Karachi, August 09, 2023 (PPI-OT): FFC: Super Tax overshadows margin accretion in 2Q
Fauji Fertilizer Company Limited's (FFC) management held a corporate briefing yesterday to discuss financial performance for 1HCY23 and outlook. To recall, FFC posted EPS of Rs4.2 for 2QCY23 vs. Rs2.6 for same period last year, whereas earnings were down 31% QoQ, mainly due to the imposition of Super Tax.
Gross margins in 2Q increased 6ppt/7ppt on a YoY/QoQ basis. Management shared that higher margins were a result of substantial cost optimization measures and operational efficiency initiatives carried out over time.
We reiterate BUY on FFC as we believe the stock offers a stable dividend yield of 18% - backed by a cash rich balance sheet and focus on diversification to reduce reliance on the fertilizer business.
Margins improve, but Super tax eats into gains
Fauji Fertilizer’s (FFC) management held a corporate briefing yesterday to discuss 1HCY23 results. To recall, FFC posted EPS of Rs4.2 for 2QCY23 vs. Rs2.6 for2QCY22. Earnings were down 31% QoQ, mainly due to imposition of Super Tax. The company also announced a DPS of Rs3.15, taking 1HCY23 DPS to Rs7.41. Gross margins increased 6ppt/7ppt on a YoY/QoQ basis. Management shared that higher margins are a result of substantial cost optimization measures and operational efficiency initiatives carried out over time.
FFC witnessed 4% YoY decline in urea offtake clocking in at 616k tons; whereas, DAP offtake clocked in at 26k tons, an increase of 9% YoY, owing to dull trading activity for the company due to high prices in the SPLY. FFC managed to maintain its Urea market share during the first half at 40%, up 1ppt YoY. Management shared that a plant maintenance is scheduled during 2HCY23.
Ensuring uninterrupted gas supply for smooth operations...
To ensure smooth operations, FFC has entered into an arrangement with Mari Petroleum Company Ltd (MARI) for the development of pipeline infrastructure and installation of gas compressors. Since MARI's Habib Rahi Limestone reservoir (HRL) is expected to show a depletion in reserves from CY24, the said investment is being made to ensure adequate gas flows and pressure required for fertilizer manufacturing for the next 6-7 years. The total cost of the project has been estimated at US$150mn and is expected to be completed in two years.
The gas Pressure Enhancement Facility (PEF), alongside the new pipeline with an estimated CapEx requirement of around Rs2bn connecting SNGPL network to FFC's Mirpur Mathelo plant site, is making satisfactory progress.
Though with potential higher gas cost
Regarding gas pricing, management indicated that government is considering introduction of price uniformity, which could potentially have a negative impact on the future profitability. For perspective, a Rs100/mmtbu hike in feed gas prices would require FFC to raise urea pricing by Rs120/bag to offset the impact, whereas EFERT, would only need a Rs86/bag increment as 30% of feed gas utilised by EFERT is priced at rates prescribed under Petroleum Policy, 2012.
Subsidiaries’ profits improve
Management shared that Fauji Fresh N Freeze Ltd (100% holding) witnessed a 51% YoY increase in sales volume during 1HCY23, and for the first time since its establishment, the company attained a net profit.
FFC’s renewable energy and wind power projects FFCEL (100% holding), FWEL I (100% holding) and FWEL II (80% holding) - collectively provided around 143 GWh of electricity to the National Grid. In terms of financial performance compared to theSPLY, the combined operating profit showed growth of around 37% whereas after tax earnings grew 39%.
Stable fundamentals and defensive positioning
Due to stable urea fundamentals, adequate pricing power, higher pay-out and low downside risk, FFC is positioned among the defensive stocks. FFC has maintained a stable dividend stream, maintaining average payout of ~75% in last five years. Despite the retrospective Super tax imposition (additional 6%) in 2QCY23. We believe the stock offers high and recurring dividend yield, owing to cash rich balance sheet, computing to CY23E D/Y at 18%.