rediscovering value SRI LANKA | EQUITY FOCUS
September 2012
C T SMITH STOCKBROKERS Synopsis : Economic Snapshot 2
. The Sri Lankan economy grew 8.3% in 2011 followed by a strong 8.0% growth in 2010
. The general price level has remained in single digits since late 2009 despite accounting for a high level of inflation during mid 2008 . Which was supported by the improvements in domestic supply by enhanced food production in the conflict affected areas and owing to the cautious monetary and fiscal policy stances adopted during 2009 – 1H2011
. However, the external sector suffered from 3Q2011 onwards amidst unstable economic conditions emanating from the sluggish global economic recovery . This was further intensified by the sovereign debt crisis in the Euro zone and the significant upsurge in international oil prices and pressures on flows to the capital account
. During the latter part of 2011, the Central Bank (CBSL) undertook sterilized intervention in the forex market . The CBSL also maintained a fixed exchange rate policy during 2H2011 whilst maintaining stable interest rates
. Consequently the ministry of finance introduced a 3% overnight devaluation to the LKR in November 2011 during its FY2012 budget reading
. This policy action was followed by the CBSL’s tight monetary policy actions during February and April 2012 which further introduced . Quantitative restrictions on commercial bank disbursements . And more currency flexibility
. With the authorities allowing interest rates and exchange rates to be determined by the market forces we believe, . The interest rates have reached near peak levels . The LKR is also expected to remain stable in the near term Synopsis : Stock Market Snapshot 3
. Despite accounting for ~25% of the Sri Lankan economy, the stock market is not necessarily a clear representation of the economy since . Certain sectors (Financial Services & Real Estate and Tourism) have a disproportionately high weightage in the market vs. the economy
. Since 2000, foreign portfolio investment has contributed approximately 25% of total market turnover . Foreign investors have been net buyers since 1Q2012
. The earnings of the Diversified Holdings and Beverage, Food & Tobacco sectors are broadly represented in the market
. The Manufacturing and Banks, Finance & Insurance sectors are trading at a discount to the market subsequent to sharp earnings growth over the past 12 months
. Highly geared companies with capex plans in the pipeline will be affected by the rising interest rate environment
. Corporates with forex borrowings are exposed to the forex risk Table of Contents 4
Economic Overview 5 Interest Rates 6 Balance of Payments 8 Exchange Rates 10 Medium Term Economic Growth Indicators 11 Fiscal Policy 12 Inflation 14
Stock Market Overview 16 Key Events 17 Composition of the Economy vs. the Market 18 Foreign Investor Participation 19 Sectoral Earnings Analysis 20 Analysis of the Top 30 Investible Companies vs. the Market 22 Treasury Bills vs. ASPI 24 Market Gearing Analysis 25 Regional Market Comparison 26 Summary Performance of the Market in the Past 12 Months 27 Summary Performance of the Market in the Past 8 Years 28 Top 20 Stocks – by Turnover 29
Stock Picks 30
Acronyms 43 5
ECONOMIC OVERVIEW Interest Rates: Key Event Timeline 6
End of 26 year The CBSL adopts a soft monetary In order to continue the same growth The Currency depreciates long internal policy to stimulate investment and momentum, the CBSL adopts a fixed Finance over 15% during the conflict economic growth, however due to exchange rate policy amidst duty Ministry first 8 months to the impact of the global financial reductions on vehicle imports and increases ~Rs.131.00 levels. crisis and slower credit growth, the electronic goods. To facilitate growth, the duties on Trade deficit reduces economy records a mild real growth CBSL sterilized its intervention in the forex vehicle to US$663mn in June of only 3.5% in FY2009 market by increasing CBSL’s net domestic imports in 2012, the lowest assets (i.e. money printing) during 2H2011. April 2012 since February 2011. The interest rates remained stable 20% temporarily. The BOT deficit expands to an all time high of US$10bn for FY2011. Economy grows 8.3% in FY2011
15%
12 Month 10% Treasury Bill Yield
5% 4-Jul-08 4-Jan-09 4-Jul-09 4-Jan-10 4-Jul-10 4-Jan-11 4-Jul-11 4-Jan-12 4-Jul-12
Government infrastructure During 2H2010, demand for The Minister of The CBSL tightens monetary policy The CBSL further projects were funded by credit grows above 15%, Finance, for the first time after five years to tightens the government LCBs till end resulting in an overall devalues the address the higher BOT deficit. A monetary policy in 1H2010, CBSL eases its economic growth of 8.0% in currency by 3% credit cap is placed on LCB lending April 2012, whilst policy rates in July and FY2010 (the highest real in his November to curb import financing. CBSL increasing its policy August 2010 to induce economic growth rate since 2011 budget revises its GDP growth down to rate corridor by private sector investment 1979) reading 7.2% from 8% 50bps to 2%.
Source: Central Bank of Sri Lanka, CTS Research
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Interest Rates… 7
. The Central Bank of Sri Lanka (CBSL) has tightened its monetary policy stance during 1H2012 Private Sector Demand for Credit (Rs Bn) amidst rising currency pressure, on account of a sharp rise in demand for import credit; 2,600 Actual Forecast however further tightening is not expected due to reducing import demand pressure 2,400
. Following CBSL’s tight monetary policy, aggregate demand for credit eased off during 2,200
2Q2012, resulting in a trade deficit of US$663mn in June 2012, the lowest monthly deficit 2,000 since February 2011 1,800
1,600 . Benchmark T-bill yields have trended up sharply due to reduced market liquidity since 2H2011; we expect T-bill yields to rise a further 20+ bps in the short term 1,400
1,200 . However, we expect yields to trend down in 2013E amidst stability returning to the currency 1,000 (through improved BOP), and liquidity improving in the money market on account of lower Nov-08 Jul-09 Mar-10 Nov-10 Jul-11 Mar-12 Nov-12 demand for credit during 2H2012E Source: Central Bank of Sri Lanka
Oct Nov Jan Feb Mar Apr May Jun Sep Nov Jul Aug Jan Apr Feb Apr Policy Rates / Ratios Before '08 ‘08 '09 '09 '09 '09 ‘09 ‘09 ‘09 ‘09 ‘10 ‘10 '11 '11 '12 '12
Repurchase Rate (%) 10.50 10.50 10.50 10.50 10.25 10.25 9.00 9.00 8.50 8.00 7.50 7.25 7.25 7.00 7.00 7.50 7.75
Reverse Repurchase Rate (%) 12.00 12.00 12.00 12.00 11.75 11.75 11.75 11.50 11.00 10.50 9.75 9.50 9.00 8.50 8.50 9.00 9.75
Penal Rate (%) 19.00 19.00 19.00 17.00 16.50 14.75 13.00 ------
Statutory Reserve Ratio (%) 10.00 9.25 7.75 7.75 7.00 7.00 7.00 7.00 7.00 7.00 7.00 7.00 7.00 7.00 8.00 8.00 8.00
Source: Central Bank of Sri Lanka
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Balance of Payments 8
Exports : US$9.8bn in 2012E (-6% YoY, 17% of GDP) BOP US$5.0bn in 1H2012 (-2% YoY) Balance of Trade Trade . Garments exports (~ 42% of total exports, -1% YoY) highly dependent on demand from key Deficit : buyers, the EU and the US (acc. for ~51% and ~39% of segmental earnings), and cotton prices due –US$10.1bn in Account to pass-through costs; expectation of lower demand and cotton prices 2012E (+4% YoY,
. Tea exports subdued (-14% YoY, ~13% of total exports) given lower productivity and decline in 17% of GDP); demand from Middle East (acc. for 46% of tea export revenue) -US$4.7bn in 1H2012 (+12% YoY) . Despite efforts by GOSL for higher growth in non-garment value added segment - rubber, petroleum products exports etc. (-7% YoY, ~36% of total exports), earnings under pressure due to Despite successes in sluggish global economy curtailing high import growth (due to excise duty hikes, Imports : US$20.0bn in 2012E (-1% YoY, 34% of GDP) currency weakness US$9.7bn in 1H2012 (+4% YoY) and higher interest . Import expenditure growth reduced via duty hikes (mainly for consumer goods, ~17% of rates) and imports),currency depreciation, and credit curtailment measures anticipated higher foreign inflows into . Investment goods (~26% of imports) growth to be driven by state-funded infrastructure projects, the capital and though fiscal deficit concerns may temporarily curtail public expenditure services accounts,
. Potential upside to import expenditure to be largely due to a higher oil import bill (+11% YoY, the magnitude of ~26% of total imports, ~50% of BOT deficit), given its high vulnerability to volatility in crude oil the BOT deficit, prices as entire petroleum requirement of Sri Lanka is imported ~17% of GDP, . Anticipated growth in the oil import bill, amidst higher volumes to support increased usage of remains a key thermal power vs. hydro power in the near term due to prevailing drought conditions (current concern usage of thermal est. at 88% vs. 50% in 2011), and supply disruptions to coal power Capital & . ~40% of petroleum imports used for thermal power generation Services Account See Next Page
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Balance of Payments… 9 BOP See Previous Page Gross Worker Remittances : US$5.9bn in 2012E (+16% YoY, 10% of GDP) US$2.9bn in 1H2012 (+17% YoY) Trade . Main forex earner (on both gross and net levels) of SL, has grown steadily, with a 5yr CAGR of 17%, primarily led by BOT Deficit Account an increased yield per worker (5yr CAGR of 12%), whilst number of workers have risen 5% p.a. during 2006-2011 -US$10.1bn . GOSL is encouraging a gradual change in mix of labour force towards the higher-skilled, and improved systems encouraging remittances through official channels . Middle East accounts for ~60% of total worker remittances, largely through female domestic workers
Other Inflows Tourism Receipts: US$1.2bn in 2012E (+45% YoY, 2% of GDP) Non Trade US$0.5bn in 1H2012 (+24% YoY) Inflows . Growth largely driven by higher arrivals (est. 1.0mn arrivals for 2012E, +13% YoY), and a higher receipt per tourist per day (US$98 in 2011, +11% YoY, 5-yr CAGR of 3%), amidst promotion of SL as a high-end tourist destination US$12.3bn . Tourism mix shifting to the Asian segment from the traditional, comparatively longer-stay Western European segment; average stay was 10 days in 2011 (declining 1% at a 5-yr CAGR) . Local hoteliers adopting a more diverse approach to cater also to the mid-market, and the business travelers
Foreign Direct Investments (FDI) : US$1.2bn in FDI in 2012E (+12% YoY, 2% of GDP) Capital & US$0.5bn in 1H2012 (+15% YoY) Non Trade . Significant portion entering infrastructure and industrial zone development, and leisure sectors Outflows Services . Despite pledges for large-scale development, the inflow constrained due to the lack of a conducive investor US$1.9bn* Account environment, mainly for private sector participation, and heavy Government involvement
Stock Market Inflows : US$300mn net foreign inflow (NFI) in 2012E (vs. net foreign outflow of –US$172mn in 2011) NFI of US$214mn as at 15 August 2012 . Potential for further increase amidst local state institutions seeking to divest large stakes, in a bid to increase cash positions and attract foreign inflows BOP Surplus Government Inflows US$0.2bn Government inflows amounted to US$2.3bn in 1H2012, above the 2012 Roadmap target of US$2.1bn, largely driven by
International Monetary Fund (IMF) loans and commercial borrowings *GOSL Estimate
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Exchange Rates 10
“We anticipate the Sri Lankan Rupee (SLR) to stabilize around Rs.130 – Rs.132 by end-2012E (depreciating 16% YoY), and to depreciate 2-3% in 2013E, following a more normalized depreciation trend. The 10-year (2001 – 2011) CAGR of SLR depreciation amounts to 2%.”
Balance of Balance of Payments (US$ mn) Payments 3,000
The easing of pressure on the 2,000 balance of payments is expected to contribute to the appreciation of the SLR from current 1,000
levels. We expect Sri Lanka to post a balance 0 of payment surplus of US$0.2bn by end- 2007 2008 2009 2010 2011 2012E 2012E -1,000
-2,000
Credit SLR per US$ Growth 140.00 Slower growth in credit and broad monetary aggregates, followed by improved 130.00
liquidity in the money market should help 120.00 stabilize the currency in the near term
110.00
100.00 Jul-11 Nov-11 Mar-12 Jul-12
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Medium Term Economic Growth Drivers 11
Contribution to GDP Growth “The Sri Lankan economy is expected to grow at an average of 7.1% in 2012-2013E (vs. 6.2% between 2002-2011), driven mainly by the services and industry sectors.” Economic growth catalysts
GoSL investment Expanding port Private sector in domestic Industrial zones capacity to investments in transportation to boost FDI and leverage on tourism, real and power to production geographic estate, boost economic capacity advantage manufacturing efficiency
However, the country is susceptible to global shocks… . Reliant on the US & EU (55% of total exports), and Middle East (60% of worker remittances, 46% of tea exports) o Deterioration in these economies and potential geo-political concerns in the EU
and Middle East would impact economic growth Composition of GDP - . Vulnerability to external shocks due to energy dependence 2011 o Total oil requirement is imported, with ~40% used for thermal power generation Source: Department of Census and Statistics
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Fiscal Policy 12
Budget Deficit (as a % of GDP) 30.0% Total Revenue Total Expenditure Budget Deficit 20.0%
10.0%
0.0%
-10.0%
-20.0%
-30.0% 2006 2007 2008 2009 2010 2011 2012 YTD 2012E 2013E Annualised Source : Ministry of Finance & Planning
2012* Overview Budget Deficit (Rs bn) 2009 2010 2011 2012E 2013E May YTD Total Revenue and Grants 725.6 834.2 949.9 933.9 1,025.5 1,247.5 . Given the fiscal performance to May 2012 YTD (deficit of - Rs.313bn), it Total Revenue 699.7 817.2 934.8 928.0 1,003.0 1,221.7 seems unlikely the Government of Sri Lanka (GOSL) will meet its 2012E Total Expenditure 1,201.9 1,280.2 1,400.1 1,684.3 1,621.6 1,858.4 deficit expectation of 6.2% of GDP (-Rs.468bn) Recurrent Expenditure 879.6 937.1 1,006.6 1,215.4 1,152.7 1,333.5 . We forecast the budget deficit to rise to 8.0% of GDP (-Rs.599bn) for Public Investment 330.5 356.5 407.5 468.9 468.9 524.8 Revenue Deficit -179.9 -119.9 -71.8 -287.4 -149.7 -111.8 2012E, largely due to higher than expected recurrent expenditure and Budget Deficit -476.3 -446.0 -450.2 -750.4 -596.2 -610.8 low revenue growth As a % of GDP
Total Revenue and Grants 15.0 14.9 15.6 12.5 13.7 14.5 . Meanwhile, we expect the deficit to recover to 7.1% of GDP (-Rs.611bn) Tax Revenue 12.8 12.9 13.6 12.4 13.0 13.0 for 2013E, amidst faster expansion of nominal GDP, and a rebound in Recurrent Expenditure 16.9 18.2 16.7 16.2 15.4 15.5 revenue growth. The deficit is expected to remain high amidst continued Public Investment 6.0 6.8 6.4 6.3 6.3 6.1 high public investment (> 6% of GDP) Budget Deficit -9.9 -8.0 -7.0 -10.0 -8.0 -7.1
* Annualised
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Fiscal Policy… 13
Total Revenue (Rs bn) Total Expenditure (Rs bn)
Income Tax Taxes on Goods & Services Salaries & Wages Interest Other Goods & Services Taxes on External Trade Non-Tax revenue Grants As a % of GDP Public Investment As a % of GDP 2,100 30.0 1,400 15.5 15.2% 1,800 24.9% 25.0 1,200 15.0 22.4% 22.6% 21.6% 14.9% 14.6% 1,500 22.9% 1,000 14.6% 21.7% 20.0 14.5% 14.5 18.6% 14.5% 800 1,200 17.4% 14.2% 14.0 15.0 900 600 13.7% 13.5 10.0 400 600 200 13.0 300 5.0
0 12.5 0 0.0 2006 2007 2008 2009 2010 2011 2012E 2013E 2006 2007 2008 2009 2010 2011 2012E 2013E Source : Ministry of Finance & Planning Source : Ministry of Finance & Planning Measures that may be adopted to contain the 2012E deficit to 6.2% of GDP include Total Revenue (as a % of GDP) . Boost revenue through duty revisions 13% 14% 15% 16% 17% . Government revenue rose 8% YoY to Rs.229bn in January - May 2012 20% -7% -6% -5% -4% -3% . Revenue would have to grow 25% YoY in June – December 2012 to reach the GoSL’s target of Rs.1,126bn Government . Main avenues to increase revenue available to the GoSL would be through excise duty hikes largely on demerit 21% -8% -7% -6% -5% -4% Target of 6.2% Unlikely goods, given that an upward revisions would not impact inflation 22% -9% -8% -7% -6% -5% . Other tax revisions would likely be delayed given that Provincial Council Elections are to take place in September 23% -10% -9% -8% -7% -6% 2012 d . Reduce capital expenditure by delaying some of the GoSL’s development plans 24% -11% -10% -9% -8% -7% 2011 Actual . Government expenditure rose 68% YoY to Rs.702bn in January - May 2012 23% -10% -9% -8% -7% -6% . Government expenditure would have to decline 9% YoY in June-December 2012 to reach its budget target of TotalExpenditure% ofa (as GDP) Rs.1,595bn . The GoSL has limited room for manoeuvrability given that a large proportion of expenses (interest and 10.1% May salaries & wages – 66% of recurrent expenditure) are outside their control 2012 YTD CTS Forecast Annualised of 8.0% . Delaying some of the GoSL’s infrastructure projects will be one of the limited options available; this however seems unlikely given the large scale development plans in the pipeline
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Inflation 14
. Sharp upward trend in inflation witnessed during January –July 2012 Headline Inflation (%)
12 . Largely due to the Non-Food sector, impacted by recent upward price revisions in fuel, electricity Annual Average Inflation Point to Point Inflation and transport; 10
. However, in the past few months, prices in certain food segments have also come under 8 pressure 6 . Food (41% of index) : up 10.3% YoY in July 2012 . Non-Food (59% of index) : up 9.9% YoY in July 2012 4
Weightage Category Jun-12 Jul-12 % MoM Jul-11 % YoY (%) 2 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Food and Non Alcoholic Beverages 41.0 184.6 187.6 1.6 170.1 10.3 Core Inflation (%) Non Food 59.0 151.8 152.2 0.2 138.4 9.9 Clothing and Footwear 3.1 161.3 163.0 1.1 148.1 10.1 10 Annual Average Inflation Housing, Water, Electricity, Gas & other Fuels 23.7 138.8 138.4 -0.3 125.5 10.3 Point to Point Inflation Furnishing, household maintenance 3.6 142.1 143.7 1.1 135.0 6.4 8 Health 3.2 245.0 249.7 1.9 243.2 2.7 Transport 12.3 185.2 185.3 0.1 154.0 20.3 6 Communication 4.8 90.3 90.3 0.0 90.3 0.0 Recreation and culture 1.5 144.5 144.5 0.0 140.5 2.8 4 Education 3.9 141.2 141.2 0.0 140.6 0.4 Miscellaneous goods and services 2.9 136.3 136.6 0.2 131.4 4.0 Colombo Consumer Price Index 100.0 165.2 166.7 0.9 151.7 9.8 2 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12
Source: Department of Census and Statistics
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Inflation… 15
. Pressure on the index likely to continue in the near term following sharp currency depreciation (down 16.5% YTD), which may continue to impact price levels
. In a bid to combat rising food inflation, the Government reduced the prices of white sugar, canned fish, rice, dhal and sprats sold through its Corporative Wholesale Establishment (CWE) outlets, w.e.f. 11 August 2012.
14 Food & Non-Food Inflation (%)
10
6
2
-2 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12
CCPI CCPI - Food index CCPI - Non- food index Source: Department of Census and Statistics -6 . As supplementary measures to combat rising food inflation and the drought prevailing in North Central and North Western provinces, the Government of Sri Lanka recently undertook the following measures: . Imposed limitations on rice exports . Introduced mechanisms to stock-up “Maha” paddy harvest to meet future demand requirements . Thus we expect point to point headline inflation to end the year around 7-9% on account of recent price reversals of essential consumer items due to the Government’s focus on the agriculture sector, and the curbs placed on lending growth for 2012E . Historically, Sri Lanka has had double-digit inflation, with inflation peaking at 30%+ levels during early 1980’s and 25%+ during 2008 . It should be noted that the Index may not fully reflect the impact of price changes on the spending patterns of the population as it represents only 354 market basket items regularly consumed by the urban population
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 16
STOCK MARKET OVERVIEW Key Events – Jan 2011 to 15 Aug 2012 17
Brokers allowed CBSL limits National to extend credit SEC Fuel and Received final SEC Policy rates LCB’s Budget 2012; over T+3; Chairperson electricity price NSB – TFC IMF tranche of Chairperson lowered exposure to the SLR devalued maintain zero replaced hike controversy US$415mn resigns market by 3% leverage
120 US$1Bn sovereign bond issue ASPI
100
80
-26%
Rules on Price Policy rates Excise Duty 60 SL’s sovereign SEC issues Bands relaxed; 1 SEC Director increased; CBSL hike on motor rating upgraded; Expropriation SL loses interim measures year lock-in for General reduces vehicles, issues US$1Bn Bill passed UNHRC vote to amend net private resigns intervention in tobacco and 10Yr Bond capital calculation placements forex market alcohol
8.7 -7.3 1.8 0.8 -8.0 0.3 0.5 -1.4 - 6.8 -3.7 -0.2 -6.3 -4.1 -0.7 0.0 -10.8 2.8 -0.4 -0.1 % MoM 40 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Source : Colombo Stock Exchange
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Composition of the Economy vs. the Market 18
Market Capitalization - 15 Aug 2012 Nominal Gross Domestic Product - 2011
Although the market is dependent on the economy, Sri Lanka’s stock market is not necessarily a clear representation of the economy for the following reasons
. Certain sectors, such as Financial Services & Real Estate and Tourism have a disproportionately high weightage in the market vs. the economy
. Partly on account of the recent listings in the via introductions in the Banks, Finance and Insurance (BFI) sector
. The low composition to GDP of Tourism could be due to the method of accounting as revenue from tourism was 13% of GDP in 2011 (Sri Lanka Tourism Development Authority)
. Government Services and Ownership of Dwelling are not represented in the market
. Meanwhile, Agriculture only accounts for 2% of market cap, likely due to the small holder/individual farmer nature of the industry
. Furthermore there also need to be significant listings in segments such as Manufacturing, Construction and Transport to be representative of the economy
Source : Department of Census and Statistics, Colombo Stock Exchange, Quarterly Financial Interims
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Foreign Investor Participation on the CSE 19
Net Foreign In/Out, Foreign T/O as a % of Market T/O and ASI % YoY Movement Changes in Foreign Holding of Key Cap Companies (%)
30 150 Company Dec-11 Aug-12 20 100 CTC 95.4 96.1 10 50 NEST 93.2 93.7 0 0 JKH 38.5 49.7 -10 Net Foreign In/Out (Rs bn) -50 SPEN 37.4 45.3 Foreign T/O as a % of Market - RHS -20 -100 COMB 35.9 36.7 ASPI % YoY Movement - RHS -30 -150 LION 24.2 29.2
Cumulative Net Foreign In/(Out) - Rs bn . Since 2000, foreign portfolio investment has contributed approximately 25% of total market turnover 30
20 . Foreign selling in 2010 and 2011 was subsequent to the post conflict bull run 2010 2011 (ASPI rose 125% in 2009 and 96% in 2010), resulting in significant profit taking 10
0 . Foreign institutional investors have traditionally exhibited a contrarian investing style as they are value buyers. Foreign interest has increased, -10 consequent to the market falling 37% from its peak of 7,812 in February 2011 2012 -20 . Reversal in net foreign outflow from early 2012 was led by inflows via
strategic acquisitions in John Keells Holdings (JKH) and Aitken Spence -30
Jul Jul Jul
Apr Oct Apr Oct Apr
Jun Jan Jun Jan Jun
(SPEN) Jan
Feb Mar Feb Mar Feb Mar
Aug Sep Nov Dec Aug Sep Nov Dec Aug
May May May Source : Colombo Stock Exchange
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Sectoral Earnings Analysis 20
2Q2012 Trailing Earnings Composition Sectoral Market Cap
14% 18% 18% BFI 14% 23% 23% 18% 3% 23% BFI Div. Holdings 32% 3% 32% 4% Div. Holdings BFT 4% 7% 7% BFT 5% 7% Manufacturing Manufacturing 5%
Motors Motors 7% 7% 7% 8% 8% Telco. Telco. 22% 22% 1% 22% 1% 5% 1% 5% Hotels & Travels 5% Hotels & Travels Others 15% Others 15% 19% 17% 19% 17% 17%
Sectoral Trailing 12 Month PE (X) 40 31.8 . The earnings of the Diversified Holdings and Beverage, Food and 28.0 30 26.5 Tobacco sectors are broadly representative of their market cap
20 18.3 18.1 16.2 16.0 14.9 13.0 12.9 12.7 11.3 10.5 . Meanwhile, as the Manufacturing and Banks, Finance and 9.1 8.2 10 7.4 6.8 6.7 6.0 2.6 Insurance sectors are trading below the market multiple, there is 0 likely room for multiple expansion
Source : Colombo Stock Exchange, Quarterly Financial Interims
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Sectoral Earnings Analysis… 21
Reported Trailing 12 Month Earnings Contribution to Growth (Rs bn) – 2Q2012 Reported Trailing 12 Month Earnings YoY Growth (%) – 2Q2012
BFI 10.0 23.0 BFI Total Market 8.2 5.1 Total Market Manufacturing 4.5 52.8 Manufacturing Motors 2.8 54.7 Motors BFT 2.6 11.3 BFT Land & Prop. 2.1 104.7 Land & Prop. Div. Holdings 1.9 6.4 Div. Holdings Health Care 1.1 123.1 Health Care Trading 0.8 25.8 Trading Footwear & Text. 0.4 (42.4) Footwear & Text. Services 0.1 13.8 Services Information Tech. (0.1) (26.5) Information Tech. Const. & Engi (0.2) (9.6) Const. & Engi St. & Supp. (0.4) (59.3) St. & Supp. Hotels & Travels (1.1) (18.1) Hotels & Travels Chem & Pharma (1.2) (37.8) Chem & Pharma Power & Energy (1.4) (45.4) Power & Energy Plantations (1.7) (42.7) Plantations Oil Palms (2.9) (43.3) Oil Palms Telco (3.9) (37.0) Telco (5.5) Inv. Trusts (85.4) Inv. Trusts -6 -4 -2 0 2 4 6 8 10 -100 -50 0 50 100 150
. The Manufacturing and Banks, Finance and Insurance (BFI) sectors have been the key contributors to TTM earnings growth in 2Q2012
. The BFI sector likely benefitted from the volatile exchange rate environment
. However, overall market earnings growth has tapered off due to the net negative forex impact on account of the sharp depreciation of the Sri Lanka Rupee, the rising domestic interest rates, the decline in commodity prices and the slowdown in economic growth
. We expect overall market earnings growth to remain in single digits for FY13E
Source : Quarterly Financial Interims
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Analysis of the Top 30 Investible Companies vs. the Mkt 22
Free Float FF Adj. Market Avg. Daily T/O Contribution TTM Earnings Trailing PE Company Name (%) Cap (Rs bn) (Rs mn) to ADT (%) (Rs mn) (X) John Keells Holdings 98.3 165.1 551.5 23.1 10,066 16.7 Commercial Bank of Ceylon 72.5 58.4 142.7 6.0 9,373 8.6 Hatton National Bank 66.0 30.2 14.6 0.6 6,876 6.7 . Identification of the top 30 Sampath Bank 72.2 20.9 42.3 1.8 4,889 5.9 investible companies DFCC Bank 63.4 19.3 15.5 0.6 2,914 10.5 Aitken Spence 40.2 18.1 282.4 11.8 3,799 11.9 . Based on CTS estimates of National Development Bank 66.7 12.9 24.8 1.0 2,982 6.5 free float adjusted market Distilleries Company of Sri Lanka 33.1 11.8 20.5 0.9 6,205 5.8 Chevron Lubricants Lanka 49.0 10.6 12.2 0.5 2,359 9.2 cap and 2012YTD average Ceylon Tobacco Company 7.6 9.8 23.4 1.0 7,830 16.5 daily turnover, the following Central Finance Company 59.0 8.7 27.1 1.1 2,874 5.1 Nations Trust Bank 70.0 8.5 9.5 0.4 1,691 7.1 30 liquid companies were Asian Hotels and Properties 21.4 7.5 4.9 0.2 2,262 15.4 selected Dialog Axiata 14.7 7.3 15.1 0.6 3,159 15.7 CT Holdings 28.2 6.7 4.3 0.2 1,194 20.0 Hayleys 29.7 6.7 44.4 1.9 2,470 9.1 . The effective free float Richard Pieris & Company 42.9 6.6 6.3 0.3 2,775 5.5 Access Engineering Ltd 40.0 6.5 3.6 0.2 766 21.3 adjusted market cap of the Aitken Spence Hotel Holdings 25.4 6.1 11.4 0.5 1,482 16.1 selected companies was Ceylinco Insurance 37.9 6.0 4.8 0.2 1,578 10.0 Seylan Bank 61.5 5.8 14.8 0.6 2,085 4.5 47%, largely due to the high Nestle Lanka 9.0 5.6 14.9 0.6 2,619 23.8 free float of JKH and the Cargills (Ceylon) 17.3 5.2 4.6 0.2 1,025 29.5 Ceylon Guardian Investment Trust 32.8 4.2 4.7 0.2 283 45.2 banking sector stocks, which Royal Ceramics Lanka 40.9 3.9 12.3 0.5 1,828 5.2 have a maximum holding John Keells Hotels 19.6 3.7 6.2 0.3 1,138 16.6 Hemas Holdings 28.3 3.5 3.6 0.2 1,281 9.7 restriction of 10-15% Vallibel One 19.7 3.3 11.4 0.5 2,069 8.1 Brown & Company 39.9 3.3 2.8 0.1 1,838 4.5 Lanka Orix Leasing Company 15.5 2.9 5.2 0.2 5,311 3.6 Total Market 2,392.2 100.0 167,915 11.2
Source : Colombo Stock Exchange, Quarterly Financial Interims
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Analysis of the Top 30 Investible Companies vs. the Mkt 23
Earnings of Top 30 Companies vs. Total Earnings Market Cap of Top 30 Companies vs. Total Market Cap
Others Earnings - (Rs bn) 50 70 Top 30 Earnings - (Rs bn) 3,000 Total Market Cap (Rs bn) 60 45 Top 30 as % of Total Earnings - RHS Top 30 as % of Total Market Cap - RHS 58 40 2,500 56 35 60 2,000 30 54
25 1,500 52 20 50 50 1,000 15 48 10 500 46 5 0 40 0 44 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012
Stock Turnover of Top 30 Companies vs. Market Turnover Trailing 12 Month PE of Top 30 Companies vs. Market (X)
1,800 70 Stock Turnover of Top 30 Companies (Rs mn) - LHS 24 1,600 Top 30 as a % of Total - RHS 60 22 1,400 20 1,200 50
1,000 18 40 800 16 600 30 14 400 Top 30 PE Total PE 20 12 200
0 10 10 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012 Source : Colombo Stock Exchange, Quarterly Financial Interims
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Treasury Bills Vs. ASPI 24
Correlation between the Market and 12 Month T-Bill Yield
9,000 23
7,500 20 ASPI 12M T-bill Yield - RHS 6,000 17
4,500 14
3,000 11
1,500 8
0 5 Jan-01 Apr-02 Jul-03 Oct-04 Jan-06 Apr-07 Jul-08 Oct-09 Jan-11 Apr-12
The ASPI has a strong negative correlation to the movement in interest rates
. Fixed income markets provide a lower risk alternative and leads to switching from equity to fixed income securities
. Margin traders are impacted by higher lending rates
. Company earnings are impacted on account of higher borrowing costs
Source : Colombo Stock Exchange, Central Bank of Sri Lanka
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Market Gearing Analysis 25
. Highly geared companies are likely to face near-term earnings pressure amidst rising CTC JKH
domestic interest rates Net Cash Net . The rise in domestic interest rates will have a limited impact on companies LLUB such as BUKI, CARS and DIAL, which have US$ denominated debt. However, AHPL TRAN LION these companies are exposed to forex translational risks EXPO NEST
DIST AHUN OSEA STRENGTH HHL . Most companies have room to leverage their balance sheets for expansion, with 19 of SPEN BALANCE SHEET SHEET BALANCE CCS the 30 companies having a net debt : equity of <20% KHL DIAL
. Companies in the right-side quadrants have large-scale capex plans over the CTHR CARG
next three years Net Debt Net LOW OUTLINED CAPEX PLANS HIGH
Net Debt (Rs bn) and Net Debt to Equity (%) of Top 50 Companies (Excl. the BFI Sector)
35 200 Net Debt (Rs bn) - LHS Average Debt 150 111.9 25 Net Debt to Equity (%) - RHS 89.9 68.0 100 60.6 55.3 49.2 44.4 56.4 15.0 12.1 50 53.9 15 -9.6 -2.1 47.7 -16.5 -11.0 -15.0 -3.4 42.3 -23.1 -24.1 0 11.6 25.3 10.9 19.9 3.3 5.0 -8.4 -11.4 -50 -32.0 5 -41.6 -36.1 -100
-150 -5
-200 -218.5 -15 -250
Source : Quarterly Financial Interims
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Regional Market Comparison 26
Market P/E and 10-yr T-bond Yield Market Cap as a % of GDP
16 Sri Lanka Pakistan 14
Sri Lanka 12 Pakistan Vietnam Vietnam 10 Japan Japan
India
bond Yield (%) Yield bond 8 India -
6 Thailand
year T year -
10 South Korea 4 Thailand Malaysia South Korea Malaysia 2 Singapore Singapore 0 6 8 10 12 14 16 0 50 100 150 200 250 300 Market P/E - 2012E (X) Market P/E and EPS Growth 10 Yr Bond Yield %
25 Japan
Singapore 20 Vietnam Thailand South Korea South Korea 15 Japan Thailand Sri Lanka India Malaysia Malaysia 10 India
EPS Growth (%) Growth EPS Pakistan Singapore Vietnam 5 Pakistan
Sri Lanka 0 6 8 10 12 14 16 0 2 4 6 8 10 12 14 16 Market P/E - 2012E (X) Source : Bloomberg, www.tradingeconomies.com
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Summary Performance of the Mkt in the Past 12 Months 27
2011 2011 2011 2011 2012 2012 2012 2012 2012 2012 2012 2012 2012 2011
Sep Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Cumulative
All Share Index 6,784 6,319 6,087 6,074 5,694 5,458 5,420 5,419 4,832 4,966 4,945 4,940 4,940 6,837
ASI % Change -1.4 -6.8 -3.7 -0.2 -6.3 -4.1 -0.7 0.0 -10.8 2.8 -0.4 -0.1 -18.7 3.0
Milanka Price Index 6,045 5,631 5,274 5,229 4,926 4,751 4,892 4,851 4,315 4,383 4,357 4,580 4,580 6,200
MPI % Change -3.0 -6.8 -6.3 -0.9 -5.8 -3.5 3.0 -0.8 -11.1 1.6 -0.6 5.1 -12.4 -12.2
Turnover (Rs mn) 58,037 25,241 20,664 17,915 19,102 29,457 33,151 9,008 8,374 17,762 8,911 4,574 130,339 390,311
Market Days 21 19 20 21 21 18 21 18 21 20 21 10 150 147
Average Turnover (Rs mn) 2,764 1,328 1,033 853 910 1,636 1,579 500 399 888 424 457 869 2,655
Foreign Purch (Rs mn) 2,872 4,310 1,945 2,492 3,745 6,248 20,443 2,461 3,131 2,257 3,925 2,322 44,532 36,638
Foreign Sales Rs (mn) 9,359 4,345 2,321 4,138 3,274 4,341 2,515 1,532 1,791 1,638 1,475 997 17,562 46,738
Net Foreign in/(out) (Rs mn) -6,487 -35 -377 -1,646 472 1,907 17,928 929 1,340 619 2,450 1,326 26,970 -10,099
Market PE (X) 17.6 16.3 15.9 15.8 14.9 14.3 14.4 13.9 12.5 13.6 13.5 13.4 13.4 19.9
Dividend Yield (%) 1.6 1.7 1.8 1.8 1.9 1.9 1.9 1.9 2.4 2.5 2.5 2.6 2.6 1.5
Market PBV (X) 2.2 2.1 2.0 2.0 1.9 1.8 1.8 1.8 1.6 1.8 1.8 1.8 1.8 2.5
Market Cap (Rs bn) 2,436 2,271 2,218 2,214 2,084 2,001 2,013 2,017 1,807 1,894 1,890 1,889 1,889 2,450
Source : Colombo Stock Exchange
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Summary Performance of the Mkt in the Past 8 Years 28
2005 2006 2007 2008 2009 2010 2011 2012 YTD
All Share Price Index 1,922 2,722 2,541 1,503 3,386 6,636 6,074 4,940
% YoY 27.5 41.6 -6.7 -40.8 125.3 96.0 -8.5 -18.7
Milanka Price Index 2,451 3,712 3,292 1,631 3,849 7,061 5,229 4,580
% YoY 18.2 51.4 -11.3 -50.4 136.0 83.4 -25.9 -12.4
Turnover (US$ mn) 1,122.5 976.3 965.6 976.3 1,237.4 5,067.0 4,948.6 1,051.2
Average Daily Turnover (US$ mn) 4.7 4.0 4.0 4.1 5.2 21.2 20.7 7.0
Foreign Purchases (US$ mn) 269.3 345.1 430.4 589.7 365.6 820.5 451.1 356.2
Foreign Sales (US$ mn) 215.2 295.1 326.9 466.0 349.7 1,056.2 623.4 142.0
Net Foreign In/(Out) (US$ mn) 54.1 49.9 103.5 123.7 16.0 -235.7 -172.3 214.1
Market PE (X) 12.4 14.0 11.6 5.4 16.6 25.2 15.8 13.4
Dividend Yield (%) 2.7 2.2 2.5 5.6 3.0 1.2 1.8 2.6
Market PBV (X) 1.7 2.0 1.8 0.8 1.7 3.0 2.0 1.8
Market Cap (Rs bn) 584 835 821 489 1,092 2,210 2,214 1,889
Market Cap (US$ mn) 5,719 7,750 7,549 4,320 9,547 19,968 19,463 14,330
Source : Colombo Stock Exchange
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 Top 20 Stocks – By Turnover 29
Avg. Daily As a % of Turnover Shares Traded Company Code MPS (Rs.) % YTD Turnover Market (Rs mn) (mn) (Rs mn) Turnover
John Keells Holdings JKH 198.6 16.1 30,344.5 202.3 160.9 23.3 Aitken Spence SPEN 109.1 -12.7 16,698.4 111.3 150.2 12.8 Commercial Bank of Ceylon COMB 101.0 1.0 8,283.8 55.2 82.4 6.4 Environmental Resources Investments GREG 14.5 -63.8 2,903.9 19.4 122.3 2.2 Hayleys HAYL 299.9 -20.0 2,651.9 17.7 7.0 2.0 LB Finance LFIN 116.0 -15.9 2,320.1 15.5 15.7 1.8 Asia Asset Finance AAF 2.6 -39.5 1,912.4 12.7 334.2 1.5 PC Pharma PCP 12.3 -79.5 1,910.0 12.7 69.3 1.5 Swarnamahal Financial Services Limited SFS 5.5 22.1 1,858.7 12.4 89.1 1.4 Sampath Bank SAMP 168.0 -13.8 1,833.0 12.2 11.1 1.4 Odel ODEL 22.5 -30.6 1,619.6 10.8 69.3 1.2 The Lion Brewery Ceylon LION 210.0 10.0 1,368.3 9.1 6.6 1.0 National Development Bank NDB 117.0 -16.4 1,329.9 8.9 11.4 1.0 Central Finance Company CFIN 129.5 -36.2 1,320.5 8.8 8.9 1.0 Ceylon Tobacco Company CTC 684.0 39.6 1,227.0 8.2 2.2 0.9 Acme Printing & Packaging ACME 14.6 -29.5 1,215.0 8.1 45.3 0.9 HVA Foods HVA 13.3 -65.9 1,171.2 7.8 69.4 0.9 Commercial Bank of Ceylon COMB 79.8 7.1 1,140.2 7.6 14.3 0.9 Sathosa Motors SMOT 185.0 -27.5 1,109.6 7.4 4.7 0.9 Distilleries Company of Sri Lanka DIST 118.9 -19.2 1,094.1 7.3 8.1 0.8 Total Market ASPI 4,939.7 -18.7 130,339.3 868.9 - 100.0
Source : Colombo Stock Exchange
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 30
STOCK PICKS DIVERSIFIED John Keells Holdings (JKH:Rs.198.60) HOLDINGS
Key Trading Information Relative Share Price Performance (%) Sri Lanka’s largest listed entity, John Keells Holdings (JKH) is a conglomerate with Market Cap (US$ mn) 1,281.8 110 interests in transportation, leisure, property, financial services, and consumer foods & JKH Estimated Free Float (%) 98.3 100 retail. JKH has exposure to key growth sectors and can leverage on existing resources 3M Avg Daily Share Volume 493,513.4 90 to deliver above average returns. 80 3M Avg Daily Turnover (US$) 705,666.7 ASPI 70 12M High / Low (Rs) 220.0 / 158.2 Market leadership in key growth sectors 60 . Over 1,600 hotel rooms in Sri Lanka (34% of 4 star plus rooms) 12M / YTD Price Change (%) -2.2 / 16.1 15-Aug-11 14-Feb-12 14-Aug-12 . Associate South Asia Gateway Terminals (SAGT) is the only private port operator in Sri Lanka . Strong brand equity in carbonated soft drinks, processed meat and ice cream Top 5 Shareholders - 30 Jun 12 (%) Net Cash (Rs bn) and Net Cash : Equity (%) . Key player in oil bunkering and logistics businesses Mr. S.E. Captain 11.8 12.5 15 Net Cash - RHS Janus Overseas Fund 10.2 10.0 Net Cash : Equity 10 Expected to develop existing land bank to boost ROE 7.5 Broga Hill Investments Ltd 8.8 . Owns 15 acres of prime land in Colombo, part of which will be used for the mixed 5.0 5 Paints and General Industries Ltd 5.1 2.5 development project estimated at US$750mn, which will likely break ground in Dec 2012 0.0 0 Melstacorp (Pvt) Ltd 3.7 . Currently constructing a 475 unit residential apartment complex to be completed in FY15E 3Q11 1Q12 3Q12 1Q13 . Strong balance sheet with net cash of Rs.11bn as at 30 Jun 2012, despite Rs.12bn capex Year Ended 31 March 2010 2011 2012 2013E 2014E post conflict (FY10-12) Net Revenue (Rs mn) 47,980.0 60,500.1 76,699.7 89,955.0 100,513.6 History of strong contingency planning and risk management Net Profit (Rs mn) 4,255.0 5,983.4 8,191.2 9,769.0 11,010.0 . Volatile Sri Lankan tourism sector was supported by strong presence in the Maldives via 340 Earnings per Share (Rs) 5.2 7.1 9.6 11.5 12.9 rooms, in three properties Earnings per Share Growth (%) 25.7 38.3 35.1 19.3 12.7 . Strong growth from Nations Trust Bank (NTB) despite potential reduction in stake Price/Earnings Ratio (X) 26.8 30.1 21.4 17.3 15.3 . Capacity constraints at SAGT partly negated by focusing on higher margin domestic TEUs Dividends per Share (Rs) 2.3 3.0 3.5 3.5 3.5 Gross Dividend Yield (%) 1.6 1.4 1.7 1.8 1.8 Trades at a justifiable premium given liquidity and country-proxy characteristics Net Book Value per Share (Rs) 60.3 71.0 83.6 91.7 101.1 . Unrivalled share liquidity - largest contributor (23%) to the market’s 2012YTD daily turnover Price/Book Value (X) 2.3 3.0 2.5 2.2 2.0 . Strong investor relations team, and share owning management that has historically Return on Equity (%) 9.1 11.2 12.5 13.1 13.4 maximized acquisition opportunities and exposure to key growth sectors of the economy Shares in Issue (mn) 826.0 839.6 851.0 851.0 851.0 . Track record of re-invention to take advantage of changing growth opportunities Market Price per Share (Rs) 138.0 214.5 206.0 198.6 198.6
Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 31 DIVERSIFIED Aitken Spence (SPEN:Rs.109.10) HOLDINGS
Key Trading Information Relative Share Price Performance (%) Aitken Spence (SPEN) is a conglomerate with interests in tourism, cargo logistics, Market Cap (US$ mn) 336.1 power generation and services. Group PAT is highly dependent on the tourism sector, 110 Estimated Free Float (%) 60.3 100 which has contributed over 40% to Group PAT during the past three years, whilst 3M Avg Daily Share Volume 1,135,695 90 noteworthy expansion plans have been outlined for the power generation business. SPEN 3M Avg Daily Turnover (US$) 942,613.2 80 70 Significant presence in Tourism in Sri Lanka and the Maldives 12M High / Low (Rs) 145.8 / 100.0 ASPI 60 . Tourism is the largest contributor to earnings (over 50% of PAT in FY11-12) 12M / YTD Price Change (%) -21.1 / -12.7 15-Aug-11 13-Feb-12 14-Aug-12 . Owns approximately 1,200 hotel rooms in the Maldives and Sri Lanka . Part shifting focus from up-market to mid-market tourism via Hilltop and The Sands Top 5 Shareholders - 30 Jun 12 (%) Net Debt (Rs bn) and Net Debt : Equity (%)
. Plans to develop an integrated leisure project in Trincomalee with an international partner Melstacorp (Pvt) Ltd 28.1 21% 7,000 Net Debt RHS . Post conflict tourism sector capex estimated at over Rs.2bn (FY10-12) 18% 6,000 Rubicond Enterprises Ltd 16.3 Net Debt : Equity . Further 25 year extension of leases in six Maldivian resorts (over 500 rooms) 5,000 15% Distilleries Co. of Sri Lanka 11.7 4,000 12% 3,000 New power plants in the South Asian region Aberdeen Global 5.9 9% 2,000 . Construction of two dual fuel power plants in Bangladesh with a combined capacity of Aberdeen Asia Pacific 4.2 2Q11 4Q11 2Q12 4Q12 200MW is set to commence shortly; SPEN’s investment is estimated to be over US$20mn Year Ended 31 March 2010 2011 2012 2013E 2014E . Plans to develop a 10MW waste-to-energy power plant in Sri Lanka, to boost already Net Revenue (Rs mn) 24,169.0 25,143.8 31,615.9 35,387.9 38,719.5 established 3MW wind and 2.5MW mini-hydro plants Net Profit (Rs mn) 2,059.6 2,536.0 3,054.2 3,543.7 3,992.1 . Volatile returns and renegotiation concerns of existing thermal power plants with state-owned 5.1 6.2 7.5 8.7 9.8 Ceylon Electricity Board (CEB) partly negated by new power plants Earnings per Share (Rs) Earnings per Share Growth (%) 9.7 23.1 20.4 16.0 12.7 Growth in port servicing and logistics Price/Earnings Ratio (X) 18.1 25.9 15.0 12.5 11.1 . Port servicing contracts likely to be re-entered in Africa and Asia, as the service oriented Dividends per Share (Rs) 0.7 1.0 1.4 1.4 1.4 business has a relatively higher return on investment Gross Dividend Yield (%) 0.7 0.6 1.2 1.3 1.3 . Beneficiary of local economic development via domestic logistic operations Net Book Value per Share (Rs) 46.7 53.0 62.9 70.3 78.7 Price/Book Value (X) 2.0 3.1 1.8 1.6 1.4 Trades at a discount to most conglomerate sector peers Return on Equity (%) 11.6 12.6 13.0 13.1 13.2 . Trades at a discount to peers at 12.6X FY13E and 11.2X FY14E, partly due to reliance on Shares in Issue (mn) 406.0 406.0 406.0 406.0 406.0 Tourism and volatile returns from power generation business Market Price per Share (Rs) 91.6 162.0 113.0 109.1 109.1 . SPEN is likely to benefit from outlined expansion plans and prudent management team Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 32 DIVERSIFIED CT Holdings (CTHR:Rs.125.20) HOLDINGS
Key Trading Information Relative Share Price Performance (%) C T Holdings (CTHR) is a conglomerate with interests in retail, food & beverages, Market Cap (US$ mn) 173.9 110 industrial goods, real estate, plantations, packaging, entertainment and financial Estimated Free Float (%) 28.2 100 services. Profitability is however dependent on the operations of subsidiary Cargills 3M Avg Daily Share Volume 5,667.8 90 (Ceylon) (CARG), which is forecast to provide ~75% of net profit in FY13E-FY14E. CTHR 3M Avg Daily Turnover (US$) 6,360.4 80 70 Aggressive expansion to boost long term EPS growth 12M High / Low (Rs) 202.0 / 120.1 ASPI 60 . Investing a further Rs.1.7bn in the beer sector (which was acquired for Rs.1.4bn in 1Q12) to 12M / YTD Price Change (%) -34.1 / -30.1 15-Aug-11 11-Jan-12 14-Jun-12 boost capacity amidst robust growth in soft alcohol consumption; the beer market has grown at a 2-year CAGR of 25% Top 5 Shareholders - 30 Jun 12 (%) Net Debt (Rs bn) & Net Debt : Equity (%) . Plans to expand Cargills’ retail network to 240 outlets in FY14E (presently 190), and investing Odeon Holdings (Ceylon) 41.6 15 80 Rs.1.1bn to increase dairy capacity and enhance product range in FY13E Net debt Net Debt:Equity - RHS 60 Mr. Anthony A Page 8.7 10 . Increased capacity at floor & wall tile plants by ~40% at a combined cost of Rs.1bn 40 Mr. V R Page 6.0 . Expected to launch Cargills Bank in 3Q13E; the bank will likely leverage on CARG’s strong 5 20 distribution network to scale up operations Mrs. T Selvaratnam 5.6 0 0 Unlocking long term potential through foreign investment Sir Chittampalam A Gard. Trust 5.0 1Q11 3Q11 1Q12 3Q12 1Q13 . Although near term earnings will be impacted by high funding costs for expansion (trailing Year Ended 31 March 2010 2011 2012 2013E 2014E interest cover : 3.4X; net debt to equity : 64.2%), balance sheet constraints to be eased Net Revenue (Rs mn) 39,254.2 47,044.6 59,417.9 70,399.8 84,585.4 through foreign partnerships in business ventures Net Profit (Rs mn) 373.9 864.0 1,213.2 1,116.0 1,448.8 . Signed a conditional agreement with Singapore-based Keppel Land to develop a 1.25 acre Earnings per Share (Rs) 2.2 5.1 6.7 6.1 7.9 owned-property into a high-end residential condominium complex Earnings per Share Growth (%) 14.5 131.1 31.4 -8.5 29.8 . In talks with an international hotel chain to develop the historic Cargills Fort building into a 6- Price/Earnings Ratio (X) 24.6 40.0 22.5 20.5 15.8 star hotel; the hotel will likely commence operations in FY15-16E . Has a further portfolio of ~5-6 acres of land in key locations across the country with potential to Dividend per Share (Rs) 0.7 1.6 2.0 2.0 2.4 be developed into residential and/or commercial projects Gross Dividend Yield (%) 1.3 0.8 1.3 1.6 1.9 Net Book Value per Share (Rs) 48.4 52.4 68.5 72.6 78.2 Trades at premium valuations amidst latent growth potential Price/Book Value (X) 1.1 3.9 2.2 1.7 1.6 . Has historically traded at a premium to most conglomerates given its leading market position in Return on Equity (%) 6.6 10.2 10.6 8.6 10.5 key growth sectors such as retail, food & beverages, and tiles Shares in Issue (mn) 170.3 170.3 182.1 183.1 183.1 . Long term growth potential likely to be boosted by materialization of real estate catalysts, Market Price per Share (Rs) 54.0 203.0 150.1 125.2 125.2 especially given its break-through project with Keppel Land Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS IT SHOULD BE NOTED THAT C T SMITH STOCKBROKERS (PVT) LTD IS AN ASSOCIATE OF CT HOLDINGS PLC REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 33
(COMB-N:Rs.101.00) BANKS, FINANCE Commercial Bank of Ceylon (COMB-X:Rs.79.80) & INSURANCE
Key Trading Information - Voting share Relative Share Price Performance - Voting (%) Commercial Bank of Ceylon (COMB) is the largest listed licensed commercial bank Market Cap (US$ mn) 649.4 (LCB) in Sri Lanka, with an estimated market share of ~13% in terms of LCB sector 110 assets. It also accounts for one of the largest privately owned bank networks in Sri Estimated Free Float (%) 72.5 100 COMB Lanka, and remains the only listed LCB in the country to own foreign bank branches. 3M Avg Daily Share Volume 139,668.8 90 3M Avg Daily Turnover (US$) 108,779.0 80 ASPI Conservative banking model that delivers consistent returns 70 12M High / Low (Rs) 117.5 / 96.9 . Deposits, Advances and EPS grew at 4-year CAGRs (2007 – 2011) of 15%, 12% and 16% 60 12M / YTD Price Change (%) -9.5 / 1.0 15-Aug-11 13-Feb-12 13-Aug-12 to Rs.318bn, Rs.277bn and Rs.10.0 respectively. Advances and Deposits are expected to grow at a 2-year CAGR of 22% and 25% to Rs.415bn and Rs.496bn as at end 2013E Top 5 Voting Shareholders - 30 Jun 12 (%) Historical DuPont Analysis - COMB . COMB’s sector low funding cost (6.6% as at 30 June 2012), sector low recurring Cost to DFCC Bank 14.9 Ratio (%) 2008 2009 2010 2011 2012A Income Ratio (CIR of ~45%),Group Expense Ratio ~9.0%, NIM ~4.9%, superior distribution Asset Util. 16.0 14.0 11.7 10.9 12.8 Employees Provident Fund 9.6 network (>500 ATMs and 230+ branches) and moderate delinquency rates (gross NPA of Exp. Ratio -12.5 -10.9 -8.2 -7.8 -9.0 3.7% as at 30 June 2012) are expected to drive its short to medium term bottom-line growth International Finance Corp. 7.6 Tax Ratio -2.0 -1.7 -1.9 -1.1 -1.5 ROA 1.5 1.4 1.6 2.0 2.3 [gross NPA as at end- 2012E :4.0%, 2013E : 3.8%] SLIC - Life Fund 5.1 Lev (X) 10.9 11.0 11.1 10.4 10.0 . COMB’s Bangladeshi operation is expected to provide an estimated 15% to group bottom SLIC - General Fund 4.4 ROE 16.3 15.3 17.7 20.7 22.8 line in the short to medium term Year Ended 31 December 2009 2010 2011 2012E 2013E . Net Interest Margins (NIM) expected to remain resilient amid volatile interest rates due to Gross Revenue (Rs mn) 43,614.6 41,481.8 45,465.4 60,784.8 73,598.7 high Current And Savings Account (CASA) ratio of 46.5% (30 June 2012) and 64.5% of Net Profit (Rs mn) 4,191.9 5,507.5 8,094.9 10,387.4 12,052.3 advances under one year maturity (31 December 2012) Earnings per Share (Rs) 5.6 7.2 10.0 12.8 14.8 . Foreign exchange gains to increase non interest income (Non II) in the near term (Forex Earnings per Share Growth (%) 1.8 29.7 37.9 28.3 16.0 gains/Non II % = 63% in 1H2012); ~50% of forex income comprises translation gains Price/Earnings Ratio - Voting (X) 11.3 18.0 10.0 7.9 6.8 Price/Earnings Ratio - Non voting (X) 7.4 11.2 7.5 6.2 5.4 Offers an attractive dividend yield on its non voting share Dividend per Share (Rs) 2.3 3.5 5.0 7.0 8.2 . With an estimated payout of 45%-50%, COMB non-voting share offers dividend yields of Gross Dividend Yield - Non voting (%) 5.6 4.3 6.7 8.8 10.2 8.8% and 10.2% for 2012E and 2013E respectively Price/Book Value - Voting (X) 1.2 3.2 2.1 1.7 1.6 Price/Book Value - Non voting (X) 0.8 2.0 1.6 1.4 1.2 Stable equity investment amid volatile market conditions Return on Equity (%) 15.3 17.7 20.7 22.0 22.8 . Strong management team backed by top global shareholders, such as International IFC. Market price per Share -Voting (Rs) 63.0 130.0 100.0 101.0 101.0 Net Interest Margin (%) 4.6 5.3 4.9 4.7 4.5 . Premium (to sector) multiples justified by steady EPS growth expectations (2-yr forward CAGR of 22%), high liquidity and above sector average ROEs of 22+% Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 34 (HNB-N:Rs.135.00) BANKS, FINANCE Hatton National Bank (HNB-X:Rs.94.50) & INSURANCE
Key Trading Information - Voting share Relative Share Price Performance - Voting (%) Hatton National Bank (HNB) is the country’s second largest privately owned licensed commercial bank (LCB) with an estimated market share of ~11% in terms of LCB sector Market Cap (US$ mn) 382.0 110 100 assets. The bank provides a comprehensive range of financial services including Estimated Free Float (%) 72.4 90 corporate & retail banking, treasury, investment and insurance services. 3M Avg Daily Share Volume 19,876.8 HNB 80 3M Avg Daily Turnover (US$) 21,117.9 70 ASPI Core fund based operation to drive the bottom line in the short to medium term 60 12M High / Low (Rs) 219.9 / 130.2 . Deposits, Advances and EPS grew at 4-year CAGRs (2007 – 2011) of 13%, 14% and 17% 50 12M / YTD Price Change (%) -38.4 / -10.0 15-Aug-11 13-Feb-12 13-Aug-12 to Rs.284bn, Rs.259bn and Rs.16.5 respectively . Advances and Deposits are expected to grow at a 2-year CAGR of 23% and 20% to Top 5 Voting Shareholders - 30 Jun 12 (%) Historical DuPont Analysis - HNB Rs.388bn and Rs.409bn by 31 December 2013 SLIC - General Fund 15.1 Ratio (%) 2008 2009 2010 2011 2012A . Higher fund-based earnings model (compared to its like-sized peers) is expected to provide Asset Util. 15.3 15.0 12.2 11.5 12.6 Employees Provident Fund 9.6 sustainable core-earnings growth in the medium to longer term Exp. Ratio -12.9 -12.0 -9.3 -8.8 -10.0 Tax Ratio -1.3 -1.4 -1.4 -1.0 -1.1 . Net Interest Margins (NIM) of ~5.0% expected to remain resilient amidst volatile interest rates Milford Exports Ltd 8.1 ROA 1.1 1.7 1.6 1.8 1.6 due to relatively high Current And Savings Account (CASA) ratio of 41.9% (30 June 2012) Stassen Exports Ltd 7.1 Lev (X) 11.3 11.0 10.7 9.9 9.8 and 58.3% of interest earning assets under one year maturity (31 December 2012) Brown and Company 7.0 ROE 12.9 18.2 17.0 17.4 15.8 . Gross Non Performing Advances (GNPA) ratio of 4.6% as at 30 June 2012 is expected to Year Ended 31 December 2009 2010 2011 2012E 2013E improve in the near term as NPAs related to Maldivian tourism projects are anticipated to be Gross Revenue (Rs mn) 41,317.3 37,362.4 41,114.9 52,562.2 60,039.7 rescheduled into the “performing book” during 2H2012E Net Profit (Rs mn) 4,483.3 4,786.6 6,148.8 7,108.4 7,842.2
Earnings per Share (Rs) 12.5 13.4 16.5 17.9 19.8 Group expense ratio to reduce to high single digits in the medium term Earnings per Share Growth (%) 58.4 6.9 23.3 8.5 10.3 . Recent initiatives to reduce its high employee per branch ratio (from 22 to 19 during 2008 to Price/Earnings Ratio - Voting (X) 9.0 19.9 9.1 7.5 6.8 2012YTD) are expected to bring in longer term structural efficiency to the Bank (Group Price/Earnings Ratio - Non voting (X) 5.6 10.7 5.2 5.3 4.8 Expense Ratio and Cost to Income Ratio stood at 10.0% and 57.3% during 1H2012) Dividend per Share (Rs) 4.3 4.7 5.8 6.3 6.9 Gross Dividend Yield - Non voting (%) 6.2 3.3 6.7 6.6 7.3 Attractive non-voting share trades at an ~30-35% discount to the voting share Price/Book Value - Voting (X) 1.5 3.2 1.4 1.2 1.1 . The non-voting share trades at a discount to the market and sector on PE multiples of 5.3X Price/Book Value - Non voting (X) 0.9 1.7 0.8 0.8 0.7 Return on Equity (%) 18.2 17.0 17.4 16.6 16.3 2012E (0.8X PBV) and 4.8X 2013E (0.7X PBV) with a gross dividend yield of 6.6% and 7.3% Market price per Share - Voting (Rs) 113.3 266.6 150.0 135.0 135.0 for 2012E and 2013E respectively Net Interest Margin (%) 5.7 5.6 5.0 5.0 4.9
Note: Valuations are based on recurring EPS, adjusted for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 35 BANKS, FINANCE Sampath Bank (SAMP:Rs.168.00) & INSURANCE
Sampath Bank (SAMP), the third largest listed licensed commercial bank (LCB) in Sri Key Trading Information Relative Share Price Performance (%)
Lanka, accounts for an estimated market share of ~7% in terms of LCB sector assets. Market Cap (US$ mn) 207.1 110 We expect SAMP to achieve operational scale of its top tier banking peers in the Estimated Free Float (%) 72.2 100 medium term following an aggressive expansion of its branch network during the past 3M Avg Daily Share Volume 101,688.5 90 three years to 227 branches (COMB 235 branches and HNB 243 branches) ASPI 80 3M Avg Daily Turnover (US$) 121,587.3 SAMP 70 Centralized conservative credit model to deliver above sector average returns 12M High / Low (Rs) 245.0 / 148.5 60 . SAMP’s centralized credit approval model has kept delinquency rates low. Gross Non 12M / YTD Price Change (%) -27.9 / -13.8 15-Aug-11 13-Feb-12 13-Aug-12 Performing Advances (GNPA) ratio and provision cover % as at 30 June 12 = 2.4% and 65.6% respectively [GNPA est. at end- 2012E: 3.2% and as at end-2013E: 3.0%] Top 5 Shareholders - 30 Jun 12 (%) Historical DuPont Analysis - SAMP Vallibel One 14.8 Ratio (%) 2008 2009 2010 2011 2012A Asset Util. 16.6 17.1 14.3 12.6 13.8 Near term cost consolidation efforts to reduce its expense ratio to single digits Employees Provident Fund 9.8 Exp. Ratio -13.9 -13.5 -10.6 -9.4 -10.1 . Despite accounting for an annualized group expense ratio of 10.1% in 1H2012, SAMP’s Mr. Y.S.H.I.K. Silva 9.5 Tax Ratio -1.6 -2.2 -1.7 -1.3 -1.5 medium term revenue consolidation efforts are likely to increase its sector high ROEs by ROA 1.1 1.4 2.0 1.9 2.1 Rosewood (Pvt) Ltd 6.9 Lev (X) 13.4 12.7 11.7 11.6 12.1 increasing its ROAs. Net Interest Margins (NIM) are expected to remain relatively stable amid Sampath Bank A/C No 2 4.9 ROE 14.6 17.6 23.8 22.1 25.8 volatile interest rates due to relatively high Current And Savings Account (CASA) ratio of
37.0% (30 June 2012) and ~80.0% of int. earning assets under floating rate contracts Year Ended 31 December 2009 2010 2011 2012E 2013E . Foreign exchange gains to increase non interest income (Non II) in the near term (Forex Gross Revenue (Rs mn) 25,560.2 24,816.1 27,469.3 37,083.5 44,435.3 gains / Non II % = 58% in 1H2012); ~40% of forex income comprises translation gains Net Profit (Rs mn) 2,072.5 3,484.5 4,150.6 5,524.7 6,071.7
Earnings per Share (Rs) 13.3 22.3 25.6 34.0 37.4 Fund based growth to drive SAMP’s short to medium term profitability Earnings per Share Growth (%) 38.6 68.1 14.7 33.1 9.9 . Deposits, Advances and EPS grew at 4-year CAGRs (2007 – 2011) of 18%, 17% and 34% Dividend per Share (Rs) 3.1 8.0 9.8 12.6 13.8 to Rs.191bn, Rs.170bn and Rs.26.4 respectively Gross Dividend Yield (%) 3.1 2.9 5.0 7.5 8.2 . Advances and Deposits are expected to grow at 2-year CAGRs of 22% and 24% to Price/Earnings Ratio (X) 7.7 12.2 7.6 4.9 4.5 Rs.254bn and Rs.294bn respectively Net Book Value per Share (Rs) 80.7 107.2 128.3 151.1 176.1
Price/Book Value (X) 1.3 2.5 1.5 1.1 1.0 Attractive sector low multiples and strong forward earnings expectations Return on Equity (%) 17.6 23.8 22.1 24.4 22.9 . Trades at a discount to the market and sector due to its relatively smaller scale (compared to Market Price per Share (Rs) 102.0 271.9 195.0 168.0 168.0 HNB and COMB) and pending near term 10% (ESOP) share sale ; EPS growth, 2-yr forward Net Interest Margin (%) 5.4 5.2 4.4 4.3 4.2 CAGR of 23% Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 36 BANKS, FINANCE National Development Bank (NDB:Rs.117.00) & INSURANCE
Key Trading Information Relative Share Price Performance (%) National Development Bank (NDB), established by an Act of Parliament as a wholly Market Cap (US$ mn) 145.8 state-owned development bank in 1979, has diversified its activities over the past few 110 years in line with universal banking practices to become a total financial solutions Estimated Free Float (%) 66.7 100 3M Avg Daily Share Volume 63,811.3 90 provider. NDB 80 3M Avg Daily Turnover (US$) 51,390.4 ASPI 70 12M High / Low (Rs) 142.5 / 99.0 Fund based operations to drive near term growth 60 . Deposits, Advances and EPS grew at 4-year CAGRs (2007 – 2011) of 33%, 19% and 15% to 12M / YTD Price Change (%) -12.0 / -16.4 15-Aug-11 13-Feb-12 13-Aug-12 Rs.80bn, Rs.102bn and Rs.16.5 respectively. Advances and Deposits are expected to grow at a Top 5 Shareholders - 30 Jun 12 (%) Historical DuPont Analysis - NDB 2-yr CAGR of 26% and 29% to Rs.164bn and Rs.134bn by 31 December 2013. Slower CAGR in Bank of Ceylon A/C No 1 10.0 Ratio (%) 2008 2009 2010 2011 2012A loans is attributable to the credit cap placed on LCBs (by the CBSL) for 2012E Asset Util. 15.9 15.4 12.4 12.0 13.0 Employees Provident Fund 9.6 Exp. Ratio -12.0 -11.4 -8.3 -8.3 -9.6 NIMs to remain stable despite lower CASA ratio in the near term SLIC - General Fund 5.7 Tax Ratio -1.8 -1.8 -2.1 -1.3 -1.5 ROA 2.1 2.2 2.1 2.3 1.9 . NDB’s NIMs are forecast to remain stable around ~3.4% in the near term as 64% of its short Dr. S. Yaddehige 5.3 Lev (X) 6.1 6.5 6.7 7.4 8.1 term interest earning assets are expected to be repriced during 2012E. Group’s Current And SLIC - Life Fund 4.8 ROE 13.0 14.7 14.1 17.3 15.2 Savings Account (CASA) Ratio stood at ~19% as at 30 June 2012 Year Ended 31 December 2009 2010 2011 2012E 2013E Sector best asset quality to complement NIMs & medium term bottom-line growth Revenue (Rs mn) 13,507.6 12,633.5 14,698.7 20,949.3 26,362.5 . NDB’s centralized credit model has enabled it to have the sector best asset quality (Gross NPA Net Profit (Rs mn) 2,084.8 2,102.6 2,705.5 3,064.5 3,686.7 of 1.6% as at 30 June 2012), which is expected to enhance its bottom-line growth in the medium Earnings per Share (Rs) 12.7 12.8 16.5 18.6 22.3 to long term Earnings per Share Growth (%) 5.2 0.9 28.7 12.7 20.3 Dividend per Share (Rs) 7.0 7.0 7.0 8.4 10.1 Attractive near term valuations, EPS growth expectations Gross Dividend Yield (%) 6.8 4.0 4.1 7.1 8.6 . The share trades at attractive PE multiples of 6.3X 2012E (1.0X PBV) and 5.2X 2013E (0.9X Price/Earnings Ratio (X) 8.1 13.6 10.3 6.3 5.2 PBV), with a 2-yr CAGR EPS growth forecast of 16% Net Book Value per Share (Rs) 86.5 93.1 104.1 118.3 136.0 . The share offers gross dividend yields of 7.1% 2012E and 8.6% 2013E, whilst the Bank ROEs Price/Book Value (X) 1.2 1.9 1.6 1.0 0.9 forecast at 16.7% and 17.6% for 2012E and 2013E respectively Return on Equity (%) 14.7 14.1 17.3 16.7 17.6 Market Price per share (Rs) 103.0 174.8 170.0 117.0 117.0 Net Interest Margin (%) 3.6 3.6 3.4 3.4 3.3 Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 37 BEVERAGE, FOOD Ceylon Tobacco Company (CTC:Rs.684.00) & TOBACCO
Key Trading Information Relative Share Price Performance (%) Ceylon Tobacco Company (CTC), an 84% owned subsidiary of British American Market Cap (US$ mn) 972.2 Tobacco (BAT), is the sole legal producer and distributor of cigarettes in Sri Lanka, 210 Estimated Free Float (%) 7.6 180 selling approx. 4.4bn sticks per annum. CTC has a proven track record, with EPS CTC 3M Avg Daily Share Volume 6,046.8 150 having grown at a CAGR of 35% during the past five years. 3M Avg Daily Turnover (US$) 31,282.0 120 90 Focused business model that delivers exceptional returns 12M High / Low (Rs) 730.0 / 385.1 ASPI 60 . Legal monopoly, operating a single product business that enjoys price inelastic demand; 12M / YTD Price Change (%) 73.2 / 39.6 15-Aug-11 13-Feb-12 13-Aug-12 CTC seeks to continually improve its net revenue : gross revenue margin (up 518bps over the past five years), via effective product management strategies Top 5 Shareholders - 30 Jun 12 (%) Net Revenue : Gross Revenue (%)
. Exceptional ROEs of over 100% driven by efficient operating processes (EBIT margin BAT Holdings (Sri Lanka) BV 84.1 21 Gross Revenue (Rs Bn) - LHS 23.8 Net Revenue : Gross Revenue (%) ~60%), an integrated raw material supply chain and an enhanced distribution network 19 FTR Holdings SA 8.3 22.8 17 Pershing LLC SA Auerbach Grayson 0.9 21.8 Effective mitigation of regulatory risk and volume stagnation 15 Belmont Agents Ltd 0.5 . Challenges posed by continual tax-led price revisions (indirect taxes account for ~77% of the 13 20.8 price of a cigarette), regulatory restrictions on advertising & promotion, high income taxes Vontobel Fund 0.3 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012 (effective tax rate of ~41%) and rising health awareness countered through process Year Ended 31 December 2009 2010 2011 2012E 2013E improvements and brand mix optimization Net Revenue (Rs mn) 12,353.9 13,621.7 17,023.4 19,468.5 20,851.7 Net Profit (Rs mn) 4,114.6 5,097.1 6,568.8 7,883.8 8,471.8 Stellar balance sheet amidst strong free cash flow (FCF) generation Earnings per Share (Rs) 22.0 27.2 35.1 42.1 45.2 . Robust FCF generation (~Rs.7.8bn p.a.), debt free balance sheet, negligible capex Earnings per Share Growth (%) 49.0 23.9 28.9 20.0 7.5 requirements and MNC parentage contribute to CTC maintaining ~100% dividend payout Price/Earnings Ratio (X) 8.4 13.0 14.0 16.3 15.1 . Dividend yields (6-7%) remain attractive relative to regional peers, despite strong share Dividend per Share (Rs) 21.9 27.2 34.6 42.0 45.2 price appreciation during the past few years Gross Dividend Yield (%) 11.8 7.7 7.1 6.1 6.6 Price/Book Value (X) 10.3 18.2 25.8 35.9 35.8 Stable equity investment amidst volatile market conditions Return on Equity (%) 136.9 153.2 182.0 221.0 236.9 . Despite relative share illiquidity, premium multiples justified by CTC’s highly resilient business Shares in Issue (mn) 187.3 187.3 187.3 187.3 187.3 model that is expected to continue to deliver steady growth, even amidst weaker economic conditions, and high ROEs Market Price per Share (Rs) 185.0 355.0 490.0 684.0 684.0 . However, trades at a discount to regional tobacco peers Net Revenue/Gross Revenue (%) 21.3 21.4 22.3 23.0 23.1 Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 38 BEVERAGE, FOOD Nestlé Lanka (NEST:Rs.1,146.00) & TOBACCO
Key Trading Information Relative Share Price Performance (%) Nestlé Lanka (NEST), a 91% owned subsidiary of Nestlé S.A., is one of the largest Market Cap (US$ mn) 467.1 players engaged in the manufacturing and distribution of products in the Beverages, 140 Estimated Free Float (%) 9.0 120 Culinary and Dairy sectors in Sri Lanka. NEST is also currently the world’s largest NEST 3M Avg Daily Share Volume 2,443.3 exporter of coconut milk powder. 100 3M Avg Daily Turnover (US$) 21,667.4 80 Emerging market FMCG growth play via the strength of a multinational giant 12M High / Low (Rs) 1,296.0 / 750.0 ASPI 60 . NEST provides exposure to the fast growing local consumer market through the expertise of 12M / YTD Price Change (%) 20.6 / 30.2 15-Aug-11 13-Feb-12 13-Aug-12 a globally recognised MNC with a proven track record of innovation and best-in-class manufacturing processes Top 5 Shareholders - 30 Jun 12 (%) Net Revenue (Rs mn) & EBIT Margin (%) . Influential mix of brands that have a history of mass appeal in Sri Lanka Nestlé S.A 90.8 Net Revenue (Rs mn) - LHS 7,500 16 EBIT Margin (%) Doubling capacity to reap benefits from growing demand Coupland Cardiff Funds PLC 0.6 6,500 14 . Significant demand upside for NEST’s established products with the rise in disposable Ms. Harnam Neesha 0.4 5,500 12 income and improved income distribution, despite pressure on near term domestic 4,500 10 Deutsche Bank AG Singapore 0.3 consumption due to economic slowdown 3,500 8 AVIVA NDB Insurance PLC A/C 07 0.3 2Q2009 2Q2010 2Q2011 2Q2012 . Expansion of middle class population to particularly benefit NEST amidst the change in lifestyle and consumption habits Year Ended 31 December 2009 2010 2011 2012E 2013E . Rs.10bn expansion program (late-2010 until 2017) targeted at doubling capacity and Net Revenue (Rs mn) 19,427.1 21,423.0 25,805.7 29,120.6 32,441.2 presence in all its key segments; to be largely funded by internally generated funds; cash Net Profit (Rs mn) 1,580.3 1,901.1 2,633.3 2,675.2 3,293.3 generated from operations of Rs.4-4.5bn annually Earnings per Share (Rs) 29.4 35.4 49.0 49.8 61.3 . Efforts to increase product sourcing locally to mitigate negative impact of higher import Earnings per Share Growth (%) -5.0 20.3 38.5 1.6 23.1 costs (due to weak currency), although NEST has brand pricing power to gradually pass Price/Earnings Ratio (X) 14.1 18.7 18.0 23.0 18.7 on most cost increases to customers Dividend per Share (Rs) 30.0 34.5 47.5 48.3 59.5 . Evolving and diverse product portfolio to better cater to the local market, coupled with a Gross Dividend Yield (%) 7.2 5.2 5.4 4.2 5.2 superior distribution network Net Book Value per Share (Rs) 33.1 47.5 62.0 64.3 77.3 . NEST enjoys dominant positions in most key operating segments Price/Book Value (X) 12.5 13.9 14.2 17.8 14.8 Premium valuations warranted given brand equity and economic dividend Return on Equity (%) 89.3 87.7 89.5 78.8 86.5 . Premium PER multiples justified by attractive ROEs of ~80%, ~97% dividend payout and Price/Book Value (X) 12.5 13.9 14.2 17.8 14.8 strong upside potential to earnings in the long term Market Price per Share (Rs) 415.0 663.0 880.0 1,146.0 1,146.0 . Favourable valuations vis-à-vis regional peers despite share liquidity constraints Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 40 Chevron Lubricants Lanka (LLUB:Rs.175.00) MANUFACTURING
Key Trading Information Relative Share Price Performance (%) Chevron Lubricants Lanka (LLUB), a 51% owned subsidiary of Chevron Corporation Market Cap (US$ mn) 159.3 120 Inc., is the market leader in Sri Lanka’s lubricants segment (retail segment comprises Estimated Free Float (%) 49.0 110 ~70% sales mix and industrial, the balance), with an est. market share of 60%. LLUB LLUB 3M Avg Daily Share Volume 22,424.6 100 also exports to Bangladesh and the Maldives (~6% of total revenue). 90 3M Avg Daily Turnover (US$) 28,589.3 ASPI 80 Market leader offering a highly recognized global brand 12M High / Low (Rs) 185.0 / 155.6 70 . Well recognized brand, strong parental support, aggressive marketing strategy and a 12M / YTD Price Change (%) 12.2 / 2.9 15-Aug-11 14-Feb-12 14-Aug-12 superior distribution network enables LLUB to maintain market leadership and improve brand mix despite high levels of competition Top 5 Shareholders - 30 Jun 12 (%) Profit Margins (%) Chevron Ceylon Ltd 51.0 35
Superior operations provide a competitive advantage over other operators Lux Aberdeen Global 8.9 30 . Technical expertise and strength of parent provide LLUB with better terms in pricing and 25 Lux Aberdeen Global - EME 3.8 quality in the raw material procurement process 20 GP Margin EBIT Margin Aberdeen Asia Smaller Companies 3.0 . Able to pass on most of impact of base oil price volatility and SL Rupee depreciation to end 15 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012 consumer by way of price increases and protect GP margins (~32%) Barca Global Master Fund 2.9 . Product premiumization and lean operating structure enable margin improvement despite Year Ended 31 December 2009 2010 2011 2012E 2013E volumes coming under pressure in the short term due to slowing economy Net Revenue (Rs mn) 8,690.6 9,471.3 11,039.9 12,632.7 13,646.7 . LLUB is one of only two players (industry total of 14) with a lube blending plant in Sri Lanka, Net Profit (Rs mn) 1,494.9 1,467.8 1,970.2 2,347.4 2,569.6 thus enjoying a ~8% tax benefit vis-à-vis imported lube products Earnings per Share (Rs) 12.5 12.2 16.4 19.6 21.4 Earnings per Share Growth (%) 57.7 -1.8 34.2 19.1 9.5 A relatively liquid MNC at attractive valuations Price/Earnings Ratio (X) 11.4 13.0 10.4 8.9 8.2 . Potential for PE multiple expansion given LLUB trades at a 50-60% discount to other listed Dividend per Share (Rs) 12.0 12.3 9.0 11.7 11.8 MNCs on 2013E earnings, while offering a strong ROE of 50-60% and 6-7% dividend yield Gross Dividend Yield (%) 8.5 7.7 5.3 6.7 6.7 . Net cash positive balance sheet provides potential for higher longer term dividend payouts (from current 55-60%), amidst completion of required capex plans (est. US$10-15mn) for Price/Book Value (X) 7.7 8.6 6.5 5.3 4.1 relocation of blending plant by July 2014 Return on Equity (%) 68.6 66.1 73.0 65.6 56.2 . Superior share liquidity given a 49% free float Shares in Issue (mn) 120.0 120.0 120.0 120.0 120.0 Market Price per Share (Rs) 142.0 159.5 170.0 175.0 175.0 Gross Profit Margin (%) 35.6 32.2 31.5 31.7 32.0 Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 39 Dialog Axiata (DIAL:Rs.6.00) TELECOMMUNICATIONS
Key Trading Information Relative Share Price Performance (%) Dialog Axiata (DIAL), an 83% owned subsidiary of the Malaysian Axiata Group, is Sri Market Cap (US$ mn) 370.7 110 Lanka’s leading mobile telco (est. revenue market share of 50-55%), while also having Estimated Free Float (%) 14.7 100 a strong presence in broadband, tele-infrastructure, pay TV and CDMA, which was 90 3M Avg Daily Share Volume 1,195,310.6 ASPI recently bolstered by the acquisition of pure-CDMA operator Suntel. 80 3M Avg Daily Turnover (US$) 55,058.9 70 DIAL Core mobile segment remains resilient despite strong competition 60 12M High / Low (Rs) 11.0 / 5.1 50 . Potential for a significant boost in earnings through an upward tariff revision (last revision was 12M / YTD Price Change (%) -30.2 / -24.1 15-Aug-11 13-Feb-12 13-Aug-12 in July 2010); not however factored into expectations
. Forecast to maintain a healthy growth in EBITDA, 2-year CAGR of 25% to 2013E Top 5 Shareholders - 30 Jun 12 (%) Group EBITDA(Rs. mn) and EBITDA Margin (%) . Saturation in mobile (penetration of 90%) has been effectively mitigated by focused marketing 5,000 45 Axiata Investments 83.3 EBITDA - (Inc. TDF) and innovative value added services suite EBITDA Margin - RHS Genesis Smaller Companies 2.3 4,000 40 . Despite capex to revenue of ~20%, able to maintain average quarterly FCF of ~Rs.2.8bn. Employee Provident Fund 2.1 3,000 35 Suntel acquisition to provide teeth in the Enterprise & SME segment Dialog Telekom ESOS Trust 1.9 . Suntel, the second largest Small and Medium Enterprise (SME) solutions provider, was 2,000 30 Sri Lanka Insurance Corp. 0.9 2Q2010 4Q2010 2Q2011 4Q2011 2Q2012 acquired for US$34mn – 35mn, i.e. ~3.0X EV/EBITDA in 4Q2011
. Able to leverage balance sheet for further M&A activity (net debt to EBITDA of 0.9X) Year Ended 31 December 2009 2010 2011 2012E 2013E Net Revenue (Rs mn) 36,246.0 41,422.8 45,637.2 52,218.2 57,559.7 Dialog TV (DTV) showing signs of material contribution to EPS growth Net Profit (Rs mn) -2,018.2 4,754.7 5,201.9 4,135.9 6,499.3 . Market leader with 239k subscribers (est. 75% market share) and the only Pay TV operator Earnings per Share (Rs) -0.2 0.6 0.6 0.5 0.8 with island wide coverage Earnings per Share Growth (%) -33.3 N/A 9.4 -20.5 57.1 . Critical mass achieved in 2011, and operating leverage enabling greater contribution to group . Significant growth potential, with current penetration levels as low as 5-7% of households Price/Earnings Ratio (X) N/A 20.4 12.4 11.8 7.5 (88% of households have TVs) Gross Dividend Yield (%) 0.0 1.7 3.2 3.4 5.4 Price/Book Value (X) 2.4 3.3 1.9 1.3 1.2 Trades at amongst lowest valuations vs. regional peers Return on Equity (%) N/A 17.9 16.9 11.9 16.7 . EV/EBITDA of 3.7X 2012E is amongst the lowest in the region Shares in Issue (mn) 8,143.8 8,143.8 8,143.8 8,143.8 8,143.8 . Given the 71% share price decline over the past five years, much of the concerns regarding Market Price per Share (Rs) 7.3 11.9 7.9 6.0 6.0 competitive pressures and forex exposure through US$ debt are priced in to the share EBITDA (Rs mn) 8,304.00 15,084.00 15,795.00 16,718.20 17,661.70 EV/EBITDA (X) 10.8 7.9 5.1 3.7 3.5
Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 41 HOTELS & Aitken Spence Hotel Holdings (AHUN:Rs.68.40) TRAVELS
Key Trading Information Relative Share Price Performance (%) Aitken Spence Hotel Holdings (AHUN), a 71% owned subsidiary of Aitken Spence Market Cap (US$ mn) 174.5 110 (SPEN), both owns and manages hotels and resorts in Sri Lanka, Maldives, India and Estimated Free Float (%) 25.4 100 Oman. The group operates two brands, the high end Heritance (Sri Lanka and India) AHUN 3M Avg Daily Share Volume 23,823.9 90 and 4-star Adaaran (Maldives), and has a total inventory of 1,902 rooms. 80 3M Avg Daily Turnover (US$) 11,959.0 70 Geographically diverse footprint and flexible business model helps mitigate risk 12M High / Low (Rs) 82.9 / 55.0 ASPI 60 . Strong growth in the Sri Lanka segment and improved returns from Hotel Management 12M / YTD Price Change (%) -9.4 / -1.6 15-Aug-11 11-Jan-12 14-Jun-12 (~12-15% of PBT) diversifying exposure from the key Maldives segment (~50-70% of PBT) . Expanding portfolio to incorporate more 4-star hotels to effectively cater to the growing mid- Top 5 Shareholders - 30 Jun 12 (%) Capex in Sri Lanka & the Maldives (Rs mn) market arrivals; China and India are the key tourism markets for the Maldives and Sri Lanka, Aitken Spence PLC A/C No. 1 71.2 2,500 Sri Lanka Maldives and Asian arrivals are growing at a significantly higher pace than European arrivals 2,000 Employees Provident Fund 8.9 1,500 Earnings growth to be driven by booming tourism markets and weak SLR SLIC – Life Fund 2.6 1,000 . Rising average room rates (ARR) on account of the post-conflict tourism revival in Sri Lanka, 500 Ace Cargo (Pvt) Ltd 1.3 investment boosting room capacity and higher occupancy rates expected to significantly boost 0 HSBC Nom. Scottish ORL SML TRG 1.2 FY06 FY07 FY08 FY09 FY10 FY11 FY12 Sri Lankan segment earnings . The Maldives segment is benefitting from robust demand from the Chinese market, which has Year Ended 31 March 2010 2011 2012 2013E 2014E helped mitigate the impact of the Business Profit Tax (12% of PBT, w.e.f. July 2011) Net Revenue (Rs mn) 7,137.7 8,059.2 9,614.8 12,840.1 14,967.1 . Weak Sri Lankan Rupee (SLR) expected to boost earnings as pricing is in US$ Net Profit (Rs mn) 468.8 1,019.2 1,380.3 1,721.6 2,018.0 Ability to leverage strong balance sheet for further capex plans Earnings per Share (Rs) 1.4 3.0 4.1 5.1 6.0 . Net debt to equity ratio of 10.2% as at 30 June 2012, and strong parental support allow for Earnings per Share Growth (%) 12.8 117.3 35.4 24.7 17.2 securing funds for further capex Price/Earnings Ratio (X) 39.5 32.3 17.1 13.4 11.4 . AHUN is presently constructing/expanding three hotels in Sri Lanka and one hotel in the Dividend per Share (Rs) 0.2 0.5 0.7 0.7 0.7 Maldives; it is also in discussions for two large-scale tourism development projects with Gross Dividend Yield (%) 0.4 0.5 1.0 1.0 1.0 international partners, while further investment in South Asia is expected Net Book Value per Share (Rs) 15.4 27.1 33.1 37.6 42.9
Deserves trading at a premium to other local listed hotel groups Price/Book Value (X) 3.6 3.6 2.1 1.8 1.6 . Merits trading at a premium to peers such as John Keells Hotels (KHL) given its model of both Return on Equity (%) 9.8 13.2 13.6 14.5 14.9 owning and managing hotels (KHL purely owns hotels), greater geographical diversity, lesser Shares in Issue (mn) 336.3 336.3 336.3 336.3 336.3 management fee (7.0% of PBT, vs. KHL’s 15.9% of PBT), better ROEs and liquidity Market Price per Share (Rs) 55.0 98.0 70.0 68.4 68.4
Note: Valuations are based on recurring EPS, Adj. for Capital Issues (if any); Historic Valuations are based on Y/E MPS
REDISCOVERING VALUE | Sri Lanka Equity Focus | September 2012 42
Acronyms 43
ADB Asian Development Bank Lev. Leverage ASPI All Share Price Index MFP Ministry of Finance and Planning Asset Util. Asset Utilization Ratio MoM Month on Month AWPLR Average Weighted Prime Lending Rate MPI Milanka Price Index CAGR Compounded Annual Growth Rate NIM Net Interest Margin CASA Current and Savings Account NPA Non Performing Advances CBSL Central Bank of Sri Lanka PBV Price to Book Value CEB Ceylon Electricity Board PE Price/Earnings Ratio CPC Ceylon Petroleum Corporation QoQ Quarter on Quarter CSE Colombo Stock Exchange RDA Road Development Authority BOP ` Balance of Payments ROE Return on Equity BOT Balance of Trade SAGT South Asian Gateway Terminal DCS Department of Census and Statistics SEC Securities and Exchange Commission EPS Earnings per Share SLPA Sri Lanka Ports Authority ETR Effective Tax Rate SLR Sri Lankan Rupee EU European Union SLTB Sri Lanka Tourist Board FDI Foreign Direct Investments SRR Statutory Reserve Ratio Forex Foreign Exchange T-Bill Treasury Bills GBP Great British Pound T-Bond Treasury Bonds GDP Gross Domestic Product TTM Trailing 12 Month GoSL Government of Sri Lanka UNHRC United Nations Human Rights Commission IMF International Monetary Fund US United States of America JV Joint Venture YoY Year on Year KPI Key Performance Indicators YTD Year to Date LCB Licensed Commercial Banks C T SMITH STOCKBROKERS (PVT) LTD
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