Egypt Equity Strategy Report, Sep. 2011 - Jazira capital


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The report follows a top-down approach, starting with a brief on developed and emerging economies, then moving on to Egypt, covering Egypt’s political & macro-economic picture, stock market assessment, comparable analysis with other emerging markets, sectorial analysis, and ultimately our favorite picks from stocks trading on the Egyptian stock market.

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Egypt Equity Strategy Report, Sep. 2011 - Jazira capital

  1. 1. JAZIRA SECURITIES BROKERAGE EGYPT Monday, September 05, 2011 Equity Strategy ReportWhen politics means businessThe US and most of the key European states are expected to see their economies begin to EGP/1US$ 5.96accelerate by early 2013, while the remaining European states, although will have lessdefault risk, austerity measures, to come at par with the EU requirements, will keep them Population (mn) 80from recovering at the same pace. Once both the US and EU economies start to pick-up,we expect emerging economies will begin growing at a faster pace. Nominal GDP (US$ bn) FY11e 225Egypt’s most critical challenge, since the toppling of Hosni Mubarak, in February 2011, GDP/Capita FY11 (US$) e 2,796will be the parliamentary elections, which is expected to be held in November 2011.Once the structure of the parliament is confirmed, the degree of uncertainty regarding the Real GDP Growth FY11e 1.6%shape of Egypt’s political future, will start to subside, and with us putting the odds at 4:1, Annual Inflation (Jun. 2011) 11.8%that it turn for the better, we expect the state of congestion in the economy and indi-vidual spending will start to unwind, at an accelerative pace, by early 2012. Unemployment Rate (Jun. 2011) 12%Egypt’s real GDP in 3Q FY11 ending March, declined by 4.2% on a yoy basis, as the Fiscal deficit % of GDP FY11e -10%hotels & restaurants sector income fell by 1/3. The manufacturing, construction,building materials, transport, wholesale & retail sectors, were also hit, but to a lesser Public Debt % of GDP FY11e 75%extent, by the state of instability Egypt witnessed during February and March 2011. External Debt % of GDP FY11e 12%We expect Egypt’s real GDP growth to culminate at 1.6% in FY11 ending June 2011, Trade Balance FY11 (US$ bn) e -24with expectations of GDP falling 1.2% yoy in 4Q. While we expect GDP to grow by3.6% in FY12, essentially driven by public spending, while the private sector will start to Net Service FY11 (US$ bn) e 8.3recover by end of 2011, once the parliamentary elections have been completed. Transfers FY11 (US$ bn) e 11.9BOP recorded a 3Q FY11 deficit of US$6.1 billion, against an 1H FY11 surplus ofUS$572 mn. The deficit came on the back of a US$5.5 bn portfolio investments outflow Current Acc. FY11 (US$ bn) e -3.7and tourism income falling 34% on a qoq basis. We expect the full year deficit to ex- Capital Acc. FY11 (US$ bn) e -3.4pand to US$8.6 bn, and FX reserves have already been reported to have dropped byUS$9.4 bn in 2H FY11, bringing Egypt’s FX - import coverage ratio to its lowest level BOP Balance FY11 (US$ bn) e -8.6in over a decade. We expect a milder BOP deficit in FY12, supported by donors injec-tions, while a pick-up in tourism and private capital inflows will begin by 2H FY12. FX reserves (US$ bn) Jul. 11 25.7The government has set an ambitious budget for FY12, it will certainly assist in calmingdown the level of discontent among Egypt’s large low-income public sector workforce, EGX Market Cap (US$ bn) 40but we expect its impact on the economy will be undermined by private consumers’ EGX30 PER 2011 e 9.5xspending contraction, which may start to unwind by the end of 2011. Furthermore, weexpect budget deficit in FY12 to reach 13.3% of GDP, while government expects an EGX30 DY 2011 e 4.9%8.6%, on the back of both higher expenditure and lower income expectations. EGX30 YTD Change -35%The EGX30 fell 35% YTD, while a selected 19 peer emerging markets have dropped 9%YTD. However, Egypt is only discounted by 19% compared to the peers’ 2011 PER. Im- EGX Avg. Daily Trading Value 780plying that on an equity pricing level, most of the EGX correction, was to adjust for 2011 (EGP mn)lower earnings and higher tax rates, rather than a straightforward political concern. 6.0 Exchange Rate (EGP/USD)Our favorite sectors on the EGX, are still those of defensive nature, such as food, oil 5.9and pharmaceuticals. However, some cyclical stocks have corrected to a degree, that 5.8accumulating exposure in them, from now to end of year, can prove rewarding once the 5.7market starts to pick-up, if all goes well. Our stock picks are: 5.6The most Favorite of our Picks 5.5 5.4 Sidi Kerir J-09 J-09 A-09 S-09 O-09 N-09 D-09 J-10 F-10 M-10 A-10 M-10 J-10 J-10 A-10 S-10 O-10 N-10 D-10 J-11 F-11 M-11 A-11 M-11 J-11 J-11 A-11 AMOC Juhayna NSGB OT Petrochemicals 8000 EGX30 Index Delta Sugar Maridive Aracemco CIB Telecom Egypt 7000 6000National Maize OCI EIPICO EFIC TMG 5000 Abu kier Glaxo Mobinil GB Auto Amer 4000 Fertilizers D-10 J-11 F-11 M-11A-11 A-11M-11 J-11 J-11 A-11 Alexandria Analyst: Mohamed Fahmy Pachin Minapharm SODIC Palm Hills Spinning Email : The least Favorite of our Picks Mobile: +2012 2157312 1
  2. 2. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy ReportTable of ContentPage 3-4 Global EconomiesPage 5-6 Egyptian PoliticsPage 7-11 Egyptian Economy GDP p7 Inflation p8 BOP p8 Foreign Aid p9 Tourism p9 FX Reserves p10 State Budget p10-11Page 12 Egyptian Stock MarketPage 13 Comparable AnalysisPage 14-22 Sectorial Analysis Banks & Finance p15 Construction & Related p16 Durable Goods p17 Food & Fertilizers p18 Milling p19 Oil Related p19 Pharmaceutical p19 Real Estate p20 Telecom, Media & IT p21-22 Textiles & Related p22Page 23 Jazira Capital Focus Companies Price & Multiples SheetPage 24 Disclosure 2
  3. 3. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report It seems the World won’t get out of the rat-hole until 2013 The developed world is stuck on first gear, there Real GDP Growth (%) may be some better economic figures coming out Greece Ireland here and there, but not with enough momentum Spain Italy to shift the developed economies forward. Portugal UK France US stuck until elections Denmark Euro (17) The US has been performing relatively well in Netherlands Belg iu mRepublicans will give Obama economic terms compared to 2008, but the re- USA Germanyhard time to do much for the publicans, with nearly half the seats on the con- Japaneconomy, with a year left on gress, won’t give Obama an easy time, a year ‐5 ‐3 ‐1 1 3the presidential elections ahead of the, upcoming November 2012, presi- Public Debt % of GDP (2010) dential elections, and the democrats just aren’t Japan fierce enough to subdue the republicans intent. Greece Ital y USA There are talks emerging in the US about con- Ireland sumer debt forgiveness or “write-offs”. A similar France Portugal action was taken in the great recession back inConsumers debt write-off may Germany the 1930s. There is just so much consumer debt, UKbe US’ way-out of the rate- Net herlands that it is choking any potential, for a real growthhole Spain in US consumer spending, which represents 0 50 100 150 200 250 around 71% of the US’ GDP and have grown by Source: WB, Eurostat & JC estimates only 0.2% over the past 14 months. From our stand point, if there will be more quantitative eas- ing measures, it would be better spent on consumers directly, by reducing their debt, rather than more injections of funds into the debt market.The US can’t really default on We disregard S&P’s US debt downgrade, the US will always be able to print more dollars, de-its debt, but more dollars go- fault is not an issue. However, more dollars around can cause further US dollar devaluation anding around, can initiate a new hikes in US inflation.wave of currency devaluation EU & Merkel’s efforts to bring German efficiency to remaining states Euro Zone issues are more significant, with a high contagion risk, as around half the debt ofGermany & France can’t af- states such as, Spain and Italy, are held by institutions from other that any EU country de-fault on its debt, not for the The core issue with the EU debt enigma, is that although the Euro currency is the PIIGS’ nation-sake of the EU community al currency, it isn’t really theirs to print more of,health, but as not to expose and the large EU countries, Germany and B udget Def icit % of G DPtheir own financial systems, so France, aren’t making them forget that. Ireland Greeceeventually they must cave-in So, the only way out for the PIIGS, right now, is UK USA applying austerity measures, in hopes they prove Spain to Merkel and Sarkozy, that they won’t get into Portugal Japan more trouble, if bailed-out. France Euro (17) NetherlandsEU countries default risk lies Japan’s public sector debt is very high. Howev- Italyin the fact that all of these er, Japan has a high savings rate, which makes it Germany Denmarkcountries’ debt is effectively in easier for the government to finance the debt Swedena currency they can’t control with 90% of the Japanese debt is owned by Japa- 0 5 10 15 20 25 30 35or print more of based on their nese institutions and individuals, while in the Unemployment  % economies’ requirements case of the US savings rate is low and 25% of US debt is owned by foreigners. Spain Ireland While in the case of Spain, nearly half the debt is GreeceWe aren’t concerned that some owned by non-Spaniards, and with currency that Portugal Euro (17)EU states remain in recession, they can’t print more of on their own, com- Franceas long as they dont drag the pounded by a negative GDP growth, a sizable USA Italylarger economies with them real estate inventory, tightened mortgage policies Belgium UK and a high unemployment levels, all of which Denmark mean that austerity measures would be met by Germany Japan further public dismay, and may cause an extend- Netherlan… ed economic recession. 0 5 10 15 20 Source: WB, Eurostat & JC estimates 3
  4. 4. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report It seems the World won’t get out of the rat-hole until 2013(Continued) China: All the bases covered Much of the Chinese government stimulus efforts, from 2008 to 2010, were left to the financialChina’s banks may have accu- institutions, the banks lent over US$1.5 trillion to investment vehicles, which then directed themulated bad-debt of around borrowed funds into infrastructure and real-estate ventures. But it is currently estimated thatUS$450 bn from 2008 to 2011 US$450 bn of these loans have went bad, threatening the balance-sheets of the banks that grant- ed the loans. However, it may all be resolved behind the red curtain, with China’s over US$3 trillion FX reserves, a central government public debt representing less than 20% GDP and since most of the lent funds were in Yuan. Commodity prices remain relatively highCommodities have not correct- Commodities have been correcting, but not at an enough rate, to release some of the pressuresed enough to support a new that are on both governments and individuals’ income, in order to create some much needed eco-positive economic wave nomic growth.World economic growth is The fundamental issue with the world’s economy, isn’t really financial, but is that the world haspeaking at the current produc- reached some kind of a peak in its prevailing productivity line, and requires a major technologi-tion technological level cal shift in the methods of production of commodities and energy, to create a new super econom- ic growth cycle. Until then, the world’s economic cycles will suffer longer and sharper reces- sions. Next expansionary cycle may start in early 2013 2010a 2011e 2012e Our analysis of the US, goes inline with the US World GDP Growth 3.8% 4.0% 3.6% Fed’s announcement in early August, that it High Income Countries 2.7% 2.2% 1.9% will keep key lending rates at zero percent to Developing Countries 7.3% 6.3% 6.0% mid 2013, implying the current economic slow- down may take longer than it had previously World GDP (US$ bn) 63,049 67,778 72,590We expect the developed expected. World GDP per Capita (US$) 9,197 9,789 10,380countries to clear their troubles Middle Income 3,980 4,338 4,663in 2012, and initiate a new So, with our expectations of the US will start Lower Middle Income 1,748 1,906 2,020expansionary economic cycle recovering by early 2013, and EU mainly bail-by early 2013 ing out Italy and Spain during 2012, we can see Source: WB & JC estimates headline risk decreasing in 2013, thereby infusing more confidence into producers and consum- ers’ spending on both sides of the Atlantic and gradually bringing the world out of its current slowdown toward a new expansionary economic cycle by mid 2013. Some developing countries are still delivering healthy economic growthTurkey’s recent robust eco-nomic growth is expected to Some countries are still performing well, such as Turkey, which delivered an 11% real GDPnormalize at between 5-6% growth in 1Q 11, although there are worries of the Turkish economy is overheating with a wid- ening trade deficit, low interest rates, and over 30% annual loans growth. China has delivered a 9.5% real GDP in 2Q 11. This was China’s lowest quarterly GDP growth since Q3 09. In addition to world economic slowdown, China has raised interest rates and clamped down on bank lending to ease inflation, which has certainly reduced domestic spending. Other emerging countries are, as seen in 12.0% Real GDP Growth 2011 the corresponding chart, still delivering some good economic growth figures. 10.0% However, the conditions in the US and 8.0% Europe are certainly holding back the po- 6.0% tential growth of emerging markets in gen- 4.0% eral. 2.0% On the medium term, following EuropeEU austerity measures can bailing its ailing economies over the com- 0.0% Indonesia China Hungary Poland Morocco Thailand Brazil Mexico Taiwan Peru Turkey South Africa Russia Korea Malaysia Chile India Philippines Czechactually benefit emerging mar- ing year, it will need to go into furtherkets to a degree austerity measures in order to curb future hikes in budgetary deficits, which is ex- Source: Reuters & JC estimates pected to bring the EU’s consumers’ dis- posable income lower, and can increase the demand on the cheaper emerging markets goods. 4
  5. 5. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report Through the looking glass at Egypt’s Political FutureSCAF acting like a Zen master The Supreme Council of Armed Force - SCAF has been in command of Egypt since the topplingto control a fluid situation of former president, Mohamed Hosni Mubarak, in February 2011. SCAF has been acting like a Zen master since then, exerting a minimum level of action, in order to control the country’s in- ternal and external issues, considering the delicacy required in these troubled times. The SCAF wishes to bring an end to the current turbulent situation, and needs to remain aloof from every- one, since there are so many conflicting notions on the Egyptian political arena and street. Prime Minister, Essam Sharaf has been at the helm of the government since early March 2011, and had a cabinet reshuffle in July that introduced 12 new ministers to the cabinet’s lineup, in- cluding the replacement of finance minister Samir Radwan with Hazem El-Beblawi.Sharaf’s cabinet is operating Sharaf’s cabinet is essentially operating at a “damage control” mode, which is what is expectedon damage control mode from this cabinet, given the size of task at hand and the fact that it isn’t backed by any elected political structure that can give it the vindication, to apply proper reform.SCAF goal is to have a firm The goal of the SCAF, in our opinion, is to sterilize the heightened emotional state on the Egyp-security grip at the time of the tian street prior to the parliamentary elections. For the elections to go smoothly, it requires a highelections in order to avoid degree of restraint and security level, in order to avoid friction between opposing parties.friction between opposingparties At any rate, the real challenges for Egypt are yet to come, in what is promising to be a very stormy winter. The parliamentary elections are expected to be held in November, although as we mentioned, it will be very hard for the SCAF to give a go ahead for the elections, unless it feels the street will deal with it maturely.The real challenge for Egypt is The challenges in the elections, will include the campaigning phase, the elections itself, whichto cross the parliamentary will take around 45 day, as the SCAF proclaimed that the election for both the Peoples Assem-elections smoothly bly and the Shura Council will be held at the same time, on three rounds, with a 15-day intervals in-between each. But the real challenge is how the losers will accept the results. The SCAF has said, it will not permit foreign monitoring of the elections, since this would fringe the sovereignty of the Egyptian state. Although the argument is valid, foreign monitoring can provide a support against those whom will later claim the elections were rigged.There are nearly 35 parties The Egyptian citizens have been in a state of confusion since January 11, with so many variablesplanning to compete in the are in motion, in a pace, that they are not accustomed with. And will get even more confusedupcoming parliamentary elec- with around 35 parties are either registered or attempting to register, in time for the elections.tion Out of these parties at least 10 are non-secular parties. We think that Islamic based political parties will win in total a significant portion of the parlia-We expect non-secular parties ments seats, given their reach into the Egyptian community, the dismantling of the Nationalto capture a significant yet not Democratic Party, which was the sole Egyptian political group with more connections and tiescontrolling chunk of the up- specially in the communities outside the major cities than those of parties that branched out fromcoming parliament’s seats the Muslim Brotherhood. Furthermore, if parties programs fail to grab the interest of the non-politically oriented Egyp- tians, their options will be not to vote, seek the highest bidder on their voice, tribal connections or simply identify with those parties which are identified with similar religion. Islamic based parties are currently fragmented between at least around 5 parties that spun-off the Muslim Brotherhood, and nearly the same number out the more radical Salafi movement. What will happen during or after the elections? Would these parties align their goals or fail and drift further from each others? It can go either way... How the Egyptian public will vote in the first free parliamentary elections, is yet unknown. Even the level of participation may not fair well, given that in the constitutional amendments referen- dum, that were held in March, less than two months after the toppling of Mubarak, had a show rate of less than 41% of the eligible 45 million voters.Gallup’s survey tells that 38% Gallup’s, Abu Dhabi Center issued, in June 2011, the correspond- Egypt’s parliament 2011 outcomeof decided voters are leaning ing survey results, on the expected outcome of the 2011 parlia- survey by Gallup  toward voting for MB’s FJP mentary elections. It does give a hint that Islamic parties are some-   FJP (MB)  15% party how ahead of the other parties, since if we disregard those unde-   Wasat  5%  cided, Freedom & Justice Party has garnered 38% of those whom   Wafd   9%  have already decided on which party they will vote for.   NDP   10%    Undecided  61%  Source: Gallup, Abu Dhabi Center 5
  6. 6. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report Through the looking glass at Egypt’s political future (Continued) More importantly, what will be the reaction of the secular parties, out of which the Tahrir Square youth are? Will their be more riots if Islamic groups do have a significant representation in par- liament? We expect that the SCAF and security forces will show heightened resolve with any- one, who would object to the elections outcome in any manner that will disrupt the peace.Secular parties may need to Another issue, is the fragmentation among secular parties, will they have a joint front that wouldwork better together to have an bring balance to the parliament against the Islamic parties? or will they have separate agendasimpact in the coming parlia- that would weaken their impact?ment The second hurdle is the drafting of the new constitution, which is expected to start following the formation of parliament and to take from three to six months to be finalized. The SCAF has issued its declaration of basic principles to guide the drafting of the upcomingThe basic principles can’t be constitution, in a bid to answer liberals’ requests for some binding statement of rights to protectenforced by the SCAF without them against the possibility of an Islamist takeover. The Turkish military assigned itself a similarhaving powers superseding supervisory role after its 1980 coup. However, without a public referendum on accepting thesethose of parliament principles and explicitly giving the Army the upper hand over the parliament, when it comes to fringing any of these principles, this declaration constitutes little value in itself.There is an 80% chance that Freedom & Justice Party, the flagship party that spun-off the MBs, has said that it will endorse athe coming constitution will be constitution that doesn’t fringe on individuals private lives and wouldn’t go to drafting lawssecular with the guidance from based on applying Islamic Shariaa. If the FJP align with other parties that agree with this ap-Islamic Shariaa, not far from proach, there is a good chance that Egypt’s coming constitution will provide an actual reformthe previous one in this respect from the previous one, but will not change the loosely secular nature of the country. The other alternative, which is an Islamic shariaa based constitution and what would this have on creating laws that would fringe on individuals lives provides an enigma, from an economic standpoint. Both since there are indefinite levels and interpretations of what is Shariaa, and each level will have its implications on tourism, foreign investment and even the migration of some of Egypt’s capital and talented workforce. The third hurdle is the presidential elections, which if the parliamentary and constitution are completed in time, is expected to be held sometime between May and July 2012. However, once the parliament and constitution are in place, this step is not expected to be as challenging.The future Egyptian political So from now, to the end of year, heightened uncertainty prevails, and an apparent political struc-structure will start to take ture will not formulate at least until the second half of 2012. There is good possibility that mat-shape by the end of the year ters will develop in a manner that wouldn’t deter economic growth or foreign investment. How- ever, it will remain a speculative environment until at least the end of the current year, and from there on, the level of uncertainty will start to gradually reside. Egypt’s finance minster, at the time, Samir Radwan, said in July 11, that Egypt will not draw-Egypt attempts to remain inde- down on the US$3 bn loans offered by the World Bank and IMF. This came at the request ofpendent in its path toward de- SCAF, on the basis that it doesn’t wish to increase Egypt’s foreign debt levels. However, themocracy may upset foreign WB may have tagged, as usual, a batch of demands that the SCAF didnt see in favor of Egypt orfunding gatekeepers won’t be taken well by the public. In August, the newly appointed finance minister, Hazem El- Beblawi, said Egypt may do draw-down on the aforementioned loans. Anyway, if our assumptions are true that the reasons for SCAF refusal, are due to a political dif- ferences in opinion, then Egypt may have upset the gatekeeper to foreign funding, and would have also shown adrift of what the US wishes. This may create a shortage of foreign funding for the period until matters are resolved one way or another. Following the death of 5 Egyptian army and security force personal, in fights that included Israe- li military forces, whom have crossed the boarders into Egypt on August 18th, to follow Palestin-Anti-Israeli sentiment rise on ian assailants, whom have killed 7 Israelis on the same day, in the close to the border, Eilat town,the Egyptian street have caused the level of tension between the two countries to escalate. Talks about withdrawing the Egyptian ambassador to Israel were rumored. In response, Israel’s defense minister, Ehud Barak, said two days later, that Israel deeply regrets the death of the Egyptian soldier, and launched an investigation into the matter. It isn’t in the benefit of neither Egypt nor Israel to es- calate the situation. However, the level of hostility to Israel has spiked on the Egyptian street, and will take sometime and a more formal type of apology from Israel to neutralize the situation.Egyptian Army launches oper- However, the real issue is the increased lack of security specially in Sinai (detailed in page 9)ation “Eagle” to eradicate mil- and the resurgence of militant groups in the peninsula, which can, until resolved, have a negativeitant group from Sinai impact on tourism, in areas such as Sharm El-Sheikh, which has been already suffering. 6
  7. 7. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report The Egyptian Economy Quarterly Real GDP Growth (yoy) 8.0% The Egyptian GDP dropped 4.2% in real terms, 6.0%Egypt’s GDP falls 4.2% yoy in over the quarter from January to March 2011 com- 4.0%3Q FY11 pared to the same quarter in 2010, as economic ac- 2.0% tivity nearly froze from January 28th to February 0.0% 11th, in addition to the ensuing workers strikes, -2.0% 1Q 2Q 3Q 4Q which reduced productivity, as well as the elevated -4.0% FY10 FY11 lack of security, and capital and consumers’ spend- -6.0% Source: MoF & JC estimates ing contraction.Hotel and restaurants sector The section of the economy that was hit the most during that quarter, was the restaurants & ho-take the hardest hit during the tels sector, which witnessed a 33% yoy drop in its income to EGP6 billion in 3Q FY11 downquarter from EGP9.0 billion in the same period of 2010. Furthermore, its contribution to the private sec- tor portion of GDP dropped from 6.9% in 3Q FY10 to 5.0% in the last reported quarter. FY ending June 2010a 2011e 2012e The tourism sector employs over 1.4Tourism employs 6% of Population (mn) 79 80 82 million person, representing around 6%Egypt’s workforce and have a Workforce (mn) 26.2 26.4 26.6 of the Egypt’s 26 million workforce andfull impact representing 13% Unemployment 9.7% 11.9% 12.1% has an indirect impact on the economy,of GDP which have been estimated in FY10 to bring the full impact of the sector to Inflation (CPI) 12% 11% 10% about EGP155 bn, or 13% of GDP. Inflation (PPI) 5% 20% 12%Unemployment rise to 11.9% The drop in tourism, was essentially the Real GDP Growth 5.1% 1.6% 3.6%at the end of June 2011 com- main attribute to the surge in unemploy- Public 3.1% 3.2% 4.7%pared to 9.7% a year before ment rate to 11.9%, at the end of June Private 6.4% 0.6% 2.9% 2011, compared to 9.7% a year before. Other sectors that were hit in 3Q FY11, GDP Breakdown included the manufacturing, construc- Public 37.0% 37.6% 38.0% tion & building materials, transport and Private 63.0% 62.4% 62.0% the wholesale & retail sectors, the drops in these respective sectors were 11.4%, Nominal GDP (EGP bn) 1,151 1,306 1,490 9.1%, 9.7% and 7.9%, respectively. Nominal GDP (US$ bn) 209 225 246 On the other hand, Suez Canal income GDP per Capita (EGP) 14,620 16,242 18,136Suez Canal robust revenuegrowth was supported by the showed a robust 11% yoy growth dur- GDP per Capita (US$) 2,653 2,796 2,998minor Egyptian pound devalu- ing the quarter to EGP6.8 billion, which EGP/USD 5.51 5.81 6.05ation was partially supported by the minor devaluation of the Egyptian Source: CBE, MoF & JC estimates pound by 4% during the quarter vs. a year before.We expect 4Q FY11 real GDP We project a milder GDP drop in 4Q FY11 ending June 2011, than the 3Q FY11 drop, with realto show a yoy drop of 1.2% GDP estimated to have declined in 4Q by 1.2% compared to the same quarter the past year. The 4Q drop is expected to come essentially from the private sector GDP contribution, which weWe project FY11 GDP to predict will drop on a yoy basis by 2.4%, while have dropped 7.0% in 3Q FY11.grow by 1.6%, lifted-up by arobust 1st and 2nd quarters’ of Based on our 4Q FY11 GDP expectations, we estimate that FY11 will close, with an annualthe year performance GDP growth of 1.6%, driven by 5.5% and 5.6% growth recorded in the year’s first two quarters. Over FY12, we expect a 3.6% real growth in the Egyptian economy. The growth will be essen-We expect FY12 GDP to grow tially driven by the public contribution to GDP. The private sector is estimated to grow by 2.9%by 3.6% supported by higher over the fiscal year, but the bulk of this growth is expected to be delayed to the second half ofpublic spending the year, following the completion of the parliamentary elections and some kind of vision starts to materialize with regards to Egypt’s political direction for the coming period. Furthermore, 2H FY12 will be compared to an already weak 2H FY11, which will boost its growth rate levels. We expect that if parliamentary elections pass smoothly and in the right direction, the Egyptian economy will enjoy attractive growth levels over the period of the coming global economic ex- pansionary cycle, which we predict will kick-off by early 2013. With corruption more contained, a continuity of leadership policies in place, and less politically frustrated population, all together will encourage foreign and local investment as well as spend- ing. 7
  8. 8. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report PPI by Year to June Producers endure lower margins Processing Classification 2011 Egypt’s producer price index - PPI, has shown an inflation Fuel 35.2% Cotton 89.5%PPI rise 70% over CPI in the level of over 20% in the year ending June 2011, while the Raw Materials 25.8%year ending June 11 consumer price index has shown cost of living has inflated Semi-Finished Goods 6.2% by 11.8% over the same period. Finished Goods 9.4% The intriguing point here, is that the PPI components, Overall PPI 20.1%Both raw materials & energy which shown the highest inflation, were those of basic in- CPI Inflationwitnessed significant spikes in put components of production, while the finished goods Overall CPI 11.8%prices price increase was even below the CPI overall annual Food & Beverages 19.0% growth. This implies that somewhere down the chain, pro- Tobacco 69.9% ducers were not able to pass the increased cost to the end Clothing 2.2% consumer, i.e, producers margins have been shrinking. Housing & Utilities 1.1% Furniture 2.5%Food & beverages, tobacco Looking at the cost of living, tobacco, food & beverages Medical Care 1.9%and education were the 3 and education were the three sections that witnessed the Transportation 1.1%spending criteria of the Egyp- highest inflation in the year ending June 2011, and we be- Communication 0.1%tian cost of living that wit- lieve their inflation would impact the general population in Entertainment 5.9%nessed the highest inflation in a manner that can well make consumers less able or at least Education 24.3%FY11 less willing to spend over the coming period on more non- Hotels & Restaurants 12.1% essential types of spending. Source: Ministry of Finance External account witness huge deficit 4 BO P Balance (US$ bn) Egypt recorded its largest BOP quarterly deficitEgypt reports a US$6.1 bn in over a decade, in 3Q FY11 ending March. A 2BOP deficit in 3Q FY11 whopping US$6.1 billion deficit was reported in the quarter vs. a BOP surplus of US$555 mn 0 1Q 2Q 3Q 4Q in 3Q FY10. (2)The major reasons for the defi- The deficit came essentially on the back of (4)cit are capital flight... portfolio investment recording outflows of FY10 FY11 funds of US$5.5 billion during the quarter com- (6) pared to US$5.6 billion inflows during 3Q FY10. FY Ending June (US$ bn) 2010a 2011e 2012e Trade balance (25.1) (23.9) (22.6) FDIs also shown a negative figure in the latest Export Proceeds 23.9 25.4 27.6...FDIs shifting to a negative reported quarter of US$164 million, not a big Import Payments (49.0) (49.3) (50.2)figure,... figure, but its comparable figure in 3Q FY10 Services (Net) 10.3 8.3 8.5 was a net inflow of US$1.7 billion. Service Receipts 23.6 21.8 21.6 Transportation 7.2 8.0 8.9...& tourism revenues 15% yoy Tourism related revenues, also witnessed a 15% Travel 11.6 10.7 9.2fall in 3Q FY11 and 34% yoy and qoq respective drop during Payments (13.2) (13.5) (13.1) 3Q FY11 to US$392 million. Goods & Services (14.8) (15.6) (11.6)We expect a deficit of US$2.9 We predict the BOP will report a deficit of Transfers 10.5 11.9 12.2bn in 4Q FY11, on the back of US$2.9 billion in 4Q FY11, as a result of a Current Account (4.3) (3.7) (2.9)lower tourism revenue, expat 25% yoy drop in travel income, although it Capital Account 8.3 (3.4) 2.1transfers and further portfolio would be a 5% rise on a quarterly basis. also, Net errors & omissions (0.7) (1.6) (0.6)investment outflows transfers will be impacted by the turbulent situ- Overall Balance 3.4 (8.6) (1.4) ation in Lybia, and Yamen and some expats FX Reserve 35.2 26.6 25.2 may see no sense into transferring money to FX Reserve/Imports (months) 8.6 6.5 6.0 Egypt until the picture becomes more clear. Source: CBE, MoF & JC estimates Furthermore, we expect the capital account to record a deficit of US$1.6 bn in 4Q FY11, as a continuation of portfolio investment outflow.A lower deficit in FY12 on We expect a smaller deficit in 2012, as a result of hopes that the promises of regional and inter-expectations of capital account national loans start to materialize, while we expect real FDI and portfolio investment inflows toturning positive on hopes of recover by 2H FY12, with its influx pace depending on the political situation at that time.donors promises materializingand private funds turning to Egypt Refinery Company - ERC, which is currently being established, at an investment cost ofinflows by 2H FY12 US$3.7 bn, will produce once operational, 4 mn tons of refined petroleum products per annum, including 1.5 mn tons of diesel. This will reduce Egypt refined petroleum products import bill significantly, which currently represent around 11% of Egypt’s imports value. 8
  9. 9. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report Promised funds US$ bn Donors Promises Saudi Arabia 4Arab states promised over The United Arab Emirates promised that it would give Egypt Qatar 10 US$3 billion in financial assistance, which includes a US$1.5 UAE 3US$17 bn to support Egypt’s billion fund for small to medium businesses, US$750 million in IMF 3economy loans, and a US$750 million grant. USA 2 Total Promised Funds 22 Saudi Arabia pledged US$4 billion, out of which US$500 mil- JC Database lion are a grant to help finance the budget deficit, US$500 mil- lion in loans, and US$500 million in Egyptian bond purchases. Qatar promised Egypt a ballpark figure of US$10 billion, which probably will be mostly invest- ments, but the country has also given some grants. In the weeks that Egypt was revising its budg- et, so not to take on IMF loan, Qatar provided US$500 million grant to help the budget.Indecision on whether to ac- However, Hazem El-Biblawy, Egypt’s newly appointed finance minister and deputy PM, saidcept or reject IMF loans that he has not fully ruled out that Egypt may tape into the US$3 billion offered by the IMF. The US promised to offer US$1 billion in debt forgiveness and another US$1 billion in loan guarantees as support to nurture and advance the democratic strivings. The last part has steered some controversy among the Egyptian community and even in the government, since it had the implication of supporting groups that the US favor or have connections with. The sum of the aforementioned funds will be injected over a long period, of more than a year, not all will materialize, and some will not impact the BOP in the way it should. Tourism woes under security concernsTourist arrivals drop 45% yoy Tourists arrivals fell 45% in 3Q FY11, following the outbreak of violence on the backdrop of thein 3Q FY11 January and February 2011 demonstrations. Security is still weak all over Egypt in general, and Sinai’s lack of security is now capturingLack of security and militant world’s headlines, with gunmen, in late July 2011, have attacked Northern Sinai capital, Arish,groups in Sinai have relatively police station in a shootout that continued for 9 hours and with an outcome of five killed, includ-turned-off tourists for now... ing one police and one army officers. The injured were estimated to be 21 in total. Not far away from Arish, saboteurs have blew-up Egypt’s gas supply pipeline to Israel and Jordan over 4 times since last February.In response the army launched No attacks have targeted tourists, but the feel of insecurity has rippled to potential visitors. Theoperation “Eagle” to restore Egyptian army and security forces initiated in early August, operation “Eagle” to flush out thesecurity to the Sinai peninsula Sinai militant groups, but it will take time to bring peace to the Sinai peninsula, and all this was compounded by a rise in the tension, over the last couple of weeks, on the borders between Egypt and Israel.We expect hotel occupancy in All this have and will continue to have an impact on Egypt’s hotels occupancy rate, which fellFY11 to stand at 70% support- from 94.3% in 1H FY11, to less than 49% from January to May 2011.ed with 1H’s 94% high occu-pancy levels 1H FY11 witnessed a 14% and 16% increase in tourist arrivals and revenues, while we expect the drop in both items in 2H FY11, will cause a whole FY11 drop in both indicators to culminate to 12% and 8% respectively. FY ending June 2010a 2011e 2012eIn FY12, occupancy will fall Number of Tourist Arrivals (k) 13,758 12,146 11,055 A more significant drop in tourism arri- Growth 12% -12% -9%to 62%, however, still much vals, revenue and occupancy rates in Average Tourists per Month (k) 1,147 1,012 921better than 2H FY11 estimated FY12, compared to FY11, although Number of Tourist Nights (k) 136,370 123,838 109,578rate of 48.7% Tourism Related Income (US$ mn) 11,591 10,688 9,242 FY12 tourism activity is expected to be better than that of 2H FY11 estimates. Growth 11% -8% -14% Income/Tourist (US$) 842 880 836 Hotel Rooms (k) 215 219 219 Occupancy Rate (e. 2.2 tourist per room) 79% 70% 62% 1H (Jul. - Dec.) 3Q (Jan. - Mar.) Apr.-May 2H (Jan. - Jun.) 2010a 2011a 2010a 2011a 2011a 2010a 2011e Number of Tourist Arrivals (k) 6,824 7,796 3,464 1,894 1,509 6,934 4,350 Growth 13% 14% 0% -45% n/a 11% -37% Average Tourists per Month 1,137 1,299 1,155 631 754.5 1,156 725 Number of Tourist Nights (k) 70,666 81,680 31,958 21,083 14,050 65,704 42,158 Tourism Related Income (US$ k) 6,007 6,943 2,716 1,792 n/a 5,584 3,745 Growth 5% 16% 24% -34% n/a 18% -33% Income/Tourist (US$) 880 891 784 946 n/a 805 861 Occupancy Rate (e. 2.2 tourist per room) 83.2% 94.3% 75.2% 48.7% 48.6% 77.4% 48.7% Source: MoF, CAPMAS & JC estimates 9
  10. 10. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report BOP deficit weighed heavily on FX reserves The BOP’s high deficit level in 3Q FY11 and the estimat- FX Reserve Monthly Change (US$ bn)  Jan‐11 Feb‐11 Mar‐11 Apr‐11 May ‐11 Jun‐11 Jul‐11FX reserves drop by US$10.3 ed one for 4Q FY11, have resulted in a net drop of over 0billion from the beginning of US$9.4 billion in Egypt’s official FX reserves from the ‐0.5the year to the end of July end of December 10 to end of June 11. July FX reserves ‐1 ‐1.5 figure showed a further US$860 million drop to US$25.71 ‐2 bn, or a US$10.3 billion YTD drop in Egypt’s FX re- ‐2.5 serves . ‐3 ‐3.5 Based on our projections for the BOP in FY12, we expect Source: CBE a minor drop in reserves to 25.2. Not a big drop, but this assumption depend largely on donors fulfilling at least a portion of their promises. We don’t expect real FDIs or portfolio investments influx, prior to the beginning of 2012. FY ending Net Int’l Net Int’l Imports Trade Deficit Imports Trade Deficit June Reserves Reserves Coverage Coverage In USD bn USD/€ In € bn In USD bn In USD bn Months Months 2000 15.1 0.93 16.4 17.9 11.5 10.1 15.8 2001 14.2 0.90 15.9 16.4 9.4 10.4 18.3The FY11 end of year FX re- 2002 14.1 0.95 15.0 14.7 7.5 11.6 22.6serve level, translates to 2003 14.8 1.13 13.1 14.8 6.6 12.0 26.9 2004 14.8 1.24 11.9 18.3 7.8 9.7 22.7Egypt’s lowest Import and 2005 19.3 1.25 15.5 24.2 10.4 9.6 22.4trade deficit coverage ratios in 2006 22.9 1.26 18.3 30.4 12.0 9.0 23.0over a decade. 2007 28.6 1.37 20.8 38.3 16.3 8.9 21.0 2008 34.6 1.47 23.5 52.8 23.4 7.9 17.7 2009 31.3 1.39 22.5 50.3 25.2 7.5 14.9 2010 35.2 1.33 26.5 49.0 25.1 8.6 16.8 2011 26.6 1.39 19.1 49.3 23.9 6.5 13.3 Source: MoF & JC calculations Government formulates a generous budget for FY12Egypt had to go for easing With the government stuck between managing a healthy budget, on one side, and on the otherpolicies through higher deficit side, needed to adhere to popular demands to see the impact of the Egyptian revolution ripplingto reduce public’s discontent through higher wages and benefits right away, have chosen to cave-in to the latter. Thereby for-with government mulating a budget, which underlined a 22% spike in the government’s annual payroll bill and increasing healthcare and educa- tion budget by 17% and 10%, re- FY ending June (EGP bn) 2010a 2011e 2012b 2012eThe main theme of the FY12 spectively compared to FY11 Tax Revenues 171 200 232 212budget is a 22% spike in pub- out of which: budget figures. Income & Capital Tax 77 93 110 97lic employees’ compensations Taxes on Goods & Services 67 77 85 80to represent 36% of the gov- The budget underline some as- Grants 4 5 10 10ernments revenues sumptions, which we are not sure Other Revenues 93 90 107 103 it can achieve. Total Revenues 268 294 350 325 Although government spending Employees Compensations (85) (96) (117) (117) will spike, general sentiment isn’t Purchase of Goods & Services (28) (29) (30) (30) Interest Expense (72) (87) (106) (130) that strong, government expansion- Subsidies & Social Benefits (103) (140) (158) (167)Even with the new budget’s ary budget will most probably im- out of which:: - - - -5% increase in income tax pact the basic goods segments of Food Commodities (17) (28) (19) (26)bracket for corporates taxable the economy, causing increase in Petroleum (67) (82) (96) (96)income over the EGP10 mn demand and inflation in these seg- Electricity n/a (1) (5) (5)threshold, which the govern- Export Incentives (3) (3) (3) (3) ments, but we don’t expect it to Other Expenses (29) (37) (32) (32)ment estimates will generate have much impact on the other Investments (48) (41) (47) (47)around an extra EGP4.8 bn. of segments of the economy. Total Expenditures (366) (428) (491) (523)income tax revenues, we as-sumed lower than the FY12 Furthermore, output may grow, but Budget Surplus (deficit) (98) (133) (141) (198) % of GDP -8.5% -10.2% -8.6% -13.3%budgeted income tax revenues, cost has increased too, partiallyon lower overall taxable in- due to higher wages, which will Gross Domestic Budget Debt 808 979 1,109 1,183come expectations yield a lower return on sales, and External Debt 149 160 165 175 consequently taxable income Gross Budget Debt 957 1,140 1,274 1,359 Budget Sector Deposits 145 153 156 154 would grow at a lower rate than Net Debt 813 987 1,118 1,205 nominal GDP. Gross Debt % of GDP 83% 87% 82% 91% Net Debt % of GDP 71% 76% 74% 81% b: government budget figures Source: MoF & JC estimates 10
  11. 11. JAZIRA SECURITIES BROKERAGE EGYPT September 5, 2011 Equity Strategy Report Government formulate a generous budget for FY12 (Continued)We believe the government Also, the budgeted food commodities subsidy plan of EGP19 billion for FY12, compared to anhas underestimated food com- estimate of EGP28 billion to have been spent on food subsidies through FY11, seems very low.modity subsidy value in FY12 We assume that this budgeted 32% drop in food subsidy, is based on the government’s expecta-budget tions of a drop in commodities prices and increased local output. But those two assumptions won’t bring subsidies that low. 400 Wheat & Corn Prices (US$/ton) 350 Prices of wheat and corn, two of Egypt’s most essen-Both wheat & corn prices up- tial imported food commodities for instance, have 300ward trend has not been dropped 14% and 6% respectively during the two 250thwarted yet months to July 2011. However, have shown another 200 Wheat 150 Corn upward movement in August 11, and now wheat and 100 corn prices are 14% and 24% higher than their 12 Jan-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10 Oct-10 Nov-10 Dec-10 Jan-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Feb-10 Sep-10 Feb-11 month average price in the period of the Egyptian Source: USDA government’s FY11, ending June 2011. 13% 91 day TB Interest Rate Another expense item, which we expect to record 12%We expect higher than budget- higher than the government’s FY12 budget figure, is 11%ed debt service given the spike debt service. Interest rates on 91 TBs, as an example, 10%in the government’s notes in- have spiked 26% since end of January 2011. We as-terest rates since the revolution sumed that the all interest rates will continue at their 9% current levels for the FY12, and concluded that it will 8% cost the government around an extra EGP24 billion 7% N-10 J-10 M-10 M-10 J-10 S-10 J-11 M-11 M-11 J-11 of interest expense in FY12, than it had budgeted. Source: Reuters We believe the FY12 budget, is the most appropriate for Egypt’sThe interim government has current political and social conditions. The SCAF and government need to deflate the Egyptianemphasized in its FY12 budget street’s heightened emotional state, that it has been experiencing since late January, in order toon focusing on low income be able to go through the upcoming parliamentary elections in the best manner possible.segment of the Egyptian com-munity, a pattern we expect to The government may for the coming couple of years, as it highlighted in the FY12 budget presscontinue, although a balance release, will put a priority on improving the wellbeing of the low income segments of the com-will be needed between im- munity. There is a wide gap between the low income and the middle income segments of theproving the wellbeing of low population and actually narrowing it down, would on the long-term support Egypt’s economicincome citizens and in the appeal. However, this may to a degree come at the account of the business community. The de-same time, not chocking the gree this will have on the business community and how the current interim government and thebusiness community future governments, will strike a balance between improving low-income citizens wellbeing, while not dampening the business environment, will be the main determinate for their success.The government is studying to Finance minister, Dr. Hazem El-Beblawi, said in early August 11, that the government is as-eliminate subsidies on indus- sessing methods to rationalize petroleum products consumption, with one of the options on thetries that are energy intensive, table is to remove all energy subsidies from industries such as cement, steel, fertilizers and ce-which represent around 20% ramics.of Egypt’s energy subsidy cost Energy subsidies alone consume 28% of the governments revenues and if the energy intensiveEnergy subsidy represent 28% industry energy subsidy is removed, it would reduce budgetary pressure by EGP19 bn, implyingof the budget revenues a 4% reduction in the budget’s expenditures. It is estimated that energy intensive industries, which include fertilizers, cement, chemicals, iron & steel, aluminum, and other industries, cap- ture around 20% of Egypt’s government energy subsidies. A major adjustment in diesel and petrol prices, would provide a more significant reduction in deficit, but will be met by fierce resistance by the Egyptian community at the time being.Egypt’s crude oil R/P stands at Egypt has a crude oil reserves to production - R/P ratio of 16 years, versus an African and Global16 years ratios of 36 and 46 years respectively. Even natural gas, which Egypt is said to have an abun- dance of, has its R/P ratio at 35 years, while Africa and World ratios stand at 77 and 46 years, respectively. Egypt depends on oil and natural gas for 44% and 50% of its energy needs, respectively. TheEgypt is currently a net export- negative impact of energy subsidies is somehow subdued, since Egypt is a net exporter of crudeer of crude oil by a ratio of 2:1 oil by a ratio of 2:1 to its imports of petroleum products, so for the time being, it is hedged fromto its petroleum products im- global oil price volatility. However, the fiscal budget can’t withstand indefinite deficit levels,ports and more hikes in public debt levels, can get interest rates and inflation spiraling and further currency devaluation can ensue. 11