Markaz: Earnings Growth to Propel UAE Market for 2008 (1)

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Markaz: Earnings Growth to Propel UAE Market for 2008 17 - Jan - 2008

Kuwait Financial Centre (Markaz), in its latest report expects United Arab Emirates stock market to move up by 43% in 2008. The target index level for 2008 is 9007, from the year end value of 6303. “Bottoms-up earnings forecast for the UAE market at 28% for 2008 indicates that out of the 14 companies which form 70% of the market cap of UAE, only 2 companies are expected to witness a decline in earnings in 2008” notes M.R. Raghu, Head of Research and Amrith M, Research Analyst. The peak valuations witnessed at the end of 2005 of 50x 2004 earnings and 22x 2005 earnings have significantly declined to 20x 2006 and 16x 2007 earnings, providing good scope for PE expansion. Table: 1 Expected Stock returns Table: 1    Price-End 2007 (AED)    P/E    Expected Earnings Growth for 2008    Target P/E Target Price (AED)    Expected Price Change Emirates Telecom    23.40    20    21%    20    29.59    26% Emaar Properties 14.80    13    27%    14    19.80    34% National Bank of Abu Dhabi    22.95    17    17%    16    25.11    9% Mashreqbank 308.00    22    17%    16    254.47    -17% Dubai Islamic Bank 11.05    20    37%    20    14.99    36% Source: Markaz Research UAE Stock Market Performance in 2007 IPO Performance There were six new issues which were listed in 2007. The most noteworthy was that of the DP world listing. The USD 4.7 Bn issue provided the lowest 1st day gain of 4.62% in 2007. On a macro basis, the day one gains have been declining over the last three years due to a decline in over subscription rates. The average oversubscription rates reduced from 326x to 57x in 2007. As an IPO strategy, buying on listing and holding it for longer term would have been more profitable than buying it via IPO with the pains of pro rata allotment due to over subscription. Performance The ADSMI index and the DFM Index returned 52% and 44% (Table: 2) respectively for the year 2007, which is significantly higher than the long-term average of 28% and also the negative return of -42% and -44% in 2006. Real Estate index on ADSM, with a return of 208% outperformed other indices. Health care index on ADSM was the one to record lowest growth in 2007. Table: 2 Performance of UAE Indices % Change (YoY)    2002    2003    2004    2005    2006    2007 DFM Index    NA    NA    152%    195%    -44%    44% ADSMI Index    7%    29%    75%    69%    -42%    52% Source: Abu Dhabi Stock Exchange Activity The total volume traded on Abu Dhabi market rose by 361% in 2007, this is on the back of a lack luster year in 2006, and wherein volume traded grew by 37% on a YoY basis. There has been a shift in volume concentration. Energy segment which witnessed the highest concentration in volume traded in 2006 (41% of the total volumes) reduced to 20% in 2007. Real Estate segment garnered the highest concentration of volume traded at 27%. Banking and Financial services witnessed its contribution to total volume traded increase from 13% in 2006 to 25% in 2007. The value traded too witnessed a robust growth of 148% on the ADSM exchange. This in on the back of a 33% decline in value traded in 2006. Real estate garnered the highest contribution to the value traded at 36% followed by banking and financial services at 26%. Blue Chips Emirates Telecommunications Corporation (ETISALAT): It has been a fairly good year of growth for Etisalat in 2007. The 9M figures till September 07, point out to an 18% growth in subscribers and a 26% growth in bottom line on a YoY basis. Etisalat made several acquisitions in 2007. Etisalat entered into an agreement to acquire 16% stake in Indonesian mobile operator PT Excelcomindo Pratama Tbk for USD 438 Mn. The company increased its stake in Zanzibar Telecom Limited to 51% by purchasing 17% additional stake. Etisalat plans to double its stake in Pakistan Telecommunication Company. On the balance sheet side, the company has substantially reduced its debt. As of September 07, the long term debt of the company reduced by 58% to USD 800 Mn as compared to USD 1.9 Bn as of December 06. However, the already saturated UAE market witnessed the launch of operations of Du in February 2007, which ended the monopoly status of Etisalat. This led to an increase in competition and thereby resulting in erosion in realizations, resulting in a decline in EBITDA margins of the company. The EBITDA margins of the company declined consistently over the last three quarters from 81.6% (Q107) to 78.3% (2Q07) and 76% (3Q07). The growth in volumes, aggressive expansionary strategies by acquiring companies in new geographic regions led to a positive impact on the performance of the stock on the bourses. The stock witnessed a 52% appreciation in 2007. We expect the growth rates in the bottom line to decline from 26% in 2007 to 21% in 2008. Additionally, we expect a 4% expansion in PE multiples, which is expected to result in the stock trading at 15x FY07A Earnings, which in turn provides an upside potential of 26%. Emaar Properties: It has been a year of muted performance for the company with the bottom line expected to grow at 1% for 2007. The stock price appreciated by 21% as compared to the UAE NBAD index return of 30% in 2007. This was mainly due to a flat bottom line growth. For the 9 months ending the September 2007, the company reported a net profit growth of 3.5% to USD 1.31 Bn. This is in spite of a robust growth in revenues of the company by 48% to USD 3.41 Bn. The company mainly took a hit in its margins due to an escalation in costs. The gross profit margins of the company declined consistently in the last three quarters from 49.3% (1Q07) to 36.6% (2Q07) and 37.4% (3Q07). During the year, EMAAR entered into a joint venture agreement with United Utilities to set up Emaar Utilities. During 2008, the company plans to come out with IPO’s of its subsidiary companies, there by unlocking value and also bringing in cash to sustain high levels of growth. Of the various subsidiaries of the company, the visibility of an IPO is high in the case of its Indian division. The recent press releases indicate that the IPO might raise USD 1.7 Bn. The extent of stake dilution in the same is not yet clear. However, the company has floated many subsidiaries in the past which have a potential for an IPO. After a muted year of growth, the analysts’ consensus estimates point out to a 27% growth in earnings in 2008. Additionally, we expect a 6% expansion in PE, which provides an upside potential of 34% in 2008. National Bank of Abu Dhabi: NBAD is expected to close the year with an 11% growth in bottom line to USD 640 Mn. Even though the growth in bottom line was more than 50% lower than the 5Y CAGR growth of 24%, the stock price witnessed an appreciation of 44%. During 2007, the bank witnessed higher amount of fund raising activity. NBAD’s Board of Directors approved its plans to increase capital by converting the Sukuk into shares in October 2007. NBAD is expected to issue 22 Mn shares. NBAD’s Board of Directors approved its issue of convertible bonds worth AED 2 Bn in August 2007. These bonds will be listed on the London Stock Exchange. Also, NBAD opened a fully owned subsidiary – NBAD Private Bank (Suisse) SA in Geneva in May 2007. With initial capital of CHF 100 Mn, the subsidiary is expected to offer private banking and trade finance services. For 2008, the analyst consensus estimated point out to an increase in earnings growth of 17% in 2008. However, as the 2007 stock price was not supported by a proportional growth in earnings, the stock price closed the year with stretched valuations. We expect a 6% contraction in valuations to result in a fair value estimate of AED 25.11, an increase of 9% from current levels. Mashreqbank: The stock performance of Mashreq bank was robust in 2007. The stock returned 48% as compared to 30% returns on NBAD UAE Index. In 3Q07, the bank reported profits of USD 108 Mn as compared to USD 124 Mn in 3Q06, a decline in earnings growth by 13% on a YoY basis. On a QoQ basis, the bank reported a decline in its bottom line to an extent of 22%. For 9M07 ending September, the bank witnessed an earnings growth of 21%. The total asset growth was robust at 45% as of September 07 to USD 20.2 Bn as compared to USD 13.9 Bn on a YoY basis. The stock price witnessed a rapid increase between Septembers to December period. The appreciation was at 47% from end September close price of AED 210. Going forward, the analyst consensus estimates point out to a 17% earnings growth in 2008. However, the steep appreciation in stock price in 2007 has stretched the valuations. The current stock price discounts the 2007A earnings by 19x and 2006 earnings by 22x. We expect a 29% contraction in valuation for 2008, there by arriving at a fair value estimate of AED 254.47. Earnings growth surprises might be positive for the company’s stock. Dubai Islamic Bank: The growth in bottom line of the company during 2007 has been one of the best since 2005. Mirroring this, DIB witnessed a 44% appreciation in its stock price during 2007. In 2007, the bank is expected to close the year with a 62% growth in earnings at USD 688 Mn. For the 9M07 ending September 07, the bank posted an increase in earnings by 86% to USD 516 Mn as compared to USD 277 Mn in the previous corresponding period. However, some of this earnings growth has come from a one-off gain (state the nature of this one-off gain) recorded during 2Q07, wherein on a QoQ basis, the bank witnessed an earnings growth of 155%. If we isolate the off-off capital gain recorded in 2Q07 to an extent of USD 168 Mn, the 9M earnings falls to USD 348 Mn from USD 516 Mn, still 25% higher than the previous corresponding period. Excluding the one-off item in our calculations, we expect the bank to end the year with a bottom line growth of 9%. Going forward, we expect the bank to witness a 37% increase in earnings for 2008. At the current prices, the stock is currently discounting the FY06 earnings by 20x and FY07A earnings by 18x. This leaves less room for PE expansion. We expect the PE to contract by 1% in 2008. This provides a target price of AED 14.99, an upside potential of 36% to the 2007 end closing price. Regulatory Developments UAE market witnessed an increasing level of expansionary activity in 2007. Emaar properties led the corporate UAE by establishing increasing number of subsidiaries in newer geographies. The stock market was also abuzz with merger and acquisitions activity with transaction value of more than $1 billion dollar. Most of the transaction appears to be small with two notable exceptions: Abu Dhabi National Energy Co’s acquisition of BP Netherlands for USD 694 Mn and Gulf Cap Group’s acquisition of Dalma Group for USD 446 Mn. The year was also notable in terms of investment companies and banks launching several equity and money market funds. Even companies were actively raising capital and debt through Sukuks. Notable among them was mid-term Eurobond note worth USD 3 Bn issued by Union National Bank. The interest rates were on a declining trend due to the fed rate cut, which was mirrored by the Central Bank of Dubai with a reduction in its rates by 20 basis points. Economy Growth: UAE is expected to post another strong year of growth in 2008, primarily due to non-oil segment of GDP. Non-oil nominal GDP growth has been averaging at 16% for the period 2002-2006 and is expected to go up to 21% in 2008. Among other factors, favorable business climate, sustained domestic consumption and rising oil prices will also lead to strong GDP growth. In 2008, country’s nominal GDP is expected to increase by 16% from $188 billion to $218 billion mainly on the back of growth in sectors like manufacturing, construction, financial services and tourism. Oil GDP growth is expected to be at just 6.3% due to capacity constraints in oil output. Fiscal Situation: The year 2008 will mark another year of strong fiscal surplus as it will reach approximately $52 billion. Revenues are projected to increase by nearly 7.5% while expenditures will increase by 8%. Fiscal surplus as a % of GDP is expected to decline to 24% due to slow growth in oil revenues. Oil Revenues are expected to reach $72 billion which will form 76% of total revenues. Current Account: UAE’s current account surplus will decline to 19% of its GDP from 22% in 2006. The decline in current account surplus as a % of GDP is due to expected rise in import of Services to $23 billion. However, it is expected that the current account position will continue to be in surplus, maintained by strong performance of non-oil exports reaching $96 billion. Income, net of receipts and payments is expected to record strong growth and reach $7 billion in 2008. Inflation: The inflation for 2006 was 9.3% with the general CPI rising from 121.7 to 133.0. This was mainly due to rise in demand for low and medium-cost housing. However, inflation is expected to fall steadily to about 7.6% for 2008. As per Dubai Chambers of Commerce and Industry inflation for the period 2008-2012 is expected to average out at about 5%. This is likely due to moderation in government fiscal expenditure and easing of housing shortage - the two key factors for inflationary pressures on UAE economy. Exchange Rate: Due to its fixed peg to the US dollar, dirham exchange rate has been continuing to slide as compared to other major currencies. In addition, the US Federal Reserve rate cut has eventually put more pressure on dirham. In future, the trend is expected to continue as the nominal effective exchange rate in 2008 is expected to decline by 2.6%. The dirham is expected to be traded at DHS 3.673/$ in 2008. Interest Rates: Under the fixed exchange rate regime, nominal interest rates in the UAE have had to track US interest rates very closely. This guides us to a monetary policy which is very much dependent on the US. In 2008, the lending rate is expected to stabilize to 6.8% and the deposit rate to increase marginally to 4.5%. ### About Markaz Kuwait Financial Centre S.A.K. 'Markaz', with total assets under management of over KD1.4 billion as of September 30, 2007, was established in 1974 has become one of the leading asset management and investment banking institutions in the Arabian Gulf Region. Markaz was listed on the Kuwait Stock Exchange (KSE) in 1997; and was awarded a BBB+ corporate rating by Capital Intelligence Ltd.