We expect Pakistan State Oil (PSO) to post a 3QFY20 NLAT of PKR2.1bn (LPS PKR4.42), compared to an EPS of PKR6.19 in the previous quarter and PKR3.57 same period last year. This will take 9MFY20 earnings to PKR4.4bn (EPS PKR9.28), down 26% yoy. In the midst of deep losses likely in 3Q and the next quarter, we do not expect PSO to announce any dividends (it skipped payout in 1HFY20 results). This will be the worst result (and first quarterly loss) by PSO since 3QFY16. Broadly, the result will be a reflection of nearly all the possible business risks for an OMC occurring simultaneously during the quarter, in our view.
Key expectations for 3QFY20 results
Net Sales to decline 6% yoy and 16% qoq not only because of 19% yoy and 25% qoq lower volumes – Furnace oil / HSD / Mogas sales down 69% / 24% / 7% yoy – but also lower prices amid the collapse in international oil prices towards the end of the quarter. LNG sales would have declined nearly similarly.
We expect a 44% yoy reduction in the gross profit, due a combination of lower volumes and inventory losses, which we estimate at PKR2.6bn (PKR4.0/sh after tax). Note that while retail fuel prices were not reduced significantly until the end of the quarter, the ex-refinery prices (on which inventory gains/ losses are based) reflect international prices. There is a possibility that PSO will write down inventory based on April prices and show a larger inventory loss than we expect.
The above will be worsened by exchange losses of PKR2.5-3.0bn (PKR4.0/sh after tax). PKR depreciated 8% against the US$ during the quarter. Importantly, PSO had been asked by the government to reduce the balance of FE-25 borrowing, which had hitherto protected the company from big exchange losses in recent years.
While there was a large penal income of c.PKR5.0bn offsetting inventory and exchange losses in the previous quarter, we conservatively assume modest penal income of PKR1.0bn for 3Q. The cash-flow health of major IPPs remains weak, in our view. Other income is thus expected to decline 68% qoq (rise 86% yoy). Finance cost will also normalize sequentially to PKR2.6bn from PKR3.9bn in 2Q, as it would lack the penal charges (on late payments to local refineries) that are triggered by the receipt of penal income from IPPs.
Perhaps the only respite could be a tax credit given a likely negative PBT balance, trimming the losses (thin profits would have been eaten away by the turnover tax of 0.75%).
We have a Neutral stance on PSO with a June 2021 TP of PKR171/sh. While circular debt is less problematic for PSO than it has been historically, shrinking petroleum consumption and the need to invest substantial cash in its subsidiary, Pakistan Refinery, could mean both modest growth and payout prospects in the medium term. These concerns will not be adequately overcome by the potentially big cash injection from the second Energy Sukuk issue due in 2020. PSO is trading at a FY21f P/E of 7.4x (above the market) and a P/B of 0.5x; the latter is close to historical mean levels (thus fairly valued). A turnaround in domestic oil demand and the finding of a strong partner to finance the investment in/ expansion of PRL are key triggers that will make us more positive on PSO.