Karachi, February 07, 2023 (PPI-OT): FFC intends to pass on complete impact of gas price hike
Fauji Fertilizer Company Limited’s (FFC) management held a corporate briefing session today to discuss the financial performance of the company for CY22, where the management shared that it intends to pass on any impact of gas price hikes completely to farmers, securing its margins.
Regarding 4QCY22 results that reflected a 6ppt QoQ decline in gross margins and 1% QoQ lower profit after tax, management briefed that reasons for lower margins were the recording of loss on DAP inventory and repair charge owing to plant closure during 4QCY22.
We reiterate our BUY stance on FFC as we believe the stock offers a stable dividend yield of 18%, a cash rich balance sheet and focus on diversification to reduce reliance on the fertilizer business.
One-offs impacted gross level profitability during 4QCY22
Fauji Fertilizer’s (FFC) management held a corporate briefing session today to discuss the financial performance of the company for CY22. The firm witnessed lower urea offtake as a result of the effects of the floods; whereas, DAP trading activity was also slow for the company due to high prices for the product. Management apprised that major reasons for lower core profitability during 4QCY22 were the recording of loss on DAP inventory and repair and maintenance costs (Rs650mn).
The company recorded an amount of Rs1.5bn during 4QCY22 in lieu of inventory losses taking the total loss recorded in this regard to Rs~2.2bn. The company’s plant was also offline for almost 20 days during the quarter for turnaround.
FFC intends to pass on impact of any increase in gas prices
The management shared that it expects a significant gas price hike and that it intends to pass the full impact of it on to farmers right away. Given that a gas price increase has been long overdue and the IMF demand in the ongoing talks with the government that gas prices, like electricity prices, also be rationalized, we reckon that an increase is very likely in the coming days. The last gas price rise for the industry was announced in July 2019 when Feed gas prices had jumped by 62% (to Rs115/mmbtu) while fuel prices climbed by 31% (to Rs241/mmbtu). With better demand-supply situation, urea pricing power would be strong for the largest urea manufacturer and any increase in gas prices would be easily passed on to the farmer.
For perspective, a Rs100/mmtbu hike in feed gas prices would require FFC to raise urea pricing by Rs118/bag to offset the impact, whereas EFERT on the other hand, would only need a Rs82/bag increment as 30% of the feed gas utilised is priced at rates prescribed under Petroleum Policy, 2012.
Works on gas supply to ensure smooth operations
To ensure smooth operations, FFC has recently 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.
The company has also entered into an agreement with SNGP for the provision of gas to the Mirpur Mathelo site. Capital expenditure requirement for the project would be around Rs2bn.
FFC remains a preferred pick in the fertilizer space
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. We believe the stock offers high and recurring dividend yield, owing to cash rich balance sheet (cash + short term investment: Rs56/share), computing to CY23E D/Y at 18%. The company has also been focusing on diversification through investments in Energy, Food and Banking. The stock’s SoTP based target price adds up to Rs130.