bma_strategy report flood _ 03092010

8/6/2019 BMA_Strategy Report Flood _ 03092010

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PAKISTAN FIGHTS TO STAY AFLOATPAK FLOODS: IS THE ROPE BROKEN?

Floods to date have ravaged approximately 20% of the countrys landmass with

flow rates toping over 1.1mn cusec. As much as 20mn people have been affectedmaking it one of the worlds worst natural disasters in recent history. A

comprehensive damage assessment will have to wait till the floods recede howeverencouragingly initial estimates do not hint towards a significant damage to urban

infrastructure. Nonetheless one-off slowdown in GDP growth and upside risks oninflation and fiscal deficit will haunt the overall economic momentum.

THE ECONOMIC STORY: FLOODS 2010 - NONE WORSE THANTHIS

We estimate GDP growth to clock in at 2.1% for FY11, compared to original

forecasts of 4.5% while CPI inflation is expected to peak at 17-18%. Further, weestimate PKR60bn shortfall in tax collections and expect fiscal deficit to be recorded

at 6.2% for the year. In this regard, final outcome of the ongoing meeting with IMFis awaited where we expect 200bps relaxation in deficit target. Given the overall

outlook and SBPs vigilant stance, another hike of 50-100bps in the discount ratecan be expected during the fiscal year. On the bright side, pledged foreign inflowshave alleviated upside risks to our 4-5% PKR/USD depreciation target for the year.

LISTED SECTORS IN LIMELIGHT: BANKS, OMC AND AUTOS TOTAKE THE MAJOR BRUNT

Weaker economic picture and risks of incremental NPL accumulation paint agloomy picture for the commercial banking sector, particularly HBL and NBP.

Similarly, automobile assemblers that drive a substantial portion of their sales fromrural economy i.e. INDU is likely to suffer from a decline in its offtakes for FY11.The most severely hit, according to our estimates, will however be PSO for which

we recently revised down its FY11E EPS by 35% on the back of lost sales, productlosses and infrastructure damage.

APL, the sole OMC involved in Asphalt is however likely to benefit from roadreconstruction and has been added to our High Conviction Investment Ideas.

BROADER INVESTMENT THEME STAYS INTACT: 2010 INDEXTARGET UNLIKELY TO BE MET THOUGH

Overall investment theme for Pakistan equities stays intact which is largely drivenby domestic demand, favorable demographics and rich natural resources. We

however reiterate that current situation warrants an even closer adherence toscreening criteria based on companies with pricing power, devaluation positiverevenue stream and attractive dividend yields.

However concerns on rising inflation, fiscal deficit and consequent risk of SBPfurther tightening the monetary environment will continue to loom over investorsentiments. We thus believe that our initially set KSE100 target of 11,500 may not

be met during 2010 while upside risks to this thesis largely rest on introduction of atimely and effective leverage tool i.e. Margin Trading System.

PAKISTAN RESEARCH

STRATEGYBMA RESEARCH TEAM

Hamad Aslam, CFA

[email protected]

Abdul Shakur

[email protected]

Nurali Barkatali

[email protected]

Sana I. Bawani

[email protected]

Omar Rafiq

[email protected]

Muhammad Ali Taufiq

[email protected]


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TABLE OF CONTENTS

1 Strategy: Is the Rope Broken? 1

2 Economy: Floods 2010 - None Worse Than This 4

3 Banks: Did Anyone Say Recovering? 10

4 E&P: Temporary Production Halt But No Long TermConcern 12

5 Refineries: Closure of PARCO 14

6 OMC: Sales Drowned In Floods 16

7 Electricity: Circular Debt to Linger 20

8 Construction & Materials: Do Not Expect Too Much! 22

9 Fertilizer: Not Much To Worry About 25

10 Auto: Rural/Agri Based Demand To Take A Hit 29


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September 3, 2010

PAK FLOODS; IS THE ROPE BROKEN?Starting on July 29, 2010, floods to date have ravaged approximately 20% of the

countrys landmass with flow rates toping over 1.1mn cusec. As much as 20mn

people have been affected making it one of the worlds worst natural disasters

toping Tsunami 2004, Kashmir earthquake 2005 and Haiti earthquake 2010.

For a country like Pakistan, where economic recovery is still fragile, the devastation

has raised serious concerns on the agriculture productivity, rural demand and

communication activity. While we do not agree with the governments recent

assessment of flood loss at USD43bn (~25% of GDP); yet USD2.8bn of crop loss

and PKR48bn in incremental NPLs alone is a concerning scenario.

URBAN ECONOMY LARGELY SAFE; ECONOMIC SLOWDOWN TO

HAVE ITS PERILS THOUGH

A comprehensive damage assessment will have to wait till the floods recede

however encouragingly initial estimates do not hint towards a significant damage to

urban infrastructure. Nonetheless one-off slowdown in GDP growth (to 2.1% fromearlier estimates of 4.5%) and upside risks on inflation and fiscal deficit will haunt

the overall economic momentum.

What did the Floods change; Economic slowdown imminent

Interest rates will however play the centre stage in recovery. While tight monetary

policy may not be the solution to the current economic challenges, higher fiscal

STRATEGY

Hamad Aslam, CFA

Head of Research

Backdrop FY11 Pre Flood Outlook FY11 Post Flood Outlook

GDP Growth Recovered to 4.1% in FY10 onthe back of a strong rebound inLSM sector

Continued revival was expected inLSM while agriculture wasprojected to post a growth of 3-4%

Agriculture sector is expectedto post negative growth whileoverall GDP growth may settleat 2.1%

Inflation Avg CPI of 20% for FY09rationalized to 12% in FY10

MoF and BMA Research CPIestimates stood at 9% and 12%,

respectively for FY11

Crop/food shortage and highergovt borrowing poses upside

risks of 300-400 bps from initialforecasts

Interest Rates Benchmark discount raterationalized from a high of 15%in FY09 to 12.5% in FY10

SBPs unwarranted stringentstance through 50bps increase indiscount rate had already pavedway for expectations of furtherupside

Higher expected fiscal deficitand inflation, together withSBPs hawkish stance reflectsthe possibility of higher interestrates over FY11

Source: BMA Research

Event Affected people

Pakistan flood 2010 20mn

Tsunami 2004 5mn

Kashmir earthquake 2005 3mn

Haiti earthquake 2010 3mn


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September 3, 2010

deficit and inflation may still allow SBP to further tighten the environment with

upside risks to discount rate being higher than downside risks at the moment.

ON THE BRIGHTER SIDE; FOREIGN FLOWS AND STABLE PKR

Pakistan has so far received pledges of around USD4bn (ADB: USD2bn, World

bank: USD1bn, IMF: USD450mn and Humanitarian pledges of ~USD500mn) in an

effort to allow the nation respond to the ongoing challenge. However it is important

to note that apart from the humanitarian pledges by other countries, other inflows

will only add to the external debt stock of the country. Moreover, a substantial

portion of the assistance from ADB and World Bank will be a diversion from their

ongoing/already announced commitments and will therefore add little to incremental

foreign inflows for the country.

We nonetheless believe that these pledges have capped upside risks for PKR/USDdepreciation whereby we foresee 4-5% annual depreciation during FY11.

WHATS THERE FOR LISTED SECTORS; BANKS, OMCS AND AUTOS

TO TAKE THE MAJOR BRUNT

Weaker economic picture, slowdown in farmer incomes and risks of incremental

NPL accumulation paint a gloomy picture for the commercial banking sector,

particularly HBL and NBP. Similarly, automobile assemblers that drive a substantial

portion of their sales from rural economy i.e. INDU is likely to suffer from a decline

in its offtakes for FY11 while we downgrade our stance on the auto sector from

Marketweight to Underweight. The most severely hit, according to our estimates,

will however be PSO whereby we recently revised down its FY11E EPS by 35% on

the back of lost sales, product losses and infrastructure damage.

What did the Floods change; listed sectors that feel the heat

Backdrop Flood Impact BMA Take

Banks Despite highest spreads in theregion; asset quality a concernfor small and select public sectorbanks though

Slowdown in farm incomes andcrop losses

PKR48bn of incremental agrirelated NPLs to take NPL to assetratio to 15.5%

OMC

Double digit POL offtake growthon the back of power deficit andswitching from CNG

Supplies disrupted along withflood-led product losses

10% YoY growth in Asphaltofftakes

One-off downward revision of 35%in FY11 EPS for PSO

Upward revision of 3% in FY11EPS for APL

Autos43% YoY increase in volumetricofftakes for FY10 sharprecovery after the slowdown inFY09

Agri/rural related demand totake a hit

Up to 21% downward revision inFY11 EPS for INDU

FertilizerSupply shortfall for both ureaand DAP in the country coveredby imports

3Q offtakes deferred to 4Q Domestic production demand staysintact while imported fertilizer tosuffer from reduction in demand



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September 3, 2010

Our take on cement and fertilizer sectors is however contrarian when compared to

market consensus. We estimate reconstruction activities to add only 0.6-0.7mn tonsof additional cement demand and thus may not have an immediate turnaround

impact on the sector. For fertilizers, we maintain a positive outlook whereby

potential slowdown in offtakes is only likely to hit imported products.

The only upward revision in estimates, in the aftermath of floods, has come for APL

whereby we estimate reconstruction activity to translate into higher offtakes for

asphalt in the country (FY11 growth in volumetric offtakes taken at 10% against

initial forecasts of 2%). Moreover, given overall growth story and limited upside

risks on effective taxation, we take this opportunity to add APL amongst our High

Conviction Investment Ideas.

BROADER INVESTMENT THEMES REMAIN INTACT; 2010 INDEX

TARGET UNLIKELY TO BE MET THOUGH

While most of the listed sector has remained secured from the ongoing floods, the

crop losses alone paint a bleak economic outlook for FY10. Needless to mention

however, that most of the downward revision in economic growth stems from one-

off crop losses while shrinkage in demand for other industries (eg autos) should

start to recover in FY12.

We thus highlight that overall investment theme for Pakistan equities stay intact

which is largely driven by domestic demand, favorable demographics and rich

natural resources. We however reiterate that current situation warrants an even

closer adherence to screening criteria based on companies with pricing power,

devaluation positive revenue stream and attractive dividend yields.

For the rest of the 2010 however, equity markets may continue to remain hostage

to negative news flow emanating from the situation. Moreover, concerns on rising

inflation and fiscal deficit and consequent risk of SBP further tightening the

monetary environment will continue to loom over investor sentiments. We thus

believe that our initially set KSE100 target of 11,500 may not be met during 2010

while upside risks to this thesis largely rest on introduction of a timely and effective

leverage tool i.e. Margin Trading System.

High Conviction Investment Ideas

ctor

BMA

Recommendation

MC OVERWEIGHT

ctricity OVERWEIGHT

ment MARKETWEIGHT

& P MARKETWEIGHT

mmercial Banks MARKETWEIGHT

ecom and Tech. MARKETWEIGHT

rtilizer MARKETWEIGHT

xtile MARKETWEIGHT

fineries UNDERWEIGHT

tos UNDERWEIGHT

Company TickerCurrent

PriceFair

ValuePot

UpsideEPS (PKR) PER(x) EPS Growth Dividend Y

PKR/share PKR/share FY10E FY11E FY10E FY11E FY10E FY11E FY10E F

Pakistan Petroleum PPL 203 231 14% 23.4 28.0 8.7 7.3 -16% 20% 4%

Attock Petroleum Ltd APL 307 522 70% 55.3 64.0 5.6 5.0 3.0 16% 11%

MCB Bank MCB 186 216 16% 23.0 25.0 8.1 7.4 13% 9% 6%

Attock Cement ACPL 66 84 27% 14.1 15.0 4.7 4.4 -18% 6% 4%

Lucky Cement LUCK 68 79 16% 9.7 12.5 7.0 5.0 -32% 29% 6%

Fauji Fertilizer BinQasim

FFBL 28 33 17% 4.3 4.8 6.5 6.0 7% 11% 15%

BMA Universe Average 8.1 7.4 13% 8% 6%



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September 3, 2010

FLOODS 2010: NONE WORSE THAN THIS

Pakistan is currently facing the worst natural disaster in its history with the floods

tail still passing through the lower Sindh. Initial estimates show that 20mn people

have been affected and ~288 thousand houses have been damaged in this misery.

Floodwaters ravaged approximately one fifth area of Pakistan including 18% (0.58

mn hectares) of planted cotton, and 27% & 14% of rice and cane respectively.

One fifth area affected

ECONOMIC IMPLICATIONS

Mass destruction to crops, house holds, road links and communication envisage

sizeable revision to economic growth forecasts for FY11. According to recent

estimates, economic managers are eying at a GDP growth of 2.5% and an inflation

of 15-20% for the current year against previous targets of 4.5% and 9%

respectively. Our estimates however stand at 2.1% GDP growth with inflation to

peak at 17-18% for FY11.

Damage to the countrys overall wellbeing is massive; agriculture being the most

affected sector is expected to derail the economic recovery the most. According to

Super imposed blue area indicates flood affected regionSource: BMA Research

owth FY10FY11

BudgetedFY11F

griculture 2.0% 3.8% -1.4%

anufacturing 4.9% 5.6% 2.1%

ervices 4.6% 4.7% 3.5%

DP 4.1% 4.5% 2.1%

ource: Budget estimates, BMA Research

ECONOMY

Abdul Shakur

Economist


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September 3, 2010

estimates from Ministry of Agriculture, assessed loss may cross PKR240bn

(USD2.8bn). Value erosion from major crops alone sums to PKR180bn or 3% ofGDP (initially expected growth of 4.5% was to add PKR255bn to GDP during

FY11).

AGRICULTURE SECTOR: GROWTH TO COME DOWN TO -1.4%

Precedence shows that aftermaths of flood transmitted down to agriculture and

plunged GDP growth significantly. Post 1992 floods for instance, GDP growth

declined to 2.1% in 1993 followed by a healthy 7.5% growth while agriculture

declined by a whopping 5% in 1993.

Composition of agriculture sector is heavily skewed towards major crops (33%) and

livestock (53%) and the two cumulatively contribute 18% to GDP. Taking into

account the available loss estimates, we expect agriculture growth to decline tonegative 1.4% compared to 3.8% targeted for FY11.

Analysis of Agrculture losses Major Crops

COTTON DAMAGE ADDING TO ECONOMIC WOES

Amongst the major crops of Pakistan, cotton is severely affected - ~18% YoYdecline is expected which would in turn have a detrimental impact on the textile

sector

Textile exports constitute ~60% to total exports. Clothing exports from Pakistanare likely to be down by around one-third as orders for the upcoming Christmas

season (which are normally placed in September) may not be met

With a weightage of 33% in large sector manufacturing (LSM) it may hinder theexpected LSM recovery going forward. Nonetheless, performance of cement,

Mn tons Wheat Cotton* Rice Sugarcane

Est. production 23.8 14.0 5.9 54.8

Est. loss due to flood 0.6 2.4 1.6 7.6

Revised production 23.2 11.6 4.3 47.2

Last year production 24.0 12.7 6.8 49.3

YoY increase / (decline) -3% -8% -36% -4%

Contribution to Agri 16% 8% 5% 4%

Contribution to GDP 3% 2% 1% 1%

Price Per ton 23,750 29,848 45,000 3,000

Total loss (PKR Mn) 14,250 70,979 72,000 22,938

Area cropped (Mn hec) 3.20 2.53 1.05

Area damaged (Mn hec) 0.58 0.68 0.15

Damaged area 18% 27% 14%

per hec. Yield 2.6 4.1 2.4 52.4

Crop damage (Mn tons) 2.4 1.6 7.7

* bales

Source: KCA, MINFAL, BMA Research


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September 3, 2010

fertilizer and automobile sectors should provide some respite which together

hold 15% weightage in LSM.

LIGHT AT THE END OF THE TUNNEL: WHEAT CROP TO SUSTAIN

Fortunately, wheat crop largely remained immune to the floods. As the crop is

normally harvested in May-Jun, only the stored stock was exposed to deadly

waters. Furthermore, only 0.5-0.65mn tons of wheat have been reported to be

damaged while 28mn tons are presently available in stock.

Crop Calendar

Source: Pakistan Meteorological Department

On the brighter side, better water availability, improved crop yields and increasing

arable land (as water reaches Baluchistan) suggest upward revision in wheat and

sugarcane crop next year. Therefore if boundary controls and admin issues are

managed effectively, no substantial supply side issues should emerge for wheat.

FISCAL OUTLAYS SURPASSING TARGETS: HINGED ON

FINANCING

Floods have poured in further uncertainty to the fiscal position of the economy. A

significant portion of cropped area has been damaged, transportation means

disrupted and economic activities hampered. In pre-flood scenario, govt. estimated

fiscal deficit of PKR780bn for FY11 - 4% of GDP. However, potential shortfall in tax

collection and incremental fiscal outlays make FY11 challenging for fiscal account

management.

Imposition of one-time taxes in this regard is likely to offset the shortfall. Govt. plans

to enhance revenue base by imposing a flood tax of 5% on imports and an

additional 5-10% on taxable income (above PKR300,000 for all taxpayers) for FY11

and FY12. These measures would help govt. generate additional ~PKR150bn

whereas the expected incremental 220bps of fiscal deficit allows additional outlays

of PKR377bn for FY11. However given the track record of tax receipts, we

anticipate a lukewarm response from the taxpayers this time round. Moreover, in

IMF to provide USD450mn in

Immediate Emergency Assistance to

Pakistan and seems committed to

work towards completion of Stand-by

Arrangement Program review

As the IFIs are conducting loss

assessment, materialization of funds

for rehabilitation should taking place

in post Sep-Oct10. Therefore

governments reliance on bankingsystem should support deficit

financing. Emergency funding of

USD450mn, however, is expected to

be disbursed in Sep10 and should

thus help mitigate liquidity issues to

some extent.

JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC

Sowing

Growth

Harvest

Wheat

Rice

Cotton

Sugar

Maize

Flood begun in Jul10and water startsreceding in Sep


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September 3, 2010

Worst case estimates for inflation to reach 25% by FY11 against the initialtarget of 9% by govt. We estimate inflation to settle in the range of 16-18% forFY11

Carry forward stock of 4.4mn tons and production of 24mn tons of wheat suggest

sufficient supply. With higher than 8% weight in CPI basket, wheat is expected to

help consolidate the price index. However supply side issues for perishable food

items including damage to standing minor crops, disruption in transportation

network and lack of storage facilities can not be ruled out. Shortages necessitate

imports and a rising trend in international commodity prices may further intensify the

upsurge in price levels through imported inflation.

Recent trend reversal in grain prices and fiscal indiscipline are the impediments to

the ongoing economic consolidation. In addition, borrowing from banking channels

seems indispensible (particularly from SBP which by itself is inflationary), till

materialization of foreign inflows takes place.

SBP had recently voiced its concerns against resurgence of inflation and fiscal

imbalances by raising policy rate by 50bps in Aug10. Considering economic

consolidation to be of prime importance together with IMF conditions, upward

interest rate revision of 50-100 during FY11 remains on the cards.

EXTERNAL ACCOUNT DELINQUENCIES: YET STABLE

RESERVES

With 60% of exports linked to cotton, potential for loss of Christmas opportunity has

compelled us to revise down export growth target from 8% to 4-5% for FY11;

however inflows through remittances are likely to improve by 15% YoY.

Prudent power generation mix (based on higher water availability) is the key to

contain oil import bill (34% of total imports) going forward. However, non resolution

of circular debt and low GRMs which restrict refineries capacity utilization levels

posses upward risk to import estimations. In addition, imports of construction

-

2

4

6

8

10

12

14

FY82

FY83

FY84

FY85

FY86

FY87

FY88

FY89

FY90

FY91

FY92

FY93

FY94

FY95

FY96

FY97

FY98

FY99

Flood 1988:

Revier Indus

Flood 1992:Revier Sutlag

& Ravi

Flood 1997:Revier Jhelum,

Chanab & Sutlag

(%)

8

9

10

11

12

13

14

15

Jul-09

Jul-09

Aug-09

Sep-09

Oct-09

Oct-09

Nov-09

Dec-09

Jan-10

Feb-10

Feb-10

Mar-10

Apr-10

May-10

Jun-10

Jun-10

Jul-10

Aug-10

10 Yrs 12MSBP discount rate CPI(%)

External account indicators

(PKR mn) FY10 FY11F

Exports 19,636 20,618

Imports 31,013 34,735

Trade deficit (11,377) (14,117)

Remittances 8,906 10,509

CA deficit 3,507 5,557

FDI 2,205 2,095

Financial Account 4,930 11,023

Overall balance 1,253 5,731

Inflation trend post flood situations Monetary aggregates



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September 3, 2010

material, food, cotton and pesticides are likely to increase in the short term - at

present it contributes 35% to the import bill.

Although security concerns continue to hinder foreign direct investment (FDI),

equity portfolio is expected to add approx USD500-600mn during FY11. In addition,

materialization of external inflows is expected to keep overall balance in green zone

despite CA deficit surpassing USD5bn.

Higher inflows (aids, grants and soft loans) as well as additional IMF assistance

limit upside risks for PKR depreciation in the medium term and should keep USD

reserves intact. However, divergence of funds from current programs to

rehabilitation may cause lower than anticipated lending from ADB and WB.

Therefore, avg. annual 4-5% PKR depreciation can not be ruled out.


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September 3, 2010

BANKS: DID ANYONE SAY RECOVERING?Aftermaths of flood 2010 does not paint a promising picture for the banking sector

which is yet to come out of the economic shock triggered in CY08. As per SBPs

initial estimates, banks may face incremental NPL losses of up to PKR48bn

depicting a sharp 10% increase from current levels of PKR460bn to over

PKR500bn. This would further aggravate banks NPL to loan ratio to 15.4% from

present 14.3%. However placing incremental NPLs under substandard categories,

provision coverage is likely to ease amidst provision aging benefit; hence provision

losses should remain lower compared to last year.

AGRI-LOAN HITS ASSET QUALITY, DESPITE ITS LOW SHARE

Taking into account the current loan book details, share of agriculture loan standsat a meager 5% however it carries second highest infection ratio of 17%. Moreover,

it should be noted that given the inter-linkages of agri economy with manufacturing

sector, supply shortages and cost escalation can potentially hurt the productive

capacity of SME and corporate sectors - which in turn share the highest amount in

banks loan book. SME being the riskiest element may hurt asset quality of majority

of the mid and small tier banks. Amongst our banking universe in specific, we flag

HBL and NBP as the ones with higher risk of incremental infection due to their hefty

textile and agri loan portfolio.

EMERGING LIQUIDITY CONCERNS: YET SPREADS TO REMAIN

STABLE

We believe that budget financing will remain the key impediment for credit growth in

FY11 whereby initial target was set at PKR499bn (USD5.8bn) form domestic

sources. To put things into perspective, budgetary borrowing for banks has

surpassed the target by 111% in FY10. Although inflows form IFIs are expected to

materialize by Oct-Nov10, budgetary outlays for rehabiliation and Eid withdrawals

suggest looming liquidity risks in the short term.

BANKS

MARKETWEIGHT

Abdul Shakur

Banking Analyst

Classification of loan book Sector wise infection ratio Loan book of BMA universe

Source: SBP, BMA Research Source: SBP, BMA Research Source: SBP, BMA Research

10%

11%

10%64%

5%

Corporate SME

Agriculture Commodity f inancing

Consumer

25%

1%

12%

14% 17%

0%

5%

10%

15%

20%25%

30%

Corporate

SME

Agriculture

Commodity

financing

Consumer

0%

5%

10%

15%

20%

25%

NBP BAFL HBL MCB UBL

Textile Agri related

cement Transport. & const.


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September 3, 2010

Money supply data also suggests that currency flows have started shifting from

banking channels to currency in circulation and have thus effectively kept depositgrowth in check. Therefore we believe that deposit cost for the banking sector is

likely to increase by 30-50bps during the next quarter. However, yields on Govt.

securities and KIBOR are also expected to increase amidst increasing monetization

and inflation. Therefore defying any major contraction in spreads, we expect them

to sustain 7-7.5% range during CY10.

MOODYS TAKING IT SERIOUS: REVISED OUTLOOK TO NEGATIVE

Taking into account the recent economic challenges, Moodys has revised its

outlook to negative from stable for domestic deposits and financial health of five

major banks of Pakistan. However, ratings have remained unchanged as

mentioned in the table on the left. Rationales for outlook revision are as follows:

Financial health is considered to be more vulnerable amidst weak loangrowth and emerging NPL pressure which may consequently lower

profitability

Rating agency linked higher exposure in government securities to event riskat the sovereign level (sovereign rating stands at B3 with stable outlook).

STRONG ASSET QUALITY AND LOW COST IS THE KEY: BUY MCB

Considering the emerging liquidity and cost related issues, we reiterate our

recommendation bias for banks with relatively stable NIMs and stronger asset

quality. With these criteria in mind, MCB is expected to outperform the peers going

forward.

Comparative analysis for asset quality


Although BAFL carries lowest infection ratio amongst BMA banking universe,

lowest loan loss coverage suggests incremental provision losses going forward.

Similarly NBP outperforms peers on valuation matrix due to low PBV multiple of

0.6x, yet we maintain a Neutral stance on the scrip (fair value: PKR60/share) due to

looming asset quality concerns and escalating deposit cost. MCB, on the other

hand, currently trades at PBV multiple of 1.8x, and offers upside potential of 14% to

our Dec10 based Target price of 216/sh. recommend Buy!

Moody's rating for Pakistani banks

Banks BFS LTDD LTDF

NBP D Ba2 B3

HBL D- Ba3 B3

UBL D- Ba3 B3

MCB D Ba2 B3

ABL D- Ba3 B3

BFS: Banks Financial Strength

LTDD: Long Term Deposits - Domestic

LTDF: Long Term Deposits - Foreign

0%

3%

6%

9%

12%

15%

NBP BAFL HBL MCB UBL Industry Avg.

0%

20%

40%

60%

80%

100%

NPLs to loan Loan loss coverage (RHS)


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September 3, 2010

E&P: TEMPORARY PRODUCTION HALT BUT NO LONGTERM CONCERN

With recent floods affecting as much as 20% of the countrys landmass, it comes as

no surprise that a number of oil and gas producing fields had to be temporarily

shutdown either due to disruption in infrastructure/pipelines or flooding at the filed

site. Encouragingly, however to date no permanent damage has been reported to

any of the E&P assets.

Flooded Regions and Key E&P Fields


LOWER OFFTAKES HINTING TOWARDS A SLOW 1QFY11

Important fields that were temporarily shutdown included Mela, Chanda, Nashpa,

Bela, Pariwali and Qadirpur; however production has recovered to optimal levels for

most of them. We nonetheless estimate 1QFY11 to post a QoQ production decline

of 3-4% for the industry with OGDC being the most affected.

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OIL EXPLORATION &PRODUCTION

MARKETWEIGHT

Hamad Aslam, CFA

Head of Research

Field/Block Operator Listed companies ownership stake

1 Tal MOL OGDC: 28%, PPL: 28%, POL: 21%

2 Nashpa OGDC OGDC: 28%, PPL: 28%, POL: 21%

3 Chanda OGDC OGDC: 72%

4 Dakhni OGDC OGDC: 100%

5 Margala MOL OGDC: 28%, PPL: 28%, POL: 21%

6 Dhodak OGDC OGDC: 100%

7 Mazarani PPL PPL: 88%

8 Miano OMV PPL: 15%

9 Sawan OMV PPL: 26%

10 Qadirpur OGDC OGDC: 75%, PPL: 7%


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September 3, 2010

OFFTAKES GUARANTEED AS LONG AS THEY ARE PRODUCED

Infrastructure losses and lower farm incomes have raised concerns on demand for

most industries in the short term. The same may however not be true for Pakistans

E&P sector whereby indigenous crude oil production only accounts for ~20% of

total demand while demand-supply deficit in natural gas also stands at over 15%.

Thus even an extreme case scenario that depicts an economic slowdown in FY11

is not likely to hurt offtakes for E&P companies.

POSITIVE OUTLOOK MAINTAINED; POL THE BEST BET FROM

CURRENT LEVELS

Given debt free balance sheets, USD based revenues and certainty in offtakes, we

maintain a positive outlook on the E&P sector. Our NAV based fair value of

PKR128/share for OGDC however reflects a reduce stance on the stock while wehave an ADD stance on PPL (fair value: PKR231/share) and a BUY call on POL

(fair value: PKR273/share).

Moreover, upside risks on fiscal deficit have limited the possibility of resolution of

circular debt in the ongoing fiscal year (discussed in detail in the section on

electricity and power). This inherently implies lower dividend payouts and subdued

exploration activity for the sate owned E&P giant i.e. OGDC.


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September 3, 2010

REFINERIES: CLOSURE OF PARCO

Pak-Arab Refinery (PARCO), Pakistans largest refinery (capacity: 100K bpd), is

located in Muzaffargarh - one of the most severely affected districts. As a result,

PARCO which was earlier operating at 65% utilization has been forced to shutdown

on a temporary basis. On the flip side, refineries in the south have not been

affected by the same.

POL Product Network

Source: OCAC, BMA Research

INCREASED UTILIZATION LEVELS FOR ATRL AMID HIGH GRMS

Temporary closure of PARCO translated into increased offtakes for Attock Refinery

Ltd (ATRL) increasing its utilization level from 88% to 100% in order to meet the

shortfall in supplies of POL products by PARCO. This, coupled with improved

GRMs is expected to translate into higher quarterly earnings for ATRL.

IMPACT ON OIL IMPORT BILL

Temporary closure of PARCO has also had its impact on oil imports. The overall

utilization level for refineries fell from 68% to 47% as a result of which demand for

imported crude is anticipated to have declined whereas demand for refined

imported POL products has increased.

REFINERYUNDERWEIGHT

Muhammad Ali Taufiq

Refinery Analyst

1

2

3

45

KeyAttock Refinery

Ports

Storage Depots

1 2 3

4 5

Pak-Arab Refinery National Refinery

B YCO R efinery Pa kistan Ref in ery

1

2

3

45

KeyAttock Refinery

Ports

Storage Depots

1 2 3

4 5

Pak-Arab Refinery National Refinery

B YCO R efinery Pa kistan Ref in ery


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September 3, 2010

REVISION IN FY11E EPS

ATRL stands to benefit from increased utilization over Aug10 and our revised

FY11E EPS stands at PKR16.0 from PKR15.1 estimated earlier.

ATRL EPS Forecasts

ATRL FY10 FY11 FY12

Old 13.0 15.1 15.1

Revised 13.0 16.0 15.1

% 0.0% 6.0% 0.0%


OUTLOOK: UNDERWEIGHT ON THE SECTOR

Refining industry GRMs have continued to show sequential improvement, however,current levels are still substantially lower than the average of FY08. Moreover,

circular debt issue continues to haunt the refining sector while inherent regulatory

risks (in terms of potential cut in deemed duty) have aggravated the situation.

Thus we stay Underweight on the sector. The ongoing floods will nonetheless turn

out to be positive for ATRL while there will be no major impact on refineries located

in the south of the country i.e. NRL, PRL and BYCO.


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September 3, 2010

OMC: SALES DROWNED IN FLOODS

Recent floods proved to be much more disastrous than anticipated, casting adverse

impacts on the OMCs and refineries. As far as OMCs are concerned, there are

multiple aspects to the losses incurred due to floods: 1) lost sales due to drowning

of retail outlets and reduction in demand for POL products in flood affected areas,

2) damages to infrastructure and 3) supply and logistical disruptions caused by

flooding.

APL however stands out as a major beneficiary of potential increase in post-floods

asphalt sales and thus compels us to add the stock amongst our High Conviction

Investment Ideas.

LOST SALES AND ITS IMPLICATIONSApproximately 350 or 5.5% of OMCs retail outlets have been affected by the floods

and many of these retail outlets have become inaccessible; this has adversely

impacted MoGas (Motor Gasoline) and HSD (High Speed Diesel) sales. Moreover

seizure of sales in flood affected areas and reduction in economic activity in

adjoining areas is expected to cast dark shadows on MoGas and HSD sales

numbers for the month of Aug10. We had therefore revised down our industry sales

forecast for MoGas and HSD downward by 1.7% and 1.9% respectively for FY11.

Flood affected retail outlets

Source: PSO Company Reports, OCAC, BMA Research

OIL MARKETINGCOMPANIES

OVERWEIGHT

Muhammad Ali Taufiq

OMC Analyst


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September 3, 2010

FO (Furnace Oil) sales for the industry are also expected to experience a 23%

decline for the month of Aug10 due to temporary closure of some RFO basedthermal power plants at Kot Addu Block, Muzaffargarh, Guddu Central Block and

Northern Block. FO is primarily supplied by PSO at these stations and therefore a

decline in FO sales will impact PSOs earnings for the on-going quarter only.

FO based Power plants affected by floods

Stations affected% of total FO

consumed by PowerSector

Status

Guddu Central Block 3 0.3% Closed for 2 days

Northern Block 1 7.1% Closed for 8 days

Northern Block 2 4.2% Closed for 8 days

Northern Block 3 2.6% Closed for 8 daysKot Addu Block 1 5.6% Average utilization level of 45.5%

Kot Addu Block 2 13.2% Average utilization level of 45.5%

AES Lalpir 5.7% Closed for 25 days

AES Pakgen 5.2% Closed for 25 days

Total 50.7%

Source: NEPRA, BMA Research

JP (Jet-Fuel) sales, on the other hand, are expected to rise by 10% over the period

of Aug10 - Sep10 due to increased domestic demand driven by air-based flood

rescue operations carried out by the Pakistan Army.

In the non-energy segments, lubes sales are expected to witness a decline on theback of reduced overall road transportation activity during the month of Aug10.

SHEL whose overall profitability is highly dependent on lubes sales is most likely to

witness a decline in 3QCY10 earnings.

Among the OMCs, Asphalt sales are currently controlled by APL alone. Due to a

massive slowdown in construction activity, Asphalt sales for Aug10 Sep10 period

are expected to witness the sharpest decline. Floods have done major damage to

road network and bridges (approximately 400km of roads and 36 bridges have

been destroyed). Going forward however, we expect Asphalt sales to increase by

10% YoY for FY11 period on the back of infrastructure development required in

flood-hit areas. We believe APL will remain a major beneficiary of increased net

sales of Asphalt, hence there exists significant upside risks to its FY11 earnings.

Province-wise division of POL products sales

Province-wise %volumetric sales

KhyberPakhtunkhawa

Punjab Sindh Balochistan Azad Kashmir

Mogas 7.1% 61.6% 27.7% 1.7% 1.9%

HSD 14.4% 57.1% 24.1% 2.5% 1.9%

FO 0.9% 60.1% 14.2% 24.7% 0.0%

JP 0.2% 27.8% 71.3% 0.6% 0.0%

Asphalt 4.4% 62.4% 29.1% 2.9% 1.3%



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September 3, 2010

Going forward we also expect FO, MoGas, HSD, JP and Lubes sales to return to

their normal levels by Oct10. It should be noted that most of the severely affectedregions are rural areas and do not constitute major portion of POL products sales.

As economic activity revives in adjoining urban areas, industry sales figure are

expected to return to their normal levels.

Company and Province-wise division POL Products sales

PSO SHEL APL Industry

Mogas

Sindh 26.9% 30.3% 9.4% 27.7%

Punjab 61.4% 59.4% 78.6% 61.6%

Khyber Pukhtunkhawa 8.0% 6.2% 8.2% 7.1%

Balochistan 1.7% 2.2% 0.0% 1.7%

Azad Kashmir 2.1% 2.1% 3.9% 1.9%

HSD

Sindh 23.2% 22.6% 11.7% 24.1%

Punjab 56.9% 59.2% 67.2% 57.1%


Balochistan 2.4% 4.7% 0.0% 2.5%

Azad Kashmir 2.0% 1.9% 3.4% 1.9%

JP

Sindh 95.3% 42.5% 13.0% 71.3%

Punjab 4.3% 55.7% 87.0% 27.8%


Balochistan 0.0% 1.8% 0.0% 0.6%

Azad Kashmir 0.0% 0.0% 0.0% 0.0%


DAMAGES TO INFRASTRUCTURE & PRODUCT LOSSES

Initial assessment indicates that PSO has incurred losses to the tune of PKR2.9bn.

However, this figure can go up once damaged sites are accessible and final

assessment is made. Some 200 retail outlets have been directly affected by the

floods out of which ~160 retail outlets are completely inaccessible. Mehmood-kot

installation and storage depot at Lalpir is reported to have experienced the mostdamage. PSO has officially reported ~PKR1.8bn in product losses; however our

estimates subject to final assessment stand at ~PKR3.0bn.

Similar damages albeit with much less magnitude are expected to have been

experienced by SHEL and APL, primarily in the Punjab region.

DISRUPTION IN SUPPLIES AND LOGISTICAL ISSUES

During the recent floods many urban areas have reported a shortage of POL

products coupled with closure of Pakistans largest refinery in a region

characterized with high sales. Moreover many storage depots in flood affected


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September 3, 2010

regions have also experienced several logistical glitches resulting in supply

disruptions in adjoining areas. Therefore, shortage of POL products and disruptionin product supply have resulted in lost sales for OMCs.

REVISION IN FY11E EPS

Lost sales, product losses and infrastructural damages compel us to make a

downward revision to our FY11E EPS forecast for PSO by 34.7% from PKR53.9 to

PKR35.2 (as communicated through our InFocus titled PSO: Floods Erode FY11E

EPS by 35% released on August 27, 10). On a similar note we are also revising

SHELs CY10E EPS forecast downward from PKR17.9 to PKR13.6.

On the other hand APL is expected to benefit largely from increased Asphalt sales

over the rest of FY11 which has led us to revise FY11E EPS to PKR64.0 from

PKR62.4 earlier.

EPS Forecasts

PSO FY10 A FY11 E FY12 E

Old 52.8 53.9 73.7

Revised 52.8 35.2 73.7

% 0.0% -34.7% 0.0%

APL FY10 E FY11 E FY12 E

Old 55.3 62.4 64.5

Revised 55.3 64.0 64.5

% 0.0% 2.6% 0.0%

SHEL CY09 A CY10 E CY11 E

Old 37.4 17.9 13.6

Revised 37.4 15.6 13.6

% 0.0% -12.8% 0.0%


OUTLOOK: APL ADDED TO HIGH CONVICTION INVESTMENT IDEAS

We expect continued growth in demand for FO in the industry as more RPPs and

IPPs come online. Moreover, MoGas demand is on the rise due to 1) power

shortages, 2) high convenience yield for MoGas on the back of CNG load-shedding

and 3) reduced price differential between alternatives of MoGas.

However given product losses and higher turnover taxes for PSO, we had earlier

removed the stock from our high conviction ideas. APL, on the flip side, offers

exposure to asphalt segment which is likely to benefit from reconstruction activities.

Moreover the company is not likely to face higher effective tax rate due to its

exposure to high margin asphalt. We thus add the stock amongst our High

Conviction Investment Ideas list. At yesterdays closing price of PKR308/share, APL

currently offers 69% upside potential to our DCF-based fair value of PKR522/share.

APL is also attractively valued with FY11E PER of 4.8x while robust expected

payouts reflect FY10E and FY11E dividend yields of 10.4% and 11.8% respectively.


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September 3, 2010

ELECTRICITY: CIRCULAR DEBT TO LINGER

The flood catastrophe in its different phases has adversely affected the electricity

T&D infrastructure and power plants. Moreover submergence of road network along

with other means of fuel supply resulted in lower capacity utilization for power

stations situated in the affected areas; consequently swelling the demand supply

gap to over 3000MWh. However, a swift response by PEPCO resulted in

restoration of 93% of the electrical network as well as the power plants with

exceptions being two Independent Power Producers (IPPs), AES Lal Pir and AES

Pak Gen.

More importantly, the disaster is likely to aggravate already imbalanced fiscal

situation of the country; henceforth a resolution of the inter-corporate debt issue

which has long haunted the entire energy chain does not appear to be a possibility

in the near future.

On the positive side, abundance of water has resulted in increased capacity

utilization of hydel electricity generation resources. Presently utilization of hydel

resources stands approximately 100% i.e. 6,500MWh from an estimate of

4,350MWh in June10. This resultantly has also brought down the average

electricity cost of generation.

Flood affected areas and key electricity installations


PEPCO-TPS

IPPs

Hydel Generation

ELECTRICITYOVERWEIGHT

Nurali Barkatali

Electricity Analyst


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September 3, 2010

EFFECTS ON IPPS AND INFRASTRUCTURE

KAPCO, the only listed IPP in the flood affected areas remains protected; the

power units operated at lower load factor (350MWh) on the back of i) lower demand

by PEPCO due to destruction of its network and ii) shortage of fuel supplies.

Currently the power units are operating between 30-50% of the total capacity which

continuously varies based on the above mentioned factors.

We however do not foresee any significant negative impact on companys

profitability during FY11 as the complex was made available while the generation

units also maintained their required efficiency ratio.

AES Lal Pir and AES Pak Gen: The IPPs have been shut-down and an

investigation will be carried out to estimate the turnaround time and its cost. This

shut-down would be treated under Force Majeure clause of the Power Purchase

Agreement; this clause based on the nature of event completely or partially

discharges both the contracting parties from their obligations against each other.

Henceforth under current circumstances, where the Force Majeure clause is

invoked due to natural disaster, we are of the view that the company would not be

liable to pay any Liquidated Damages. Both the plants are partially (50%) owned by

Nishat Group.

Apart from production losses of power plants, the distribution network owned by

PEPCO has also faced severe damages; initial estimates for which are being put at

USD120mn.

OUTLOOK: INTER-CORPORATE DEBT RESOLUTION NOWHERE

NEARWe foresee the governments higher fiscal deficit to further delay the resolution of

lingering circular debt in the energy chain which currently stands at over USD1.5bn.

This would have an adverse impact on the entire energy chain, specifically the

IPPs. As a result, they will have to opt for short term borrowings under a tight

monetary environment; consequently higher debt servicing cost is estimated to

adversely affect the bottom line.

On the whole however we maintain an Overweight stance on the sector where we

flag both HUBC and KAPCO as attractively positioned bets. HUBC currently reflects

9% upside to our DDM based fair value of PKR40/share while last closing price

offers FY11E dividend yield of 14%. Similarly, KAPCO reflects 19% upside to our

DDM based fair value of PKR49.share and offers FY11E dividend yield of 15%.


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September 3, 2010

CONSTURCTION & MATERIALS:DO NOTEXPECT TOO MUCH!

With Pakistan encountering its worst floods in over 80 years, much of thesettlement near embankments has suffered major damages. Massive floods haverampaged through villages and towns and have led to damage to infrastructure.While echos of reconstruction are in the air, we do not believe that the cementuptick is to be significant, based on historical reaction and given that much of thesettlements which were damaged were farmlands and villages where cement is nota popular mode of construction. In addition, possibility of a cut in PSDP spending toreign in fiscal deficits emanating from increased spending on rehabilitation, loss inrevenue and constraints under the IMF regime are already being voiced.

Although an immediate (FY11E) 0.6-0.7mn tons of incremental demand required for

rehabilitation can potentially be witnessed, uncertain farm income recovery, overallshift in construction sentiments, together with possible PSDP cuts and redirectedfunds (from construction or rehabilitation) by WB and ADB, keeps us on the back-foot.

Cement Producers of Pakistan Geographical Analysis

CONSTRUCTION &MATERIALS

MARKETWEIGHT

Omar Rafiq

Cement Analyst

Askari 2

Bestway

Bestway

Cherat

Dandot

DG Khan 1 DG Khan 2

Fauji cement Fecto

Flying

Kohat

Lucky 1

Maple Leaf

Mustehkam

Dewan

AC Rohri

Attock

Al-Abbas

Dadaboy

Dewan

Lucky 2

Thatta

Zeal Pak

Gharibwal

Askari 1

Pioneer

Javedan



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September 3, 2010

IF HISTORY IS TO REPEAT ITSELF

We remain contrarian to the general sentiment regarding massive uptick in cementdemand in the post flood scenario (partly driven by history). Pakistans cementconsumption growth has remained muted during previous post-flood scenarios. Ifsemblance is to be made, we do not anticipate any major uptick in demand for thesector as a whole.

Post flood cement offtake scenario (mn tons)


As can be witnessed, cement dispatches have followed an organic growth pattern

and have not been significantly impacted by event driven environment.

VILLAGES DROWN, CITIES REMAIN SAFEAlthough geographically, recent floods have rampaged through ~18% of the land

mass of the country, it is important to highlight that most of the locales damaged

were either farmlands (low density population regions) or villages (low cement

based construction); with major cities remaining much out of the harms way. As a

result, despite potential uptick in expectations, we believe that demand growth is

unlikely be an overwhelming experience for investors and the industry alike.

Further, redirection of funds from development projects by ADB and WB together

with a probable cut in PSDP is unlikely to result in initiation of major reconstruction

activities.

Reports regarding infrastructure damage, (especially bridges recent figure

indicating 1,000 bridges being damaged) should be considered with caution asthese include small and medium bridges which are not cement structures at core.

DISPLACED PEOPLE LIKELY TO BE THE IMPETUS ALBEIT SMALL

We believe that slow rehabilitation of displaced people together with lower

disposable income is likely to remain a concern for cement producers of the

country. Although we expect rehabilitation to start as early as 4QCY10, we remain

rather under whelmed by a possible uptick in cement demand as a result of this

during FY11E. This is especially because incomes of affected people have been

hurt and will potentially take time to recover. Further, the upcoming winter season is

-

5

10

15

20

25

FY91

FY92

FY93

FY94

FY95

FY96

FY97

FY98

FY99

FY00

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10


27/34

24

September 3, 2010

likely to further add to the seasonality effect witnessed for cement manufacturers

here in Pakistan. Farmers who rely on crop harvesting as a source of income willnow have to wait till the wheat crop harvest to see major inflows in income, thereby

postponing demand for cement to 4QFY11 or possibly later.

OUTLOOK FY11E: LUCK TO BE THE MAJOR BENEFICIARY

Although total industry demand is likely to see a minor growth in dispatches to the

tune of 0.6-0.7mn tons, the same spread over 23 producers in the country is

unlikely to result in any major fundamental change in the outlook of any of the

individual market players. We however feel that LUCK could potentially benefit from

this scenario given its proximity to flood affected regions of KP, Punjab and Sindh.

We currently have a BUY call on the stock with a fair value of PKR79/share for

LUCK providing an upside potential of 15% from current levels.


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September 3, 2010

FERTILIZER:NOT MUCH TO WORRY ABOUTWith a vast number of farmer community either displaced or at the very leastdisturbed, coupled with crop destruction lowering their purchasing power onewonders how this is to pan out for the fertilizer sector of Pakistan. We believe thatany impact on the fertilizer sector will be transient and self correcting and thereforeenvisage a stable outlook for the sector. Our outlook is based on the timing of theflood (crop calendar: as provided in the economy section), credit availability tofarmers, availability of arable land and nutrient rehabilitation of soil.

Fertilizer Producers of Pakistan Geographical Analysis


LOCAL COMPANIES UNAFFECTED: IMPORTS TO BEAR THE BRUNT

With a substantial portion of rice and cotton crop damaged and probable miss of the

sugarcane growing season, it is likely that fertilizer offtake will decline for the

industry. We expect urea demand to reduce to ~6.0mn tons for the current calendar

year compared to earlier expectations of 6.6mn tons. Similarly DAP demand is

likely to also see a significant fall where we expect annual demand to settle at

~1.1mn tons in the post flood scenario compared to 1.3mn tons expected earlier.

FERTILIZERMARKETWEIGHT

Omar Rafiq

Fertilizer Analyst

ENGRO

PAFL

FFC

FATIMA

FFBL

AGL - PAL

AGL - HPF


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September 3, 2010

Although demand decrease might be alarming we need to reiterate that these

numbers focus on the calendar year whilst we expect fiscal year based fertilizerofftake to remain stable.

Revised Annual estimates Urea and DAP offtakes


Further although decrease in overall offtake is expected, we need to remember that

Pakistans indigenous capacity for N:P:K fertilizers remain well below its annual

requirement and thus we maintain varying degrees of reliance on international

supplies of all major fertilizer products. Although we forecast that due to a slow

3QCY10, total offtakes are likely to decrease, we believe that local manufacturers

will remain immune to such a downturn with import requirements bearing the brunt.

Nutrient offtake pre and post flood scenario - Historical

Initial Revised

mn tons CY10 CY10E

Local demand Urea 6.6 6.0

Local production Urea

FFC 2.3 2.3

FFBL 0.5 0.5

ENGRO 1.3 1.3

PFL 0.1 0.1

AGRTECH 0.4 0.4

FATIMA 0.4 0.4

DAWH 0.4 0.4

Total Local production Urea 5.4 5.4

Estimated imports Urea 1.2 0.6

Local DAP demand 1.3 1.1

Local production DAP

FFBL 0.6 0.6

Estimated Imports DAP 0.7 0.5

-

0.5

1.0

1.5

2.0

2.5

3.0

3.5

FY73

FY75

FY77

FY79

FY81

FY83

FY85

FY87

FY89

FY91

FY93

FY95

FY97

FY99

FY01

FY03

FY05

FY07

FY09

Nitrogen Phosphate



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September 3, 2010

CREDITS TO BE AVAILED: WHEAT CROP GROWTH UNLIKELY TO BE

HAMPERED

With uncertainty regarding purchasing power of farmers being under question, we

believe that this will not be a major issue for the upcoming Rabi season. While

major farmers are likely to have enough cash resources to furnish out their farm

input demands, small farmers are more likely to be either supported through the

state machinery, ZTBL (Zarai Taraqiati Bank Limited) or will most probably work on

credit with dealers. In either case we do not expect wheat sowing season to be

impeded by these reasons.

WHEAT STILL TO COME: REVIVAL OF AGRO PRACTICE IS LIKELY

Notwithstanding the devastation that floods have caused, we need to assess how

impacts are to pan out for the stake holders. While news concerning destruction ofrice and cotton crops is resounding in the media and such information is likely to

induce sentiments towards possible cut in domestically produced fertilizer demand;

we remain contrarian to the same.

Given that rice and cotton were in their maturity phase and final growth cycle,

upcoming sowing season for wheat and sugarcane is the primary driver for fertilizer

demand by dealers. Fertilizer demand by the two crops (rice and cotton) had

already started to ebb.

With the flood water in parts of Punjab having started to receed (albiet initially on a

slow rate), we expect that within a month rehabilitation would have switched on a

gear or two and most of the agrarian based economy will be back on track. As a

result, although we expect 3QCY10 to pose as a slow quarter for the fertilizermaunfacturers in term of offtakes, much of the bottled demand is likely to spring up

in 4QCY10.

REBALANCE AND REACH: REVITALIZATION OF SOIL

We anticipate that floods have positively impacted arable land availability in the

long run. Further water availability is likely to be maintained during the upcoming

fiscal year crop season which is to positively impact the sector as increased area

under coverage, possible better yields in the upcoming seasons and improved

water tables is likely to push up demand for fertilizer.

OUTLOOK; DOMESTIC OFFTAKES LIKELY TO REMAIN STABLE

We maintain our outlook on the profitability of the sector as we expect any demand

decrease to be offset by decrease in fertilizer imports. Further we expect that long

run implication of improved water tables, water availability and mineral content

improvements is likely to bode-well for the sector. We believe the above mentioned

factors are likely to improve both the arable land availability as well as the yield on

crops. In sight of the Rabi season (wheat), we believe that (Fauji Fertilizer Bin

Qasim) FFBL is likely to benefit from seasonal offtake increase during 4QCY10. We

currently have a fair value of PKR33/share for FFBL providing an upside potential

and dividend yield of 16% and 14% respectively. Although from our current

valuation stand point (ENGRO Corporation) ENGRO also provides upside potential


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September 3, 2010

of 22% to our fair value of PKR208/share, without ruling out the possibility of a

delay in the urea plant we maintain our cautious stance on the stock as earningsgrowth can be potentially delayed.


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September 3, 2010

AUTOS: RURAL/AGRI BASED DEMAND TO TAKE A HIT

AUTOMOBILE SALES DECLINE EXPECTED AT 20% YOY FOR FY11

FY10 was primarily characterized by improved rural incomes leading to 43% YoY

growth in volumetric sales for the industry. However the devastation caused by

floods is expected to depress agricultural income in the next year and hence

demand for automobiles from such regions.

We anticipate a decline of 20% YoY in industry sales to 112,246 units in FY11

(against originally expected growth of 8%). Similarly, individual auto assemblers are

also expected to post declines in their respective sales with INDU expected to sell

20% fewer cars YoY while PSMC may be a bit more resilient this time with its sales

dropping by 15% YoY. With INDU depending a lot more on demand from rural

areas, the company is expected to bear a larger hit than the latter. Despite that, wecontinue to like INDU on the back of its prudent working capital management and

debt free balance sheet.

INDUS FY11E EPS ESTIMATED TO DROP BY 21%!

During FY10, INDU was the key beneficiary of the growth in agri income and

demand for vehicles from the government institutions (sales up 49% YoY). However

it is not expected to sustain this growth going forward.

Our estimated decline in INDUs volumetric sales of 20% YoY to 40,658 units in

FY11 (against 8% YoY growth originally expected) yields a sharp drop of 21% in

FY11E EPS to PKR32.3. The same has also resulted in 26% downward revision in

our fair value for the stock to PKR203/share.

INDU EPS Revision

FY10A FY11F FY12F FY13F

Old 43.8 40.8 48.9 57.8

Revised 43.8 32.3 43.6 55.8

Change -21% -11% -3%


TRACTOR SALES TO SUFFER AS WELL

Tractor sales which are directly related to agricultural growth in the country are

expected to remain subdued in FY11 on the back of a slump in agricultural activityin the flood-affected areas. It experienced a growth of 18% YoY in FY10 to 71,512

units sold during the year with MTL accounting for a larger chunk of sales. Going

forward, a drop in rural incomes can point to a decline of over 20% in tractor sales.

OUTLOOK:DOWNGRADING TO UNDERWEIGHT

Like its peers, INDU has also recently witnessed a decline of 14% MoM in its sales

in Jul10 albeit the least amongst all. While the outgoing months numbers may not

be a true reflection (post budget impact), we reiterate our view that sales may suffer

a sharp dip in FY11 as the impact of floods gets pronounced with the passage of

AUTOMOBILE & PARTSUNDERWEIGHT

Sana I. Bawani

Auto Analyst


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September 3, 2010

time. Additionally, JPY has currently surged to new levels against PKR crossing

PKR1/JPY mark which leads us to expect another round of price increases in thecoming months. We thus downgrade our sector stance from Marketweight to

Underweight.


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September 3, 2010

DISCLAIMER

This memorandum is produced by BMA Capital Management Limited and is only forthe use of their clients. While the information contained herein is from sourcesbelieved reliable, we do not represent that it is accurate or complete and should notbe relied upon as such. Opinions expressed may be revised at any time. Thismemorandum is for information only and is not an offer to buy or sell, or solicitationof any offer to buy or sell the securities mentioned.

ANALYST CERTIFICATION

We, Hamad Aslam, Abdul Shakur, Nurali Barkatali, Sana I. Bawani, Omar Rafiq

and Ali Taufiq, hereby certify that this report represents our personal opinions and

analysis of information. All views are accurately expressed to the best of ourknowledge. We certify that no part of our remuneration is linked either directly or

indirectly to recommendations or analysis covered in this report

bma_strategy report flood _ 03092010

Documents