pakistan fertilizers 24-10-2016

Pakistan Fertilizers

Result Preview 24th October, 2016

BRP – 116

www.jamapunji.pk

Figure 1 –Market share 9M

Urea Market Share

9MCY16 9MCY15

FFC 46% 43%

EFERT 29% 32%

FFBL 10% 4%

Fatima 6% 7%

DHFL 3% 0%

AGL 5% 1%

NFML 0% 12%

DAP Market Share

FFC 5% 3%

EFERT 26% 26%

FFBL 34% 54%

Other 35% 17%

Source: NFDC, Next Research

Aijaz Siddique +92-21-111-639-825 Ext: 109

[email protected]

Figure 2 – Fertilizer off-take in 3QCY16 was high on account of subsidy implementation UREA

K tons 3QCY16 3QCY15 YoY 2QCY16 QoQ 9MCY16 9MCY15 YoY

FFC 692 476 45% 584 19% 1633 1696 -4%

EFERT 512 331 55% 242 111% 1040 1265 -18%

FFBL 181 75 141% 120 51% 336 169 98%

Fatima 141 59 139% 25 NM 215 272 -21%

DHFL 86 6 NM 28 203% 116 13 NM

AGL 96 21 NM 54 76% 177 28 NM

NFML 0 91 -100% 0 -58% 14 484 -97%

Total 1,708 1,059 61% 1,054 62% 3,531 3,926 -10%

DAP Offtake

K tons 3QCY16 3QCY15 YoY 2QCY16 QoQ 9MCY16 9MCY15 YoY

FFC 17 2 NM 15 9% 46 16 194%

EFERT 112 32 251% 63 77% 234 151 55%

FFBL 138 75 84% 96 44% 305 317 -4%

Other 146 14 NM 80 84% 317 101 214%

Total 414 122 239% 254 63% 902 584 54%


Figure 3 – Next Fertilizer universe expected to post 18% YoY jump in profitability

EPS 3QCY16E 3QCY15 YoY 2QCY16 QoQ 9MCY16E 9MCY15 YoY

FFC 2.59 2.89 -11% 1.71 51% 6.43 9.39 -31%

EFERT 2.43 2.10 16% 0.51 376% 4.53 7.44 -39%

FFBL 0.26 0.19 33% -0.41 n.a. -0.7 1.01 n.a

Fatima 0.88 0.29 201% 0.88 - 2.29 3.55 -35% Source: Next Research

Low base effect flatters to deceive; reiterate Underperform

We expect the profitability of Pak fertilizer universe to rise by 18% YoY in 3QCY16.

Abnormally depressed off-take in the same period last year, coupled with the implementation

of subsidies from Jun-16, is the prime reason for the growth.

Urea off-take is expected to clock-in at 1.7mn tons during 3QCY16 (+61% YoY), taking

cumulative 9MCY16 figure to 3.53mn tons, down 10% YoY. DAP off-take increased

significantly during 3QCY16 to clock in at 414k tons, up 239% YoY. Private imports

captured significant market share due to their competitive prices.

Urea inventory is likely to remain elevated from CY16-CY18, as production continues to

outpace demand, owing to better gas availability. The possibility of exports to clear out the

inventory hinges on government’s ability to allocate a subsidy to cover transportation cost.

We reiterate our U/P rating for the sector. However, we continue to highlight EFERT as a

lucrative dividend yield play given growing dividends and the steep underperformance in the

last 6mths.

Fertilizer universe profitability driven by higher urea and DAP off-take

Next Fertilizer universe is expected to post 18% YoY profitability jump in 3QCY16. While off-take in

3QCY16 was boosted by subsidy implementation post budget, the abnormally low offtake in 3QCY15

is also the reason for the growth. Gross margins are expected to fall as a result of PKR 50/bag cut in

urea prices absorbed by local manufacturers and incremental price discounts. Moreover, rising

inventory levels are expected to push up the industry’s finance costs up by 15% YoY.

Incentives priced-in; fundamentals to remain weak

We reiterate our U/P stance on the fertilizer sector; where structural dynamics remain challenging,

despite off-take recovering to some extent post budget relief measures. Our investment thesis hinges on

an average 3yr EPS CAGR of -6.8% for manufacturers through 2015-18E with longer than earlier

expected period of escalated inventory levels with increase in demand in CY17-18 not enough to

absorb the increase in local production. Moreover, subdued margins amid price discounts will keep

margins under pressure. We maintain our Underperform stance on FFC and FATIMA. We have a Buy

http://www.jamapunji.pk/

mailto:[email protected]

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stance on EFERT due to its growing dividend stream which translates into CY17E dividend yield of

13%. Furthermore, the company trades at CY17E EV/EBITDA of 4.5x compared to the peer average of

~7.0x. FFBL is currently under review.

Inventory unlikely to whittle down anytime soon…

As per our estimates, production is likely to outpace demand in CY17-18 as well, thus we expect

inventory levels to remain inflated through 2016-18E. Improved gas supply has resulted in a 15% jump

in industry production (primarily from FFBL/DHFL/AGL operating at increased capacity in CY16 due

to better gas availability) and we expect this trend to continue going forward. We expect FFC, EFERT,

FATIMA and FFBL to hold an average inventory of 340k, 380k, 260k and 50k tons, respectively,

through 2016-18.

…unless government grants export facility

As per our channel checks the fertilizer industry is pushing government to allow urea exports.

Government’s decision would depend on several factors such as the amount of subsidy to be allocated

to manufacturers to cover the transportation costs, if any, and the export quotas for the manufacturers.

However, even if govt. allows for export, excess supply in regional countries makes us skeptical that

the inventory will immediately clear out. Assuming (1) subsidization of transportation costs by the

government, (2) US$ 200/ton international urea prices, and (3) FFC/EFERT/FFBL/FATIMA allowed

350k/250k/75k/50k tons; EPS for our universe is expected to witness a 6-9% jump in CY17E earnings.

Figure 4 – Production likely to outpace demand over the next two years as well

Figure 5 – EPS sensitivity to urea exports prices suggest 6-

9% upside to our estimates for CY17E

Sa

les (

k t

on

s)

Price US$/MT

170 200 230

FFC - 350 0.14 0.83 1.51

EFERT - 250 0.21 0.62 1.04

FFBL - 75 0.02 0.19 0.36

Fatima - 50 0.14 0.19 0.24

Source: Next Research


4.0

4.5

5.0

5.5

6.0

6.5

7.0

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Production (mn tons) Consumption

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Figure 6 – FFC expected to post 11% drop in EPS due to lower retention prices and other income FFC: 9MCY16 Financial Summary

PKR mn 3QCY16E 3QCY15 YoY 9MCY16E 9MCY15 YoY

Sales 19,155 15,108 27% 47,476 54,294 -13%

Cost of Sales 13,469 9,156 47% 33,464 33,660 -1%

Gross Profit 5,686 5,952 -4% 14,013 20,634 -32%

Gross Margins 30% 39% 30% 38%

EBIT 5,676 5,118 11% 14,384 18,383 -22%

Finance cost 868 520 67% 2,046 963 113%

EBT 4,808 4,598 5% 12,338 17,420 -29%

Taxation 1,516 918 65% 4,153 5,474 -24%

Net Profit 3,292 3,680 -11% 8,185 11,946 -31%

EPS 2.59 2.89 6.43 9.39

DPS 2.50 2.75 -9% 5.90 8.44 -30%


Figure 7 – Higher volumes are expected to boost the profitability of EFERT EFERT: 9MCY16 Financial Summary


Sales 19,031 13,869 37% 42,023 51,928 -19%

Cost of Sales 14,048 7,256 94% 29,742 31,225 -5%

Gross Profit 4,983 6,613 -25% 12,281 20,703 -41%

Gross Margin 26% 48% 29% 40%

EBIT 5,600 5,250 7% 11,639 17,172 -32%

Finance cost 849 1,164 -27% 2,412 3,560 -32%

EBT 4,751 4,087 16% 9,226 13,612 -32%

Taxation 1,520 1,298 17% 3,202 3,707 -14%

Net Profit 3,231 2,789 16% 6,024 9,905 -39%

EPS 2.43 2.10 4.53 7.44

DPS 2.00 1.50 33% 4.00 3.00 33%


Fauji Fertilizer Company Ltd (FFC): FFC is scheduled to announce its result on 26 October, 2016.

We expect the company to post PAT of PKR 3.29bn (EPS of PKR 2.59) in 3QCY16. Despite off-take

increasing 45% YoY, lower retention prices and higher fuel gas tariffs are expected to drag the bottom-

line. Dividend income, which was above PKR 1bn in 3QCY15, is expected to remain very low due to

lack of dividends from major holdings such as AKBL and FFBL. On the other hand, finance cost would

be higher as ST debt piles up following inventory backlog. We expect the company to announce a cash

dividend of PKR 2.50/sh, taking 9MCY16 payout to 5.90/sh.

Engro Fertilizer Limited (EFERT): We expect EFERT to post PAT of PKR 3,231mn (EPS: PKR

2.43) in 3QCY16, up 16% YoY. Improved urea and DAP off-take, up 55% and 251% YoY,

respectively is the prime reason behind the 37% YoY jump in revenue. Contrary to the sector, finance

cost for EFERT is expected to witness a 27% YoY dip with continued deleveraging outpacing the

growth in finance costs due to increased working capital requirements. We expect the company to

declare a cash dividend of PKR 2.00/sh.

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Figure 9 – Steep price discount drive volumetric growth and profitability of Fatima Fatima: 9MCY16 Financial Summary


Sales 8,256 3,007 175% 21,032 21,807 -4%

Cost of Sales 4,419 1,060 317% 10,863 8,450 29%

Gross Profit 3,838 1,947 97% 10,168 13,357 -24%


EBIT 3,529 1,410 150% 8,419 10,964 -23%

Finance cost 824 516 60% 2,124 1,786 19%

EBT 2,705 894 203% 6,295 9,178 -31%

Taxation 866 282 207% 1,480 1,725 -14%

Net Profit 1,840 612 201% 4,815 7,453 -35%

EPS 0.88 0.29 2.29 3.55

DPS - n.a 1.25 - n.a


Figure 8 – Earnings to turn positive on the back of higher sales FFBL: 9MCY16 Financial Summary


Sales 10,786 7,057 53% 22,660 25,051 -10%

Cost of Sales 9,416 5,473 72% 21,626 20,563 5%

Gross Profit 1,370 1,584 -13% 1,034 4,488 -77%


EBIT 1,029 772 33% 836 2,275 -63%

Finance cost 675 580 16% 1,627 1,420 15%

EBT 355 192 85% (791) 855 -193%

Taxation 114 11 NM (137) (84) 63%

Net Profit 241 181 33% (654) 939 -170%

EPS 0.26 0.19 (0.70) 1.01

DPS - - - 0.75


Fauji Fertilizer Bin Qasim (FFBL): FFBL is expected to post PAT of PKR 241mn (EPS: PKR 0.26)

in 3QCY16. Even though volumetric growth was impressive during the quarter with urea and DAP

sales up by 141% and 84% YoY, respectively, the business has suffered due to delayed revision in

phosphoric acid prices, coupled with rising inventories and lower retention prices for both urea and

DAP. In case of DAP, the company has failed to achieve the same sales growth as demonstrated by

private importers due to price competition. Phosphoric acid prices of FFBL have been revised to ~US$

600/mt. We have assumed US$ 650/mt and US$ 610/mt for 2Q and 3Q, respectively and used the

average cost method to calculate the cost of production in every quarter.

Fatima Fertilizer Limited (Fatima): We expect Fatima to post net earnings of PKR 1.84bn (EPS of

PKR 0.88) in 3QCY16, up 201% YoY. Whilst urea volumetric growth is strong, it is exaggerated by

the base effect due to unusually low off-take in 3QCY15. Moreover, FATIMA has been offering heavy

price discounts which are expected to put margins under pressure. CAN and NP also posted strong

growth figures. Moreover, working capital requirements are expected to hit FATIMA significantly with

a 60% jump in finance cost expected.

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APPENDIX 1

Analyst Certification: All of the views expressed in this report accurately reflect the personal views of

the responsible analyst(s) about any and all of the subject securities or issuers. No part of the

compensation of the responsible analyst(s) named herein is, or will be, directly or indirectly, related to

the specific recommendations or views expressed by the responsible analyst(s) in this report.

Disclaimer

This information and opinion contained in this report have been complied by our research department

from sources believed by it to be reliable and in good faith, but no representation or warranty, express

or implied, is made as to their accuracy, completeness or correctness. All opinions and estimates

contained in the document constitute the department’s judgment as of the date of this document and are

subject to change without notice and are provided in good faith but without legal responsibility.

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securities. Next Capital Limited (the company) or persons connected with it may from time to time

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related investment and may make a purchase and/or sale, or offer to make a purchase and/or sale of the

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either as principal or agent.

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use of words such as “anticipate”, “believe”, “estimate”, “intend”, “plan”, “expect”, “forecast”,

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these forward looking statements. NCEL expressly disclaims any obligation to update or revise any

such forward looking statements to reflect new information, events or circumstances after the date of

this publication or to reflect the occurrence of unanticipated events.

Exchange rate fluctuations may affect the return to investors. Neither the company or any of its

affiliates, nor any other person, accepts any liability whatsoever for any direct or consequential loss

arising from any use of this report or the information contained therein.

Next Capital Limited, its respective affiliate companies, associates, directors and/or employees may

have investments in securities or derivatives of securities of companies mentioned in this report, and

may make investment decisions that are inconsistent with the views expressed in this report.

Rating System

Next Capital Limited employs a three tier rating system depending upon sector’s proposed weight in

the portfolio as compared to sectors weight in KSE-100 index, as follows:

Rating Sector’s proposed weight in the portfolio

Over Weight > Weight in KSE 100 index

Market Weight = Weight in KSE 100 Index

Under Weight < Weight in KSE 100 Index

Ratings are updated regularly based on the latest developments in the economy/sector/company,

changes in stock prices, and changes in analyst’s assumptions.

Next Capital Limited employs a three tier rating system, depending upon expected total return (R) of

the stock, as follows:

6

Where;

R

= Expected Dividend Yield + Expected

Capital Gain

‘R’ is before tax

Investment horizon is between six

months to twelve months

Ratings are updated regularly based on the latest developments in the economy/sector/company,

changes in stock prices, and changes in analyst’s assumptions.

Valuation Methodology

The Research Analyst has used DCF (Discounted Cash Flow) methodology to arrive at Dec-16 Target

Price.

Key Risks

Margin attrition due to further decline in fertilizer prices

Rating Expected Total Return

Buy R ≥ 15%

Neutral 0% ≥ R < 15%

Sell R < 0%

pakistan fertilizers 24-10-2016

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