Pakistan: PSO from Rags to Riches

In the recent past I have posted a few not really positive news items about Pakistan State Oil Company (PSO). The largest oil marketing company of Pakistan, operating in the public sector was also recently excluded from MSCI index.
Today I present highlights from a detailed report on PSO to be released by InvestCap one of Pakistan’s leading brokerage houses shortly. In this report the brokerage house has elaborated potential impact of the expected increase in POL product volumes stemming from increased usage in power generation.
For FY13, the brokerage house expects PSO to post earnings growth of 29% YoY (EPS: Rs47.18) due to various reasons that include: a) a 16% higher motor gasoline (Mogas) volumetric sales, b) 60% less exchange losses backed by lower depreciation of Pak rupee against US dollar (approximately 5% as compared to 10% during FY12) and c) higher margins on HSD (Rs0.10/liter to Rs1.86/liter) and Mogas (Rs0.25/liter to Rs2.23/liter) during last quarter of FY13. However, it anticipates earnings during 1HFY14 to remain flat YoY at Rs25.4/share in the absence of inventory gains.
PSO’s sales volume for furnace oil (FO) having declined by 4% YoY during 9MFY13, Investcap expects the same to fall by 3% YoY during FY13. FO sales are anticipated to increase in FY14 after the benefits from the power sector reforms become evident. Thermal generation being the need of the hour implies increased usage of FO for electricity generation through FY14-16. PSO’s FO sales volume is likely to increase by 5% CAGR during FY14-16E or until successful completion of power generation projects using cheaper energy resources.
Positive correlation between economic growth and white oil sales has existed historically and the same relationship is expected to prevail in the future. During the last three years Pakistan’s economic growth has remained range bound between 3-4% and white oil sales leveled around 10-10.5 million tons. Going forward, the average economic growth rate is expected to 5% (FY14-16E) to be supported by ~7% higher volumetric sales of white oil annually by PSO.
Assuming cost of equity at 17% and terminal growth rate of 5%, InvestCap values PSO at DCF-based target price of Rs325/share for December 2013. The target price implies 18% upside from current levels. It maintains ‘BUY’ stance on the scrip.



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