MENAinFocus - GulfBase.com Capital... · 2012-11-27 · Turkey through Turk Telekom (through the...

Issue no. 81 - March 08, 2011

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MENAinFocus

Inside This Issue

In Focus 1: STC - The Turkish Exposure

Since the mobile market in the Gulf region has reached saturation and greenfield licenses are limited, Gulf Cooperation Council (GCC) operators have decided to expand outside the region as a way to diversify and grow their revenue base. Saudi Telecom (STC) was one of the companies in the region to search for inorganic growth. One of STC’s most important acquisitions was a 35% stake in Oger Telecom, bought in 2008, which gave STC exposure to the telecom market in Turkey through Turk Telekom (through the company’s ownership of Oger Telecom, STC maintains a 19.33% indirect exposure to Turk Telekom). In this section, we will focus on the different market dynamic of the Turkish telecom market and its contribution to STC Group.

By: Diala Hoteit & Alok Nawani

In Focus 2: S&P Pan Arab Composite Index Sector Performance

Given the weight of Saudi Arabia in the S&P Pan Arab Composite Index, it has closely followed the CRB Index (oil and gas weighted; 39%) from Jun-2008 to Dec-2010. The YTD trend divergence between the two, despite rising oil prices implies that investors remain wary of the regional equity markets; lower liquidity driven by weak market sentiment remains the top risk. One-year forward PEG of the utilities, oil and gas, and materials sectors appears to be in deep value. The materials sector offers the most plausible story in the near term. Sustainable favorable oil prices and petrodollar accretion could be a long-term positive for the region, and an economic recovery will be led by an early rise in the P/E of volatile sectors like financials and industrials.

By: Mala Pancholia

Rebased Performance of Regional Indices

80

90

100

110

120

130

Feb-10 Apr-10 Jun-10 Aug-10 Oct-10 Dec-10 Feb-11

S&P Pan Arab Large/Mid Composite S&P GCC Large/Mid Composite MSCI Jordan+Egypt+Morocco

MENA Market Caps

0%

1%

1%

2%

2%

3%

7%

8%

12%

13%

14%

35%

0 50 100 150 200 250 300 350

Palestine

Tunisia

Lebanon

Oman

Bahrain

Jordan

Egypt

Morocco

Qatar

Kuwait

UAE

Saudi Arabia

(%) Share of MENA Market Cap Market Cap. (USD billion)

Summary of Performance of MENA Indices

Index Leve l a s o f

28-Feb-11% be low 52-Week

High

% ove r 52-Week

Low

1-Mth Pe r iod

YTD

REGIONAL

S&P Pan Arab Large/Mid Composite 121 135 112 -10.5% 7.8% -5.4% -9.0% 917S&P GCC Large/Mid Composite 130 136 110 -4.6% 17.8% -3.3% 2.1% 709MSCI Jordan+Egypt+Morocco 1,235 1,524 1,215 -19.0% 1.7% 0.6% -13.7% 165

GCC

MSCI Bahrain 286 355 281 -19.5% 1.8% 0.4% -2.1% 21MSCI Kuwait 905 984 665 -8.0% 36.1% -4.8% -5.1% 116MSCI Oman 968 1,171 945 -17.3% 2.5% -14.5% -13.7% 18MSCI Qatar 903 1,017 732 -11.2% 23.3% -6.9% -5.9% 110S&P Saudi Arabia Large/Mid Composite 138 157 130 -12.1% 5.9% -6.5% -9.9% 318MSCI UAE 209 275 209 -24.1% 0.0% -8.5% -15.6% 126

OTHER MENA

MSCI Egypt 1,383 1,958 1,369 -29.4% 1.0% - -21.3% 67MSCI Jordan 230 273 225 -15.7% 2.5% -6.2% -7.4% 29MSCI Morocco 821 827 658 -0.7% 24.7% 4.4% 8.2% 69MSCI Lebanon 1,068 1,284 1,066 -16.8% 0.2% -5.3% -3.6% 11MSCI Tunisia 1,134 1,588 1,132 -28.6% 0.2% -9.1% -18.8% 9Palestine SE 482 529 481 -8.8% 0.3% -1.5% -2.2% 2

Marke t Cap

(USD billions)

INDEX 52-Week

High52-Week

Low

% Change

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MENAinFocusMarch 08, 2011

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STC - ThE TuRkISh ExPoSuRE

Since the mobile market in the Gulf region has reached saturation and greenfield licenses are limited, Gulf Cooperation Council (GCC) operators have decided to expand outside the region as a way to diversify and grow their revenue base. Saudi Telecom (STC) was one of the companies in the region to search for inorganic growth. One of STC’s most important acquisitions was a 35% stake in Oger Telecom, bought in 2008, which gave STC exposure to the telecom market in Turkey through Turk Telekom (through the company’s ownership of Oger Telecom, STC maintains a 19.33% indirect exposure to Turk Telekom). In this section, we will focus on the different market dynamic of the Turkish telecom market and its contribution to STC Group.

STC is exposed to the Turkish telecommunications market with a population of 71 million, roughly 60% of whom are under the age of 35. Turkey is the sixth-largest economy in Europe with a forecasted FY2011 GDP of USD 789.6 billion, and a real GDP growth rate of 3.6% (according to the International Monetary Fund [IMF]).

Turkey Mobile Market overview

Market Participants

The Turkish mobile market is currently served by three operators.

1. Turkcell: Turkey’s leading mobile operator with a market share of 54% at the end of 2010. The company was granted a 25-year GSM license in April 1998 for USD 500 million. The operator is a publicly listed company with a free float of 34.69%, with the remaining stake owned by Turkcell Holding (51%) and other investors (14.31%).

2. Vodafone Turkey: Turkey’s second-largest mobile operator with a market share of 27% at the end of 2010. The company was also granted a 25-year GSM license for USD 500 million (initially under Telsim—which won the second mobile license in 1998). However, in late 2005 Vodafone bought Telsim with a winning bid of USD 4.55 billion.

3. Avea: Turkey’s third mobile operator with a market share of 19% at the end of 2010. The company was formed in early 2004 via a merger between Aycel (owned by Turk Telekom) and Is-Tim (a joint venture between Telecom Italia Mobile and Isbank). In 2006, Telecom Italia sold its stake in Avea to Turk Telekom. Currently, the major shareholder in Avea is Turk Telekom with an approximate 81% stake; the remaining stake is held by Isbank.

Market Evolution

The Turkish mobile market as a whole has been growing at a much slower pace versus the peer markets. The overall subscriber base in Turkey grew at a cumulative annual growth rate (CAGR) of 7% between 2005 and 2010, versus an average CAGR of 15% for Turkey’s peer group. Furthermore, the market’s penetration rate of 87% at the end of 2010 is also much lower than the peer group’s weighted average at 116%. The slower market growth and lower penetration rate are due to the following:

• High Mobile Taxes – The special tax implemented on mobile voice services since 1999 stands at 25%. This tax is in addition to the 18% value added tax (VAT).

• Mobile Number Portability (MNP) – The introduction of MNP in November 2008 resulted in a reduction in multiple SIM cards usage.

We believe that the introduction of MNP in a market that is already constrained by high consumer taxation resulted in declines of 5% and 2% in the overall mobile subscriber base during 2009 and 2010, respectively. This in return has further widened the gap between mobile penetration rates in Turkey versus its peers. The telecommunications authority in Turkey called on the Ministry of Finance for reductions in special taxes as late as March 2010, but we have yet to see any reductions in mobile voice tax rates. However, any relief on mobile tax rates will prove to be a strong growth catalyst for the market.

IN FOCUS 1

Alok Nawani

T. +971 4365 [email protected]

Diala Hoteit

T. +971 4365 2855E. [email protected]




Figure 1-1Turkey Mobile Market Snapshot

2007 2008 2009 2010

Turkey Population ('000s) 68,894 69,659 70,538 71,428Growth 1.1% 1.1% 1.3% 1.3%

Penetration RateTurkey 89% 95% 89% 87%Peer Group 82% 96% 106% 116%

Subscriber GrowthTurkey 19% 7% -5% -2%Peer Group 19% 18% 11% 10%

Market ShareAvea 16% 19% 19% 19%Vodafone Turkey 26% 25% 25% 27%Turkcell 58% 56% 56% 54%

Blended ARPU (USD)

Turkey 13.1 12.6 11.1 12.3Peer Group 18.4 17.5 14.7 12.6Variance -29% -28% -25% -2%

Sources: Companies data, Informa, IMF, and NBK Capital

The Turkish regulator reduced the mobile termination rates in Turkey by around 33% and 29% in 2008 and 2009, respectively. Subsequently, to start attracting new subscribers and to capitalize on reductions in termination rates, mobile operators (with Avea being the first) started introducing unlimited flat-rate plans, with the same pricing for off-net and on-net calls. These factors contributed significantly to the 12% year-over-year (YoY) decline in Turkey’s mobile blended average revenue per user (ARPU) during 2009.

In April 2010, the telecom regulator further reduced the mobile termination rate by 52%. Although interconnection rates decreased, we saw an improvement in the blended ARPU level mainly due to the increase in the number of postpaid subscribers and mobile broadband revenue.

After the implementation of the termination rate declines in 2008 and 2009 and adoption of unlimited flat rate plans, Avea witnessed a sharp decline in its EBITDA margin during 2009 (drop from 21% in 2008 to 2% in 2009). Turkcell, on the other hand, chose not to engage aggressively in price competition at the time and instead focused on high-value consumers, thereby being able to better mitigate the extent of the company’s EBITDA margin decline relative to Avea (the EBITDA margin declined to just 35% in 2009, from 39% in 2008). During 2010, however, following the introduction of the second termination rate cut, the operators did not engage in similar tariff competition, which resulted in a significant EBITDA margin improvement for AVEA (EBITDA margin reached 13% in 2010).

However, one must note the difference in strategy employed by Turkcell versus that employed by Avea and Vodafone Turkey. During the 2009-2010 period, while Avea and Vodafone chose to focus on customer acquisition via tariff reductions, Turkcell adopted a high-value strategy via further expanding the company’s network coverage and quality, improving quality of the 3G content, and investing in technology upgrades. As evidence, we point out that Turkcell was able to capture 48% of the postpaid subscriber net additions during the 2009-2010 period, while controlling a 53% market share of the postpaid market at the end of 2010.

MNP leads to negative

subscriber growth




Turkey Fixed-line Market overview

The PSTN Market

The Turkish fixed-voice market is largely dominated by Turk Telekom, which has a fixed-line concession agreement valid until 2026. However, since liberalization efforts made in January 2004, the market now has a variety of fixed telephone service (FTS) providers (88 at the end of 2009) providing local calls, long distance, and international direct dial services.

At the end of 2010, Turkey’s PSTN penetration stood at 22% having declined from 28% at the end of 2005 mainly due to the fixed-to-mobile substitution effect.

Figure 1-2 Turkey PSTN Market Snapshot

2007 2008 2009 2010

Turkey Population ('000s) 68,894 69,659 70,538 71,428Growth 1.1% 1.1% 1.3% 1.3%

Penetration RateTurkey 26% 25% 23% 22%Peer Group 24% 25% 25% N/A

Revenue Market ShareTurk Telekom 94% 92% 90% N/AFTS providers 6% 8% 10% N/A

Traffic Market ShareTurk Telekom 97% 97% 96% N/AFTS providers 3% 3% 4% N/A

Blended ARPL (USD)

Turk Telekom 16.0 16.2 15.0 14.5Growth 2% 1% -8% -3%

Sources: Company data, IMF, ITU, Information and Communications Technologies Authority (ICTA), and NBK Capital

The key regulations in the fixed-line market include the following:

• Special Communications Tax – The special communications tax on fixed voice services stands at 15%. This tax is in addition to the 18% VAT.

• Number Allocations and Fixed Number Portability – As part of the liberalization process, number allocation and fixed number portability were introduced in 2009. However, reportedly there have been difficulties with successfully implementing fixed number portability.

Although the presence of FTS providers in the PSTN market has resulted in increased competition (FTS providers managed to capture 4% share of the PSTN traffic and a 10% PSTN revenue share at the end of 2009), we believe that the more dominant threat to Turk Telekom is from the fixed-to-mobile substitution.

Fixed-to-mobile substitution

leads to declining penetration

rates




Figure 1-3 Turk Telecom PSTN Revenue Evolution

-2%

-12%

-7%

-0.14

-0.12

-0.1

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0

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PSTN Revenues (TRY Millions) Growth

Sources: Company data and NBK Capital

Despite a declining trend in Turk Telekom’s subscriber base, average revenue per line (ARPL) also witnessed a decline at a CAGR of 3% between 2007 and 2010. However, the rate of this decline slowed down during 2010, with ARPL declining by only 3% YoY to USD 14.5 (versus an 8% decline in 2009). The slower decline in ARPL levels relates to relatively better customer retention and the launch of new packages that resulted in tariff rebalancing to increase the fixed-fee share of PSTN revenues.

The Internet Market

Internet services in Turkey are available via ADSL, mobile broadband, cable Internet, Integrated Services Digital Network (ISDN), and satellite services. The Internet penetration rate in the country has grown from 4.2% at the end of 2006 to 9.6% at the end of 2009, which demonstrates the increasing demand for Internet services. Going forward, however, we feel that efforts such as reductions in the special communications tax (on mobile Internet services from 25% to 5% and on fixed-line Internet services from 15% to 5% as of March 2009) have the potential to further accelerate penetration growth for the market.

Figure 1-4 Overview of the Turkish Internet Market

2006 2007 2008 2009

Internet Subscribers ('000s) 2,863 4,609 5,986 6,783

Internet Penetration 4.2% 6.7% 8.6% 9.6%

Market Share

ADSL (Turk Telekom) 98% 99% 98% 92%

Mobile broadband 0% 0% 0% 6%

Others 2% 1% 2% 3%

ADSL Statistics

Subscriber growth 83% 62% 30% 5%

ARPL - Turk Telekom (USD) 20.7 18.5 17.8 19.6

Growth N/A -11% -4% 11%

Sources: Company data, ICTA, and NBK Capital

Fixed-to-mobile substitution

is a larger threat than

competition

Mobile broadband is gaining

momentum




ADSL services have been the fastest-growing technology for Internet services in the country, with the subscriber base growing at a CAGR of 42% between 2005 and 2009, and thus maintained a 92% market share at the end of 2009. Turk Telekom is the primary supplier of wholesale ADSL services in the country, with its retail subsidiary (TTNET) controlling the majority of the retail market. The company has established dominance in the broadband market. However, since the launch of 3G services in 2009, mobile broadband has grown substantially in the country and is positioned as the prime challenger to ADSL growth and hence to Turk Telekom’s fixed broadband business.

Turk Telekom’s fixed-broadband ARPL declined until 2008 due to rampant subscriber growth. However, with the easing of subscriber growth, the trend reversed in 2009, with the ARPL growing by 11% in 2009 to USD 20 and by 8% during 2010 to USD 21. In addition, we believe the increased bandwidth offerings (at higher tariffs) made by Turk Telekom have also helped prop up ARPL levels. Furthermore, inflation adjustments (of 8% to 10%) made by Turk Telekom to some of its unlimited packages (December 2010) will also support future ARPL levels.

Turk Telekom’s Segments

Overall, we find that the revenue growth profile of Turk Telekom has been losing steam at the group level, largely due to continued weakness in the company’s PSTN business. However, we foresee growth in the mobile and ADSL businesses will support the group’s revenues. The mobile segment’s contribution to group revenues increased from 21% in 2008 to 24% in 2010 and is likely set to grow going forward as Avea gains traction in the mobile market. On the ADSL front, while revenue growth seems to be easing, the segment’s contribution to the group has been growing consistently, with 23% revenue contribution by the end of 2010.

Figure 1-5 Turk Telekom Financial Highlights by Segment

2008 2009 2010

Highlight Figures (TRY M illions)

Revenues 10,195 10,568 10,852

EBITDA 4,342 4,356 4,835

Net Profit 1,752 1,860 2,451

Revenue Composition

Mobile - Avea 21% 24% 24%

Fixed-line 79% 76% 76%

PSTN 51% 43% 39%

ADSL 16% 20% 23%

Others 12% 13% 14%

Revenue Growth

Turk Telekom Group 8% 4% 3%


Fixed-line 5% 0% 2%

PSTN -2% -12% -7%

ADSL 36% 28% 16%

Others 3% 12% 10%

EBITDA Growth


Mobile - Avea 46% -88% 500%


EBITDA Margin




Sources: Company financial statements and NBK Capital

Mobile and ADSL segments

support revenue and EBITDA

growth




From an EBITDA standpoint, the group’s performance has improved notably with 11% growth in EBITDA during 2010. This growth has been a function of sharp recovery in mobile business margins (due to rationalizing competitive pressures in the mobile market—which are likely to persist in the interim), and improvements in fixed-line EBITDA margins likely driven via cost optimizations in the ADSL segment.

Contribution to STC

STC Group’s FY2010 revenues grew by 2% YoY to SAR 51.8 billion while FY2010 EBITDA declined by 5% YoY to SAR 19.6 billion (representing an EBITDA margin of 38%, versus 41% in FY2009). Overall, net profit declined by 13% YoY to SAR 9.44 billion.

For the first time, STC disclosed, in its 2010 annual report, the geographical revenue split for various operations. International operations contributed to 32% of STC’s 2010 group revenue, of which Oger Telecom was the main contributor (22%).

Figure 1-6 International Contribution to Group Revenue

STC, Awal Net and Telecom Investment

68.1%

Binariang and Axis (NTS) 7.7%

Oger Telecom 21.5%

Viva-Kuwait, Viva-Bahrain, and Gulf

Digital Media Holding 2.7%

Source: STC 2010 annual report

As STC proportionally consolidates the Oger Telecom operation, which has a voting right in Turk Telekom, we estimate the contribution of Turk Telekom to STC’s group revenue was around 17% in 2010. Turk Telekom’s management is expecting revenue growth between 5% and 7% during FY2011, while guiding an EBITDA margin in the low to mid-40s.

Oger Telecom generates 21.5%

of the group revenues




S&P PAN ARAb CoMPoSITE INdEx SECToR PERFoRMANCE

Given the weight of Saudi Arabia in the S&P Pan Arab Composite Index, it closely followed the CRB Index (oil and gas weighted; 39%) from mid-2008 to the end of 2010. However, the trend divergence between the two, since the start of 2011, despite rising oil prices, implies that investors remain wary of the regional equity markets. Investors are cautious; lower liquidity driven by weak market sentiment remains the top risk for the regional equity markets, in our opinion. The S&P Pan Arab Composite Index one-year forward median P/E is set to decline, and the forward median PEG of the utilities, oil and gas, and materials sectors appears to be in deep value. We believe that the materials sector offers the most plausible story in the near term. The sustainable favorable level of oil prices and accretion of petrodollars could be a long-term positive for the Middle East, and an economic recovery will be led by an early rise in the P/E of volatile sectors like financials and industrials.

S&P Pan Arab Composite Index’s Correlation with the CRb Index

During the second half of 2008, the fall of Lehman led to frenzy in the global financial markets. The CRB (Thomson Reuters/Jefferies Commodity Research Bureau Global Commodity Index; CRB) Index declined 51% in that period. Oil and gas have a 39% weight in the CRB Index. Given that the Gulf Cooperation Council (GCC) makes up 80% of the S&P Pan Arab Composite Index and oil is the “bread and butter” of the region, the S&P Pan Arab Composite Index followed suit. The index lost about 45% of its value during a similar period.

Considering that the oil-exporting Middle East and North Africa (MENA) region is home to about 60% of the world’s oil reserves and 45% of the world’s natural gas reserves, it was no surprise that the regional financial markets responded adversely to the crashing oil price. By 2010, however, regional economic activity had picked up, driven by the stable hydrocarbon sector and adequate government spending. While the CRB Index recovered at a compound annual growth rate (CAGR) of 21% during FY2009/FY2010, the S&P Pan Arab Composite Index rebounded at a CAGR of 17% during the same period, largely on the perception that petrodollars could continue to fuel government spending going forward.

Figure 2-1 Correlation of the S&P Pan Arab Composite Index and the CRB Index

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S&P Pan Arab Composite Index Price Return S&P Pan Arab Composite Index Total Return

Thomson Reuters/Jefferies CRB (TRJ/CRB) Index Total Return

Aug'08 - Dec'08TRJ/CRB Index -51%

S&P Pan Arab Composite Index -45%

Dec'08-Dec'10 TRJ/CRB Index +21% CAGR

S&P Pan Arab Composite Index +17% CAGR

Sources: Standard and Poor’s (S&P) and Jefferies

IN FOCUS 2

The S&P Pan Arab Composite

Index has recovered in tandem

with the CRB Index. Favorable

oil prices support investor

optimism.

Mala Pancholia

T.+971 4365 2811E. [email protected]


mailto:mala.pancholia%40nbkcapital.com?subject=



oil Exporting Countries and Cyclical Sectors dominate the S&P Pan Arab Composite

The S&P Pan Arab Composite Index essentially consists of 11 markets: Bahrain, Egypt, Jordan, Kuwait, Lebanon, Morocco, Oman, Qatar, Saudi Arabia, Tunisia, and the United Arab Emirates. As of December 31, 2010, Saudi Arabia alone made up 45.9% of the index, and in total, the GCC region constituted 80% of the index. According to S&P Pan Arab Indexes methodology, this index reflects available float-adjusted market capitalization defined by the foreign investment limits applicable to GCC residents.

Figure 2-2 S&P Pan Arab Composite Index Is Heavily Saudi Arabia Weighted

Saudi Arabia 45.9%

Kuwait 17.3%

Egypt 8.6%Qatar 8.1%

UAE 5.7%

Morocco 5.4%

Jordan 2.7%

Oman 2.1%

Lebanon 2.0%

Bahrain 1.5%

Tunisia 0.7%

Other 9.0%

Source: Standard and Poor’s (S&P)

We follow a sector classification that complies with the Global Industry Classification Standard (GICS) methodology. At the end of December 2010, the heavyweight financials sector (49.6%), which broadly encompasses financial services, banks, mortgage finance, and real estate companies, dominated the index. Despite the region’s dependence on oil, the materials sector accounted for 19.2% of the index, given the lack of publicly traded energy companies in the region.

Figure 2-3 Financials, Not Materials, Contribute to ~50% of the S&P Pan Arab Composite Index

Financials 49.6%

Materials 19.2%

Telecommunication 12.4%

Industrials 10.0%

Consumer Staples 3.1%

Energy 2.2%

Consumer Discretionary 1.6%

Utilities 1.4%

Health Care 0.4%

Other 8.8%


With USD 18.3 trillion of oil

and gas reserves, the GCC

commands an 80% share of

the S&P Pan Arab Composite

Index.

The financial sector is broadly

composed of banks, financial

services, mortgage lenders,

and real estate companies.




Sector Wise, Materials Significantly outperformed the Rest

Our analysis of the S&P Pan Arab Composite Index Total Return (TR) series during FY2009/FY2010 indicates that, in the past two years, the S&P Pan Arab Index TR rose at a compound annual growth rate (CAGR) of 16.8%, and the sector that by far outperformed the index was materials (up 32.5%). Given that Saudi Arabia’s equity market performance (particularly stocks like SABIC) is generally positively correlated to oil prices, we believe that the outperformance of the materials sector could be well explained by the trend in the oil price in the same period. NYMEX crude oil for future delivery closed FY2010 at USD 91.38/bbl, versus USD 44.6/bbl on December 31, 2008, a CAGR of 43%.

Figure 2-4 Materials Outperforms the S&P Pan Arab Composite Index Total Return

Series

16.8%

11.6%

22.3%

12.5%10.3%

26.0%

20.7%

32.5%

20.2%

23.3%

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S&P Pan Arab

S&P Pan Arab Sector Indices


Conventional wisdom states that defensive sectors outperform in a downturn while cyclical sectors outperform in strong economic conditions. In the last two years, other outperforming sectors (in descending order) include healthcare, utilities, consumer staples, industrials, and telecommunications.

In the past 12-18 months, governments of the GCC (index heavyweights) have undertaken massive stimulus plans to boost infrastructure spending, and central banks have stepped up measures to relieve the credit squeeze; however, banks remain cautious. Going forward, rising petrodollars could hold the key to recovery. However, the trickle-down velocity of these reforms will essentially determine the pace of the market recovery in the region. At the same time, the rising political risk premium could delay the potential revival in the region. We believe that the materials sectors could continue to be the trendsetter for FY2011.

The performance of the

materials sector trails the trend

in hydrocarbon prices.




S&P Pan Arab Composite Index Market Cap decline Remains Concerning

Since the start of the year, the ongoing geo-political events have led to a directional divergence between the two indices. Since the start of FY2011, oil prices have risen about 14.3% to USD 104.42/barrel [bbl] (NYMEX WTI, front-month delivery), but the S&P Pan Arab Composite Index has declined 12% as of March 4, 2011. In addition, the adjusted market cap of the S&P Pan Arab Composite Index declined by USD 38 billion during the same period. The Middle East and North Africa (MENA) bourses have lost about USD 140 billion in the past five weeks. Given the uncertainty surrounding the region, the market cap of the 16 Arab bourses has dropped to USD 862 billion (March 4, 2011) from USD 1,002 billion (January 25, 2011).

As we mentioned earlier, the region’s fundamental story and development plans are highly subject to favorable oil prices. FY2010 was marked by weak domestic demand and inadequate credit growth. Expectations of a pick-up in both indicators during FY2011 were largely based on 1) strong oil prices and 2) rising investor confidence on the back of successful financial restructuring plans. However, in the traditionally retail-driven MENA markets, sentiment could override fundamentals. Hence, amidst the rising regional concerns, the positives of attractive oil prices and government stimulus are likely to be ignored.

Investor nervousness over the regional landscape outweighs the potential promise in the regional equities story. As investor confidence trends downhill, equity markets could continue to be hammered in the near mid-term. In the longer term, sustainable oil price strength (above USD 80-85/bbl) could be a valuable positive for the relatively stable oil exporters to amass additional petrodollars. Provided the liquidity is invested locally to potentially fuel the expansive development plans in the region, the GCC economies could soon be on the path to recovery.

S&P Pan Arab Composite Forward P/E Set to decline

As of December 31, 2010, the estimated FY2010 P/E of the S&P Pan Arab Composite Index was 21.56x while that of the broader emerging markets index, the S&P Emerging Frontier Super Composite Index, was 13.91x.

Weak earnings, erratic non-performing loans (NPLs), and faltering demand-supply dynamics challenge the premium P/E of the S&P Pan Arab Composite Index. Although we believe that stable and favorable oil prices could be positive for the region in the long term, potentially leading the region’s emergence from the weak economic outlook, at the end of 2010 the S&P Pan Arab Composite index seemed overvalued. Market momentum since the start of FY2011 has been downward due to various reasons, and the weak market sentiment along with risk premiums could pressure prices in the near term.

According to the data available on the S&P Index website, the P/E of the S&P Pan Arab Composite Index and the sectors within is likely to decline over FY2011/FY2012. The Index PE is forecasted to decline from 22x to 12x, a CAGR of -25% year-on-year (YoY) for FY2011/ FY2012, implying a significant earnings CAGR of ~30% YoY during the same period. We feel that the use of average P/E multiples skews the overall outlook due to the presence of outliers. Hence, going forward we opt to use medians.




Figure 2-5 S&P Pan Arab Composite Index Average P/E to Decline by FY2012

22

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34

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12 119

11 11

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S&P Pan Arab Sector Indices

End 2010 P/E FY 2012 P/E P/E CAGR

Source: Standard and Poor’s

As mentioned earlier, we prefer to use the median (to avoid the impact of outliers) versus the average. Hence, we revisit the P/E and PEG data for the index available on Bloomberg. Interestingly, we find that the Trailing 12-Month (T12M) median P/E for the S&P Pan Arab Composite Index is 12.9x, and the estimated one-year forward median P/E is 10.7x, as of the end of February 2011.

Figure 2-6 Forward Median P/E and PEG of the S&P Pan Arab Composite Index

Become Attractive

25.2

12.6

1.6 1.1

12.9

10.7

0.4 0.6

5

10

15

20

25

30

P/E (T12M) P/E Est PEG (T12M) PEG Est

Average Median

Source: Bloomberg

A significant drop in the S&P

Pan Arab Composite Index

forward P/E could be skewed

due to the impact of outliers.

Significantly lower P/Es could

also imply a lower risk appetite

for the region.

While the median P/E has

fallen somewhat, the forward

median PEG has become

attractive.




P/E Could highlight the Risk Appetite for the Region, but PEG in deep Value Could highlight Exciting opportunities

Given that the P/E is as an indicator of the price investors would pay for a set of earnings, it signifies the risk appetite of the equity investors in the prevailing uncertainty. Although in the mid-term a rise in economic activity and resultant earnings growth backed by the multibillion-dollar development plans and rising oil revenues could become apparent, the near term is more likely to be marked with price corrections across regional markets as investors seek to reduce their exposure to the MENA markets due to the regional turmoil.

According to data available on Bloomberg, as of the end of February 2011, the one-year forward P/E of S&P Pan Arab Composite Index and the sectors within are largely positioned for a compression. We believe that the lower P/Es could signify a low-risk appetite for the region and that could be a characteristic of the regional markets during FY2011.

The sectors that stand out with the most prominent forward median P/E declines are utilities and technology. We note here that, despite the common perception of utilities and telecoms as defensive sectors, in the GCC these sectors are somewhat cyclical by nature, given that the growth comes from the influx of expats, which waxes and wanes with the economic cycles.

Figure 2-7 Sector Forward P/Es (Median) Drop Across the Board

12.9

22.9

9.711.7

12.8 13.412.2 13.0

15.316.2

24.2

10.3

13.7

8.8

11.79.9

8.510.4 9.9

11.710.1

8.2

5

10

15

20

25

30

P/E

Rat

io

Median P/E T12M Median P/E Est

Source: Bloomberg

With the exception of the utilities, materials, and oil and gas sectors, the one-year forward PEG for the S&P Pan Arab Composite Index and the remaining sectors within the composite index show a rising trend. Significant earnings growth is expected in the three exceptional sectors. We remain cautiously optimistic about the materials and the “capital goods” subsector within industrials in the region in the mid-term due to 1) strong oil prices, 2) rising oil proceeds, and 3) massive infrastructure plans announced thus far.

The forward P/E (median) of

the utilities sector stands out.

According to available data,

the earnings growth estimate

is the highest for the oil and

gas, followed by the materials

sector and then utilities.




Figure 2-8 Forward PEG (Median) Ratios Most Attractive for Oil and Gas, Materials,

and Utilities

0.35

1.74

0.17

0.47 0.420.34 0.38

0.22

0.400.30

0.56

2.12

1.43

0.890.77

0.63 0.590.51

0.43

0.21 0.20

0.00

0.50

1.00

1.50

2.00

2.50

PE

G R

atio

Median PEG T12M Median PEG Est

Source: Bloomberg

We believe that a sustainable favorable level for oil prices and accretion of petrodollars could be a long-term positive for the Middle East. Infrastructure and government-sponsored projects could gain momentum regionally, fueled by a windfall of oil proceeds.

We believe that an eventual correction of prices coupled with gradual earnings improvement post FY2012 could bring forth attractive investment opportunities in the Pan Arab markets. Generally, in anticipation of an economic recovery and attractive returns, volatile sectors like financials could demonstrate an early rise in P/Es. In the long run, the companies that report strong earnings growth are likely to command fatter P/Es as investors choose to pay more for better earnings yields.

Of the three sectors, we

believe that the materials

sector continues to offer the

most plausible story.




CoMPANIES IN FoCuS (PRICES AS oF FEbRuARY 28, 2011)

T12M 2011 2012 Latest 2011 2012

Banking

Abu Dhabi Commercial Bank UAE AED 2.23 26-Jan-11 2.40 Accumulate 28.2 9.0 5.7 0.5 0.6 0.6

Arab National Bank Saudi Arabia SAR 39.70 19-Jan-11 46.90 Accumulate 13.5 10.9 9.2 1.7 1.5 1.3

BankMuscat Oman OMR 0.791 16-Jan-11 0.860 Reduce 10.5 9.9 8.2 1.3 1.2 1.1

Banque Saudi Fransi Saudi Arabia SAR 40.80 13-Jan-11 55.90 Buy 10.5 9.1 7.8 1.6 1.4 1.3

Doha Bank Qatar QAR 51.80 02-Mar-11 62.00 Buy 10.2 9.2 8.0 1.8 1.7 1.6

First Gulf Bank UAE AED 15.95 23-Feb-11 19.80 Buy 6.6 6.2 5.2 0.9 0.8 0.8

National Bank of Abu Dhabi UAE AED 11.10 01-Feb-11 14.90 Buy 7.2 6.9 5.9 1.1 1.0 0.9

National Bank of Oman Oman OMR 0.304 24-Jan-11 0.370 Accumulate 12.1 10.1 8.4 1.2 1.2 1.1

Qatar National Bank Qatar QAR 127.70 06-Feb-11 142.00 Hold 11.4 9.9 8.7 2.7 2.2 1.9

Riyad Bank Saudi Arabia SAR 24.05 13-Jan-11 32.60 Buy 12.8 10.7 9.0 1.2 1.1 1.1

Samba Financial Group Saudi Arabia SAR 51.00 17-Jan-11 61.00 Hold 10.3 9.6 8.6 1.8 1.5 1.4

The Commercial Bank of Qatar Qatar QAR 70.40 23-Feb-11 97.00 Buy 10.7 9.6 8.5 1.4 1.3 1.3

The Saudi British Bank Saudi Arabia SAR 37.60 16-Jan-11 49.40 Buy 15.0 9.7 7.9 1.9 1.6 1.4

Union National Bank UAE AED 3.25 14-Feb-11 4.20 Buy 5.4 4.3 3.8 0.6 0.5 0.5

Sector Country CurrencyClosing Price

Recommendation12-Month Fair Value

PBDate of Last Report

PE

T12M 2011 2012 T12M 2011 2012

Bui lding Materia ls

Ezz Dekheila Steel Egypt EGP 658.59 10.9 na na 6.9 na na

Ezz Steel Egypt EGP 15.93 28.2 na na 8.5 na na

Lecico Egypt EGP 17.02 10.8 na na 5.6 na na

Oman Cement Co. Oman OMR 0.547 16-Jan-11 0.700 Accumulate 7.5 10.6 10.6 8.7 8.3 8.3

Ras Al Khaimah Cement Co. UAE AED 0.60 21-Feb-10 1.06 Hold nmf 16.2 16.6 nmf 8.2 8.1

Raysut Cement Co. Oman OMR 1.090 10.5 na na 10.0 na na

Qatar National Cement Co. Qatar QAR 112.50 09-Feb-11 100.50 Reduce 10.8 10.0 10.0 9.1 8.7 8.8

Contractors

Arabtec UAE AED 1.30 11-Jan-11 2.29 Accumulate 6.6 6.1 6.0 2.3 3.1 3.0

DEPA** UAE USD 0.66 15-Dec-10 0.88 Buy nmf 8.2 7.8 5.9 6.7 6.1

Drake and Scull UAE AED 0.90 07-Mar-11 1.07 Buy 11.0 10.7 9.7 9.2 7.8 7.4

Orascom Construction Egypt EGP 227.07 16.4 na na 10.8 na na

Real Estate Mabanee Kuwait KWD 0.690 01-Mar-11 0.890 Buy 18.5 13.8 14.2 17.4 13.8 12.7

Salhia Real Estate Co. Kuwait KWD 0.260 9.2 na na 8.5 na na

Telecommunications

Bahrain Telecommunications Co. Bahrain BHD 0.472 10-Feb-11 0.660 Buy 7.8 7.2 7.5 3.8 3.9 4.0

du UAE AED 2.88 15-Feb-11 3.24 Accumulate 12.6 19.0 16.9 7.4 6.2 5.3

Etihad Etisalat Co. Saudi Arabia SAR 46.30 17-Jan-11 70.00 Buy 7.7 7.3 6.8 6.2 5.6 5.2

Egyptian Company for Mobile Svcs. Egypt EGP 133.21 9.8 na na 4.6 na na

Jordan Telecom Grp. Jordan JOD 5.70 14-Feb-11 4.35 Reduce 15.0 14.7 14.5 6.8 6.6 6.5

Oman Telecommunications Co. Oman OMR 1.156 09-Feb-11 1.450 Accumulate 7.7 9.9 10.9 4.0 4.4 4.5

Qatar Telecom Qatar QAR 146.00 02-Mar-11 205.00 Buy 7.4 6.3 6.3 3.3 3.2 3.1

Saudi Telecom Saudi Arabia SAR 37.10 7.9 na na 4.9 na na

Telecom Egypt Egypt EGP 16.03 9.3 na na 6.0 na na

Vodafone Qatar Qatar QAR 7.64 nmf na na nmf na na

Wataniya Telecom Kuwait KWD 1.760 01-Feb-11 2.240 Buy 13.6 11.5 11.8 3.7 3.4 3.3

Nawras Oman OMR 0.673 01-Feb-11 0.900 Accumulate 8.8 8.1 8.1 5.1 4.6 4.4

Transportation & Logistics

Agility Kuwait KWD 0.370 4.3 na na 2.7 na na

Air Arabia UAE AED 0.80 22-Feb-11 1.00 Buy 10.6 14.5 18.1 7.3 4.9 3.3

Aramex UAE AED 1.55 14-Feb-10 2.10 Accumulate 11.1 9.9 9.1 6.3 5.5 5.2

DP World UAE USD 0.54 26-Jan-11 0.60 Hold 34.7 25.7 19.5 13.6 11.2 9.8

Jazeera Airways Kuwait KWD 0.122 nmf na na nmf na na

Others

Almarai Saudi Arabia SAR 93.00 21-Feb-11 117.00 Accumulate 16.6 14.4 13.1 13.8 12.4 11.0

Dana Gas UAE AED 0.59 26.7 na na 8.7 na na

GB Auto Egypt EGP 39.08 19.6 na na 10.0 na na

Oriental Weavers Egypt EGP 32.53 10.1 na na 6.3 na na

Juhayna Egypt EGP 5.47 16.8 na na 10.6 na na

Qatar Electricity and Water Co. Qatar QAR 120.00 15-Feb-11 131.00 Hold 10.3 9.0 8.3 13.0 12.9 12.1

Savola Saudi Arabia SAR 25.70 14.5 na na 10.3 na na

The Sultan Center* Kuwait KWD 0.150 26-Dec-10 0.21 Accumulate nmf nmf nmf 11.1 11.4 9.0

Under Review

Under Review

Under Review

Under Review

Under Review

Under Review

Under Review

EV/EBITDAPE

Under Review

Under Review

Date of Last Report

Under Review

Recommendation

Under Review

12-Month Fair Value

Under Review

Under Review

Under Review

Under Review

Under Review

Under Review

Sector Country CurrencyClosing Price

*Adjusted **DEPA EV/EBITDA is Pre-Burj Khalifa writeoff




RISk ANd RECoMMENdATIoN GuIdE

RECoMMENdATIoN uPSIdE (doWNSIdE) PoTENTIAL

BUY MORE THAN 20%

ACCUMULATE BETWEEN 5% AND 20%

HOLD BETWEEN -10% AND 5%

REDUCE BETWEEN -25% AND -10%

SELL LESS THAN -25%

RISk LEVEL

LoW RISk hIGh RISk

1 2 3 4 5

dISCLAIMER

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The Content is provided to you for information purposes only and is not to be used, construed, or considered as an offer or the solicitation of an offer to sell or to buy or to subscribe for any investment (including but not limited to securities or other financial instruments). No representation or warranty, express or implied, is given by NBK Capital or any of its respective directors, partners, officers, affiliates, employees, advisors, or representatives that the investment referred to in this report is suitable for you or for any particular investor. Receiving this report shall not mean or be interpreted that NBK Capital will treat you as its customer. If you are in doubt about such investment, we recommend that you consult an independent investment advisor since the investment contained or referred to in this report may not be suitable for you and NBK Capital makes no representation or warranty in this respect.

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Kuwait

National Bank of Kuwait SAKAbdullah Al-Ahmed StreetP.O. Box 95, Safat 13001Kuwait City, KuwaitT. +965 2242 2011F. +965 2243 1888Telex: 22043-22451 NATBANK

INTERNATIoNAL NETWoRk

Bahrain

National Bank of Kuwait SAKBahrain BranchSeef Tower, Al-Seef DistrictP.O. Box 5290, Manama, BahrainT. +973 17 583 333F. +973 17 587 111

Saudi Arabia

National Bank of Kuwait SAKJeddah BranchAl-Andalus Street, Red Sea PlazaP.O. Box 15385Jeddah 21444, Saudi ArabiaT. +966 2 653 8600F. +966 2 653 8653

United Arab Emirates

National Bank of Kuwait SAKDubai BranchSheikh Rashed Road, Port Saeed Area, ACICO Business ParkP.O. Box 88867, DubaiUnited Arab EmiratesT. +971 4 2929 222F. +971 4 2943 337

Jordan

National Bank of Kuwait SAKHeadOfficeAl Hajj Mohd Abdul Rahim StreetHijazi Plaza, Building # 70P.O.Box 941297,Amman -11194, JordanT. +962 6 580 0400F. +962 6 580 0441

Lebanon

National Bank of Kuwait(Lebanon) SALSanayeh Head OfficeBAC Building, Justinian StreetP.O. Box 11-5727, Riyad El Solh1107 2200 Beirut, LebanonT. +961 1 759 700F. +961 1 747 866

Iraq

Credit Bank of IraqStreet 9, Building 187Sadoon Street, District 102P.O.Box 3420, Baghdad, IraqT. +964 1 7182198/7191944 +964 1 7188406/7171673F. +964 1 7170156

Egypt

Al Watany Bank of Egypt13 Al Themar StreetGameat Al Dowal AlArabiaFouad Mohie El Din SquareMohandessin, Giza, EgyptT. +202 333 888 16/17F. +202 333 79302

United States of America

National Bank of Kuwait SAKNew York Branch299 Park Avenue, 17th FloorNew York, NY 10171, USAT. +1 212 303 9800F. +1 212 319 8269

United Kingdom

National Bank of Kuwait (Intl.) PlcHeadOffice13 George Street,London W1U 3QJ, UKT. +44 20 7224 2277F. +44 20 7224 2101

NBK InvestmentManagement Limited13 George StreetLondon W1U 3QJ, UKT. +44 20 7224 2288F. +44 20 7224 2102

France

National Bank of Kuwait (Intl.) PlcParis Branch90 Avenue des Champs-Elysees75008 Paris, FranceT. +33 1 5659 8600F. +33 1 5659 8623

Singapore

National Bank of Kuwait SAKSingapore Branch9 Raffles Place #51-01/02Republic Plaza, Singapore 048619T. +65 6222 5348F. +65 6224 5438

Vietnam

National Bank of Kuwait SAKVietnamRepresentativeOfficeRoom 2006, Sun Wah Tower115 Nguyen Hue Blvd, District 1Ho Chi Minh City, VietnamT. +84 8 3827 8008F. +84 8 3827 8009

China

National Bank of Kuwait SAKShanghaiRepresentativeOfficeSuite 1003, 10th Floor,Azia Center, 1233 Lujiazui Ring Rd.Shanghai 200120, ChinaT. +86 21 6888 1092F. +86 21 5047 1011

ASSoCIATES

Qatar

International Bank of Qatar (QSC)Suhaim bin Hamad StreetP.O.Box 2001Doha, QatarT. +974 447 3700F. +974 447 3710

Turkey

Turkish BankHeadOfficeValikonagl Avenue No. 1P.O.Box 34371 Nisantasi,Istanbul, TurkeyT. +90 212 373 6373F. +90 212 225 0353

NATIoNAL bANk oF kuWAIT

Kuwait

HeadOffice38th Floor, Arraya IIAl Shuhada Street, Block 6, SharqP.O.Box 4950, Safat 13050KuwaitT. +965 2224 6900F. +965 2224 6905

MENA Research35th Floor, Arraya IIAl Shuhada Street, Block 6, SharqP.O.Box 4950, Safat 13050, KuwaitT. +965 2224 6663F. +965 2224 6905E. [email protected]

Brokerage37th Floor, Arraya IIAl Shuhada Street, Block 6, SharqP.O.Box 4950, Safat 13050, KuwaitT. +965 2224 6964F. +965 2224 6978E. [email protected]

United Arab Emirates

NBK Capital LimitedPrecinct Building 3, Office 404Dubai International Financial CenterP.O.Box 506506Dubai, UAET. +971 4 365 2800F. +971 4 365 2805

Turkey

NBK CapitalArastima ve Musavirlik AS,Sun Plaza, 30th Floor,Dereboyu Sk. No.24Maslak 34398, Istanbul, TurkeyT. +90 212 276 5400F. +90 212 276 5401

Nbk CAPITAL


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