Fauji Fertilizer Bin Qasim Ltd. (FFBL) Thriving on DAP margins

Fauji Fertilizer Bin Qasim Ltd. (FFBL) Thriving on DAP margins

FFBL is scheduled to announce its 9M11 result on October 25, 2011. We expect the company to post PAT of Rs6,962mn (EPS: 7.45) versus PAT of Rs2,931 mn (EPS: 3.14) in corresponding period last year, massive upsurge of (+137% YoY). Company’s profitability in 3Q11 likely to improve by (+74% QoQ) translating into PAT of Rs3,428mn (EPS: 3.67) versus PAT of Rs1,975 mn (EPS: 2.12) in 2Q11. Moreover we expect company to announce cash dividend of Rs3.25/ share in addition to already paid interim cash dividend of Rs3.50/ share.

Uptick in DAP margins to improve net margins

Since commencement of CY11 industry faced gas curtailment and seizure on Sui network. Considering the sensitivity FFBL focused to produce more of DAP which requires more of Phosacid compared to Urea which is completely dependent on ammonia production. Company capitalized on the rising DAP prices and primary hovering over US$ 300/ton.

DAP prices averaged at Rs3,309/ bag (ex factory) up by 30% YoY during 9M11 where as primary margins averaged at US$ ~315/ ton, up by (+28.5% YoY) during the period under review. Moreover urea margins improved too due to constant rise in urea bag prices. However production suffered owing to gas curtailment thus ammonia consumption prioritized towards DAP production and residual for Urea production. Consequently we expect gross margins to clock in at 37.80% versus 30.10% in 9M10.

Earnings marathon still on

3Q11 likely to prove best quarter for CY11 where we expect (EPS: 3.67) up by (+74% QoQ) on back of improved DAP offtake of 217k tons up by (+113% QoQ) however urea offtake to remain depressed at 119k tons, (-19% QoQ). Topline to improve by +78.7% and gross margins to clock in at 38%, slightly down by 200pps QoQ due to decline in primary margins to US$ 286/ ton during the quarter down from US$315/ ton in 2Q11.

CY11 earnings to be all time high

Recent According to our estimates CY11 earnings to be all time high and company‘s profitability to swell to Rs10,293 mn (EPS: 11.02), up by 58% YoY where as 4Q11 earnings to be (EPS: 3.28). We believe DAP prices to remain firm for the 4Q11 because Phosacid 4Q11 prices settled at US$1080/ ton, up by 3% QoQ and there is very gradual decline witnessed in international DAP prices.

Whats next for investors?

There are concerns in the market about earnings decline post CY11 onwards, we believe DAP prices to start easing from 1Q12, however we primary margins would still average at ~ US$252/ ton for the CY12 versus US$ 302/ ton for CY11. We expect ex factory DAP prices to dip by ~10% for CY12, but we believe company can compensate the margins loss through higher capacity utilization as DAP demand for CY12 is expected to increase to 1.3mn tons. On the other hand gas curtailment to continue during winter season and would force the fertilizer manufactures to further scale up the urea prices. We believe urea prices would not decline unless uninterrupted gas supply is ensured to the Sui network players.

Investment in WPP, a diversification in right direction

FFBL is investing in wind power project with 50mw of 2 projects and FFBL’s share is 35% in each project. Financial close is expected in 4Q11 and plants to come online in 2H13. Project cost is Rs11bn each and debt/equity ratio would be 75/25. Going forward from CY14 onwards dividend payout from power project to augment the other income portion along with hefty other income contribution from short term investments and PMP profits.

Recommendation:

The stock has rallied from Rs42.20 (July01’11) to Rs62.22 (todate), a gain of (+47.4%). The stock rallied on back higher earnings anticipation and it was trading at P/E of 3.84x in July. We still recommend Buy for stock and currently trading at CY11/CY12 P/E of 5.65x/6.43x and CY11/12 dividend yield of 16.63%/14.61%. Our June-12 TP of Rs73/ offers upside potential of 17.36%.