Sri Lanka Equity Analytics

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Tuesday, April 12, 2011

Diesel & Motor Engineering PLC

Overview of the company
Diesel & Motor Engineering PLC was established in 1939 as apartnership and probably the oldest sole distributor for Mercedes-Benz Passenger and Commercial Vehicles, in the Asian Region. InSri Lanka, DIMO is colloquially known as the “Benz Company”.
The Company has a record of 68 years experience in theautomobile and engineering industry and over the years has made a major contribution towards the development of thetransportation sector in Sri Lanka. DIMO represents many prestigious principals such as Daimler, TATA, Chrysler, MTU,Bosh, Komatsu, Siemens, Michelin, Osram, and Mahindra &Mahindra. Dimo group has diversified its business segments intothe areas of Power Engineering, Building Technologies, PowerSystems, Agricultural Machinery, Lighting Systems and WaterManagement Solutions.
Read the Full Report
http://docs.google.com/gview?url=http://colombostockwatch.com/wp-content/uploads/2011/04/DIMO.pdf&hl=en_US&gdet=i&chrome=true
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CHEMICAL INDUSTRIES: Impressive 58.7% YoY Growth in 3QFY11

Earnings Reach LKR759mn Posting an Impressive 58.7% YoY Growth
  • Chemical industries (CIC.N.LKR154.70,CIC.X.LKR109.00), posted a net profit of LKR759.0mn for 1-3QFY11 (vs. a net profit of LKR485.3mn for 1-3QFY10), reflecting a growth of 56.4% YoY, where company achieved net earnings of LKR382.7mn for 3QFY11.
  • Growth was supported primarily by strong growth in agricultural & livestock segment earnings ( 42.7% YoY growth). Further triggered by impressive performance from construction, consumer & pharmaceutical segments posting YoY growth rates of 46.8% and 37.6% respectively.
  • With country’s agricultural sector showing significant growth with improved economic conditions (agricultural sector grew at an impressive 7.0% for the FY2010), where the growth is expected to continue(according to rice research & development institute, Sri Lankan Demand for rice for local consumption in 2020 expected to be 4.6mn tons. Production should increase by 50% in both dry & wet zone to meet this target), also with the improved performance of Poultry & Feed segments with the increasing consumption levels.
  • Further with the boost in construction industry expected to continue with the rebuilding efforts and major undertakings in leisure industry, and with CIC’s plans expand overseas, counter is poised to benefit with the strong presence in Agricultural, Construction, consumer & pharmaceutical segments. Against this backdrop we expect CIC to record LKR935.2mn in FY11E (up by 56% YoY) and net earnings of LKR1, 143.4mn in FY12E (22% YoY growth).
  • CIC (voting) currently trades at 15.7X forecasted FY11E net profit, 12.8X estimated FY12E net profit and 3.1X PBV. CIC non- voting currently trades at 11.4X forecasted FY11E net profit and 9.3X forecasted FY12E net profit, as opposed to a chemical & pharmaceutical sector PE of circa 17.7X and a current trailing market P/E of 18.7X. We believe counter holds strong upside.
Read the Full Report:
http://docs.google.com/gview?url=http://colombostockwatch.com/wp-content/uploads/2011/04/CIC-Interim-Update.pdf&hl=en_US&gdet=i&chrome=true
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Banking Sector – Riding the Growth Wave

Upside to loan growth
We expect the listed licensed commercial banks (LCBs) to book anaverage loan growth of 25% in FY11, picking up from the average lending growth of 22.52% YOY recorded in FY10Q4.We believethe positive macro economic outlook will translate to higher demand for credit aided by the low interest rates.
We feel following sectors are likely to boost the loan growth; SME– construction, agriculture, Corporate – leisure, energy,construction, trade, Personal – pawning, housing and leasing.
NPLs – An unlikely cause for concern
Despite a high loan growth forecast, we anticipate the gross nonperforming loans (NPLs) to reside around 6% in FY11 due to the improving debt servicing capacity of borrowers. Exceptionallyhigh NPLs are expected to decline in FY11, which will contribute to lower overall NPLs.
Tax cuts to help the industry
The proposed tax cuts (Financial Services VAT (FS VAT) from20% to 12% and the Income Tax from 35% to 28%) are expected to boost industry lending and thereby resulting in higher profits.
Our picks
We recommend SAMP and NTB on the basis of low P/Es, PBVand attractive growth prospects over the next 12 months.
*Since NDB Bank PLC is the parent company, it is excluded from the recommendation analysis as a company policy.
Read the Full Report:
http://docs.google.com/gview?url=http://colombostockwatch.com/wp-content/uploads/2011/04/Banking-Sector-31.03.11.pdf&hl=en_US&gdet=i&chrome=true
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Sri Lanka - Country Report 2011


The year 2010, when the thirty year civil war ended, generated much optimism regarding Sri Lanka’s economic prospects. The real GNP growth at this time seemed to bear this out. The first nine months of 2010 recorded a 7.9 percent real GDP growth, compared to 3.5 percent in 2009, and as against an expected growth rate of 7.5 percent in 2011. The business conglomerates that incurred losses in 2009 recorded nearly a 50 percent year over year growth in net earnings during the first three quarters of 2010. Having displayed this striking buoyancy the private sector is expected to do even better in 2011.
These signs of a turn-around have been widely attributed foremost to the ending of the prolonged civil war. With this presumption there is the hope that the next few years’ growth rate will increase further, having performed poorly during the war and because of the war. Yet, a comparison with Sri Lanka’s war time economy hardly provides ground for this optimism which the mere ending of war has generated. Respectable rates of growth were achieved even during the war years of 1983 to 2008. During this 26 year period the average annual growth of the real GDP averaged 5.8 percent, considerably higher than in the twenty one years preceding the war from 1961-1982, when the growth rate was only 3.8 percent (Table 1). In this connection it is also important to note that this commendable growth rate during conflict years was realized even without the tourist boom –the offspring of peace- which helped the economy to reach 7.9 percent growth in the immediate post-war year 2010.
The relatively high average annual increment in GDP during the war, suggests that growth was not adversely affected by the conflict if growth is measured in conventional terms. It might not be wrong to say that, the economy reaped what may be considered to be a ‘war dividend’ much larger until now than the ‘peace dividend’ which was expected to accrue once the war was over. On this reckoning, contrary to what is commonly supposed is borne out: the war had not unduly depressed economic growth, with the economy waiting to take off when peace and political stability returned. The war seemed in fact to have enhanced growth rather than curtailed it.
Further, the growth of 7.9 percent in 2010 – the immediate post conflict year – is only marginally above the average growth rate of 7.3 percent during 2006/2007, the years of intensified fighting (Table 2) and escalating defense expenditure. The GDP growth of 7.3 percent in these two years was all the more notable since it took place after a high-base output growth of 6.2 percent in 2005, as opposed to 2010 in which year the growth performance occurred from a low base of 3.5 percent. Hence, even the average growth rate achieved during the severely war ravaged years of 2006/07, proved to be more robust than that during the post-conflict year – 2010, allowing for a clear twelve months period.
Read the Full Report:
http://docs.google.com/gview?url=http://colombostockwatch.com/wp-content/uploads/2011/04/CountryReport.pdf&hl=en_US&gdet=i&chrome=true&pli=1
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Tuesday, February 22, 2011

Namunukula Plantations (NAMU) – Stronger Earnings Through Crop Diversification

  • Namunukula Plantations (NAMU.LKR127.60) recorded a net profit of LKR146.7mn in FY10 (vs. net earnings of LKR40.7mn in FY09) mainly on the back of the 19.2% YoY growth in top line backed by attractive Net Sales Averages ( NSA’ s) achieved for all 3 main crops (Tea, Rubber and Oil Palm) of the company.
  • NAMU, one of the well diversified plantation company’s in Sri Lanka has a distinct advantage over its competitors in terms of balanced crop mix. NAMU which is renowned for its quality low grown type of tea, focuses heavily on maintaining the quality of end product consistently, which would enable them to grab high prices for their products.
  • With Plantation worker wage revision due in April 2011 (current agreement will expire in March 2011), it’ll have a considerable impact on Profit margins in tea segment as a whole (tea is a highly labour intensive commodity). But since tea segment contributes only up to circa 20% of gross profit of NAMU, where Oil Palm and rubber which are less labour intensive crops constitute major portion of Profits, NAMU’s profit margins would have a lesser impact compared to its competitor firms which rely highly on tea.
  • We believe NAMU has strong earnings growth potential on the back of, strong demand for low grown tea ( particularly from Middle East & Russia ) together with premium prices expected to boost earnings, recovery of crude oil prices leading the demand and prices of natural rubber to recover strongly and sustain at current attractive levels (global NR supply is expected to fall behind its consumption up to 2020), backed by enhanced contribution from Oil Palm segment (area cultivated under Oil Palm expected to go beyond 1,600hectares Within next 3 years). In line with this, we expect NAMU to record LKR460.7mn in FY11E (up by 214% YoY) and net earnings of LKR539.5mn in FY12E (17% YoY growth).
  • NAMU (voting) currently trades at 6.6X forecasted FY11E net profit, 5.6X estimated FY12E net profit and 3.3X PBV, as opposed to a Plantation sector PE of circa 27.5X and a current trailing market P/E of 22X. Hence we see great value potential in the counter.

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Lanka Walltile (LWL) - The Wall-Tile Giant

The wall-tile giant encompasses Lanka Tiles PLC (54.5% ownership) and Uni-Dil Packaging (52.9%) whilst having a controlling interest in Horana Plantations PLC with a 27% effective holdings (Through Ceytea Plantations). Furthermore, LWL has an associate interest of 34.6% on Parquet (Ceylon) PLC, which changed its core business to production of Grout and Mortar.

LWL recorded a 14% incline to LKR6,444.3 mn in the top line for the cumulative 3QFY11 on the back of the increased demand by the local market. 60% of the top line was contributed by the tile segment followed by packaging materials which contributed circa 18% of the counter‟s turnover.

Going forward, with the construction sector boom together with strong investment inflow and higher activity levels in the country the „tile giant‟ pertains value as a potential growth stock.


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Kegalle Plantations (KGAL) – Towards a Promising future

Despite the impact from a 40% wage hike, Kegalle Plantations (KGAL.LKR204.80) managed to record an impressive net profit of LKR376.0mn in FY10 (83.4% YoY growth). Favorable market conditions for tea & rubber during the 2nd half of the year and changing the tea and rubber grade mix to suit market conditions contributed to this achievement.
At the same time company achieved an overall NSA (Net Sales Average) of LKR279.12 in FY10 for rubber (vs. an overall Sri Lankan average of LKR212.0) which is a 18% increase compared to last season in spite of the drop in rubber market during first half.

In FY10, KGAL invested LKR183 mn as Capital Expenditure, out of which LKR114mn was spent on field development including replanting and maintaining tea and rubber focusing on long term benefits. Replanting rubber will continue to have priority which will increase its production in the long term.

We believe KGAL has strong earnings growth potential on the back of, the rising world rubber prices, a full recovery from global recession; would place KGAL at a definite advantage as the largest rubber producer in Sri Lanka, and with KGAL’s ability to adjust tea grade mix to exploit market trends. Against this backdrop we expect KGAL to record LKR537.5mn in FY11E (up by 43% YoY) and net earnings of LKR796.1mn in FY12E (48% YoY growth).

KGAL (voting) currently trades at 9.5X forecasted FY11E net profit, 6.4X estimated FY12E net profit and 3.0X PBV, as opposed to a Plantation sector PE of circa 23.3X and a current trailing market P/E of 22X. We believe counter holds strong upside. Hence we rate KGAL a BUY.


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Friday, February 4, 2011

Vallibel One: the growing conglomerate with a Rs.1.2 billion net profit in 2010 and beyond




Vallibel One Limited is a diversified holding company incorporated on 09th June 2010. Prior to the proposed private placement and initial public offering 100% of the shares in issue are held by the business tycoon Dhammika Perera and companies controlled by him. Through its subsidiary companies Vallibel One has made strategic investments in financial services,manufacturing and leisure industry.


The company intends to raise SL Rs.4bn by way of a private placement with the option of increasing up to SL Rs.4.5bn in the event of over subscription and approximately a further SL Rs.1.43bn by way of an initial public offer. The capital structure of the company is given below.Objectives of the Issue The company intends to raise funds through this Issue to finance an equity investment of SLRs.3Bn in a new hotel project developed under its full owned subsidiary Greener Water Limited.The total estimated cost of the hotel project is SLRs.5.0 bn.



Operational Overview

Vallibel One’s presence in the financial services sector is through its 51% owned subsidiary LB Finance PLC and strategic investment in Sampath Bank PLC. The company marks its presences in the manufacturing sector through its 51% owned subsidiary Royal Ceramic PLC. Interest in the fast growing leisure industry is through its fully owned subsidiary Greener Water Limited.


L B Finance PLC (LFIN)

L B Finance is public listed company and is rated BBB+ by Ram Rating Sri Lanka. The company offers a range of financial services which includes hire purchase, leasing, mortgage loans, gold loans, fixed deposits, money transfer and Islamic finance products. Its wider distribution network of 31 branches and 84 pawning centers gives an edge over its competitors and the management intends to increase the number of branches to 90 and the pawning centers to 170 by 2015.


According to RAM Ratings LB Finance is the third largest Registered Finance Company (RFC) in Sri Lanka, accounting for nearly 10.47% of the industry assets as at September
2010.Decline in interest rates resulted in a phenomenal growth in credit demand which enabled LFIN to post a strong growth in net interest income during 2010. The recent import duty reduction on motor vehicles boosted the hire purchase and leasing business of LFIN. The reduction of Import duty on industrial machinery as proposed in the 2011 budget and reduction in Value Added Tax (VAT) on imports from 20% to 12% will further facilitate growth in leasing and hire purchase operations.


Sampath Bank PLC (SAMP)

Sampath Bank (SAMP) is the third largest local commercial bank in terms of its asset base of SL Rs.172bn. For FY09 SAMP reported the fourth largest profit in the banking sector. SAMP holds the vision of becoming a leading financial services provider and at present operates through 165 branches in all parts of the country with access to over 219 own Automated Teller Machines (ATM) and 730 other ATMs networked around the country with other bank networks. Currently SAMP holds six subsidiary companies under its umbrella providing a compendium of financial products and services.Banking industry in Sri Lanka remains a lucrative business due to the higher net interest spread and increasing demand for credit as the country has become one of the fastest growing economies in Asia after ending three decades of war which was a major obstacle for growth in many dimensions. As mentioned earlier the importation of motor vehicles to the country boosted with the recent reduction in import duty.


This not only enhanced the leasing business but also fees & commission income of the bank (by way of letter of credit).Amidst these conducive economic conditions, the 2011 budget fortified the banking & finance sector by way of reducing corporation tax from 35% to 28% and Value Added Tax on Financial Services from 20% to 12%.The tax savings arising from these proposals will be transferred to separate investment fund accounts maintained with the CBSL and will be utilized to provide long maturity low interest rate loans which would facilitate growth in loans and advances and interest income.

Royal Ceramic PLC (RCL)

Since its inception in 1990 Royal Ceramics focused its efforts on being a brand leader in its industry. The company made the transition from a private company to a public one in 1994. Today RCL is leading the market, having captured more than 55% of the Sri Lankan market while exporting to numerouscountries across the globe. The Company's marketing operations are supported by a strong distribution network comprising of 40 showrooms and 3 warehouses and 3 state of the art manufacturing facilities.

The construction industry is booming on the back of higher consumer spending amidst low interest rates. Thus consumer spending on housing is anticipated to increase in the ensuing years. Further, reconstruction of north and east, refurbishment and construction of new hotels and resorts are key contributors to this boom with RCL being a key beneficiary.








Greener Water Limited

Greener Water Ltd is the leisure sector investment arm of Vallibel One. The company has already invested SLRs.266.73mn in a 14 acre land located in Kochichikade, Negombo, Sri Lanka. The company intends to build a 382 room, luxurious five star hotel at an estimated cost of SL Rs.5bn of which SLRs.3bn will be financed through the private placement and IPO proceeds.The initial design concept for the hotel was carried out by WATG of Singapore, one of the world’s leading design consultants for the hospitality,leisure and entertainment industry. The first stage architectural designs have already been completed and detailed designing in terms of M&A designs & Landscape designs are currently in progress.

The construction of the hotel is estimated to take two years and commercial operations are planned to commence by end of 2013.

The hotel will be developed as a BOI approved investment which will qualify for 8 years tax holiday, and a concessionary tax rate of 15% thereafter.The hotel will target the high end of the tourist segment and will be positioned as a five star hotel. At commencement gross Average Room Rate will be USD 180 and will increase up to USD 220 by the 5th year of operation.


















































Valuation

Based on FY11/12 forecasted earnings the share is issued at a PE of 13.65x (FY12/13 at 10.26x) and at a PBV of 0.83x (FY11/12 at 0.73x).
 Vallibel One is likely to be listed under ‘Diversified Sector’ (DIV) or the ‘Investment Trust’ (INT). DIV sector is trading at a PE of 32.8x and at PBV of 3.6x, while the same for INT sector is 28.6x and 4.0x respectively. Thus Vallibel One shares are issued at a significant discount to its respective sectors.

Recommendation

In this report profits are forecasted using conservative assumptions. With the anticipated growth strategies the profitability of the company can improve further.

On a Forward Earnings based approach and on a forward PBV approach the share is issued at a discount to its intrinsic value. Hence investors can immediately expect capital gains on the counter and better prospects in the long term, thus we recommend a
BUY.

Courtesy - Capital Trust Research
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Thursday, February 3, 2011

ODEL seeking for incessant market expansion in Apparels, growing 26% YOY in 3Q in 2010


Background

Odel which was established as a private limited company in 1990 by Otara Guawardene has today evolved as a foremost group of companies in Sri Lanka. It recently obtained the listing on Colombo Stock exchange, whilst being the first fashion retailer to go public in Sri Lanka.

The IPO was successfully oversubscribed by 63.8 times.

Company’s success is underpinned by its correct strategic view on market expansion and diversification. The group is seeking for incessant market expansion especially in concern to the apparel sector where company has expanded up to possessing 13 outlets with 136 square feet of high quality shopping.

The flagship store at the Alexandra Place is witnessed as an enthralling tourist destination.

Today Odel is highlighted amongst the leading apparel giants in Sri Lanka.



Financial Highlights for the 3Q ended 31st December 2010


The top line of Odel Group grew by 15% QoQ while YoY growth amounted to 26%.

Group seems to have imposed control over the cost structure to improve the gross profit margin to 39%.

Other income has declined by 72% to Rs.24 million YoY while QoQ there’s a marginal decline of 9%.

Distribution expenses saw an YoY decline of 18% while administration expenses saw only a marginal increase of 1%, thus operating profit margin improved from 12% to 14.6%.

During the 3Q Bottom line of ODEL reached SLRs.76mn up by 35% YoY, and 19% QoQ.

The remarkable QoQ top and bottom line growth rates posted during the 3Q of the current

financial year are backed by the increased demand and sales that occurred during the Christmas and New Year festive season and the increase in tourist arrivals.



Glance at first 9 months FY 10/11 results of the group



During the period top line grew by a staggering 42% YoY to reach 2.5bn.

Gross profit grew by 53% YoY to SLRs.967mn, with gross profit margin improving to 39%.

Group as a whole expressed a gratifying performance as the profitability of the group shows a strong upward movement with profit before tax increasing by 61% YoY to reach 287mn. Profit After tax for the same period amounted to SLRs.176mn up by 43% YoY however net profit margin remained at 7%.


Future Outlook



With the milestones of success that Odel has marked in its expedition, the group could shunt ahead exposing a significant competition to the existing market players and creating a strapping barrier to the new entrants whilst enhancing and strengthening its brand image impressively. The

key success of the Odel group lies on the apparel sector as Odel outlets are leading as sought after destinations amongst other shopping outlets of the country, reasoning being that its flagship store is becoming comparable to international department stores in any fashion capital.

As the next walk in their massive expansion stratagem, Odel which is acknowledged as the country’s definitive and life style brand, has announced its plan to expand to Kiribathgoda and Wattala regions which are situated in the highest populated Gampaha District, whilst increasing its retail space further by 22,000 square feet and number of outlets to 15. However important consideration is raised on the other hand that such aggressive expansion strategies would lead to the dilution of their “Exclusive” brand value.


During the year Odel alsohas built up several important strategic links with corporate giants. A noteworthy one is the ODEL‐HNB co branded credit card which is a gold card that comes under VISA international brand that offers attractive benefits for the customers shop at Odel. This would strengthen the group’s sales to a greater extent.

Further the sophisticated and award winning Odel website also put in a remarkable contribution for heightening up sales, offering a comprehensive shopping experience through enhanced e‐commerce facilities.

Odel so far has carried out firm differentiation strategy offering a wider product change in their shopping outlets.

It’s products range from ladies ware, gents ware, kids ware, home ware, Sri Lankan souvenirs, food, backstage, embark collection, R&R whilst differentiating its outlets to that of other fashion retailers that Odel is hardly imitable.

An optimistic panorama is put forward specifically for Odel which is a leader in the market, by the augment in the tourism industry which is expected to grow by 40% to 850,000 in 2011 and reach 2.5million tourist arrivals by 2016 as per the Sri Lanka’s tourism authority in which case, Odel shopping outlets would play a key role in providing exceptional quality shopping facilities for the foreigners. This would grant a extraordinary backup for the boost of future demand for Odel apparel.

On 19th of November it was announced that the Odel acquired a prime land 250.4 perches in Thalangama for Rs.257.9 milion through its fully owned subsidiary Odel Lanka (Pvt) Limited witch is incorporated to plan the preliminary activities required to construct a high rise shopping mall complex. This provides an insight of a large scale strategic investment that the Odel is expecting to initiate with its hands on experience and victorious voyage whilst enjoying economies of scale and economies of scope advantages. Ability of the group as a whole for tapping superior profitability in a very healthy context in the upcoming years is thus evident.

The budget proposed on 22nd on November for year 2011 has projected many concessions favorable concessions. It proposed to reduce custom duties on selected goods and raw materials and also with the aim of promoting Sri Lanka as an attractive destination for international shopping for branded items, internationally branded items were exempted from VAT and import duty. Further the economic service charges on BOI enterprises were revised down to 0.1%. These policies would definitely have a positive impact on the Odel group creating a promising future to enhance the business.

Recommendation

Looking at the current performance together with the future outlook of the group the counter looks attractive in the medium to long term. Thus we recommend a BUY.

Courtesy-Capital Trust Research

»»  read more

Thursday, January 6, 2011

DISECTING 2010 - Sri Lanka Stock Market Perspective


Economic Rewind 
GDP growth gathers momentum
The year 2010 showed signs of improvement in the Sri Lankan economic outlook as the year witnessed the highest ever recorded GDP growth since 2002 in the 2Q, 2010 of 8.5 % amounting to Rs.634.9 bn. All three sectors of the economy registered significant growth in 2010 over the same period of previous year. The agriculture sector growth was backed by the improved global market prices and the upward trend in prices of natural rubber. The agriculture sector growth was further fuelled by increase in paddy and fishing production with the addition of North and East to the rest of the economy.
res
Services sector witnessed a sound performance stimulating economic growth. Food & beverages industry fared better in the light of hotel & leisure sector expansion. Commendable performance recorded especially in banking & finance, agriculture and transportation sector backed by positive market sentiment and overall global economic recovery. Industry sector performance was affected by the removal of GSP+ tariff concessions coupled with the rising production cost however it was assisted by the increase in demand for semi precious stones, improvement in construction sector and electricity gas and water. The sector contribution of Agriculture,Industry, and Services to the total GDP in 3Q2010 was 12.0 %, 28.5 % and 59.5 % respectively. The Q3 GDP growth figure was well above expectations of the central bank and appeared optimistic that the momentum would continue well in to next year.

The fiscal position amidst significant fiscal reforms
2009 witnessed a staggering fiscal deficit of 9.9% of GDP well above the target deficit rate of 7% of GDP for the year. In 2010 the government deficit for the period January to October 2010 stood at Rs 376.8bn. The total revenue recorded an increase of 12.6% amounting to Rs. 671.9 bn from Rs. 596.7 bn recorded for the same period in 2009. Tax revenue grew by 14.66%percent to Rs. 580.3 bn from Rs. 506.1 bn accounted for in the same period of 2009. This was largely due to the increase in imports fuelled by reduction in imports duties especially on motor vehicle importation.

The total expenditure for the period grew by 6.87% amounting to Rs. 1,048.7 bn compared to Rs. 981.2 bn recorded for the same period in 2009. Recurrent expenditure during the ten month period increased by 3.07 % to Rs. 787.4 bn from Rs. 763.9 bn a year while capital expenditure increased by 20.24% to Rs. 261.3 bn from Rs. 217.3 bn. The expected approximate figure for year 2010 will reach 8.67% of GDP exceeding the IMF’s recommended target deficit rate of 8% of GDP. However government has made significant fiscal reforms in its 2011 budget proposal and the expected reduction in budget deficit from 9.9 % recorded in 2009 to 8.67% signals that the government is stepping in the right direction. Addressing the fiscal imbalance is however a complex and sensitive issue which ought to be dealt with extra diligence. While adhering to IMF requirements any comprehensive measure which aims at altering the distribution of resources should render special attention to the socio-economic and political impacts.

A gradual rise in inflation
Inflation has witnessed a gradual increase in year 2010. The year started with an annual average of 3.1 % which gradually climbed to 5.8 % in November 2010. The low inflation levels experienced at the beginning of the year was due to the contraction in demand backed by the global economic downturn .However with the gradual recovery of global economy inflation in Sri Lanka increased gradually and the point to point inflation for the month of November increased to 7% from the 6.6% accounted in the previous month. Further the 12 month moving average inflation was reported at 5.8 %, the highest reported since reaching 3. 1% in January 2010. The increase was largely due to supply side constraints which led to the increase of most food prices such as rice, vegetables, sea food and sugar.
Food imports account to circa 14% of the total import cost of the country therefore; the increase in the import cost of staple food items will continue to enforce upward pressure on inflation. The supply constraints are worsened by the rise in oil prices towards the latter part of 2010 which increases production costs. However the gloomy economic outlook which hovers over the western centric economies will keep global demand pressures intact for 2011, in this connection the Central Bank anticipates the inflation to remain within single digits in the coming year.


A widening trade balance
Sri Lanka experienced a trade pattern of continuous increase in the growth rate of imports not matched by a similar increase in the growth rate of exports throughout 2010.


The period January - October 2010 witnessed a trade deficit of USD 4,357.1 mn. There was a 32.8% YoY increase in import expenditure for the period in concern which amounted to USD 10,862.6 mn unmatched by the value of exports that reached USD 6,505.5 mn, an increase of 13.2% YoY.

However in the month of October Sri Lanka’s trade deficit rose by 79.2 % YoY to USD 4,375.1 mn despite export earnings (+27.6% YoY) managing to outpace the flow of imports (+8.4% YoY). Therefore, the export gains recorded during the month of October were partially offset by the overall activity recorded during the year. Crude oil accounts for 25% of the total import costs while food imports accounts for 14% of total imports. The major exports on the other hand mainly comprises of primary commodities making Sri Lanka highly vulnerable to price volatilities of the global market. Trade deficit for the first ten month period of 2010 contracted by 20.9% to USD 328.6 mn compared to the same period of 2009.

The sharp increase in all segments of imports are expected to continue well in to the next year fuelled by the increase in consumption. Western countries continue to be the major destination for Sri Lanka’s exports. Europe and U.S.A together account for 60% of country’s exports. Hence the recent unfavourable economic conditions prevailing in the US coupled with the sovereign debt crisis of Euro zone would have a negative impact on the export earnings given the western economies would continue in experiencing a sluggish economic recovery over the coming year.
atures
Key Events that had a bearing on the market
2010 In Retrospective
The forward march from a stunning year 2009 persisted as the Colombo bourse continued it ‘climb up’ during 2010 to record a YTD return of 96.0%. After being recognized as the second best performing market by Reuters in 2009, CSE sustained the momentum to touch 7,000 levels in October 2010 and overtook Mongolia to emerge as the top performer in the world for 2010. 


However, CSE performance lost grounds thereafter shedding nearly 600 basis points till December.
The more liquid Milanka Price Index (MPI) also gained in line with the broader market index by 83% during 2010 and surpassed its 7,000 milestone in September 2010. Despite the dip in the CSE since October 2010, MPI regained its 7,000 levels with the revival that was seen in the bourse over the past couple of weeks.
Features

Turnover levels were concurrent with the market performance taking the YTD average daily turnover to LKR2.4 bn.


The YTD foreign interest recorded an outflow of LKR32.6 bn. Having overcome few of the bottlenecks for investment in Sri Lanka; inclusive of political instability monetary and fiscal disciplines last year, we believe foreigners would revert their attention to Sri Lanka’s equity market.


2010 New Listings
Entities continue to show interest for listing especially from the finance sector due to regulatory obligations. All the Initial Public Offers (IPOs) during 2010, were over-subscribed reflecting the positive investor appetite.
*To Initiate trading in January 2011
Source : Colombo Stock Exchange

Quick Look at Sectoral Performance during 2010

The top five sectors during 2010 are as below :
Trading Stores & Supply Motors Services Banks, Finance & Insurance


Among the weak performers during 2010 were :
Investment Trust Construction & Engineering Healthcare Telecommunication Power & Energy Land & Property

Earnings Snapshot
Banks, finance and insurance, one of the heavy weight sector, exhibited strong performance in terms of earnings during the year, majorly due to accelerated economic activities in the country. The same momentum can be expected going forward which would be backed by significant investment in branch expansion and investor friendly policies imposed by the government. The major contributors to this growth are Hatton National Bank, Commercial Bank & LOLC.

The Hotel & Travels sector saw a great revival during the latter part of 2010 as many hotels plunged into operations after their refurbishments in mid 2009. Colombo city hotels such as Galadari, Cinnamon Lakeside and Cinnamon Grand highly benefited with the corporate activity level grabbing in many foreign visitors. Resort hotels were also able to improve their bottom line with the seasonal foreign tourist arrivals. Going ahead, with Sri Lanka having already catered 600,000 tourists mid December, is targeting 2.5 mn tourists by 2016. The hotel and the leisure sector as a whole will be a direct beneficiary of these expectations.

The food & beverage, one of the key sectors listed in CSE, posted positive earnings during the year. Poultry sector players (Bairaha Farms and Three Acre Farms) sustained their growth story benefiting from the increased chicken consumption in the country. Cargills (Ceylon) also contributed to the sector growth with the addition of the North and East markets to its customer base whilst momentum continued in liquor oriented businesses (Distilleries, Lion Brewery and Ceylon Brewery).
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The sector would sustain its growth as most of the counters that contributed to the sector’s performance to continue to capitalize on the post war scenario. However, certain counters such the Distilleries, Lion Brewery and Ceylon Brewery; despite increase in their top line the sector would find their net earnings being squeezed with the increment of corporate taxes to 40% from 35% and the upward revision in the excise duty structure.

Throughout the past, earnings of the Manufacturing sector had been highly volatile, which was mainly due to seasonal impacts and unfavorable macroeconomic outcomes in the global economy. Chevron Lubricants, Royal Ceramics and Tokyo Cement further strengthened the sector earnings during 2010.

Though the telecommunication sector includes only 2 counters, it contributed approximately 5% to the total market. The sector witnessed healthy earnings posted by two participants during the year. Going forward the sector has potential in the local context with the technological advances together with the high penetration levels in the island. Further with government reducing the call charges we expect the revenue to grow due to the high elasticity of the product coupled with the growing per capita income.

The Diversified sector earnings approximately doubled during the year. The earnings growth was shouldered by the heavy weight John Keells Holdings with its capital gains through Asian Hotels & Property and Keells Hotels. Even though the sector earnings show high fluctuations on QoQ basis the earnings has usually outperformed the sector and the market. Going forwards we expect the diversified sector to report higher earnings on the back of the high geared local economy. Further the sector would benefit with the low interest rates persistent in the island together with the high investment rate as the sector is prone to diversification.

During June 2010 government reduced import duty for vehicles by 50%.This has immensely helped the stagnant industry to move ahead. With the new budget proposals government has reduced import tax on heavy vehicles. This would positively impact on the earnings of counters like Lanka Ashok Leyland, Dimo, Sathosa Motors and United Motors during the upcoming quarter.

Construction & Engineering sector perform relatively well comparison to the market during 2010. This was mainly backed by increasing income generated through post war developments and increasing demand for land & property in Colombo city limits. The growth was further facilitated by reduction in income tax for construction companies and reduction in custom duties for raw materials and capital equipments.

What’s up 2011? - A year of consolidation The Economy 2011
The inflation picked from a 3.1% annual average in Jan to 5.8% annual average in November 2010, mainly in the back of rising commodity prices and crude oil. Would the rise in the CCPI index lead to an increase in the policy rates during 2011? Sri Lanka just witnessed healthy private credit growth (during 2H of 2010), hence, would a possible increase in the policy rate create any impediment to the near witnessed private credit flows?

Most of the essential commodities are related with import tax and VAT, hence going forward if the country could aim to augmen t its revenues via valued added exports and tourism, the GoSL could look to relax import tax and VAT on essentials and invariably reduce the food price burden of the cosumer. During 2011 the private sector should take the initiative given from the budget to start structurally move up the value chain in terms of export products. Furthermore, Sri Lanka should reduce being western centric in terms of its exports (60% of all exports go to the western nation) and start penetrating the vibrant markets of the Asian powerhouses.

Albeit, certain encouraging tax reductions, the tax authority will have to better manage its tax collections and continue fiscal consolidation ( via cost reforms) to achieve improved fiscal outlook. During 2011 the GoSL would have to encourage more FDI’s and more private sector participation (Via Public Private Partnerships – PPP’s) to fast-track economic growth and capital formation within the economy.

Colombo Bourse 2011
The “Credit” debate
The latest directive issued on 30th December , reads “with effect from 1st January all broker firms shall be required to force-sell by T+5, securities of buyers who are in default of settlement by T+3 days, in order to recover the monies owing to them by such default clients.” T+3 have been an unnecessary fear psychosis, the majority of the market has fallen into. Ironically, the regional more developed markets also operate at T+3/ T+2. Hence, it should not be a huge deterrent on our market. In actual sense, it would prevent the market moving into more “Ponzi” levels, which actually brings more stability to the market during 2011 as well as stock brokering companies.
A flurry of IPO’s
It is very encouraging to hear that the Securities and Exchange Commission endeavors to augment the Colombo bourse market capitalization by 45% during the year 2011. What is more encouraging is that the envisaged increase is via new listings in the market. They foresee approx 75 IPO’s during the year 2011. Hence, it is a monthly average of circa 6 listings. Also it is planned to list gold and metal back ETF’s. Colombo bourse requires more IPO’s (fundamentally strong), liquidity and different options (ETF’s, Derivatives, Short Selling etc.) to give the investors more choice in terms of investing. Invariably making investors look at different stocks/ options to create healthy investing. As opposed to looking at the same counters and pushing them “up” and “selling”.
Sector “Hot-Picks” backed by healthy earnings
We advice the investors to especially watch the counters related to food & beverage consumption, consumer durables (based on expected hyped festive buying), tourism ( based on augmented tourist volumes) and banking counters ,especially the undervalued nonvoting counters (backed by improved credit growth during the past quarters) as short to medium term picks. Manufacturing, Construction and Land & Property would be medium to long term picks.


Courtesy- Asia Research
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