JS Global Capital Limited

May 2009
JS Research

Pakistan
Hold Rs 18.76 Engro Polymer and Chemicals Company Update

Target Price: Rs18

Post expansion turnaround - Upgraded to Hold
We are upgrading Engro Polymer & Chemical Ltd to ‘Hold’ from ‘Sell’, on the back of
its aggressive vertical integration capacity expansion. This is over and above
company’s recent 50k capacity addition. We believe Engro Polymer will continue to
enjoy its 85% market share in PVC resin and scrap, as looming threat of Sitara
Chemicals is over. Sitara has shelved its PVC plant set-up for now. With the vertical
integration capacity online, the margins are set to increase, as demand for VCM will
be met internally. As a result, we expect, EPCL to post healthy earnings at
KATS Code: EPCL Rs2.7/share in 2010E, compared to Rs0.7/share in 2009E. We have raised our target
Bloomberg Code: EPCL PA price for EPCL to Rs18, from Rs13 earlier. The stock is trading at a post expansion
Reuters Code: EPCL.KA 2010E PE of 7.1x translating in a 32% discount to its regional peers. However, this is
not significant given Pakistan market is trading at a 40% discount to the region.

PVC demand to remain upbeat

The company has expanded its plant capacity by 50% from 100k tons to 150k tons
Market Price:
Rs18.76 per annum. We believe this horizontal expansion should help to capture further
market share. Currently, PVC demand in the country stands around 120k-125k tons.
Market Cap:
Rs9.8bn
We expect, PVC demand to increase by 9% CAGR over 2009-12, as per capita PVC
US$120.8mn consumption is at an abysmally low level. Pakistan’s PVC per capita consumption
stands at 0.7kg against China (7.5kg), Thailand (8.5kg), and India (1.2kg). With an
Avg. Daily Volume to date:
1.2mn shares 9% annual demand growth, we expect EPCL capacity to be exhausted by 2011.
Rs31.5mn
US$0.4mn Caustic soda sales and VCM production to jack up margins
The company is also in the process of vertical integration to establish in-house VCM
High/Low:
Rs48.45/12.50 production facility to enhance margins of the company as imported VCM prices have
reverted from trough. However, major margin improvement will be witnessed through
Estimated free float:
32.3mn shares (6.2%)
caustic soda sales, a by product during VCM production process. It is expected to
contribute around 17% to the gross sales of the company from 2010 and beyond.
Valuation: Long term play
The company is currently trading at a high 2009E PE of 28.3x versus market’s 2009E
PE of 7.6x, a premium of 272%. However, on post expansion 2010F PE of 7.1x the
stock is only 9% above the market’s 2010F PE of 6.5x. When looking at the regional
PVC companies in China, Thailand and Korea, their 2010F average PE stands at
10.4x. This implies that EPCL is trading at 32% discount to regional peers however
this is lower than Pakistan market discount of 40% to the region.

Tab le 1: EP CL Key Nu mbe rs

2007A 2008A 2009 E 2010F 2011F 2012F

E arni ng per share (Rs) 0.8 0.7 0.7 2.7 3.1 3.2
Growth (%) 11% -16% -2% 301% 15% 3%
JS Research

B ook value per share (Rs) 9.9 12.6 13.2 13.8 14.4 14.8
Dividend yield (% ) NM - 0.9% 10.6% 13.0% 15.1%
Syed Atif Zafar
atif.zafar@js.com P E (x) NM 35.3 28.3 7.1 6.1 5.9
Analyst ROE 8.1% 5.4% 5.0% 19.2% 21.1% 21.4%
92 (21) 111-574-111
(ext. 3118) S ource: JS Research

Completed on May 16, 2009 – Distributed on May 18, 2009 JS Research is available on Bloomberg, Thomson Reuters & Capital IQ
All prices are as of May 15, 2009 Please refer to important Disclaimer on last page
 Engro Polymer and Chemicals

Strong PVC demand anticipated

After going through one of the toughest phase in terms of economic growth, we
believe, the worst has been reached and economic growth woes will ease off from
FY10 onwards. Higher Public Sector Developments Program (PSDP) at the back of
US$5.3bn pledges from Friends of Pakistan and Swat valley reconstruction will drive
huge development outlay on infrastructure. Resultantly, demand for PVC applications
and thus PVC resin is expected to remain upbeat and grow at a 3-year CAGR of 9%
during 2009-2012. Moreover, Pakistan is amongst the lowest consumers of PVC on a
per capita basis when compared to regional peers. Currently, China, Thailand and
India consume around 7.5kg, 8.5kg and 1.2kg respectively as against 0.7kg
consumption in Pakistan. This bodes well for EPCL in particular especially given the
recent PVC expansion by 50% to 150k tons.

Graph 1: P er c apit a c ons umpt ion (k g)

25

20

15

10

-
Pakistan Indonesia India Philippines China Thailand Korea

Source: JS Research, CMAI

Pricing: Worst is over

According to the management, PVC demand in short run is also expected to remain
upbeat after renewed buying by consumers post price bottom in Nov 2008. Like other
commodities, PVC prices move in tandem with the oil prices. Hence, going forward,
we see a growth of 5% in PVC prices in 2010 derived with our crude oil price
assumption.

Graph 2: His t oric al PV C pric e c hart (US $/ t on)

1,500

1,200

900

600

300

-
Mar-08

May-08

Jun-08

Jul-08

Oct-08

Nov-08

Dec-08

Jan-09

Feb-09

Mar-09

May-09
Sep-08
Apr-08

Aug-08

Apr-09

Source: Chem99, JS Research

May 2009 2 JS Research

 Engro Polymer and Chemicals

EPCL to benefit further as Sitara Chemicals shelves PVC plans

EPCL is expected to considerably benefit from the growing PVC demand as it
continues to remain the sole producer of PVC in Pakistan after Sitara Chemicals
shelved their 60k tons PVC plant in the North. Moreover, Pakistan PVC Ltd, another
company with 25k tons per annum capacity has not been producing PVC for past
many years due to financial difficulties. Further, we believe, downside risk to demand
is very limited due to availability of export market in the Middle East and India if local
demand for PVC (our key risk to valuation) deteriorates.

Vertical integration on course for production

EPCL is setting up a second hand plant imported from US to produce Ethylene
Dichloride (EDC) and Vinyl Chloride Monomer (VCM) for providing vertical
integration. This relocated plant will produce 240k tons per annum of EDC which will
be used to produce 216k tons of VCM, the main raw material for PVC plants. Third
generation of vertical integration is also planned by the construction of chloralkali
plant to produce 105k tons per annum caustic soda and 94k tons of chlorine. Chlorine
and Ethylene are primary raw materials for EDC production. In the process, ethylene
will be imported and the by product caustic soda will be sold in the market separately.

Graph 3: E x pans ion and bac k ward int egrat ion

Caustic Textiles
Soda Soaps & Detergents
Salt
Water Treatment
Others Domestic

Energy Chlorine EDC VCM PVC

Ethylene Export

Source: JS Research

Caustic soda sales and VCM production to jack up margins

Caustic soda demand currently averages around 230-240k tons; hence EPCL caustic
soda plant will bring in excess supply to the market. Ex-factory caustic soda prices
which currently stand around Rs31,000 per metric ton are expected to fall once the
EPCL plant comes online. However, we share the management’s view that the prices
are not expected to fall drastically as concentration in the industry remains high.

Table 2: Caustic Soda price sensitivty on EPS (Rs)

Change from base case assumption (Rs28,500/ton) FY09 EPS FY10 EPS
Up 15% 0.8 3.1
Up 10% 0.8 2.9
Up 5% 0.7 2.8
Base case 0.7 2.7
Down 5% 0.6 2.5
Down 10% 0.5 2.4
Down 15% 0.5 2.2
Source: JS Research

May 2009 3 JS Research

 Engro Polymer and Chemicals

Key risks to our valuation

Ethylene prices might hamper profitability
As EPCL will now have an in house EDC production facility, Ethylene cost, the
primary raw material for EDC, will be one of the major cost drivers for the company.
International Ethylene prices have bottomed out too and we are seeing a price
reversal. Any major price reversal could however hamper the company’s profitability
and thus remains a key risk to our estimates. However, international ethylene prices
are not expected to rise substantially amid expansion of Ethylene facilities in the
Middle East.

Table 3: Ethylene price sensitivty on EPS (Rs)

Change from base case assumption (US$650/ton) FY09 EPS FY10 EPS
Up 15% 0.4 1.8
Up 10% 0.5 2.1
Up 5% 0.6 2.4
Base case 0.7 2.7
Down 5% 0.8 2.9
Down 10% 0.8 3.2
Down 15% 0.9 3.5
Source: JS Research

Financial charges & high depreciation to keep earnings under check

Financial charges emanating from loans taken for expansion will be evident once the
plant comes online as capitalization of borrowing cost would seize. Hence, there
would be a two fold hit to the company’s bottom-line as amortization cost would also
come in to the fray. This is reflected in our estimates with EBIT growing at a 4-year
(2008-12) CAGR of 59% when compared with after-tax profit CAGR of 47% for the
same period.

May 2009 4 JS Research

 Engro Polymer and Chemicals

About the Company

Engro Polymer & Chemicals Ltd (EPCL) is a subsidiary of Engro Chemicals Pakistan
Limited (ECPL) one of the largest conglomerate operating in Pakistan. The principal
activity of the company is producing and marketing different grades of PVC resin. The
company’s 150k tons plant is located at Port Bin Qasim Karachi, about 50km from the
city of Karachi.

EPCL started off as a joint venture company owned by Engro Chemicals (50%),
Asahi Glass Company (30%) & Mitsubishi Corporation (20%). Since Asahi Glass
Company, as part of its global strategy, planned to shift away from the Polyvinyl
Chloride (PVC)/ Vinyl Chloride Monomer (VCM) business, it offered to sell (as
required by the Joint Venture Agreement) its entire 534mn shares in EPCL to Engro
Chemicals. Consequently, Engro agreed to buy Asahi’s share at a negotiated
purchase price of Rs10/share i.e. at par, as the company felt that EPCL offered good
future prospects. This deal increased Engro Chemical’s stake in EPCL to 80%.

Later on EPCL raised equity through rights issue to a number of institutions and now
Engro Chemical Pakistan (ECPL) holds of 56% shares in the company. The foreign
investors in the company include International Finance Corporation (IFC) and
Mitsubishi Corporation (MC) Japan having 15% and 11% stake respectively. In June
2008, 50mn shares of EPCL (amounting Rs900mn) were offered to the general public
at Rs18 per share. The offer was over subscribed by 3.2 times in terms of amount.
The total amount received was Rs2.8bn against the offered amount of Rs900mn.

Tab le 4: Sha reholdi ng patter n

No . of sha res (mn) %
E ngro Chemicals 292.4 56%
IFC 76.2 15%
Mitsubishi Coporation 57.0 11%
Individuals 46.9 9%
Others 47.9 9%
Total outstanding shares 520.4 1 00%
S ource: Annual accounts 2008

May 2009 5 JS Research

 Engro Polymer and Chemicals

Engro Polymer & Chemicals

Ye a r e n d e d D e ce m b e r (R s m n ) 2008A 2009E 2010F 2011F 2012F

In c o m e S ta te m e n t
Net sales 7,848 9,227 11,953 13,137 13,593
CGS 6,737 7,381 8,170 8,942 9,341
G r o s s p r o fi t 1 ,1 1 1 1 ,8 4 6 3 ,7 8 3 4 ,1 9 5 4 ,2 5 2
EBITDA 669 1,586 3,917 4,228 4,185
Other incom e 145 157 168 185 203
EBIT 492 1,063 2,871 3,178 3,116
Financial charges 34 570 898 736 590
PBT 459 493 1,973 2,443 2,526
Tax 105 148 592 855 884
PAT 354 345 1 ,3 8 1 1 ,5 8 8 1 ,6 4 2

Balan ce Sh e e t
Paid up capital 5,204 5,204 5,204 5,204 5,204
S h a r e h o l d e r 's E q u i ty 6 ,5 6 6 6 ,8 5 4 7 ,1 9 9 7 ,5 1 7 7 ,6 8 1
Total Liabilities 11,713 15,245 14,237 12,503 11,261
T o ta l L i a b i l i ti e s & E q u i ty 1 8 ,2 7 9 2 2 ,0 9 9 2 1 ,4 3 6 2 0 ,0 1 9 1 8 ,9 4 2
Total Fixed Assets 16,302 18,686 17,816 16,805 16,078
T o ta l A s s e ts 1 8 ,2 7 9 2 2 ,0 9 9 2 1 ,4 3 6 2 0 ,0 1 9 1 8 ,9 4 2

R a ti o A n a l y s i s
V a l u a ti o n
Earning per share 0.7 0.7 2.7 3.1 3.2
Dividend per share - 0.2 2.0 2.4 2.8
Book value per share 12.6 13.2 13.8 14.4 14.8
Price to earning ratio (x) 35.3 28.3 7.1 6.1 5.9
Dividend yield (% ) 0.0% 0.9% 10.6% 13.0% 15.1%
Price to book value (x) 1.5 1.4 1.4 1.3 1.3

P r o fi ta b i l i ty
Gross m argin 14% 20% 32% 32% 31%
Operating m argin 6% 12% 24% 24% 23%
EBITDA m argin 9% 17% 33% 32% 31%
Pretax m argin 6% 5% 17% 19% 19%
Net m argin 5% 4% 12% 12% 12%
Return on assets 2% 2% 6% 8% 9%
Return on equity 5% 5% 19% 21% 21%

M o m e n tu m
Sales growth 30% 18% 30% 10% 3%
EBITDA growth 8% 137% 147% 8% -1%
Net profit growth -16% -2% 301% 15% 3%

Source: JS Research & Com pany Accounts

May 2009 6 JS Research

Research Team
Muzzammil Aslam Economy (92-21) 111574111 (ext. 3035) muzzammil.aslam@js.com
Farhan Rizvi Politics, Banks, Telecom, Insurance (92-21) 111574111 (ext. 3096) farhan.rizvi@js.com
Farhan Mahmood Strategy, Energy (92-21) 111574111 (ext. 3103) farhan.mahmood@js.com
Syed Atif Zafar Cement, Autos, Chemicals (92-21) 111574111 (ext. 3118) atif.zafar@js.com
Mustufa Bilwani Paper & Board (92-21) 111574111 (ext. 3100) mustufa.bilwani@js.com
Bilal Qamar Textile (92-21) 111574111 (ext. 3099) bilal.qamar@js.com
Raheel Ashraf Technical Analyst (92-21) 111574111 (ext. 3098) raheel.ashraf@js.com
Adeel Jafri Database Manager (92-21) 111574111 (ext. 3098) adeel.jafri@js.com
Muhammad Furqan Librarian (92-21) 111574111 (ext. 3105) muhammad.furqan@js.com

Equity Sales
Junaid Iqbal (92-21) 2799511 junaid.iqbal@js.com
Atif Malik (92-21) 2799503 atif.malik@js.com
Raza Abbas (92-21) 2799563 raza.abbas@js.com
Faiza Naz (92-21) 2799505 faiza.naz@js.com
Muzammil Mussani (92-21) 2799508 muzammil.mussani@js.com
Usman Khan (92-21) 2799568 usman.khan@js.com
Abid Jamal (92-21) 2799516 abid.jamal@js.com
Abdul Aziz (92-21) 2799507 abdul.aziz@js.com
Asim Ali (92-21) 2799509 asim.ali@js.com
Samar Iqbal (92-21) 2800152 samar.iqbal@js.com
Irfan Iqbal (92-21) 2799502 irfan.iqbal@js.com
Irfan Ali (92-21) 2462567 irfan.ali@js.com

Main Office KSE Office Lahore Office Islamabad Office

6th Floor, Faysal House,
Main Shahrah-e-Faisal
Karachi. Pakistan
Tele: 92-21-111-574-111
Fax: 92-21-2800163-66
Website: www.js.com
2nd Floor, Room No. 75,
Karachi Stock Exchange Building,
Stock Exchange Road, Karachi.
Tele: 92-21-2425692 (2427458)
Fax: 92-21-2418106
307 – Upper Mall,
Lahore – 54000
Pakistan
Tele: 92-42-111-574-111
Fax: 92-42- 5789109
Chaudhary Plaza, 65 West,
Fazal-e-Haq Road, Blue Area
Islamabad, Pakistan.
Tele: 92-51-111-574-111
Fax: 92-51-2806328

JS Global Capital Limited

ANALYST CERTIFICATION
I, Atif Zafar, the author of this report, hereby certify that all of the views expressed in this research report accurately reflect my
personal views about any and all of the subject issuer(s) or securities. I also certify that no part of my compensation was, is, or will
be directly or indirectly related to the specific recommendation(s) or view(s) in this report.

DISCLAIMER
This report has been prepared for information purposes by the Research Department of JS Global Capital Limited. The information
and data on which this report is based are obtained from sources which we believe to be reliable but we do not guarantee that it is
accurate or complete. In particular, the report takes no account of the investment objectives, financial situation and particular needs
of investors who should seek further professional advice or rely upon their own judgment and acumen before making any
investment. This report should also not be considered as a reflection on the concerned company’s management and its
performances or ability, or appreciation or criticism, as to the affairs or operations of such company or institution. JS Global does
and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may
have a conflict of interest that could affect the objectivity of this report. Warning: This report may not be reproduced, distributed or
published by any person for any purpose whatsoever. Action will be taken for unauthorized reproduction, distribution or publication.