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Updated on Oct 20, 2001

The KSE — Overview: Be Everywhere, Be Bullish

Consolidation remained this weekís theme of KSE-100 Index as it gained almost on average 10-15 points daily to close 73 points up at 1267 from last weekís close of 1194. ADV in shares and US$ value increased by over 17.02% and 24.2% respectively over the last week indicating rising investor interest in the market. The Index rose 44 points on Monday on news of an agreement between WAPDA and Hubco to withdraw all criminal and civilian court cases against each other. The signing of the ìamended Settlement Agreementî by WAPDA and Hubco paved the way for an approval of interim payout by lenders of Hubco - which was finally announced on Wednesday. Hubco, being one of the large cap stocks in the market, led the rally by registering 90.7mn shares trading in one day.

The market, on hopes of the much-hyped debt relief announcement by the US Secretary of State, Collin Powel, perceived the visit very positively for overall sentiment. Instead the visit focused on regional political concerns only and stopped short of announcing a debt relief package for Pakistan (although US has assured financial assistance to Pakistan). This led to some disappointment amongst investors and market closed six points down on Tuesday.

On the other hand, news of lenderís approval and removal of import duty on textile products with an increase of textile quota by 15% announced by the European Union (EU) created a surge in market activity especially in textile sector stocks. This, in our opinion, is positive news for the textile sector stocks as the current regional conflict has created a slump in already falling orders for Pakistani textile companies because of rising costs as a result of increasing freight and insurance charges. According to industry sources, the increase in textile quota by EU is likely to result in a US$500mn annual rise in textile business for Pakistani textile industry to European countries.

The news of troop movement alongside the LoC by India has yet to have any major negative effect on the market sentiments. We expect the market to follow a similar trend in next two to three weeks as more positive news regarding economic and financial assistance to Pakistan by the donor countries enter the market.

Strategistís Portfolio Note

Our portfolio continues its solid outperformance drive, outperforming the KSE-100 Index by almost 15%.

The two scrips key to this outperformance were Cherat Papersack and Hub Power, which have since 9/11outperformed the market by 26% and 18% respectively.

We believe that Cherat Papersack has achieved its intermediate peak (see sector piece) and we are reducing its weight in our portfolio to 5%. We are deploying the freed 13.89% in two halves. The first to Hubco, to bring its weight to 19.80%, as we believe that its still has 30-35% potential price upside, and its dividend status lends its defensive qualities. The remaining 6.95% will be deployed in our favorite growth play MCB.

Cherat Papersack: A Promising Year Ahead

The KSE- Index recently released its list of the top 25 companies for FY00. No surprises that Cherat Papersack, which has over the last few years ranked amongst the highest dividend paying companies listed on the KSE. Since the full year results for Cherat Papersack are to be announced on October 25, we decided to predict what the results would reveal about the performance over the last year.

Company History

Cherat Papersack, which belongs to the Ghulam Faruque Group, is involved in producing cement bags.

Although, the company supplies cement bags to several cement manufacturing concerns, its largest customer is its group concern Cherat Cement. Hence its sales are driven by the performance of the cement sector. On the other hand, margins tend to be dictated by the import prices of kraft paper, which is used to make the kraft liner bags that are used for packaging cement.

The company started commercial production in 1992 with an installed capacity based of 18.5 million bags, based on single shift. Over the years the company has expanded capacity by 29.7% to 24.0 million bags per annum, based on single shift.

Sales declined by 17.7% during 1H01as compared to 1H00. This is not surprising if viewed in tandem with the cement sectorís performance during the period. FY00 as a whole was a good year for the cement industry. During FY00, the cement sector showed a turnaround with an en masse profit of PkR430mn, after three years of losses. However, in 1H01 a slump in demand, a price war, and a sharp increase in production (mainly furnace oil) along with high financial expenses hit cement manufacturers hard. Not surprisingly, the derived demand for paper sacks was lower in 1H01 as compared to 1H00. Consequently, Cherat Papersack faced a reduction in both selling price and volume per bag.

During 1H01, margins collapsed with gross margin at 4.6% (1H00: 17.7%) and operating margin at 1.3% (1H00: 14.0%). Decline in profitability may be explained by the 21% depreciation in the Rupee by 11.8% over the period, withdrawal of concession on import duty on kraft paper, increase in cost of kraft paper and higher furnace oil prices. Although financial charges registered a decline of 8.9% at PkR1.8mn for 1H01 (1H00: PkR2.0mn) the EBIT margin and the net margin were consequently pulverized during 1H01, as compared to 1H00.

Indications for full year results

There have been mixed indications for the full year results. We feel that the following factors must be considered when predicting the full year performance:

1. Although undeniably it was during 1H01 when cement manufacturers felt the biggest punch as several endogenous variables combined to cripple earnings, 2H01sales for the sector are not expected to be particularly high. Hence demand for paper sack during FY01 is expected to remain subdued

2. The withdrawal of concession on import duty implies lower profitability henceforth. Furthermore, the Rupee depreciated another 9.6% during 1HCY01. This is expected to add to the cost of importing kraft paper. However, with the depression in pulp prices since the beginning of CY01 international kraft paper prices have trended downwards. This explains the fact that the domestic wholesale prices of kraft paper over 2H01 declined by 24% to average PkR52.67 during 2H01, as compared to an average of PkR69.35 during 1H01.






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.Source: KSE, MSCI, KASB