Updated May 21, 2005



Crude oil prices have continued their slide, falling to a three-month low after touching highs of US$58/barrel. Strong US inventory data, assurance of continued supplies by OPEC and decline in oil demand have all forced a decline in oil prices. Oil prices are likely to hover within the US$40-50/barrel range in the near to medium term. As highlighted earlier, the greatest threat to oil demand remains a slowdown in the Chinese economy, which has begun to materialize. Coupled with this, US stockpiles are at their year highs, which also subsides fears on the supply side.

According to a KASB report, Pakistan Oilfields remains top pick of investors in the upstream oil and gas sector. Production growth coming through increased production from Pariwali Well No. 5 is likely to more than compensate for a decline in oil prices. POL's oil production is expected to touch 6,500 barrels/day in FY06 as compared to this year's average of 5,400 barrels/day. Pariwali Well No. 5 will also contribute 5.3mmcfd gas to POL.

According to the company, Pariwali Well No. 5 has the potential to produce up to 2,500bbls/day and 20-mmcfd of gas. The well is still undergoing testing and final sustainable production figures could well be higher than the estimates.

Regular readers of InvestCap reports should be able to recall its detailed report on KAPCO at the time of its IPO in which it had stated a fair value of Rs51/share for the stock. However, a lot has changed since then, most importantly secondary market PIB yields. The 10-year PIB yield in the secondary market is up 250-260bps ever since the release of this report on KAPCO dated February 15, 2005. KAPCO's stock has also been a laggard during this spell of rising interest rates, with a decline of 17.8% ever since the 150bps increase in discount rates, against a KSE-100 Index decline of 3.7%. Yet again, using a risk free rate of 10.75% and an equity risk premium of 5%, one can arrive at a fair value of Rs41/share for KAPCO.

The decline in fair value seems drastic because the stock has gone ex-dividend on May 6, 2005 for its interim dividend of Rs3.5/share. Rising interest rates, theoretically, are always considered a bad omen for asset prices. This is a simple financial theory, which cannot be denied. Whenever interest rates move about, asset (including stock) valuations will be affected, and the quicker the interest rates move, the quicker the asset prices would react in an efficient market. The Pakistani stock market, in the last one year, has remained relatively unaffected by rising interest rates due to other factors such as higher corporate profits, economic growth, and privatization expectations. However, the most interest rate sensitive items listed on the local bourses (other than banks of course) are the listed IPPs. These listed IPPs have been in a lull ever since the increase in discount rate became affective from April 11, 2005.



Third quarter results of Shell Pakistan depict a growth of 180% YoY, taking 9MFY05 profits to Rs1,600 million. According to Elixir Securities, the key reasons for growth in profitability during 3QFY05 were 1) higher domestic oil prices, 2) better product mix and 3) strong aviation business. During this period, the company aggressively expanded its product portfolio and retail network. The brokerage house has revised its full-year earnings forecast for the company to Rs2,016 million (EPS: Rs57.5), following higher than anticipated inventory gains during the quarter. It also revised full year dividend forecast to Rs43/share. The Government of Pakistan altogether made 4 upward revisions to domestic oil prices during the period, resulting in sizeable inventory gains for the company. Gross margins for Shell improved by 290bps YoY during the quarter, resulted in 70% YoY increase in gross profits. Higher prices also aided 19% revenue growth YoY.

Aviation business for the company continued to grow with demand increasing by 20% YoY for the quarter fuelled by strong exports. Overall, motor fuels volumes during the quarter declined following extended period of rains in the country. However, 9MFY05 demand has been strong for both white oil and black oil products, resulting in top line growth of 27% for the 9-months. Apart from sizeable inventory gains, a quality product mix allowed the company to improve its margins. Shell's product mix comprises of deregulated products such as Jet fuel and Lubricants, which significantly contributes to revenues and earn higher margins. The New Shell Petrol was launched during the quarter with a better mileage formula. Start of CY05 also saw the launch of the "Sunrise Project" for Shell Lubricants, which is expected to deliver significant savings through various cost cutting and efficiency measures. Twelve new sites were added to the Shell retail network leading to a total of 823 sites throughout the country while 6 stations were added to CNG network.