Fauji offers an attractive price for Pak Saudi
Fertilizer buy out
By SHABBIR H. KAZMI
Mar 18 - 24, 2002
Finally, the suspense has come to an end regarding
the divestment of 90 per cent GoP shares in Pak Saudi Fertilizer Company
Limited (PSFL). Fauji Fertilizer Company ((FFC) submitted the highest
bid of Rs 135.63 per share. For 54 million shares, this translates into
Rs 7.334 billion. The most surprising aspect of this entire episode was
the difference between the bids placed by other companies. While Engro
Chemical offered Rs 66.7, per share the bid by Dawood Hercules was
marginally higher at Rs 70 per share. The immediate question which
haunts many analysts is, how could the various financial advisors on the
buy side have such divergent views?
According to a report by IP Securities, "Pak
Saudi's acquisition has been an overall positive development for FFC
shareholders." In case the company had set up a new fertilizer
plant, it would roughly cost US$ 400 million, which translates into Rs
24 billion. Profit generation from such a plant would have been there
after a gestation period of 6 to 7 years. As compared to this,
acquisition of PSFL has cost FFC only Rs 7.3 billion, with profit from
'next day'. PSFL plant is said to be a 'replica' of FFC-1 which is
likely to lead to technical efficiencies.
PSFL's plant efficiency can be improved by about 25
per cent and efforts for improvement can be initiated immediately. This
has the potential to enhance present annual production capacity of
557,000 tonnes to approximately 700,000 tonnes. Apart from this PSFL
capacity can be doubled, in line with what FFC and Engro undertook in
1993.
The other question is, how FFC is going to square
this transaction? According to a report by KASB, the company has
short-term investments and cash of around Rs 5.8 billion as well as
long-term investment in US Bonds, PIBs and National Saving Certificates
of around Rs 2.5 billion. Therefore, FFC is not likely to raise funds
through equity. It is expected to finance this transaction partly by
raising debt and partly from its cash and investment. The company is
expected to borrow approximately Rs 5 billion at 13 per cent per annum
interest.
PSFL is expected to be merged with FFC by the end of
year 2002. Another point of view is that additional debt servicing due
to acquisition of PSFL will be met from the income of the purchased
entity. FFC is expected to gain in year 2002 due to investment tax
credit in absolute terms thus resulting in reduction in effective tax
rate of the company in the following years.
Although urea sales in general are likely to be
affected by the ongoing drought, FFC will be better placed as compared
to other players. It is reported that water situation is much better in
the Punjab, the main market for FFC. Moreover, with the acquisition of
PSFL, the company will effectively control half the Pakistan urea
market. It is quite possible that FFC will not only try to increase
price of its popular brand but may also endeavour for urea export to
regional markets, particularly Afghanistan.
According to the another report, despite the apparent
expensive nature of the transaction, impact of the acquisition is likely
to be only marginal in next two to three years. It is because FFC is
getting almost 47 per cent of its feedstock at a fixed rate of Rs 11.25/kcf
as per agreement. This agreement is likely to expire in October 2003,
after which FFC is likely to get feedstock at floating rate of Rs 56.8/kcf.
Thus the full impact will only be visible in year 2004. In such a
scenario, FFC was previously set to experience a substantial decline in
profitability. However, the acquisition of PSFL is expected to mitigate
a decline in profitability going forward.
Some analysts may feel that since FFC is bound to pay
Rs 10 billion and going to raise its debt, its dividend paying ability
may be reduced. Whereas others believe that FFC is a strong company and
acquisition of PSFL will further consolidate its financial position. The
company will still be able to pay 70 to 80 per cent dividend payout.
However, a million dollar question remains, how the
losses of FFC-Jordan can be minimized? FFC-Jordan has been a thorn and
despite closure of DAP production unit, the legacy of incurring losses
may continue. The efforts to ensure profitability of DAP unit by asking
the GoP to impose regulatory duty on imported commodity has aborted,
this led to closure of unit. The next probable attempt by FFC could be
to monopolize DAP trade by importing the commodity from its joint
venture partner.
Though, the country faces a temporary surplus supply
of urea, the existing players have to expand the available capacity in
the country. It will be interesting to watch how Engro and Dawood come
up with their new strategy. The probability is that Engro will try to
emulate what it had done in nineties, bringing in a second hand plant.
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