Strategic shifts in market priorities
Market remained volatile during the week with a sharp correction of 1,700 points mid-week followed by some recovery during the second-last trading session. Overall, the benchmark index lost 977 points or 1.49%WoW to close the week at 64,816 level.
With the new cabinet taking oath, progress on the IMF SBA’s second review has begun. The arrival of the IMF team led to the circulation of conditionalities and requests across various economic sectors, most of which indicate long-term reforms and conditions, setting the tone for long-term programmes.
Alongside conditions set in the SBA, additional conditions of expanding the tax net, removing specialised tax regimes, reviewing the NFC award, halting gas supply to power producers, and terminating gas subsidies for fertiliser plants all seem to be long-term goals that are put forward by the lender to possibly include in the FY25 budget.
However, with the last quarter’s tax target appearing difficult to meet, the possibility of a mini-budget cannot be ruled out if a proper plan for tax collection is not presented to the IMF.
Moreover, new petroleum minister, during a media interaction, expressed the idea of curbing circular debt and initiating immediate power sector reforms.
With inclusion of Ramazan, market participation also slows down, with the daily traded volume averaging 323.5 million shares as compared to 412 million shares a week ago, down 21.5%WoW.
Other major news flows during the week included: 1) external debt servicing consumed US$2.4 billion in 1st quarter, 2) Pakistan scheduled to repay US$4.33 billion in debt servicing in last quarter of FY24, 3) financial assistance in July-Jan period was at US$3.2 billion, and 4) Cut-off yield of PIBs declined.
Top performing sectors were Transport, Exchange traded funds, and Close-End mutual fund, while, Inv. banks/ Securities cos., Leasing companies, and Cable & Electrical goods were amongst the worst performers.
Flow wise, major net selling was recorded by companies with a net sell of US$2.5 million. Foreigners absorbed most of the selling with a net buy of US$2.7 million.
Top performing scrips were: PTC, THALL, LCI, MEBL, and LUCK, while top laggards included: DAWH, PSX, PAEL, YOUW, and NESTLE.MPC decision to keep the interest rate was as anticipated. Market is likely to remain largely unaffected as this expectation is already priced in.
Furthermore, with the recent trend of flows tilting towards smaller stocks with weak earnings, any correction could erase all their gains. Therefore, analysts recommend investors to focus on strong valuation main board stocks, especially those with attractive dividend yields.
Engro Fertilisers EnVen plant is scheduled for turnaround for two months in 2QCY24, owing to that total production is expected to decline, meanwhile with 75,000 tonnes of imported urea lifted from the GoP, total sales are expected to reach 2.09 million tonnes in CY24.
With expected revision in Mari gas prices, analysts expect EFERT to further increase its urea prices to PKR5,017/bag, effectively being beneficiary of the gas price increase.
Company’s reduced working capital requirement over closure of its seeds and logistic business to provide with the cushion to fund its ongoing CAPEX without compromising on payout. AKD Securities has a ‘Buy’ rating on the stock.
However, the lifting of 75k tonnes of imported urea from the GoP is anticipated to help sustain sales, expected to reach 2.09 million tonnes in CY24 as compared to 2.33 million tonnes in CY23.
Additionally, sales of the Company’s specialised fertiliser rose by 47%YoY in CY23 and the brokerage house expects a similar level of sales for the current year due to the product’s productivity and strong marketing efforts by the company.
Following the recent hike in gas prices to PKR1,597 per mmbtu, EFERT has effectively increased its urea prices by PKR882/bag to PKR4,649/bag. However, with gas prices on the Mari network yet to be revised, FFC is likely to increase its prices to mitigate the estimated cost increase impact of PKR1,250/bag.
To recall, the said gas price increase would affect 100% of FFC’s production compared to 60% of EFERT’s production, as balance of company’s production is on the variable gas rate under PP-12. That being said, the brokerage house expects EFERT to further increase its prices in line with FFC, where we have taken urea prices to reach PKR5,017/bag by June 2024 in our base case.
Furthermore, restrictions on imports, such as the requirement for100% cash margin, have driven local DAP distributors away from the market, resulting in a premium of PKR3,000/ tonne for listed players, compared to PKR2,000/ ton previously.
With the government expected to maintain these import controls to curb the current account deficit, brokerage house anticipates this premium to remain around PKR3,000 levels for the current year, further supporting company’s gross margins. Additionally, with expected high sales of specialised fertilizers, EFERT’s gross margins are expected to improve to 33.8% in CY24, compared to 32.3% in the previous year, although 2QCY24 gross margins are expected to be 31.4% owing to the EnVen plant turnaround.
In a strategic move, company closed its seed and logistics business in the previous year, resulting in lower inventory and trade debts, effectively reducing the company’s working capital requirement. This, in turn, led to a reduction in the total debt to PKR6.5 billion in the December 2023 accounts, as compared to PKR20.5 billion during the same period last year.
Moreover, it provided the company with the cushion to fund its ongoing CAPEX (PEF at Mari & turnaround of EnVen plant) without compromising on payout, which is expected to be 97% in CY24.
The brokerage house maintains ‘Buy’ stance on EFERT due to: 1) company being the ultimate beneficiary of the gas price increase, 2) higher margins on DAP sales, and 3) continued stance of 95-100% payout. EFERT is currently trading at forward P/E ratio of 4.9x/4.5x for CY24/25, with a December 2024 target price of PKR160/share, an upside potential of 11.9% from the LDCP and a CY24 dividend yield of 19.5%.
However, risks to our thesis includes: 1) prolonged delay in gas price increases to Mari network fertiliser consumers, 2) further increase through implementation of price unification i.e. WACOG may essentially restrict ability to pass-on.