EUR 12.20 For Business Accounts Only

Engro Corporation (ENGRO): Earnings revised upward; 'BUY' stance maintained

• We revise up our earnings for Engro Corporation (ENGRO) by 21/20/27% for 2018, 2019, and 2020 respectively to Rs27/29/42 per share after 1) revising up our earnings estimates for Engro Fertilizer (EFERT), 2) analyzing bright prospects of its petrochemical business operating under Engro Polymers and Chemicals (EPCL), 3) strong outlook of Thar energy projects and 4) potential return on available liquidity of around Rs64bn.
• Post industry urea inventory depletion in 4Q2017, urea prices touched its ceiling of Rs1400/bag, resulting into higher GP margins of 40% and 38% during 1Q2018 and 4Q2017 respectively vs. 29% in 3Q2017. Going forward, we expect urea prices to remain on higher side, as production facilities of few manufacturers are facing intermittent operations due to short supply of natural gas and higher cost of LNG. Please see our detailed report on Urea manufacturers titled ‘Pricing Momentum Looks Supportive dated Mar 22, 2018’.
• Petrochemical business worldwide has shown improvement due to its versatile applications in pipe and fittings, films and sheets, tubes, floorings, wires and cables, coatings, and automotive sealing. Pakistan’s per capita PVC consumption remains at around 1.2 Kg vs. India’s 2.3Kg, Indonesia 2.5Kg and China’s 12.5Kg. Moreover, in last three years (2015-2017), Pakistan’s PVC market has posted healthy CAGR of 20% to ~280k tons in 2017 (vs. EPCL’s capacity of 195k tons). To cater this growing market, EPCL has announced to expand its production capacity by 100k tons to 295k tons by 3Q2020. As a result we expect EPCL’s profitability to grow at 4-year CAGR of 30% based on PVC-Ethylene margins of US$300-330 per ton.
• Recent currency devaluation of PKR-USD in  two rounds is expected to support profitability of Engro Elengy (EETPL), where, the company’s toll revenue is dollar denominated (US$0.47 per unit). Furthermore, margins on petrochemical business are also internationally linked while, expenses are in local currency (PKR).
• ENGRO is currently carrying Rs64bn (Rs122/share) cash balance, that is parked in T-bills and TFCs. As per recent annual filing, company has applied for letter of intent and right to develop 350MW of solar and wind projects in Balochistan.
• Thar Coal Mining and Power Projects are likely to commence operations by Jun 2019 (we have assumed from Jan 2020), where we expect these projects to add Rs10-12 per share to the consolidated earnings of the ENGRO.
• Key risks: Key risks to our valuation/earnings includes, 1) poor crop season, 2) regulatory changes in energy projects, 3) fluctuations in petrochemical margins, and 4) short supply of natural gas.
• We have used Sum of the parts (SOTP) valuation methodology to value Engro Corporation (ENGRO). At current market price, ENGRO offers discount of 25% along with dividend yield of 7%.