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  1. The KASB review
  2. Finex week

An exclusive weekly Stock Market report for PAGE by Khadim Ali Shah Bukhari & Co.

Updated on Oct 11, 1999

Buying interest in blue chips reinvigorated the market with the Index closing the week at 1235.84 points, a gain of 3.2% over the previous week. A couple of our key recommendations, Lever Brothers and Pakistan State Oil outperformed the market rise with both stocks registering gains of 6.6% and 3.4% respectively. Interest in PSO is being fueled on expectations of an increase in POL product prices, which implies inventory gains for the company. Engro continues as an anomaly, backed by rumors of a hostile take over, the stock registered an almost 30% gain. We continue to believe that fundamentals for the fertilizer sector have weakened though there may still be some ground left for Engro to cover before it stabilizes. Institutions should utilize this price surge reducing their weightage in the stock diverting the cash thus generated towards other undervalued Scripps such as PTCL, Lever Tripack Films and Packages. Going forward the market is likely to strengthen backed on continued interest in blue chips and a likely performance by HubCo that closed the week down 0.5%.

Sector Review

Lever Brother: Buy while it available

Lever Brothers Pakistan (LBP) continues to trade at a 25% discount to our estimated fair value of Rs1,130 per share. We believe the key reasons for this discount is lack of marketability and the current absence of foreign institutional interest. Whereas marketability will remain a concern, we believe foreign interest in LBP should result in LBP's comparison to Hindustan Lever. This comparison is likely to result in fair value estimates for LBP ranging between Rs1,500 and Rs3,000 per share. Local institutions therefore caught on the wrong side, i.e. those which fail to accumulate at current levels are likely to lose out on a strong opportunity for capital gains. Buy.

There are essentially two reasons we believe which explain the discount at which LBP trades to our estimated fair value:

1. The ill-liquid nature of the stock.

2. The current lack of foreign institutional interest in Pakistan.

Whereas, not accommodating for a share split, the scrip should continue to attract a discount for lack of market ability, we believe foreign institutional interest should begin to trickle back. When this happens, by virtue of its relative under valuation to Hindustan Lever and its MNC blue chip status, LBP should quickly move up.

The following table shows the approximate discounts at which LBP trades to Hindustan Lever.

Discount (x)

Price Earnings (PE) 4.0

PE /5 Yr. EPS CAGR 2.8

Price / Sales 8.8

The largest disparity is in the Price to Sales ratio which shows that Hindustan Lever is trading at 8.8 times the price to sales ratio as compared LBP. This ratio is most relevant in valuing fast moving consumer goods companies such as LBP and Hindustan Lever as the quantum of sales is a key determinant to the franchise value attached to brands being marketed. Based on FY 99 sales, if we were to assume a 2.0x price to sales ratio, LBP should trade at Rs3,000 per share. Valuing LBP at 1x price to sales would result in a fair value of Rs1,500 per share.

The point being that when foreign institutional interest does arise for Pakistani scrips, the key valuation methodology is likely to be the one demonstrated above. Foreign investors may then be valuing LBP at between Rs1,500 to 3,000 per share. Lack of marketability also implies that when foreign interest arises the stock should move up rapidly. This would disallow institutions that had not accumulated earlier to benefit from the price upsurge.

Whereas on grounds of comparative valuation, LBP appears cheap it may be argued that so do most Pakistani scrips when compared across the region. This is a valid argument and our response is that unlike LBP, most Pakistani scrips fail to display the fundamental strength that is inherent to LBP. Our premise in recommending LBP as an essential portfolio holding is based not entirely on its valuation relative to Hindustan Lever, though we believe there is a gross mismatch here, rather, our reasoning stems from the strong franchise value inherent to LBP by virtue of it owning majority of the popular brands in Pakistan and having access to a strong distribution network through which to market them. The eventual implementation of GST should also help reduce the cost differential between LBP brands and those being either smuggled or produced without payment of government levies. This would allow LBP to gradually capture market share currently serviced by the unorganized sector.

Economic Review

CBR flying high???

The week began with the "wonderful" news (CBR chairman announces 0.6 mn more taxpayers, to 1.7 mn) that less than one percent of Pakistan's population no longer had to contribute the whole of the direct fiscal revenues of the GoP. Central Board of Revenue (CBR) announced that 1.7 million taxpayers now exist in Pakistan. This achievement has now brought 1.27% of the population (estimated at 134 million not including corporate legal entities) under the tax umbrella, now all we need are more worthwhile projects, like providing support prices to our non-taxpaying cotton-growers, to fully realize this boon.

Further news on the revenue front, the CBR released figures for the first quarter of FY00, the gross collection amounted to Rs 84 bn, and after allowing for rebates, the final collection figure came to Rs 72 billion. An interesting fact to note in the announcement pertains to the fact that of these collections Rs 32 bn is provisional, in other words, CBR is not completely sure of 44% of the final collection amount.

On a more optimistic note, the Sales Tax receipts continue to rise. In comparison with the same quarter last year, Sales Tax receipts have grown by 90%, not only that, the increased documentation in the retail and wholesale sector spells a statistical, if not real, rise in GDP growth for FY00. A point to note in this regard is that the GST on POL products has had an off-setting decrease in Development surcharge, so the bright aspect is not really that bright in terms of revenue generated.

Customs duties have risen from Rs 14.7 bn to Rs 17.03 bn in first quarter collections between FY00 and FY99, while they are still 7% below the amount collected 1QFY98. As a source of revenue in the future, customs duty must be declared redundant. We expect further falls in custom duties will come into effect following the millennium moot of the WTO, but its effects should not be seen for at least a year.

The continuing story of the mismatch in expenditure outflows and revenue inflows spells more bank-borrowing under the frowning gaze of the IMF. This will lead to further dryness in the market, implying upward pressure on interest rates.

Hence the government must engage in a trade-off, balancing financing needs with the policy benefits accruing from low interest rates. While it is our belief that the low interest rate policy has had no real benefit, at present the GoP and SBP do not seem to agree. In its last auction SBP accepted only one bid of PKR 2.1 billion at a cut-off yield of 10.35%. Notice a drop of 40 bps from the preceding SBP mopping up spree. Given the pressure upon NBP to provide PKR 10 bn to TCP, there will definitely be upward pressure on the market, yet we do not expect the SBP to let the yield rise to more than 10.75% in this calendar year.