Market Strategy Sri Lanka - jksb.keells.lkMarket Strategy.pdf2 l John Keells Stockbrokers (Pvt) Limited l Market Strategy Executive Summary Through the years of war, the Sri Lankan

This document is published by John Keells Stockbrokers (Pvt.) Limited for the exclusive use of their clients. All information has been compiled from available documentation andJKSB’s own research material. Whilst all reasonable care has been taken to ensure the accuracy of the contents of this issue, neither JKSB nor its employees can accept responsibilityfor any decisions made by investors based on information herein.

John Keells Stock Brokers (Pvt) Ltd.130 Glennie Street Colombo 2 Sri Lanka

Company No. PV 89

Market Strategy August 2009

“Through the years of war, the SriLankan economy has been describedas resilient. Indeed, a 6.42% averagegrowth during the last five years, that’sduring the height of war, proves it. Thewar is over. 28 years of wishful thinkingis now, reality. Its early days yet, but ourpreliminary analysis is encouraging,global doom notwithstanding.”

Sri Lanka JKSB Research Publication

Time to scale new heights...

2 l John Keells Stockbrokers (Pvt) Limited l Market Strategy

Executive Summary

Through the years of war, the Sri Lankan economy has been describedas resilient. Indeed, a 6.42% average growth during the last five years,that’s during the height of war, proves it. The war is over. 28 years ofwishful thinking is now, reality. Its early days yet, but our preliminaryanalysis is encouraging, global doom notwithstanding.

The immediate focus will be on the resettlement of approximately 300,000 displacedpersons and the reconstruction of the North and East, home to approximately 13.5% ofthe population and some of the country’s most fertile agricultural and fishing groundsand mineral deposits. On our estimates, the base case rebuilding of the two provinces isthe equivalent of 4% of nominal GDP per year for at least the next 2-3 years. Fundingwill be a challenge, with heavy dependency on foreign aid. However, several large scaleinfrastructure projects are on the pipeline with funding commitments in place fromforeign sources. We upgrade our GDP estimates for CY09 to 4.3% from 2.5%. CY10stands at 8.6%.

Inflation has as anticipated, plummeted, with falling costs. The CCPI on a point topoint basis recorded a 5 year low at 0.9% in June 2009. Interest rates have started itsdecent after a lag. The benchmark 364 day Treasury bill has shed over 635bps YTD tostand at 11.97%.

Depleting reserves and a resultant currency risk emerged in the 1Q of the year as theexternal financial system crisis bit in. However, this subsided with the significant inflowof external aid and funding following the end of the war. The trade deficit has shrunk bymore than 60% during the first five months of the year. And the IMF US$ 2.6b Stand-By agreement is likely to lay to rest any remaining fears over currency.

The market has picked up by over 67% YTD. Activity levels have similarly increasedwith post war average daily turnover doubling to approximately Rs.695m. Domesticturnover should be boosted further with the drop in interest rates.

Corporate earnings have grown by a CAGR of 12% over the last 5 years, a period whichcaptures both the Tsunami devastation and the escalation of the war. The end of the warnow offers Sri Lankan companies the unique opportunity to grow domestically despiteexternal uncertainties as well as rev up further when the externalities swing positive. Weconservatively expect the benefits of peace and reconstruction to kick in from FY11leading to an earnings growth of 15% for FY10 followed by 34% in FY11. Givenexpectations of sustained growth, the removal of war premiums and softening interestrates, multiples of 8.5x FY11E earnings presents a compelling case for the ColomboBourse.

Our immediate focus is on counters with strong exposure to the Construction, Leisure

and Financial Services sectors.

On our estimates, the base case rebuilding

of the two provinces is the equivalent of 4%

of nominal GDP per year for at least the next

2-3 years. Funding will be a challenge, with

heavy dependency on foreign aid. However,

several large scale infrastructure projects

are on the pipeline with funding

commitments in place from foreign

sources. We upgrade our GDP estimates for

CY09 to 4.3% from 2.5%. CY10 stands at

8.6%.

Cover picture : The site of the ancient Tiru Koneswaram Temple on Swami Rock, Trincomalee, off the east coast of Sri Lanka

John Keells Stockbrokers (Pvt) Limited l Market Strategy l 3

Political Overview

The End of the LTTE

With the demise of leader Prabhakaran in mid May 2009 and the destruction of itsfighting formations, the LTTE, after three decades, has been all but destroyed as aninfluence on the political landscape of Sri Lanka. A legacy of around 300,000 displacedpersons housed in temporary camps now presents the primary hurdle. Whilst expressinga firm commitment towards early resettlement, the government has kept firm controlover the process.

Demilitarization

A process of de-militarization has got under way much faster than anticipated. GeneralSarath Fonseka, who was the chief orchestrator of the successful war effort, has alreadystepped down as commander of the Army and been appointed to the new position ofChief of Defence Staff. The Navy Commander will similarly relinquish office and takeup the position of National Security Advisor. Structured programs of rehabilitation offormer LTTE cadres have been embarked.

Elections

President Rajapakse has indicated his willingness to advance the date of the nextPresidential Election (due in late 2011) to early next year (with a tentative date of Januarybeing indicated), a logical move given the popularity that the military win has garnered.An overwhelming win for him can be used to push momentum for a General Electiona few months later. A strong mandate here will reduce the influence of the fringe extremistSinhalese parties like the JHU and the JVP on the governing coalition. He has alreadyset in motion mini polls. Elections to the Uva Provincial Council, the Jaffna MunicipalCouncil and the Vavuniya Urban Council will be held in early August. The SouthernProvincial Council has already been dissolved with polls due in a few months.

Political Package to the Minorities

Devolution of power to the provinces will be key to reconciliation between the Tamiland Sinhala communities. Currently the only available constitutional instrument forthis is the 13th Amendment which established the Provincial Councils. While thisamendment has been in place for over 20 years, the civil war meant that it has hithertonever been implemented to its fullest extent.

President Rajapakse has indicated a firm willingness of implementing a home grownpolitical solution to the minorities and is likely to attempt to amend the currentConstitution in his second term. Amending the Constitution requires an overwhelmingtwo thirds majority in the Parliament and this means that any changes would need to bediscussed after the current composition of Parliament has changed after a GeneralElection.

A two thirds majority would necessitate the participation of the main opposition UNP.Almost half of the party’s current Parliamentary strength (39 of the UNP’s 82 MPs) hasdefected to the Government but a new General Election should see the Party get at least60 to 70 seats regardless of the incumbent’s sweeping popularity thanks to the system ofproportional representation.

President Rajapakse will not get any support for passing any amendments supportingdevolution from any of the fringe extremist Sinhala parties. Many of these parties however,are expected to anyway lose their standing in the next Parliament since the President hascaptured much of their core support. The UNP has historically supported moves towardsdevolution and President Rajapakse has proven willing to compromise in order to gethis agenda implemented. Any rapprochement between the two main parties would bebeneficial in setting a common agenda for the future of post civil war Sri Lanka.


Economics

GDP Growth

After 28 years, the country is rid of war. So, what’s in store now?

For starters, let’s keep in mind, that even during the period of war, the economy grew atan average 4.8%. Over the last 5 years the economy ticked over at an average 6.42%growth, through a combination of domestic and external drivers.

Looking at the short term, the dampener is that globally, times are bleak. We do notpresume nor claim expertise in global economics and will take the assumption thatthings have bottomed out, but a recovery, if any, will take place only in CY2010. But, wewill not bank on it. So we look inwards, and see what’s on the table without the shacklesof war.

The East was cleared in CY2007. Plans were drawn up for its reconstruction under thegovernment’s “Nagenahira Navodhaya” program. Now that war is history, this can beimplemented in full. The action plan for the reconstruction of the North is to be presentedby the GoSL in the near future. Information is sketchy at best so here we will make dowith base assumptions.

The total investment for the strategies of the “Nagenahira Navodaya” is estimated atLKR 197b inclusive of:

Reconstruction of approximately 120,000 houses

Increasing access to electricity in the province from 58% to 70% by 2010

Rehabilitation where required of the network of 857km of national highways, 1099km of rural roads and 8,450 kms of feeder roads.

A base case assumption of half that estimate spread over the next two years, equates to2.2% of nominal GDP per year. The North suffered much more. Approximately 300,000people are displaced as opposed to an estimate of 105,000 IDP’s in the East. Even at aminimum assumption of an equivalent cost of rebuilding as to the East, this would addin another 2.2% to nominal GDP from 2010.

The Eastern province also is home to some of the most fertile agricultural and fishinggrounds in the country, which gradually can be re-cultivated and harvested, without thesevere restrictions in place during the war. The two provinces also house the country’ssilica, limestone and copper deposits.

The total population in the two provinces is estimated at 2.7m or approximately 13.5%of the total population of the country. The scope for internal trade from a low base issignificant. Fixed line penetration is approximately 1% in the Northern Province offeringpotential for the telecommunications sector. Keeping in mind that a significant portionof the households in the Northern Province have family members overseas, the speed ofpersonal recovery and re-building will be considerably fast. The scope for the Bankingsector in the region is underlined by the approval for the opening of 67 new bank branchesin the Northern Province within the first 3 weeks of the end of the war as opposed to136 branches being opened during the entire CY2008.

We also believe that some of the best beaches in the country are found in the easternprovince where investment can stream, once confidence returns.

In addition, several large scale infrastructure projects are on the pipeline, with foreign

funding commitments.

The reconstruction drive alone would

boost GDP by 4.4% per annum over the

next 2 years. And on top of it lies the re-

engaging of 13.5% of the population along

with the country’s most fertile agricultural

and fishing grounds.

Countrywide, key infrastructure projects

have commenced predominantly with

foreign funding.


INFRASTRUCTURE PROJECTS

Ongoing

Colombo - Matara Expressway - 128 kmEstimated cost US$585m, funded 70%and 20% by the GoSL by the ADB & JBICApprox 50% completed. Scheduled for completion by 2011.

FLYOVERSTarget of 17 flyovers in Colombo & Suburbs2 already completed.

Colombo - Katunayake Expressway - 25kmEstimated cost US$235m, funded by the EXIM Bankof China and the GoSLExpected to be completed in 2012.

Kerawalapitiya Power Plant - 300MW Combined CycleEstimated cost US$300m, funded 97% by West CoastPowerLtd and 3% by the GoSL the GoSL

Part Commissioned:Upper Kotmale Hydro Power Plant - 150 MW HydroEstimated cost US$332m, funded 70% by the ADB & JBICand 15% by the GoSLExpected to be completed in 2011

Norochcholai Coal Power Plant - First Stage 300MWEstimated cost US$450m, funded 97% by EXIM Bankof China and 3% by the GoSLExpected to be completed in 2011

Hambantota Port DevelopmentEstimated cost US$370m, funded 80% by EXIM Bank ofChina and 20% by the GoSLExpected to be completed in 2011

Galle Port DevelopmentEstimated cost US$146m, funded 80% by JBIC and 20%by the GoSL

ROADS

Proposed

Katunayake - Anuradhapura HighwayEstimated cost US$40m, funded 80% by theGovernment of Korea and 30% by the GoSL

Coal Power Plant - Trincomalee - 500MWEstimated cost US$520m, funded jointly bythe GoSL and IndiaExpected to be completed in 2012

Colombo Port ExpansionEstimated cost US$750m, to be funded 38.5%each by ADB and selected private investors andby the GoSLConstruction of breakwater has commenced

Oluveli Port DevelopmentEstimated cost US$53m, funded 80% byDenmark and 20% by the GoSL

Jaffna Water Supply SchemeEstimated cost US$100m, funded by ADB (80%) andthe GoSLExpected to be completed in 2012

Moragahakande & Kalu Ganga DevelopmentEstimated cost US$425m, funded by the GoSL,JBIC and the Government of Kuwait

POWER PROJECTS

SEA PORTS

OTHER


We increase our GDP estimates for CY09 from 2.5% to 4.3%, driven primarily by thereconstruction activity and a pick up in agriculture, despite shortfalls in tea production.The medium term outlook thereafter should average 8-10%, externalities notwithstanding.The real strides in the two provinces will be seen only when reconstruction starts inearnest in CY2010 and the effects of the momentum in the two provinces roll over to jackup confidence and hence economic activity elsewhere in the island.

Fiscal DeficitGovernment revenues came under pressure in the final quarter of CY08, pruning downnominal growth to 15% for the year, which as a percentage of GDP, slipped from 15.8%in CY07 to 14.9% GDP in CY08. Despite the escalation of the war, recurrent expenditurewas kept in check, coming in just 4% above the budget for the year. Drying up foreignfunding and decelerating domestic revenue collection kept capital expenditure at 6%GDP, with the deficit for the year at 7.7% GDP, just under our estimates of a 7.8%deficit for the year. In the face of difficulties in obtaining foreign funding in the wake ofthe ongoing global problems, the reliance on domestic market borrowings increasedfrom LkR127b in 2007 to LkR309b in CY08.

The approved estimates for CY09 points to a revenue base of 16.4% GDP and a deficitof 6.5% with current expenditure budgeted at 15.8% GDP and capital investment at7.1% GDP. The slowdown in the economy in the first half makes a targeted nominalrevenue growth of 30% a stiff target. In the past, shortfalls in revenue collections havebeen shored up at the expense of capital spending, which in the face of the large scalereconstruction effort envisaged, make difficult to prune down. Our revenue estimatesstand at 14.8% GDP with the increased capital spending requirements pushing thedeficit to 9.4% GDP in CY09.

The government’s target of pruning down the deficit to 5% GDP by 2011 as spelt out inthe MEFP attached to the LOI signed for the IMF Stand-by facility though admittedlysteep, is nothing new, as the government has repeatedly in the past attempted to stemthe declining revenue trend. Practical implementation however is, and will be, a difficultproposition. Whilst the new environment of peace and domestic growth should helpattract investors without doling lavish concessions, we should be cognizant of the factthat to set up and develop export industries, concessions are yet required.

The current income tax regime is not benign by any stretch of the imagination. The challengeto the authorities will be in broadening its collection base so that the tax revenues mirrorthe economic growth of the country. The immediate growth is likely to come from theConstruction, Tourism, Agricultural, Retail and Banking Sectors. Whilst the formal sectorswill anyway contribute to revenue along existing tax collection routes, roping in thepredominantly rural informal agricultural sector and the retail sectors will be a practical andpolitical problem.

However, it should be appreciated that despite the conflict, the government has beensuccessful in curtailing expenditure to 2008. With the end of the conflict, expenditurecurtailment should be a much more feasible way of attempting the 5% deficit hurdle.

GDP GROWTH (%)Sector 2001 2002 2003 2004 2005 2006 2007 2008 2009E 2010E

Agriculture -3.0 2.5 1.6 -0.9 1.9 4.7 3.3 7.5 7.7 8.9Mining & Quarrying 0.7 3.0 5.6 7.9 14.1 8.0 19.2 12.8 5.0 6.0Manufacturing -4.0 1.1 4.2 5.1 6.0 5.3 2.4 4.9 3.8 4.6Construction 2.5 1.0 5.5 6.6 8.9 8.0 9.0 7.8 8.5 15.0Services -0.6 6.0 7.9 7.6 6.8 8.7 7.6 5.3 2.9 8.8GDP Growth -1.4 4.0 6.0 5.3 6.0 7.4 6.8 6.0 4.3 8.6

....it should be appreciated that despite the

conflict, the government has been

successful in curtailing expenditure to 2008.

With the end of the conflict, expenditure

curtailment should be a much more feasible

way of attempting the 5% deficit hurdle.


Interest RatesThe continuous fall in price levels is building up confidence in the sustainability ofbenign inflation whilst the logic of maintaining high rates to attract foreigninvestment into the short term bond market window have disappeared with theglobal crisis. The benchmark 364 Treasury Bill rate have progressively come offdespite high government borrowing, climbing down from 19.08% as at end CY08to 11.97% as at end July CY09. The short term reliance on market borrowings bythe government will however prevent a steeper fall in line with inflation.

The PLR has been less responsive as banks have shied away from aggressive lendingamidst fears of the global downturn triggered NPLs. With improvements in domesticsentiment, banks are likely to ease off on lending restrictions leaving the PLR roomto ease off by approximately 100-150bps. However, a faster reduction will comethrough only when the global front clears.

InflationPrice levels slid back for 7 consecutive months under the combined effects ofdownward price revisions of petroleum and gas as well as supply generated pricereductions in food products, before adjusting marginally up by 2% in May. TheCCPI on a point to point basis decelerated for eleven consecutive months from thehigh of 28.2% in June 2008 to read 2.9% in April 2009 before adjusting upwardsmildly by 3.3% in May CY09. The declining price trend continued in June with afive year low of 0.9% on a point to point basis being recorded.

The end of the war may not necessarily be good for price levels in the short term, asthe additional demand will kick in ahead of any productivity gains in the region.Longer term however, the agricultural potential of the two provinces point out to amore stable supply base.

Oil prices have moved beyond the US$60 mark by early June. However, given thecushion provided by high taxation on petroleum products, a significant upwardrevision to administered prices may not materialize. The same however may nothold true for LPG with indications of upward revisions already in evidence. Thesharp fall in the CCPI on a point to point basis is likely to have bottomed out andwe see a gradual pick up in the second half of CY09. The tension of a steeper rise onimported inflation through currency depreciation seems to have waned with thepotential aid inflows. This may change however, if aid does not come in.

The change in the CCPI on an annual average basis has been less speedy, given highbase effects in CY08. However, we see a sharper fall towards the 2H CY09 on themath of base effects. We expect the CCPI annual average change to readapproximately 6% by end CY09 with an average of 8% thereafter in CY10.

Government Finance(% of GDP) 2001 2002 2003 2004 2005 2006 2007 2008 2009E

Revenue 16.7% 16.5% 15.2% 14.9% 15.5% 16.3% 15.8% 14.9% 15.1%Tax revenue 14.8% 14.0% 12.7% 13.5% 13.9% 14.6% 14.2% 13.3% 13.4%Non tax revenue 1.9% 2.5% 2.5% 1.4% 1.6% 1.7% 1.7% 1.6% 1.7%Total expenditure 27.5% 25.4% 22.9% 22.8% 23.8% 24.3% 23.5% 22.7% 24.5%Current expenditure 21.6% 20.9% 18.4% 18.6% 18.1% 18.6% 17.4% 17.0% 17.0%Current account deficit -4.9% -4.4% -3.2% -3.7% -2.6% -2.4% -1.6% -2.2% -1.8%Budget deficit -10.8% -8.9% -7.7% -7.9% -8.4% -8.0% -7.8% -7.7% -9.4%

The CCPI on a point to point basis

decelerated for eleven consecutive

months from the high of 28.2% in June

2008 to read 2.9% in April 2009 before

adjusting upwards mildly by 3.3% in May

CY09. The declining price trend continued

in June with a five year low of 0.9% on a

point to point basis being recorded.

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Exchange RateExportsExports grew by 6.5% in CY08, with a healthy 12.5% growth in the first 8 monthsof the year retarded by the global downturn. However, its negative impact up to datehas been less than feared. Overall, exports have slipped by 19% for the first fivemonths of the year, with the main sufferers being agricultural exports and apparelexports in the latter part of the period.

Tea prices are likely to remain under CY08 record levels keeping agricultural exportrevenues in CY09 22% below the previous year. However, even allowing for a possiblereduction in textile exports in the second half of the year, total exports should beapproximately 16% below last year.

Agricultural exports are likely to recover in CY10 led by Tea and output growth innon traditional exports as the North and East cultivation swing in. On the assumptionof the global economies bottoming out by end CY09, we expect the exports drop tobottom out and recover by 13% in CY10, but in absolute terms, still remain underCY08 booked revenues.

ImportsImports hiked by 24% in CY08, driven mainly by petroleum prices. The subsequentfall in oil prices combined with restrictive import procedures for certain categoriesof consumer goods and lower demand have driven down the import bill by over38% during the first five months of CY09. Whilst oil prices show signs of recovery,it should nevertheless average below last year record highs. The end of the war andthe subsequent rebuilding of the affected areas will give rise to increased buildingmaterial and heavy transport equipment in the latter half of the year. Together withincreased fertilizer imports coming in the wake of more agricultural lands in thenorth and east being cultivated, we expect the weakness to be whittled away to anegative 25% for the full year.

Keeping oil at an average US$70 per barrel, intermediate imports can expand by14% in CY10. With the rebuilding of the North and East pushing the need forinvestment good imports, total imports can push up by 14% in CY10.

Trade DeficitThe sharp rise in the import bill pushed the trade deficit to US$ 5,871m in CY08.With the sharper fall in imports, the deficit has shrunk by 62% for the period Jan-May 2009. Whilst imports are likely to pick up during the latter half of the monthon Investment Good imports mainly for the North and East reconstruction, theCY09 deficit is nevertheless likely to come in 36% under CY08 at approximatelyUS$3,772m. The pick up in investments and consumer sentiment is likely to pushthe deficit by 17% in CY10.

SUMMARY OF EXTERNAL TRADEIn US$ Mn

2001 2002 2003 2004 2005 2006 2007 2008 2009E 2010E

Agricultural Exports 932 939 965 1,065 1,153 1,299 1,507 1,854 1,450 1,860Industrial Exports 3 ,710 3,630 3,977 4,506 4,948 5,381 5,966 6,159 5,276 5,754Mineral Exports 90 90 84 120 144 137 128 122 75 85Other 88 41 108 66 102 70 38 - - -Total Exports 4,820 4,700 5,134 5,757 6,347 6,887 7,639 8,135 6,801 7,699Consumer Good Imports 1,236 1,318 1,480 1,623 1 ,644 1,981 2,002 2,549 1,835 2,175Intermediate Good Imports 3,321 3,492 3,812 4,645 5 ,317 5,965 6,515 8,338 5,759 6,562Investment Good Imports 1,081 1,164 1,320 1,670 1,869 2,246 2,684 2,976 2,900 3,275Other 3 37 125 60 61 3 3 65 100 80 90Total Imports 5,975 6,099 6,672 7,999 8 ,863 10,257 11,301 14,002 10,574 12,102Trade Balance (1,155) (1,399) (1,538) (2,242) (2,516) (3,370) (3,662) (5,867) (3,772) (4,403)

The sharp rise in the import bill pushed

the trade deficit to US$ 5,871m in CY08.

With the sharper fall in imports, the deficit

has shrunk by 62% for the period Jan-May

2009. Whilst imports are likely to pick up

during the latter half of the month on

Investment Good imports mainly for the

North and East reconstruction, the CY09

deficit is nevertheless likely to come in

36% under CY08 at approximately

US$3,772m. The pick up in investments

and consumer sentiment is likely to push

the deficit by 17% in CY10.

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The IMF Stand-By Facility and Key Aspects of the GoSL EconomicReform Program

The Executive Board of the IMF approved a 20-month Stand-By Arrangementfor Sri Lanka in an amount equivalent to approximately US$2.6 billion on the 24th

of July 2009 to support the country’s economic reform program. ApproximatelyUS$322.2 million becomes immediately available to Sri Lanka. The remainingamount will be phased in, subject to quarterly reviews.

The policies and plans of the Government are set out in the Memorandum ofEconomic and Financial Policies (MEFP) which was attached to the LOI signed bythe Acting Minister of Finance and Planning and Governor of the Central Bank onthe 16th of July.

The facility is granted to support the government’s economic reform program aimedat strengthening the country’s financial position and post conflict reconstructionand relief efforts.

Key aspects of the Government’s economic reform program

Fiscal PolicyThe government will target to reduce the budget deficit to 5% GDP by 2011, withemphasis on increasing revenue by 2% GDP. The measures will include, inter alia,broadening of the tax base, reducing the tax exemptions and improving enforcement.

Exchange rate and Monetary PolicyThe government aims to allow greater exchange rate flexibility to ensure exportcompetitiveness whilst strengthening the country’s reserve position. The Central Banktargets to build up the reserves to approximately 3.5 months imports by the end of theprogram.

Social ProtectionSustain the social expenditure program with funding to be obtained from spending cuts,external financing and grants from multilateral institutions and the donor community.

Financial SystemThe program aims to increase confidence in the domestic financial system with measuresincluding strengthening bank supervision and improving the regulatory framework.

Current Account and Balance of PaymentsNet private remittances grew by 15.8% to US$2565m in CY08 and the services accountwidened by 33% to US$402m with increased net receipts from Transportation,Telecommunications, Computer and Information Services including BPO’s. However,the Income Account deficit widened by over 170% to US$972m with higher repatriationof profits of foreign companies, lower income from foreign debt with falling global ratesand write downs of investments on the appreciation of the US$ against the Euro andthe Sterling. Combined with the high trade deficit, the CY08 current account deficitwas pushed wider from US$1,401m to US$ 3,775m. The withdrawals from short termbonds in the height of the global crisis, a dearth of foreign commercial funding ended athree year positive run with a negative US$ 1.225m on the BOP.

Gross Official Reserves reduced to US$2561m with a marked fall in the latter half ofthe year, a gross equivalent of approximately 2.2 months of trailing 12 month averageimports. Reserves have reduced further to US$ 1,373m by March, equivalent to 1.3months 12 months average imports.

However, the pressure has eased with the commencement of aid flows to the countryafter the cessation of the war. The immediate aid has been mostly emergency cash grantswhich have had a direct positive impact on reserves. The US$50m Sri Lanka DevelopmentBond Issue in May was oversubscribed by 135% and the government is currently exploring

Forex reserves did fall to US $ 1,373 million

by March 2009. However, the concerns

have been allayed with a sharp pick up in

capital and aid flows to the country after

the end of the war. And the approval of

the IMF facility should lay to rest worries

on reserves.


a further issue in the short term. The approval of the IMF facility should lay to restworries on reserves in the short term.

Over the medium term though numbers are still conjecture, aid flows for rehabilitationand reconstruction should step up, whilst longer term flows should materialize throughincreased direct investments. The Iranian oil facility is reportedly restructured allowingthe country more breathing space in the short run. With the first tranche of the IMFfacility, the reserves have increased to over US$2.1b. Even without the IMF facility, thereserves currently approximate 2 months CY09 expected imports. With expectations ofhigher aid and investment flows, the government target of 3.5 months import cover byend 2011 should be feasible without undue pressure on the currency.

Exchange RateThe sovereign bond issue in 2007 and the opening of short term debt windows forforeign investment yielded positive results in the pre crisis period. The LKRappreciated against the greenback, the Euro and the Sterling with the Central Bankabsorbing forex during the period to maintain stability. However, the period of highinflation, capital flight from the short term debt instruments which were so successfulin the early part of the year and fears over sharp reductions in reserves saw thecurrency depreciate in the final quarter of CY08 leading upto a volatile period tillmid May 2009. The LKR has depreciated 1.8% YTD against the US$ and 2% and11% against the Euro and the Sterling respectively with a sharper 6.25% slide againstthe greenback by April being pulled back with the commencement of aid flows,with little Central Bank intervention.

With the potential for increased inflows over the short and medium term, the outlookfor the currency is now more stable, with a tendency for appreciation, if the monetaryauthority doesn’t intervene.

The IMF posture favours reserve build up as opposed to currency valuation. Thereserve target seems achievable which should give the government flexibility on theRupee, without a dire requirement of any sudden depreciation of the currency.

ECONOMIC INDICATORS2001 2002 2003 2004 2005 2006 2007 2008 2009E 2010E

GDPGDP at current market prices 1,410 1,582 1,822 2,091 2,453 2,938 3,579 4,411 4,898 5,799Per Capita GDP at current prices (US$) 841 870 983 1,062 1,241 1,421 1,663 2,014 2,070 2,346GDP Growth (%) (1.4) 4.0 6.0 5.4 6.0 7.4 6.8 6.0 4 .3 8 .6

PopulationMid year Population (m) 18.7 19.0 19.2 19.4 19.6 19.8 20.0 20.2 20.4 20.6

Government Finance (% of GDP)Revenue 16.7 16.5 15.2 14.9 15.5 16.3 15.8 14.9 15.1 -Expenditure 27.5 25.4 22.9 22.8 23.8 24.3 23.5 22.7 24.5 -Current Account Deficit (4.9) (4.4) (3.2) (3.7) (2.6) (2.4) (1.6) (2.2) (1.8) -Budget Deficit (10.8) (8.9) (7.7) (7.9) (8.4) (8.0) (7.7) (7.7) (9.4) -

Interest Rates & Inflation (%)AWDR (Year end) 10.8 8.0 5.3 5.3 6.2 7.6 10.3 11.6 7 .0 7 .0AWPR 14.3 12.2 9.3 10.2 12.2 15.2 18.0 18.5 17.0 15.0CCPI ( Annual average) 14.2 9.5 6.3 7.6 11.6 13.7 17.5 22.6 6 .0 8 .0

External Trade (US $ m)Exports 4,820 4,699 5,133 5,757 6,347 6,887 7,740 8,135 6,801 7,699Imports 5,980 6,106 6,672 7,999 8,863 10,257 1,300 14,002 10,574 12,102Trade Balance (1,160) 1,407 1,539 2,242 2,515 3,370 (3,560) (5,867) (3,772) (4,403)

External Reserves (months of imports) 2.7 3.3 4.2 3.3 3.7 3.3 3.7 2.2 2.8* 3.57*Year-end Exchange Rate (LKR/$) 93.2 96.7 96.7 104.6 102.1 107.7 108.7 113.1 116.0 120.0* Excluding IMF Stand-By Facility Draw down

With the potential for increased inflows

over the short and medium term, the

outlook for the currency is now more

stable, with a tendency for appreciation,

if the monetary authority doesn’t

intervene.

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Market Overview & StrategyWith the end of the war, the biggest obstacle for the local economy has been removed.The only dampener is the overhang of the gloomy global economies. But, the end of thewar will present a unique opportunity for Sri Lankan companies to grow domesticallydespite the external uncertainties, and reap benefits when the global economies revive.Despite the recent run-up in the market, we expect forward earnings multiples to improveto reflect the better long term prognosis.

Immediate PositivesThe immediate post conflict focus will be on reconstruction and resettlement. Oureconomic overview outlines the emerging base case infrastructure and housingrequirements. The demands on the local construction and allied manufacturing industriestherefore, will be significant.

Several travel advisories have been relaxed, paving the way for the tourism industry toreap its latent potential. Arrivals currently average an annual 520,000 pax for the lastfive years, with 438,000 arrivals in CY08. If the parallel to post conflict situations likeCambodia holds, the industry can expect a fourfold increase in arrivals, especially fromIndian traffic over the next 5 years. City five star ARR average US$62 whilst occupanciesaverage 43%, whilst resort occupancies of 40%, all pointing to a significant potential forearnings upside.

Fisheries and agriculture will be boosted with the re-cultivation and re-harvesting ofthe fertile agricultural and fishing grounds in the North and the East. Whilst therepresentation on the market for these sectors is insignificant, there is a knock on benefiton the banking and retail/food & beverage sectors. Increased domestic demand shouldalso see a substantial rise thanks to the benefits of peace. Trade with the north and eastwhich had hitherto been stifled will play a significant role in this increase and shouldlead to an expansion in overall available market space.

The spin off benefits off the increased capital flows, investment and economic activitywill naturally benefit the banking and financial services sector.

Overview of Trading ActivityThe benchmark All Share Index has risen by 67% since December 2008 after a 41% fallin 2008. The broad market index commenced its upward trek from April CY09, withemerging expectations of the end to the conflict. Since the official announcement of theend to the conflict on the 18th of May, the market has climbed 32% as at end July 09.

Trading volumes have increased significantly with the end of the war, with average dailyturnover rising to Rs.695m from the 18th of May as opposed to an average of Rs.355mfrom Jan-May 2009. Domestic volumes will be further boosted with reduction in interestrates, where margin lending rates of 22%+ have been naturally prohibitive.

Interestingly, foreigners have been net buyers through the 2002-2009 period despite theconflict, with the sharp spike in CY2008 coming through strategic investments in themotor retailer AMW and Sri Lanka Telecom.

Potential IPO activity is likely to pick up in the next 12 to18 months with the mandatoryrequirement for insurance and finance companies to list. Higher market valuations couldalso tempt further listings from corporates who have been holding back for the last fiveyears.

Emerging Earnings OutlookListed corporate earnings have grown by a CAGR of 12% from June 2004 to July 2009,which captures the impact of the Tsunami in December 2004 and the escalation of thewar throughout. The spike in the Indices post May 18th have carried them marginally overthe indexed earnings for the same period, a pointer that the coil spring effect of suppressedindices is over.

The benchmark All Share Index has risen

by 67% since December 2008 after a 41%

fall in 2008. The broad market index

commenced its upward trek from April

CY09, with emerging expectations of the

end to the conflict. Since the official

announcement of the end to the conflict

on the 18th of May, the market has climbed

32% as at end July 09.

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We have modeled our forecasts on the assumption that the benefits of the end of thewar will kick in significantly only in FY11. As such, weighed by the global economicslow down, our forecasts for FY10 indicate only a 15% growth. However, there are strongindications of upside, especially in the tourism industry following the relaxation ofadvisories.

We expect growth to spike in FY11, with our models indicating a 34% growth, drivenby the hotels, banking and manufacturing sectors, with conglomerates reflecting theirblended portfolio growth as well. The earnings upside on the return to peace shouldextend well into the medium term.

Comparative Valuations

The Colombo bourse trades at 11.4x FY10E earnings, which by itself is relativelyattractive when compared to its regional peers. With the earnings kick in FY11, thevaluations fall to a compelling single digit 8.6x.

Sector Price / Book ROE (%) PER (x) EPS Growth (%)Value (x) FY09 FY10E FY11E FY09 FY10E FY11E

Banking & Finance 1.08 13% 8.52 7.61 6.52 (9.46) 12.02 16.58Food & Beverage 1.80 13% 8.91 7.47 6.37 9.84 19.38 17.14Engineering 1.73 1% 5.41 4.60 4.06 53.00 17.65 13.45Conglomerates 1.48 7% 15.44 14.26 10.54 (5.65) 8.25 35.29Leisure 1.18 5% 19.23 18.66 8.69 (14.46) 3.04 114.63Manufacturing 1.24 15% 10.09 6.59 4.96 (23.40) 53.14 32.75Telecommunications 1.49 1% 35.64 73.19 19.06 (74.15) (51.30) 283.96Energy 1.02 4% (7.21) 22.30 19.82 (152.89) (132.32) 12.50Plantations 1.08 21% 7.53 4.74 4.41 (54.72) 59.02 7.49Trading 1.20 7% 22.32 15.08 12.74 (55.31) 48.07 18.37Market 1.39 9% 13.27 11.58 8.62 (29.51) 14.68 34.32

Country PER (x) EPS Growth (%) Price toFY09 FY10E FY11E FY10E FY11E Book Value (x)

China 34.6 22.1 26.5 56.6 -16.6 3.9Hong Kong 18.7 18.2 15.3 2.7 19.0 2.0India 18.6 18.5 15.5 0.5 19.4 3.4Indonesia 28.8 14.8 12.7 94.6 16.5 2.6South Korea 33.2 14.1 10.5 135.5 34.3 1.2Malaysia 20.4 17.2 15.0 18.6 14.7 2.0Phillipines 16.9 13.9 12.6 21.6 10.3 2.0Singapore 16.1 17.9 15.6 -10.1 14.7 1.6Taiwan 92.7 25.3 16.7 266.4 51.5 1.7Sri Lanka 13.1 11.4 8.6 14.7 34.0 1.4Australia 35.5 15.7 13.6 126.1 15.4 1.8New Zealand 42.1 14.9 12.8 182.6 16.4 1.3Source : Bloomberg & JKSB Estimates

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Index Points Indexed Market Earnings vs ASPI

ASPI Earnings


RecommendationsGiven;

Sustained strong earnings prospects into the medium term,

Indications of benign interest rates

Dissipation of the war risk

The trading multiples of the Colombo bourse offer a compelling case for medium termaccumulation. Our immediate picks are centered on the Manufacturing Sector (withconstruction industry focus), Hotels and Banking sectors.

Conglomerate JKH is recommended for investors with a strong liquidity requirement,given its exposure to the Leisure, food & Beverage and Financial Services sectors.

Stock Price (Rs.) PER (x) EPS Growth (%)FY09 FY10E FY11E FY09 FY10E FY11E

Aitken Spence Hotel Holdings PLC 160.00 10.64 9.13 6.61 16.06 16.55 38.10Asian Hotels & Properties PLC 56.75 23.66 17.95 7.46 (37.33) 31.80 140.70Commercial Bank of Ceylon PLC 145.00 8.77 7.93 6.74 2.04 10.62 17.65Sampath Bank PLC 125.00 5.76 5.22 4.49 30.56 10.40 16.14Tokyo Cement Company PLC 154.75 12.04 7.12 3.79 (37.36) 69.04 87.88

John Keells Stock Brokers (Pvt) Ltd.130 Glennie Street Colombo 2 Sri Lanka T. 9411 2421 101-9 F. 9411 2326 863, www.keells.lkCompany No. PV 89

Sri Lanka Equities

CORPORATE UPDATE

August 2009

John Keells Stock Brokers (Pvt) Ltd.

A JKSB Research Publication

Jeewanthi Malagala [email protected]

Aitken Spence Hotel Holdings PLC (AHUN)

ProfileAitken Spence Hotel Holdings PLC

(AHUN) has a well diversified portfolio of

hotels in Sri Lanka, as well as operations

spanning across both Asian as well as Middle

Eastern regions. The company owns and

operates 5 hotels boasting 465 rooms in Sri

Lanka along with 2 hotels as associate

companies while in the Maldives, it owns 7

hotels possessing 591 rooms. AHUN also

manages 4 and 5 hotels in India and Oman

respectively.

The company is one of the best performing

hoteliers listed on the Colombo bourse with

an average growth in PAT of 8% during the

last 5 years amidst turbulent economic

conditions both locally and globally, as well

as the civil war.

Sri LankaAHUN under its premier Heritance brand

operates 304 rooms in Sri Lanka while its

total room strength in the country extends to

681 rooms including those belonging to the

associate companies. The average room

occupancy for its local chain has been around

55% due to lower tourist arrivals in FY2009

during which the Sri Lankan segment

reported a loss of Rs. 54.4 million in FY2009

against a loss of Rs. 58 million in FY2008.

The Average Room Rate (ARR) hovered

around US $ 58 - 60 for the Sri Lankan

segment.

Over the years, the Sri Lankan segment has

suffered heavily from volatility in earnings

due to lower tourist arrivals which we believe

is likely to change with the dawning of peace

in Sri Lanka. Despite this, in FY2009 all Sri

Lankan hotels under AHUN have managed

to generate positive operating profits but due

to higher finance costs, most excluding

Heritance Kandalama and Neptune

Ayurveda Village, ended the year on losses.

Also, AHUN boasts of approximately 10.86

acres of freehold land adjacent to Heritance

Ahungalla along with another 5.3 acres in

Beruwela which can be developed as and

when it is required.

The MaldivesTourism in the Maldives saw an increase of

a mere 1.1% with 683,012 tourists visiting

the island in 2008. Occupancies rates in

resorts and hotels averaged at 78% during

the year with bed nights and average

duration of stay increasing by 3% and 2.3%

respectively.

The company’s Maldivian operations which

include 591 rooms, enjoyed room

occupancies ranging from 75% to 80% during

CY2008. The 1HFY2009 was operationally

difficult as higher commodity prices

narrowed margins. Although the impact of

this lessened during the 2HFY2009, the

global financial crisis hampered growth

opportunities in the Maldives as demand

for tourism declined. During the year,

AHUN completed the addition of 103 water

bungalows and villas in the Maldives.

The South Asian segment which includes

the Maldivian operations, contributed Rs.

907 million in FY2009, a growth of 4% from

This document is published by John Keells Stockbrokers (Pvt.) Limited for the exclusive use of their clients. All information has been compiled from available documentation andJKSB’s own research material. Whilst all reasonable care has been taken to ensure the accuracy of the contents of this issue, neither JKSB nor its employees can accept responsibilityfor any decisions made by investors based on information contained herein.

Rs 160.00 BUY

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Volume Price (Rs.)Price / Volume Graph

Volume Price

AHUN

Reuters CodeBloomberg CodeShare Price LKRIssued Share Capital (Shares)Voting12 mth High/Low (Rs.)Average Daily Volume (Shares)Market Capitalisation Rs. mnPrice Performance (%)

1 mth 6 mth 12 mthASPI 2.06 45.56 5.02AHUN 10.06 84.21 56.25

6,149

AHUN.CMAHUN.SL160.00

38,433,144 175.00 / 90.00

15,048

Financial Year

Revenue (Rs. Million)

PAT (Rs. Million)

Earnings to Equity (Rs.)*

EPS (Rs.)

EPS Growth

(%)PER (x)

Price / Book

Value (x)

2008 6,413 789.57 497.80 12.95 - 12.35 1.64 2009 6,612 824.35 577.73 15.03 16.06 10.64 1.30 2010E 9,083 1,049.20 673.32 17.52 16.55 9.13 1.14 2011E 10,346 1,436.51 929.87 24.19 38.10 6.61 0.98 2012E 11,668 1,784.19 1,214.12 31.59 30.57 5.06 0.82 2013E 13,046 2,093.40 1,479.10 38.49 21.82 4.16 0.69

* Earnings to Equity after Preference Dividend

John Keells Stock Brokers (Pvt) Limited l Corporate Update l 15

2008. However, during the year, AHUN strategically divested Adaaran Club Bathala,

the first island resort in the Maldives set up by AHUN, from which the company

earned Rs 219 million. Normalized profit for the Group indicates a drop of 23% in

profitability for FY2009.

Operations in India and OmanIndia’s tourist sector grew by 5.7% with 5.37 million tourists in 2009 despite the global

economic downturn and terrorist attacks in various parts of the country. However, tourist

arrivals during the first 5 months of 2009 have seen an 11% decline over the same

period in 2008.

In India, AHUN manages 5 hotels with one hotel under the Heritance brand. Given

the depressed status in Indian tourism, the company has postponed its plans previously

scheduled for the freehold property in Cochin. The hotels under AHUN’s management

witnessed a drastic decline in occupancy in FY2009 as average room occupancy declined

to nearly 50% from 60% in FY2008.

Oman’s tourism industry enjoyed a growth of 26% in 2008 over the 1.8 million tourists

in 2007. The country is well placed to be successful in the industry as it has been both

politically stable and physically safe for tourists.

During the year, AHUN completed its first year of operations in Oman where it manages

5 hotels with a room capacity of 455. The investment in Oman proved to be successful

with almost all hotels enjoying average room occupancy in excess of 70% during the

year.

OutlookCessation of hostilities in Sri Lanka has given the local tourism industry new life.

Although tourist arrivals are unlikely to reach levels achieved during the ceasefire

period in the immediate time period, we expect tourism to pick up in the medium term

with most countries removing / relaxing their travel advisories to Sri Lanka and recovery

in the global economy.

We believe that with positive growth in tourism in FY2011E coupled together with an

increase in average room occupancy to 72% and Average Room Rates (ARR) to US$

82, the local resorts and hotels are likely to generate an operating profit of Rs. 1,138

million.

AHUN suffered from a decline in GP margins with the ratio declining to 14% in

FY2009 from 18% in FY2008, on the back of double digit inflation, mainly locally.

However, with inflation reaching low levels, AHUN is likely to face fewer cost pressures

thereby enabling the company to enjoy better margins.

Maldives operations have been successful as room occupancies on average have

remained above 80% during the last 3 years. Nevertheless, the segment has suffered

badly from the global economic downturn as approximately 73% of its tourism is

generated from the Europe. With the hope of recovery in the global economy towards

CY2011, we expect tourism to kick back with at least 85% room occupancy enabling

AHUN to generate approximately Rs. 930 million in Operating profit for FY2011E.

The company’s operations in India as well as in Oman are also likely to be affected

adversely by the global recession. Earnings from these segments which come in the

form of management fees and a share of revenue and profits are expected to be lower

given lower occupancy. However, as global economic recession eases off we expect to

see a higher contribution from this segment as well.

16 l John Keells Stock Brokers (Pvt) Limited l Corporate Update

Earnings & ValuationsOn the expectation of an improvement in tourist arrivals during Winter 2009, we

expect AHUN to post earnings to equity (after Preference Dividend of Rs. 14.85

million) amounting to Rs. 673 million for FY2010E. However, in FY2011E, with

tourists levels expected to witness an impressive growth, we believe AHUN will generate

PAT of Rs. 1,437 million.

At a price of Rs. 160.00, the counter is currently trading at 9.1x FY2010E earnings and

6.6x FY2011E earnings while its PBV is at 1.3 times. Given the potential growth in

earnings as the company further expands its footprint into South Asian and Middle

Eastern markets, we believe that AHUN will generate greater earnings in the medium

to long term. Therefore we recommend BUY.

Given the potential growth in earnings

as the company further expands its

footprint into South Asian and Middle

Eastern markets, we believe that AHUN

will generate greater earnings in the

medium to long term.


Profit and Loss Account

For the year end 31st March

Revenue (Net of bed tax) 6,090.7 6,311.2 8,628.9 9,828.2 11,085.0 12,393.9

Other Operating Income 45.2 322.8 114.2 125.6 138.1 152.0 Operating costs (4,995.4) (5,426.7) (7,282.1) (8,179.3) (9,157.4) (10,222.4) Operating Profit 1,140.5 1,207.3 1,460.9 1,774.5 2,065.7 2,323.4

Share of Associate Earnings 5.8 (3.2) 23.2 45.8 67.7 87.9 Finance Income 27.1 10.0 8.1 8.9 9.8 10.8 Finance Expenses (362.5) (368.7) (416.5) (361.3) (325.1) (292.6) Profit Before Tax 810.9 845.3 1,075.6 1,468.0 1,818.1 2,129.6 Taxation (21.3) (21.0) (26.4) (31.5) (33.9) (36.2) Profit After Tax 789.6 824.4 1,049.2 1,436.5 1,784.2 2,093.4

Minority Interest (276.9) (231.8) (361.0) (491.8) (555.2) (599.5) Profit Attributable to the equity holders 512.7 592.6 688.2 944.7 1,229.0 1,494.0

2008 2009 2010E 2011E 2012E 2013E

Balance Sheet

As at 31st March

ASSETS

Non - Current Assets

Property Plant & Equipment 6,664.7 8,686.7 8,654.3 8,454.5 8,147.2 7,722.8 Leasehold Property 1,408.0 1,554.7 1,604.7 1,654.7 1,704.7 1,754.7 Others 278.0 404.7 426.4 472.2 539.9 627.8

8,350.7 10,646.1 10,685.3 10,581.4 10,391.8 10,105.2

Current Assets

Trade & Other Receivables 1,093.3 982.6 1,335.2 1,520.8 1,715.3 1,917.8 Short term deposits 389.1 341.8 324.7 357.2 392.9 432.2 Cash and cash equivalents 119.0 116.8 821.0 2,267.4 3,883.5 5,985.2 Others 616.2 624.1 722.2 785.9 853.2 924.7

2,217.6 2,065.3 3,203.1 4,931.3 6,844.9 9,259.9

TOTAL ASSETS 10,568.3 12,711.4 13,888.4 15,512.7 17,236.7 19,365.1

EQUITY AND LIABILITIES

Equity

Stated capital 1,055.8 1,055.8 1,055.8 1,055.8 1,055.8 1,055.8 Reserves 1,034.6 1,462.5 1,462.5 1,462.5 1,462.5 1,462.5 Retained Earnings 1,666.5 2,205.8 2,859.9 3,770.5 4,965.4 6,425.3 Minority Interest 1,220.0 1,346.1 1,692.1 2,168.9 2,709.1 3,293.6

4,976.8 6,070.2 7,070.3 8,457.7 10,192.9 12,237.2

Non - Current Liabilities

Interest - Bearing borrowings 2,930.2 3,746.4 3,863.0 3,863.0 3,608.1 3,381.2 Others 117.4 114.3 106.1 113.5 121.4 131.0

3,047.6 3,860.7 3,969.0 3,976.5 3,729.6 3,512.2

Current Liabilities

Other Provisions and Payables 871.7 798.6 728.2 817.9 915.7 1,022.2 Amounts due to Ultimate Holding company 526.8 779.1 896.0 1,030.4 1,184.9 1,362.7 Interest - Bearing borrowings 498.3 675.9 681.7 681.7 636.7 596.7 Short term Bank borrowings 332.7 217.1 162.8 130.3 117.2 129.0 Others 314.4 309.9 380.4 418.1 459.7 505.2

2,543.9 2,780.6 2,849.1 3,078.4 3,314.3 3,615.7

TOTAL EQUITY & LIABILITIES 10,568.3 12,711.4 13,888.4 15,512.7 17,236.7 19,365.1

2008 2009 2010E 2011E 2012E 2013E


Cashflow Statement

For the year ended 31st March

Profit before Tax 810.9 845.3 1,075.6 1,468.0 1,818.1 2,129.6 Net Cashflow from Operating Activities 777.0 1,494.5 1,526.9 2,310.4 2,763.9 3,195.2

Cashflow from Investing Activities

Purchase of Property, Plant & Equipment (731.4) (2,165.8) (700.0) (700.0) (700.0) (700.0) Others (1,469.7) 148.8 (50.0) (50.0) (50.0) (50.0) Net cash used in Investing Activities (2,201.1) (2,017.0) (750.0) (750.0) (750.0) (750.0)

Cashflow from Financing Activities

Net borrowings 1,416.9 844.0 13.6 0.1 (299.9) (266.9) Others (39.4) (238.4) (49.1) (49.1) (49.1) (49.1) Net cash used in Financing Activities 1,377.5 605.6 (35.5) (49.0) (349.0) (316.0)

Net increase in cash & cash equivalents (46.6) 83.1 741.4 1,511.4 1,664.9 2,129.2

Balance at the beginning of the year 205.1 158.4 241.5 982.9 2,494.3 4,159.2

Balance at the end of the year 158.4 241.5 982.9 2,494.3 4,159.2 6,288.4

2008 2009 2010E 2011E 2012E 2013E


130 Glennie Street Colombo 2 Sri Lanka T. 9411 2421 101-9 F. 9411 2326 863, www.jksb.keells.lkCompany No. PV 89

Sri Lanka Equities

CORPORATE UPDATE

August 2009



Jeewanthi Malagala [email protected]

Asian Hotels & Properties PLC (AHPL)

ProfileAsian Hotels & Properties PLC (AHPL) is

an 84% owned subsidiay of the largest listed

conglomerate, John Keells Holdings PLC

( JKH). The company’s strategic business

units include the Hotel operations, under

which it controls approximately 40% of 5 Star

city room supply, while the other being the

Property Development arm.

The Property Development arm completed

the construction of the “Monarch” and has

begun the construction of the 3rd residential

apartment, the “Emperor”, with already

around 79% of the apartments being sold

off plan.

Hotel OperationsThe Hotels owned and managed by AHPL

include the Cinnamon Grand and the Trans

Asia PLC (TRAN), located at the heart of

the Colombo city. The Cinnamon Grand is

a wholly owned subsidiary of AHPL while

its stake in TRAN amounts to 42%. A

further 49% of TRAN is owned by JKH,

giving AHPL management control over

TRAN.

TRAN is currently closed for refurbishment

and is to re-open under the premier brand

“Cinnamon”.

The Hotel arm’s contribution to group

profitability was restricted to Rs. 99 million

or 9% in FY2009, amid lower tourist arrivals

in to the country and higher cost pressures

as a result of inflation.

Cinnamon GrandCinnamon Grand, recognized as the Best

Five Star City Hotel for the second

consecutive year at the Presidential Travel

and Tourism Awards 2008, has competed

well with renowned international hotel

chains post rebranding and refurbishment,

3 years ago. The hotel currently has a total

room capacity of 501 rooms and a restaurant

portfolio of 11 which are among the most

sought after dining venues in the city.

Although the industry as a whole witnessed

a rough year in FY2009, Cinnamon Grand

Colombo stood well above the rest enjoying

an increase in market share in the city hotels

while other operators suffered a decline. The

hotel recorded the highest market share of

36.2% in city room revenue and also the

highest Revenue per Available Room

(RevPAR) in the city at Rs. 4,684.

The hotel’s occupancy reached 56% in

FY2009 compared to 63% in FY2008, while

on average the City hotels enjoyed only about

43% in occupancy in FY2009. The

occupancy rates have followed a declining

trend since 2005 as a result of an escalation

in terrorist attacks in Colombo. Despite low

occupancy, the hotel managed to increase its

rates to approximately US $ 74 per room

night compared to US $ 65 in FY2008.

Average Room Rates (ARR) increased by

approximately 14% in FY2009 while

occupied nights declined 12% during the

same period, resulting in a 7% increase in


Rs 56.75 BUY

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Rs.Volume Price / Volume Graph

Volume Closing Price

AHPL

Reuters CodeBloomberg CodeShare Price LKRIssued Share Capital (Shares)Voting12 mth High / Low (Rs.)Free FloatAverage Daily Volume (Shares)Market Capitalisation Rs. mnPrice Performance (%)

1 mth 6 mth 12 mthASPI 6.44 54.07 (2.57)AHPL 23.26 103.85 47.22

12,564

16.20%

AHPL.CMAHPL.SL

56.75

221,387,350 56.75 / 24.00

100,643

Financial YearRevenue

(Rs. Million)Earnings to Equity (Rs.)

EPS (Rs.)

EPS Growth (%)

PER (x)Price / Book

Value (x)

2006 4,675 999.60 4.52 165.53 12.57 1.37

2007 4,137 719.34 3.25 (28.04) 17.47 1.33

2008 5,525 847.39 3.83 17.80 14.83 1.03

2009 4,576 531.06 2.40 (37.33) 23.66 1.05

2010E 4,423 699.92 3.16 31.80 17.95 1.05

2011E 7,333 1,684.67 7.61 140.70 7.46 0.96


The hotel’s Food and Beverages

Department which includes some of the

best restaurants in the city, enjoyed the

highest market share of 32% in the city

while also contributing the highest

revenue for the hotel amounting to Rs.

949 million in FY2009. As per the

information available, the F&B revenue

within the 5 Star city industry showed a

marginal growth of 3% while Cinnamon

Grand registered an above average

growth of 14% for FY2009.

Revenue. Cinnamon Grand suffered a decline of 12% in Gross Operating Profit whilst

Gross Operating Margin too declined to 56% from 60% in FY2008 mainly as a result

of double digit inflation that prevailed in the economy.

UK, India and USA remained as the top 3 countries in terms of guest arrivals to

Cinnamon Grand during the last 2 years. Further, 47% of the room nights were occupied

by the Corporate segment in FY2009 compared to 53% in FY2008, with Leisure

travellers accounting for 33% as against 27% in FY2008.

The hotel’s Food and Beverages Department which includes some of the best restaurants

in the city, enjoyed the highest market share of 32% in the city while also contributing

the highest revenue for the hotel amounting to Rs. 949 million in FY2009. As per the

information available, the F&B revenue within the 5 Star city industry showed a

marginal growth of 3% while Cinnamon Grand registered an above average growth of

14% for FY2009.

Cinnamon Lakeside - Trans Asia PLCCinnamon Lakeside, formerly known as Trans Asia, is the other 5 Star city hotel

operating under AHPL, with a current room capacity of 340 rooms.

The hotel’s operations were hindered by the terrorist attack in the vicinity of the hotel

in February 2009 which affected more than 100 guest rooms and staff areas. This,

coupled together with lower tourist arrivals into the country, resulted in the hotel’s

turnover declining marginally by 2% reaching Rs. 1,151 million in FY2009.

Consequent to the attacks, the hotel has been closed for refurbishment and repairs and

will re-open under the flagship brand “Cinnamon” on 1st of September 2009.

TRAN which enjoyed occupancy rates above 60% on average during 2006 - 2008,

witnessed a decline in its occupancies to 46% in FY2009 consequent to the recent

terrorist attacks. Corporate guests were the largest contributors accounting for 51%

while Leisure and MICE business was 41% and 8% respectively.

Despite lower room nights, TRAN enjoyed a growth in profitability by 13% to Rs. 162

million in FY2009, thanks to the insurance claim on damaged assets and business

interruption which totaled to Rs. 65 million. The insurance claim on business interruption

amounting to Rs. 22 million represents the claim for the year ended 31st March, 2009.

Therefore, it is likely that a further claim will be available for TRAN up to the date of re-

launch.

In FY2009, the hotel enjoyed an improvement in the Average Room Rate which grew

to US $ 60.90 against US $ 49.50 in FY2008. Despite an increase in ARR by nearly

23%, the hotel’s RevPAR declined to approximately Rs. 2,970 in FY2009 from over

Rs. 3,000 in FY2008, as a result of lower occupancies.

For TRAN, Food and Beverages was the largest revenue generator, accounting for

approximately 49% of total Turnover in FY2009, with Banquet revenue being the

highest contributor to the segment.

Property DevelopmentThe Property Development unit at AHPL comprises of the 2 residential apartments -

namely the “Monarch” and the “Emperor” and also the Crescat Boulevard, the only

destination mall in the city. AHPL has completed the construction of the “Monarch”

while the construction of the “Emperor” is currently underway.


Both Condominiums have been strategically located in a prime plot of land at Crescat

City in the city of Colombo while offering accessibility, quality, facilities and prestige.

In FY2009, the Property Sector accounted for 81% of group profits amounting to Rs.

432 million.

The MonarchThe 30 storey Condominium “Monarch”, situated within the Crescat City has the

significance of being one of the largest developments in Sri Lanka and was fully sold

out off plan within a short period of 11 months.

Over 90% of the 2nd condominium comprising of 195 luxury apartments have been

handed over to the owners. By the end of FY2009, approximately 95% of the revenue

has also been recognized.

The EmperorWith the successful completion of the “Monarch”, AHPL embarked upon the

construction of the 3rd residential apartment project with 164 luxury apartments.

The condominium too, located within the Crescat City, has been affected by both the

real estate slump in Sri Lanka as well as the global economic downturn. The “Emperor”

which has been targeted at the Sri Lankan expatriates primarily from the countries in

recession, has nevertheless secured 79% of the sales of the apartments.

The construction, although is behind schedule, is continuing amid stringent security

conditions prevailing in the area. The project is due for completion in FY2012E.

There is further land available under the ownership of AHPL for developments of

similar nature.

Outlook

Cinnamon GrandWith the recovery in tourism, we expect city occupancy levels to reach approximately

55% in FY2010E with Cinnamon Grand recording year round occupancies at

approximately 65% in FY2010E and 75% in FY2011E. Further, we expect the hotel

to charge a higher premium on its Average Room Rate, thus we have assumed room

rates of US $ 80 and US $ 90 for FY2010E and FY2011E respectively. For comparative

purposes, in Mumbai average room rates have soared to US $ 305, $2 higher than

Delhi.

Given the above estimated levels of occupancies and room rates, we expect the RevPAR

for Cinnamon Grand to reach approximately US $ 53 for FY2010E. For comparative

purposes, in Delhi, the RevPAR rose to US $ 228 - the highest in the country.

With inflation reaching single digit levels and improved security situation in the country,

we believe that the Food and Beverage segment will contibute well over Rs. 1 billion in

revenue to boost group profitability.

The hotel is currently enjoying high levels of occupancy nearing full capacity, both as a

result of the diversion of tourists from TRAN and a boost in tourist arrivals.

With the above occupancies and room rates, we expect Cinnamon Grand to post Rs.

With the recovery in tourism, we expect

city occupancy levels to reach

approximately 55% in FY2010E with

Cinnamon Grand recording year round

occupancies at approximately 65% in

FY2010E and 75% in FY2011E. Further, we

expect the hotel to charge a higher

premium on its Average Room Rate, thus

we have assumed room rates of US $ 80

and US $ 90 for FY2010E and FY2011E

respectively.


533 million and Rs. 944 million in Operating Profit for FY2010E and FY2011E

respectively.

Cinnamon Lakeside - Trans Asia PLCAlthough TRAN has not enjoyed occupancies as high as those enjoyed by Cinnamon

Grand, we expect an improvement in occupancy rates with the re-branding exercise.

The hotel is scheduled for re-opening on 1st of September 2009 after a period of a little

over 3 months for refurbishment. Post re-opening, we expect room rates at TRAN to

increase from its current level to approximately US $ 75 although it is likely to suffer

from a low level of occupancy for FY2010E. The hotel will only be operational for

effectively 7 months of FY2010E, therefore, we expect the average occupancy to be

around 30%.

With occupancies expected at 30% for FY2010E and higher costs due to refurbishment,

we believe that TRAN would make a marginal loss for the year. However, with greater

tourist arrivals expected in FY2011E along with an occupancy rate of 65% at TRAN,

earnings after tax are likely to reach well above Rs. 450 million.

Property Development

The MonarchThe remaining 5% of the revenue from “Monarch” will be recognized in FY2010E.

The EmperorThe project, although behind schedule, is due for completion by the end of FY2012E.

Approximately, 25% of the revenues from the project have been collected; therefore we

expect further revenue recognition of 25% during each of the next 2 years.

The company boasts further land area available for development post completion of

the “Emperor” and is likely to undertake these investments given the favourable

macroeconomic environment.

Earnings & ValuationsThe earnings for the group have been forecasted based on conservative occupancy

rates. If occupancies at Cinnamon Grand witness an improvement to 75% from 65% in

FY2010E, the Earnings attributable to equity is likely to increase by 33% to Rs. 928

million. The sensitivity of the segment’s revenue and earnings to equity to changes in

the occupancy rates at Cinnamon Grand is as follows :

However, with greater tourist arrivals

expected in FY2011E along with an

occupancy rate of 65% at TRAN, earnings

after tax are likely to reach well above Rs.

450 million.

65% - (Current

Estimated)75% 80%

75% - (Current

Estimated)80% 85%

Hotels Revenue (Rs.) 3,283 3,642 3,822 5,194 5,402 5,609 Group Earnings (Rs.) 700 928 1,043 1,685 1,817 1,948 Growth in Segment's Revenue (%) - 10.95 16.42 - 3.99 7.98 Growth in Group Revenue (%) - 8.12 12.19 - 2.83 5.65 Growth in Earnings to Equity (%) - 32.65 48.98 - 7.83 15.65 EPS (Rs.) 3.16 4.19 4.71 7.61 8.21 8.80 PER (x) 17.95 13.53 12.05 7.46 6.92 6.45

2010E 2011E


The following table shows the sensitivity of segment’s revenue and earnings to equity

to a change in room charges of the 2 hotels.

With much of the growth coming from the hotel operations, we expect AHPL to post

approximately Rs. 700 million as Earnings to Equity in FY2010E and Rs. 1,685

million in FY2011E. At Rs. 56.75, the counter is currently trading at 7.5 times FY2011E

earnings.

AHPL currently controls approximately 40% of 5 star room supply in the city, while the

total city room supply is likely to remain unchanged atleast during the next couple of

years. With tourists arrivals expected to grow on a stagnant room supply, there is

significant upward potential for both hotels on the room rates and occupancies assumed

in the model. The Property Division too will bring in a stream of revenue during the

next couple of years until the next development project is unveiled. On the above, we

believe that there is significant potential for the counter, therefore, we recommend

BUY.

AHPL currently controls approximately

40% of 5 star room supply in the city, while

the total city room supply is likely to

remain unchanged atleast during the next

couple of years. With tourists arrivals

expected to grow on a stagnant room

supply, there is significant upward

potential for both hotels on the room

rates and occupancies assumed in the

model.

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Rs. PER Band Graph

Price 6 9 12 15 18

Forecasted Rates

5% 10%Forecasted

Rates5% 10%

Cinnamon Grand Colombo (US $) 80.00 84.00 88.00 90.00 94.50 99.00 Cinnamon Lakeside (US $) 75.00 78.75 82.50 80.00 84.00 88.00 Hotels Revenue (Rs.) 3,283 3,441 3,599 5,194 5,448 5,702 Group Earnings (Rs.) 700 783 865 1,685 1,803 1,922 Growth in Segment's Revenue (%) - 4.82 9.64 - 4.89 9.77 Growth in Group Revenue (%) - 3.58 7.16 - 3.46 6.92 Growth in Earnings to Equity (%) - 11.81 23.61 - 7.05 14.09 EPS (Rs.) 3.16 3.53 3.91 7.61 8.15 8.68 PER (x) 17.95 16.05 14.52 7.46 6.97 6.54

2010E 2011E


Balance Sheet

As at 31st March

ASSETS

Non Current Assets

Property, Plant & Equipment 9,086.4 9,312.8 11,597.4 11,327.0 11,084.2 10,848.7 Investment Property 2,079.9 2,189.6 2,209.4 2,250.0 2,250.0 2,250.0 Others 1,198.6 1,385.3 1,303.7 1,460.5 1,664.1 2,165.1

12,364.9 12,887.7 15,110.6 15,037.5 14,998.3 15,263.8

Current Assets

Inventories 139.1 101.4 99.4 94.9 101.2 152.4 Work in progress / Cost of Apartments - 1,230.3 736.7 278.6 271.0 45.5 Short term Investments 831.8 440.0 1,141.7 940.9 750.0 940.9 Cash in hand and at bank 182.3 85.9 30.3 92.5 119.5 1,018.3 Others 555.4 608.0 383.4 397.6 284.8 421.3

1,708.6 2,465.6 2,391.6 1,804.4 1,526.5 2,578.4

TOTAL ASSETS 14,073.5 15,353.3 17,502.1 16,841.9 16,524.8 17,842.2

EQUITY AND LIABILITIES

Equity

Stated Capital 2,213.9 3,345.1 3,345.1 3,345.1 3,345.1 3,345.1 Capital Reserves 4,308.3 3,165.0 5,429.4 5,310.2 5,310.2 5,310.2 Revenue Reserves 2,661.7 2,950.3 3,367.0 3,327.9 3,363.6 4,384.2 Minority Interest 2,239.8 2,237.4 2,402.2 2,441.8 2,387.0 2,614.5

11,423.7 11,697.8 14,543.7 14,425.0 14,405.9 15,654.0

Non Current Liabilities

Interest bearing borrowings 1,104.4 1,054.8 1,063.3 631.7 280.3 4.3 Others 320.7 448.8 461.8 433.2 481.9 441.8

1,425.1 1,503.6 1,525.2 1,064.9 762.1 446.0

Current Liabilities

Trade & other payables 932.9 1,093.3 1,200.8 1,079.4 1,040.9 1,672.1 Current portion of Interest Bearing Borrowings 96.8 486.3 78.0 121.4 121.4 1.4 Others 195.0 572.3 154.5 151.1 194.4 68.6

1,224.7 2,151.9 1,433.3 1,351.9 1,356.8 1,742.2

TOTAL EQUITY & LIABILITIES 14,073.5 15,353.3 17,502.1 16,841.9 16,524.8 17,842.2

2008 2009 2010E 2011E2006 2007

Profit and Loss Account

For the year end 31st March

Revenue

Hotels 2,314.5 2,731.3 2,961.1 3,061.1 3,282.7 5,194.2 Property Development 2,360.7 1,405.4 2,563.5 1,515.0 1,139.9 2,138.6

4,675.2 4,136.6 5,524.6 4,576.1 4,422.6 7,332.8

Cost of Sales (2,458.9) (2,056.2) (2,891.2) (2,404.8) (2,206.9) (3,715.1) Gross Profit 2,216.3 2,080.5 2,633.4 2,171.3 2,215.7 3,617.7

Other Income 119.1 173.2 154.5 177.0 30.0 30.0 Expenses (1,176.1) (1,335.4) (1,431.7) (1,553.6) (1,493.4) (1,606.4) Operating Profit 1,159.3 918.4 1,356.2 794.7 752.3 2,041.3

Finance Expenses (61.4) (214.5) (390.9) (201.1) (84.4) (0.3) Other items 201.1 115.8 - 51.8 - - Profit Before Tax 1,299.0 819.7 965.3 645.3 667.8 2,041.0

Taxation (89.8) (34.9) (37.2) (22.8) 5.5 (100.5) Profit After Tax 1,209.2 784.8 928.1 622.6 673.3 1,940.5

Minority Interest 209.6 65.5 80.7 91.5 (26.6) 255.9 Profit Attributable to the equity holders 999.6 719.3 847.4 531.1 699.9 1,684.7

2006 2007 2008 2009 2010E 2011E




Cashflow Statement

For the year ended 31st March

Profit Before Tax 1,299.0 819.7 965.3 645.3 667.8 2,041.0 Net Cashflow from Operating Activities 1,949.4 1,896.3 3,186.2 1,506.6 1,710.8 3,907.6

Cashflow from Investing Activities

Addition to Work In Progress (886.4) (1,815.8) (986.1) (758.8) (1,100.0) (1,200.0) Others (2,551.5) (678.5) (196.5) (171.4) (100.0) (100.0) Net cash used in Investing Activities (3,437.8) (2,494.3) (1,182.6) (930.2) (1,200.0) (1,300.0)

Cashflow from Financing Activities

Repayment of Long term borrowings (70.1) (184.7) (363.2) (423.1) (386.4) (416.4) Dividends paid to Equity holders (437.3) (421.1) (462.4) (446.7) (664.2) (664.2) Others 1,000.2 584.0 (95.0) (42.4) (28.3) (28.3) Net cash used in Financing Activities 492.8 (21.7) (920.6) (912.3) (1,078.9) (1,108.9)

Net increase in cash & cash equivalents (995.6) (619.8) 1,083.0 (336.0) (568.1) 1,498.8

Balance at the beginning of the year 1,836.4 635.3 15.6 1,098.6 762.6 194.5

Balance at the end of the year 840.8 15.6 1,098.6 762.6 194.5 1,693.3

2008 2009 2010E 2011E2006 2007

Sri Lanka Equities

CORPORATE UPDATE

August 2009



Yolan Seimon [email protected]

Commercial Bank of Ceylon PLC (COMB)

ProfileCommercial Bank of Ceylon PLC

(COMB) remains Sri Lanka’s leading

private sector bank accounting for 13%

of the country ’s LCB assets and

deposits and has gained a strong

reputation of being one of the best

managed banks in the country. The

bank having historically started as a

corporate bank with established

relationships with large firms and

trading establishments is now reaping

the benefits of its decision to go

nationwide in the 1980’s.

Approximately 44% of the banks

lending portfolio in Sri Lanka arises

from the corporate sector while the

growing retail and SME segment now

accounts for 56% of advances. The bank

operates 170 branches in Sri Lanka

along with 333 ATM machines across

the island with total assets of the bank

currently amounting to Rs. 280bn.

COMB has also successfully established a

presence in Bangladesh following the

acquisition of the Bangladesh branch of

Credit Agricole Indosuez in 2003. The bank

has since expanded its network to 9 banking

centres with a predominant corporate

lending portfolio with assets accounting for

8.3% of COMBs’ total assets and 6.54% of

gross income in the group. The quality of its

loan book in Bangladesh is reflected in the

fact that it recorded zero NPL’s in the first 5

years of operations.

COMB being the largest local private bank

in the country with 8 branches in the North

East region is well positioned to reap the

benefits of the anticipated boom in economic

activity in the country following the end of

the 3 decade long conflict in the country. The

central bank recently announced that

approvals have been granted for the opening

of 67 new branches in the Northern Province

alone in the 3 weeks that followed the end

of the conflict in mid May, in comparison to

136 branches opened across the entire

country during the whole of last year. This is

indicative of the untapped potential for the

Banking sector given the unprecedented

scope for development and growth in

investment in the country across all sectors

in a post war era, not withstanding the

immediate investments required in

reconstruction and inf rastructure

development in the North and East

provinces.


Rs 145.00 BUY

COMBReuters CodeBloomberg CodeShare Price LKRIssued Share Capital (Shares)*Voting*Non Voting12 mth High/Low (Rs.) - VotingAverage Daily Volume (Voting Shares)Market Capitalisation (Voting) Rs. mnPrice Performance (%) - Voting

1 mth 6 mth 12 mthASPI 19.84 49.66 (6.89)COMB 29.12 86.94 (0.60)* Adjusted for bonus and rights issues

131.25 / 66.0082,125

232,991,395 16,120,797

33,784

145.00 COMB.SL

COMB.CM

2004 7,397 1,727 1,495 6.00 21.04 24.16 2.56 4.1% 6.00 56.6 11%2005 8,769 2,360 2,128 8.54 42.32 16.98 2.26 3.1% 4.50 64.0 13%2006 11,473 2,951 2,718 10.91 27.73 13.29 2.26 3.4% 5.00 64.3 17%2007 16,273 4,152 4,037 16.20 48.52 8.95 1.48 4.8% 7.00 97.8 17%2008 19,642 4,120 4,119 16.53 2.04 8.77 1.38 4.8% 7.00 105.3 16%2009E 20,868 4,561 4,556 18.29 10.62 7.93 1.17 4.8% 7.00 123.6 15%2010E 24,140 5,366 5,360 21.52 17.65 6.74 1.00 4.8% 7.00 145.1 15%2011E 28,657 6,555 6,549 26.29 22.16 5.52 0.85 4.8% 7.00 171.4 15%2012E 34,726 8,091 8,083 32.45 23.43 4.47 0.71 4.8% 7.00 203.8 16%2013E 41,601 10,532 10,522 42.24 30.17 3.43 0.59 4.8% 7.00 246.1 17%

PER (x) Dividend Yield %

P/BVFinancial

Year (Dec)Net Income

(Rs.mn)NPAT

(Rs.mn)EPS (Rs.)

PAT, MI & Pref Divid (Rs.mn)

DPS Rs.EPS

Growth %NAV / Share

ROE

0

1,000,000

2,000,000

3,000,000

4,000,000

5,000,000

6,000,000

7,000,000

8,000,000

40

50

60

70

80

90

100

110

120

130

140

150

160

170

01-A

pr-

0312

-Au

g-0

318

-Dec

-03

10-M

ay-0

422

-Sep

-04

14-F

eb-0

507

-Ju

l-05

18-N

ov-

0517

-Ap

r-06

22-S

ep-0

602

-Feb

-07

29-J

un

-07

05-N

ov-

0714

-Mar

-08

28-J

ul-0

828

-No

v-08

16-A

pr-

0919

-Au

g-0

9

VolumePriceCOMB ADJUSTED PRICE - VOLUME GRAPH

Volume Price


...with the improvement in business

sentiment following the end of the three

decade long conflict, we expect a

significant upturn in credit growth in the

4QFY09 and thereafter over the next five

years with an increase in capital

investment in the country as a whole over

and above the short to medium

investments on reconstruction and

business expansion in the north and east

provinces.

Financial PerformanceThe bank weathered a tough 2008 which witnessed a high interest rate

environment, high inflation and weakening economic conditions which

resulted in a reduction in new business volumes and thus lower asset growth.

The bank nevertheless posted earnings of Rs. 4.12bn in FY08 including a

capital gain of Rs. 405.5mn on its sale of a 30% stake it had in Commercial

Leasing CO. PLC as well as charging Rs. 692.16mn to its income statement

on account of oil hedging contracts for which it is yet to receive payment.

The group ROAA stood at 1.5% for FY08 while ROAE for the group was

16.3%.

Asset growth for the bank in 2008 was 5.47% while growth in advances amounted to

just 3.49%. Deposits recorded an increase of 9.16% for the full year with the sharp rise

in interest rates resulting in a continued shift in the deposit mix from low cost savings

deposits to high cost time deposits. Net interest margins remained flat while net interest

income increased by 11.26%.

Non interest income for the bank grew by 44% with fees and commission income

emanating predominately from trade finance activities increasing by a modest 13.98%

while foreign exchange gains increased by 70.5% as a result of gains from forward forex

deals as well as gains recognized on revaluation of the retained profits of the banks off

shore banking centres following the devaluation of the SLR. Other income also increased

substantially on improved recoveries as well as a capital gain on a sale of it’s’ stake in

Commercial Leasing Co. PLC.

The sharp rise in interest rates along with the weaker economic conditions resulted in

an increase in NPL’s across the banking sector along with a slowdown in asset growth

resulting in COMBs’ NPL ratio net of interest in suspense increasing to 5.33% in

FY08 from 3.02% in FY07. Provision cover declined to 35.5% despite a 39.6% increase

in specific provisions for the year. The banks credit monitoring and credit risk management

has been a key strength of the bank over the years and has consistently helped the

bank record a lower NPL ratio than the industry.

Operating costs increased by 20.91% excluding the Rs. 692.16mn payment on oil

hedging contracts it is yet to be paid for resulting in a cost to income ratio of 46.96%

from 47.87% in 2007. The cost to income ratio excluding VAT paid on financial services

amounted to 40.0% which ranks as the best among local private banks.

The bank has expensed all dues on the oil hedging contract for 2008 and is confident

that a settlement will be reached on the matter with the authorities within the current

financial year.. This may result in a a reversal in full or inpart on the Rs.692mn expensesd

last year as well as added provisions made in the current year.

Loan Growth and Asset QualityAsset growth in the bank has recorded a 20.07% CAGR over the last five

years while its loan book has grown at a CAGR of 22.10% over the same

period marginally above a 21.35% CAGR witnessed in the Sri Lankan

banking sector over the same period. The banks’ personal banking division

now accounts for 56% of total advances with the bank evolving from being

an almost exclusive corporate lender in the 1980’s. The banks retail lending

portfolio consists mainly of consumption and housing loans while the banks corporate

loan portfolio is spread across key growth sectors of the economy without any significant


over exposure in any segment.

Loan growth in the banking sector has been minimal in the 1H FY09 largely due to the

depressed economic conditions witnessed earlier in the year. However with the

improvement in business sentiment following the end of the three decade long conflict,

we expect a significant upturn in credit growth in the 4QFY09 and thereafter over the

next five years with an increase in capital investment in the country as a whole over and

above the short to medium investments on reconstruction and business expansion in

the north and east provinces. We expect loan book growth of 5.83% in FY09 with an

upturn in credit growth in the 4Q from marginally negative asset growth witnessed in

the 1H. Loan book expansion expected for FY10 is 21.3% increasing incrementally to

25.4% by 2013 which are similar to assets growth rates witnessed during the 2002 –

2005 ceasefire period.

The bank anticipates giving greater focus toward the high yield SME and micro

enterprise sector in the medium term while also commencing activities in the pawning

business in 2008 which is zero rated for capital adequacy purposes.

The weakening economic conditions in FY08 and the 1HFY09 have resulted in some

stress in the assets of the domestic banking sector with demand in export markets

declining, domestic property prices declining and high inflation leading to an increase in

loan defaults. NPL’s net of interest in suspense increased to 7.41% as of 1QFY09 up

from 5.19%. We expect the NPL ratio to rise further in the current year to 8.50% for

FY09 given the low asset growth but decline to 7.75% in FY10 and improve

incrementally thereafter to 5% in FY13.

Improved asset growth together with declining commercial lending rates expected in

the 4Q continuing into FY10 as well as improved economic activity should result in

lower NPLs’ going forward as well as increased recoveries. Provision cover as at 1QFY09

stood at 32.9% but is expected to improve to 44% by year end while improving steadily

over the next three years to 72.5% by FY12.

Funding and CapitalDeposit growth for the bank has grown at a CAGR of 21.63% over the last

5 years. Low cost current and savings deposits which accounted for 53% of

the banks deposit base in 2006 declined to 45% in 2008 as rising interest

rates resulted in a migration from savings and current deposits to high cost

time deposits. Savings deposits and current accounts account for 36% and

9% of total deposits respectively.

The bank however continues to have a superior low cost deposit to total deposit ratio in

comparison to other private commercial banks and a healthy surplus of low cost retail

deposits over retail lending continues to help fund the banks corporate lending portfolio

having a positive impact on cumulative interest margins.

The bank has a portfolio of longstanding branded savings products targeted at children,

teens, seniors as well as working professionals which have helped the bank to cultivate

its strong retail deposit base. The bank does have 8 branches in the North and East

provinces and is expected to increase its presence in these regions giving a further boost

to its savings deposit base.

Deposit growth for 1Q FY09 was 2.21% and is expected to end the year with an

annual growth of 10.4% and increase to an average of 20% over the next 3 – 5 years.

The banks Tier 1 and Total capital adequacy ratios currently stand at 10.50% and

The bank continues to have a superior

low cost deposit to total deposit ratio in

comparison to other private commercial

banks and a healthy surplus of low cost

retail deposits over retail lending

continues to help fund the banks

corporate lending portfolio having a

positive impact on cumulative interest

margins.


13.11% respectively. The bank has always successfully attracted funds via attractively

priced rights issues over the years during periods when asset growth consistently

exceeded ROE of the bank. Furthermore the bank has regularly raised finds via

subordinated debt for Tier 2 capital. The banks capital adequacy is presently well

above minimum requirements of 5% and 10% for Tier 1 and Total capital respectively.

Net Interest IncomeThe sharp decline in yields on government securities has enabled banks to

re-price its liabilities enabling banks to off set the negative impact on net

interest margins caused by the adverse volume variance in the sector. One

year treasury bills have fallen from 19.12% at the start of the year to a

current rate of 13.40% which has spurred a downward revision on deposit

rates while commercial lending rates are expected to decline by the 4Q.

The time lag in re-pricing liabilities ahead of assets should ensure the bank retains

margins in FY09 and FY10 at approximately 4.9%. The banks efforts in promoting its

low cost savings deposits as well as its increased exposure to retail lending should

ensure that net interest margins remain at approximately 4.7% to 4.8% in the medium

term despite competitive pressures going forward.

Non Interest IncomeNon interest income has consistently accounted for one third of total net income of the

bank over the last 5 years and is expected to continue to do so over the next few years

on the back of forex gains and fees and commissions from trade finances activities. The

bank has aggressively pursued channeling the flow of worker remittances into the

country and it has increased its share of inward remittances to 13% from 9% in 2007.

Remittance houses established in Europe and the Far East as well as expansion of

activities in the Middle East under the brand ‘Commex’ is expected to contribute to

further gains on foreign exchange income. A modest depreciation of the SLR evident in

the current year would also contribute to forex gains from its off shore banking operations.

Operating ExpensesCOMB continues to record one of the lowest cost to income ratios among the local

banks. Scale benefits from its size as well as constant re-engineering and rationalization

of internal processes with the increased adoption of technology in its processes is expected

to continue to register an incremental decline in costs going forward. The cost to income

ratio in 2009 is expected to be marginally higher largely as a function of lower net

interest income as apposed to a sharp rise in operating costs.

ValuationsEarnings growth forecasts of 10.6% in FY09 and 20.9% in FY10 correspond to a PER

of 7.93x and 6.74x and a P/BV of 1.17x and 1.00x respectively at a market price of Rs.

145.00. The counter trades at a 6% premium to the sector and a 39.9% discount to

market. Given that the bank has consistently exhibited sound fundamentals and is

well positioned to further consolidate its market position in Sri Lanka while having

strong medium to long term prospects in the region, it is our view that the counter ought

to trade at a significant premium to the sector. We recommend BUY.


Income Statement 2004 2005 2006 2007 2008 2009E 2010E 2011E 2012E 2013EFor the Year Ended 31st December Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn

Income 12,437 16,226 23,418 35,207 43,960 44,268 48,247 54,619 64,648 76,796

Net Interest Income 4,738 5,837 7,357 11,587 12,896 13,754 15,339 17,692 21,374 25,662

Foreign exchange profit 874 587 1,439 1,545 2,633 3,028 3,695 4,581 5,543 6,541 Fee and commisison income 1,377 1,760 2,011 2,382 2,715 3,177 3,971 4,963 6,105 7,387 Other Income 409 586 665 760 1,398 909 1,136 1,420 1,704 2,011 Net Income 7,397 8,769 11,473 16,273 19,642 20,868 24,140 28,657 34,726 41,601

Less Operating Expenses

Personnel Costs 1,820 2,144 2,566 3,284 3,665 4,350 5,133 6,057 7,147 8,434 Premises and Equipment expenses 1,019 1,146 1,384 1,600 1,996 2,355 2,732 3,170 3,677 4,265 Provision for staff retirement benefits 326 236 - 269 293 325 362 405 454 509 Loan losses and Provisions 699 415 655 1,777 2,278 2,177 2,223 1,831 2,545 2,030 Other Overhead expenses 1,015 1,258 1,829 2,578 4,003 4,315 5,048 5,907 6,970 8,224 Total Expenses (4,879) (5,199) (6,435) (9,507) (12,235) (13,523) (15,498) (17,370) (20,793) (23,462)

Profit from Operations 2,518 3,570 5,038 6,766 7,407 7,345 8,642 11,287 13,933 18,139

Add: Share of PBT of Assoc. 76 100 62 25 9 11 13 15 17 19 Profit before Tax 2,594 3,670 5,101 6,791 7,416 7,357 8,655 11,302 13,950 18,159

Less: Provision for Taxation 867 1,311 2,150 2,638 3,296 2,795 3,289 4,747 5,859 7,627 Profit after taxation 1,727 2,360 2,951 4,152 4,120 4,561 5,366 6,555 8,091 10,532

Less: Minority Interest 2 - 3 3 2 5 5 7 8 11 Net profit for the year 1,725 2,358 2,948 4,149 4,119 4,556 5,360 6,549 8,083 10,522

Cum. Red. Pref. Shares 13% 117.78 117.78 117.78 Cum. Red. Pref. Shares 11.25% 112.50 112.50 112.50 112.50 NPAT, MI & Pref. Dividend 1,495 2,128 2,718 4,037 4,119 4,556 5,360 6,549 8,083 10,522

COMB 2005 2006 2007 2008 2009E 2010E 2011E 2012E 2013EPrice / Book Value 2.3 2.3 1.5 1.4 1.2 1.0 0.8 0.7 0.6 EPS 8.5 10.9 16.2 16.5 18.3 21.5 26.3 32.4 42.2 PER 17.0 13.3 8.9 8.8 7.9 6.7 5.5 4.5 3.4 EPS Growth 42.3% 27.7% 48.5% 2.0% 10.6% 17.6% 22.2% 23.4% 30.2%DVD YLD 4.1% 4.1% 4.1% 4.1% 4.1% 4.1% 4.1% 4.1% 4.1%ROE 13.3% 17.0% 16.6% 15.7% 14.8% 14.8% 15.3% 15.9% 17.2%ROAE 14.2% 17.0% 20.0% 16.3% 16.0% 16.0% 16.6% 17.3% 18.8%ROAA 1.3% 1.3% 1.6% 1.5% 1.5% 1.6% 1.7% 1.8% 2.0%NIM 3.6% 3.7% 4.6% 5.0% 4.97% 4.96% 4.9% 4.9% 4.9%Fee Income / Operating Income 33% 36% 29% 34% 34% 36% 38% 38% 38%Cost / Income 54.6% 50.4% 47.5% 50.7% 54.4% 55.0% 54.2% 52.5% 51.5%Cost / Income (Excl VAT) 47.4% 41.9% 38.0% 40.0% 43.5% 44.0% 43.4% 42.0% 41.2%Cost / Average Assets 2.97% 2.86% 3.14% 3.62% 3.82% 3.97% 4.05% 4.06% 4.04%Tier 1 9.68% 7.62% 10.00% 10.55%Loan Growth 30.9% 26.8% 15.8% 3.5% 5.8% 13.8% 22.2% 23.3% 24.4%Asset Growth 27.0% 24.4% 19.8% 4.9% 10.9% 13.9% 15.8% 17.9% 18.4%RWA Growth 29% 33% 21% 5% 11% 14% 16% 18% 18%Loan/ Deposits 93.1% 95.5% 95.1% 90.2% 86.4% 86.7% 91.2% 94.5% 98.6%Loan / Assets 65.9% 67.1% 64.9% 64.0% 61.0% 61.0% 64.3% 67.3% 70.7%Deposist / Liabilities 77.6% 75.7% 75.0% 78.3% 78.4% 78.2% 78.7% 79.6% 80.3%Equity / Assets 8.9% 7.1% 9.1% 9.3% 9.9% 10.2% 10.4% 10.5% 10.7%NPL Ratio 3.43% 2.79% 3.02% 5.33% 8.50% 7.50% 6.75% 6.00% 5.00%NPL Coverage 53.9% 60.4% 67.5% 51.5% 44.0% 57.5% 62.5% 70.0% 77.5%% Change in NPL's -0.9% 3.1% 25.5% 82.5% 68.6% 0.4% 10.0% 9.6% 3.7%


Balance Sheet 2004 2005 2006 2007 2008 2009E 2010E 2011E 2012E 2013E

As at 31st December Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn

ASSETS

Cash and short-term funds 12,136 18,657 13,731 16,208 24,115 26,080 28,688 31,557 34,712 38,184 Balances with Central Banks 6,320 9,045 12,574 11,576 10,322 20,849 30,832 30,506 32,270 29,626 Government Treasury Bills and Bonds 6,647 19,160 12,222 41,266 35,598 35,199 33,439 31,767 30,178 28,670 Commercial paper 560 408 423 - - - - - - - Sec. purchased under re-sale agreements 2,087 808 4,593 3,804 3,400 3,570 3,749 3,936 4,133 4,340 Dealing Securities 110 182 145 207 58 438 350 385 424 466 Investment securities 2,940 3,691 1,795 1,756 1,197 1,358 1,798 2,068 2,378 2,735 Treasury Bonds Maturing after one year 14,379 1,714 20,025 8,795 16,270 22,532 27,039 32,446 38,936 46,723 Bills of Exchange 2,799 2,790 3,288 3,195 3,059 3,120 3,276 3,342 3,408 3,477 Loans and Advances 82,605 108,917 137,720 160,177 167,795 177,862 202,763 249,399 309,254 386,568 Lease rec. within one year 2,004 2,676 3,007 3,562 3,009 3,129 3,505 3,996 4,595 5,376 Lease rec. from one to five years 3,243 4,295 6,415 7,238 6,335 6,588 7,378 8,411 9,673 11,318

135,828 172,345 215,938 258,164 271,159 300,726 342,817 397,812 469,961 557,480

Investment in Assoc. 243 283 41 63 71 87 96 96 96 96 Interest and Fees receivables 1,143 1,199 1,639 2,120 2,341 2,969 3,266 3,658 4,097 4,588 Other Assets 1,445 2,944 3,006 4,041 3,654 3,850 4,256 4,596 4,964 5,361 Property, Plant and Equipment 3,134 3,365 3,438 3,997 4,343 4,765 5,365 6,009 6,730 7,537 TOTAL ASSETS 141,792 180,135 224,061 268,385 281,567 312,397 355,800 412,171 485,848 575,064

Financed By : - - - - - - - - - - Deposits form customers 98,622 127,491 157,532 183,088 199,865 220,665 250,082 290,760 346,081 412,696 Dividends Payable 232 230 113 113 - - - - - - Borrowings 9,090 13,453 18,944 18,752 13,620 17,433 22,314 27,224 32,668 39,202 Sec. sold under repurchase agreements 12,261 11,386 14,317 23,238 24,960 27,705 30,753 34,136 37,890 42,058 Other Liabilties 3,491 6,070 8,402 9,741 10,094 10,397 10,709 11,030 11,361 11,702 Tax Payable 484 773 1,420 1,679 1,663 2 2 3 3 - Deferred Taxation 251 239 625 712 676 947 1,326 1,856 2,598 3,638 Debentures 3,244 4,553 6,680 6,680 4,436 4,436 4,436 4,436 4,436 4,436

127,676 164,168 208,033 244,004 255,314 281,585 319,621 369,444 435,038 513,732

Minority Interest 12 13 11 24 27 30 36 36 36 36 SHAREHOLDERS FUNDS

Ordinary Shares - Voting 650 1,328 1,335 2,329 2,363 2,363 2,363 2,363 2,363 2,363 Ordinary Shares - Non Voting 47 93 93 161 161 161 161 161 161 161 13% Cum. Pref. shares 907 907 - - - - - - - - 11.25% Cum. Red. Pref. Shares 1,000 1,000 1,000 1,000 - - - - - - Share Capital 2,603 3,327 2,428 3,491 2,524 2,524 2,524 2,524 2,524 2,524 Statutory Reserve Fund 1,010 1,422 1,429 1,634 1,848 2,076 2,344 2,671 3,075 3,601 Reserves 10,491 11,205 12,159 19,233 21,854 26,183 31,275 37,497 45,175 55,171 Shareholders Funds 14,105 15,954 16,016 24,358 26,226 30,783 36,143 42,692 50,774 61,296

141,792 180,135 224,061 268,385 281,567 312,397 355,800 412,171 485,848 575,064



Sri Lanka Equities

CORPORATE UPDATE

August 2009



Yolan Seimon [email protected]

Sampath Bank PLC (SAMP)

ProfileSAMP is the fourth largest private

bank in the country with a 7.3% share

of LCB assets and a branch network

of 124 centres across the island. SAMP

has a 100% stake in both Sampath

Surakum Ltd, a Primary Dealer in

Government Securities, and Sampath

Leasing and Factoring Ltd. In addition

the bank has a 51% stake in S.C

Securities (Pvt) Ltd, a mid sized share

broking company. The bank also has a

20.6% stake in Lankabangla Finance

Ltd, a listed finance company in

Bangladesh also engaged in merchant

banking, credit cards as well as owning

a highly profitable stock broking

subsidiary which has been the market

leader for the last three consecutive

years. The unrealized capital gain for

SAMP on this investment at current

market prices is Rs. 3.06bn.

A change in senior management

announced in late 2008 includes the

appointment of Mr. Harris Premaratne

as CEO and Mr. Ranjith

Samaranayake as CFO, two senior

bankers that retired from Commercial

Bank of Ceylon as Senior Deputy

General Managers who played and an

integral role in the aggressive growth

of Commercial Bank of Ceylon over the

last two decades. This follows the

retirement of Mr. A.S. Amarasuriya as

CEO of SAMP, under whom the bank

recorded steady and cautious growth

over the last 9 years

Financial PerformanceThe bank posted earnings of 22.1% for

1QFY09 assisted by steep gains in foreign

exchange earnings as a result of the sharp

depreciation in the SLR early in the year.

Non interest income increased by 25.6% for

1QFY09. Furthermore net interest income

increased by 26.3% with net interest

margins widening in the quarter as the bank

re-priced liabilities ahead of re-pricing

advances as treasury yields continued to

decline.

Total net loans and advances were down by

3.2% for the quarter as evident across the

banking sector while deposit growth was

marginally up by 0.4% for 1QFY09. The

weak economic conditions witnessed over the

last 18 months has resulted in some strain in

the banks’ loan book, with NPL’s rising to

8.86% as at 1QFY09. Provision cover for

the bank stood at 62.6% down from 68%

witnessed at the end of FY08.

Loan Growth and Asset Quality

The bank has consistently reflected sound

asset quality, while recording steady loan

growth in line with the sector. Much of the

recent growth in advances over recent years


Rs 125.00 BUY

-

500,000

1,000,000

1,500,000

2,000,000

2,500,000

3,000,000

3,500,000

4,000,000

4,500,000

-

10

20

30

40

50

60

70

80

90

100

110

120

130

140

02-J

an-0

322

-Apr

-03

22-J

ul-0

322

-Oct

-03

30-J

an-0

427

-May

-04

08-S

ep-0

421

-Dec

-04

05-A

pr-0

519

-Jul

-05

27-O

ct-0

507

-Feb

-06

24-M

ay-0

622

-Sep

-06

28-D

ec-0

617

-Apr

-07

27-J

ul-0

709

-Nov

-07

21-F

eb-0

810

-Jun

-08

15-S

ep-0

809

-Jan

-09

24-A

pr-0

927

-Jul

-09

VolumeRs. SAMP ADJUSTED PRICE - VOLUME GRAPH

Volume Price

2004 4,212 686 9.96 (6.52) 12.55 2.03 2.9% 2.00 61.7 16%

2005 4,932 854 12.40 24.51 10.08 1.44 2.9% 2.00 87.0 14%

2006 6,632 1,072 15.56 25.46 8.03 1.24 3.6% 2.50 100.8 15%

2007 7,554 1,145 16.62 6.81 7.52 0.90 4.4% 3.00 138.6 12%

2008 9,567 1,495 21.70 30.56 5.76 0.80 5.8% 4.00 157.1 14%

2009E 10,841 1,650 23.95 10.40 5.22 0.70 5.8% 4.00 179.0 13%

2010E 12,534 1,916 27.82 16.14 4.49 0.60 5.8% 4.00 206.9 13%

2011E 15,268 2,249 32.65 17.38 3.83 0.52 5.8% 4.00 239.5 14%

2012E 18,249 2,887 41.91 28.36 2.98 0.44 5.8% 4.00 281.4 15%

2013E 22,482 3,817 55.41 32.19 2.26 0.37 5.8% 4.00 336.8 16%

2014E 27,669 5,120 74.32 34.13 1.68 0.30 5.8% 4.00 411.2 18%

Dividend Yield %

P/BV DPS Rs. NAV / Share

ROEEPS Growth

%PER (x)

Financial Year (Dec)

Net Income (Rs. mn)

EPS (Rs.)

NPAT (Rs. mn)

SAMP

Reuters CodeBloomberg CodeShare Price LKR

Voting12 mth High/Low (Rs.)Market Capitalisation (Rs.mn)Average Daily Volume (Shares)

Price Performance (%)

1 mth 6 mth 12 mth

ASPI 4.42 38.68 2.53

SAMP 16.82 68.35 31.58* Adjusted for bonus and rights issues

51,854

Issued Share Capital (Shares)68,887,628

8,611 125.00 / 65.00

SAMP.CMSAMP.SL125.00


Loan growth for the current year is

expected to be 6.3% in FY09 and 12.9% in

FY10 with an upturn in credit growth

anticipated from the 4QFY09. We

anticipate loan growth of 24% in the year’s

post 2010 as the wider economy begins

to reap the benefits of a post war era.

has arisen from personal retail loans, pawning, leasing and housing loans, in line with

the trend seen in the sector. Corporate loans account for approximately 60% of its loan

book with consumer and SME loans accounting for approximately 30% and 10%

respectively.

The banks loan book has however seen some stress in the current year with NPL’s net

of interest in suspense expected to rise to 9.5% in the current year. Provision cover

however should hold steady at 65% for FY09.

The bank does have exposure to a foriegn bond position of US$12mn for which it has

already provided a third of the expsoure. The bank is currently in the process of recovering

its investment in this position. We have already factored in a further one third diminution

in the value of this investment.

It is our expectation that with the change in management, credit risk assessment and

monitoring processes will improve in the bank and NPL’s will decline incrementally

over the next 2 – 3 years. A re-organization of the banks credit granting mechanisms is

already underway.

Growth in the banks loan book was just 1.6% in FY08 as expected given the high

interest rate environment and weak economic conditions stemming from sustained

high inflation which has since fallen sharply over the last 6 - 8 months. Loan growth for

the current year is expected to be 6.3% in FY09 and 12.9% in FY10 with an upturn in

credit growth anticipated from the 4QFY09. We anticipate loan growth of 24% in the

year’s post 2010 as the wider economy begins to reap the benefits of a post war era.

Funding and CapitalLow cost saving and current deposits account for 38% of the banks deposit base, with

total customer deposits growing at a CAGR of 22.24% over the last five years assisted

by steady branch expansion from 63 branches in 2003 to 116 at present. Deposit

growth for the quarter amounted to 0.4% for 1QFY09 with year end growth expected

to amount to 14.44% with an anticipated increase in deposits expected in the 3rrd and

4th quarters. Deposit growth is expected to gather pace over the next few years to

approximately 20% yoy post 2010.

The banks Tier 1 and Total Capital Adequacy Ratio stood at 8.74% and 12.75%

respectively as at 31st March 2009, above statutory requirements of 5% and 10%

respectively. Sustained loan book growth as seen over the last five years has not been

matched by growth in its capital position which resulted in the bank announcing a 1 for

4 rights issue at Rs. 100/- per share late last year to raise Rs. 1.72bn. The subsequent

decline in market prices resulted in the issue failing to gain shareholder approval in late

October 2008. The bank intended to follow the rights issue with a private placement to

IFC and Shorecap International to raise a further Rs. 2.29bn, which subsequently did

not materialize as a result of the failed rights issue.

The bank does have real estate and quoted investments with significant unrealized

gains that could help shore up its capital base. The modest loan growth witnessed last

year and the current year has meant that the bank is currently not in any urgent


requirement of a capital infusion.

Net Interest IncomeNet interest margins increased marginally in the 1Q as liabilities were revised downwards

ahead of a downward revision in lending rates sparked by a sharp decline in treasury

yields earlier in the year. The favourable rate variance will result in positive net interest

income growth of 2.2% in FY09 while increased loan growth in the next few years is

expected to result in steady growth in net interest income. Net interest margins for the

bank are expected to range between 4.5% - 4.7% over the next few years.

Non Interest IncomeSAMP has consistently pioneered the adoption of technology into banking services

among local banks since its inception in 1987. These value added services along with

other non-interest income revenue streams such as foreign exchange income is expected

see non-interest income continue to account for approximately a third of the banks’ net

income. Non interest income is expected to grow at approximately 25% year on year

going forward.

Operating ExpensesThe banks’ cost to income ratio still remains in line with the sector average but higher

than other established peers such as COMB and NDB. An increase in net interest

income in the next few years is expected to result in a moderate decline in the banks’

cost to income ratio.

ValuationsEarnings growth forecasts of 10.36% in FY09 and 16.14% in FY10 correspond to a

PER of 5.22x and 4.49x and a P/BV of 0.80x and 0.70x respectively at a market price

of Rs. 125.00. The counter trades at a 25.4% discount to the sector and a 53% discount

to market. Given the banks steady growth over the years as well as its strengthened

senior management, we believe the steep discount to both sector and NAV is

unwarranted. We recommend BUY.

Given the banks steady growth over the

years as well as its strengthened senior

management, we believe the steep

discount to both sector and NAV is

unwarranted.


Income Statement 2004 2005 2006 2007 2008 2009E 2010E 2011E 2012E 2013EFor the Year Ended 31st December Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn

Income 7,560 9,135 12,934 18,081 23,069 22,786 25,564 28,348 33,264 40,386 Net Interest Income 2,616 3,372 4,202 4,999 6,601 6,749 7,387 8,837 10,214 12,441

Foreign exchange profit 617 192 646 505 647 725 900 1,125 1,406 1,758 Fee and commisison income 630 829 1,107 1,211 1,355 1,950 2,370 2,963 3,703 4,629 Other Income 348 538 677 839 963 1,417 1,877 2,343 2,926 3,655

4,212 4,932 6,632 7,554 9,567 10,841 12,534 15,268 18,249 22,482

N.S.LNet Income 4,212 4,932 6,632 7,554 9,567 10,841 12,534 15,268 18,249 22,482

Less Operating Expenses

Personnel Costs 857 1,037 1,286 1,472 2,018 2,280 2,750 3,328 4,026 4,912 Premises and Equipment expenses 851 907 1,101 1,328 1,666 1,900 2,350 2,844 3,441 4,198 Provision for staff retirement benefits 130 120 144 171 188 305 385 466 564 688 Loan losses and Provisions 561 622 493 960 846 1,148 915 1,304 1,077 1,023 Other Overhead expenses 722 824 1,252 1,367 2,243 2,250 2,700 3,267 3,953 4,823 Total Expenses (3,120) (3,511) (4,276) (5,298) (6,961) (7,883) (9,100) (11,207) (13,061) (15,643)

Profit from Operations 1,091 1,421 2,357 2,256 2,607 2,958 3,435 4,061 5,189 6,839

Add: Share of PBT of Assoc. 12 18 38 128 181 195 224 258 297 341 Profit before Tax 1,096 1,432 2,395 2,384 2,787 3,153 3,659 4,319 5,485 7,180

Less: Provision for Taxation 350 503 1,261 1,182 1,262 1,407 1,632 1,939 2,431 3,143 Profit after taxation 747 929 1,134 1,202 1,525 1,746 2,027 2,380 3,054 4,038

Less: Minority Interest 60 74 62 57 30 95 111 130 167 221 Net profit for the year 686 854 1,072 1,145 1,495 1,650 1,916 2,249 2,887 3,817

Ratio Analysis 2005 2006 2007 2008 2009E 2010E 2011E 2012E 2013E

Price / Book Value 1.44 1.24 0.90 0.80 0.70 0.60 0.52 0.44 0.37

EPS 12.4 15.6 16.6 21.7 24.0 27.8 32.7 41.9 55.4

PER 10.1 8.0 7.5 5.8 5.2 4.5 3.8 3.0 2.3

EPS Growth 24.5% 25.5% 6.8% 30.6% 10.4% 16.1% 17.4% 28.4% 32.2%

DVD YLD 1.6% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0%

ROE 14.3% 15.4% 12.0% 13.8% 13.4% 13.4% 13.6% 14.9% 16.4%

ROAE 16.7% 16.6% 13.9% 14.7% 14.3% 14.4% 14.6% 16.1% 17.9%

ROAA 1.1% 1.1% 1.0% 1.1% 1.2% 1.2% 1.2% 1.3% 1.4%

NIM 4.6% 4.5% 4.5% 5.1% 4.6% 4.5% 4.5% 4.3% 4.3%

Fee Income / Operating Income 32% 37% 34% 31% 38% 41% 42% 44% 45%

Cost / Income 71.2% 64.5% 70.1% 72.7% 72.7% 72.6% 73.4% 71.6% 69.6%

Cost / Income (Excl VAT) 65.0% 55.3% 61.9% 62.6% 62.6% 62.5% 63.3% 61.5% 59.5%

Cost / Average Assets 4.69% 4.45% 4.44% 5.29% 5.53% 5.60% 5.92% 5.76% 5.72%

Tier 1 10.14% 8.38% 7.58% 8.10%

Total Capital Adequacy 13.53% 10.82% 11.58% 11.95%

Loan Growth 28.4% 29.7% 23.4% 1.6% 6.3% 12.9% 21.4% 23.9% 23.9%

Asset Growth 25.4% 30.1% 21.2% 3.1% 14.4% 14.9% 17.5% 19.1% 19.8%

RWA Growth 30% 45% 23% 7% 14% 15% 18% 19% 20%

Loan/ Deposits 88.5% 90.6% 91.4% 85.9% 79.8% 78.1% 79.8% 82.0% 84.0%

Loan / Assets 64.5% 64.3% 65.5% 64.5% 60.0% 58.9% 60.9% 63.3% 65.5%

Deposit / Liabilities 78.7% 75.8% 77.2% 81.4% 81.3% 81.7% 82.5% 83.4% 84.2%

Equity / Assets 6.9% 6.1% 6.9% 7.6% 7.6% 7.6% 7.5% 7.4% 7.4%

NPL Ratio 6.19% 5.52% 7.03% 8.00% 9.50% 9.00% 8.50% 7.50% 6.50%

NPL Coverage 82.4% 82.3% 63.6% 66.5% 65.0% 70.0% 72.5% 75.0% 77.5%




Balance Sheet 2004 2005 2006 2007 2008 2009E 2010E 2011E 2012E 2013E

As at 31st December Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn Rs. 'mn

ASSETSCash and short-term funds 4,810 5,848 8,820 9,108 6,924 13,262 15,251 17,538 20,169 23,195

Balances with Central Banks 4,472 5,671 6,719 7,698 6,879 7,575 7,975 8,414 8,876 9,365 Government Treasury Bills and Bonds 303 229 12,172 13,658 20,741 24,889 29,120 33,197 37,513 42,014 Sec.purchased under re-sale agreements 11 356 301 14 3 3 3 4 4 5 Dealing Securities 4,468 4,671 4,165 4,275 1,224 1,346 1,481 1,629 1,791 1,971 Investment securities 8,325 9,612 2,888 4,410 5,397 6,747 8,433 10,541 13,177 16,471 Bills of Exchange 2,210 2,557 2,390 2,772 2,658 2,818 3,156 3,850 4,774 5,920 Loans and Advances 39,827 50,092 63,446 78,467 81,429 86,314 97,535 118,993 147,551 182,964 Lease receivable within one year 629 1,559 2,368 3,020 3,173 3,490 3,909 4,808 5,962 7,393 Lease receiveable from one to five years 1,320 2,253 5,025 6,093 4,556 5,011 5,612 6,174 7,470 9,114

66,374 82,847 108,294 129,614 132,983 151,455 172,476 205,148 247,288 298,410

Goodwil on consolidation & pre paid taxInvestment in Assoc. 54 407 445 300 364 413 413 413 413 413 Interest and Fees receivables 888 1,291 1,442 1,750 2,325 953 953 953 953 953 Other Assets 533 760 995 1,712 1,834 5,118 8,041 7,763 7,248 7,475 Property, Plant and Equipment 1,939 2,194 2,695 4,445 4,646 4,832 5,170 5,532 5,920 6,334 TOTAL ASSETS 69,808 87,511 113,884 137,984 142,279 162,784 187,066 219,823 261,835 313,598

Financed By :

Deposits form customers 50,405 63,786 80,787 98,864 106,892 122,329 141,184 167,636 202,093 244,580 Dividends Payable 16 44 18 23 32 138 138 138 138 138 Borrowings 4,906 4,184 10,248 15,573 10,743 12,462 14,456 16,769 19,452 22,564 Sec. sold under repurchase agreements 3,915 6,335 7,004 2,687 2,440 2,562 2,690 2,824 2,965 3,114

Other Liabilties 3,251 3,743 4,656 5,365 5,782 6,302 6,869 7,487 8,161 8,896 Tax Payable 230 235 733 632 669 1,262 1,407 1,632 1,939 2,431 Deferred Taxation 167 210 384 444 269 282 296 311 327 343 Debentures 2,196 2,491 2,734 4,433 4,514 5,101 5,764 6,514 7,360 8,317

65,087 81,028 106,565 128,022 131,339 150,438 172,803 203,310 242,435 290,382 Minority Interest 473 488 373 413 120 12 12 12 12 12

Share Capital 517 689 1,582 1,582 1,582 1,582 1,582 1,582 1,582 1,582 Statutory Reserve Fund 243 286 338 391 422 286 286 286 286 286 Reserves 3,488 5,020 5,027 7,577 8,816 10,466 12,383 14,632 17,519 21,336 Shareholders Funds 4,248 5,995 6,947 9,549 10,820 12,334 14,251 16,500 19,387 23,204

69,808 87,511 113,884 137,984 142,279 162,784 187,066 219,823 261,835 313,598

Sri Lanka Equities

CORPORATE UPDATE

August 2009



Dimantha Mathew [email protected]

Tokyo Cement Company Lanka PLC (TKYO)

Executive SummaryTokyo Cement, a joint venture between local

conglomerate St. Antony’s Consolidated and

Nippon Coke & Engineering Company of

Japan is a dominant player in the domestic

cement industry with a 30% market share.

The group doubled its grinding capacity in

FY09 to 1.8m MT increasing total installed

capacity of 2.4m MT per annum. Tokyo

Cement completed its long delayed 10MW

Bio Mass power plant in FY09 which will

provide its total electricity requirement while

qualifying for gaining carbon credits bringing

in additional revenue to the company. The

company’s grinding facility is located in the

Eastern sea port of Trincomalee, ideally

located for the rebuilding boom.

With the declining trend in inflation and

interest rates and improving consumer

spending, the construction sector is likely to

pick up rapidly towards the final quarter in

CY09. Resulting from adverse economic

conditions, the construction sector went

through a moderate slowdown in CY08 to

7.8%. However, the end of the North-East

conflict and the rebuilding effort through

housing and inf rastructure projects is

expected to fast track the growth momentum

in the industry indicating a 10% plus growth

rate through CY11.

The cement industry imports 53% of its

requirement providing domestic producers

ample ground for expansion. With the

construction industry expected to boom,

cement growth in FY09 is expected to

increase by a modest 3%, while FY10 growth

is likely to exceed 15%.

Tokyo Cement earnings declined 37% to

Rs.347m for FY09 on account of high clinker

prices, energy and transportation costs and

high finance costs. Clinker prices have

softened since 3QFY09, and margins

improved to 20% in 4QFY09 from 13% in

3QFY09. Given the large scale

infrastructure projects in the pipeline and

the expected boom in cement demand we

expect TKYO revenue prospects to be

healthy. With the 10MW bio mass power

plant now completed and clinker prices

declining, it is likely to help Tokyo Cement

to significantly improve its margins.

We expect TKYO to post an earnings growth

of 69% to Rs.587m in FY10E and earnings

growth of 59% to Rs.935m for FY11E. At

154.75, the voting share trades at a PER of

7.12x FY10 earnings and 3.79x FY11

earnings. At 13.50, the non-voting share

trades at a PER of 6.1x FY10 earnings and

3.25x FY11 earnings. The voting and non-

voting shares trade at a discount to the

broader market on FY10E earnings.


TKYO.N - Rs 154.75 TKYO.X - Rs 13.50 BUY

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TKYO

Reuters CodeBloomberg CodeShare Price LKR

VotingNon-Voting

Issued Share Capital (Shares)VotingNon-Voting

Voting 12 mth High/Low (Rs.) Non-Voting 12 mth High/Low (Rs.) Average Daily Volume - TKYO.NAverage Daily Volume - TKYO.XMarket Capitalisation Rs. mnPrice Performance (%) 1 mth 6 mth 12mthASPI 1.51 48.53 4.50

TKYO.N -6.25 11.11 -40.00

TKYO.X -7.02 20.45 -1.85

TKYO.CMTKYO.SL

154.75 13.25

18,000,000

274.00 / 115.00

27,432

3,978

90,000,000

15.00 / 7.00

238,335

Fiscal year

Net Profit (Rs m)

EPS (Rs) Voting

EPS (Rs) Non-Voting

EPS Growth

(%)

PER (X) Voting

PER (X) Non-Voting

ROE (%)

2005 322.0 11.93 1.19 (4.45) 12.98 11.11 12.792006 628.0 23.26 2.33 95.03 6.65 5.70 16.462007 814.0 30.15 3.01 29.62 5.13 4.39 18.152008 554.0 20.52 2.05 (31.94) 7.54 6.46 11.072009 347.0 12.85 1.29 (37.36) 12.04 10.31 6.622010E 586.6 21.72 2.17 69.04 7.12 6.10 10.172011E 1102.0 40.82 4.08 87.88 3.79 3.25 16.28


The newly constructed grinding plant of

900,000MT capacity in Trincomalee is fully

owned by TSCCL and has doubled the

grinding capacity of the Group to 1.8m

MT while the total capacity extends to

2.4m MT with the bagging plant in

Colombo.

ProfileTokyo Cement Company (Lanka) PLC (TKYO), is one of the largest grinders of

Portland and Pozzollana cement in Sri Lanka on a joint venture between local

conglomerate St. Antony’s Consolidated and Nippon Coke & Engineering Company

of Japan. The group structure consists of 3 subsidiaries out of which Fuji Cement

Company (Lanka) Ltd. (FCCL) and Tokyo Super Cement Company Lanka (Pvt)

Ltd. (TSCCL) are fully owned while Tokyo Cement Colombo Terminal (Pvt) Ltd.

(TCCT) is a 56.85% subsidiary.

Tokyo Cement operates a cement grinding plant with a capacity of 600,000MT while

FCCL cement grinding plant capacity is 300,000MT. Both plants are situated in

Trincomalee where the company owns a private 100 metre jetty, which can berth

25,000 tonnage ships. TCCT operates a bagging plant within the Port of Colombo

consisting of 600,000MT.

The newly constructed grinding plant of 900,000MT capacity in Trincomalee is fully

owned by TSCCL and has doubled the grinding capacity of the Group to 1.8m MT

while the total capacity extends to 2.4m MT with the bagging plant in Colombo.

The group currently owns 3 ships with capacities of 17,500MT, 20,000MT &

22,000MT respectively to ensure an uninterrupted supply of raw materials,

predominantly clinker.

Construction Industry

The industry boomed in 2006 & 2007 as growth rates picked up by 9.2% and 9%

respectively on the back of rapid escalation of housing and condominium projects.

However, with inflation and interest rates skyrocketing, the growth in the sector slipped

during CY08 while large scale infrastructure projects in the country which multiplied

with the liberation of the East gave some respite to the sector. Construction sector

growth in CY08 lost pace slowing to 6.2% in 4QCY08 and 7.8% for CY08.

The burst of the commodity bubble saw commodity prices sloping down bringing

inflation to a manageable level. The point to point inflation in June stood at 3.3%.

Central bank cut interest rates 4 times with inflation easing off in the 1HCY09, signaling

a buoyant period for the construction sector towards the latter half of CY09.

Conflict ZoneThe Eastern Province of the island was completely liberated from the clutches of

terrorism and the Provincial Council elections were held in May 2008. The successful

completion of military operations in the Northern Province in May, has brought to an

end the three decade long conflict.

Similar to the era of the ceasefire agreement in 2002-2005, the end of the conflict is

expected to result in a construction boom, particularly in the North and East. The

Government had already pledged to launch the program “Uthuru Vasanthaya” aimed

at re-developing the North with houses, roads, bridges and electrification.

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%Quarterly Growth in Construction Industry


Cement IndustryThe cement industry has shown considerable growth in the last few years with cement

consumption growing at a CAGR of 9.4% from CY03-CY07 while CY07 consumption

grew 10.7%. The current total cement consumption is 4.2m MT per annum while

domestic production is almost 2m MT where the balance 53% is imported from countries

such as India, China, Thailand and Indonesia.

The domestic production of cement is dominated by Tokyo Cement and Holcim Lanka

each having a 30% market share (including of imported cement). Both companies are

looking to expand production capacity with only 47% of the demand met by domestic

production and grinding. Tokyo cement already doubled its grinding capacity in CY08

while Holcim which obtained approval to expand to Trinco will be starting construction

in CY09. Tokyo Cement has capacity of 2.4m MT per annum while Holcim has 1.4m

MT per annum (Source: www.holcim.com).

The growth momentum of cement was affected by the slow performance in private

construction activities mainly housing and commercial projects due to the increased

cost of borrowing and raw materials in CY08. The rise in demand from resettlement

and rehabilitation activities in the Eastern province, continuation of tsunami

reconstruction activities and state infrastructure development projects, managed to

partially offset the decreased demand of cement from the private sector construction

activities. With the end of the conflict we expect demand for cement to grow as the

construction sector is likely to pickup with the government aiming to fast track the re-

building process in the North and East.

ClinkerGiven the rise in demand for cement in China, India and Middle East clinker prices

surged up rapidly in CY07 and CY08. Clinker cost is the largest cost for the Group

amounting to approximately 85% of production cost (including frieght).

Tokyo cement imports clinker mainly from Thailand, Indonesia and Malaysia while

powder for the bagging plant of TCCTL is imported from Indonesia. The Group

purchased 3 vessels with the intention of saving on freight charges which amounts to

almost 39% of production cost. The company experiences a considerable saving on

freight by maintaining its own fleet of ships.

In addition to the rising clinker prices, the depreciation of the Sri Lankan Rupee has

caused considerable concern to the company where the LKR depreciated almost 8%

from December 2008 to June 2009 making clinker more expensive.

10MW Bio Mass Power PlantBeing in an energy intensive industry, Tokyo cement uses approximately 40kWh of

energy annually. The company satisfies its energy requirement through its own 3.5MW

thermal power plant and partly by the national grid. The energy costs account for 6% of

the group production costs.

With the intentions of saving energy costs and providing “Green Energy”Tokyo Cement commissioned a 10MW Bio Mass power plant which wouldmeet the entire energy requirement of the Group with the excess powerbeing sold to the National Grid. The power plant uses paddy husks availableespecially in the North Central and the Eastern Provinces, where rice millsare in abundance. Fuel wood is to be obtained from Gliricidia plantations.

Apart from the considerable cost savings with the Bio Mass power plant the

Domestic Production is dominated by

Tokyo and Holcim Lanka each having a 30%

market share.

Tokyo’s expansion is now on stream,

doubling grinding capacity to 1.8 million

MT per annum from FY10.

300

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Index Cement Price Index

Source: Central Bank

A 10MW Boi Mass Power Plant which will

meet the company’s entire energy

requirement and more was commissioned

recently. This will reduce costs by over

40% as well as attract carbon credits.


company now qualifies for carbon credits worth of Rs.20m-30m.

EarningsTokyo Cement earnings dropped 37% to Rs.347m for FY09 while 4QFY09

earnings ended at Rs.123m as lower sales volume were recorded with the

slowdown in the construction sector. Despite a drop in sales, revenue grew

26% cumulative and 33% for the quarter on the back of repeated price

revisions during the year.

As cement has been brought under the list of products with price controls, Tokyo

cement has experienced a time lag in the transfer of increase in costs to the consumers

with the delay in price increases by the government. The company had also continued

to experience pressure on margins with increases in retail price not matching the surge

in costs. In 1st half FY09 clinker prices, energy costs and transportation costs surged

rapidly dropping margins of Tokyo Cement from 18% in 2QFY08 to 16% in 1QFY09,

15% in 2QFY09 and 14% in 3QFY09. However with the decline in clinker prices in

the 4th quarter, margins improved to almost 20%.

The group suffered from high finance cost of Rs.834m up by 113% resulting from

increased debt financing with the installation of the new vertical roller mill which

doubled the grinding capacity of the Group.

TaxationSri Lanka customs filed a case against Tokyo Cement, on an under-invoicing

allegation. Under normal rules a company importing goods has to disclose

the Cost of the Goods, Insurance paid and the Cost of Freight (CIF).Customs

duty, VAT and Ports and Airport Levy is charged on this sum. Resulting

from the usage of their own ships the group is claimed to have shown only

part of their freight costs and thereby declaring a lower sum when bringing

goods into the country.

Tokyo Cement states it had agreed to co-operate with Customs in an under-invoicing

investigation and that the authorities had agreed not to press action to recover value

added tax amounting to Rs.146.7m. TKYO informed that the amount pending to be

investigated by the Sri Lanka Customs is Rs.46m while it was also opined that the

amount claimed is above the expressed provisions of the law.

ValuationsWe expect Tokyo Cement revenue to reach Rs.17bn for FY10 inspite of an anticipated

drop in sales prices with the decline in raw material prices. TKYO volumes are expected

to pick up as the construction sector is likely to improve with favourable macro economic

conditions. In addition to the declining interest rates and inflation, the success of the

military effort would pave the way for rapid development in the cleared provinces.

Given the number of infrastructure projects in the pipeline, the rebuilding of the North

and East with houses, schools, hospitals, roads and bridges would indicate a considerable

growth in the sector, signaling a significant boost in demand for cement.

Tokyo Cement is fully geared for the expected increase in demand for cement with the

newly built Vertical Roller Mill which doubled the grinding capacity to 1.8m MT

annually increasing total production capacity to 2.4m MT.

With the downward revision of fuel prices group’s transportation costs have declined

Given the number of infrastructure

projects in the pipeline, the rebuilding

of the North and East with houses,

schools, hospitals, roads and bridges

would indicate a considerable growth in

the sector, signaling a significant boost

in demand for cement.

0

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FY07

Q2

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FY08

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FY09

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% GP Margins


sharply in the recent months. The operation of the Bio Mass power plant is expected to

increase group margins with the company gaining carbon credits as well. With clinker

prices on the decline we expect the company to further improve its margins in the

subsequent quarters.

Total borrowings have increased by 5% to Rs.3.4bn while liabilities payable within 1 year

increased by 28% and is recorded at Rs.2.6bn for FY09 resulting from debt financing of

the Bio Mass power plant and the Vertical Roller Mill projects. The drop in interest rates

is likely to favour the group with lower finance costs in the subsequent quarters.

We expect TKYO to post earnings of Rs.587m and Rs.1,102m for FY10E and FY11E

respectively excluding the customs duty claim. At Rs. 154.75, the voting share trades at a

PER of 7.12x FY10 earnings and 3.79x FY11 earnings. At Rs. 13.50, the non-voting

share trades at a PER of 6.1x FY10 earnings and 3.25x FY11 earnings. The voting

shares trade at a discount of 35% to the broader market while the non-voting share trades

at a discount of 47% to the broader market on FY10E earnings. BUY


Profit & Loss Statement

For the year ended 31st March (Rs. Mn)

Revenue 5,299 5,920 8,956 11,308 14,029 17,652 17,439 20,880 Cost of sales (4,354) (4,997) (7,456) (9,373) (11,977) (14,952) (14,620) (17,282) Gross profit 945 923 1,500 1,935 2,052 2,700 2,819 3,598 Other operating income 9 9 140 243 101 204 101 101 Selling and distribution (409) (435) (582) (820) (1,036) (1,095) (1,314) (1,577) Admin expenses (89) (88) (138) (153) (184) (328) (426) (554) Other expenses (6) (5) - - - - - - Profit from operations 450 404 920 1,205 933 1,481 1,180 1,568

Finance Cost (141) (122) (291) (361) (392) (834) (504) (323) PBT 309 282 629 844 541 647 676 1,245

Taxation 5 16 11 (20) 31 (289) (71) (109) Profit after tax 314 298 640 824 572 358 605 1,136

Minority Interest 23 24 (12) (10) (18) (11) (18) (34) Profit attributable to Equity Holders 337 322 628 814 554 347 587 1,102

2010E 2011E2004 2005 2006 2007 2008 2009

Balance Sheet

As at 31 March (Rs. Mn)

Assets

Non current assets

Property plant and equipment 2,445 3,614 4,782 4,472 4,687 9,359 8,710 8,042 Capital WIP 664 30 278 2,563 3,698 397 197 97 Goodwill 12 10 10 13 13 13 13 13 Non current receivables 333 231 743 85 83 77 83 83

3,454 3,885 5,813 7,133 8,481 9,846 9,003 8,235

Current Assets

Inventories 370 425 601 600 1,212 1,388 1,482 1,775 Receivables and prepayment 336 587 780 952 1,468 1,882 2,093 2,506 Cash and cash equivalents 117 390 407 441 181 311 410 1,755

823 1,402 1,788 1,993 2,861 3,581 3,984 6,036 Total Assets 4,277 5,287 7,601 9,126 11,342 13,427 12,987 14,270

Equity and Liabilties

Capital and reserves

Stated Capital 350 350 1,100 1,100 1,793 1,793 1,793 1,793 Retained Earnings 1,900 2,168 2,716 3,385 3,212 3,450 3,974 4,975

2,250 2,518 3,816 4,485 5,005 5,243 5,767 6,768 Minority Interest 61 37 59 128 147 158 176 210

2,311 2,555 3,875 4,613 5,152 5,401 5,943 6,978

Non - current liabilties

Long term borrowings 934 1,045 1,532 1,772 1,273 864 700 591 Retirement benefit obligation 8 10 13 18 23 23 28 28 Others 134 118 86 102 67 372 132 131

1,076 1,173 1,631 1,892 1,363 1,259 860 750

Current liabilities

Trade and other payables 238 386 609 933 2,269 3,823 3,777 4,522 Loan Repayable 516 992 1,350 1,440 2,009 2,574 2,100 1,772 Current tax liabilities - - - 10 (36) (71) (1) 32 Borrowings 136 181 136 238 585 441 309 216

890 1,559 2,095 2,621 4,827 6,767 6,184 6,542

Total liabilities 1,966 2,732 3,726 4,513 6,190 8,026 7,044 7,292 Total equity & liabilties 4,277 5,287 7,601 9,126 11,342 13,427 12,987 14,270

2004 2005 2006 2007 2008 2009 2010E 2011E




Cashflow Statement

For the year ended 31st March (Rs. Mn)

Net profit before tax 309 282 629 844 541 647 676 1,245

Adjustments 425 455 680 838 990 1,822 1,571 1,307 Changes in Working Capital 29 (313) (194) (23) 201 939 (351) 40 Inerest paid (141) (122) (251) (361) (386) (791) (504) (323) Tax Paid (5) (1) (13) (18) (51) (93) (1) (76) Defined Benefit Obligations paid - - - (1) (1) - (5) - Net cashflow from operating activities 617 301 851 1,279 1,294 2,524 1,386 2,194

Investing Activities

Fixed Assets (184) (567) (1,416) (157) (611) (1,917) (400) (300) Interest received 6 4 16 78 4 - 7 9 Expenditure on capital WIP (664) (30) (234) (2,318) (1,309) (328) (200) (200) Other (15) (15) (657) 655 2 - - - Net cashflow from investing activities (857) (608) (2,291) (1,742) (1,914) (2,245) (593) (491)

Financing Activities

Proceeds from issued capital - - 750 56 - - - - Receipt / (Repayment) of term loans 88 588 845 331 300 (75) (150) (200) Dividends (48) (53) (94) (146) (33) (108) (81) (135) Other (4) - - 154 (22) (54) (22) (22) Net Cashflow from financing activities 36 535 1,501 395 245 (237) (253) (357)

Net cash and cash equivalents (204) 228 61 (68) (375) 42 540 1,346

Cash and cash equivalents

At start of the year 186 (18) 210 271 203 (172) (130) 410 Increase / (Decrease) (204) 228 61 (68) (375) 42 540 1,346 At end of period (18) 210 271 203 (172) (130) 410 1,755

2004 2005 2006 2007 2008 2009 2010E 2011E

Tivanka Ratnayake Ms. Chryshanthi ManuelVice President – JKH Manager – Back OfficeChief Executive Officer - JKSB Direct: (+94 11) 230 6276Mobile: (+94 77) 742 0537, Direct: (+ 94 11) 471 0725 email: [email protected]: [email protected]

JKSB Contact Information

Akmal MashoorAssistant Vice President – JKHHead of Sales - JKSBMobile: (+94 77) 748 9468, Direct: (+94 11) 471 0728)e-mail: [email protected]

Susira Ranasinghe Dinesh RahimAssistant Manager Senior Investment AdvisorMobile: (+94 77) 773 0846, Direct: (+94 11) 471 0727 Mobile: (+94 77) 734 7798, Direct: (+94 11) 230 6259email: [email protected] e-mail: [email protected]

Rakesh Daryanani Nithila TalgaswatteInvestment Advisor Investment AdvisorMobile: (+94 77) 383 1808, Direct: (+94 11) 230 6261 Mobile: (+94 77) 340 4386, Direct: (+94 11) 230 6260e-mail: [email protected] e-mail: [email protected]

Asmath Iqbal Kapila GunawardenaInvestment Advisor Investment AdvisorMobile: (+94 77) 734 7833, Direct: (+94 11) 471 0730 Mobile: (+94 77) 326 1595, Direct: (+94 11) 230 6265e-mail: [email protected] e-mail: [email protected]

Research

Chinthaka Ranasinghe Navin RatnayakeAssistant Vice President – JKH Assistant ManagerHead of Research - JKSB Direct: (+94 11) 230 6272Mobile: (+94 77) 748 9470, Direct: (+94 11) 230 6271 e-mail: [email protected]: [email protected]

Yolan Seimon Jeewanthi MalagalaAssistant Manager Financial AnalystDirect: (+94 11) 230 6273 Direct: (+94 11) 230 6274email: [email protected] email: [email protected]

Sales

GeneralAddress : 130, Glennie Street, Colombo 02, Sri LankaTelephone : (+94 11) 230 6250, (+94 11) 233 8066-7Fax : (+94 11) 234 2068, (+94 11) 232 6863Email : [email protected] : www.jksb.com

Documents

Market Strategy Sri Lanka - jksb.keells.lkMarket Strategy.pdf2 l John Keells Stockbrokers (Pvt) Limited l Market Strategy Executive Summary Through the years of war, the Sri Lankan