Updated on Mar 06, 2000
The KSE 100 Overview:
Consolidation continues
Tread with Caution
The market is in its consolidation phase. Though intraday trading was
marred by increased volatility, which saw the KSE 100 testing the 1850 levels on
Wednesday. From there, we saw the market strengthening to touch the 1950 levels the next
day. Despite the initial strong showing, the KSE 100 was unable to sustain the rally and
finally succumbed to weak investor interest losing 74 points eventually to close at
1906.91.
Increased foreign interest was visible in the KSE 100, particularly in
major stocks like PTCL, PSO and HUBCO. Massive activity was focused on PSO, which
exhibited great volatility trading at a band of 240-270. The absence of any positive news
continued to take its toll on HUBCO, as the stock stumbled down to a price low of Rs 25.
During the week healthy corporate announcements were made by the
investment and commercial banks. Platinum Bank and Union Bank gave out 10% and 15% bonus
shares respectively, while Gulf Commercial and Faysal Bank handed out 10% and 20% cash
dividends.
We believe that after such positive announcements, the market interest
is definitely going to get diverted towards the financial sector, particularly the
commercial banks, and we foresee consolidation in these scrips over the coming period.
We maintain immediate support at 1850, and major at 1650.
We maintain resistance at 2050, while exercising caution above 1950
levels.
PTCL: Cellular service to supplement fixed line telephony
• After much deliberations and delays PTCL has finally announced
the signing of a US$ 50.7 mn deal with Nortel of Canada to set up a GSM cellular mobile
telephone network.
• As we had mentioned in our earlier comments that PTCL is highly
unlikely to meet it internal target of April 2000, the new launch date for this cellular
service has been extended to October 00
• Based on current penetration level of 0.19%, any per capita
income will result in increased spending, allowing cellular companies to make further
inroads into a largely untapped market.
• In FY01 cellular revenues should represent over 10% of PTCL's
total revenues, thus proving the to be the ultimate savior once the monopoly on fixed line
service ends December 2002. Under this situation it becomes imperative for PTCL to
expedite the launch of their cellular network.
• Comparison across the region confirms that PTCL trades at an
unjustifiable discounts on EV/EBIDTA basis and offers the cheapest growth in the region.
• We continue to maintain our ratings of an intermediate term Buy
as the market has not fully discounted the growth potential for the next 12 months.
• Due to the impending close to its monopoly status on December
2002, we remain skeptic regarding PTCL's ability to counter competition and suggest an
Accumulate.
PTCL signs US$50 mn phone deal with Nortel.
After much deliberation PTCL has finally announced the signing of a
contract with Nortel of Canada for a GSM cellular company.
The process of short listing a successful bidder was marred by
allegations of PTCL giving preferential treatment to Nortel, the current successful
network supplier, with certain bidders, apparently even resorting to corresponding with
the Chief Executive and the National Accountability Bureau. NAB had asked the Ministry of
Communications (MoC) to produce details of Pakistan Telecom Mobile Ltds (PTML). Also the
company's operations have been shifted from under the MoC to Ministry of Science &
Technology. Retaining our pessimistic stance we chose not to include cellular revenues
until PTCL launches its service.
After the signing of this contract, the main concern shifts towards the
need to evaluate the revenue potential of cellular for PTCL. Presently there are 250,000
cellular subscribers, penetration of 0.19%. Any large skew in the per capita income
implies that for the foreseeable future only a tiny segment of the population would be
able to afford cellular phones, though given a total population base of 134 mn even a tiny
segment would represent a significantly large market.
Cellular revenues hold potential to earnings growth for PTCL after
the end of monopoly.
In FY01 cellular revenues should represent over 10% of PTCL's total
revenues, thus proving to be the ultimate saviour once the monopoly on fixed line service
ends December 2002. Under this situation it becomes imperative for PTCL to expedite the
launch of their cellular network. Over the next ten years we foresee a penetration level
of I .5% or a CAGR in subscriber growth of 26%.
Keeping in mind the service oriented nature of cellular network, PTCL
established the Pakistan Telecom Mobile Ltd (PTML) to provide an atmosphere geared at
providing quality service, which the current employee base of PTCL has been unable to
deliver.
Also PTML's management has managed to wrest its employee base from the
current cellular industry, thus allowing them to gain privileged information and a fair
idea of the competitive environment of the cellular industry.
DG Khan Cement
D.G. Khan Cement (DGK), the largest cement manufacture in Pakistan with
1.65 mn tpa capacity reported positive IH00 net profit of Rs 38 mn, compared to a net loss
of 374mn in the corresponding period last year. The company registered encouraging results
mainly on the back of reversal in the provision for diminution in value of investments
that it made last year to the tune of Rs. 38.8 million. If the stocks in its portfolio
continue their positive performance till the end of FY00, the company is expected to
further readjust this figure, in favour of earnings.
Receding cost effect
The two successive furnace oil price increases (first, in December and
later, in February) in response to rising international oil prices have yet to take their
toll on the COGS bill in 2HY00. However, following the latest increase, DGK has also
raised its selling price by Rs. 10/bag, which confirms that the price cartel continues to
provide the cushion against such cost increases. Although H100 sales volume for DGK have
only marginally improved over H199, going forward we feel that good agri output driven by
continued support from the government for the agri sector should underpin demand making it
less elastic to price increases.
Lowering debt burden will boost bottom line growth
Due to a large debt burden and consequent high interest expenses, the
company is still expected to post losses in FY00 but with debt restructuring in place, and
expected increase in capacity utilization, should near break-even in FY01. IFC, due to its
sizeable exposure to the sector, lends full support and has sought concessions from the
government for the cement units not exempted from sales tax.
We say: Well Done!
The share price, rising by 198.51%, has outperformed the market by 85%
(over a 12 month period). This outstanding behavior, supported by strong trading volumes,
reflects the pick-up in investor confidence, after a protracted period of disinterest due
to unattractive fundamentals.
High expectations for this company seem embedded in a number of
developments:
Loan rescheduling - a breather
DGK has successfully restructured its US $65 mn long term debt with the
International Finance Corporation (IFC) whereby two repayment installments have been
waived and IFC, has in principle, agreed to convert its loan into a guarantee. This will
allow DGK to repay the US $ loan and replace it by local currency borrowing thus
eliminating devaluation risk that cost the company over Rs 300mn last year. While the IFC
is reported to have asked for further equity injection, the management feels that this may
be unnecessary as the cash flows are quite healthy. The issue is likely to be resolved in
the next few weeks.
Cementing ties
DGK and DG Electric have already taken necessary legal steps for a
merger, and the company is holding a special general meeting to iron out the details on
the 31st of March. The expected merger should prove to be useful for DGK in the long run
as it will insulate the company relative to its peers from the full impact of future
electricity charge increases.
The rough definitely gets the tough going
The industry is finally crawling out of the recessionary phase it had
been saddled with, mainly due to over capacity and ever increasing input costs, rather
than any sharp slowdown in demand.
DG is in a better position to bail itself out of the existing rut,
supported by a captive market, operational efficiency, and pricing power. Further, the
management is pursuing aggressive market penetration in the South, aimed at claiming a
chunk of the market share abandoned by the closure of Zeal Pak Cement. During the last few
months up to 20% of DGK's production has been absorbed by the southern market.
Hence, even though the stock defies the dividend yield investment
theme, it has the makings of a major turn around play that should appeal to investors with
investment horizon of 12 or more months. We recommend accumulation of DGK Cement at
current levels.
On valuation basis, the stock is presently trading at a huge discount
to our discounted cash flow fair value range of Rs 16- 18, using a conservative 25%
discount rate.
