Pakistan’s largest oil marketing company, Pakistan State Oil
Company (PSO) is expected to suffer from increased circular debt build up
during FY23 amidst volatile LNG prices due to current geopolitical scenario,
alongside with rapid depreciation of Pak Rupee, in the near term. I am inclined
to share with my readers the latest review by Pakistan’s largest brokerage
house, AKD Securities.
The brokerage house after revisiting its investment case for
Pakistan State Oil (PSO) has revised December 2023 share target price to PKR215,
from PKR240, providing a total return of 66% from last close.
Its models incorporate risk-free rate of 17%, PKR/US$ of
240/270 and Arab Light of US$95/90 per barrel during FY23/FY24. More
specifically, with the crop season likely to be impacted by the recent
catastrophic floods (affecting HSD offtakes), reduced auto sales in the coming
quarters and overall fallen retail sales due to lower affordability amidst
higher prices.
Industry’s total POL demand is expected to cumulatively fall
by 15% during FY23 (previous estimate 8%), due to an overall depressed economic
outlook.
To note, PSO’s volumetric offtakes were down by 18%YoY as
against industry’s overall decline of 20% during 5MFY23.
The much awaited revision in OMC margin provides significant
impetus to the valuation. The brokerage house has incorporated uniform OMC
margins of PKR6/liter for both MS and HSD from January 2023 onwards, up 61%/51%
from current levels for MS/HSD, respectively.
The aforementioned increase is expected to result in gross
margins for retail fuels to stand at 2.6%/2.5% (assuming current POL prices)
from 1.6%/1.7% on MS/HSD, respectively.
Historically, OMC margin increases were done generally
benchmarking with the core CPI (NFNE), increasing by 6% on an average, annually.
Going forward, the brokerage house assumes an annualized growth in OMC margin
by 8%, to be revised at the start of every fiscal year.
With regards to the company’s working capital issues, measures
taken by the GoP in order to meet with conditions set out by the IMF may be a
breath of fresh air for the company.
As the global lender pushes the GoP into fiscal
consolidation by increasing power and natural gas tariffs, this is expected to
reduce the financial burden on the cash-starved sector and consequently PSO.
The company may be the primary beneficiary of these hikes as
repayments of its overdue receivables and LPS surcharges may begin flowing
through from its two biggest defaulters SNGPL (overdue receivables: PKR305 billion)
and power sector (overdue receivables: PKR92 billion) as per latest quarter,
inducing increased collections from customers.
Ongoing winters may pose
risk because in the near term, the national petroleum company is
expected to suffer from increased circular debt build up during FY23 amidst
volatile LNG prices due to current geo-political scenario, along with rapid depreciation
of PKR/US$.
This subsequently results in increased working capital needs
for the company and finance costs (82% short term in foreign currency, rising
rates globally pose a risk).
Overall, the brokerage house expects belligerent build up of
LNG receivables from Sui companies (as seen in the past) to gradually slowdown/
halt on the back of shrinking tariff differential between indigenous and
imported gas assuming biannual gas price increase is incorporated in timely
manner going forward.
The brokerage house liking for Pakistan State Oil (PSO) is
due to: 1) gas and power tariff adjustments may prove to be cash-positive, 2)
Modernization plans in refinery subsidiary (PRL) to enhance productivity, and 3)
Phasing out of RFO coupled with increasing share of retail fuels, resulting in
stable margins to drive unhampered future cash flow.
