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EngroFertilizersLimited(EFERT)

Goodbyebaddays!

ThursdayJanuary23,2014

BUY
TargetPriceDec14:PKR50

CurrentPrice:PKR34

Bloomberg

EngroFertlizersLimited(EFERT)hasstartedtradingonKarachiStockExchangefrom
Jan17,2014,aftersuccessfullygoingthroughbookbuildingandIPOphases

Our analysis suggests that concessionary gas at USD0.7/mmbtu can lift EFERTs
earningbyaverage50%andourtargetpricewillgotoPKR77/sh

Our worst case assumptions translate into a target price of PKR39/sh with average
30%fallinnetprofits

Engro Fertilizers is currently receiving gas from multiple sources including Mari gas
fields,Guddugas,MariSMLandRetiMaru.However,someofthesourcesareinterim
solutionsandaresubjecttoreviewbyECC

ThestockistradingatCY13andCY14PEmultipleof7.74xand7.65xrespectively

OurbasecasetargetpriceofPKR50/shoffersmassiveupsideof46%fromlastclosing.
We see EFERT as a good investment on fundamental grounds and therefore,
recommendaStrongBUY!

EFERT.PA

MCAP(USDmn)

424

SharesOutstanding

1,298

Valuations

2013E

2014F

2015F

EPS

4.43

4.48

6.41

DPS

2.00

EngroFertilizersLimited;initiatingcoveragewithBUYstance!
2014EDividendYield(%)

0%

CapitalGain(%)

46%

TotalGain(%)

46%

EngroFertlizersLimited(EFERT)hasstartedtradingonKarachiStockExchangefromJan,
17, 2014, after successfully going through book building and IPO phases. The scrip was
welcomed warmly by the market participants as it has been trading in its upper circuit
since then. We take this opportunity to provide detailed insights about the company
throughthisreport.

Theon/offgasstory!
EFERT Profile: EFERT is primarily in the business of
manufacturing and marketing of urea and NPK
(compound) fertilizers. It has annual urea production
capacity of 2.3 MT representing 33% of that of entire
Pakistans. Engros product line comprises Urea sold
under the brand name of Engro Urea, NPK
compoundfertilizerasZarkhez.TheCompany,asan
agent to Engro Eximp Private Limited (a sister
concern),isalsoengagedindistributionandmarketing
ofphosphatebasedfertilizersmainlyDAPandMAP.

Engro Fertilizers started its commercial operations in Jun11 in tough operating


environmentamidgascurtailmentonSuiNorthernGasnetwork.Theproblemgotworse
inCY12inwhichthecompanyreceivedgasonlyfor45dayscomparedwith189daysin
CY11. Realizing the gravity of situation and after raising voice at different forums, the
company along with three other fertilizer manufacturers entered into an arrangement
termedasLongTermGasPlanthatwillensuregassupplytofertilizercompaniesfrom
dedicatedgasfields.

UnderLongtermgasplan,fourfertilizercompaniessignedGasSupplyAgreements(GSA)
directly with the field operators instead of Gas Distribution Companies (GDCs). The
manufacturerswillenterseparatetollingarrangementswithGDCsforgastransportation.
Theoverallcapitalexpenditureforinfrastructureandpipelinedevelopmentisestimated
tobearoundUSD115mnoutofwhichEFERTsshareisUSD48mn.Wehaveincorporated
thisexpenditureinourCY14financialprojections.

Gasfield
KPD

MariSML
Bahu

RetiMaru
MakoriEast

TaseerAbbas
taseer.abbas@bmacapital.com
+92111262111Ext:2056

Total

Longtermgasplan
Supplyinmmcfd Timeline
130
Oct14

IndividualCompanyBreakup
Company
mmcfd
EFERT
79

22
15

Beingprovided
NA

DawoodHercules
PakArabFertilizer
AgritechLimited

40
58

10

Beingprovided

25

Jan14

25

202

202

Source:CompanyAccounts,BMAResearch
BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact:
bmaresearch@bmacapital.comorcallUAN:111262111

This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained
herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions
expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy
orsellthesecuritiesmentioned.

Inthemeanwhile,EFERTdivertedgasentitledtoitsbaseplantfromMarigasnetworkto
Enven. The shift to more efficient plant brought 1015% incremental production, easing
offsomepressurefromcompany.Thecompanyintendstocarryoutthisdiversiontillfull
implementationofLongTermGasPlani.e.Oct14.
EFERTwasalsoluckytoreceive60mmcfdadditionalgasfromGudduPowerStation.The
delays in operation of power plant provided EFERT an opportunity to receive unutilized
naturalresource.WebelievethegaswillcontinuetoflowtillMar14.

Ourassumptionsindifferentscenarios
EngroFertilizersiscurrentlyreceivinggasfrommultiplesourcesincludingMarigasfields,
Guddugas,MariSMLandRetiMaru.However,someofthesourcesareinterimsolutions
andaresubjecttoreviewbyECC.Wewilldiscussourbasecaseassumptionsandimpacts
oncompanysfinancialsindifferentscenarios.
BaseCase:Inourbasecase,wehaveassumed;

GasfromGudduwillcontinuetoflowintillMar14
LongtermgasplanwillbeimplementedbyOct14
GasfromMariwillbedivertedtoEnventillimplementationofLongtermgasplani.e.
Oct14
MarigasaswellaslongtermgasplanwillbepricedatUSD4.2/mmbtu
Urea price to remain steady at PKR1900/bag. We believe manufacturers will raise
pricesafterrecentincreaseinGIDCassoonastheinventoryisclearedoff
Off take is assumed to be around 1.66mn tons in CY14, while CY1518 growth is
assumedtobe4%perannum
Given the implementation of long term gas plan and gas from Mari network, we
believetheeffectiveutilizationfrombothplantswillbearound80%

AbovementionedassumptionstranslateintofollowingfinancialsofEFERT:
ProjectedIncomeStatements
PKRmn

CY13E

CY14F

CY15

CY16

CY17

CY18

Netsales

49,234

57,740

59,202

61,514

63,827

66,139

CostofSales

27,938

35,037

34,349

35,779

37,186

38,629

GrossProfit

21,296

22,703

24,853

25,736

26,641

27,510

43%

39%

42%

42%

42%

42%

4,591

6,150

6,289

6,275

6,696

6,904

GPMargin
Admin.&Others.
Otherincome

1,048

714

881

797

839

818

OperatingProfit

17,753

17,266

19,445

20,258

20,783

21,424

EBITDA

22,795

22,488

24,849

25,760

26,388

27,138

Lessfinancecost

9,038

8,447

6,842

4,544

2,298

440

Profitbeforetax

8,714

8,819

12,603

15,714

18,485

20,984

Taxation

2,963

2,998

4,285

5,343

6,285

7,135

Profitaftertaxation

5,751

5,820

8,318

10,371

12,200

13,849

EPS(PKR)

4.43

4.48

6.41

7.99

9.40

10.67

DPS(PKR)

0.00

0.00

2.00

3.00

3.00

3.50

Source:BMAResearch

BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact:
bmaresearch@bmacapital.comorcallUAN:111262111

This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained
herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions
expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy
orsellthesecuritiesmentioned.

Thebestcase;probabilityincreasingdayafterday
RecallthatEngrohadsetupits1.3mntonEnvenplantbasedontheguaranteeof100mcfd
gas allocation for a period of 20 years and the concessionary feed stock rate of
USD0.7/mmbtu. Recently, ECC has decided to extend the life of contract by number of
days Engro could not receive concessionary gas. As the incentives seem more probable
thanever,thereforewehighlightfollowingpossibleimpactsoncompanysvaluation.
Assumptions:

BaseplantwillcontinuetooperateonMarigasatPKR423/mmbtu
Enven will operate at concessionary gas of USD0.7/mmbtu for a period of 10 years
startingfromCY15
Thepricing,offtakeandotherassumptionsremainsameasinbasecasescenariofor
CY14andonwards

Asevidentfromthetablebelow,concessionarygascanliftEFERTsearningby~50%and
ourtargetpricewillgotoPKR77/sh,offering124%upsidepotentialfromlastclosing.
EPS(PKR)

Dec14

Dec15

Dec16

Dec17

Dec18

BaseCase

4.48

6.41

7.99

9.40

10.67

BestCase

4.48

11.29

12.87

14.28

15.55

0%

76%

61%

52%

46%

Change
Source:BMAResearch

Theworstcase;forEFERTyoucantignoreanything
Inourworstcasescenarioweassume;

The long term plan will commence from CY15, a delay of 1Q from base case
assumption
GuddugaswillbegonebyMar14
GasfromMariwillbedivertedtoEnvenforcompleteCY14whilethebaseplantwill
operateonlyforonequarteronGuddudivertedgas
Ureapricewillremainatcurrentleveli.e.PKR1,786/bag
CY14 offtakewill be limited to 1.4mn tons due to productionconstraints from Base
plant
FromCY15onwards,EnvenwilloperateonLongtermgasplanwhilebaseplantwill
operateonMarigaswitheffectivecapacityutilizationof80%

OurworstcaseassumptionstranslateintoatargetpriceofPKR39/shoffering14%upside
fromyesterdaysclosing.
EPS(PKR)

Dec14

Dec15

Dec16

Dec17

Dec18

BaseCase

4.48

6.41

7.99

9.40

10.67

WorstCase

1.52

4.90

6.41

7.76

8.97

Change

66%

24%

20%

17%

16%

BMAResearch

Another worst case (highly unlikely) can be where the long term gas plan is not
implementedatallandEFERThasnooptionbuttooperateEnvenonMarigas.Withjust
oneplantoperationalonlowbtugas,webelieveEFERTtohaveatargetpriceofPKR13/sh
inthatscenario.

BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact:
bmaresearch@bmacapital.comorcallUAN:111262111

This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained
herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions
expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy
orsellthesecuritiesmentioned.

33

Debtreschedulingmakesiteasytomanage
The lenders of the company realizing circumstances beyond the control of EFERT
managementrescheduledlongtermloans.Asaresult,theeffectivetenorofloansasat
Jun2012 was extended by 2.5 years. Moreover, both parties agreed amendments in
certain financial covenants including a condition whereby dividend may be paid after
repaymentof33%ofseniorloans(PKR13bnasofSep13).Themilestoneexpectedtobe
achieved by 3QCY15 coupled with strong cash flow generation will enable management
notonlyfollowloanschedulebutalsodistributecashdividend.Wereckonpayoutratioto
bearound30%,translatingintoPKR2/shcashdividendinCY15.

ValuationusingFreeCashFlowtoFirm;whyFCFF?
WehavevaluedEFERTusingaFreeCashFlowtoFirm(FCFF)basedfinancialmodel.Why
FCFF?Thecompanyhassignificantlongtermdebt(evidentfromdebttototalcapitalratio
to 0.7), we believe FCFF to be more appropriate approach for valuation purpose as it
allows to factor in relatively lower cost of debt. We have also calculated Weighted
AverageCostof Capital(WACC) separately for eachyear to incorporate decreasingdebt
component.WehaveusedCAPMbasedcostofequityof20%resultingfromriskfreerate
of13%,marketriskpremiumof6%andbetaof1.2.
FreeCashFlowtoFirmbasedvaluation
FreeCashFlowValuations
Targetdate

Dec14

Dec14

Dec15

Dec16

Dec17

Dec18

Terminal

Valuation

11,396

12,834

13,371

13,717

14,140

EBITlesstax@34%
AddDepreciation
Workingcapitalchanges

CashflowfromInvestingActivities
FreeCashflowtoFirm

WACC
DiscountedFCFF
TerminalGrowthRate
PVofForecasts
TerminalValue
PVofterminalvalue
TotalPV
LessDebt

EquityValue
No.ofshares

PershareequityValue(PKR)
Source:BMAResearch

5,222

5,403

5,501

5,604

5,714

4,358

(1,960)

(849)

213

(658)

(5,269)

(1,950)

(2,019)

(2,145)

(2,257)

15,706

14,328

16,004

17,390

16,939

17,447

12.95%

13.46%

14.09%

15.36%

16.97%

15,706

12,628

12,291

11,324

9,045

3%

60,994

124,895

66,691

127,685

62,561

65,124

1,298

50.18

Whatdoothervaluationmethodssay?
Our FCFF based valuation is also endorsed by other valuation methodologies. We have
calculated a target price based upon four different methodologies. Following table
illustratesourexercise.

BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact:
bmaresearch@bmacapital.comorcallUAN:111262111

This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained
herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions
expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy
orsellthesecuritiesmentioned.

PEbasedvaluation
7.79

BookValueBasedValuation

AverageEPSnext5years

TargetPEmultiple

AverageBookValuenext5years

7.00

Value

36.69

Targetmultiple

54.54

1.50

Value

55.04

PVofForecasts

29,376

TerminalValue

132,696

Valuation
Method

FreeCashflowtoEquitybasedvaluation

Weight

TP

Upside
Potential

FCFF

30%

50

46%

PVofterminalvalue

36,567

FCFE

30%

51

48%

TotalPV

65,943

PEBased

20%

55

60%

EquityValue

65,943

BVBased

20%

55

60%

No.ofshares

1,298

100%

52

52%

PershareequityValue(PKR)

Average
ValuePKR/sh

50.81

Source:BMAResearch

Recommendation
We have litmus tested EFERT on a variety of scenarios. Apart from the one plant only
scenario in which target price disappoints (also it is highly unlikely scenario), all other
scenarios indicate EFERT tobe agood investment. Wemaintain ourconviction with our
base case scenario as we await further clarity about concessionary gas. Therefore, we
have not incorporated benefits from cheap gas and as soon as clarity emerges about
timingofgasprovision,wewillupdateourreaders.
Nevertheless,ourbasecasetargetpriceofPKR50/shoffersmassiveupsideof46%from
lastclosing.WeseeEFERTasagoodinvestmentonfundamentalgroundsandtherefore,
recommendaStrongBUY!
TargetPricesensitivitytochangeinriskfreerate

70.0

65
59

60.0

55

50.0

50

46

43

40.0

30.0
20.0
10.0

10%

11%

12%

13%

14%

15%

Source:BMAResearch

BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact:
bmaresearch@bmacapital.comorcallUAN:111262111

This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained
herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions
expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy
orsellthesecuritiesmentioned.

FinancialHighlights
IncomeStatement

CY13

CY14

CY15

CY16

CY17

PKRmn
CY18

Sales

49,234

57,740

59,202

61,514

63,827

66,139

Grossprofit

21,296

22,703

24,853

25,736

26,641

27,510

Otherincome

1,048

714

881

797

839

818

EBITDA

22,795

22,488

24,849

25,760

26,388

27,138

Profitbeforetax

8,714

8,819

12,603

15,714

18,485

20,984

Netprofit

5,751

5,820

8,318

10,371

12,200

13,849

Earningspershare(PKR)

4.43

4.48

Dividendpershare(PKR)

Balancesheet
Totalshareholder'sequity
NonCurrentLiabilities
Totalnoncurrentliabilities
CurrentLiabilities
Tradepayables

6.41

7.99

9.40

10.67

2.00

3.00

3.00

3.50

CY14

CY15

CY16

CY17

CY18

30,989

39,307

47,083

55,389

65,345

CY13
25,168

61,279

56,158

42,592

28,944

17,903

13,346

9,668

11,018

9,861

9,585

9,249

8,867

Totalcurrentliabilities

17,887

24,615

26,338

26,240

23,239

15,876

Totalequityandliabilities

104,334

111,762

108,237

102,267

96,531

94,568

79,966

80,013

76,560

73,078

69,618

66,162

Assets
Noncurrentassets
Currentassets

24,367

31,749

31,677

29,189

26,912

28,406

TotalAssets

104,334

111,762

108,237

102,267

96,531

94,568

CY13

CY14

CY15

CY16

CY17

CY18

Cashflowfromoperations

6,605

15,400

11,762

15,024

18,018

18,906

Cashflowfrominvestingactivities

(1,886)

(5,269)

(1,950)

(2,019)

(2,145)

(2,257)

Cashflowfromfinancingactivities*

223

303

(10,669)

(16,093)

(17,588)

(15,430)

Netchangeincash

4,942

10,434

(856)

(3,088)

(1,715)

1,218

EndingCash

7,391

17,826

16,969

13,881

12,166

13,384

Cashflowhighlights

Keyratios

CY13

CY14

CY15

CY16

CY17

CY18

Salesgrowth

61%

17%

3%

4%

4%

4%

Grossmargin

43%

39%

42%

42%

42%

42%

Netmargin

12%

10%

14%

17%

19%

21%

Growthinnetmargin

21%

2%

4%

3%

2%

2%

ROE

28%

21%

24%

24%

24%

23%

ROA

6%

5%

8%

10%

12%

14%

2.49

2.02

1.33

0.82

0.45

0.21

DebttoEquity
DebttoTotalcapital

0.71

0.67

0.57

0.45

0.31

0.17

Bookvaluepershare

19.39

23.88

30.29

36.28

42.68

50.35

P/B

1.77

1.44

1.13

0.95

0.80

0.68

P/E

7.74
0%

7.65
0%

5.35
6%

4.29
9%

3.65
9%

3.22
10%

*IncludingRightissueandIPOof75mnshares

Source:Companyaccounts,BMAResearch

Dividendyield

BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact:
bmaresearch@bmacapital.comorcallUAN:111262111

This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained
herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions
expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy
orsellthesecuritiesmentioned.