 to inclusion into FM (gap of 5m), the Pakistan Market
saw net FPI outflow of almost US$300mn. Taking this as an anchor, upgrade to EM status
should immediately result in FPI inflow of at least US$300mn, and possibly higher if funds
choose to OW Pakistan. In this regard, we understand that more than US$1tn in global
funds track the MSCI EM Index compared to less than US$20bn of funds tied to the FM
Index. Over the medium-term, this can result in significant FPI inflow even if Pakistan’s
weight in the EM Index is likely to be in the 0.1%-0.15% range (it was 0.2% when Pakistan
was last part of the EM space). Recall that FPI inflow peaked above US$550mn in any given
year (FY07: US$1.6bn FPI trims to US$123mn if GDRs are excluded).
EM upgrade and likely consequent FPI inflow should drive a rerating in the Pakistan Market
for the first time since mid-CY13. By way of example, the Qatar and UAE markets
experienced significant valuation rerating of ~20% in the run up to upgrade (announced in
Jun’13, effective in May’14). Applying this to Pakistan can take the market’s P/E from 8.5x
presently to as high as 10.2x, which will drive the Index close to 40,000pts all else the same.
In terms of risks, we lag thinner market volumes compared to when Pakistan was last in the
EM space, which can potentially impact quality of trade executions.
Pakistan is big in FM space…
Kuwait
25%
Argentina
16%Nigeria
13%
Pakistan
10%
Kenya
6%
Others
30%
Source: MSCI & IMS Research
…but valuation discount is 38% vs. MSCI EM!
-
5
10
15
20
25
Ru
ssia
Pak
ista
n
Turk
ey
Po
lan
dEg
ypt
Cze
ch
Qat
arB
razi
lK
ore
aU
aeTa
iwan
MSC
I EM
Pe
ruC
olo
mb
iaH
un
gry
Thai
lan
dC
hin
aM
alay
sia
S. A
fric
aIn
do
ne
sia
Ind
iaC
hil
eP
hil
lip
in…
Gre
ece
Me
xico
P/E (x)
Source: Bloomberg & IMS Research
…and trades at a 8% discount to MSCI FM
-
5
10
15
20
25
30
35
Kaz
akh
sta
n
Leb
an
on
Bah
rain
Ro
man
ia
Bu
lgar
ia
Pak
ista
n
Nig
eri
a
MS
CI F
M
Slo
ven
ia
Om
an
Ma
uri
tiu
s
Cro
atia
Sri L
anka
Ke
nya
Esto
nia
Lith
uan
ia
Arg
en
tin
a
Vie
tnam
Mo
rocc
o
Tun
isia
Ku
wai
t
P/E (x)
Source: Bloomberg & IMS Research
Pakistan will have a small share in MSCI EM…
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
0.0
0.5
1.0
1.5
2.0
2.5
Hu
nga
ryP
eru
Cze
chQ
atar
Gre
ece
Pak
ista
nC
hil
eP
hil
ipp
ines
Egyp
tM
ala
ysia
S. A
fric
aC
olo
mb
iaU
AE
Thai
lan
dTa
iwan
Po
lan
dTu
rke
yIn
do
ne
sia
Me
xico
Ko
rea
Ru
ssia
Ind
iaB
razi
lC
hin
a
US$
-trn
GDP size (US$bn) GDP growth 2016-20*US$10.3trn
Source: IMF & IMS Research
Qatar and UAE markets rerated
by ~20% from EM upgrade
announcement to formal
inclusion (1yr period)
10 | P a g e
Pakistan Strategy
Bottom-Up headwinds call for cherry picking • A commodity-heavy Index tilt restricts IMS Universe profit growth for FY16F to 7%
(ex-E&P and Fertilizer: 12%). However, a cherry picking stance in selected stocks can
still result in substantial alpha.
• We see twin themes playing out for 2016 – while weak farmer economics will likely
result in a tough environment for rural-linked plays (FMCG, Fertilizer, Tractors), the
urban side should benefit from low commodity prices and greater availability of
private sector credit.
• We favor Banks (improved macros can drive rerating), Insurance (general insurers
to see both retail and corporate demand), Construction (CPEC + urban
infrastructure development), OMCs (contained circular debt + white oil demand)
and Autos (four-wheelers preferred over two).
IMS Universe: Not all sectors are equal While the Top-Down theme has historically been volatile, the Pakistan Market has been a
very strong Bottom-Up story where 10yr average corporate profitability growth has tagged
in at 16%YoY. A short-term role reversal defines outlook for 2016 where 1QFY16 IMS
Universe profits declined by 13%YoY. We forecast IMS Universe growth at 7%YoY for
FY16F and at 8%YoY for FY17F. This is largely due to a commodity-heavy Index tilt;
excluding E&P and Fertilizers will elevate FY16F Universe growth to 12%YoY with room for
more if Banks realize higher than projected capital gains. In contrast, sectors such as
Cements, Autos, Insurance, OMCs and Pharmaceuticals are projected to post much higher
growth.
Rural incomes: Feeling the pain
The commodities super-cycle theme has combusted spectacularly, buffeted by global
oversupply amid slowing Chinese growth. Prices for both hard and soft commodities are
sharply lower with oil, copper and wheat down 29%-51%YoY. With a “lower for longer”
commodity price view now gaining widespread currency, the implications for Pakistani
rural incomes and consequently spending power are sharply clear.
Agriculture incomes in Pakistan picked up significantly during 2006-12, buoyed by a
commodity price boom. This reflected in swift sales growth (CAGR: 20%) for rural-linked
sectors including FMCGs, Fertilizer, Tractors and Two Wheelers. Over the last year or so
however, agriculture incomes have witnessed sharp compression on (i) fall in crop prices
led by cotton and sugar, and (ii) higher input prices where urea prices have doubled from
FY10 levels. Together with deceleration in remittances, this income slowdown is
manifesting in a slowdown for rural-linked sectors, where sales growth has decelerated to
5%YoY. With the impact on farmer incomes unlikely to be fully mitigated by the recently
announced Kissan Package (PkR341bn; PkR147bn of which is through direct cash
handouts), we are less sanguine on sectors dependent on rural income growth including
Consumer Staples, Fertilizers, Tractors and Two Wheelers.
Lower farmer income…
-1.0
0.0
1.0
2.0
3.0
4.0
5.0
20
00
-01
20
01
-02
20
02
-03
20
03
-04
20
04
-05
20
05
-06
20
06
-07
20
07
-08
20
08
-09
20
09
-10
20
10
-11
20
11
-12
20
12
-13
20
13
-14
20
14
-15
Fertz Nutrient (N,P,K) Wheat
Sugar Cotton
Wheat Int'l
Source: Economic Survey, WB & IMS Research
…is causing deceleration in Agri-linked sales
0%
5%
10%
15%
20%
25%
30%
35%
40%
-
50,000
100,000
150,000
200,000
250,000
300,000
350,000
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
Consumer Sales (PkR mns) Lhs Avg sales growth
Source: Company Accounts & IMS Research
We are Over Weight on Cement,
OMCs, Autos & Insurance while
we also like selected Banks
We are Under Weight on Food
Producers & Textiles
11 | P a g e
Pakistan Strategy
Urban incomes: Pockets of growth In contrast to the rural sector, there has been a positive shift for the secondary and tertiary
sectors underpinned by (i) lower inflation leading disposable incomes higher, (ii) continued
focus on energy reforms & infrastructure development; and (iii) a revival in the private
sector credit cycle. In this regard, while headline GDP growth remains in the mid-4% range,
there is evidence that certain segments of the economy are growing at peak Musharraf-era
levels where we point to high business & consumer confidence, increasing number of
companies being incorporated and +ve’s emanating from key leading indicators (truck sales
and machinery imports).
This turnaround can further entrench if credit offtake continues to improve (LT loans
already growing at 20%YoY) and as CPEC starts delivering results. As a result, with the
economy appearing on a sustainable uptick, we continue to favor cyclicals experiencing a
sweet spot of high margins and robust demand. We favor Banks (improved macros can
drive rerating), Insurance (general insurers to see both retail and corporate demand),
Construction (CPEC + urban infrastructure development), OMCs (contained circular debt +
white oil demand) and Autos (four-wheelers preferred over two).
If 2015 repeats… The commodity fallout witnessed in 2015 is looking to extend into 2016. In this regard,
sector-wise price performance across CY15 is instructive. Commodity-linked sectors were
understandably sharp underperformers in the previous year while cyclicals remained the go-
to sectors as the broader economy continued to pick pace. This can turn out to the case
again in 2016 with a few notable exceptions, where we believe Banks and Non-life Insurance
can deliver positive price performance as economic growth accelerates. There is precedence
Capital formation has accelerated…
-
100
200
300
400
500
600
700
Au
g-0
3
Mar
-04
Oct
-04
May
-05
De
c-0
5
Jul-
06
Fe
b-0
7
Se
p-0
7
Ap
r-0
8
No
v-0
8
Jun
-09
Jan
-10
Au
g-1
0
Mar
-11
Oct
-11
May
-12
De
c-1
2
Jul-
13
Fe
b-1
4
Se
p-1
4
Ap
r-1
5
No
v-1
5
Machinery Imports (US$mn)
Source: SBP & IMS Research
…which drives impressive pickup in LT Loans (YoY)
-10%
-5%
0%
5%
10%
15%
20%
25%
Feb
-14
Mar
-14
Ap
r-1
4
May
-14
Jun
-14
Jul-
14
Au
g-1
4
Sep
-14
Oct
-14
No
v-1
4
De
c'1
4
Jan
'15
Feb
-15
Mar
-15
Ap
r-1
5
May
-15
Jun
-15
Jul-
15
Au
g-1
5
Sep
-15
Oct
-15
No
v-1
5
Total Trade Finance
Working Capital Fixed Investment
Source: SBP & IMS Research
Entrepreneurship is picking up…
0
1,000
2,000
3,000
4,000
5,000
6,000
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15
No. of companies registering with SECP
Source: SECP & IMS Research
...underpinning increased business activity
0
100
200
300
400
500
600
700
Jul-
07
De
c-0
7
May
-08
Oct
-08
Mar
-09
Au
g-0
9
Jan
-10
Jun
-10
No
v-1
0
Ap
r-1
1
Sep
-11
Feb
-12
Jul-
12
De
c-1
2
May
-13
Oct
-13
Mar
-14
Au
g-1
4
Jan
-15
Jun
-15
No
v-1
5
Truck Sales
Source: PAMA & IMS Research
12 | P a g e
Pakistan Strategy
that cyclical sectors were among the top performing sectors during the previous macro bull
run across 2003-2007.
On the flipside, despite this being the only sector to attract FPI inflow in 2015, we continue
to remain downbeat on short-to medium-term price performance prospects for Food
Producers, given ongoing sales slowdown and relatively pricey valuations.
…which was repeated in 2015 with some exceptions
-35
.7% -1
7.8
%
-16
.5%
-15
.7%
-9.1
%
-8.6
%
-6.8
%
3.4
%
4.8
% 13
.3%
14
.2%
14
.4%
16
.3%
17
.2%
-50.0%
-35.0%
-20.0%
-5.0%
10.0%
25.0%
E&P
Ch
em
ical
s
Tele
com
Ban
ks
Foo
ds
OM
Cs
Tex
tile
s
Insu
ran
ce
Oth
ers
Po
we
r
Au
tos
Ce
me
nts
Ph
arm
a
Fert
iliz
er
Source: KSE & IMS Research
Cyclicals did well during the 2003-07 macro uptick…
1%
11
%
15
% 22
% 28
%
28
%
29
% 35
%
36
%
38
%
39
%
43
%
45
%
45
%
47
%
48
%
72
%
0%
10%
20%
30%
40%
50%
60%
70%
80%
Po
we
r
Tele
com
OM
Cs
Ch
em
ical
Re
fin
ery
Pap
er
Tex.
Co
mp
Ce
me
nt
Fert
iliz
er
E&P
KSE
10
0 In
de
x
Au
tos
Insu
ran
ce
Ph
arm
a
Foo
ds
Tob
acco
Ba
nks
2003-2007 CAGR (Returns)
Source: KSE & IMS Research
13 | P a g e
Pakistan Strategy
Sectors & Top Picks
14 | P a g e
Pakistan Strategy
Strong correlation between PSDP spending and local dispatches
-100 200 300 400 500 600 700 800 900 1,000
-
5
10
15
20
25
30
FY9
8
FY9
9
FY0
0
FY0
1
FY0
2
FY0
3
FY0
4
FY0
5
FY0
6
FY0
7
FY0
8
FY0
9
FY1
0
FY1
1
FY1
2
FY1
3
FY1
4
FY1
5
Local Dispatches (mnMT) - Lhs PSDP Spending (PkR bn)
Source: APCMA & IMS Research
Private sector lending has picked but still below FY08 levels
-20%
-10%
0%
10%
20%
30%
40%
Jun
-07
No
v-0
7
Ap
r-0
8
Sep
-08
Feb
-09
Jul-
09
De
c-0
9
May
-10
Oct
-10
Mar
-11
Au
g-1
1
Jan
-12
Jun
e-1
2
No
v-1
2
Ap
r-1
3
Sep
t-1
3
Feb
-14
July
-14
De
c-1
4
May
-15
Oct
-15
Private sector lending related to construction activity (YoY)
Source: SBP & IMS Research
Sharoon Ahmad
Investment Analyst
+92-21-37131600 – Ext.302
___________________________________
SYM Rating TP PE (x) PB (x) DY (%)
(PkR) 16F 17F 16F 17F 16F 17F
DGKC Buy 235.0 8.4 8.6 1.0 0.9 3.0% 3.0%
LUCK Buy 750.0 9.6 8.5 2.3 2.0 3.2% 4.0%
MLCF Buy 106.0 9.1 8.6 1.9 1.8 6.0% 7.4%
CHCC Buy 131.0 11.2 9.2 1.8 1.6 3.3% 4.4%
FCCL Buy 42.0 11.2 10.9 2.7 2.5 6.8% 7.5%
PIOC Buy 125.0 10.9 8.0 2.2 2.0 5.5% 8.8%
Source: IMS Research
IMS Cement Universe
-20%
-10%
0%
10%
20%
30%
Jan
-15
Feb
-15
Ap
r-1
5
Ma
y-1
5
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 Index IMS Cement Universe
Source: IMS Research
Cements
Over Weight
Triggers
Strong domestic demand
Domestic cement demand has picked pace (+14.3%YoY) during 1HFY16
led by strong federal PSDP spending (+82%YoY) and improved private
sector lending related to construction activities (PkR108bn in Oct’15
end, +20%YoY). Stronger local sales more than made up for the exports
slump (-26.1%YoY in 1HFY16), keeping total dispatches growth at
4.7%YoY in 1HFY16. We expect dispatches to pick further pace on
continued domestic demand/normalizing exports trend.
CPEC can be an x-factor; private sector potential yet to be tapped
Cement sector will likely be a chief beneficiary of CPEC, given focus on
infrastructure development. Due to lack of clarity, valuation rerating
has thus far failed to take place; however, it should be observed in the
medium term where we hold a “when not if” view on CPEC.
Furthermore, private sector holds great potential for domestic demand
where current housing backlog stands at 9mn units, growing at 0.5mn
pa. In this regard, recent spate of new capacity announcements point
to the sector’s optimistic view.
Recent underperformance gives opportunity to build positions
Cements have underperformed in the recent market rout owing to
foreign selling/global market volatility even as the sector depicted
strong volumetric growth and jump in profitability (+30%YoY in
1QFY16). We expect to see similar earnings growth during rest of the
year due to persisting positive factors, where improving security
situation may provide further impetus to construction development.
Downside Risks:
(1) Potential price war when new expansions start rolling out
(2) Reversal in coal prices
(3) Interest rate up-cycle
(4) Reversal in security situation
15 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Sales (PkRmn) 43,083 44,761 46,398 50,266 53,859
Sales Growth (%) 13.9% 3.9% 3.7% 8.3% 7.1%
Npat (PkRmn) 11,894 13,756 16,679 18,885 20,672
EPS (PkR) 36.78 42.54 51.58 58.40 63.93
EPS Growth (%) 21.3% 15.7% 21.2% 13.2% 9.5%
PER (x) 13.46 11.64 9.60 8.48 7.74
ROE (%) 25.0% 22.8% 22.6% 20.7% 19.8%
ROA (%) 20.6% 18.7% 18.7% 17.6% 17.1%
BVS (PkR) 153.98 183.25 219.91 252.95 286.41
P/BVS (x) 3.22 2.70 2.25 1.96 1.73
CFS (PkR) 36.00 50.46 44.73 56.21 60.85
P/CFS (x) 13.75 9.81 11.07 8.81 8.13
DPS (PkR) 9.00 9.00 16.00 20.00 24.00
DY (%) 1.8% 1.8% 3.2% 4.0% 4.8%
Payout Ratio (%) 24.5% 21.2% 31.0% 34.2% 37.5%
Source: Company Accounts, IMS Research
Investment Thesis
• Lucky Cement (LUCK) has long reigned as the industry leader with the largest
market share (19%) together with the lowest cost structure. Medium-term
outlook for LUCK hinges on (i) capacity expansion in Pakistan, (ii) foreign JV
operations and (iii) diversification into different businesses.
• Given the attractive profitability of cement business and capacity constraints
(88% utilization in FY15), LUCK announced a 2.3mn tpa plant in Punjab at the cost
of US$200mn. The plant is expected to come online in 2QCY18 and will enable
LUCK to keep up with stronger anticipated demand. The company’s dispatches
are expected to grow at 5yr CAGR of 7%.
• While LUCK’s Iraq JV of 870k tpa cement grinding plant is operational since 2014,
its DR Congo JV of 1.18mn tpa cement plant is expected to come online in Oct’16.
Cross-border expansion is a natural counter to falling industry-wide exports.
Furthermore, investments in ICI and energy projects (660MW coal IPP and 50MW
wind farm) will help LUCK to effectively hedge against core business risks; in the
unlikely event of price war, LUCK will be the least impacted manufacturer due to
diversification (non-core businesses to contribute more than 40% of profitability
by FY21).
• Given its preeminence in the sector (and historically premium valuations), LUCK
trades at a cheap FY16/FY17F P/E of 9.6x/8.5x, attributable to its
underperformance in the latter half of 2015. Based on DCF valuation, our Jun’16
TP is PkR750/share, offering 51.5% upside.
Risks:
(i) Price war but LUCK to be least impacted by this event risk
(ii) Reversal in international coal prices but has a relative edge due to RDF in place
(iii) Delay in ongoing expansion to miss high growth period
LUCK vs. KSE100 Index
-20%
0%
20%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
LUCK KSE100 Index
Source: KSE
Lucky Cement Limited Price (PkR/sh) 495.04
Bloomberg / Reuters LUCK PA / LUKC.KA
Mkt Cap (US$mn) 1,528.4
52wk Hil-Low (PkR/sh) 590.01-424.8
3m Avg. Daily Vol ('000 shrs) 254
3m Avg. Traded Val (US$mn) 1.25
Lucky Cement Limited Valuations not reflecting premium status
Target Price: PkR750.0
Current Price: PkR495.04
Upside Potential: 51.5%
BUY
16 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Sales (PkRmn) 6,451 6,565 7,278 9,409 11,838
Sales Growth (%) 2.5% 1.8% 10.9% 29.3% 25.8%
Npat (PkRmn) 1,316 1,288 1,428 1,730 2,237
EPS (PkR) 7.45 7.29 8.09 9.80 12.66
EPS Growth (%) 7.5% -2.1% 10.9% 21.2% 29.3%
PER (x) 12.10 12.37 11.15 9.21 7.12
ROE (%) 30.7% 20.0% 17.1% 18.7% 21.2%
ROA (%) 22.9% 16.2% 9.0% 7.8% 10.1%
BVS (PkR) 27.54 45.44 49.03 55.82 63.48
P/BVS (x) 3.27 1.98 1.84 1.62 1.42
CFS (PkR) 3.09 12.04 9.47 13.70 17.11
P/CFS (x) 29.20 7.49 9.53 6.58 5.27
DPS (PkR) 1.73 3.00 3.00 4.00 5.00
DY (%) 1.9% 3.3% 3.3% 4.4% 5.5%
Payout Ratio (%) 23.2% 41.1% 37.1% 40.8% 39.5%
Source: Company Accounts, IMS Research
Investment Thesis
• Cherat Cement (CHCC) has been operating close to 90% utilization since FY09,
failing to fully capitalize on the sector’s recent domestic demand pickup. This is
set to change, however, with CHCC’s ongoing expansion slated to come online earlier than for peers. To recall, CHCC is in midst of setting up a brown-field plant
of 1.3mn tpa capacity (2.2x of its existing capacity). The plant is expected to come
online by the start of 2HCY17, which will help CHCC to cater to swiftly growing
demand in the northern region. We expect CHCC’s dispatches (5yr CAGR: 13%) to
outpace peers.
• In order to manage energy costs efficiently, CHCC is setting up a 6MW WHR on its new line. New WHR is expected to begin operations at the same time as new
capacity comes online. This is expected to result in annualized after tax savings of
PkR1.52/share from FY18F onwards.
• CHCC’s expansion is being financed by the mix of debt and equity, which is
expected to increase its D/E from 3% in FY15 to 141% in FY16F. Though interest
rate liftoff next year poses risks, this remains an ideal time for expansion as the DR should remain in single-digits across the medium term.
• FY16F P/E of 11.2x compresses to 9.2x for FY17F and to 7.1x for FY18F as
expansion kicks in. Going by strong earnings growth in medium term (5yr CAGR:
19%), interim high multiples are justified. Based on DCF valuation, our Jun’16 TP
is PkR131/share, offering 45% upside.
Risks:
(i) Highly exposed in price war scenario due to low business/energy diversification
(ii) Reversal in international coal prices
(iii) Interest rate up-cycle poses risk due to higher expected leverage for expansion
(iv) Delay in ongoing expansion to miss high growth period
CHCC vs. KSE100 Index
-20%
0%
20%
40%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
CHCC KSE100 Index
Source: KSE
Cherat Cement Company Limited
Price (PkR/sh) 90.18
Bloomberg / Reuters CHCC PA / CHRC.KA
Mkt Cap (US$mn) 152.1
52wk Hil-Low (PkR/sh) 94.82-65.36
3m Avg. Daily Vol ('000 shrs) 289
3m Avg. Traded Val (US$mn) 0.24
Cherat Cement Company Limited Early Bird
Target Price: PkR131.0
Current Price: PkR90.18
Upside Potential: 45.3%
BUY
17 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Sales (PkRmn) 8,025 8,426 9,166 10,033 10,917
Sales Growth (%) 6.0% 5.0% 8.8% 9.5% 8.8%
Npat (PkRmn) 1,769 2,496 1,893 2,576 2,859
EPS (PkR) 7.79 10.99 8.33 11.34 12.59
EPS Growth (%) 15.2% 41.1% -24.2% 36.1% 11.0%
PER (x) 11.67 8.27 10.90 8.01 7.22
ROE (%) 27.3% 33.0% 21.5% 26.2% 26.6%
ROA (%) 15.1% 20.8% 14.7% 18.5% 20.0%
BVS (PkR) 29.95 36.69 40.99 45.60 48.95
P/BVS (x) 3.03 2.48 2.22 1.99 1.86
CFS (PkR) 7.30 14.78 7.33 12.74 14.02
P/CFS (x) 12.35 6.10 12.30 7.08 6.43
DPS (PkR) 4.25 6.25 5.00 8.00 10.00
DY (%) 4.7% 6.9% 5.5% 8.8% 11.0%
Payout Ratio (%) 54.6% 56.9% 60.0% 70.5% 79.4%
Source: Company Accounts, IMS Research
Investment Thesis
• PIOC has been operating at low utilization averaging 60% since between FY09-15,
where its growing domestic demand was offset by falling exports to Afghanistan.
Now that swift exports decline is expected to normalize, its overall utilization will
likely go up. A glimpse of it was seen in 1HFY16 dispatches that grew by 4.6%YoY
(second highest after FCCL).
• PIOC has the highest exposure in local market (local dispatches proportion: 94%
in FY15) among its peers, which makes it attractive in current strong domestic
demand/falling exports theme. Note that PIOC’s reported earnings are expected
to go down by 24%YoY in FY16 due to non-recurring unrealized gains of
PkR2.46/share in FY15 owing to ADB/AFIC debt written off.
• PIOC has been completely reliant on national grid resulting in one of the highest
energy costs (PkR2,619/ton in FY15 compared with IMS Cement Universe average
of PkR1,896/ton in FY15). As a result, it has taken the initiative to setup 12MW
WHR plant that is expected to come online in the start of FY17. WHR is expected
to fulfill 37% of PIOC’s power requirement and contribute annualized after tax
savings of PkR2.20/share from FY17F.
• Despite holding the fastest growth potential, PIOC trades at a FY16F/FY17F P/E of
10.9x/8.0x. We project its earnings to grow at 5yr CAGR of 15% that can go
higher depending on +ve surprises from CPEC and PSDP spending. Based on DCF
valuation, our Jun’16 TP is PkR125/share offering 37.6% upside.
Risks:
(i) Highly prone to price war risk due to low diversification and high cost structure
(ii) Reversal in coal prices
(iii) Interest rate up-cycle is a potential risk if CHCC finances WHR through debt
PIOC vs. KSE100 Index
-30%
-15%
0%
15%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
PIOC KSE100 Index
Source: KSE
Pioneer Cement Limited
Price (PkR/sh) 90.86
Bloomberg / Reuters PIOC PA / PION.KA
Mkt Cap (US$mn) 197.0
52wk Hil-Low (PkR/sh) 95.04-74.86
3m Avg. Daily Vol ('000 shrs) 398
3m Avg. Traded Val (US$mn) 0.33
Pioneer Cement Company Limited Holding the fastest growth potential
Target Price: PkR125.00
Current Price: PkR90.86
Upside Potential: 37.6%
BUY
18 | P a g e
Pakistan Strategy
Receivables in the power sector have stalled (PkRbn)
0
50
100
150
200
250
1Q
10
3Q
10
1Q
11
3Q
11
1Q
12
3Q
12
1Q
13
3Q
13
1Q
14
3Q
14
1Q
15
3Q
15
1Q
16
HUBC KAPCO PSO
Source: Bloomberg & IMS Research
Oil & Gas Marketing
Muhammad Saad Ali, CFA
Investment Analyst
+92-21-37131610 – Ext.205
___________________________________
SYM Rating TP PE (x) PB (x) DY (%)
(PkR) 16F 17F 16F 17F 16F 17F
PSO Buy 458.0 6.2 5.9 0.9 0.9 4.0% 7.4%
APL Buy 643.0 10.2 8.8 2.9 2.8 8.5% 9.9%
HASCOL Buy 176.0 11.4 10.1 2.8 2.4 4.2% 4.2%
Source: IMS Research
IMS OMC Universe
-15%
-10%
-5%
0%
5%
10%
15%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 Index IMS OMC Universe
Source: IMS Research
Over Weight
Triggers
Volume growth of retail fuel has surpassed 5-yr average
A major positive for the Oil Marketing Companies (OMCs) at large is the
growth trend in sales of petrol (MS) and diesel (HSD). This is the major
characteristic driving our optimism for OMCs because these are cash
sales – payout positive and circular debt negative.
Low oil prices has positives for the sector as well
Even though declining oil prices have led to ugly inventory losses, we
think it has benefited the sector as well. In case of PSO, furnace oil (FO)
sales have more than halved since the US$100/bbl scenario, which
enables both the GoP and PSO to better manage cash-flows and subdue
circular debt buildup (manifested in declining receivables, albeit
gradual). Also, retail fuel now contributes much more to bottom line
and increases distributable earnings. Low oil prices may also keep PkR
depreciation (and thus exchange losses) in check.
Major improvement in circular debt is still due
The root causes of circular debt have not subsided – only the
magnitude has reached more manageable levels, in our view. We opine
privatization of the “inefficient” discos and rationalizing power fuel mix
(more generation from coal/hydel plants) are among the most
pertinent solutions. Reportedly, recoveries have improved by 4ppt to
91% and line losses have fallen by 2ppt to 17%. We would revisit if the
trend persists.
Recurring earnings may normalize further
With the present bearishness in oil market, FO margins may come
further down, elongating the decline in recurring earnings in 2016.
Downside Risks:
(1) Further deterioration in oil prices (inventory losses)
(2) Heavy PkR depreciation (exchange losses)
(3) Rebound in circular debt buildup
Low oil prices sustaining robust growth in petrol/HSD sales
-
1,000
2,000
3,000
4,000
5,000
6,000
7,000
8,000
9,000
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
E
20
17
E
HSD MS
Source: Bloomberg & IMS Research
19 | P a g e
Pakistan Strategy
Target Price: PkR458.0
Current Price: PkR325.77
Upside Potential: 40.6%
BUY
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Sales (PkRmn) 1,187,639 913,094 664,287 706,966 976,123
Sales Growth (%) 8.0% -23.1% -27.2% 6.4% 38.1%
Npat (PkRmn) 21,818 6,936 14,285 15,052 16,772
EPS (PkR) 80.31 25.53 52.58 55.40 61.73
EPS Growth (%) 72.6% -68.2% 105.9% 5.4% 11.4%
PER (x) 4.06 12.76 6.20 5.88 5.28
ROE (%) 27.8% 8.4% 15.2% 14.6% 15.2%
ROA (%) 6.7% 1.9% 4.5% 5.1% 5.3%
BVS (PkR) 289.38 302.96 345.41 380.65 405.62
P/BVS (x) 1.13 1.08 0.94 0.86 0.80
CFS (PkR) -209.46 -67.84 148.23 43.54 -26.37
P/CFS (x) n.m n.m 2.20 7.48 n.m
DPS (PkR) 7.64 10.00 13.00 24.00 30.00
DY (%) 2.3% 3.1% 4.0% 7.4% 9.2%
Payout Ratio (%) 9.5% 39.2% 24.7% 43.3% 48.6%
Source: Company Accounts, IMS Research
Investment Thesis
• PSO is the largest OMC in Pakistan with a 55% market share and largest retail
network (3500 pumps). Having endured a tough period across CY08-CY14,
fortunes are beginning to turnaround with (i) subdued buildup of circular debt
stock in 1HFY16; (ii) sharp inventory/FX losses balanced with timing of
inventories; (iii) LNG sales counter downtrend in FO sales and granular details of
tripartite agreement indicates LNG imports may be circular debt; and (iv)
increased economic activity (incl. additions to road network and rising car sales).
• We expect strong rebound in core profitability during FY16F on improved
volumetric sales underpinned by (i) overall pickup in economic activities (amid
improving GDP growth), (ii) enhanced vehicle population outlook (FY16-FY20F:-
Local Cars: +8%pa, Motorcycle +11%pa, Imported Cars: +10%pa) and (iii)
potential resurgence in the high-margin lubricants market.
• PSO receivables are expected to standstill in the near term. This is majorly
attributed to government’s ability to ensure swift payments in the overall energy
chain. A potential upside for PSO is the settlement of outstanding net penal
income of about PkR35bn.
• Improving cash-flow dynamics will gradually improve payout, which can trigger
valuation rerating (lower discount to overall market multiples). PSO trades at a
FY16F P/E of 6.2x (29% disc. to market) where our Jun’16 TP of PkR458/share
offers 40.6% upside.
Risks
(i) Sharp rebound in oil prices negative for circular debt buildup and cash-flow.
(ii) Weaker PkR (exchange losses)
(iii) Inventory losses from oil price volatility.
PSO vs. KSE100 Index
-40%
-20%
0%
20%
Jan
-15
Fe
b-1
5
Ap
r-1
5
Ma
y-1
5
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
PSO KSE100 Index
Source: KSE
Pakistan State Oil Co. Ltd. Price (PkR/sh) 325.77
Bloomberg / Reuters PSO PA / PSO.KA
Mkt Cap (US$mn) 844.1
52wk Hil-Low (PkR/sh) 408.05-287
3m Avg. Daily Vol ('000 shrs) 589
3m Avg. Traded Val (US$mn) 1.87
Pakistan State Oil Beneficiary of potential improvement in the power sector
20 | P a g e
Pakistan Strategy
Pakistan Autos – OEM sales volume
0
20,000
40,000
60,000
80,000
100,000
120,000
FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15
HCAR PSMC INDU
Source: PAMA & IMS Research
Industry sales volume
0
5,000
10,000
15,000
20,000
25,000
30,000
35,000
0
40,000
80,000
120,000
160,000
200,000
FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15
LCVs & Pickups (Rhs) Trucks (Rhs) Cars Tractors
Source: PAMA & IMS Research
Automobile Assembler
Yusra Beg
Investment Analyst
+92-21-37131600 Ext.306
___________________________________
IMS Auto Sector vs. KSE100 Index
-20%
0%
20%
40%
60%
Jan
-15
Feb
-15
Ap
r-1
5
Ma
y-1
5
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 Index IMS Auto Universe
Source: IMS Research
Over Weight
Triggers
The year begins with a whiff of expansion
Pakistan Autos depicted strong volumetric growth in FY15 (+28%YoY)
and are expected to continue their dream run on expected expansions.
Talks of new variants by PSMC, HCAR and GHNL have already emerged
alongside potential entry of new names in the market (Volkswagen,
Renault). Suzuki has internationally launched their 660cc variant along
with Nissan’s recent addition; Redi Go and Go Plus in India. Although
official announcements are awaited, we believe the new Auto Policy
(based on draft) provides healthy tariff rationalization measures,
setting the stage for expansion by local OEMs.
Input costs in control
Rapid increase in output capacities by Chinese steel makers created
oversupply in the international steel market with prices nose-diving to
as low as US$361/MT (CRC: -36.5%YoY in CY15). We expect steel prices
to continue to remain depressed in the next year, which would prove
beneficial for local OEMs in terms of margins sustainability.
Furthermore, the JPY – a key denomination for CKD imports –
depreciated 4% vs. the PkR in CY15 on QE measures undertaken by the
BoJ and is expected to continue to remain depressed into 2016.
Draft Auto Policy - Positive measures in the offing
We believe that the Draft Auto Policy, if instated in its present form,
will be positive for local auto sector via margin improvement from
lower duty structure. Among listed players, GHNL (Category-A) will
likely be the biggest beneficiary on planned launch of the new Datsun
brand in 2016. HCAR would be falling into Category-B of the policy
against roll-out of HR-V (1497cc) with no other major incentives for
PSMC. 3-year import policy for used cars is expected to persist.
Downside Risks:
(1) Behavior of margins over medium-term with US$, JPY and int’l steel
prices being key variables.
(2) Entry of new players increasing competition for incumbents.
21 | P a g e
Pakistan Strategy
Insurance
Abdul Ghani Fatani
Investment Analyst
+92-21-3713600 – Ext 305
___________________________________
IMS Insurance Sector vs. KSE100 Index
-20%
-10%
0%
10%
20%
30%
Jan
-15
Feb
-15
Ap
r-1
5
Ma
y-1
5
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 Index IMS Insurance Universe
Source: IMS Research
Over Weight
Triggers
Macro uptick to drive premiums
Ongoing macro uptick leads us to prefer Non-Life over Life Insurance.
We expect robust growth in premiums (9MCY15: 15%YoY) to accelerate
on expansions in Corporate Pakistan, with medium-term impetus to
arise from CPEC projects. Key beneficiaries likely to include the larger
companies such as AICL (no.2 player), which is already exhibiting a
stellar turnaround in underwriting operations.
Auto insurance: A lot more to offer
Increase in discretionary income coupled with marked pickup in auto
finance (+35%YoY) is driving demand for auto insurance. This trend is
likely to further entrench across the medium-term on anticipated
introduction of new car models/possible OEM expansions. Auto
insurance accounts for almost 50% of AICL’s premiums.
Loss ratio to narrow down further
Loss ratio has hit 10-year low (49.3% in 9MCY15 vs. 71.0% in CY07),
supported by improvement in security situation. Improvement in the
latter appears sustainable which can drive higher underwriting profits
going forward.
Takafuls & national health schemes
In an effort to address religious concerns, acceleration of Islamic
insurance (Takaful) could drive LT industry growth. Potential expansion
of national health schemes is also a trigger.
Downside Risks:
(1) Natural disasters
(2) Deterioration in political & security climate
(3) Weak financial markets performance could inhibit investment
income
Claim ratios has fallen…
40%
45%
50%
55%
60%
65%
70%
75%
CY0
6
CY0
7
CY0
8
CY0
9
CY1
0
CY1
1
CY1
2
CY1
3
CY1
4
9M
CY1
5
Source: IMS Research
…with support coming in from impressive growth in premiums
-10%
-5%
0%
5%
10%
15%
20%
10,000
15,000
20,000
25,000
30,000
CY0
7
CY0
8
CY0
9
CY1
0
CY1
1
CY1
2
CY1
3
CY1
4
9M
CY1
5(PkRmn)
Net Premium Growth in premium (RHS)
Source: IMS Research
22 | P a g e
Pakistan Strategy
LT Loan growth turnaround already underway
0%
5%
10%
15%
20%
25%
2,700
2,800
2,900
3,000
3,100
3,200
Feb
-14
Ma
r-1
4
Ap
r-1
4
May
-14
Jun
-14
Jul-
14
Au
g-1
4
Sep
-14
Oct
-14
No
v-1
4
De
c'1
4
Jan
'15
Feb
-15
Ma
r-1
5
Ap
r-1
5
May
-15
Jun
-15
Jul-
15
Au
g-1
5
Sep
-15
Oct
-15
No
v-1
5
(PkRmn)
Loan to pvt. sector LT Finance Growth (RHS)
Source: SBP & IMS Research
Valuation re-rating theme supported by macro improvement
Jan
-08
No
v-0
8
Oct
-09
Au
g-1
0
Jul-
11
May
-12
Ap
r-1
3
Mar
-14
Jan
-15
De
c-1
5
(x)
2.0
1.5
1.0
0.5
Big 5- Pbv (x)
Source: IMS Research
Commercial Banks
Abdul Ghani Fatani
Investment Analyst
+92-21-3713600 – Ext 305
___________________________________
SYM Rating TP PE (x) PB (x) DY (%)
(PkR) 16F 17F 16F 17F 16F 17F
ABL Buy 130.0 6.1 5.8 1.1 1.0 8.0% 8.2%
MCB Buy 267.0 8.4 8.3 1.6 1.5 7.4% 7.4%
NBP Accum. 60.0 6.4 6.1 0.6 0.6 11.6% 12.0%
HBL Accum. 235.0 8.2 7.8 1.5 1.4 7.5% 7.7%
UBL Buy 195.0 6.9 6.5 1.1 1.0 8.4% 9.0%
Source: IMS Research
IMS Bank Universe vs. KSE100 Index
-30%
-20%
-10%
0%
10%
20%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 Index IMS Bank Universe
Source: IMS Research
Market Weight
Triggers
Credit cycle uptick
Loan/GDP is 15% vs. peak of 27% in 2007 but turnaround is visible. LT
loans are already growing at 20%YoY with headline loan growth to
accelerate on macro uptick underpinned by (i) CPEC demand (direct
and ancillary), (iii) stabilizing commodity prices and (iii) higher urban
incomes (consumer credit). 22% loan CAGR across CY02-07 is a bull case
scenario, with capital buffer to determine outperforming banks.
Regulatory risks played out
2015 saw (i) 300bps cut in DR, (ii) continued steps to trim spreads and
(iii) higher one-off taxation. 2016 should be better with anticipated
interest rate increase in May’16 MPS a key trigger, particularly as
further spread tightening measures are unlikely. Our average DR
projections for CY16/17/18F are 7.0%/8.0%/8.5%.
Valuation rerating
ROEs will stabilize in CY16/17F before a U-shaped recovery. With last
valuation rerating in 2013 (general elections), we argue that the market
has only priced in macro stabilization and not a much improved
economic and security outlook. Big-5 forward P/B and P/E are an un-
stretched 1.16x/7.42x (ex-NBP: 1.32x/7.58x) with 8.2% D/Y implying
limited downside.
Capital gains & credit costs
9MCY15 capital gains are 8% of PPOI and can sustain as per precedence
(similar levels in low interest rate cycle across CY03-04) while systemic
coverage of 81% implies low credit costs ahead. With capital gains and
provisions having capacity to deliver +ve surprises, the market appears
overly cautious on CY16F growth outlook.
Downside Risks:
(1) Extension of repricing effect
(2) Reinvestment risk with large quantum of PIBs maturing in CY16F
(3) LT credit growth potential can lead to higher capital needs
23 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Net Int. Income (PkRmn) 43,641 49,444 51,318 52,310 60,076
NII Growth (%) 14.9% 13.3% 3.8% 1.9% 14.8%
NPAT (PkRmn) 24,656 27,007 28,621 29,045 32,238
NPAT Growth (%) 12.7% 9.5% 6.0% 1.5% 11.0%
EPS (PkR) 22.15 24.26 25.71 26.10 28.96
PER (x) 9.81 8.96 8.45 8.33 7.50
ROE (%) 19.6% 19.0% 18.8% 18.1% 18.8%
ROA (%) 2.8% 2.6% 2.5% 2.3% 2.4%
BVS (PkR) 121.97 122.99 139.87 147.74 159.62
P/BVS (x) 1.78 1.63 1.55 1.47 1.36
Yield on earning assets 10.1% 9.1% 8.5% 8.6% 9.0%
Cost of funds 4.7% 3.9% 3.5% 4.0% 4.2%
NIMs 5.4% 5.3% 5.0% 4.6% 4.8%
DPS (PkR) 14.00 15.00 16.00 16.00 17.50
DY (%) 6.5% 6.9% 7.4% 7.4% 8.1%
Source: Company Accounts, IMS Research
Investment Thesis
• Significant capital buffer (CAR: 20.3%) and low ADR levels (< 45%) position MCB
as a prime beneficiary of the domestic credit cycle uptick, particularly as 98% of
the business is in Pakistan vs. 70%-80% for UBL and HBL.
• While differential on cost leadership (C/I: 34% vs. 42% for peers) and NIMs (5.2%
vs. 4.5% for peers) isn’t as acute as it used to be, asset quality remains
significantly superior with provisioning reversals booked in nine of the last 10
quarters. MCB’s track record suggests better risk management in ongoing loan
growth cycle.
• MCB trades at a CY16F P/B of 1.55x, P/E of 8.45x and D/Y of 7.4% with P/B
trading 15% lower than last 5yr average. A relatively conservative stance has held
MCB back but (i) launch of separate Islamic banking operations and (ii)
management guidance for medium-term loan growth outlook (17%-18%YoY)
indicates a shift.
• Significant capital gains backlog (Sep’15: PkR23.1bn pre-tax) opens room for
positive earnings surprises. Even in absence of high capital gains, strong capital
base should keep dividend trajectory intact, limiting share price downside.
Risks
(i) Sizeable exposure in PIBs (48% of investments in Sep’15), a significant portion of
which matures in CY16F, exposes MCB to reinvestment risk.
(ii) Repricing effect to extend into next year as DR is unlikely to rise before May’16.
(iii) Failure to adequately participate in the loan growth cycle could lead to our
earnings estimates being missed.
MCB vs. KSE100 Index
-40%
-30%
-20%
-10%
0%
10%
20%
Jan
-15
Fe
b-1
5
Ap
r-1
5
Ma
y-1
5
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
MCB KSE100 Index
Source: KSE
MCB Bank Limited Price (PkR/sh) 216.85
Bloomberg / Reuters MCB PA / MCB.KA
Mkt Cap (US$mn) 2,304.4
52wk Hil-Low (PkR/sh) 338.82-205.34
3m Avg. Daily Vol ('000 shrs) 366
3m Avg. Traded Val (US$mn) 0.78
MCB Bank Limited Still the go-to bank
Target Price: PkR267.0
Current Price: PkR216.85
Upside Potential: 23.1%
BUY
24 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Net Int. Income (PkRmn) 28,173 36,273 37,053 40,174 45,399
NII Growth (%) 30.1% 28.8% 2.2% 8.4% 13.0%
NPAT (PkRmn) 15,202 16,114 17,587 18,710 20,667
NPAT Growth (%) 2.8% 6.0% 9.1% 6.4% 10.5%
EPS (PkR) 13.28 14.07 15.36 16.34 18.05
PER (x) 7.10 6.70 6.14 5.77 5.22
ROE (%) 20.5% 18.3% 17.8% 17.5% 17.7%
ROA (%) 1.9% 1.8% 1.7% 1.6% 1.6%
BVS (PkR) 71.23 82.50 89.65 97.46 106.52
P/BVS (x) 1.32 1.14 1.05 0.97 0.89
Yield on earning assets 9.7% 8.7% 8.1% 8.6% 8.9%
Cost of funds 5.6% 4.3% 4.1% 4.5% 4.7%
NIMs 4.1% 4.4% 4.0% 4.1% 4.2%
DPS (PkR) 6.50 7.00 7.50 7.75 8.50
DY (%) 6.9% 7.4% 8.0% 8.2% 9.0%
Source: Company Accounts, IMS Research
Investment Thesis
• Similar to MCB, strong capital buffer (CAR: 22.2%) and domestic focus are key
positives in the current operating environment while sizeable equity exposure
lowers ABL’s susceptibility to low interest rates.
• Significant capital gains backlog on equities (PkR17.5bn, pre-tax) opens room for
positive earnings surprises in the medium term particularly if SBP does not budge
on investment limit requirement (30% of Tier-I Equity). On the flipside, current
equity portfolio warrants strong dividend income via high yielding scrips like
HUBC, KAPCO and FATIMA.
• We believe ABL is underappreciated on cost efficiency (C/I: 40%, 2nd
best after
MCB) and on asset quality (NPL ratio: 6.8%, Coverage: 90%) which results in
strong ROA/Tier-I ROE of 1.8%/23.8%.
• ABL has shed 19% from its 52wk high of PkR116/share to trade at a CY16F P/B of
1.05x, P/E of 6.14x and D/Y of 8.0%. We flag (i) excessive discount to MCB on P/B
despite similarity on key metrics including ROE; and (ii) limited risks to dividend
sustainability going by strong CAR. Low liquidity in the stock does not warrant
such a steep valuation discount, in our view.
Risks (i) Extension of repricing effect into CY16F will likely keep NII in check while
significant exposure in PIBs (62% of investments) suggests greater reinvestment
risk for ABL.
(ii) Traditional conservative management stance with respect to lending can lead to
ABL missing out compared to more nimble peers.
ABL vs. KSE100 Index
-30%
-20%
-10%
0%
10%
20%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
ABL KSE100 Index
Source: KSE
Allied Bank Limited
Price (PkR/sh) 94.26
Bloomberg / Reuters ABL PA / ABL.KA
Mkt Cap (US$mn) 1,030.5
52wk Hil-Low (PkR/sh) 116.05-90.11
3m Avg. Daily Vol ('000 shrs) 67
3m Avg. Traded Val (US$mn) 0.06
Allied Bank Limited Underappreciated
Target Price: PkR130.0
Current Price: PkR94.26
Upside Potential: 37.9%
BUY
25 | P a g e
Pakistan Strategy
Local urea price discount to international
-
800
1,600
2,400
3,200
Jan
-10
May
-10
Sep
-10
Jan
-11
May
-11
Sep
-11
Jan
-12
May
-12
Sep
-12
Jan
-13
May
-13
Sep
-13
Jan
-14
May
-14
Sep
-14
Jan
-15
May
-15
Sep
-15
Urea-Ex factory Price (PkR/bag) Imported Urea price (PkR/bag)
Source: IMS Research
Gas supply vs. fertilizer production
0
100
200
300
400
500
600
700
0%
20%
40%
60%
80%
100%
FY09 FY10 FY11 FY12 FY13 FY14 FY15
NP/NPK CAN DAP Urea Gas (mmcfd)-Rhs
Source: NFDC & IMS Research
Fertilizer
Abdul Samad Khanani
Investment Analyst
+92-21-37131600 Ext.303
___________________________________
SYM Rating TP PE (x) PB (x) DY (%)
(PkR) 16F 17F 16F 17F 16F 17F
FFC Accum. 136.0 7.9 7.4 5.6 5.2 12.0% 12.3%
EFERT Buy 109.0 7.3 6.9 2.6 2.3 9.2% 10.7%
FFBL Buy 73.2 11.8 6.8 3.5 3.2 7.6% 11.4%
FATIMA Buy 55.0 8.1 7.6 2.0 1.8 7.3% 7.8%
Source: IMS Research
IMS Fertilizer Universe
-20%
-10%
0%
10%
20%
30%
40%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 Index IMS FERTILIZER Universe
Source: IMS Research
Market Weight
Triggers
Pricing power warrants selective stance
Recent announcement by China to keep export tariff on Urea/DAP
constant at RMB80/ton (US$12-13/ton) and reduction in anthracite
coal prices by 16%CYTD/11%FYTD provides us with a new floor Urea rate between US$230-235/ton.
With limited pricing power (official Urea prices at par to int’l urea prices
of US$240/ton) amidst increased gas pricing (+62%/23% for old
fertilizer plants on feed/fuel), medium-term core outlook on volumes
and pricing power is unexciting particularly for the Fauji’s. Others like
EFERT and FATIMA which are fairly immune to gas price increase should be the preferred plays on core fertilizers.
Attractive dividend yields
Fertilizer as a sector is known for its decent yield of 8%-9% (spread over
12M KIBOR: 271bp), we flag a possible shift towards higher payouts
from EFERT due to lack of investment opportunities and high cash
generation, while FFC may remain a pure yield play.
Improvement in Gas Supply
Fertilizer sector consumes nearly 15% of total gas production. With
improvement in gas supply from SSGC and MARI, fertilizer production
including Urea, DAP, CAN and NP/NPK improved 12.5%YoY in FY15. We
expect this trend to continue coupled with lower urea imports (200k-
300k tons) due to higher gas production and import of LNG.
Diversification in Power & Food sectors
Issue of price congestion exists but concessionary gas plays (EFERT &
FATIMA) are relatively immune. Those exposed to core business risks
(FFC & FFBL) are in the midst of aggressive diversification in Food,
Power and Banking. We believe near to medium-term price
performance for the Fauji’s is likely to be more a function of their diversification projects than the core fertilizer business.
Downside Risks:
(1) Further reduction in international Urea/DAP prices.
(2) Increase in gas curtailment
(3) Steep increase in gas prices
26 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Sales (PkRmn) 61,425 86,418 81,146 80,499 81,891
Sales Growth (%) 22.5% 40.7% -6.1% -0.8% 1.7%
Npat (PkRmn) 8,208 14,533 15,262 16,203 17,242
EPS (PkR) 6.17 10.92 11.47 12.17 12.95
EPS Growth (%) 49.3% 77.0% 5.0% 6.2% 6.4%
PER (x) 13.64 7.70 7.34 6.91 6.49
ROE (%) 23.8% 37.6% 35.0% 33.9% 32.6%
ROA (%) 7.4% 15.1% 16.5% 17.5% 17.3%
BVS (PkR) 25.91 29.00 32.72 35.89 39.77
P/BVS (x) 3.25 2.90 2.57 2.34 2.12
CFS (PkR) 10.99 10.06 3.16 3.43 3.73
P/CFS (x) 7.65 8.36 26.60 24.51 22.55
DPS (PkR) 3.00 6.25 7.75 9.00 9.08
DY (%) 3.6% 7.4% 9.2% 10.7% 10.8%
Payout Ratio (%) 48.6% 57.2% 67.6% 73.9% 70.1%
Source: Company Accounts, IMS Research
Investment Thesis
• EFERT is highest conviction play in IMS Fertilizer Universe, due to (i)
concessionary gas pricing, (ii) room for +ve surprises in shape of additional gas
supply (iii) swift deleveraging of balance sheet and (iv) decent expected payouts.
• With every PkR10/bag movement in Urea prices, EFERT’s earnings adjust by
PkR0.11/share. We place baseline earnings at PkR11.47/12.17 in CY16/CY17F,
while any possible extension at current gas prices (urea prices: PkR1,959/bag)
should provide for earnings upside of PkR2.3/PkR2.5 in CY16F/CY17F.
• With ECC yet to make a final decision regarding gas supply from current and
future prospects, gas pricing and timeline remain key. We believe accessibility of
gas to old plant under 2012’s petroleum policy will create earnings room of
PkR1.06/1.05 in CY16F/CY17F (assuming weighted avg. GIDC rates).
• Coupled with swiftly de-leveraged balance sheet and Eximp’s DAP trading
contribution, EFERT is expected to pay decent payouts (medium term avg. D/Y
9%) Higher payouts would also serve the financing needs of parent ENGRO
Corporation (ENGRO).
• Our Jun’16 DCF based TP comes to PkR109/share, which offer 29.6% potential
upside coupled with 9.2% D/Y. Valuation methodology incorporates Beta of 1,
COE of 14.5% and WACC of 11.4%.
Risks (i) Steep downward revision in international Urea pricing.
(ii) Cancellation of subsidies under Kissan Package for farmers.
(iii) Diversion in gas and Urea prices going forward.
EFERT vs. KSE100 Index
-20%
-10%
0%
10%
20%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
EFERT KSE100 Index
Source: KSE
Engro Fertilizer Limited Price (PkR/sh) 84.13
Bloomberg / Reuters EFERT PA / ENGR.KA
Mkt Cap (US$mn) 1,069.0
52wk Hil-Low (PkR/sh) 99.19-73.47
3m Avg. Daily Vol ('000 shrs) 1,140
3m Avg. Traded Val (US$mn) 0.94
Engro Fertilizer Limited Safest exposure to Pakistan’s Fertilizer space
Target Price: PkR109
Current Price: PkR84.13
Upside potential: 29.6%
BUY
27 | P a g e
Pakistan Strategy
Oil & Gas Exploration
Major production additions & discoveries in FY16
Field Stakeholders Estimated addition
Mardankhel OGDC, PPL, POL 2500bpd of oil
Adhi OGDC, PPL, POL 1000-1500bpd of oil
Makori East OGDC, PPL, POL 1000-1500bpd of oil
KPD-TAY OGDC 3000-4000bpd oil & 125mmcfd
Sinjhoro OGDC 2000bpd oil
Discoveries Stakeholders Estimated production
Kalabagh Mari 840bpd oil & 8mmcfd gas
Fazl PPL, Mari 50bpd oil & 20mmcfd gas
Dhok Sultan PPL 253bpd oil & 2mmcfd gas
Gambat South PPL 56mmcfd gas
Source: KSE, PPIS
Correction in Pakistan E&Ps has been overblown
-80%
-60%
-40%
-20%
0%
20%
40%
Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 Dec-15
Arablight KSE100 Index OGDC PPL POL
Source: Bloomberg & IMS Research
Muhammad Saad Ali, CFA
Head of Research
+92-21-37131610 – Ext.205
___________________________________
IMS E&P Sector vs. KSE100 Index
-60%
-40%
-20%
0%
20%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 Index IMS E&P Universe
Source: IMS Research
Market Weight
Triggers
Subdued earnings growth amid “lower for longer” oil prices
With oil prices averaging US$56/bbl in 1HFY16, there is still no clarity
on the extent of downside in the near future. Negative triggers abound:
Iran will likely increase exports by about 0.5mnbpd in 1Q16; US
production/inventory decline are yet to excite investors adequately;
OPEC’s rhetoric has not changed; and China’s economic woes may
worsen. E&Ps in Pakistan (particularly ones with significant holding by
foreign investors) may therefore remain under pressure in CY16.
Production growth will moderate the downside
However, bearish positioning skews risk to the upside. One trigger that
may elevate investor sentiment is higher-than-expected production
growth in CY16. Among the major sources are: (1) Mardankhel in Tal
Block (stake-holders include: OGDC/PPL/POL) estimated to add about
2000-3000bpd of oil; (2) improvement from Adhi and Makori East (all
three exposed); (3) KPD-TAY (OGDC); (4) potentially Mari field (MARI).
Exploration success may improve sentiment
All four listed E&Ps have employed aggressive exploration strategy, in
order to counter decline in cash-flows and replace depleting reserves.
We think most promising assets include Tal Block, Gambat South (PPL
has already announced a discovery of 56mmcfd), Margala, Surqamar,
and Sup.
Positive regulatory changes are possible
Recently, the government has hinted more positive regulatory changes.
We await development on the conversion of discoveries in 2007-2012
to 2012 policy, which may improve realized gas prices. Also, increase in
gas price for new production from Mari field is positive for MARI.
Downside Risks:
(1) Further deterioration in oil prices
(2) Continued selling from foreign investors
(3) Dry wells and other E&P operational risks
28 | P a g e
Pakistan Strategy
Pharmaceuticals
Yusra Beg
Investment Analyst
+92-21-37131600 Ext.306
___________________________________
SYM Rating TP PE (x) PB (x) DY (%)
(PkR) 16F 17F 16F 17F 16F 17F
FEROZ Buy 1,639.0 11.4 15.4 3.5 4.6 6.7% 5.0%
Source: IMS Research
IMS Pharma Sector vs. KSE100 index
-30%
-20%
-10%
0%
10%
20%
30%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 Index IMS Pharma Universe
Source: IMS Research
Market Weight
Triggers
Increase in drug prices
Pakistan pharmaceuticals have fared well in the face of frozen prices
since 2012, however as per Drug Policy 2015, annual increase in drug
prices would be linked to CPI for both scheduled and non-scheduled
drugs. This would be a game changer for our listed pharmaceuticals,
which have witnessed subdude growth in core pharmaceutical
segments and will allow over 1500 pending applications with DRAP to
be processed for price increase with GLAXO, ABOT and SEARLE to be
major beneficiaries.
Rationalizing prices of hardship products
Hardship product formula, being the most controversial and politically
tinged segment, will have a transparent mechanism devised by the
Drug Policy Board, for drugs which have become unviable for the
market due to high production cost relating to life saving drugs for
fighting cancer, hepatitis, TB, Thalassemia etc. This would allow
smoother margins on these products; a +ve for ABOT, GLAXO, SANOFI,
FEROZ and SEARLE.
Era of nutrition and healthcare
Pharmaceuticals over the last three years have undertaken substantial
measures to target growth oriented segments namely: nutrition and
healthcare. With shift in consumer healthcare awareness, these
segments have flourished under better margins with focus on infant
formula, multivitamins, nutritional growth formula, oral hygiene etc.
With growing population and rising predisposition towards healthy
living, GLAXO, ABOT, IBLHL and SEARLE standout.
Downside Risks:
(1) Difficulty in implementation of Drug Policy for New Chemical Entries
with lack of clarity on pricing
(2) Depreciation of the PkR vs the US$ could put pressure on margins.
(3) Political disinclination to allow drug price increases
Pharma – Relatively cheap on PE vs. 22x (Reg. Avg)
54.5
29.3
22.6
21.7
18.5
11.4
- 20.0 40.0 60.0
SANOFI AVENTIS
HIGHNOON LAB
SEARLE PAKISTAN
GLAXOSMITHKLINE
ABBOT LABS PAK
FEROZESONS LABS
Source: IMS Research
Pharma Sector – Sales Trend (PkRmn)
14,331
16,29717,437
13,391 13,555 13,667
0
5,000
10,000
15,000
20,000
1Q 2Q 3Q
CY15TD CY14TD
Source: IMS Research
29 | P a g e
Pakistan Strategy
Valuation Multiples 2014A 2015A 2016F 2017F 2018F
Sales (PkRmn) 2,535 4,434 11,436 9,534 10,327
Sales Growth (%) 29.8% 74.9% 158.0% -16.6% 8.3%
Npat (PkRmn) 418 749 2,919 2,165 2,233
Net Margin (%) 16.5% 16.9% 25.5% 22.7% 21.6%
EPS (PkR) 13.83 24.80 96.69 71.72 73.97
EPS Growth (%) 36% 79% 290% -26% 3%
PER (x) 80.03 44.64 11.45 15.43 14.96
ROE (%) 15.4% 24.3% 30.1% 29.9% 30.8%
ROA (%) 13.2% 17.1% 26.2% 24.7% 25.0%
BVS (PkR) 89.95 101.84 320.79 240.06 240.55
P/BVS (x) 12.31 10.87 3.45 4.61 4.60
DPS (PkR) 12.00 19.00 74.08 54.95 56.68
DY (%) 1.1% 1.7% 6.7% 5.0% 5.1%
Payout Ratio (%) 86.8% 76.6% 76.6% 76.6% 76.6%
Source: Company Accounts, IMS Research
Investment Thesis
• In an environment where most pharmaceuticals have faced squeezed margins
amid frozen drug prices (till Jun’16), FEROZ’s flagship product Sovaldi (Sofosbuvir
Hep-C drug) has managed to build a niche.
• Sovaldi offers a very high success ratio, without the crippling side effects of
earlier treatments that took longer. FEROZ holds a monopoly in this segment,
through their contract for Sovaldi with Gilead Sciences at a cost of
US$1,922/24week course, vs US$84,000 in the international markets.
• Recent approval of manufacturing license for 14 pharmaceuticals (awaiting price
fixation), poses risk to thesis, where we incorporate the impact of potential entry
of Sofosbuvir into the market by 3QFY16. FEROZ is expected to counter with its
own manufacturing license; however, pressure may build up on earnings
sustainability for an interim period.
• While monopolies don’t tend to last, we believe the next few set of likely strong
results by FEROZ could provide a window to further propel share price
performance. Furthermore, while windfall earnings in FY16F are unlikely to
replicate, we still see potential for EPS of PkR70+ from FY17F onwards.
Risks (i) Entry of cheaper Sofosbuvir drugs into the market is a key downside risk.
(ii) Failure to grow other lines of business.
FEROZ vs. KSE100 Index
-30%
0%
30%
60%
90%
120%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
FEROZ KSE100 Index
Source: KSE
Ferozsons Laboratories Ltd.
Price (PkR/sh) 1,106.90
Bloomberg / Reuters FEROZ PA / FERO.KA
Mkt Cap (US$mn) 319.0
52wk Hil-Low (PkR/sh) 1133.84-475.05
3m Avg. Daily Vol ('000 shrs) 53
3m Avg. Traded Val (US$mn) 0.47
Ferozsons Laboratories Ltd. Still room for price play
Target Price: PkR1,639.0
Current Price: PkR1,106.9
Upside Potential: 48.1%
BUY
30 | P a g e
Pakistan Strategy
Furnace oil prices (PkR/ton) vs. Fuel charges (PkR/kwh)
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
25,000
35,000
45,000
55,000
65,000
75,000
85,000
Jul-
14
Au
g-1
4
Sep
-14
Oct
-14
No
v-1
4
De
c-1
4
Jan
-15
Feb
-15
Ma
r-1
5
Ap
r-1
5
May
-15
Jun
-15
Jul-
15
Au
g-1
5
Sep
-15
Oct
-15
No
v-1
5
FO Prices - Lhs Fuel Charges/Kwh
Source: Bloomberg and IMS Research
Source wise generation (Gwh)
1,000 11,000 21,000 31,000 41,000
Hydel
RFO
Gas
HSD
Nuclear
Coal
Others
FY14 FY15
Source: IMS Research
Power
Yusra Beg
Investment Analyst
+92-21-37131600 Ext.306
___________________________________
IMS IPPs Sector vs. KSE100 Index
-20%
-10%
0%
10%
20%
30%
Jan
-15
Feb
-15
Ap
r-1
5
Ma
y-1
5
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 Index IMS Power Universe
Source: IMS Research
Market Weight
Triggers
CPEC projects: Tip of the iceberg
CPEC can be a game changer for Pakistan, with the bulk of investments
riding on energy related projects (17500 MW worth US$33.7bn). These projects will provide swift uplift in Pakistan’s electricity generation
capacity (current: 22,700MW) with early harvest projects to come
online by 2017-18 (10,400MW). The impact of this massive addition
would resolve major sectoral issues, augmenting electricity generation
by 77%. This would ensure lower reliability on less efficient and costly
plants (GENCOs) and would reduce load shed.
Oil price decline: Cracking down on the viscous debt cycle
Despite GoP’s efforts against reoccurrence, the debt cycle emerged
with renewed vigor (over 2.5% of GDP) in Dec’14 before the plunge in
international crude prices came to the rescue. This sudden slump has significantly cut short incremental circular debt buildup in 2015; the
stock flattening at ~PkR300bn and expected to be brought down to
PkR211bn (-30%) by FY18. This would result in significant ease in
liquidity and fuel supply constraints for IPPs.
Phasing out RFO and rationalizing tariffs
Fuel mix shift from furnace oil (FO) based generation to alternative
resources (LNG/Coal) has begun with Pakistan’s first two coal fired
power plants under SECMC and Port Qasim recently achieving financial
close. This scenario suggests phasing out of FO (generation: -
13%FY16TD/-10%YoY in FY15) towards coal and LNG (new GSA of Rousch Power 450MW signed), affirming alteration of the GoP’s fuel
allocation policy (CNG diversion from domestic to power & fertilizer
sector). Moreover, gradual phasing out of tariff differential subsidies
while curtailing pass through of lower oil prices in electricity tariff
would precipitate liquidity for the entire energy sector.
Downside Risks:
(1) Any hindrance in materialization of CPEC projects.
(2) Rise in circular debt build up, constraining sector liquidity.
31 | P a g e
Pakistan Strategy
Food & Personal Care Products
Yusra Beg
Investment Analyst
+92-21-37131600 Ext.306
___________________________________
IMS Food Sector vs. KSE100 Index
-15%
-10%
-5%
0%
5%
10%
15%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 Index IMS Food Universe
Source: IMS Research
Under Weight
Triggers
Consumer staples demand decelerating
Consumer staples have witnessed a deceleration in sales in line with
the commodity downcycle punctuated by much lower crop prices (eg:
cotton: -20%YoY, rice: -21%YoY) and disproportionate increase in input
costs (Urea: +6.5%YoY). Considering the rural sector has been a key
propellant for growth, listed food sector sales have decelerated to
10%YoY, in stark contrast to the commodity cycle boom during FY06-11
where the consumer sector grew at a massive 30% CAGR. This trend
can lead to some de-rating in sector multiples (P/E: 36.5x).
LT potential is intact
Interim negatives aside, the LT potential is immense, aided by a large
young population, rising middle income group and increased
penetration of organized retail in tandem with growing awareness in
these segments. However, lift off may take some time in the FMCG
sector in Pakistan, given spending levels still remain well below
developed nations with the general trend tilted towards basic
necessities.
Margins provide respite
Continuous downtrend in value of FAO Food Price index since 2010
(188 points) could provide respite to margins on cheaper raw material
imports. FAO Food Index clocked in at 165.2 points in 2015 (-18%YoY)
propelled by downfall in sub-indices: Dairy and Sugar with oversupply
in the international markets and strengthening US$ being key factors
behind the decline.
Downside Risks:
(1) Extended depression in key commodity prices (rural income
compression).
(2) Continued rise in input costs.
(3) Potential valuation de-rating.
Pakistani staples are the most expensive in the region…
12.9
16.3
17.1
19.7
32.0
33.7
36.5
0 10 20 30 40
Thailand
Indonesia
Phillipines
Malaysia
India
China
Pakistan
PER (x)
Source: Bloomberg and IMS Research
…and may de-rate on rural income compression
0
500
1,000
1,500
2,000
2,500
-
50
100
150
200
250
Jan
-09
Jul-
09
Jan
-10
Jul-
10
Feb
-11
Au
g-1
1
Feb
-12
Sep
-12
Mar
-13
Sep
-13
Ap
r-1
4
Oct
-14
Ap
r-1
5
No
v-1
5
Urea PricesPkR/ton (Rhs) Basmati Rise (US$/QTL)
Cotton Prices (cents/pound)
Source: Economic Survey & IMS Research
32 | P a g e
Pakistan Strategy
China roiling the cotton market…
1,000
1,500
2,000
2,500
3,000
3,500
4,000
4,500
Jan
-03
Jan
-04
Jan
-05
Jan
-06
Jan
-07
Jan
-08
Jan
-09
Jan
-10
Jan
-11
Jan
-12
Jan
-13
Jan
-14
Jan
-15
0
50
100
150
200
250
China Stock to Use Ratio (Rhs) China grade Price (US$c/ton)
Source: Bloomberg
…and outlook for exports is unexciting
-10%
0%
10%
20%
30%
5,000
7,000
9,000
11,000
13,000
15,000
FY0
4
FY0
5
FY0
6
FY0
7
FY0
8
FY0
9
FY1
0
FY1
1
FY1
2
FY1
3
FY1
4
FY1
5
Textile Exports (US$mn) - Lhs PkR Dep. vs US$
Textile exports growth (%)
Source: PBS & SBP, IMS Research
Textiles
Abdul Samad Khanani
Investment Analyst
+92-21-37131600 Ext.303
___________________________________
IMS Textile Sector vs. KSE100 Index
-30%
-20%
-10%
0%
10%
20%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 Index IMS Textile Universe
Source: IMS Research
Under Weight
Triggers
International cotton dynamics call for caution
We are Underweight Textiles as the sector is at the wrong end of the
commodity down-cycle. With continuous signs of weakness in China –
the major consumer of global cotton – we see persistence of bear case
in cotton in the medium term. China has accumulated as much as 65mn
bales of cotton which is about 2x its annual demand. This has led to
decline in Chinese imports of cotton and yarn (Pakistan exports
substituted by cheaper alternatives). Product prices move in tandem
with cotton; and as such, should continue to fall in CY16.
Pakistan non-competitiveness is subduing volume growth
Pakistan’s major Eurozone market is hurting because of (i) collapse of
Euro against US$ and (ii) South East Asian competition, which is
countering the availability of GSP+ status. We believe this scenario of
declining exports might not change for another year.
But there might be exceptions; NML is unique
In this rather grim scenario, we highlight the merits of Nishat Mills Ltd
(NML); where the core textile business stands overshadowed by
investment diversification. The stock has a solid portfolio of some of
the best banking, cement and power stocks (all largely defensive and
expected to do relatively well in CY16) and has been unfairly valued at
about 24% discount to the overall market P/E (even if we exclude the
textile business). With an uncertain outlook going into CY16, NML
offers an attractive value proposition. It is worth mentioning that it is a
rare vertically-integrated play on KSE-100; when textile dynamics do
rebound, its textile business will be among the first to fare well.
Downside Risks:
(1) Further downside of commodity prices.
(2) Delay in resolution of energy issues.
(3) Crop failure and more expensive imports.
33 | P a g e
Pakistan Strategy
Other Stocks
34 | P a g e
Pakistan Strategy
Mari Petroleum Company Limited
Price (PkR/sh) 697.14
Bloomberg / Reuters MARI PA / MGAS.KA
Mkt Cap (US$mn) 733.8
52wk Range (PkR/sh) 707.42-363.18
3m Avg. Daily Vol ('000 shrs) 345
3m Avg. Traded Val (US$mn) 1.80
About the Company Mari Petroleum Ltd (MARI) is an oil& gas exploration and development
company (E&P) which is operating the largest gas producing field in Pakistan
(3.4tcf; 17% of total conventional gas reserves in Pakistan). The company
operates 15 other blocks – mostly exploration assets –in the country.
Investment Thesis Although as per consensus estimates, MARI may be fairly valued with regards
to its step-up pricing formula, which can double the gas price on the Mari field
by 2019; there are potential triggers that can sustain the sector-defying
momentum in the stock (up 47% in CY15). MARI may add ~100-150mmcfd
from the field while government has hinted 2012 E&P policy which although is
not final yet, may be a big trigger for MARI’s earnings. On the 600mmcfd from
the field, Mari is getting a gas price of sub US$1/mmbtu; while base price from
the 2012 E&P policy is about 4x hIgher. MARI leads its peers in cost and capital
efficiency: Finding and Development (F&D) costs and operating expenses
sums to about US$2.0/boe compared to US$3-5.0/boe for its peers. This
makes the company more sensitive to upside in revenue from either
production growth or uptrend in oil/gas prices (thus step-up pricing is crucial).
For payout, the company still has to follow the older regime until 2024.
Mari Petroleum Company Limited
MARI vs. KSE100 Index
-40%
-20%
0%
20%
40%
60%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 MARI
Source: KSE
Nishat Mills Ltd.
Price (PkR/sh) 94.87
Bloomberg / Reuters NML PA / NISM.KA
Mkt Cap (US$mn) 318.5
52wk Hil-Low (PkR/sh) 135.85-92.97
3m Avg. Daily Vol ('000 shrs) 1,593
3m Avg. Traded Val (US$mn) 1.53
About the Company Nishat Mills Limited (NML) is one of Pakistan’s very few vertically integrated
textile units with a capacity of 227k spindles, 789 looms, dying, and garment
manufacturing machines coupled with a captive power plant of 80MW. Other
than this, NML is not just a pure textile play with its investment in Cements,
Banking, Power, Dairy, Entertainment and Hospitality sectors.
Investment Thesis NML provides a blend of different business models, ranging from conventional
textiles to investments in banks, cements, power, dairy, entertainment and
hospitality. We flag that textile earnings contribution is less than 40% where
we urge viewing NML less as a textile unit and more as a holding company
providing discounted exposure to Pakistan.
We assign core business value of PkR32/share of the textile unit where the
portfolio is comprised of (i) Power co’s having fixed capacity payments &
excellent D/Ys (mkt cap: US$170mn; PkR51/share of NML) and (ii) stakes in
DGKC (31%), MCB (7%) and NCL (14%) - combined mkt cap: US$357mn;
PkR108/share of NML. Further, unlisted ventures (entertainment/hospitality)
will likely add value given group track record.
Nishat Mills Limited
NML vs. KSE100 Index
-30%
-20%
-10%
0%
10%
20%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 NML
Source: KSE
35 | P a g e
Pakistan Strategy
Pak Elektron Ltd.
Price (PkR/sh) 62.54
Bloomberg / Reuters PAEL PA / PKEL.KA
Mkt Cap (US$mn) 237.7
52wk Range (PkR/sh) 94.97-42.33
3m Avg. Daily Vol ('000 shrs) 8,423
3m Avg. Traded Val (US$mn) 5.88
About the Company Pak Elektron Ltd (PAEL) is a leading producer of transformers, electric meters,
and home appliances (refrigerators). The Saigol Group owns 56% stake in the
company. The business is divided into Power and Appliances divisions (50:50%
contributions to revenue). Wapda and K-Electric are major customers of its
Power Division. In its Appliances Division, PAEL has a network of over 1,500
dealers and 22 service centers; products include refrigerators, freezers, AC
splits and microwaves. PEL has 81% market share in the power distribution
market. It is the second largest player in the refrigerator market (26% share).
Investment Thesis PAEL is exposed to most positives which played out last year and are expected
to continue in CY16 – suitable macros driving sales of refrigerators; and
imminent turnaround and investment bonanza in the Pakistan energy sector.
In a nutshell, it is leveraged to the most of the key themes in CY16.
PAEL has benefited from the commodity down-cycle as it imports about 60%
of its raw material. About 65% of imports of the power division is coming from
EU, where we think further depreciation in Euro will be beneficial.
Furthermore, ADB is set invest about US$15bn in revitalizing the Pakistan T&D
network through smart meter; PAEL has 35% market in this market.
Pak Elektron Limited
PAEL vs. KSE100 Index
-30%
10%
50%
90%
130%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 PAEL
Source: KSE
Adamjee Insurance Co. Ltd.
Price (PkR/sh) 56.51
Bloomberg / Reuters AICL PA / ADIN.KA
Mkt Cap (US$mn) 188.8
52wk Range (PkR/sh) 61.12-38.08
3m Avg. Daily Vol ('000 shrs) 764
3m Avg. Traded Val (US$mn) 0.41
About the Company Adamjee Insurance is one of Pakistan’s leading insurance company, offering
both Life & Non-Life Insurance services. The company has its operations in the
UAE as well, where it aims to strengthen its global presence.
Investment Thesis Ongoing growth in net premium (9MCY15: +57.5%YoY) is likely to accelerate
further on the back of (i) expansions in Corporate Pakistan, (ii) macro uptick,
and (iii) medium term stimulus provided by CPEC. Furthermore, we can expect
auto insurance (48% contribution to total premium) to observe robust growth
underpinned by (i) spike in auto finance (+35%YoY), and (ii) introduction of
new models/possible expansion of local auto players. Moreover, the
industry’s declining trend of loss ratio (49.3% in 9MCY15 vs. 71.0% in CY07), is
likely to extend going forward, supported by improvement in security
situation. Introduction of Islamic insurance products would help address
religious concerns and thus drive LT growth. From a valuation perspective,
turnaround in core underwriting income can drive a valuation rerating in the
name.
Adamjee Insurance
AICL vs. KSE100 Index
-30%
-20%
-10%
0%
10%
20%
30%
Jan
-15
Feb
-15
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Sep
-15
No
v-1
5
De
c-1
5
KSE100 AICL
Source: KSE
36 | P a g e
Pakistan Strategy
Amreli Steels Ltd.
Price (PkR/sh) 60.07
Bloomberg / Reuters ASTL PA / AMST.KA
Mkt Cap (US$mn) 170.3
LTD* Range (PkR/sh) 63.23-53.55
LTD Avg. Daily Vol ('000 shrs) 2,742
LTD Avg. Traded Val (US$mn) 1.58
*List to date
About the Company Amreli Steels manufactures steel reinforcement bars and steel billets. It is one
of the premium brands of the country and holds 8% market share in rebars
segment. Its sponsors have been in the steel manufacturing business for over
50 years.
Investment Thesis Amreli Steels recently conducted its IPO in order to finance its expansion (re-
rolling capacity: 180k tpa to 380k tpa; steel melting capacity: 200ktpa to
350ktpa). Amreli Steels managed to raise enough capital to fully finance its
expansion from equity, thus enabling the company to avail 5yr tax holiday,
which adds to CPEC-driven demand potential. Together with the use of new
technology and integration of steel melting plant with new re-rolling plant, it
will likely be able to garner significant cost savings. The new capacities are
expected to come online by the end of CY16. As a result, its pricing power
(premium pricing over other brands) and low steel scrap prices will likely
result in significant improvement in GMs, particularly as management has
flagged ability to withstand imported competition (esp from China) due to
nature of product coupled with applicable import duties.
Amreli Steels Limited
Cherat Packaging Limited.
Price (PkR/sh) 303.11
Bloomberg / Reuters CPPL PA / CHPR.KA
Mkt Cap (US$mn) 85.7
52wk Range (PkR/sh) 314.84-156.79
3m Avg. Daily Vol ('000 shrs) 41
3m Avg. Traded Val (US$mn) 0.10
About the Company Cherat Packaging Ltd (CPPL) is the largest producer and supplier of packaging
material to the cement industry in Pakistan. It has an annual production
capacity of 265mn paper bags and 145mn polypropylene (PP) bags. The
company is majorly owned by the Ghulam Faruque group (which also owns
Cherat Cement).
Investment Thesis Our liking for CPPL stems from its direct exposure to the cement sector,
because it a major supplier of sacks to the sector where we think the cement
sector is likely to do well in the upcoming year. CPPL is set to expand capacity
from 145mn paper and poly propylene bags (PP) to 265mn bags. This will
make it the largest supplier of PP bags in the country. It is also a beneficiary of
“lower for longer” oil price scenario, as PP prices have fallen in tandem with
oil prices. Besides cement sector, the company has also begun supplying PP
bags to fertilizer, sugar and wheat producers, in addition to exploring export
markets.
Cherat Packaging Limited
ASTL vs. KSE100 Index
0%
5%
10%
15%
20%
1-D
ec
4-D
ec
7-D
ec
10
-De
c
13
-De
c
16
-De
c
19
-De
c
22
-De
c
25
-De
c
28
-De
c
31
-De
c
KSE100 ASTL
Source: KSE
CPPL vs. KSE100 Index
-25%
0%
25%
50%
75%
100%
Jan
-15
Fe
b-1
5
Ap
r-1
5
May
-15
Jun
-15
Au
g-1
5
Se
p-1
5
No
v-1
5
De
c-1
5
KSE100 CPPL
Source: KSE
37 | P a g e
Pakistan Strategy
We, IMS Research Team, certify that the views expressed in the report reflect our personal views about the subject securities. We also certify that no
part of our compensation was, is, or will be, directly or indirectly, related to the specific recommendations made in this report. We further certify that
we do not have any beneficial holding of the specific securities that we have recommendations on in this report.
Ratings Guide
Buy Upside more than 20%
Accumulate Upside more than 10% but less than or equal to 20%
Neutral Upside from 0% to 10%; Downside from 0% to -10%
Reduce Downside more than 10% but less than or equal to 20%
Sell Downside more than 20%
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are not direct at, or intended for distribution to or use by, any person or entity in any jurisdiction where doing so would be contrary to law or
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The information and statistical data herein have been obtained from sources we believe to be reliable where such information has not been
independently verified and we make no representation or warranty as to its accuracy, completeness and correctness. This report makes use of
forward looking statements that are based on assumptions made and information currently available to us and those are subject to certain risks
and uncertainties that could cause the actual results to differ materially. No part of the compensation of the author(s) of this report is related to
the specific recommendations or views contained in this report.
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38 | P a g e
Pakistan Strategy
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