Updated on 26th July, 1999
Market update
Dispelling the spiraling downward movement witnessed over the last
weeks, the KSE 100 was given a much-needed breather in the shape of a 4.96% increase over
the week. With the apparent climb down in hostilities in the region, investors were seen
cautiously entering the market. Augmenting the recent climb the KSE 100 is hovering near
the 1200 level. Keeping the facts in place we continue to hold our decisions to
consolidate. In our earlier comment we had singled out the 1140 levels as crucial, which
proved quite correct as evident from the upward movement over the week.
Over the week the KSE 100 went up by 56.24 points to close the week up
by 4.6%. Noticeable scrips included Hubco, which witnessed increased investor interest
which culminated into a recent high touching 17.60 in the process.
For the coming week, the psychological barrier of 1200-1220 is likely
to be decisive for the market. With investor interest on the increase, the market is most
likely to move upward however with short patches of consolidation accompanying the climb.
Sector Review
Hub Power Co. Changing IRR
There have been news reports suggesting that Hub Co has submitted a
proposal for reducing the project IRR to 15.76%, and WAPDA is considering the merits or
otherwise of this proposal. Initial reactions to these reports have been mixed, with most
investors interested in trying to figure out if these reports are correct or not. We
believe it is better to assess the impact of any such move to reduce the IRR on the NPV of
Hub Co., as this is the most important variable at the end of the day. There are 2 basic
situations that can result if IRR is to be reduced.
1. IRR over the entire project life (inception through to 2027) falls
to 15.76%, or
2. IRR over the remaining project life falls to 15.76%
In order to estimate the impact on NPV in both situations, we adjust
expected dividends going forward. Our calculations are summarized below:
1. IRR over entire project life falls:
In this case, the single dividend of PKR7/share already paid also comes
into play, and remaining dividends have to be adjusted accordingly. Assuming a dividend
for 1999 (something we are not too bullish on) yields the following estimates of NPV (with
dividends being reduced by 23.8%).
Assuming no dividends for 1999 results in a slightly less comfortable
situation (with dividends being reduced by 11.3%).
In such a situation, NPV falls to PKR15.8 per share using our base rate
of 25%, which is at a premium of 8% to market price. We believe this premium is not
material for the primary reason that we have used a simplistic across the board reduction
in dividends. In reality, it is likely that the company would have offered a higher
reduction in later years, when debt servicing would have ceased. This would reduce the
negative impact on NPV.
2. IRR falls over remaining life of Project
This situation is not meaningful, as only a 2% dividend reduction is
possible, leaving NPV estimates almost intact.
Conclusion: Share price has rallied 29% since our recommendation, but
valuations are not stretched even now. We see no reason to change our view, and continue
to recommend an Accumulate.
Discount Rate NPV Prem/(Discount)
to NPV
21%
|
21.5
|
(25.15)
|
23%
|
19.4
|
(13.36)
|
25%
|
17.8
|
(3.65)
|
27%
|
16.4
|
4.45
|
29%
|
15.2
|
11.31
|
31%
|
14.2
|
17.19
|
Discount Rate N PV Prem/(Discount)
to NPV
21 %
|
20.0
|
(16.7)
|
23%
|
17.7
|
(3.1)
|
25%
|
15.8
|
8.2
|
27%
|
14.2
|
17.5
|
29%
|
12.8
|
25.3
|
31 %
|
11.7
|
32.0
|
