EUR 30.00 For Business Accounts Only

Pakistan Strategy: Energy Sector Circular Debt Resolution could take time

• ECC, in its meeting held yesterday (3rd Sep, 2018), decided to assess the settlement made in 2013 to the energy sector, which will likely now delay the matter. The committee directed to hold an operational and financial audit of DISCOS with the audit of 4 highest loss making entities to be completed in 1 month and the audit of rest of the sector to be completed within 2 months after taking approval from the cabinet.
• To recall, circular debt has piled up to Rs594bn as of latest (excluding Rs582bn parked in PHPL). This includes Rs375bn receivables of the IPPs. The committee also decided to implement a strategy to reduce further pile up, which included severing illegal connections, installation of prepaid meters and immediate steps against power sector defaulters including ministries and government departments.
• After speaking with various stakeholders in the energy sector, we are of the view that the amount of circular debt settlement will be gradual and will not involve a large one-time as was the case in 2013. Few were of the opinion that the released amount will only be sufficient for the working capital requirements as against market expectations of higher payout.  
• Our analysis is based on what had transpired in 2013. In 2013, the govt. had settled ~80% of total outstanding receivables. Moreover, in 2013 out of a total of Rs480bn, Rs138bn was settled through book adjustment and thus did not involve a cash or PIB transaction while the remaining Rs322bn was paid in cash and PIBs.
• This time around total outstanding amount is Rs600bn and we are assuming that ~80% (around Rs500bn) gets settled. We believe NPL, EPQL and SPWL would be the prime beneficiaries and are expected to release skipped/special dividend of Rs6-8, Rs3-4 and Rs2 per share respectively in case of our assumed settlement. On the other hand NCPL can also release its skipped dividend of Rs6/share if they are retaining short term borrowings Rs2.5bn.
• Among big players, KAPCO and HUBCO are likely to pay their outstanding fuel amount and short term borrowings as per our channel checks.  To note, there is not any sizable decline in payout of these IPPs (HUBCO and KAPCO) as they are not concerned about their fuel payments due to their entitlement to guaranteed fuel supply from PSO.
• On earnings front, Cash payment will reduce earnings by 5-7% of IPPs like NPL, NCPL, EPQL and SPWL because these companies are earning KIBOR+4.5% on overdue receivables and paying KIBOR+1-2% on Short term borrowings/payables. While IPPs on older polices like HUBC, KAPCO, and PKGP will remain broadly neutral because interest earned and paid is almost same.
• As per recent filings of E&P companies, overdue receivables (inter-corporate circular debt) of PPL and OGDC have accumulated to approximately Rs200bn. On the other hand, PSO’s overdue receivable stand at approximately Rs110-120bn. This is much higher than 2013 situation where overdue receivables of OGDC and PPL at time of circular debt resolution were around Rs100bn, while PSO’s over-dues were around Rs80bn.
• On every Rs50bn PIBs settlement PSO has positive earning impact of Rs13/share while cash settlement of Rs50bn will reduce its finance cost by Rs9/share.
• We believe E&Ps will receive PIBs against their settlement amount, in line with last year. For Rs60/30bn PIB settlement OGDC and PPL will have meager impact of  Rs1.2/1.3 per share, respectively, on their profitability.
• On economic front, upon clearance of circular debt in line with our assumption, the incremental impact on fiscal deficit will be ~1.5% of the GDP. Banks which are major lenders to power sector are also likely to have increased liquidity with this settlement, that might be used to further diversify their loan book.