CAPITAL MARKETS

A PAGE review

By SHABBIR H. KAZMI
June 28 - July 04, 2004

The economic reforms agenda being followed by the GoP since November 1999, despite the 9/11 incident and subsequent events, has provided a big boost to Pakistan's equities market. The four elements of the GoP policies are 1) stabilizing country's debt situation by restoring macroeconomic stability, 2) reviving economic growth, 3) reversing the trend of increasing poverty and 4) improving governance level.

The growth of equities market can be gauged from three factors 1) listed capital, 2) market capitalization and 3) the KSE-100 index movement. Listed capital grew from US$ 3.8 billion on December 31, 1999 to US$ 6.4 billion on May 24, 2004. Market capitalization improved from US$ 6.3 billion to US$ 25.5 billion. The KSE-100 went up from 1,409 to 5,465 level. However, after the announcement of imposition of capital value tax the index eroded. As a result of hectic negotiations of brokers' fraternity with the economic managers the issue is expected to be resolved amicably.

Baring the recent downslide, an over reaction to CVT and keeping the economic fundamentals in mind, the market still enjoys enormous upside potential. Saying this it must also be kept in mind that the daily trading volume is expected to go down but the market will consolidate. The ample liquidity factor and improved corporate earnings phenomena are still intact. Interest rates may go up but economies of scale and declining cost of inputs are expected to further improve corporate earnings.

One of the factors that have kept investors' interest live in the equities market is the divestment strategy being followed by the GoP. Public offer of shares of states owned enterprises has been termed 'Privatization for People' by Dr. Abdul Hafiz Sheikh, Minister for Investment & Privatization. The three tranches of National Bank of Pakistan (NBP), including the premium were worth Rs 1.7 billion and the subscription received exceeded Rs 4.8 billion. The subscription received against public offer of slightly less than Rs 6.9 billion of Oil & Gas Development Company (OGDC) exceeded to Rs 28 billion. Similarly, against public offer of Rs 1.7 billion of Sui Southern Gas Company (SSGC) the subscription amounting to Rs 13 billion broke all the pervious records.

The sources claim that the public offer of Pakistan International Airlines (PIA) has been oversubscribed. However, the figures tell the true story. According to an advertisement placed by the Privatization Commission in the local print media, the subscription received amounted to Rs 1.33 billion as against the target of Rs 1.15 billion. The Commission had offered 5% (57.5 million shares) with green shoe option of equal amount. Keeping in view the number of applications received neither the green shoe option could be exercised nor there was a need for balloting.

One may wonder at the response against public offer of PIA shares but a little probe can help in finding the root cause. According to Mohammed Sohail of InvestCap, the lacklustre response was due to pricing and the announcement that subscribers of public offer did not qualify to receive the forthcoming dividend payment. It is necessary to reiterate that some of the analysts had suggested to Dr. Abdul Hafiz Sheikh that the time was not appropriate for public offer of PIA shares and the transactions should be deferred. Now all eyes are set at the public offer of shares of Pakistan Petroleum and Kot Addu Power Company.

The success story of recent IPOs and public offers is incomplete without acknowledging the role played by the Central Depository Company (CDC). Transfer of shares of OGDC and SSGC deserves specific mention. Nearly 61% of OGDC's IPO was subscribed electronically from over 30,000 CDS accounts. The smooth and efficient handling of such a voluminous issue would have not been possible without CDS. In case of SSGC, out of a total of 67 million shares more than 24.5 million shares were directly credited to slightly less than 25,000 CDS accounts. CDC made these issues cost effective for both Issuers and Investors. CDC has revolutionized the financial market by combining state-of-the-art technology and human resource.

In ushering in 'paperless securities' era the others joining the CDC and the stock exchanges are the companies offering online trading of shares. AKD Securities created the first 'disruption' as stated by Ali Ansari, CEO of AKD Trade. At the time of its launching Ali expressed the hope to achieve the target of Rs 10 billion trade in the first year. However, all were surprised when AKD Trade achieved the milestone of Rs 100 billion trades within the first year. Now at least four other companies offer online trading facilities. This is not the end of story but the beginning of a new era in trading of equities.

According to Moin Fudda, Managing Director, Karachi Stock Exchange, "There is huge potential for growth in online trading. The KSE plans to provide Internet-based trading through 12 additional members. The real challenge is to bring settlement online through e-banking. This will accomplish the dream of achieving totally paperless securities environment in the country. Investors will be able to buy and sell, make or receive payment and off course get credit or debit of securities in their investor accounts.

Technological advancement and effective risk management has minimized the market volatility at Karachi Stock Exchange. Huge investment in technology established its strength on April 16, 2004 when more than one billion shares, a record, were traded. However, there is need for further strengthening the infrastructure because shares of at least three more companies, namely PPL, KAPACO and United Bank will also be offered to general public. Shares of Bank Alfalah were also offered to public recently. The response was overwhelming because one out of ten applicants was picked up through balloting.

It is interesting to note that the number of listed companies is on a constant decline but the amount of listed capital is persistently increasing. Listing of new companies has enhanced the market float. OGDC and NBP often emerge as volume leaders. However, it is often felt that the KSE-100 movement does not depict the true sentiments of market. It is mainly because of very heavy weightage of OGDC and PTCL in the index. Many analysts suggest that their weightage should be reduced to make the index better reflective of the market sentiments.

It is often argued that despite revival of the economy the number of new listing has not increased significantly. Some analysts say that the reason for fewer listing is that some of the industries have still not achieved the optimum capacity utilization. One such sector is cement where the average capacity utilization still hovers around 80%, despite significant increase in cement export. However, it is also true that some of the cement companies are undertaking expansion programmes. It is expected that additional 10 million tonnes capacity will come online in next twelve to eighteen months.

Automobile assemblers are busy in writing a new chapter. Till recently the number of cars assembled in the country was around 50,000 units. During 2003-04 they are expected to achieve a milestone of producing 100,000 cars. The forecast for 2004-05 is above 120,000 cars. The growth in car demand has been driven by auto financing. It is necessary to reiterate that auto parts assemblers have played a key role in achieving record production of cars. It is estimated that they have invested around one billion rupee in BMR and expansion. After the announcement of budget it was said that the GoP's decision of not reducing duty on CKD kits was not a wise decision and it would erode the profitability of auto assemblers. However, some analysts term this a wise decision to protect the interest of automotive parts manufacturers. It is believed that with the new investment the parts manufacturers would be able to achieve economies of scale and bring down the cost of components, which will in turn help in bringing downs the price of locally assembled cars.

Another sector enjoying upside potential is textiles. Lately huge investment has been made in the sector for BMR as well as adding new capacities. This investment has already started yielding positive results in the shape of higher export of textiles and clothing and improved unit price realization. It was often said in the past that Pakistan's textiles and clothing sector was incapable of facing the challenge of integration of textile trade and quota phase out. However, now there are hopes that the situation would not be as grim as being perceived. Saying this it is also necessary to reiterate that there is no room complacency. A lot more has to be done to compete in the global markets.

Fertilizer sector needs immediate attention of the GoP. Fertilizer Policy announced in 2001 has failed in attracting investment in grassroot plants. Pakistan needs to add 2 million tonnes urea production capacity to maintain self-sufficiency in urea production. Lately, the GoP has constituted a committee to make recommendation/suggestions in the policy to ensure addition of new capacity. New investment in fertilizer sector is entirely dependent on price of feedstock. The economic managers are still engrossed in discussions about subsidy. Whereas the sector experts say that fertilizer manufacturers do not get feedstock at subsidized rate, it is sale of low quality gas at a discounted price.

WAY FORWARD

It is expected that sooner or later investors will accept the CVT. The only justification for this tax is that when dividend income is taxes there is also a reason for taxing capital gains. It is also said that with the imposition of CVT, daily trading volume would come down. There seems to be no justification for maintaining exceptionally high daily trading volume if it leads to higher market volatility.

Though the number of volume leaders has gone up from less than a dozen companies to more than two dozen scrips, there is also a dire need to bring down the number of listed companies to one third, at least. All those companies having less than Rs 100 million paid up capital should be asked to opt for voluntary delisting, through buy back of shares. As such these companies hardly have any significant shareholding from the public. Most of these companies were listed to avail the tax advantage.

Last but not the least there is hardly any representation of minority shareholders on the Board of Directors of listed companies. For example individual shareholders, mostly falling in the category of minority shareholders. Adamjee Insurance Company own around 34% of total shares but have no representation on the Board of Directors. Securities and Exchange Commission of Pakistan must look into this and ensure proper representation of minority shareholders on the Board of Directors of listed companies.