Urea sales have recovered strongly in Pakistan

Despite Covid-19 induced lockdowns and steep decline of 25% yoy in urea offtake in 1QCY20 due to pre-buying in Dec’19; Urea sales have recovered strongly, and we believe that urea demand in CY20 will be around 5.8mn tons, in line with our pre-pandemic expectation.

Increase in duration of GIDC payment over 48 months, compared to 24 monthly installments previously, will meaningfully ease working capital constraints industry-wide, and some companies will continue to earn from their short term investments in the interim.

We have a Market weight stance on the sector, where high dividend yield is a key attraction. We prefer FFC (Buy, TP PKR136/sh), for less peculiar risks than for peers. We also like EFERT (Buy, TP PKR75/sh), where handsome DY remains intact but the risk of GIDC on Enven plant and discontinuation of concessionary gas will limit stock upside.

Lower Urea prices and higher crop prices to elevate demand

We have revisited the estimates and raised target prices for our Fertilizer coverage, in light of recent development on GIDC installments and better farmer yield amid higher commodity prices and lower Urea prices as compared to the levels during 4QCY19. At the start of CY20, Urea sales were declining yoy amid speculative pre-buying by dealers at the end of 2019, and then Covid-19 pandemic also halted fertilizer sales. But between June-October 2020, Urea offtake witnessed growth of 38% yoy. This strong growth was backed by (i) lower Urea prices, (ii) better commodity prices, and (iii) easing of locust attack. Thus, we believe that Urea sales in CY20 will clock in at 5.8mn tons – similar to our expectation before the pandemic (last five years’ average).

The risk of RLNG based production has been resolved

As international oil prices have increased significantly since June (c.31%) and are likely to maintain the level of US$50/bbl, in our view, international LNG prices have risen in tandem. This means that it will be difficult for the government to allow RLNG based producers to resume production, in our view. If this happens, then the market share of incumbents (mainly Fauji group and EFERT) is set to increase by about 3ppt. Also, Urea inventory level at the end of October was around 671,000 tons and will remain around the same level at the end of CY20, in our view. Higher inventory levels will also dissuade the government from allowing RLNG based plants to operate. Lastly, the government has allocated additional gas to EFERT for its base plant to optimize maximum production. Previously, EFERT was able to produce 1.9mn tons annually (last 5 years’ average). But now, EFERT can reach 2.20mn tons of production against its total capacity of 2.28mn tons per annum.

We prefer FFC and EFERT

The key attraction for the sector remains high dividend yield (c.11% or more) in a low interest-rate environment. We like FFC for a more durable dividend yield, lower input cost and higher gross margins (amid almost discontinuation of GIDC) and better ability to withstand GIDC payments than in case of FFBL. EFERT is offering better dividend yield than FFC, but potential GIDC imposition on Enven plant and uncertainty regarding the timeline of discontinuation of concessionary gas arrangement will limit upside.

(Intermarket Securities Limited.)

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