AKD Securities Limited Equity Research – Daily Report

Karachi, June 26, 2018 (PPI-OT): Strategy: Unlikely gas price hikes foreshadow dominance of RLNG

Domestic natural gas price hikes for consumer and more pertinently, industrial users are on the cards again, where OGRA’s approved decisions (under the notified ERR regime for FY19F) indicate a 16-30% hike over consumer prescribed prices (unchanged since Dec’16). From a sectoral perspective any escalation is a non-event for Power (pass-through tariff pricing, with majority of IPPs capacity already on RLNG), while Cement producers have migrated to coal, WHR and RLNG. The fertilizer space is the only sector we believe could be impacted, where it is highly unlikely that an increase of this magnitude is enacted, while we believe any hike would likely be matched by a decline in applicable GIDC, deafening margin dilution. Lastly, general industry (~19% of overall consumption in FY17) would include Textiles, Glass, Steel and other consumers, which have largely migrated to RLNG (particularly in the North). Lastly, prescribed prices in the ERR are rarely passed-on completely to the consumer (political imperatives at play, unfavorable end-consumer dynamics for industry from passing-on of gas price hikes in urea/power prices), with the differential born by the GoP.

Fertilizer – unlikely but manageable: OGRA notified an increase of 30% on Feed/Fuel gas for manufacturer on SNGP network (FFC and EFERT and FATIMA). While fertilizer plants on SSGC network (FFBL) face an increase of 27%/2% on Feed/Fuel gas for FY19. In case of no price pass on, Fertilizer plants without concessionary gas pricing i.e. FFC and FFBL will be most impacted in this scenario, resulting in adverse earnings impact of ~11.6% and 7.8% in CY18 respectively. However, EFERT and FATIMA (running on concessionary gas) are expected to have a relatively lower negative earnings impact of ~4.4% and 2.7% for CY18 respectively. With this gas price hike, urea manufacturers need to increase their product price by at least PkR50-80/bag in order to nullify the higher cost impact. In this regard, we feel that local manufacturers posses decent ability (improved sector dynamic and highly probable import scenario) to pass on the higher cost impact through further increase in local urea price which is currently available at ~12-15% discount to prevailing elevated cost of imported fertilizers. On the other hand, for the sake of farm income, GoP might have to reduce GIDC on Feed and Fuel gas to avoid any further price hike in local urea prices, in our view. On the other hand, it will be difficult for DAP manufactures (FFBL) to fully pass on the impact, where local prices are already prevailing at higher levels on account of higher int’l DAP prices and currency depreciation.

Cement – moved on from gas: Financial impact of any gas price for cement industry seems to be insubstantial as most of the manufacturers using gas captive based captive power plants are located in Punjab (DGKC, MLCF, FCCL, GWLC and BWLC) where RLNG rates are in place for gas usage (much higher than prescribed gas prices). However, for KPK and South manufacturers using gas at normalize rate (LUCK), 30% hike in gas prices are expected to erode FY19F earnings by 3-3.5%.

Textiles: Proposed gas rate hike holds varying implications for the domestic textile industry based on regional presence. Primarily reliant on RLNG, northern players particularly Punjab based firms (such as NML and NCL) remain largely immune to the proposed rate hike. However, south based players (i.e. GATM and ADMM) that are on indigenous fuel would see marginally negative impact following upward revision in gas prices.

E and P sector remains largely unaffected: The domestic E and P sector has close to zero implications with regards to the ERR decided by OGRA in respect of SNGP and SSGC. While deciding on the ERR (and FRR subsequently), indigenous cost of gas is divided equally between the 2 SUI companies. That said, the authority has calculated input cost of gas at PkR197/165bn (for SNGP/SSGC) for FY19F assuming C and F intl. oil at US$62.43/bbl, HSFO at US$359.65/ton and exchange rate of PkR120.25/US$. However, the authority has granted time uptil Oct 15’18 to submit a revised petition incorporating oil prices for the period Jun-Nov’18. That said, further hike in input gas prices (due to oil, FO or exchange rate) can raise the revenue requirement and hence prescribed prices.

Outlook: Broadly speaking, Pakistan’s persistence reliance on Natural gas (largest contributor to primary energy consumption), mundane production (4.03bcfd in FY17 vs. 5yr average of 4.06bcfd) and dwindling prospects (reserves of 20.5cf as of Dec’17) have opened the room for RLNG (constituting 7.9/14.6% of domestic natural gas production in FY16/FY17 and on the road to cross ~30% of domestic production for FY18E) marking the shift of industrial consumers to this imported (priced at ~PkR1,200-1,300/mmbtu about 2x domestic gas prices ex-GIDC).

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AKD Securities Limited Equity Research – Daily Report

Karachi, June 26, 2018 (PPI-OT): Strategy: Unlikely gas price hikes foreshadow dominance of RLNG

Domestic natural gas price hikes for consumer and more pertinently, industrial users are on the cards again, where OGRA’s approved decisions (under the notified ERR regime for FY19F) indicate a 16-30% hike over consumer prescribed prices (unchanged since Dec’16). From a sectoral perspective any escalation is a non-event for Power (pass-through tariff pricing, with majority of IPPs capacity already on RLNG), while Cement producers have migrated to coal, WHR and RLNG. The fertilizer space is the only sector we believe could be impacted, where it is highly unlikely that an increase of this magnitude is enacted, while we believe any hike would likely be matched by a decline in applicable GIDC, deafening margin dilution. Lastly, general industry (~19% of overall consumption in FY17) would include Textiles, Glass, Steel and other consumers, which have largely migrated to RLNG (particularly in the North). Lastly, prescribed prices in the ERR are rarely passed-on completely to the consumer (political imperatives at play, unfavorable end-consumer dynamics for industry from passing-on of gas price hikes in urea/power prices), with the differential born by the GoP.

Fertilizer – unlikely but manageable: OGRA notified an increase of 30% on Feed/Fuel gas for manufacturer on SNGP network (FFC and EFERT and FATIMA). While fertilizer plants on SSGC network (FFBL) face an increase of 27%/2% on Feed/Fuel gas for FY19. In case of no price pass on, Fertilizer plants without concessionary gas pricing i.e. FFC and FFBL will be most impacted in this scenario, resulting in adverse earnings impact of ~11.6% and 7.8% in CY18 respectively. However, EFERT and FATIMA (running on concessionary gas) are expected to have a relatively lower negative earnings impact of ~4.4% and 2.7% for CY18 respectively. With this gas price hike, urea manufacturers need to increase their product price by at least PkR50-80/bag in order to nullify the higher cost impact. In this regard, we feel that local manufacturers posses decent ability (improved sector dynamic and highly probable import scenario) to pass on the higher cost impact through further increase in local urea price which is currently available at ~12-15% discount to prevailing elevated cost of imported fertilizers. On the other hand, for the sake of farm income, GoP might have to reduce GIDC on Feed and Fuel gas to avoid any further price hike in local urea prices, in our view. On the other hand, it will be difficult for DAP manufactures (FFBL) to fully pass on the impact, where local prices are already prevailing at higher levels on account of higher int’l DAP prices and currency depreciation.

Cement – moved on from gas: Financial impact of any gas price for cement industry seems to be insubstantial as most of the manufacturers using gas captive based captive power plants are located in Punjab (DGKC, MLCF, FCCL, GWLC and BWLC) where RLNG rates are in place for gas usage (much higher than prescribed gas prices). However, for KPK and South manufacturers using gas at normalize rate (LUCK), 30% hike in gas prices are expected to erode FY19F earnings by 3-3.5%.

Textiles: Proposed gas rate hike holds varying implications for the domestic textile industry based on regional presence. Primarily reliant on RLNG, northern players particularly Punjab based firms (such as NML and NCL) remain largely immune to the proposed rate hike. However, south based players (i.e. GATM and ADMM) that are on indigenous fuel would see marginally negative impact following upward revision in gas prices.

E and P sector remains largely unaffected: The domestic E and P sector has close to zero implications with regards to the ERR decided by OGRA in respect of SNGP and SSGC. While deciding on the ERR (and FRR subsequently), indigenous cost of gas is divided equally between the 2 SUI companies. That said, the authority has calculated input cost of gas at PkR197/165bn (for SNGP/SSGC) for FY19F assuming C and F intl. oil at US$62.43/bbl, HSFO at US$359.65/ton and exchange rate of PkR120.25/US$. However, the authority has granted time uptil Oct 15’18 to submit a revised petition incorporating oil prices for the period Jun-Nov’18. That said, further hike in input gas prices (due to oil, FO or exchange rate) can raise the revenue requirement and hence prescribed prices.

Outlook: Broadly speaking, Pakistan’s persistence reliance on Natural gas (largest contributor to primary energy consumption), mundane production (4.03bcfd in FY17 vs. 5yr average of 4.06bcfd) and dwindling prospects (reserves of 20.5cf as of Dec’17) have opened the room for RLNG (constituting 7.9/14.6% of domestic natural gas production in FY16/FY17 and on the road to cross ~30% of domestic production for FY18E) marking the shift of industrial consumers to this imported (priced at ~PkR1,200-1,300/mmbtu about 2x domestic gas prices ex-GIDC).

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