Elixir Securities Limited – Pakistan Equity Market: Weekly Review

Karachi, February 23, 2018 (PPI-OT): Pakistan Added to the FATF Watch List?


The KSE100 Index fell 360pts WoW (0.8%WoW) and closed at 43,267pts on Friday. After hitting an intraweek low of 42,919pts on Wednesday, the index gained 347pts, with major gains on Thursday owing to positive news on the FATF front (which appears to have been premature).


The decline during the week was primarily concentrated in the banking sector which contributed 199pts to the overall decline. Cement and OMC sectors were next in line, contributing 50pts and 43pts respectively to the decline. Oil and Gas Exploration (E and P) companies were the largest gainers in the week, contributing 78pts to the index.


Pakistan Oil Fields Limited (POL) was the single largest contributor to the index, contributing 126pts. The rise came as Pakistan Petroleum Information Services (PPIS) data showed higher than estimated reserves at Jhandial field. The stock prices reacted positively to the news despite significant reserve downgrades at Mardankhel and Makori East.


According to a report by Reuters, Pakistan has been added to the terrorist financing watch list by the Financial Action Task Force (FATF). The news was a negative surprise, days after reports suggested that the anti-money laundering watchdog had given a three month extension to Pakistan.


While official press release is awaited, potential addition to List may have major repercussions on sentiments but ground reality would not change much. Last time we were on it (2012-15), Pakistan managed to get an IMF bailout in 2013 and successfully tapped global bond market in 2014. Sri Lanka that was added last year did not witness any change in banking transactions with global banks and the stock market recorded net inflows.


Concerns on Pakistan’s external woes continue to be reinforced; January’s Current Account deficit came in at USD1.6bn, up 6.2%MoM. The deficit in 7MFY17 is up a whopping 48% despite double digit export growth.


On political front, the Supreme Court ruled clear conditions under Article 62/63 for a person to be a party head (resulting in disqualification of Ex- PM Nawaz Sharif as ruling party head). This resulted in annulment of Sharif’s recent decisions, raising fears that upcoming Senate Elections might be deferred. However dust later settled on the issue as Election Commission of Pakistan allowed PML-N’s (ruling party) nominated candidates to contest Senate Elections as “Independent” candidates.


Foreigners remained net sellers during the week with flows of USD2.7mn. This takes overall outflows during February to USD31mn, compared to USD86mn of inflows in the preceding month.


Equity Market Outlook and Perspective


The Financial Action Task Force is likely to release an official statement later today, with media reports hinting towards Pakistan’s likely inclusion on the watch list. In such an event, foreign flows would drive the sentiments as locals would wait to see foreign investors’ initial reaction to the news flow. Another important aspect to watch out for would be exact wordings used in the Press Release on whether the final decision has already been made or Pakistan is given a window of three months before the fate of inclusion is decided.


Key news this week


Pakistan borrows another $500m from Chinese bank (Economy): Pakistan has contracted another foreign commercial loan of $500 million from the Industrial and Commercial Bank of China (ICBC), taking the Chinese financial institution’s contribution to supporting a strong rupee against the US dollar to $1 billion in just three months. In January, the country took total $704 million worth of new loans, taking foreign borrowings to $6.6 billion in just seven months of this fiscal year, said the sources.


Revenues on a crutch: withholding taxes outperform all other heads (Economy): Fuelled by rising salaries, the withholding tax has contributed the highest growth to the country’s ‘direct taxes’ during fiscal year 2016-17, showing continuously rising reliance on regressive taxation.


“Withholding tax (WHT) contributed a major chunk of around 67 per cent in gross direct tax during 2016-17… its collection was Rs944 billion against Rs831bn (of previous year), indicating a growth of around 13.6pc,” the Ministry of Finance reported to the parliament, adding that a noticeable growth of 21pc was witnessed in salary.


PIA, PSM, others: sell off of white elephant likely before polls (Energy): The Privatization Commission (PC) plans to privatize Pakistan International Airlines (PIA) and Pakistan Steel Mills (PSM) before the completion of the government tenure amid strong resistance by opposition parties. Pakistan People’s Party (PPP) and Pakistan Tehrik-e-Insaf (PTI) have warned the government that they will oppose any privatization in the remaining little over three months of its tenure because it will create problems for the next government in implementation of the transactions.


EU renews GSP+ scheme for two years (Economy): The Generalised System of Preferences Plus (GSP+) scheme has passed smoothly through European Parliament’s Committee on International Trade (CIT), enabling Pakistani exporters to enjoy preferential duties on exports for the next two years.


Pakistan is one of the 10 beneficiaries of EU’s GSP+ Scheme. As a result of duty-free access available to Pakistan in 27 member states Pakistan’s exports to the EU have increased from 4.54bn euros in 2013 to 6.29bn euros in 2016.


First half fiscal deficit touches 2.2% despite provincial cash surpluses (Economy): Pakistan’s fiscal deficit touched 2.2 per cent of gross domestic product (GDP) in the first half of this fiscal year despite reasonable cash surpluses offered by the four provinces.


As part of the budget 2017-18, the government had set a target of containing fiscal deficit below 4.1pc but the actual deficit in first half of the year has already moved past 2.2pc (almost 54pc of the limit), revealed fiscal operations data of the Ministry of Finance. With this pace, the deficit seems unlikely to stay lower than 4.8pc at the end of the fiscal year.


This week’s top stories


Oil and Gas Dev. Company Limited – Management Shrugs Off Imposition of Windfall Levy on Oil


OGDC continued to book higher hydrocarbon prices for fields migrated to 2012 Petroleum Policy (particularly Tal Block) and also did not reverse retrospective gains with regards to the policy amendments raising liability of windfall levy on oil revenues as the Management is confident of winning its case.


OGDC’s development projects KPD-TAY and Uch-II were fully functional while Nashpa/Mela is expected to start production from Feb-18. Recent discoveries in Bhambara-1, Tanddo Allah Yar South West-1 and Dhok Sultan-1 were relatively small in size totalling 419bpd oil and 30mmcfd gas production.


OGDC announced its 2QFY18 financial result where it posted earnings of PKR19.66bn (EPS: PKR4.57) in 2QFY18. On cumulative basis, 1HFY18 earnings grew by 22%YoY to PKR36.67bn (EPS: PKR8.53) where the DPS in 1HFY18 was 90%YoY higher at PKR4.75.


The stock trades at an implied oil price of USD42/bbl, 34% discount to existing oil price of USD64/bbl where our Dec-18 PT of PKR193 offers capital upside of 15%, besides decent dividend yield of 4.8%. Buy.


National Bank of Pakistan – Pension Liability Could Be Dealt With Through an ADT-1 Issue


NBP ended 2017 with full year earnings of PKR10.83/share, up 0.6%YoY. The bank skipped dividends in 2017, in anticipation of a pension liability related payment.


With regards to the PKR48bn potential pension liability, the bank is relying on a previous case concerning SBP to set a favourable precedent. However if the bank has to pay the full liability, management has certain measures which may dampen the impact. We believe one of this may be an Additional Tier 1 issue.


We maintain our Under Review stance on the bank until clarity emerges on the pension case.


Pakistan Oilfields Limited – Lower Makori East/Mardankhel Reserves Dilute the Valuation Impact of Jhandial


Recent field reserves data showed significant hydrocarbon reserves in Jhandial, much higher than our prior estimates. However, decline in hydrocarbon reserves of Makori East and Mardankhel diluted the valuation gains of Jhandial.


We estimate that the minor upward revision in reserves of Maramzai and Manzalai are expected to slightly raise reserves life and FY19-21 earnings, however, Makori East and Mardankhel’s lower reserves are expected to lower earnings between FY22-25.


We believe FY18F earnings would remain unchanged at PKR66.8 as we opine that reversed/unbooked revenues (related to Tal Block owing to perceived risk of amendment of windfall levy on oil) would likely be booked during the financial year.


As a result of diluted impact of change in reserves, our Dec-18 PT largely remains unchanged at PKR582/share (previous: PKR580/share), offering 2% capital downside. POL’s attractive FY18F dividend yield of 11% takes total expected return to 9%. Hold.