Lotte Chemical Pakistan Ltd. (LCPL) is a manufacturer and supplier of Purified Terephthalic Acid (PTA). With a plant at Port Qasim, it has a capacity to deliver 500,000 tons of PTA annually. PTA is the primary raw material for producing Polyester fiber, Polyester filament yarn, Polyester film and Polyethylene Terephthalate (PET). Lotte began its operations with confectionary in 1967. Today, one of South Korea's largest conglomerates, it has a turnover of over $92 billion spread over 20 businesses in 19 countries.
In Pakistan, the construction phase started under ICI's supervision in 1996. In 1998, the PTA Plant was commissioned. PTA business de-merged from ICI Pakistan Ltd into Pakistan PTA Ltd (PPTA) in 2000. By 2008, PPTA had become a part of AkzoNobel since AkzoNobel acquired ICI globally. In 2009, KP Chemical, a subsidiary of Lotte, acquired PPTA making it part of Lotte and changed its name to Lotte Pakistan PTA Ltd (LPPTA). In 2012, the Co-Generation Plant was commissioned and KP Chemical's identity changed globally to Lotte Chemical and in 2013, LPPTA became Lotte Chemical Pakistan Limited.
Chemical sector globally Globally, the chemical sector companies face a formidable challenge, states the 2017 chemical trends report by PwC. In the current problematic macroeconomic environment, demand for chemicals has fallen. Overall industry sales growth increased an anemic 2.1 percent in 2016. Chemical companies that sell petroleum-based products often fell short of these industry averages because lower oil prices led to sharp top line declines, sometimes in the range of 30 to 40 percent. BASF's outlook for the chemical industry anticipates growth in emerging markets to weaken somewhat, from 5.4 percent in 2016 to 5.1 percent in 2017.
Crude oil In November 2016, there was a crude oil production cut agreement between Opec and Non-Opec members. Despite 92 percent compliance by Opec members, crude oil market turned bearish in March this year, Increase in the number of US oil rigs that have resulted in significant crude inventory buildups and consistent signs of the come-back of US Shale Gas revolution has driven this phenomenon. Since the agreement, the global market of petrochemicals is seeing dwindling fortunes with petrochemical margins falling across the board during December 2016 and January 2017.
Chemical sector Pakistan While the chemical sector of Pakistan grew by 10.01 percent during FY16, as per the Pakistan Economic Survey, growth was mostly due to sulphuric acid, paints & varnishes, and caustic soda. Construction activities and start of commercial operations by caustic soda producing unit drove the growth in the chemical sector. FDI inflow in the chemical sector was $99.3 million in July-May FY 16 as per SBP, but for petrochemicals FDI inflow was 0.2 million for the same period.
Pakistan has a large potential in production of basic inorganic chemicals such as soda ash, caustic soda, sulphuric acid, and chlorine. However, it faces high prices of basic feedstock. Basic raw materials constitute a major portion of cost of production (30 percent to 60 percent) in the chemical industry. Pakistan's chemical industry either uses natural gas or crude oil as feedstock for manufacturing process. The fluctuations in oil prices therefore affect the growth projections of the firms.
Shareholding of Lotte Chemical Pakistan Limited 75 percent of shares are owned by Lotte Chemical Corporation, South Korea and 18 percent are owned by individuals. The remaining 7 percent are owned by investment companies, financial institutions and other corporate bodies.
Operations 2016 In 2016, Lotte maintained operations at 97 percent, helped by improved power availability and the imposition of anti dumping duties on Polyester Staple Fiber (PSF). The increase on import tariff on PTA from 4 to 5 percent, and PSF also positively impacted the business and increased domestic demand. Lotte has been working on sale of its excess electricity. However, the required NOC from SSGC was issued after significant delays in 2016. Till the first quarter of 2017, the management had been maintaining close follow-ups with NEPRA to obtain required approvals for the sale of surplus electricity, but the approvals had not come through.
Financial performance 2016 The company achieved highest ever domestic sales of 492,192 metric tons in 2016 compared to 463,137 metric tons in 2015, all of which were consumed by the domestic market. PTA demand increased by 15 percent in 2016 since 2015. This was mainly due to increased operating rates in the domestic PSF industry after the imposition of anti dumping duties as well as improved energy satiation in the downstream industries. However, overcapacity in Asian markets has led to depressed margins, making exports mostly unfeasible for now.
In 2015, Lotte's suffered gross losses but with the higher volume sold, lower conversion costs, and stable PTA margin over PX, it earned a gross profit of Rs 795 million in 2016. Initiatives to control the plant conversion costs and maintain strict internal control on all expenses resulted in lower distribution, selling and administration expenses. Other expenses were higher than last year mainly due to provision for Workers' Profit Participation Fund on the back of operating profit.
Other income for the year was higher than last year due to one-off income generated from the sale of platinum catalyst and higher income earned on bank deposits as a result of increase in average cash surplus levels. Finance costs were lower than last year mainly due to improved cash generation from operations and lower discounting charges on trade debts. As a result, Lotte generated a profit before tax of Rs 270 million in 2016, compared to the loss of the previous year. Lotte's gross profit margin was the highest in 5 years 2016 but below its peak of 11.57 percent in 2011. Similarly, its net profit margin was 0.93 percent, which was an improvement from previous years but nowhere near the 13.47 percent mark it had enjoyed in 2011.
The strong performance in 2011 was due to favourable market conditions and strong PTA demand from downstream market. While the healthy margins of the first half of the year resulted in strong financials, by the end of the year, uncertain worldwide economic environment had negatively impacted business conditions. Since Lotte is a cyclical commodity business, its profitability is subject to supply-demand balances in the petrochemical industry.
Performance of Q1CY17 Revenue for the first quarter of 2017 was 31 percent higher than the corresponding period last year. This was due to higher sales volume and price. Rising prices and stable PTA margin resulted in a gross profit of Rs 480 million for this quarter as compared to the loss of Rs 170 million during the same period in 2016. Profit after tax was Rs 313 million as compared to loss of Rs 182 million in Q1 last year. Export sales of 2,992 tons were made to UAE during the quarter.
Outlook The market is set to become challenging as many foreign PTA producers focus on Pakistan for their product destination, especially since the Indian government has placed anti-dumping duty on PTA suppliers in China, Taiwan, Indonesia, Malaysia, Korea, and Thailand. In China and India, new and technologically advanced PTA plants have been set up with relatively lower conversion costs, leading to an addition of around 3.4 million tons of new PTA capacity in the region, making it a tough landscape for Lotte to compete in.
Crude oil is expected to remain oversupplied in the first half of 2017 due to less demand growth, higher global production, and US inventories. PX prices will mostly likely continue to follow the trend of the upstream energy markets but PX and PTA demand is expected to be tight due to excess supply of PSF. Currently Lotte is outperforming the market and its financials have improved since 2015. However, global movements in crude oil, PTA, PX margins are foreboding, leaving investors cautious while approaching this stock for the long term.
==============================================
Trends in global chemical production 2017-2019
(excluding pharmaceuticals)
==============================================
(Average annual real change)
==============================================
World 3.60%
European Union 1.00%
United States 2.70%
Emerging markets of Asia 5.70%
Japan 0.50%
South America 1.90%
==============================================
Source: BASF - Outlook for the Chemical Industry
==================================================
Lotte Chemical Profit/Loss - 2015 & 2016
==================================================
Rs (mn) 2015 2016
==================================================
Revenue 33,863 34,785
Gross profit/(loss) -257 705
Profit/(loss) before taxation -628 470
Profit/(loss) after taxation -748 324
Earnings/(loss) per share (Rs) -0.49 0.21
==================================================
Source: Company accounts
======================================================
Lotte Chemical Balance Sheet Summary
======================================================
Rs (mn) 2015 2016
======================================================
Issued, subscribed & paid-up capita 15,142 15,142
Capital reserves 2 2
Accumulated loss -5,188 -4,869
Current liabilities 7,229 7,188
Fixed assets 6,127 5,149
Current assets 9,601 10,661
======================================================