PSF SECTOR UNDER PRESSURE

The hike in crude oil prices is pushing the cost of production and affecting textile industry negatively

By SHABBIR H. KAZMI
Mar 03 - 09, 2003

The persistent hike in crude oil prices has led to substantial rise in the prices of two basic major raw material, PTA and MEG, for polyester staple fibre industry globally. The increase in the raw material prices left no option with the local manufacturers of PSF but to increase its price. The ever-strong textile lobby has strongly criticized the move of PSF manufacturers. Can the manufacturers be blamed for the hike? Or, is this a temporary phenomenon that the spinners have to live with, till the Iraq crisis is resolved amicably?

Cotton prices in the domestic market have registered an upward trend, partly due to contradictory estimates of cotton output in the country and, partly, due to forecast of a potential shortfall in cotton production globally. Textile spinners fear that they will not be able to pass on the increase in cost of cotton and any increase in PSF prices will further erode their margins and result in possible losses. The rupee appreciation against dollar has already started affecting adversely profit margins of exporters of textiles and clothing. Therefore, there is a need to examine the situation dispassionately and evolve a strategy that can be beneficial for all the stakeholders.

The PSF industry has been constantly making substantial investment to bring its operations to international level. ICI Pakistan established its PSF unit, having the capacity to produce 12,000 tonnes fibre per annum, in 1982. Lately, the installed capacity grew to about 600,000 tonnes per annum due to establishment of new units and expansions by the existing units. At present, Ibrahim Fibres, Dewan Salman Fibre and ICI Pakistan control bulk of the capacity. Dhan Fibre has been taken over and merged into Dewan Salman Fibre. ICI Pakistan has also established a manufacturing PTA plant near Karachi. National Fibres, a unit established in the public sector and later on privatized, has been remained for almost three years.

According to a PSF sector expert, "The GoP's decision to allow establishment of PSF units in the country was aimed at achieving self-sufficiency of a product that uses two major inputs derived from crude oil. Since the units proposed by the local investors were smaller in size as compared to the units operating globally, various incentives were also made available to the sponsors. The GoP policy yielded results and massive investment had been made in the sector over the last twenty years. The need for protection has always been there due to cyclic movement of PSF prices. It become even more pressing at times when overseas PSF manufacturers dump their products in Pakistan."

The textile lobby has always criticized the protection policy for PSF industry. Lately, the spinners have been demanding that PSF should be included in the Duty and Tax Remission for Export (DTRE) scheme. After the recent increase in PSF prices by the local manufacturers, they have once again raised this demand. To ensure greater competition with the overseas suppliers, the GoP has reduced the effective protection of PSF manufacturers by reducing duty on PSF from 25% to 20% in the current budget.

According to an equities analyst, "The logic being followed by the spinners negates their own demand for protection of textile industry. They have thrived during the last five decades mainly due to the protection. If one accepts their point of view, then there was no justification for imposition of restriction on import of cotton yarn and fabrics into Pakistan. If the policy of protecting the textile industry was right, protection to PSF manufacturers is also justified."

Therefore, to face the current situation, it is necessary that all the stakeholders must recognize the fact that the cotton prices are expected to remain high due to potential shortfall in its supply globally, Pakistan cannot be an exception. Similarly, unless crude oil prices come down, any reduction in PSF prices should not be expected. If the hike in cotton and PSF prices in universal, the hike in the prices of textiles and clothing is also inevitable. Saying this, one must also keep in mind that it will not be easy for the local exporters to negotiate higher price for the already signed export orders, they may succeed in acquiring new orders at higher prices.

According to a textile sector expert, "Instead of asking the GoP to make changes in its policies, the spinning mills should first of all put their house in order and learn to live without crutches of government support. Many units can improve their profitability by following good manufacturing practices." According to him, the local manufacturers of textiles and clothing should exercise better cost controls. Attaining higher production and productivity can help in optimizing cost of production. Inefficiency and wastage have to be minimized. Improvement in quality and greater value addition can also help in higher unit price realization.

The sector analysts say, "Gone are the days when PSF was considered a substitute for cotton, at present PSF complements cotton." The consumption of PSF in Pakistan has reached the present level only because a large number of spinning units deemed production of blended yarn a more lucrative business. The gradual switchover was facilitated only because of availability of locally produced PSF at competitive prices. The current hike in PSF prices is due to external factors and affecting all the producers of textiles and clothing globally, local industry is not the only exception.

Ever since the import duty on PSF is reduced, the local manufacturers have been saying, "The duty structure in Pakistan does not fully support PSF manufacturing in the country." To be able to make a prudent decision, economic managers of Pakistan must not ignore their outcry. The fact is that the GoP reduced the import duty on PSF but did not make any corresponding reduction in import duty on PTA and MEG. The GoP had retained import duty on PTA and MEG at 15% and 10% respectively. Therefore, the PSF manufacturers are right in demanding that import duty on PTA and MEG should have been reduced.

It is believed that the GoP was not in a position to reduce duty on PTA due to the understanding reached by the sponsors of Pakistan PTA Limited. A huge investment has been made for the local production of PTA but the unit has been incurring losses, ever since it commenced operations. The local manufacturer had expressed that any reduction in import duty on PTA would only add to the losses of the company, foreign investors hold at least 25% of the total paid up capital of Pakistan PTA Limited. However, the decision for not to reduce the import duty on MEG remains questionable. Theoretically, any raw material that is not produced locally should not be liable to payment of more than 5% import duty. Therefore, then GoP must reduce the import duty on MEG immediately.

KEY PLAYERS

PAKISTAN PTA

ICI Pakistan has a 25% shareholding in Pakistan PTA Limited, which is also an ICP Plc subsidiary. The PTA business was set up in 1995 within ICI Pakistan and a US$ 490 million PTA manufacturing facility at Port Qasim, near Karachi, was commissioned in 1998. In 2001, the PTA business was demerged and housed in Pakistan PTA Limited. The company has shown a 12% growth in its sales for the year ending December 31, 2001, an increase from Rs 12.53 billion in year 2001 to Rs 14.09 billion for the year 2002. This increase can be attributed to the improvement in the demand and short supply of PTA in the Asian region due to shutdown of various plants in Korea, Taiwan and Malaysia. The company posted Rs 2.467 billion loss before tax for the year 2002 as compared to a loss of Rs 4.536 billion for the previous year.

ICI PAKISTAN

ICI Pakistan pioneered PSF technology in Pakistan through investment in a 12,000 tonnes per annum plant in 1982 near Lahore. Successive expansions and de-bottleneckings in the late 1980s and a major expansion in 1996, costing US$ 100 million was made to ensure its strong position in the industry. The plant achieved record production, for the third consecutive year in 2001, at 72,911 tonnes. The ISO-902 certified PSF plant delivers quality to meet the tough challenge. ICI Pakistan's PSF plant is the only PSF plant in the country equipped with an effluent treatment plant and meets the National Environmental Quality Standards. Financial results for the year ending December 31, 2002 show considerable improvement over previous year. The improvement was mainly due to improved performance of PSF unit as well as better cost controls at Soda Ash units. However, performance of PSF unit, on quarterly basis, remained erratic due to volatility of price of raw materials as well finished product.

DEWAN SALMAN FIBRE

After the merger of Dhan Fibre, the company enjoys the largest in the total installed capacity for manufacturing PSF. The company produces PSF at two units. The output from 143,500 tonnes/annum plant is taxable and output from 56,000 tonnes/annum plant is tax exempt. The company also operates a 25,000 tonnes/annum acrylic yarn producing facility. Sales for the year ending June 30, 2002 were more or less at the level of previous year. However, profit before tax for the year 2002 went down drastically due to the hike in financial charges, going up from Rs 1,047.9 million to Rs 1,339.6 million. The EPS also plunged from Rs 1.85 for the year 2001 to Rs 0.93 for the year 2002. The company also did not declare any dividend since year the 2000 but issued bonus shares.

IBRAHIM FIBRES

The company has expanded its installed capacity to produce 138,000 tonnes of PSF annually. It enjoys two advantages over its competitors, 1) location and 2) lower production cost. The unit is located in Faisalabad, the hub of textile industry. The cost of fibre produced at Ibrahim is believed to be at least Rs 2/kg lower than its competitors. The company also enjoys substantial offtake of PSF by associate companies. The group controls three textile mills with a total spinning capacity of over 136,000 spindles. While other PSF are aiming overseas market, Ibrahim intends to continue to cater the domestic market. Sales of the company registered a 9% decline despite increase in quantum of PSF sold. The factors attributable to the decline are: rising cost of raw material, PSF price volatility and reduction in the protection level to the industry from 8.5% to 3.5% in the federal budget 2002-03. Though, gross profit for year 2002 was 26% lower as compared to previous year, the company registered an improvement in its bottom line by 12% compared to previous year. The Board of Directors approved distribution of 15% dividend to the shareholders.

CURRENT OVER SUPPLY

With the expanded capacity of Ibrahim Fibres and ICI Pakistan coming on line and better capacity utilization of Dhan Fibre (now merged with Dewan Salman), the supply of PSF exceeds demand. At one stage it looked that price war was about to start. However, lately the manufacturer, who has been selling its product Rs 2/kg lower than the going rate, also joined hands. Therefore, all the manufacturers succeeded in raising the price by Rs 10/kg. However, some analysts believe that this oversupply is a temporary phenomenon. With more spindles coming online, in due course, the average capacity utilization of the PSF sector is expected to improve further.

Some manufacturers have already started producing specialty fibre. They aim to achieve twin objectives, avoiding cutthroat competition in regular fibre and earning premium on specialty fibre. However, some sector analysts believe that the quantum of specialty fibre is very small as compared to total installed capacity for PSF manufacturing. Besides, due to small order size, frequent changes have to be made in the production line.

EXPORT OF PSF

During year 2001-02 Dewan Salman managed to export PSF to Italy, France and Syria. The company has succeeded in obtaining repeat order. It will be exporting 2,000 tonnes PSF per month. The export orders are expected to improve overall capacity utilization and help in achieving greater production efficiencies.

Central Board of Revenue has allowed repayment of custom duties against export of PSF at the rate of Rs 5.37 per kg. According to industry sources this facility is inadequate to support efforts of Pakistani exporters to compete in the global markets. Overseas PSF producers enjoy substantial advantage given the efficiencies of integrated upstream industries as well as lower financial, utility, infrastructure and freight costs.

OUTLOOK

According to the latest report by ICAC, world cotton consumption in 2002-03 is expected to grow by 3% over the last year as global demand for textiles and clothing continues to rise. As against this, world cotton output is expected to be lower by 10% hinting towards a potential shortage. While cotton output in Pakistan is estimated around 10 million bales, spinners indicate their requirement above 11.5 million bales, indicating a potential shortfall of 1.5 million to 2 million bales. The fear of potential shortfall has already started pushing cotton prices up in the domestic market.

The Iraq crisis does not seem to be ending; rather clouds of war are getting thicker. It seems that the US has decided to get control over the oil supply of Iraq. Unless the situation is back to normal in the Middle East, prices of PTA and MEG are expected to remain high. Going forward the profitability of local PSF manufacturers can only be insured if they remain united in fixing the PSF prices. With Ibrahim Fibre joining the cartel the probability of price war seems to be low.

The local manufacturers have started export of PSF. This is expected to improve capacity utilization and achieve higher economies of scale. However, the GoP must help them in by enhancing the rebate. It will help the manufacturers in keeping the local prices at modest level. Keeping the domestic prices of PSF low is necessary to ensure competitiveness of local manufacturers of textiles and clothing.

Commencement of speciality fibre in Pakistan is a positive sign. On the one hand it eases the competition in regular fibre and, on the other hand, earns premium, improving profitability of the manufacturers. Though, the demand for such fibres is still a small percentage of total demand of PSF. This has the potential to grow if the local spinners exploit the potential, by making greater use of such fibres. This may help them also in achieving higher value addition and earn extra revenue.

The economic managers must also look into the affairs of National Fibres. It is a national asset and production at this unit must restart at the earliest. This unit is located in Karachi and enjoys proximity with the port and the PTA plant. The unit has the potential to meet PSF demand of spinning units located in Sindh province.

The PSF industry has invested over one billion dollars in the last few years to upgrade itself to world scale. Tariff provides fiscal safeguard to the industry to recover the large investment it has made and protective incentives to grow further by making fresh investments. Therefore, it requires an adequate tariff to sustain its large investment. Investors are baffled as to why the government has singled out PSF industry. It is the time that the government should provide an appropriate tariff regime to PSF industry for a period of five years to ensure conducive working environment.