COMPANY UPDATE

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Pakistan Equity Research

Bloomberg Code Reuters Code No. of Shares Avg. Daily Vol. (1-Y) Shr. 52 Weeks High, Low Last Closing Target Price Upside Potential ATRL PK ATRL KA 85.29mn 1.07mn R156 Rs76 Rs120.22 Rs165.00 37.25%

November 2010

Attock Refinery- ramping up to full throttle

Buy!
Global recovery to overpower paradigm shift Crack spreads improving on the back of quantitative easing ATRL the chief beneficiary amongst the local players Attock group ATRLs inherent strength

Nauman Khan
nauman@investcapital.com 9221-111 111 097 (ext 8636)

Immune to circular debt Our Recommendation Buy Jun-11 TP of Rs165/sh.

InvestCap is the brokerage arm of: Invest Capital Investment Bank Ltd.
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November 2010

Contents
Attock Refinery Limited. - Ramping up to full throttle!

Investment Theme Refinery sector Pakistan Refinery sector Pakistans oil chain Recent Developments Attock Refinery Limited Potential Dampeners/Weaknesses Valuation Risk to valuation Financial Highlights

1 1 3 7 8 9 9 13 15 16

Prices are as of November 08, 2010 Date of completion: November 10, 2010

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November 2010

Investment Theme
Company Description
Attock Refinery is a subsidiary of Attock Oil Company, UK, and is principally engaged in processing of crude oil, with having strategic investments in NRL and APL. The company has a paid-up capital of Rs852mn (USD9.88mn). `

We are initiating our coverage with a 'Buy' stance on Attock Refinery Limited (ATRL). We have employed Sum-of-Part (SoTP) method to value company's core-refinery operations along with its strategic investments particularly in National Refinery Limited (NRL) and Attock Petroleum Limited (APL). Through Discounted Cash Flow (DCF) methodology, using a CoE (Cost of Equity) or WACC (Weighted Average Cost of Capital) of 24.75% (due to debt-virgin balance sheet) and terminal growth rate of 3%, we have arrived at company's core-refinery operation value of Rs82/share. Furthermore, we have also assigned a value of Rs83/share to ATRL's investment portfolio, translating into our Jun-11 Target Price (TP) of Rs165/share. At current levels, the scrip offers an attractive upside of 37% from current levels, while trading at a P/BV (Book Value) and P/SPS (Sales Per Share) of 0.61x and 0.11x against its historic averages of 1.41x and 0.16x (FY06-10) respectively.

Resurging middle distillate crack spreads - shifting directions

Substantial decline in crude oil demand on the back of global economic recession along side wave of new refinery capacity resulted in a shift within the refinery sector. The shift was characterized by a significant decline in middle and low distillate crack spreads, which created adverse operating environment for crude oil refineries sector across the globe. However, the recent wave of quantitative easing has rejuvenated interest in commodity markets, including crude oil. As a result, middle distillate crack spreads, particularly of gasoil (premium product) improved by a significant 172%YoY and 64%QoQ in 1QFY10. The enhanced spreads have created a favorable environment for international as well as domestic refineries.

Domestic refineries - benefiting from intl pricing scenario

The favorable development in the international market is expected to bode well for the domestic refinery sector, as the former holds a major bearing on the latter's operation and profitability. The favorable price movements in the international oil prices and rejuvenated middle distillate crack spreads translate into a significant hike in domestic GRMs (1QFY11 GRMs stood at an average USD2.60/bbl as against far below levels of USD0.40/bbl during FY10). However, gauging the still weak competitive position of the sector with regards to its international peers along with domestic issues of notorious-circular debt, we are compelled to maintain our 'Neutral' stance on the sector. Saying so, we believe ATRL would stand out compared to the rest of the sector.

ATRL - ramping up to full throttle

Despite our 'Neutral' stance on the sector, our liking for ATRL stems from the following: The company holds central position in the only conglomerate of the country that is highly integrated throughout the oil chain. At one end, ATRL forms a vital linkage between the upstream and downstream companies of the group. On the other end, the company enjoys a central position in the group's holding pattern having strategic investments in National Refinery Limited and Attock Petroleum Limited. Amongst domestic refineries, we believe the company would be the chief beneficiary of the resurgence in the middle distillate crack spreads due to its superior product mix. It is worth mentioning here that, ATRL has the best Yield Efficiency Ratio (YER) at 1.84x against the industry average of 1.52x, which is the root of company's superior GRMs as compared to its industry peers. As per our calculations, ATRL's 1QFY11GRMs stood at USD4.92/bbl, far above the industry average of USD2.97/bbl. Due to its low yield of Furnace Oil (FO) in its product mix, ATRL is less exposed to the notorious inter-corporate debt, which has trapped the cash flows of the entire energy chain in the country.

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November 2010

Refinery sector
Substantial decline in crude oil demand on the back of worst economic periods observed since the Great Depression, congruent with the recent wave of new refinery capacity, led to depressed profitability of international refinery sector of late. Additional 7.3mn barrels per day (bpd) production of refining capacity is further expected to be added by the end of CY15. This additional capacity is accompanied with a changing refining configuration towards high yields middle and low distillate products, particularly in the Asiatic region. The paradigm is now shifting from hydroskimming to hydro-cracking technology. With early signs of economic recovery kicking-in, the said paradigm shift is expected to have a mark implication on the middle and low distillates crack spreads, as the same could stay lower compared to pre-recession levels. With this background in place, we now start our discussion on the global oil refining sector.
Evolution of refinery industry Oil chain Boom of auto industry Exploration and production Refineries Oil marketing companies World 1st crude oil refienry Final conusmer Basic distillation process Post war recovery and focus on environmental issues Catalytic Processes Thermal cracking

Rise of emerging economies Advanement inHydroskimming and coaking

1856

Early 1900

Post World war II to 1970

2000's

Factors affecting refinery sector

WORLD REF. CAPACITY
(000' bpd) Cap. US 23,636 Canada 3,611 China Russian Japan India Pakistan Ot. Asia Europe Lat Am. Others Total 7,244 6,116 4,909 3,520 275 17,543 17,945

135 549 480

Changing global economic dynamics have changed the oil market dynamics and subsequently, the global oil refining sector. Though the traditional economic power houses i.e. USA and Europe, still contribute 43% of the total world refining capacity, U C Plan the new capacities with advanced technology are taking their root in the emerging - economies.
-

- - - 800 800

Alongside movements in the international oil prices, factors that play an important role in the determination of spreads are Refinery outages Cycle of the crude oil i.e. driving season, winter season and two lag seasons Demand and supply scenario of the individual products, with respective to global economic environment and crude oil cycle Change in technology in the refinery operations towards minimizing yield of loss-making products (as evident by the sudden dip in crack spreads towards the end of CY08 as Reliance Industry came online)

140 -

6,659 1,380 3,654 95,112 2,684

Source: Bloomberg, InvestCap

InvestCap Research

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November 2010

Pakistan Refinery Sector

Operational issues restrict capacity expansions
Total crude oil refinery capacity of the country stood at 12.95mn tons by the end of FY10, with five major refineries contributing ~99% of total country's crude oil refining capacity. In a broader macroeconomic perceptive, the capacity is only sufficient to fulfill ~67% of Pakistan's overall petroleum products demand.
PAKISTAN S MAJOR REFINERIES (mn tons) Attock Refinery BYCO Industry National Refinery Pak-Arab Refinery Pakistan Refinery Others Capacity Utiliz. 1.92 1.5 2.71 4.5 2.1 0.22 12.95 90% 49% 71% 73% 72% 86% 73%
PARCO ATRL

BYCO

NRL

PRL

However, operational issues (particularly with regards to BYCO Petroleum Company) along side impact of exogenous factors in a highly regulated industry have forced the sector to operate at an average 75% (FY05-10) of its nameplate capacity. Moreover, with no substantial addition to country's refining capacity, depicted by the last 5-year CAGR (Compound Average Growth Rate) of mere 0.3%, the sector has only been able to fulfill on an average 64% of country's overall petroleum
(mn tons) 25 20 15 10 5 FY05A FY06A FY07A FY08A FY09A FY10E Consumption and throughput comparison Refining capacity Refining throughput Petroleum prod. consumption

Source: Ministry of Petroleum & Natural Resources (MoP&N), InvestCap Research

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November 2010

products demand with the last 5-year (FY05-10) CAGR at 5.9%. Therefore, the country is also a net importer of petroleum products with the pricing and operational dynamics of the international refineries having a significant impact on country's domestic oil refining industry.

An Oligopoly - not really

IPP formula
Base Monthly Arab Gulf Mean Marine Insurance LC commission

Five refineries contribute 99% of country's total refining capacity. This proposition seems to be standing as an 'Oligopoly' from the naked eye. However, the sector fails to depict two essential characteristics of an Oligopoly 1) ability to set prices and 2) profit maximization conditions, arising out of its weak position with respect to competition dynamics. Firstly, the sector is highly regulated as ex-refinery prices of eight petroleum products are announced by the Oil & Gas Regulatory Authority (OGRA) on a monthly basis through Import Parity Price (IPP) Formula. Only one product is unregulated product i.e. Furnace Oil (FO), however, the domestic prices of this product also trails that of the international prices. Secondly, Pakistan is a net importer of crude oil. Therefore, the raw material pricing is also a function of international pricing. Weak bargaining position of the sector on either ends limits sectors ability to set prices and operate at its maximum capacity. Hence, it is a misconception that the sector is an 'Oligopoly' as it lacks pricing power which also keeps rivalry amongst the individual refineries at bay.

Plus

Back charges Import Equivalent Incidents Handling charges Warfage Conversion Deemed Duty Conversion From USD to PKR 7.5% on HSD prices From M. Ton to Litre

Source: OGRA, InvestCap Res.

Changed dynamics in 2002 invoked earnings volatility

In Jul-02, the Government of Pakistan (GoP) abolished guaranteed return formula for the local refineries, in favor of a more market-based return, where ex-refinery petroleum product prices would be determined. The conversion linked local refinery profitability to international oil dynamics, and thus invoking volatility in core-refinery operation. .
(mn tons) 10 8 6 4 2 0 Kerosene HSD Fuel Oil Others JP-1 LDO MS Petroleum supply break-up FY10 Refinery Imports

Source: Source: Oil Companies Advisory Committee (OCAC), InvestCap Research

However, understanding the technological drawback faced by local refineries as compared to its international peers, the government embedded a 10% Deemed Custom Duty on HSD and 6% tariff each on Light Diesel Oil (LDO), Jet Propulsion (JP4) and Kerosene (KERO), thus creating a favorable environment for the industry. However, when crude oil prices rallied to their record highs, gov't withdrew tariff on LDO, JP-4 and KERO, while reducing 10% tariff to 7.5% on HSD. Therefore, keeping in view the technological perspective, the embedded deemed duty stands vital for sector's profitability. The graph above illustrates the same that the listed refineries' GRMs would be slashed by a massive ~99%, in case the deemed duty is completely abolished.

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(USD/bbl) 15 10 5 0 Aug-06 Dec-09 Feb-06 Feb-07 Jul-07 Sep-05 Jan-08 Jun-08 Sep-08 May(5) (10) (15) (20) (25) (USD/bbl) 20 15 10 5 0 Aug-06 MayNov-10 (5) (10) (15) (20) (25)
Source: OGRA, OCAC, MoP&N, Bloomberg, InvestCap Research

November 2010 (USD/bbl) 30 20 10 Nov-10 0 Oct-06 Mar-06 May-07 May-08 Oct-08 Sep-05 Jun-09 Jun-09 (10) (20) May-10 May-10 Nov-07 ATRL GRMs Comparisons Without With

NRL GRMs Comparisons Without With

BYCO GRMs Comparisons Without With

(USD/bbl) 15 10 5 0

PRL GRMs Comparisons Without With

Oct-06

Mar-06

May-07

Dec-09

Feb-06

Feb-07

Jul-07

Sep-05

Jan-08

Jun-08

Sep-08

(5) (10) (15) (20) (25)

PARCO holds the biggest chunk, ATRL better off with utilization
With respect to market share, PARCO traditionally enjoys a lion share of above 41%. However, on account of the recent flood scenario, the biggest refinery had to close its operations for about a month whereby its market share dropped to 26% in 1QFY11. The lost ground was primarily picked up by NRL and ATRL increasing their market shares to 25% and 23% respectively, followed by PRL at 21%. BYCO, on the other hand, witnessed a plant closure in Jun-10 and as a result, its market share stood at a mere 2.5%. For the same period, capacity utilization of the individual refineries stood at 97% for ATRL and 86% for NRL followed by PRL with utilization level of 74%. Conversely, BYCO and PARCO's capacity utilizations stood at only 39% and 19% respectively.
Refinery Shares in 1QFY11
PARCO ATRL PRL BOSI NRL Other

120% 100% 80% 60% 40% 20% ATRL

Capacity utlization FY08 FY09 FY10 1QFY11

2% 23%

2% 27%

BYCO

PARCO

25%
Source: OCAC, InvestCap Research

Source: MoP&N, OCAC, InvestCap Research

InvestCap Research

NRL

PRL

21%

0%

May-08

Nov-07

Oct-08

Sep-05

COMPANY UPDATE
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Pakistan Equity Research Product mix - a key to success

November 2010

With uniform pricing structure for both product and raw material, the differentiating factor between the GRMs of various refineries is the product mix of individual refineries. Refineries with superior product mix i.e. having high yields of premium products (MOGAS and HSD) along with low yields of scrap pricing products (FO) will fare better as compared to their peers having an unfavorable product mix. For this purpose, we have developed 'Yield Efficiency Ratio' (YER) to gauge the relative efficiency of the individual refineries at domestic front. In simple terms, higher the ratio, the superior the product mix and therefore, superior GRMs of a particular refinery. USD/bbl PRODUCT MIX OF REFINERIES GRMs comparisons 25 NRL ATRL PRL BOSI PARCO ATRL BYCO NRL PARCO PRL Industry 20
MOGAS KERO/AF HSD FO Naphtha Non-energy Others YER Ratio 18% 16% 26% 24% 11% 5% 1% 1.85 7% 0% 6% 9% 19% 13% 30% 27% 11% 0% 0% 1.83 6% 14% 28% 39% 13% 0% 0% 0.86 12% 15 12% 10 30% 5 27% 0 8% (5) 5% 7% (10) 1.52

36% 31% 48% 21% 7% 12% 1% 16% 1% 6%

Aug-06

Dec-09

Feb-06

Feb-07

Jul-07

Sep-05

Jan-08

Jun-08

Sep-08

May-

0.898 1.76

(15) (20)

Source: MoP&N, OGRA, Bloomberg, InvestCap Research

GRMs - On route to recovery

As discussed, the paradigm shift in the international refinery operations and global economic recession bodes heavily well on the domestic GRMs. The development slashed domestic GRMs by a massive 10.01x from USD7.16/bbl back in FY08 (prerecession period), to only USD0.40/bbl in FY10. However, recent revival in the international oil prices has improved middle distillates crack spreads. The change has reflected positively in the domestic GRMs, which stood at USD2.60/bbl during 1QFY10 and expected to be around USD2.66/bbl in 2QFY11.
USD/bbl 30 20 10 0 Naphtha (10) (20) (30) (40)
Source: MoP&M, Bloomberg, OGRA, InvestCap Research

Spread Comparison FY08 FY09 FY10 1QFY11

(USD/bbl)

Domestic GRMs

15 10

FY08

FY09

FY10

1QFY11

Kero

HSD

FO

5 0 (5) NRL ATRL PRL BYCO

Going forward, we believe that global economic recovery would improve petroleum product margins. However, the same are expected to remain below the levels of the pre-recessionary period on account of changing paradigm in international refinery operations. We expect domestic GRMs to recover at least to USD3-4/bbl in FY11 and beyond.

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Pakistans oil chain

Domestic E&P 30% OGDC - 54% BP - 15% MOL - 11% Others - 20% Crude Oil Import 70% Arab Gulf Imported POL products 33% Arab Gulf

Refinery 67% PARCO - 41% ATRL - 18% PRL - 17% NRL - 16% BYCO - 8%

Oil Marketing Companies

PSO - 70% Others - 30%

Domestic 0.4%

Industry 5.2%

Agriculture 0.3%

Transport 47.7%

Power 43.3%

Others 3.0%

Demand

9.2 7.4

Supply

Others Power Transport Agriculture Industry Domestic 1.9 0.2 Kerosene MS 0.7 JP-1 HSD

Imports Refinery

0.07 LDO

0.8 Fuel Oil Others

Source: MoP&N, OCAC, InvestCap Research

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Recent Developments
Deregulation of pricing - oil chain integration to be leverage
A recent issue that is impacting, domestic refineries is the revision in IPP formula on the directive of the apex court of the country. In this regard, the proposal of deregulation of the petroleum product pricing has attained the central stage. In addition, the scheme also encompasses deregulation of the IFEM (Inland Freight Equalization Margin) that is applied after the ex-refinery prices to equalize freight charge across the country. As per our understanding, influence of the international refinery dynamics will restrict the benefits for the domestic refinery sector at the ex-refinery prices. Furthermore, the de-regulation of the IFEM will indirectly impact the refinery sector where the emerging benefit will be restricted to refineries that are part of integrated oil chains. Therefore, we deem the change in the pricing formula to have a favorable impact on refineries that can generate positive synergies on account of their group profiles. Attock Group, in this regards, is expected to benefit the most as the group is both backward and forward integrated (from Oil & Gas Exploration to Refining to Marketing & Distribution).

Turnover tax -resolving in favor of refineries

In the federal budget FY11, the GoP enhanced the turnover tax from 0.5% to 1% (higher of corporate or turnover tax to be paid). This step had an adverse profitability impact on the companies placed within the quadrant of high-volume-low-margin businesses (distribution sector) including refineries. The effective tax rate, as of the latest quarterly results of the refineries, doubled to ~70% from 35%, which eroded sector's profitability quite significantly. Recently, the Federal Board of Revenue (FBR) has reverted back the turnover tax to 0.5%, which would scale back sector's profitability with its previous normal-tax levels, going forward.

The Deemed Duty - a catalyst unlikely to go

Another concerned faced by the local refinery sector is the reduction in the deemed duty on HSD from the existing 7.5%, which as mentioned earlier is significantly crucial for refinery sector's bottomline (earning sensitivity analysis is provided in the end). However, we believe that the scenario without the deemed duty is quite improbable, as we term the government to be the chief beneficiary of this regime. The country meets 45-50% of its petroleum product demand through imports, therefore, deemed duty on imports is an important source of revenue for the government (petroleum and mineral contribute 16% to total custom duty collections). Thus, under the current economic scenario with high fiscal needs, we believe that the government is not expected to opt to reduce or eliminate this vital source of revenues. Thus, we also downplay any risk of the change in the prevalent duty structure in the foreseeable future.

Circular-debt only an issue for High yielding FO refineries

Another issues faced by the refinery sector is of circular debt. Root cause analysis of the situation reveals that circular debt primarily stems from high cost of thermal generation arising from our dependency on FO and government inability to recover the cost from the final consumer. For this reason, refineries which have high yield of FO in their product mix are adversely affected from the issue, with minimal impact on company's having low yield of FO. Therefore, revisiting the product mix of the refineries presented early, PARCO, BYCO and PRL are adversely affected by the issue, while ATRL and NRL are relatively immune to the situation.

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Bloomberg Code ATRL PK Reuters Code ATRL KA No. of Shares 85.29mn Avg. Daily Vol. (1-Y) 1.07mn Shr. 52 Weeks High, Low R156 Rs76 Last Closing Rs120.22 Target Price Rs165.00 Upside Potential 37.25%

November 2010

Attock Refinery Limited

About the company
Attock Refinery Limited (ATRL), a subsidiary of Attock Oil Company Limited, UK, was incorporated in Pakistan on 08 Nov, 1978 as a private limited company and was later converted into a public company on 26 Jun, 1979. The company is principally engaged in the refining of crude oil with annual refining capacity of 14.784mn barrels or 1.92mn tons situated at Morgah, Rawalpindi. In addition, the company has a strategic investment in National Refinery Limited (Rs8.05bn or USD93.4mn) and Attock Petroleum (Rs4.46bn or USD51.7mn).

Part of Attock group - its inherent strengthen

ATRL's inherit strength comes from its association with the Attock Group which possesses high business acumen reflecting in well-built balance sheets of their business ventures so far. The group is the only conglomerate in Pakistan that is wellintegrated throughout the oil chain. At one hand, with its investment in Pakistan Oilfields Limited (POL), the group has exposure to the upstream sector contributing 7% and 2% to country's oil and gas production respectively. On the other hand, its strategic holding in ATRL, NRL and APL makes the group a formidable player in the downstream sector of the country. ATRL and NRL, with cumulative refining capacity of 4.63mn tons, the group controls 36% of the total refining capacity of the country, eclipsing PARCO that contributes 34% to sector's total capacity. In the downstream oil sector, APL is the fourth largest OMC (Oil Marketing Company) in the country, having a market share of ~8% as of FY10. In addition, the group also had auxiliary business in the LPG and power industries of the country, providing further strength to the overall group.

Attock Oil Company

Attock Group

Pharaon Investment

Pakistan Oilfields

Attock Refinery Limited

Attock Petroleum Limited

National Refinery Attock Information Technoloy

Source: Company Reports, InvestCap Research

Attock Gen Limited

With ATRL being in the central tier of the predominant pyramid holding patterns along side a vital link between the upstream and downstream oil sectors, the

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company reaps the maximum benefit arising from the synergies created by the group companies. At one end, the company forms a crucial link between POL (E&P) and APL (OMC), while holds its strategically diversified investments in NRL, APL, Attock Gen Limited and Attock Information Technology Services, on the other hand.

Surging middle distillate crack spread

In addition to the strong group profile, our liking for the company also stems from the resurgence in the middle distillate crack spread. With surge in int'l crude oil prices, Gasoil crack spread showed a significant improvement of 65% QoQ, while surging by a massive 136% YoY during 1QFY11. On the other hand, negative marginproduct FO, declined by a mere 5% QoQ and 9% YoY. The said improvement will reflect positively on the domestic refinery sector with ATRL being the chief beneficiary on account of its superior YER, as explained earlier.

Superior product mix translating into superior GRMs

As mentioned before, ATRL's YER stands higher at 1.84x as compared to the industry average of 1.52x. This superior YER stands primarily on account of ATRL's ability to process light-sweet grade crude oil, resulting in low yield of FO and high yield of Gasoil and Mogas. The recent estimates reveal ATRL's FO yield hovers at 22% against the industry average of 27%, while the cumulative yield of Mogas and Gasoil stands significantly better at 44% than the industry average of 32%. .
Product yield comparison MOGAS KERO/AF FO Naphtha Others HSD Non-energy (USD/BBL) 22 17 12 7 2 Jul-08 May-09 Jul-09 Jan-09 Mar-09 Nov-09 Jan-10 Sep-08 Nov-08 Mar-10 May-10 Jul-10 Sep-10 Sep-09 Nov-10 (3) (8) ATRL YER 1.82x Industry 1.52x (13) (18) DomesticGRMs ATRL Industry

120% 100% 80% 60% 40% 20% 0%

Source: MoP&N, ORGA, InvestCap Research

Immune to circular debt - still a cash rich balance sheet

Low FO yields have also minimized ATRL's exposure to the notorious circular debt saga which has trapped many an energy-sector company so far. ATRL's balance sheet continues to show strong cash position while any adverse impact of the circular debt has been efficiently managed through effective cash management so far.

Reversal of Turnover tax- another question mark resolved

Turnover tax was another issue within the sector, casting uncertainty on the companies' future profitability in the form of inflating effective tax rates. At the same pace, the impact of the said development was substantially visible on ATRL's financial results during 1QFY11, as the company's management opted conservative TURNOVER TAX EFFECT
1QFY11A 6.84 Def. Tax 2.07 2QFY11E 6.92 FY11E 28.61

Source: InvestCap Research

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approach and charged deferred tax assets to the P&L, resulting in increased effective tax rates to 42%, over and above corporate tax rate of 34%. Therefore, the reversal of the new tax at the same time would reset company's bottomline to its pre-tax imposition levels going forward where we expect company's 2QFY11 earnings to augment by an incremental impact of Rs2.07/share to Rs11.65/share.

ATRL 1QFY10 financial review - PAT recording a massive jump

The company recently announced its 1QFY11 result, posting a profit after tax (PAT) of Rs588mn (EPS Rs6.08) as compared to a LAT of Rs396mn (LPS Rs4.65) in the corresponding period of last year. The turnaround story is in company's core-refinery operation that faced adverse operating environment last year. However, recovery in the international energy prices reflected positively on company's GRMs in 1QFY11. As per our calculations, company's GRMs stood at USD4.89/bbl as compared to a much lower USD2.04/bbl in the same period last year. The turnaround in the GRMs pulled company's core-refinery operation from a loss of Rs553mn (LPS Rs6.49) in 1QFY10 to a profit of Rs583mn (EPS Rs6.08).
Shareholding patterns 5% 5% 4% 4% Associated Cos. Individuals NIT/ICP Joint Stock Cos. Others Foreign Investors Financal Ins. 58% (Rs mn) Net Sales Cost of Good Sold Gross Profit Adim, trans. & Selling expense Operating Profit Financial Charges Other charges 13% Other income Profit Before tax Taxation Profit After Tax (Core-refinery) Non-refinery income Net Income EPS @ 86mn shares 1QFY11A 1QFY10A 25,041 24,164 877 72 804 42 82 321 1,001 418 583 583 6.84 19,256 19,779 (523) 67 (590) 128 5 191 (532) 21 (553) 157 (396) (4.65) YoY 30% 22% N/A 8% N/A -68% 1544% 68% N/A 1883% N/A N/A N/A

ATRL 1QFY11 FINANCIAL HIGHLIGHTS

11%

Source: Company Reports, InvestCap Research

Source: Company Reports, InvestCap Research

Further muscle to the bottomline also came from surge in company's other operating income (excluding dividend income from associates), massively up by 68% YoY. However, the only earning dampener was inflated effective tax rate at 42% over and above corporate tax rate of 34%. The surge in effective tax rate was on account of the change in the taxation regime leading to company opting to expense out its deferred tax asset.

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Pakistan Equity Research Future plans

November 2010

Understanding the changing trends in the international refining operation, ATRL has formulated a comprehensive plan that not only encompasses capacity by another 12,400bpd, but also aims at improving companies Mogas and HSD yields by an 0.3mn tons) and 0.6mn tons respectively. As per news reports the estimated cost of these projects is USD100mn. The brief of these projects are: FUTURE PLANS
Project Preflash Unit Isomerization Unit Diesel Hydro-Desulphurization Aim Crude processing capacity enhancement To increase the gasoline RON and reduce benzene and aromatics Diesel Hydro-Desulphurization (HSD) Unit, Capacity Benefit 12,500pbs 0.3mn tons 0.6mn tons

Source: Company site, InvestCap Research

Due to tentative nature of these projects, we have not incorporated in the project in to our financial model for the company, however any positive development in this front will have a significantly positive impact on company's valuation.

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Valuation - BUY
WACC Risk Free Rate Risk Preimum Adjusted Beta Cost of Equity Cost of Debt WACC 14.25% 7.0% 1.50 24.75% 24.75%

Source: InvestCap Research Research

We have employed Sum of the Parts (SOTP) Discounted Cash Flow model to value the company. Under this valuation scheme, we have projected cashflows for the next 5 years (FY10-15) incorporating a Cost of Equity of 24.75% (Weighted Average Cost of Capital also stands at 24.75% due to no debt on company's balance sheet). We have applied a terminal growth rate of 3%, while have scaled up the beta to 1.5x, to capture the volatility in the scrip. We have arrived at per share value from FCFE of Rs82 from company's core refinery operations. Furthermore, we have arrived at a value of Rs83/sh for company's investments, yielding a target value for the company of Rs165/share. We recommend a 'Buy' on the scrip, with our Jun-11 TP of Rs165/share FREE CASHFLOW PROJECTIONS

(Rs mn) EBIT Adjustments (+) Depreciation (-) Other Income Less Tax Change NWC Capex Free Cashflows Discounted Cashflows Terminal value Discounted Terminal value Firm value Less: Long term Debt Add: Cash balance Enterprise Value Investment (40% Discount) Total Value of Equity Equity Value per share

FY08A 4,131 392 578

FY09A 2,542 127 994

FY10F 127 124 983

FY11E 2,641 304 1,282

FY12E 3,737 304 540

FY13E 3,449 286 293

FY14E 3,971 255 514

FY15E 5,004 281 561

880 8,032 (354) 10,744 7,137 2,945 3,054 3,964 7,018 7,053 14,071 165

667 (12,554) (114) (11,658) -

294 (3,033) (76) (4,135) -

783 359 (621) 618 618

1,149 (5,252) (255) (3,154) (2,527)

1,036 119 (257) 2,268 1,456

1,206 (2,358) (263) (116) (60)

1,550 (1,398) (269) 1,507 622

Source: Company Reports, InvestCap Research

Sensitivity Analysis
WEIGHTED AVERAGE COST OF CAPITAL (WACC) TER. GROWTH RATE Rs/sh. 19.75% 1% 2% 3% 4% 5% 171 173 175 176 179 22.25% 167 168 169 170 172 24.75% 163 164 165 166 167 27.25% 160 160 161 162 163 29.75% 157 158 158 159 160

Source: InvestCap Research Research

InvestCap Research

13

COMPANY UPDATE
A Publication of InvestCap Research

Pakistan Equity Research

(Rs bn) 49 44 39 34 29 24 19 14 9 4 -1 ATRL PBV Bands

November 2010

3.5x

2.5x

1.5x

0.9x

0.3x

Jan-06

Jan-08

Sep-06

Sep-08

Jan-10

May-07

(Rs bn)

ATRL PS Bands

34
0.34x

29

24

May-09

Sep-10
0.25x 0.15x 0.1x 0.035x

19

14

Jan-06

Jan-08

Sep-06

Sep-08

Jan-10

May-07

Source: Company Reports, InvestCap Research

InvestCap Research

14

May-09

Sep-10

-1

COMPANY UPDATE
A Publication of InvestCap Research

Pakistan Equity Research

November 2010

Risk to valuations
With little maneuverability in companys plant set-up firmly placed in, the major risk to our earning arise from pricing scenarios. We have classified the major pricing risk that can have an adverse impact on companys valuation.

Change in the international crude oil prices

To be conservative, we have assumed crude oil prices at USD70/bbl in FY11, with contango effect coming into play from FY13. Any deviation in the crude oil prices from our base case scenario, will impact our earning expectation. Sensitivity analysis with respect to crude oil prices is given below.
CRUD OIL PRICES SENSITIVITY Rs/sh. -10 -5 Base 5 10 FY11 16.08 16.95 17.82 18.69 19.56 FY12 3.90 4.24 4.58 4.92 5.26 FY13 3.49 3.81 4.13 4.45 4.77 FY14 4.11 4.46 4.81 5.16 5.50 FY15 5.19 5.68 6.18 6.68 7.17 CR TP 65 74 82 91 99 Rs/sh. CRACK SPREADS SENSITIVITY FY11 FY12 4.58 1.64 FY13 4.13 0.80 FY14 4.81 0.44 FY15 6.18 1.76

Base case 17.82 FY09 spreads 1.83

Source: InvestCap Research Research

Change in crack spread

Another risk to our valuation is the subdued middle distillate crack spreads, which we have employed to generate future petroleum product prices. However, we have also conducted scenario analysis with regards to middle distillate crack spreads. For this purpose, we have used crack spreads that were prevalent in the FY09 period, as they are the lowest in the recent history.

Abolishment of deemed duty

Though we have downplay the risk of deemed duty abolishment, we cannot complete rule out the said scenario. The development would have negative implications for ATRL's profitability and would result in a down-ward revision of our TP. The earning impact of deemed duty at various levels is presented below alongside its impact on the scrip TP
DEEMED DUTY SENSITIVITY Rs/sh. 10% 7.5% 4% 3% 0% FY11 20.51 17.82 13.64 11.93 9.07 FY12 5.58 4.58 3.03 2.39 1.33 FY13 5.31 4.13 2.30 1.55 0.30 FY14 6.12 4.81 2.78 1.94 0.55 FY15 7.64 6.18 3.91 2.97 1.42 CR TP 111 165 34 26 N/A

Source: InvestCap Research Research

Currency risk
With both product and raw-material being priced in USD terms, it provides a natural hedge for the organization against the currency risk. However, any abrupt change in the PKR/USD parity (as in the case was in FY08), will adversely affect companys earning. However, this would be a short term phenomena, with companys cash rich balance sheet acting as its buffer.

InvestCap Research

15

COMPANY UPDATE
A Publication of InvestCap Research

Pakistan Equity Research

ATRL - FINANCIAL REVIEW & FORECAST
(Rs mn) Net sales Cost of Sales Gross Prof. Opt. Prof. Ref. operation Inc. Non-Ref. Inc. PAT EPS Rs @ 85mn share FY08A 93,654 89,647 4,007 3,789 2,007 377 6,147 27.95 FY09A 77,260 75,344 1,917 1,673 404 611 1,015 11.90 FY10F 88,184 88,694 (510) (780) (476) 602 126 1.48 FY11E FY12E FY13E 114,766 110,881 3,885 3,408 352 942 1,295 15.18

November 2010

FY14E 120,837 116,616 4,221 3,721 410 1,004 1,414 16.58

FY15E 127,029 121,781 5,248 4,722 527 1,004 1,531 17.95

96,652 102,489 94,675 98,639 1,978 1,571 1,520 714 2,234 26.20 3,850 3,422 391 853 1,243 14.57

Source: Company Reports, InvestCap Research

KEY RATIOS
FY08A Basic Share Information (Rs) Earning Per Share Book Value Per Share Free Cashflow per share Cash per share Business Performance Return on Capital Employed Return on Equity Return on Asset Gross Margin Operating margin EBITDA margins Net margins Earning Growth Operational Performance Gross Refinery Margins (USD/BBl) Plant Utlization Earnings Quality (x) Cash Realization Ratio Tax Rate Net debt-to Equity Ratio Interest Coverage Standard Valuations (x) Price to Earning Ratio Price to Sales per share Price to Book Value Free Cashflow Yield EV/EBITDA 5.04 0.13 1.03 0.92 3.11 13.01 0.17 1.09 (0.87) 5.27 56.00 0.08 0.58 (0.57) 56.49 4.59 0.11 0.71 0.12 4.77 8.25 0.10 0.69 (0.28) 3.48 7.92 0.09 0.67 0.25 3.77 7.25 0.08 0.65 0.01 3.33 6.70 0.08 0.63 0.17 2.66 27.95 136.22 130.11 221.79 23% 53% 12% 4% 4% 5% 7% 722% 9.29 104% 1.81 30% 1.68 3.32 11.90 141.45 (135.35) 79.70 14% 8% 2% 2% 2% 3% 1% -83% 1.82 89% (11.37) 62% 2.12 1.73 1.48 142.94 (47.59) 46.47 1% 1% 0% -1% -1% 0% 0% -88% 1.77 91% (32.11) -161% 3.48 0.41 26.20 169.13 14.52 73.16 12% 15% 3% 2% 2% 3% 2% 1668% 5.71 95% 0.55 34% 3.08 7.80 14.57 174.44 (33.99) 39.03 15% 8% 2% 4% 3% 4% 1% -44% 6.05 95% (2.33) 34% 3.38 10.41 15.18 179.39 29.60 65.16 12% 8% 2% 3% 3% 3% 1% 4% 6.41 95% 1.95 34% 3.54 8.58 16.58 184.71 1.72 65.38 12% 9% 2% 3% 3% 3% 1% 9% 6.41 95% 0.10 34% 3.63 9.38 17.95 190.65 20.83 84.17 14% 9% 2% 4% 4% 4% 1% 8% 6.41 95% 1.16 34% 3.61 11.25 FY09A FY10A FY11E FY12E FY13E FY14E FY15E

Source: Company Reports, InvestCap Research

InvestCap Research

16

COMPANY UPDATE
A Publication of InvestCap Research

Pakistan Equity Research

November 2010

RESEARCH Khurram Schehzad Farhan Bashir Khan Muniba Saeed Nauman Khan Mazhar A. Sabir Abdul Azeem Saeed Khalid Akhtar Nawaz Asim Abbas Economy, Strategy and Oil

(92-21) 111 111 097 Fertilizers, Cements, Construction and Telecom Banks, Power and Textiles E&P, Refineries and Chemicals Insurance and Mutual Funds Automobile, Gas Distribution, Textiles and Technicals Commodities, FMCGs and Paper & Board Database Incharge Research Distribution

EQUITY SALES DESK (92-21) 3520 8727, 3520 8735, 3520 8730-31 Shahrukh Naqvi Noureen Moin Khan Nabeel Jafar Irfan Ali Muhammad

MONEY MARKET DESK (92-21) 3520 8751, 3520 8757, 3520 8767 Naeem-ul-Hasan Aamir Saeed Khan Mobin Wahid Asif Hussain Nasir Suria Mehmood Qureshi

FOREIGN EXCHANGE DESK (92-21) 3520 8778-87 Imran Chohan Atif Ali Syed Atif Abbas Naqvi Syed Ali Yazdan Mohammad Waqas Mohammad Zain

COMMODITY SALES DESK (92-21) 3521 35226-28 Ali Kazmi Junaid Zakaria

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