invigorating the rural core - arif habib...

March 27, 2017

Invigorating the Rural Core

Automobiles Millat Tractors Limited REP 300

*MTL is part of the Provisional MSCI EM Small Cap Index

We extend our coverage of the local automobile industry with the addition of *Millat Tractors Limited (MTL) to the AHL Auto Universe. At current price levels, our Dec’17 DCF-based target price of PKR 1,594.84/share offers an upside of 26%; we initiate with ‘BUY’. Our investment theory is underpinned by i) MTL’s undisputed top spot in the domestic tractor market (FY16 / 8MFY17 market share: 61% / 62%), ii) recently discovered growth avenue in the African and Middle Eastern region under agreement with M/s AGCO; total sales set to augment at a strong 5-yr CAGR of 15% by FY21, iii) stable margin outlook amid impressive indigenization levels for some models at ~90%, and iv) up trending cash reserves likely to preserve buoyant dividend payout. Alongside the above, a major catalyst for the scrip remains a possible collaboration with Hyundai Motor Company and Nishat Mills Limited (NML); although we await further clarity before incorporating it in our hypothesis.

Shining Through Our Glorious Fields While historical check reveals that domestic tractor sales have undergone a checkered past, as per official data disseminated by the Pakistan Automotive Manufacturers Association (PAMA), MTL secured a market share averaging at ~60% over the past 8 years. Factoring in company’s strong position as well as improving agri outlook, additional incentives amid election year hype (potential announcement of tractor scheme), historic low policy rates and rising economic growth / income, forecasts over our outlook horizon (FY17-FY21) suggest local sales could grow at a 5-yr CAGR of 13% to 38,643 units.

Expedition to Build Global Muscle Automotive exports from Pakistan to various world markets have been an insignificant part of Millat’s earlier narrative (export sales constituted 2% of total revenue during FY16). Albeit, the company had pursued exposure in new markets for quite a while and remained successful in realizing milestone agreements with AGCO Corporation in Nov’15 for trademark licensing and exports of Massey Ferguson tractors and parts. While the company targets the African and Middle-Eastern market initially, Millat remains confident that its green tractors could have a global outreach. In our view, export sales could grow at a 5-yr CAGR of 35% to 4,554 units (adding 15% to company revenue by FY21).

Margins Immune to Externalities Millat has come a long way since it first commenced local assembly of tractors in 1965. Building on localization levels along the years, some company models have achieved localization near ~90%. This has largely kept gross margins on average stable at ~18% over a 5-yr period (FY16: 20%). Going forward, with limited reliance on imported components and exports yielding higher returns, we foresee margins to average at 22% over the next 5 years.

Fund Utilization Pivotal While MTL’s sales story has been nothing short of convincing, its cash reserves have financed stunning payouts in prior years (FY16: PKR 50.00/share; 127% payout). With sales depicting a robust outlook and demand for some tractors booked ~2 months in advance, we expect EBITDA generation to grow at a 5-yr CAGR of 25% to PKR 7.9bn (FY16: 2.6bn). Pertinently, while MTL may keep payout afloat (FY17E: 72.00/share), its cash rich position may also be used to finance JV with Hyundai in case of materialization.

Exhibit. 1 Financial Highlights FY16A FY17E FY18F FY19F FY20F FY21F EPS 39.52 89.61 111.56 91.47 106.97 125.59 DPS 50.00 72.00 89.00 73.00 86.00 100.00 P/E (x) 14.43 14.13 11.35 13.84 11.83 10.08 ROE 39.54 87.58 91.14 64.00 65.77 67.55 Source: Company Financials, AHL Research

Millat Tractors Limited

MTL - Automobiles

Valuation Dec’17 target price of 1,594.84/share offers a 26% upside Our DCF-based Dec’17 target price for the company works out to PKR 1,594.84/share, which translates into a potential upside of 26% from last closing of PKR 1,265.90/share. Our valuation parameters include cost of equity (CoE) at 12.1% and a 5-yr adjusted Beta of 0.76. Please refer to the table below for valuation details:

Exhibit. 3 Valuation Snapshot Jun-17 Jun-18 Jun-19 Jun-20 Jun-21 EBIT 5,434 6,673 5,451 6,424 7,604 Taxation (1,685) (2,002) (1,635) (1,927) (2,281) Post Tax EBIT 3,750 4,671 3,816 4,497 5,323 Depreciation + Amortization 73 73 70 68 66 EBITDA (1-t) 3,823 4,744 3,886 4,565 5,389 Capex (176) (69) (58) (50) (56) WC (38) (7) (3) (17) (16) FCF 3,609 4,668 3,825 4,497 5,317 DCF 3,823 4,410 3,224 3,379 3,563 Sum of PV 18,399 PV of Terminal Cash flows 52,524 Net Debt (284) Equity Value 70,639 O/Shares (mn) 44 Per Share 1,595 Source: AHL Research

Exhibit.

Exhibit. 2 Valuation Criteria Risk Free Rate 7.6% Beta (adjusted) 0.76 Risk Premium 6.0% CoE 12.1% Source: AHL Research


MTL - Automobiles

About the company Incorporated in 1964, Millat Tractors Limited is a public limited company listed on the Pakistan Stock Exchange (PSX). The company is engaged in assembly, manufacturing and marketing of globally renowned Massey Ferguson Tractors, Forklift Trucks under licensing agreement with Anhui Heli Forklift Trucks (China), Diesel engines, castings, implements and other multi-application products at its 30,000 units p.a. (double-shift capacity) plant situated at District Sheikhupura, Lahore.

The company has been in business for over 50 years and remained under government’s control for a period that spanned around 20 years. Albeit, in 1992, MTL underwent Privatization via Employee Buyout and has since been recognized for being a prominent player in the global tractor industry. As per a study by Plimsoll - UK, MTL was named the 16th largest company in the global tractor manufacturing industry (2016). Other accolades include Brand of the Year Award (2016) by Brands Foundation Pakistan, 2nd Best Company in PSX Top 25 Companies (2015), and inclusion in Asia’s Best 200 under a Billion Dollar Companies by Forbes Global (2011), amongst others. The company also achieved its highest ever production in 2011 at 42,188 units (given its ability to work on triple-shift capacity of 45,000 units).

Over the years, the company established close ties with manufacturers of automotive parts to safeguard supply of quality raw materials. The Millat group under Chairman Mr. Sikandar Mustafa Khan, comprises of four sister concerns namely: Millat Industrial Products Limited (Unlisted; 64.09% holding), TIPEG Inter Trade DMCC (Unlisted; 75.00% holding), Millat Equipment Limited (Unlisted; 45.00% holding) and Bolan Castings Limited (Listed; 46.26% holding).

Exhibit. 4 Shareholding Pattern (as of Jun'16) Figure. 1 Shareholding Pattern (as of Jun'16)

No of Shares % of Shares

Associated co.'s 456,633 1.0% Public co.'s 2,046,871 4.6% Insurance co.'s 2,347,990 5.3% Directors 13,193,420 29.8% General Public Individuals 17,904,144 40.4% Others 8,343,486 18.8% Total 44,292,544 100.0% Source: Company Financials, AHL Research Source: Company Financials, AHL Research

Associated co.'s

Public co.'s

Insurance co.'s

Directors

Individuals

Others


MTL - Automobiles

Local Dynamics at the Forefront

Past Policies: Queue Volatility Prior to FY09 the tractor industry progressed at a decent pace being subject to a tax free regime. However, we noticed a rather distinct movement in the domestic tractor sales as we observed market data post FY10. A period of consolidation was witnessed post every year of growth amid varying government policies which played a massive role in said volatility.

As the industry achieved its highest ever sales of ~71,512 units in FY10, the government remodeled taxation policy to impose a 10% General Sales Tax (GST) on tractors for the very first time. In the following year, GST was hiked up to 17% which coincided with plunging sales that continued well into 1HFY12.

Albeit, the Economic Coordination Committee decided in Jan’12 to ease the sales tax to 5% in order to mitigate the situation; while it did little to recover sales in the second-half (FY12: 50k units sold, down 28% YoY), this relaxation was short-lived. Contingency clause required gradual annual rate spikes to peak levels of 17%. Hence in the subsequent year, GST rate picked up to 10%; however, units sold inclined slightly to 51k (up 2% YoY). Support to the industry appeared in the form of a tractor scheme where the Punjab govt. distributed ~10,000 tractors in FY13 (MTL and AGTL had a share of 5,600 and 4,400 units, respectively). Following that, sales took another turn back to 34k units in FY14 (down 34% YoY) as GST touched 17% again.

Although, some stability was witnessed in FY15 as GST slipped to 10% aiding sales to grow by 39% to 47k, it was in FY16 that realization struck and the incumbent government retained GST in a move to ensure stability. As fate would have it, 2016 remained a particularly difficult year for the agriculture sector of Pakistan amid unfavorable weather conditions and fall in commodity prices. In-tandem, tractor sales retreated to 35k (down 26% YoY).

Figure. 2 Negative Correlation between Sales and GST

Source: Company Financials, AHL Research, *FY13: Tractor Scheme

-

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

FY5 FY6 FY7 FY8 FY9 FY10 FY11 FY12 FY13* FY14 FY15 FY16

Sales (RHS) GST on Tractor Sales


MTL - Automobiles

FY16: Year of Agri - Aggravation To recall, the economy grew at 4.71% during FY16 (FY15 GDP: 4.04%), while the agriculture sector (accounting for 19.82% of GDP and 43.7% of employment) recorded a negative growth of 0.19% vis-à-vis growth of 2.53% last year and an average growth of 2.26% since FY10. Although Fisheries, Livestock and Forestry under agriculture illustrated a healthy growth of 3.25%, 3.63% and 8.84%, the crops subsector (often the main driver of agriculture) declined by 6.25%.

Crop growth appeared weak where the key subsector of important crops (contributing 23.55% to total agriculture) displayed a negative growth of 7.18% amid plunge in production of Cotton, Rice and Maize by 27.83%, 2.74% and 0.35%, respectively. The value addition segment (cotton ginning; 2.32% share) also took a hit as cotton production slowed down, demonstrating adverse growth of 21.26%. Similarly, other crops (comprising 11.36% of cumulative agriculture value) also witnessed a stagnation of 0.31% given lower production of Pulses (-12.49%), Fruits (-2.48%) and Oilseeds (-9.56%). While climate change and inadequate availability of irrigation water upset crop output in the past year, dismal commodity price scenario also added to the miseries of the agriculture sector. Concomitantly, LSM growth (although at a robust 4.61% vs. 3.29% last year), remained below targeted levels (~6.4%) as poor crop growth affected other sectors; we highlight its impact on the tractor industry which experienced a deceleration of ~26% in FY16.

Exhibit. 5 Agriculture Growth Percentages (Base year: FY06)

Sector FY10 FY11 FY12 FY13 FY14 FY15 FY16P* Agriculture 0.23 1.96 3.62 2.68 2.50 2.53 (0.19) Crops (4.16) 0.99 3.22 1.53 2.64 1.04 (6.25)

i) Important Crops (3.74) 1.50 7.87 0.17 7.22 (0.52) (7.18) ii) Other Crops (7.24) 2.27 (7.50) 5.58 (5.71) 3.09 (0.31) iii) Cotton Ginning 7.29 8.48 13.83 (2.90) (1.33) 7.24 (21.26)

Livestock 3.80 3.39 3.99 3.45 2.48 3.99 3.63 Forestry (0.07) 4.76 1.79 6.58 1.88 (10.43) 8.84 Fishing 1.40 (15.20) 3.77 0.65 0.98 5.75 3.25 Source: Economic Survey, Pakistan Bureau of Statistics, AHL Research (*P: Provisional)

FY17: Grass Getting Greener We believe that the negative growth in agriculture was a non-recurrent theme (previously witnessed in Pakistan during FY01); however, we further build on our case to detach from the FY16 occurrence amid government support to the sector in the form of budgetary measures. As per the FY17 budget, several relief announcements were made for the agriculture sector included, but not limited to: i) availability of targeted agricultural credit worth PKR 700bn (FY16: PKR 600bn; Disbursement: PKR 302bn in 1HFY17), ii) subsidy on urea to the quantum of PKR 17.16bn, and iii) extension of subsidy on DAP fertilizers to the tune of PKR 10.80bn.

That said, crop outlook for the current year appears largely supportive. In particular, swift recovery in cotton prices (up by 24% YoY in FY17TD) has visibly managed to support crop supply; cotton production has already exceeded its revised target of 10.54mn and FY16 production levels of 10.07mn bales to settle at 10.71mn bales during FY17TD (Pakistan Cotton Ginners’ Association - PCGA). Similarly, as we approach peak sugar production season, estimates by Provincial Governments for FY17 indicate allotment of 1.23mn hectares of crop area committed for sugarcane compared to 1.13mn hectares in the preceding year; sugarcane production for the current year is forecasted at 71.37mn tons vis-à-vis FY16 production of 65.45mn tons (Pakistan Sugar Mills Association - PSMA). Meanwhile, the govt. expects bumper wheat crop this year at 26mn tons (FY16: 25mn tons). In light of the above and by means of growing fertilizer consumption, improved


MTL - Automobiles

protection against pest attacks coupled with favorable weather conditions, a recovery in the agriculture sector has been set in motion.

Bearing in mind the current retrieval in the agrarian industry as well as the government's decision to reduce sales tax on tractors to 5% under the last fiscal budget, demand for tractors has been irrepressible; industry sales have grown by a solid 76% in FY17TD to 31,341 units.

Greenfields Conquered Even though absence of strong trend lines in the tractor industry became increasingly evident from the data commencing FY10, MTL’s irreplaceable top position has been a constant throughout. The company’s market leader title remains unsusceptible to challenges given “Made in Pakistan” Massey Ferguson tractors under the Millat brand have been synonymous with quality along the years. Grabbing 21k units (61% share) out of the total 35k units in FY16 and ~20k units out of 31k industry sales in 8MFY17, MTL’s market share lies at a safe 62% at present. Pertinently, two other prominent players in the industry namely: Al-Ghazi Tractors (AGTL) and Orient Tractors, formed ~38% of the market. While as per the latest auto policy, remaining few of the total 8 players made up an insignificant 2% of the market during FY14 whereas their production during FY15 remained nil. Heedful of the said dynamics, local sales of the company are expected to clock-in at 31,786 units during FY17E (up by 51% YoY) and going forward, generate a 5-yr CAGR of 13% to 39k units as we foresee i) immediate triggers (election year incentives including possible announcement of tractor scheme), and ii) long term triggers (budding economic growth / income per capita and scope for mechanization to support higher crop yields) to translate into a healthy demand for Millat tractors.

Budget FY18: Proxy Electoral Bravado As per official electoral timeline, ceteris paribus, the incumbent government is expected to conclude its 5 year long tenure in May’18. By virtue of this, the forthcoming budget will lead up to the impending elections whereby political parties will lean towards announcement of popular policies.

Considering rural population still constitutes over 60% of the total head count in Pakistan, incentives for the agricultural community remain of high significance. Moreover, futile promises for tractor schemes during prior budgets have let down farmers in the past and this year provides an opportunity to make amends. Alongside a conducive tractor scheme, we consider retention of GST at current levels (5%) to be another popular incentive.

Figure. 3 MTL’s Strong Market Presence

Source: Company Financials, AHL Research

61%

37%

2%

62%

36%

2%

MTL

AGTL

Orient

FY17TD

FY16


MTL - Automobiles

A Rising Tide Lifts All Boats Considering the farming community’s longstanding trust in the company, we believe MTL stands to benefit from the ongoing wave of economic recovery in the country. With historic low interest rates, FX Reserves at near record high levels of over USD 22bn, improved long-term rating Credit Ratings by Moody’s (‘B3’: Stable Outlook), S&P (‘B-’: Positive Outlook) and Fitch (‘B’: Stable Outlook) and high investor confidence (Credit Default Risk at an unprecedented low levels of ~322bps), we target GDP growth under the current year at 5.2% (FY16: 4.71%). This remains in-line with the International Monetary Fund (IMF), Asian Development Bank (ADB) and World Bank (WB) revised targets for Pakistan’s expected GDP growth in FY17 to ~5.2% (previous estimates averaged between 4.7% - 5.0%).

While the country’s already taken a step in the right direction, we project economic growth in the upcoming years to outdo current pace as projects under the mammoth USD 55bn China Pakistan Economic corridor (CPEC) come online. We believe CPEC could have a multiplier effect on the economy as it is set to remove the country’s energy bottleneck (and stage a revival in the textile industry in conjunction), besides generate upbeat demand for Cements, Steel, Automobiles and OMC’s (fuel). In particular, Millat’s management suggests that advent of CPEC has triggered demand for earth moving tractors (growing slice of MF 385 variants in the company order book).

Mechanization: Breakthrough in Agronomy While use of tractors and other equipment has become mainstream in neighboring and developed parts of the world, local farmers continue to rely on manual labour. Case in point: as per the Automotive Development Policy (2016-2021), horsepower per hector in India rests at 2.31 compared to only 0.9 HP per hector in Pakistan. Where lower income levels play a key role in said statistics, lack of formal training also hinders implementation of modern day farming techniques. Resultantly, the United States Department of Agriculture (USDA) reports that crop yield in Pakistan hovers below levels seen in other giant economies as well as the world average (please check table below).

Exhibit. 6 Crop Yields (Metric tons per hectare)

Cotton Rice Wheat Oilseed Pakistan 0.54 3.72 2.73 1.07 India - 3.60 2.75 - Bangladesh - 4.40 - - Afghanistan - - 1.96 - Sri Lanka - 3.95 - - Nepal - 3.10 2.45 - China 1.57 6.89 5.39 2.39 U.S.A. 0.86 8.38 2.93 3.02 World average 0.69 4.42 3.27 - Source: USDA, AHL Research, *Preliminary 2015/16 Data

Though a far-fetched thought, we consider this as another window of growth for the tractor industry. As population growth in Pakistan catches up with other densely populated economies, need for greater food security, reliance on local produce and higher crop yield will turn out to be vital and derive mechanization (demand for tractors) in the country.


MTL - Automobiles

Foreign Markets Now Under Radar

Testing Waters in Africa & Middle-East Until last year, locally manufactured Millat tractors had only served the overseas market in Afghanistan; as per company management approximately 1,000 units were exported in FY16 (comprising 2% of the total revenue). Albeit, MTL has recently undertaken a relatively new export endeavor in collaboration with AGCO Corporation, a prominent name in the agricultural equipment and tractor industry headquartered in the United States.

With landmark agreements signed in Nov’15, Millat is set to expand its global outreach in Africa and Middle-East (Zambia, Tunisia etc.) given AGCO offers a range of tractors under well-established brands across the globe. With regard to this, MTL recently launched export quality emission compliant Diesel engines (MF 300 series) in collaboration with Stanadyne Corporation (USA) during Jan’17.

Pushing the Envelope Further Interestingly, corporate sales of tractors remain the focus for international markets even though exports of other automotive parts target a mix of corporate and retail clients. As per the management of MTL, the company exported ~300 tractor units during 1HFY17 under agreement with AGCO while another ~300 units will be exported in the current quarter. Although exports form a very small chunk of overall sales currently, AGCO may eventually open up other markets for MTL that are subject to stricter emission control levels at present. Management remains optimistic about gradual order building as it deems locally build Massey Ferguson tractors to be very competitive while premium export prices mark this a highly conducive venture for MTL. That said, we expect exports to grow at a 5-yr CAGR of 35% by FY21 to 4,554 units and contribute 15% to total revenue.

Sales the Key Profitability Driver Topline growth of the company remains the underlying theme of our hypothesis; anticipated total company sales during FY17 and FY18 of 33,286 and 40,217 units (up 58% and 21% YoY) would translate into revenue generation of PKR 30,380mn and 37,764mn, respectively. While volumes are expected to grow at a 5-yr CAGR of 15% to 43,197 units by FY21 (Revenue: PKR 44,701mn). Moreover, it is important to highlight a slight breather displayed in our FY19 estimates given our conservative stance on the pace of growth in agricultural land and a decent operative life of Pakistani tractors (10-30 years).

Figure. 4 MTL’s Sales Break-up


-

5,00

0

10,00

0

15,00

0

20,00

0

25,00

0

30,00

0

35,00

0

40,00

0

45,00

0

50,00

0

FY17E

FY18F

FY19F

FY20F

FY21F

Local Sales Export Sales(PKR mn)


MTL - Automobiles

Margins: Theory of Stability

Indigenization a Catalyst MTL manufacturers a mix of tractors in its MF series portfolio. For models up to 60HP, the company has achieved localization at 90% while heavier tractors (75-85HP) accounting for ~35% of company sales are indigenized at 70% levels. This has largely allowed company margins to remain firm as exposure to foreign exchange remains limited. As per company management, imports are usually sourced from a range of regions (China, Mexico, USA, Dubai and Europe to name a few).

With over 80% of imported raw material costs denominated in the USD, our estimates suggest a negligible impact of PKR 0.033/share on FY17E bottom-line with every 1% change in USD. Correspondingly, the Euro and British Pound with exposure in import costs at 10% and 9%, respectively, have a mere PKR 0.004/share impact each on the FY17E profitability given a 1% change in exchange parity’s.

High Yielding Exports While higher volumes resulting in economies of scale has enabled margins to expand in the current year, export sales have played an equally important role to push growth, we view. The management considers gross margins at a stunning 24% during 2QFY17 sustainable. Albeit, we conservatively assume margins in FY17 to clock-in at 23% and average at 22% over the next 5 years.

Figure. 5 Margins Move in-line with Volumes


10%

12%

14%

16%

18%

20%

22%

24%

FY16A FY17E FY18F FY19F FY20F FY21F

GP Margin NP Margin


MTL - Automobiles

Cash Reserves; Forward March

Healthy Near Term Growth Elated tractor demand in the current year with booking period for some variants (MF 375/385) bordering on 2 months has visibly improved company’s cash reserves to PKR 4,225mn by 2QFY17 (FY16: 3,363mn). Pertinently, MTL invested a major chunk of these funds into conventional mutual funds by the end of 2QFY17 (PKR 3,058mn) which may possibly support other income in the current year.

Going forward, we anticipate total company sales to grow at a 5-yr CAGR of 15% to 43,197 units by FY21 and with that said, we anticipate EBITDA generation to grow at a 5-yr CAGR of 25% to PKR 7.9bn (FY16: 2.6bn) by FY21. As per company management, surplus funds henceforth could be utilized for either working capital needs or a prospective long-term strategic investment. We believe, excess capital could be used to finance company’s potential joint venture with Hyundai and Nishat Mills Limited (NML).

Figure. 6 EBITDA Outlook Positive


-

7,500

15,000

22,500

30,000

37,500

45,000

52,500

FY1

2A

FY1

3A

FY1

4A

FY1

5A

FY1

6A

FY1

7E

FY1

8F

FY1

9F

FY2

0F

FY2

1F

Revenue EBITDA(PKR mn)


MTL - Automobiles

What’s In Store for the Company’s Bottom-line

Earnings Recap To recall, MTL generated a bottom-line of PKR 1,750mn (EPS: PKR 39.52) during FY16, depicting a negative growth of 27% YoY coupled with a 3-yr CAGR of -6%. As discussed above, anticipation of tractor scheme and imposition of GST on tractors slowed down tractor demand in the past. Albeit, sharp recovery in tractor sales under the current year amid lower GST (5% vs. 10%) and recovery in the agriculture sector has allowed the company to post earnings of PKR 1,580mn (EPS: PKR 35.67) in 1HFY17, a jump of 2x YoY.

Profitability Summary We accentuate our positive stance for the company ensuing from a strong projected uptick in earnings at a 5-yr CAGR of 25% to PKR 5,563mn (EPS: PKR 125.59 in FY21). We forecast profitability for FY17 / FY18 at PKR 3,969mn / 4,941mn (EPS: PKR 89.61 / 111.56), up 127% / 24% YoY on the back of i) vigorous growth expected in company sales (FY17: 33,286 units and FY18: 40,217 units vs. 21,111 units sold in FY16), and ii) robust margin outlook (average FY17-FY18: 22% compared to 20% in FY16) supported by volumetric growth and conducive export yields. Along with this, we expect the company to pay out a cash dividend of PKR 72.00 / 89.00 per share during FY17 / FY18 (assuming payout at a conservative 80%) vs. FY16: 50.00/share.

Sensitivity Our investment case is premised on our base case assumption for car sales in the local and export market and remains sensitive to any deviation. Given below is our earnings sensitivity if units sold diverge by 500 / 1,000 units during FY17 / FY18.

Exhibit. 7 Earnings sensitivity - Local Sales Units Exhibit. 8 Earnings sensitivity - Export sales FY17 FY18 FY17 FY18

Base case EPS 89.61 111.56 Base case EPS 89.61 111.56

Case 1: 500 units 90.78 112.78 Case 1: 500 units 91.87 113.87

Change 1.31% 1.09% Change 2.52% 2.07%

Case 2: 1,000 units 91.96 113.99 Case 2: 1,000 units 94.13 116.17

Change 2.61% 2.17% Change 5.04% 4.13% Source: AHL Research Source: AHL Research


MTL - Automobiles

JV With Hyundai: Diamond in the Rough South Korea’s leading automobile manufacturer Hyundai Motor Company (HMC) recently expressed interest to commence local assembly by means of a Green Field Investment under the Auto Policy (2016-2021). To recap, HMC’s former stint in the local market came to an abrupt end when its local partner Dewan Farooque Motors Limited (DFML) became insolvent; the company previously manufactured Hyundai vehicles (Santro & Shehzore) until FY10.

This time around, HMC plans to collaborate with Nishat Mills Limited (NML) and Millat Tractors Limited to reinvent it’s brand in the Pakistani automobile market by manufacturing HMC passenger cars as well as 1 ton Light Commercial Vehicles (LCV’s).

Our back of the envelop estimates suggest that with Hyundai sales assumed at 5,000 units at an average price of PKR 7mn / 16mn, earnings impact on MTL given equity stake of 10% will be PKR 0.79 / 1.81 per share (with 20% equity stake, impact will be PKR 1.58 / 3.61 per share). Similarly, if 15,000 Hyundai units are sold at an average price of PKR 7mn / 16mn, earnings impact on MTL with an effective equity stake of 10% appears to be PKR 2.37 / 5.42 per share (whereas at 20% stake assumption, PKR 4.74 / 10.84 per share will be added to MTL’s bottom-line).

We have run a sensitivity with respect to the potential impact on MTL, subject to materialization of the JV in future. Assuming total project cost at ~USD 250mn, we have assumed MTL’s shareholding in the project over a range between 10 – 20% (PKR 2,625mn to PKR 5,250mn) and an average return on equity (ROE) of 20% over the next 10 years. At 10% stake, this project could add PKR 97.57/share to MTL’s target price while at 20% it could go up to PKR 200.28/share. Please check the table below for details:

Exhibit. 9 JV with Hyundai MTL's Equity stake 10% 12% 14% 16% 18% 20% Target Price Impact 97.57 118.11 138.65 159.19 179.74 200.28 Source: AHL Research


MTL - Automobiles

Key risks

Downside risks We recognize the following downside risks to our earnings outlook and target price: i) adverse movement in USD, EURO and GBP to negatively impact bottom-line, ii) sharp recovery in crude/commodity/steel prices, iii) unfavorable budget policies, iv) hike in GST on tractors, and v) lower than expected demand.

Upside risks Risks that may corroborate earnings going forward include i) impact of favorable fluctuations in USD, EURO and GBP on gross margins, ii) higher than anticipated demand in the local/export market, and iii) economies of scale aiding margin accretion.


MTL - Automobiles

Focus Charts

Figure. 7 MTL: Market Share Over the Years Figure. 8 Healthy Payout

Source: PAMA, AHL Research Source: Company Financials, AHL Research

Figure. 9 Correlation Between Sales and Margins Figure. 10 Volatile Foreign Currencies; Exposure Limited

Source: Company Financials, AHL Research Source: Bloomberg, AHL Research

45%

50%

55%

60%

65%

70%

-

10,000

20,000

30,000

40,000

50,000

FY08

FY09

FY10

FY11

FY12

FY13

FY14

FY15

FY16

FY17

TD

Production Sales(PKR mn)

70%80%90%100%110%120%130%140%

- 20.00 40.00 60.00 80.00

100.00 120.00 140.00

FY1

2A

FY1

3A

FY1

4A

FY1

5A

FY1

6A

FY1

7E

FY1

8F

FY1

9F

FY2

0F

FY2

1F

EPS DPS Payout (RHS)(PKR)

15%

20%

25%

30%

35%

40%

45%

- 5,000

10,000 15,000 20,000 25,000 30,000 35,000 40,000 45,000 50,000

FY1

2A

FY1

3A

FY1

4A

FY1

5A

FY1

6A

FY1

7E

FY1

8F

FY1

9F

FY2

0F

FY2

1F

Sales (LHS) GP Margin EBIDTA Margins(PKR mn)

60.00

80.00

100.00

120.00

140.00

160.00

180.00

FY1

0A

FY1

1A

FY1

2A

FY1

3A

FY1

4A

FY1

5A

FY1

6A

PKR-USD PKR-EUR PKR-GBP


MTL - Automobiles

Exhibit. 10 Income Statement (PKR mn) FY15A FY16A FY17E FY18F FY19F Net Sales 22,938 16,914 30,387 37,740 33,080 Gross Profit 4,396 3,336 6,846 8,419 6,922 EBITDA 3,535 2,630 5,607 6,889 5,627 Other Income 404 272 648 781 679 Financial Charges 9 15 10 15 21 Profit after Tax 2,382 1,750 3,969 4,941 4,051 EPS PKR 53.79 39.52 89.61 111.56 91.47 DPS PKR 52.50 50.00 72.00 89.00 73.00 Source: Company Financials, AHL Research Exhibit. 11 Balance Sheet (PKR mn) FY15A FY16A FY17E FY18F FY19F Shareholders' Equity 4,488 4,711 4,142 4,922 5,921 6,739 Non-Current Liabilities 29 21 102 103 104 105 Current Liabilities Trade and Other Payables 2,420 2,885 5,311 6,518 7,448 6,746 Other Current Liabilities 81 92 97 96 94 89 Total Liabilities and Equity 7,018 7,709 9,651 11,639 13,567 13,679 Assets Non-Current Assets 1,597 1,470 1,331 1,434 1,430 1,418 Current Assets 5,421 6,239 8,321 10,205 12,137 12,261 Total Assets 7,018 7,709 9,651 11,639 13,567 13,679 Source: Company Financials, AHL Research Exhibit. 12 Ratio Analysis FY15A FY16A FY17E FY18F FY19F Gross Margins % 19.2 19.7 22.5 22.3 20.9 EBITDA Margins % 15.4 15.5 18.5 18.3 17.0 Net Margins % 10.4 10.3 13.1 13.1 12.2 ROE % 51.8 39.5 87.6 91.1 64.0 ROA % 32.4 20.2 37.3 39.2 29.7 Dividend Yield % 7.7 8.8 5.7 7.0 5.8 P/E x 12.8 14.4 14.1 11.3 13.8 P/B x 6.4 6.1 11.4 9.5 8.3 Source: Company Financials, AHL Research


MTL - Automobiles

Analyst Certification: The research analyst(s), is (are) principally responsible for preparation of this report. The views expressed in this research

report accurately reflect the personal views of the analyst(s) about the subject security (ies) or sector (or economy), and no part of the

compensation of the research analyst(s) was, is, or will be directly or indirectly related to the specific recommendations and views expressed by

research analyst(s) in this report. In addition, we currently do not have any interest (financial or otherwise) in the subject security (ies).

Furthermore, compensation of the Analyst(s) is not determined nor based on any other service(s) that AHL is offering. Analyst(s) are not subject

to the supervision or control of any employee of AHL’s non-research departments, and no personal engaged in providing non-research services

have any influence or control over the compensatory evaluation of the Analyst(s).

Equity Research Ratings Arif Habib Limited (AHL) uses three rating categories, depending upon return form current market price, with Target period as December 2015 for Target Price. In addition, return excludes all type of taxes. For more details kindly refer the following table;

Rating Description BUY Total return of subject security(ies) is more than +10% from last closing of market price(s) HOLD Total return of subject security(ies) is between -10% and +10% from last closing of market price(s) SELL Total return of subject security(ies) is less than -10% from last closing of market price(s) Equity Valuation Methodology Following valuation technique is used to arrive at the target price of subject security (ies);

Discounted Cash Flow (DCF)

Risks The following risks may potentially impact our valuations of subject security (ies);

Market risk Interest Rate Risk Exchange Rate (Currency) Risk

Disclaimer: This document has been prepared by Research analysts at Arif Habib Limited (AHL). This document does not constitute an offer or solicitation for

the purchase or sale of any security. This publication is intended only for distribution to the clients of the Company who are assumed to be reasonably sophisticated

investors that understand the risks involved in investing in equity securities. The information contained herein is based upon publicly available data and sources

believed to be reliable. While every care was taken to ensure accuracy and objectivity, AHL does not represent that it is accurate or complete and it should not be

relied on as such. In particular, the report takes no account of the investment objectives, financial situation and particular needs of investors. The information given

in this document is as of the date of this report and there can be no assurance that future results or events will be consistent with this information. This information

is subject to change without any prior notice. AHL reserves the right to make modifications and alterations to this statement as may be required from time to time.

However, AHL is under no obligation to update or keep the information current. AHL is committed to providing independent and transparent recommendation to

its client and would be happy to provide any information in response to specific client queries. Past performance is not necessarily a guide to future performance.

This document is provided for assistance only and is not intended to be and must not alone be taken as the basis for any investment decision. The user assumes

the entire risk of any use made of this information. Each recipient of this document should make such investigation as it deems necessary to arrive at an independent

evaluation of an investment in the securities of companies referred to in this document (including the merits and risks involved), and should consult his or her own

advisors to determine the merits and risks of such investment. AHL or any of its affiliates shall not be in any way responsible for any loss or damage that may be

arise to any person from any inadvertent error in the information contained in this report.

© 2017 Arif Habib Limited: Corporate Member of the Karachi, Lahore and Islamabad Stock Exchanges. No part of this publication may be copied, reproduced,

stored or disseminated in any form or by any means without the prior written consent of Arif Habib Limited.


MTL - Automobiles

Contact Information

Shahid Ali Habib Chief Executive Officer [email protected] +92 -21-3240-1930

Research Team Shahbaz Ashraf, CFA Head of Research [email protected] +92-21-3246-2589 Tahir Abbas VP- Senior Investment Analyst [email protected] +92-21-3246-2589 Syed Fawad Basir AVP- Investment Analyst [email protected] +92-21-3246-2589 Rao Aamir Ali AVP- Investment Analyst [email protected] +92-21-3246-2589 Syed Shiraz Zaidi Investment Analyst [email protected] +92-21-3246-1106 Muhammad Waleed Rahmani Investment Analyst [email protected] +92-21-3246-1106 Misha Zahid Investment Analyst [email protected] +92-21-3246-1106 Arsalan M. Hanif Investment Analyst [email protected] +92-21-3246-1106 Muhammad Hasnain Madni Officer- Database [email protected] +92-21-3246-1106 Minhal Shahid Management Trainee [email protected] +92-21-3246-1107

Equities Sales Team Azhar Javaid VP- International Sales [email protected] +92-21-3246-8312 Usman Taufiq Ahmed AVP- International Sales [email protected] +92-21-3246-8285 M. Yousuf Ahmed SVP- Equity Sales [email protected] +92-21-3242-7050 Syed Farhan Karim VP- Equity Sales [email protected] +92-21-3244-6255 Farhan Mansoori VP- Equity Sales [email protected] +92-21-3242-9644 Afshan Aamir VP- Equity Sales [email protected] +92-21-3244-6256 Atif Raza VP- Equity Sales [email protected] +92-21-3246-2596 Furqan Aslam AVP- Equity Sales [email protected] +92-21-3240-1932 Adeel Ahmed VP-Head of Online [email protected] +92-21-3246-0045

invigorating the rural core - arif habib...

Documents