A buy call for Fauji Fertilizer Bin Qasim Ltd

We upgrade our stance on FFBL from Neutral to Buy with a new SOTP based TP of PKR35/sh. The core profitability is expected to improve in the absence of one-offs, higher DAP margins and dividends. Our new CY21/22f unconsolidated EPS are PKR4.54/3.23/sh. Higher international DAP prices relative to Phos-acid prices (thus improved primary margins) will steeply lift FFBL’s core earnings in CY21f (albeit normalizing CY22f onwards). Also, lower finance costs and lack of impairment on subsidiaries will maintain medium-term profitability.

FFBL is trading at CY21/22f P/E multiple of 5.8x/8.1x. The stock is presently offering potential upside of 34% with a dividend yield of 5%. Key triggers for the stock include better-than-expected dividend income, lower other expenses and curtailed losses of FFL and FML.

Upgrade to Buy with a new TP of PKR35/sh

We have upgraded our stance on Fauji Fertilizer Bin Qasim (FFBL) from Neutral to Buy with a new SOTP based TP of PKR35/sh. The core profitability is expected to improve in the absence of one-off expenses and higher dividends from subsidiaries along with robust DAP margins in CY21f. Thus, the core fertilizer business is expected to post unconsolidated EPS of PKR4.54/3.23 in CY21/22f and is contributing c.PKR19/sh to our valuation. On the investments’ front, we believe that losses of Fauji Foods will continue to decline because of recent increase in packaged milk prices and improvement in market share as well. Losses of Fauji Meat will also be curtailed due to reduced operations. Cumulatively, lower losses of the subsidiaries are estimated to add about PKR2.25/sh to the consolidated earnings.

Higher DAP prices and no one-offs will improve core profitability 

FFBL core profitability is set to improve on the back of recent increase in international DAP prices, which have risen drastically since June 2020 to c.US$580/ton. Whereas, Phosphoric acid prices have increased by 35% only to c.US$795/ton in the same period. However, we think these price levels will not sustain and are likely to normalize from 2HCY21 onwards. FFBL booked an impairment of c.PKR4.1bn on its investment in Fauji Foods and Fauji Meat, which is unlikely to recur in CY21 because of the aforementioned factors. In addition to this, the company’s finance cost will also decline drastically due to lower short-term borrowings and interest rates. Lastly, we expect FFBL to receive decent dividends from Fauji Power, PMP and Askari Bank (about PKR3.40/sh cumulatively).

Elevated offtake and margins are likely to normalize

In CY20, FFBL sold c.926,000 tons of DAP, which is the highest ever offtake in the company’s history. This was mainly because of higher inventory carried forward from CY19, robust demand in the wake of anticipated subsidy announcement by the government, despite an increase in DAP prices. However, from CY21 onwards, we expect that FFBL’s DAP offtake will normalize to c.780,000 tons. Still, this is higher than prior three years’ average sales, mainly because of lesser availability of imported DAP amid uncertainty regarding international prices. We have assumed international DAP primary margins of US$170/ton for CY21 and US$150/ton for CY22 onwards (from US$210/ton in 1QCY21). Again, these are better than the average primary margins during CY15-19 and are sufficient to maintain core profitability, in our view. Inside, we have given sensitivity to different levels of average primary margins on core profitability.

Primary margins are the real game changer

In past few years, FFBL’s primary DAP margins were weak around US$110/ton on average – mainly because of depressed international DAP prices. But, since the onset Covid-19, primary margins have increased significantly (by c.US$90/ton from average c.US$120/ton in April 2020). Below we show sensitivity to different DAP primary margins on the core fertilizer earnings of FFBL.

Courtesy – Intermarket Securities Limited. 

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