FY08 BUDGET ANNOUNCEMENT...

MARIAM NASIR
Manager Research
June 18 - 24, 2007

The government announced a pro-poor budget for the fiscal year FY08. The budget didn't carry much need incentives as expected from the business and capital market point of view but overall was a relief budget, anticipated to minimize the gap between the rich and the poor. The budget entails higher salaries and lower cost of living, extension of capital gain tax on bourses for a period one year, higher public sector development plan targets and tax incentives for private equity, venture capital and REITs. Looking at the impact of budget on different sectors, it is positive for cement, textile, agriculture, and insurance sectors. The effect utilities, oil & gas exploration, and oil & gas marketing is neutral whereas for banks and mutual fund it is negative.

(RS. BILLION)

FY07BE

FY08BE

CHANGE

RECEIPTS:

Net Revenue Receipts

705

902

28%

Net Capital Receipts

16

59

269%

Foreign Loans and Grants

239

259

8%

Bank Borrowings

140

131

-6%

Privatization Proceeds

75

75

0%

Other Financing Resources

139

174

25%

Total:

1,314

1,600

22%

EXPENDITURE:

Debt Servicing

296

437

48%

Defence

250

275

10%

General Administration

208

204

-2%

Development Expenditure

435

543

25%

Others

125

139

12%

Total:

1,314

1,600

22%

BE-BUDGET ESTIMATES

ANNOUNCEMENT FOR THE BOURSES

The Budget FY08 had no impact on the capital markets. CVT was maintained at prior levels at 0.5% and the Capital Gain Tax has been extended for one year. Income from Continuous Fund System would be subject to tax rate of 10% and Inter-corporate dividends will now be taxed at 10% (5% earlier). Budget also carried exemptions for private equity funds, REITs and holding companies and carries maximum limit of investment in IPOs to avail tax credit raised from Rs200, 000 to Rs.300, 000.

KEY TAX MEASURES

*Withholding tax rate on dividends increased from 5% to 10%.

*Banks will be subject to capital gain tax of 10% earlier capital gains tax were exempt.

*Exemption of mutual funds from levy of 10% tax on CFS income withdrawn.

*Withholding tax rate of 5% on purchase of locally manufactured cars.

*Withholding tax rate of 5% levied on import of polyester filament yarn.

*Companies to pay advance tax in the first year of operations.

*Increase in sales tax rate from 15% to 20% on specified raw materials to discourage informal manufacturing in iron & steel, plastics & papers.

*Abolition of excise duty on motor gasoline and jet fuel.

*Zero-rating of sales tax on trailers and semi-trailers.

*Increase in sale price of cigarettes by 7% to increase the incidence of tax.

*5% excise duty charged on non-fund banking services.

*1% surcharge levied on all imports excluding vegetables/ pulses, edible oil/ ghee, crude petroleum, furnace oil, HSD, medicines, fertilizers.

*Downward revision from 5 years to 3 years for import of old/ used cards/ jeeps.

*Merger of Capital Value Tax (CVT) in Customs duty.

*On meeting certain criteria, holding company and its subsidiaries can claim tax benefit on other group companies' losses.

SECTOR WISE

AUTOMOBILE SECTOR: (NEUTRAL)

With both positive and negative announcements overall budget outlook for the automobile sector was neutral. Budget FY08. At one end, Auto Industry Development Plan was implemented along with reduction in capping for old and used cars at three years from five years previously while at the other end Government imposed 5% withholding tax on purchase locally manufactured vehicle. Besides that, Government abolished CVT ranging between 3.75-7.5% and increased the duty further by 1-15% on different engine capacity cars.

BANKING SECTOR: (NEGATIVE)

FY08 budget came with a bang for the banking sector. Government doubled the tax rate on the dividend income and levied capital gain tax on equity investments. The government also extended 5% excise duty on non-funded services. Furthermore, the SBP's proposal to exempt the interest income from income tax earned through agri financing was not considered in the budget. Later on after the budget it was announced that the banks can invest in National Saving Schemes.

CEMENT SECTOR: (POSITIVE)

Although with no direct positive measure, the cement sector is one of the biggest beneficiaries in the federal budget. Budget FY08 unveiled Public Sector Development Program of Rs520bn as against Rs435bn. Along with that the government announced construction of Major Dams and Canals namely Bhasha, Munda, Kalabagh, Akori and Kurrum Tangi by 2016 and allocated Rs85bn for the construction of Neelum- Jehlum project, Greater Thal Canal, Reni Canal and Katchi Canal. As expected Central Excise Duty and Export Rebate remained unchanged. Another indirect measure announced was the slashing of duty on paper import thus reducing packaging cost.

EXPLORATION AND PRODUCTION SECTOR: (NEUTRAL)

As written in our prior article related to the Exploration and Production sector, the budget remained uneventful for the sector. Only two measures was announced which was the exemption of withholding tax on supply of crude oil and gas to any permanent establishments of non-resident E&P companies. Apart from that machinery imports by E&P companies, with the exception of autos were also exempted from withholding tax. Petroleum Policy was not part of the budget so it will be announced sooner.

FERTILIZER SECTOR: (POSITIVE)

The budget announcements had a very positive outcome for the fertilizer sector. Government raised the subsidy amount on the fertilizer imports from Rs10.5bn to Rs13.5bn. Out of which Rs.4bn would be utilized for import of Urea while Rs9.5bn would be consumed for DAP imports. Per bag subsidy on Di-Ammonia Phosphate was also raised from Rs.400 to Rs.470 favoring well for its manufacturers and importers. 1% additional levy on imports is not applicable on fertilizer hence safeguarding the industry from the burnt of rising cost and in order to keep the fertilizer input cost low government also announced 25% subsidy on electricity charges used to operate tube-wells to supply water to the nearby fields.

GAS: (NEUTRAL)

Apart from any direct announcement affecting the company, Gas Development Surcharge was revised down by 33% to Rs2.2bn as against previous budget estimate of Rs3.3bn. Along with that government directed gas distribution companies to collect GST on behalf of CNG stations. An additional 6% WHT has also been imposed on CNG sale. This additional levy would increase the cost of CNG which will still remain attractive when compared to prices of Petrol.

INSURANCE: (NEUTRAL)

Only the non-life insurance sector is the beneficiary of the FY08 Budget as the government has announced abolition of 5% excise duty on health insurance by non-life insurance companies. This brings non-life insurance companies at par with the life insurance companies.

MUTUAL FUNDS: (NEGATIVE)

One of the growing sectors of the financial industry 'Mutual Funds' was subjected to 10% tax levy on income earned through investment in Continuous Funding System. Along with that, government has offered incentives like, tax exemption in case of 90% income distribution to Real Estate Investment Trusts and tax exemption on sale of property to REIT. The first measure has serious negative repercussion on the earning of the mutual funds especially for those who are operating income funds while the other measure has so far no positive outcome as so far no REIT has been launched and all are in the pipeline.

OIL MARKETING COMPANIES: (NEUTRAL)

In the budget government reduced CED on Motor Gasoline by Rs0.88/litre and PRs0.06/litre on JP-1 and reiterated its positive stance to maintain local POL prices during the next fiscal year and for that purpose Rs15bn subsidy has been announced which is 50% higher than FY07 budgeted amount of Rs10bn.

POWER: (NEUTRAL)

The expected amendments in the power policy 2002 were not part of the budget. Besides that the subsidies announced in the budget include WAPDA-GST (Rs24.893bn), WAPDA-Tube-wells (Rs3bn), Inter-DISCO tariff differential (Rs25bn), KESC-GST (Rs3.3bn) and KESC on accounts of tariff differential (Rs15.79bn). For the company's with in-house power generation facilities duty was reduced on industrial diesel power generating units from 40% to 35%.

TEXTILE: (NEUTRAL)

The much awaited textile policy was not announced in the budget. But along side that some other measures were announced which included: Reduction in withholding tax from 1.5% to 1.0% on textile exports, allowed spinning sector to avail subsidized financing under LTF-EOP as well, like composite and weaving sector, imposed antidumping duty of 10.3% on PSF imports and included PSF into Duty and Tax Remission on Exports (DTRE), and provided 3.5% Research and Development facility for PSF manufacturer. Inclusion of PSF in the ambit of DTRE bodes negative for the local PSF manufacturers as the imported PSF is cheap when compared to locally produced fibre.

TELECOM: (NEUTRAL)

For the telecom sector the mobile activation charges remained unchanged at Rs500as against last reduction from Rs1, 000 to Rs500 in Budget FY06. Apart from that For FY08 government has set a dividend target of Rs12.0bn from PTCL.

Apart from the banking and mutual funds the overall budget had a neutral to positive outlook for different sectors. With different policy announcement in the pipeline namely Textile Package, Petroleum Policy and Amended Power Policy we expect the FY08 another eventful year for the growth of capital market.