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Home »Brief Recordings » ‘Engro to actively participate in renewable’ an interview with Ghias Khan, President & CEO Engro Corporation

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  • May 18th, 2018
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Ghias Khan is the 4th President and Chief Executive Officer of Engro Corporation. He joined the Board of Engro Corporation in 2015. Most recently, Khan was the Executive Director of Dawood Hercules, one of the largest holding companies in the country. At Dawood Hercules, he participated with the Board of Directors in developing a digital-first vision and strategic plan to guide the organization, and had oversight of corporate governance, communications, external relationships, and special projects integral to growth.

Khan also served as Chairman of Elixir Securities from 2011-2014. Joining Dawood Group via acquisition in 2005, Mr. Khan was the CEO of Inbox Business Technologies - an enterprise technology company. Ghias Khan holds a Masters Degree in Business Administration from the Institute of Business Administration, Karachi.

BR Research recently had a detailed discussion with Ghias on Engro's plans and ambitions in Pakistan, surrounding the performance of Engro's diversified business units. Below is an edited excerpt of the conversation.

BR Research: Engro has had a turnaround in fortunes in the past 12 to 18 months. Let us start with a brief rundown of how things have shaped up in the last year or so?

Ghias Khan: From a financial perspective, 2017 was a good year for Engro. If you look at 2016, it was a rather challenging year particularly because of the market conditions in the fertilizer sector. There was a supply glut and resulted in a lower than expected profitability in Engro Fertilizers, which is our flagship business. In 2016, the industry inventory levels were in excess of a million tons. But 2017 ended much better for fertilizer, as not only was the industry allowed exports of over half a million tons, there was additional local demand as well.

The supply glut was over in 2017 and the margins recovered, which helped us earn in excess of Rs 10 billion for the year.

BRR: Was this growth in profitability despite the fact that the industry offered significant discounts on urea for most part of the year?

GK: The pricing was under pressure and remained below the government stipulated price for most part of the year. But, it was still higher than 2016.

BRR: Is the current subsidy mechanism smooth enough in terms of subsidy clearance and payment mechanism?

GK: If you look at the working capital requirements of fertilizer companies, you will see a dramatic increase in the last two years. Subsidy receivable for Engro Fertilizers alone stands at a little over Rs8 billion. We are facing a lot of problems in collecting that money, as the process has been made complicated by involving verifications from the provincial ministries as well.

The government, at the same time, has reduced the GST on output, but has not reduced the GST on input to that extent. And we find ourselves in a refund situation on the GST front as well. The input GST should be equal to output GST. That way, we will not have to pursue refunds, and the government will not have to go in potential payable situations with the fertilizer industry.

The point is that the government should not use corporate balance sheets and create receivable situations. Solving the cash flow issues of the industry will eventually benefit the government.

BRR: A few years ago, Engro was believed to be actively looking to expand in the DAP business. Does the company still have plans of venturing into the DAP business?

GK: We import and resell DAP, our current market share in DAP is approximately 20 percent and as such there are no plans to manufacture DAP locally.

BRR: The big story was undoubtedly the turnaround seen in Engro Polymer. What is behind the change in fortunes in such a brief time?

GK: The big story was of course polymer. Recall that there was a time when we were actually thinking of selling this business, but we have reversed that decision and it will continue to be a part of our portfolio. We had a stellar 2017 for polymer, and made around Rs 2 billion in yearly profits. More importantly, we have decided to further expand it, and are investing $100 million in the business.

BRR: So what is it that has changed in the Polymer business, convincing you to invest to the tune of $100 million in a business that has struggled for so many years? Has there been a structural change in the overall market conditions?

GK: We had some internal challenges, which had nothing to do with the market. When we did our backward integration of setting up the VCM plant in 2009, it did not go well for us. We had a lot of challenges on the manufacturing front. Even though the commodity cycle back then was in our favour, we just were not able to get the product out there in the market.

Over the last couple of years, the manufacturing problems have been completely resolved. At the same time there has been a double digit growth in the PVC market in Pakistan. Thirdly the commodity cycle was also favourable in the last couple of years hence allowing us to make profits.

We are of the view that the PVC market will continue to grow over the next few years and we are confident that the plant will run efficiently catering to that increased demand. We will continue to undertake efficiency initiatives as well along with expansions in the production capacity of PVC.

We are also in the process of the doing a rights issue in the business to further strengthen its balance sheet and to finance the growth initiatives.

BRR: How comfortable are you with the regulatory side of things in Polymer business in terms of duties and tariff structure?

GK: I believe the industry needs protection, which is imperative for any import substitution player, for the development of the sector. India is a good example, where the industry was protected, and looks where it stands today.

We believe that the market is now big enough, and because of our economies of scale and further diversification planned, we will be able to hold on our own in the next five years, even if protection goes away.

Even though protection in some of these sectors is very important but it is always important for businesses to strive to become globally competitive. Protection must not come at the cost of complacency. The industrial sector of Pakistan has to become globally competitive, while being adequately protected.

To sum it up, we have solved our internal issues at Engro Polymer, and the market is growing. The commodity cycle has also been kind to us. Our expansion would be aimed at adding 100,000 tons more to the existing capacity of 195,000 tons.

Pakistan is the only country amongst the leading economies in the world that does not have its own steam cracker. It is a big investment, but a naphtha cracker can be set up with $2.5-3 billion. The market of some of the byproduct s is reaching a point where having a cracker in Pakistan is becoming more feasible. If we decide to put up a facility right now, it will take five years. And a project of such financing requirement will have to be included in the CPEC.

BRR: Do you see Engro, in time, becoming more of an energy centric conglomerate, than what it currently is?

GK: There was a notion in the market that Engro will only do energy, and that is completely wrong. We are a diversified conglomerate, with interests in multiple areas and we will continue to be that. We are not going to focus solely on one sector per se.

Having said that, energy is a very important business for us and our philosophy as far as generation is concerned, we are going to focus on indigenous fuels. We want to be on the right side of the economic equation. The reason why we are keen on Thar is because it is a local fuel and as the size of the mine grows, the cost of fuel will come below imported coal, and will make more sense for companies to build power generation on Thar coal.

On the energy side, our flagship project in Thar is going as per schedule. We will hopefully reach the coal around October this year. We are on track for the commencement of operations in June 2019. The testing of the power plant is expected to start earlier, by January 2019.

The entire mining operation is divided into phases. Phase-1 is 3.8 million tons, which is adequate for Engro Powergen Thar Limited. The second phase is another 3.8 million tons, which will go to other plants. In terms of grid connectivity, things are sorted till Phase-III. .

BRR: Talking of indigenous fuels, Engro has surprisingly lagged in terms of investment in renewable energy. Do you have any plans to tap into renewable?

GK: We are definitely going to focus a lot more on renewable as well. There are lots of positive developments in this direction, and we have got a few LoIs. It is going to take some time, but there is activity for sure. The government is also planning open bidding of wind and solar, and now you will see Engro participate very actively in renewable.

As a country we need thermal power generation to take care of the base load. Renewables right now are not a base load solution as the cost of storage is still high. In another 10-15 years when the battery costs decreases, renewable will take care of baseload requirements as well.

BRR: Do you have any plans of exploring the energy chain other than just power generation?

GK: We are going to look into transmission, distribution, and the whole chain. The government has to privatize distribution and it is one of the most important steps that need to be taken in the immediate term. The government has done well in terms of generation, but more needs to be done on transmission and distribution front.

BRR: But the problem is that this government, despite having privatization in its agenda, could not dare make a move. Assuming, someone, with no privatization in the agenda comes to power, how do you expect things to change?

GK: I do agree with you. But whoever comes in has to pick this up as one of the first items for energy sector reforms. Because if you do not deal with it, you will continue to face the problems the sector faces today. The circular debt is back to square one, and this should be incentive enough for whoever comes in to privatize the system.

The sector has to be deregulated. In 10 to 15 years, we will have companies selling electrons to customers, who will have choices who to buy from.

BRR: Moving on to the LNG business. How are the handling volumes and where do you see them going in the near to distant future?

GK: Our LNG business has also expanded with time, as the government is now buying 600 mmcfd of LNG, from the earlier number of 400 mmcfd.

We finished our financial completion, which allowed us to take dividends. The total off-take from all terminals is 1200 mmcfd, out of which 900-1000 mmcfd is going to power plants.

The remaining 200-300 mmcfd is left for the industry, which is clearly not enough and there is definitely potential for another terminal. There needs to be infrastructure in place, which is an impediment. The demand has to be supported by growth in the export sector; I do think that for a gas based economy, LNG is the answer in many ways to keep the industries running.

The only challenge is how Pakistan would pay for an imported fuel in that quaintly. Will our export sector keep up pace with it? That is the million dollar question. We have many challenges on the export front and we can hope our exports pick up pace. The private sector has to raise its hand up, and invest in value addition.

BRR: Agriculture is part of the CPEC long term plan. Does Engro have any such plans of venturing into corporate farming? Also, tell us a bit about the revival of rice business?

GK: Agriculture is one area that I would mark as Pakistan's biggest opportunity, as this makes Pakistan relevant on a global scale. That sector can go from $50 billion to $100 billion in five to seven years, provided all organs in private and public sector play their respective roles.

On the yield side we are way behind developed countries, and then there are leakages in post harvest, farm-to-market and cost of farming. There is one study that we are currently undertaking in this area. We are doing a pilot at Engro Fertilizers right now, where we are working with the farmers. This revolves around farmers' productivity.

We are providing them inputs on credit, arranging their finance, advising, and guaranteeing prices. In the coming season, we are guaranteeing farmers the rice off-take in Punjab.

This is one of the most exciting areas that Engro is currently working on. It is a difficult business model however at the same time there is huge potential.

For Pakistan, this is the long term answer. We have to be able to become a net exporter of agriculture produce. Integration is the key and it will require some level of private sector institutional involvement, and companies like Engro to come forward and take the problem by the scruff of the neck.

As far as businesses are concerned, the one I am happiest about is rice. It may be the smallest, but has been the biggest story for us of late. The first quarter of 2018 was the first time the rice business made money. We reduced the losses dramatically in 2017 and now it is making profits. We have fixed the core structure of the rice business, by bringing down the cost to comparable levels. There is also the aspect of turnaround in the European market and the Indian issue that has helped Pakistan regain some of the Basmati share.

BRR: What is your view on the macroeconomic picture of Pakistan and where do you see the country headed?

GK: Clearly, the biggest challenge today is the current account. If you look at how our currency has devalued in the last few years. Has it really led to an increase in our exports? It has not. Empirical evidence suggests devaluation alone will not result in increased exports. The government needs to target subsides, solve cash flow aspects, and needs to work on the cost side of energy for the export sector.

The fuel mix is surely getting better, but the overall cost will not go down solely by low cost fuel mix, because of the ailing distribution and transmission network. The government also needs to incentivize the right import substitution players. A lot needs to be done on the agricultural side, because that is our biggest exports hope.

In the near-term, it is pretty clear that the interest rates will go up, and resultantly, exporters' cost of input will also go up. And it could lead to that cycle again, and we could be looking at another round of devaluation.

Copyright Business Recorder, 2018

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