Karachi, July 14, 2023 (PPI-OT): Fertilizers: Super tax to dent 2QCY23 profitability

We present 2QCY23 earnings estimates for FFC, EFERT and FFBL where we expect FFC and EFERT to report a sequential decline in earnings over higher tax charge.

Fertilizer companies, however, are expected to continue dividend announcements. We expect FFC and EFERT to announce a dividend of Rs3.0/share and Rs2.0/share, respectively.

We maintain our 'Buy' stance on the Fertilizer sector as its cash rich position directs at sustainable pay-outs in the long run. The 10% Super Tax imposition could, however, lead to CY23E average yield to scale down from 20% to 17% assuming pay-out ratio is maintained.

Higher taxes to trim 2QCY22E bottom line

We present earnings estimates for FFC, EFERT and FFBL ahead of the Jun-2023 result announcements. We expect FFC and EFERT to report a sequential decline in profitability due to the imposition of Super tax, despite higher fertilizer prices during the quarter. To recall, the sector has been charged with 10% Super Tax on CY22 income and onwards in Federal Budget FY24, resulting in a higher tax charge in 2QCY23.

We anticipate FFBL to show an increase in earnings compared to the previous quarter which reported a loss owing to exchange rate fluctuations.

Company-wise previews

Fauji Fertilizer Company Limited (FFC): FFC is estimated to witness a 48% YoY increase in earnings in 2QCY23 to Rs3.9/share as we expect the company to book gas cost at old rates owing to continued lack of clarity over rates for Mari network companies but avail a higher retention on a YoY basis. Earnings will, however, show a decline of 36% on a QoQ basis mainly due to the higher expected tax charge owing to Super tax imposition.

We expect the company to announce an interim cash dividend of Rs3.0/share for 2QCY23, taking 1HCY23 DPS to Rs7.26.

Engro Fertilizers (EFERT): EFERT’s consolidated earnings for 2QCY23 are projected at Rs1.2/share, compared to a loss in the SPLY. The company will continue to book gas cost at revised rates following SNGP network rates for payment of gas charges. Finance cost for the quarter is expected to remain high given rising interest rates. Earnings are expected to decline sequentially primarily due to the super tax charge. We are also incorporating a deferred tax charge amounting to ~Rs1.5bn, due to 6% increase in tax rate (owing to super tax).

To recall, EFERT’s Base plant was shut for almost the whole month of May for unscheduled maintenance which affected production for the quarter and would also result in a higher repair charge. We expect an interim cash dividend of Rs2.0/share in 2QCY23, which will take 1HCY23 DPS to Rs5.5.

Fauji Fertilizer Bin Qasim (FFBL): The company is expected to post earnings of Rs1.7bn for 2QCY23, translating into EPS of Rs1.3, compared to EPS of Rs1.4 during the SPLY. Even though the company’s earnings will be dented due to super tax, it is expected to show a sequential uptick in earnings as the previous quarter had a significant exchange loss which had caused the company to post a negative bottom line. Any significant increase in fuel and power costs like the previous quarter remains a key risk to gross level performance of the company.

We expect finance costs to witness an increase on account of rise in KIBOR for the period. We do not expect the company to post any dividend with the results.

Outlook on the sector intact

We reiterate our positive stance on the sector as it is anticipated to continue to produce a steady source of income stream in the future. We, however, believe that the 10% Super tax imposition will reduce CY23 Dividend yield for FFC and EFERT by around 3ppt now compared to earlier estimates, assuming payout ratio is maintained close to CY22 levels.