AKD Securities Limited Equity Research – Daily Report

Karachi, December 15, 2017 (PPI-OT): ASTL: Towering to diversify business

Diversifying into tower manufacturing business, ASTL plans on setting up a joint venture with the Chinese company “Qingdao Huijintong Power Equipment Company Ltd (HJT)”. The proposed venture (Amreli-Huijintong Pvt. (Ltd.) would include the production and sale of transmission towers, where ASTL is expected to take 65% equity stake, entailing total investment amount of ~PkR1.67bn. Our preliminary research indicates that the proposed project would take at least 1-1.5years to come online. With cost plus pricing model, tower manufacturing industry offers superior margins compared to the re-bars manufacturers.

In the backdrop of new generation capacity coming online coupled with inadequate existing T and D network, we expect the gov’t to shift focus towards T and D segment, generating additional demand for towers. Analyzing the same, our sensitivity analysis using varying capacity and margin levels reveals incremental operating income from the new venture in the range of PkR186-296mn. On the flipside, concentrated customer base (i.e. NTDC, KEL, FTCL and STDCPL in Pakistan case) and delayed materialization of mega projects present business and liquidity risk.

Local dynamics favour new venture: As CPEC early harvest power projects enter into completion stage, Pakistan direly needs transmission and distribution (T and D) network to transmit around 11000MW of electricity. Also, current 17.9% T and D losses highlighting dismal performance of existing T and D network calls for significant up-gradation of T and D network. Addressing some of the said challenges, NTDC has planned key transmission projects as presented in the table II, cumulatively generating around 53Ktons of towers demand.

In order to capture the same, ASTL plans on setting up a joint venture with the Chinese company “Qingdao Huijintong Power Equipment Company Ltd (HJT)” that would include the production and sale of transmission towers, where ASTL is expected to take 65% equity stake, entailing total investment amount of ~PkR1.67bn. Looking into the same, we present a sensitivity analysis assuming varying capacity and margin levels, generating incremental operating income in the range of PkR186-296mn.

HJT brings technical expertise and local exposure: With no enterprise in Pakistan currently in the business of producing HVDC transmission towers, the proposed Amreli-Huijintong venture would be the first to manufacture HVDC transmission towers, making it the only domestic supplier for a number of key transmission projects (i.e. +660KV MATIARI-LAHORE HVDC transmission line etc.). Moreover, looking at the HJT export mix, Pakistan and Canada have remained key export destinations for HJT’s products over the past few years. Being familiar with Pakistan’s operating environment, HJT has been actively bidding in the NTDC tenders. Going through the past few projects, HJT remained in the list of top three low cost bidders.

Towering business embodies both higher return and risks: Operating with cost plus pricing model and customized product mix, the tower industry has historically managed to earn superior returns compared to re-bars and flat steel industry. The notion, high return comes with high risks holds true in the tower manufacturing industry where limited clientele (mainly state owned entities), entails customer concentration risk whereas project implementation delay can potentially lead to liquidity crisis.

Investment perspective: Being ahead of its competition coupled (highest rolling capacity of 750k tons post expansion), ASTL is perfectly positioned to cater the emerging steel demand in the backdrop of available regulatory protection. Moreover, ASTL’s entry into transmission business is a step towards diversifying its income stream, potentially add further value. Citing strong earnings growth outlook (5yr forward NPAT CAGR of 25%), we reiterate our buy call on ASTL, where our DCF based TP of PkR129/sh offers 56% upside. Buy!

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