annual investors companion 2011

ReNaissance Capital Limited 1

ANNUAL INVESTORS’ COMPANION-February 2011

ANNUAL INVESTORS’ COMPANION

2011

A RETURN TO RECOVERY

A Member of the Uganda Securities Exchange



CONTENTS

Abbreviations …………………………………………………………………………………..3

Economic Outlook………………………………………………………………………………4

Equity Market Outlook………………………………………………………………………...8

Equity Research:

Uganda Clays Limited………………………………………………………….9

New Vision Group……………………………………………………………..16

Banking Sector………………………………………………………………...21

British American Tobacco……………………………………………………29

National Insurance Corporation……………………………………………..33

ReNaissance Capital does and seeks to do business with the companies covered in ReNaissance Research. As a

result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of

ReNaissance Research. Investors should consider Renaissance Research only as a single factor in making their

investment decision



Abbreviations

BOU Bank of Uganda

bpd Barrels per day

CAGR Compound Annual Growth Rate

CFO Cash flow from Operations

DCF Discounted Cash flows

DDM Discounted Dividends Model

DNOPAT Discounted Net Operating Profit After Tax

EBIT Earnings Before Interest and Tax

EBITDA Earnings Before Interest, Tax, Depreciation and Amortization

EBT Earnings Before Tax

EV Enterprise Value

FCFE Free Cash flow to Equity

FDI Foreign Direct Investment

FY Fiscal Year

GDP Gross Domestic Product

HY Half Year

IMF International Monetary Fund

NOPAT Net Operating Profit After Tax

PE Price-Earnings ratio

PEG Price Earnings-Growth ratio

ROE Return on Equity

RV Relative Value

UBOS Uganda Bureau of Statistics

WACC Weighted Average Cost of Capital

WEO World Economic Outlook



Economic Outlook;

The global economic recovery has been faster than predicted. The International Monetary

Fund (IMF) forecast global growth at 4.5% which is a 1% upwards revision from the October

2009 World Economic Outlook report. The recovery will be largely led by emerging and

developing economies with an estimated 6.3 % growth according to the WEO April 2010

report. Uganda’s economic growth is projected to rebound to the long-term average of 7%.

More worrisome, austerity measures in Europe sparked off by the debt crisis in Greece and

Ireland, is forcing governments to cut back on spending and yet private consumption and pri-

vate credit remain subdued. With sovereign credit coming into question coupled with a bank-

ing system riddled with bad debt, growth particularly in Europe should be slow. A recent

rebound in oil prices will fuel inflationary pressures for the local economy.

The Ugandan economy has continued to enjoy strong inter-regional trade and also trade with

China and India (who together make the 3rd most important trade block for Uganda accord-

ing to Bank of Uganda). South Sudan which forms an important trade partner, surpassing

Kenya as an export destination in 2008/09, is most likely to become an autonomous state.

Increased export earnings from Uganda going forward, will be dependent on the stability of

the new South Sudan state.

Particular challenges will be met in the foreign exchange markets (Figure 1) despite the

stability in reserves over the past year. At about five months of import cover over the year

2010, this represents a drop from a previous two year average of seven months according to

Bank of Uganda data. Portfolio inflows searching for higher yields, as the central banks

raises interests rates to control inflation, could help temporarily stabilize the foreign

exchange market. The specter of inflation and asset bubbles should however be watched as

result, leaving short term uncertainty a challenge for monetary policy.

Over the year 2010, headline inflation dropped to 4% from 13% the previous year (Uganda

Bureau of Statistics — UBOS). This was on the back of reduced fuel prices globally and

negative food inflation. A recent rebound in commodity prices (oil at USD 100 per barrel) as

a result of floods, predictions of drought and severe winters, will negatively impact inflation.



Despite the short term uncertainty, our long term

view suggests that the Ugandan economy is

strongly positioned within the East African

region to benefit from a resurgence in the global

economy. Central to this has been capital flows

into the local economy, the principal drivers of

which have been foreign direct investment,

remittances from Ugandans working abroad

(which have not been affected by the global eco-

nomic slow down) and credit flows. To a lesser

degree portfolio flows should make a contribu-

tion.

Uganda enjoyed the third fastest growth in the

African region after Ethiopia and Congo in 2009

according to IMF statistics. Uganda’s nominal

GDP ranks in the top one third among 52 mem-

ber states. With the emergence of the oil sector,

the local economy could easily get catapulted

into a middle income economy according to

Global Witness-2010 Report. (View Box 1; Page

7)

Tax revenue is expected to double within 6-10

years as a result of investment in the oil sector,

according to the same report. As a result, it is

expected that there will be increased investment

in the infrastructure, energy and the resource ser-

vices sectors of the economy. From a residual

point a view the construction and banking sectors

of the economy should benefit from overall FDI

inflows.

FDI inflows according to the Uganda Investment

Authority (UIA) have experienced a CAGR of

38% from 2002-2009. The planned investments

for 2010, stood at USD 1.7 billion up from USD

1.6 billion in 2009. As such the impact of the oil

sector should be significant on the local econ-

omy; growing FDI four-fold approximately from

the current levels.

0

1

2

3

4

5

6

7

8

0

500

1000

1500

2000

2500

Jan

-03

Jun

-03

No

v-0

3

Ap

r-0

4

Sep

-04

Feb

-05

Jul-

05

Dec

-05

May

-06

Oct

-06

Mar

-07

Au

g-0

7

Jan

-08

Jun

-08

No

v-0

8

Ap

r-0

9

Sep

-09

Feb

-10

Jul-

10

Dec

-10

USD:UGX Reserves

0

5

10

15

20

25

Jan-0

3

Jun

-03

No

v-0

3

Ap

r-0

4

Sep

-04

Feb

-05

Jul-

05

Dec

-05

May

-06

Oct

-06

Mar

-07

Au

g-0

7

Jan-0

8

Jun

-08

No

v-0

8

Ap

r-0

9

Sep

-09

Feb

-10

Jul-

10

Dec

-10

Inflation-Headline 91-Day

Figure 1: Exchange rate and reserve trends Figure 2:Inflation and short term rate trends

The recent divergence in reserves cover of imports has translated

into exchange rate volatility. Policy initiatives should strongly gear

towards building reserves to higher levels. Presently. The cover is

at 5 months of cover which coupled with a growing import bill is

turning out to be insufficient.

The current trend of rising inflation in low interest rate environ-

ment could indicate policy movement towards higher short term

rates. This should favor equities and short term securities, in the

short to medium term.

Source: Bank of Uganda Source: Bank of Uganda



According to Bank of Uganda data, the expected

remittances into the local economy were pro-

jected to reach USD 980.9 million in 2010 from

USD 732 million in 2008 (34% CAGR). This

should cushion consumption and investments

gaps within households to a larger extent. The

construction sector is positively impacted by re-

mittance inflows.

According to fig.3 below, Uganda’s total invest-

ment (comprised of credit flows, foreign direct

investment, private inflows into the equity market

and portfolio inflows) as a proportion of GDP has

been one of the fastest growing in the East Afri-

can and Sub-Saharan Africa region, a trend that is

poised to continue to impact expected capital

flows into the economy.

We should also anticipate a rebound in private

flows in response to expected and actual higher

yields both in the equity and debt markets in

developing markets as compared to developed

markets.

Despite a persistent current account deficit, we

forecast a marginal surplus in the overall bal-

ance going forward as a result of capital flows

into the economy, In the short term, uncertainty

should remain, affecting the stability of the

local currency. Over the medium to long term

the exchange rate could revert to the mid-term

average of USD:UGX 2000 as reserves

improve.

10

12

14

16

18

20

22

24

26

28

2003 2004 2005 2006 2007 2008 2009 2010est 2011f

Uganda EAC SSA

Source: IMF, African Department database and WEO database

Figure 3: Total investment to GDP across selected regions in comparison to

Uganda



Box 1: UGANDA’S Budding Oil Sector

There are six sedimentary basins in Uganda, out of which the Albertine Graben is the most prospective for petro

leum exploration. Currently, the graben is subdivided into ten Exploration Areas (EAs), out of which five are li-

censed. The companies operating in Uganda include Tullow Oil plc, Tower Resources Ltd and Dominion Petroleum

Ltd. Licensing has been suspended since early 2006 awaiting update of the country’s regulatory framework for the

upstream petroleum sector. A National Oil and Gas Policy for the country was approved by Cabinet in 2008. In an

effort to operationalise the policy, formulation of a new legislation for the oil and gas administration is underway.

Since 2002, 39 deep wells have been drilled in the area, 36 of which have encountered hydrocarbons in multiple res-

ervoir intervals in the subsurface, representing a remarkable drilling success rate of over 92%. To date, 16 discoveries

of oil and/or gas have been made in the country in excellent quality reservoir sands, 11 of which have been flow

tested and some of the wells have registered cumulative flow rates of over 14,000 barrels of oil per day. The discov-

ered resources in the graben are currently estimated at over 2 billion barrels of oil equivalent in place.

The government of Uganda has contracted Foster Wheeler Energy Ltd, a UK-based firm to carry out a refinery feasi-

bility study to address, among others, the size, configuration, location, cost, financing options and markets for refined

products.

The proposed investment in the commercialization of the sector is in the region of USD 8 billion, almost 50% current

GDP. The impact on the local economy will be immense. It is estimated that government revenues should double in 6

-10 years according to the World Bank. Increased investment in infrastructure and energy should ensue as a result of

the sector.

Banking and financial institutions should build capacity to finance the derivative sectors from the oil economy. There

will be an immense need to develop a fiscal and financial institutional framework that can absorb a potential revenue

in excess of USD 30 billion over 20 years.

The oil sector is expected to contribute 15% of the country’s GDP at peak production. Credit growth and production

could slow among sectors not directly linked to the oil sector, such as agriculture which would have a negative eco-

nomic and social impact in the medium to long term. It will be incumbent upon government to utilize oil revenues to

develop infrastructure and social services, and put in place policies that avoid over concentration on one sector (oil) at

the expense of other priority sectors.

-

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

45,000

50,000Proven Reserves (million barrels)

Figure 1.1: Comparison of proven reserves among

major African oil producers

Source: OPEC 2009 Annual Statistical Bulletin, Tullow Oil.

*Proven to date

0

200

400

600

800

1000

1200

1400

1600

1800

2000

Daily production, 000' bpd

Source: OPEC 2009 Annual Statistical Bulletin, Tullow Oil.

*Estimated at commercial level

Figure 1.2: Comparison of daily production



Equity Market - Outlook

The equity market maintained a strong performance over the year 2010. This was on the back

of return of capital inflows, in search of higher yield in generally undervalued companies fol-

lowing the unusually high withdrawal of investors in 2009. The returns on the equity market

should remain robust, though we should see some short term volatility as investors take

profits and as headwinds from the 2008-2009 slowdown reflect in corporate performance.

In the short to medium term a rise in inflation should favor equity as compared to longer-

term fixed income instruments. As earlier mentioned, a rise in food and oil prices and the

need to contain the increased money supply during the election period, is likely to drive up

the level of inflation in 2011. We anticipate that banking stocks, which are generally more

responsive to inflation and the associated increase in treasury bill and bond interest rates, and

are therefore considered as securities that have traditionally protected against inflation,

should perform well in the short to medium term

We advance the financial sector as a fundamentally strong investment opportunity in the

medium term. Credit flows should rebound as small and big business make investment deci-

sions in light of expected upward revision of the growth in the underlying economy. The

rebound in trade and commodity prices, should result into credit growth to finance activities

these sectors.

While we view a general rise in the equity market for the year, aided by foreign flows to the

equity market in search for higher yields, the impact will not be felt across all listed stocks.

Growth in media should remain slow as competiveness picks up in 2011. Uganda Clays

faces unique business risks related to capacity expansion despite strong performance in the

real estate sector.

The previous slowdown revised valuations downwards reducing the attractiveness of the

public equity market as a viable option for firms seeking to float their shares in the stock ex-

change. With optimism in the recovery and higher PE ratios, its fair to say that the conditions

for public listings (IPOs) have improved and are likely to be more prevalent in the medium to

long term as firms get more acquainted with the pros and cons of listing.



Equity Research-Uganda Clays Limited;

Investment rationale and risk;

Uganda Clays Limited, just completing a massive three

year expansion period stands in a very precarious posi-

tion .The company has almost doubled the current liability

position, from UGX 7.7 billion to UGX 13.6 billion with

increasing strain from the cost of short term debt in 2009. The liquidity and default risk profile of the company has

moved from stable to adverse, and there is an imminent need to

re-engineer the capital structure of the company.

Operational costs in the period 2009, outpaced revenue

growth by a massive 28%. Commendably cost margins

remained stable despite the difficult environment. The only

revenue driver in 2009, was the Kajjansi plant: 93% of total

revenue for the year 2009. Our long term outlook on the cost-

revenue profile indicates a 10% CAGR in revenue ahead of

operational costs, as the Kamonkoli plant commenced full

operation later in 2010, as announced by management.

Increasing roofing substitutes threaten clay tiles as the

sole roofing material. Roofing tile contribute 50% of the com-

pany revenue and yet tiling products from alternative markets

continue to shrink the company’s roofing tile market share. This

was principally as a result of a slow response to demand over

the previous 3-7 years which allowed room for substitutes.

Growth in the housing sector and ability to meet bigger

market needs will benefit the company. Demand for housing

with an estimated backlog 600,000 units is still driving growth

in the construction sector. The growing mortgage sector is ex-

pected to drive demand for housing which should benefit the

long-term growth of the company.

The commissioning of the Kamonkoli plant should yield

productivity dividends for the company. The plant requires

only 1 quarter of the labour force presently at Kajansi to pro-

duce in 3 days what is a 3 week production cycle in Kajansi.

The deposits of high quality clay around the plant are estimated

to be worth 100 years of production at the current levels. These

benefits will be long in coming, with a forecast of 2012 as a

normal production year, after all the teething commission-

ing problems have been full addressed.

CONSTRUCTION &

MANUFUCTURING

Recommendation: SELL

Price Band (UGX) 26.4-12.2

Target Price (UGX) 14.7

Current Price (UGX) 50

2 Year High 250

2 Year Low 40

Shares outstanding (000) 900,000

MarketCap(UGX000,000) 54,000

Float (%) 100

Float (UGX 000,000) 45,000

Float (USD 000) 19,560

PE (forward) 58.3

PEG: 2.45

Major Shareholders (Percentage)

National Social Security Fund 32.52

National Insurance Corporation 18.86



The price history of the company has been largely divorced

from the performance of the company. This was mainly a

function of illiquidity and speculative market activity during

the 2008 share split and rights issue (Figure 4). From 2004-

2008, earnings CAGR was 8.9% against the a price CAGR of

98% in the same period. In 2009 and 2010 the price closed at

UGX 50. A loss was recorded in 2009. The price behavior of the

counter far outpaced the underlying performance of the company

during the period 2007-2008.

Figure 4: Historical Price performance on the UCL counter

Source: Uganda Securities Exchange (USE)

Case Scenario

Optimistic

Target Price: UGX 26.4

Assume aggressive revenue growth at over

30% yoy in 2012 and a sustainable annual

growth in FCFE at 15%.

Base


Assume growth in revenues at 20% in 2012

and beyond. FCFE grows sustainably 10%

annually thereafter.

Pessimistic


Company grows revenues at under 15% yoy,

which should challenge the capability to ser-

vice debt and therefore attain profitability.

FCFE is assumed to grow sustainably at 8%.

Intrinsic Value: UGX 14.7

In arriving at an intrinsic value of UGX 14.5, we assumed that a long

term growth rate in revenue will be achieved after 2012. In the interim

period, (2010-2012) the company will engage in capital expenditures as

the primary strategy for revenue growth and value addition. This will

come with a high operating cost environment.

Currently trading at a premium

of UGX 50, the counter should

perform more closely to intrinsic

value going forward. The factors

below reinforce our opinion as

they will hold in the medium

term;

Massive debt assumption

has almost doubled the financial

risk of the company, placing a

strain on profitability;

The resumption of dividend

payments is more likely in 2012

as the company would need to

retain earnings so as re-build the

capital base;

The need to conclude the

investment in Kamonkoli and

the automation of the Kajjansi

plant places more emphasis on

capital investment in the me-

dium term. This should have a

negative impact on cash flows

Key drivers of growth:

A resumption in revenue

growth at 30% is expected in

2012. This will be a combina-

tion of new markets and a higher

production capacity;

Efficiency gains from auto-

mation should yield a higher

turnover in production, and

hence economies of scale over

the long term.

0

50

100

150

200

250

300UGX



Uganda Clays has derived on average 51% of

its revenue from roofing tiles. The other

products;- maxpans, half bricks, ridges among

others, contribute the rest. The company’s key

customer is the residential housing sector, with

limited industrial & commercial customers.

Key players on supply side are National Housing

Construction Company (NHCC), development

companies such as Akright and individual devel-

opers. While on the demand side are mortgage

providers (commercial banks) and private build-

ers of property.

The housing market in Uganda had shortage esti-

mated 522,000 in 2003 with the shortage in Kam-

pala alone at 80,000 units according to The 2002

Uganda Population & Housing and Uganda

National Household Survey 2002/2003. We

estimate that national housing demand currently

stands at 630,592 units and Kampala at 110,936

units. This should grow between present

population and urbanization growth rates; 3.2%

and 5.6% respectively. However, in spite of the

strong need to fill the gap, affordability of

housing units has hampered the response from the

demand end. The key player on the demand side

has traditionally been individual private develop-

ers.

The growth of the mortgage sector, 30% from

2005-2009 year on year, is largely in part in

response to the funding gap (Figure 2.1). Key

players in the sector are Housing Finance Bank

(60%) followed by DFCU Bank and Stanbic

Bank that now provide the various classes of

mortgage products. Nonetheless this has failed to

satisfy the market demand/shortage for

homeownership, primarily because of the rela-

tively small number of formally employed work-

ers—banks’ principal targets.

Figure 2.1: Book value of the mortgage industry from

2005-2009 in USD million:

The expected demand in the formal sector for

housing can best be reflected as 200,000 units,

which is about half the number of reported

NSSF subscribers. According to the 2002

report, only about 40% are able to afford tiles

as an option for roofing. Our research reveals

the demand for mortgages in the formal sector

almost equals demand in the informal sector,

which places the demand for modern roofing

material at 160,000 units.

There also exists strong competition from syn-

thetic products that are imported. While the

company enjoys a monopoly in clay roofing

tiles, the past inability to meet market demand

created the opportunity for alternatives. Over-

all, the challenges of reaching the entire market

and strong competition offered from a mix of

alternatives implies a competitive market that

is further weighed down by affordability.

86.2 100.8

138.3

197.4

252.4

0

50

100

150

200

250

300

2005 2006 2007 2008 2009

MN

Source: IFC, Uganda Primary Mortgage Market Initiative

(UPMMI)

The impressive growth in the value of mortgages has not

translated into wide scale homeownership. This largely

reflects that values of single mortgages are high; a sign

of chronic residential shortage. Development has not

ensured, reflecting the high cost of construction, which is

a stumbling block to demand for modern construction

material.

Box 2:The Economics of the Housing Sector



Company Performance and Position

The operating environment for the company still

posses tremendous challenge at present. Cost of

sales grew 46.5% in 2009 particularly as a result

of depreciation cost. Cost of sales margin should

only decline towards historical levels after 2010.

In 2009, Kamonkoli made a modest 7% contribu-

tion to total revenue, as the factory was only par-

tially operational in the last quarter of 2009

EBITDA margins in 2009 dipped to 25.3%

from 32.2% in 2008. (Figure 5). Operating costs

as a proportion of revenue, has nonetheless main-

tained a stable average margin of 25%. As a result

the company should be in position to recover

EBITDA margin in 2010 to 32% in light of faster

revenue growth and a return to lower cost of

sales.

Revenue growth should hit the base case level

of 30% by 2012 as a result of more efficient asset

utilization at Kamonkoli and development of both

local and regional markets in Rwanda, Southern

Sudan and Western Kenya.

Figure 5: EBITDA margins bottomed out in 2009 and

should revert to historical levels of 32% in 2010

2010e 2011e 2012e

Sales

20,679,693

26,194,277

34,052,560

Annual growth 23.7% 26.7% 30.0%

Fixed asset turnover 38.3% 46.4% 58.0%

Return on assets 1.5% 2.7% 3.9%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

40.0%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%

90.0%

2006 2007 2008 2009 2010e 2011e 2012e

Opex Cost Of sales EBITDA

% of sales EBITDA

margin

EBIT-EBT margin variance has grown from

a conservative average of 1.4% from 2006-

2008 to 11.95% from 2009-2012e (Figure

6).The interest cost represents a 10% erosion

on profitability and constrained the ability of

the company to meet financial obligations.

Weakened coverage ratios from cash flow gen-

erated continue to affect performance.

Overall the financial risk of the company

has doubled from the average 1.05 in 2006-

2008 to an average forecast of 2.57 in 2009-

2012, as measured by the degree of financial

leverage. As a result of reliance on overdraft

facilities to support working capital require-

ments the financing cost are set to remain high.

The company has since restructured its debt to

longer term tenure through debt financing from

its major equity partner, NSSF.

The balance sheet position reveals that short

term creditors to the company are bearing the

burden of the company’s current liabilities,

60.5% in 2009. The company will also be un-

der considerable pressure to improve its pay-

ables turnover that has reduced from an

average of 2.84 for the period 2006-2008 to

1.65 in 2009.

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

2006 2007 2008 2009 2010e 2011e 2012e

EBIT Margin EBT Margin

% of sales

Figure 6: EBIT-EBT margin variance should recover

albeit very gradually.

Source: Company Reports, ReNaissance Research estimates Source: Company Reports, ReNaissance Research estimates



The liquidity position of the company particularly

in 2009 as seen from the average ratio during the

period from 2006-08, worsened.

Figure 7:Working capital ratios

Level of gearing will remain almost unchanged as

seen above from the Net Current Assets (NCA)/

Equity ratio, which will be combination of two

factors; 1) Increasing long term liabilities/debt

which is necessary to reduce pressure from short

term liabilities, 2) Slowly growing the equity of

the company through retained earnings, which

could imply no dividend payments before 2012.

Improvement in working capital management will

be critical in limiting the short term strain on the

company. Emphasis should be placed on receiv-

ables turnover that worsened from an average of

8.98 to 7.83 in 2009. Our forecast depicts a grad-

ual improvement.

Figure 8: Working capital management estimates

Efforts by management to demonstrate a strong

regional and local demand for the product can

only be reflected in higher inventory turnover

which however seems stagnant from our forecast,

going into 2012.

2006-2008* 2009 2010e 2011e 2012e

Quick Ratio 0.58 0.44 0.58 0.75 0.87

Liquidity Ratio 0.66 0.52 0.66 0.83 0.92

NCA/Equity 1.11 0.85 1.00 1.05 0.97

Source: Company Reports, ReNaissance Research estimates.

* Average

2006-2008* 2009 2010e 2011e 2012e

Inventory Turnover 3.33 2.58 2.32 2.36 2.45

Receivables Turnover 8.98 7.83 7.87 7.97 8.67

Payables turnover 2.84 1.65 1.60 1.77 1.80

Source: Company Reports, ReNaissance Research estimates.

* Average

Management of credit sales has been conser-

vative, a trend we hope will be maintained

going forward.

Valuation and Outlook;

The business risk points to a grim picture for

the company in the immediate future. We are

nonetheless confident that beyond 2012,

growth will reflect the capital investments

that the company has made in the new opera-

tion at Kamonkoli.

We have arrived at a target price of UGX

14.7 per share based on a 10-11% p.a. sus-

tainable growth in free cash flows to eq-

uity.

Assumptions:

The required return on equity of 27.9%

reflects the business risk of the company,

which we noted has doubled. This is particu-

larly because of the debt assumed by the

company, to which equity is subordinate;

Strong performance in revenues and cash

flows will be realized after 2012, a time we

believe that the company can sustainably

perform at that level. The estimated sustain-

able growth of 11% in cash flows can be re-

alized.

Discounted free cash flows to equity

defined the cash flow valuation basis. This

offers the most conservative valuation of the

company’s equity given the debt position

overall.

As a result of these three factors we advance a price

of UGX 14.7 as fair value for the company in the me-

dium to long term. At the current price of UGX 50,

the company is trading at a huge premium.



Risks and Concerns

We still remain skeptical about the ability of

the company to sustain profitability in the short

to medium term. This is primarily as a results

of;

Financial obligations that the company has

assumed which place an interest burden on op-

erating profit. The company has taken steps to

secure long term funding from the largest

shareholder National Social Security Fund

(NSSF). This will ease the strain on the com-

pany’s cash flows in the short term and reduce

profitability erosion;

The roofing market should remain highly

competitive with imported alternatives eroding

market share. There are cheaper substitutes

now coming from as far as China;

A wider distribution network and logistical

infrastructure to reach a diverse market may

disproportionately increase the company’s op-

erating expenses if not well managed.



Income Statement Summary

2009 2010e 2011e 2012e

Sales 16,722,124 20,679,693 26,194,277 34,052,560

Cost of Sales (9,975,577) (11,580,628) (14,406,852) (18,047,856)

Gross Profit 6,746,547 9,099,064 12,049,367 16,004,703

Other income 145,298

Operating costs (5,348,520) (5,169,923) (6,548,569) (8,513,140)

EBIT 1,543,325 3,929,141 5,500,798 7,491,563

EBITDA 4,237,334 6,628,779 8,281,685 10,288,962

Interest expense/Finance Cost (2,322,069) (2,606,135) (2,917,453) (3,440,000)

Net Profit (707,099) 926,104 1,808,341 2,836,094

Balance Sheet Summary

Non Current Assets 50,320,298 53,993,629 56,423,342 58,680,276

Current Assets 7,141,346 9,159,845 11,449,806 14,083,262

Total Assets 57,461,644 63,153,474 67,873,148 72,763,537

Non Current Liabilities-Debt 20,164,671 24,701,903 27,648,106 28,256,699

Current Liabilities 13,619,320 13,847,813 13,812,944 15,258,645

Equity 23,677,653 24,603,757 26,412,098 29,248,192

Cashflow Summary

CFO 4,518,128 348,082 5,990,417 4,909,305

FCInv 6,560,261 5,113,755 3,994,096 3,583,227

FFCF (416,684) (2,941,376) 4,038,538 3,734,078

FCFE (757,500) (2,432,044) 1,919,249 1,945,184

Ratio Analysis

EBITDA Margin 25.3% 32.1% 31.6% 30.2%

EBIT Margin 9.2% 19.0% 21.0% 22.0%

Net Margin -4.2% 4.5% 6.9% 8.3%

ROE -3.0% 3.8% 6.8% 9.7%

ROA -1.2% 1.5% 2.7% 3.9%

Liquidity Ratio 0.52 0.66 0.83 0.92

NCL/Equity 0.85 1.00 1.05 0.97

NCL/Total Assets 0.35 0.39 0.41 0.39

Figure 9: Financial statements and forecasts and ratios

Source: Company Reports, ReNaissance Research estimates. Figures in ‘000



Equity Research-New Vision Group;

Investment rationale and risk;

After a dismal fiscal year (FY) performance for 2008/9,

the most recent results demonstrate improving earnings

quality and a slowly improving operational environment.

The economic outlook for the media industry nonetheless still

remains gloomy in the medium term. It is estimated that the

company will take 2-3 years to reach optimum revenue generat-

ing capacity following the over UGX 27 billion rights issue in

2008. The company’s earnings are still lagging its asset base.

There is pressure to boost Return on Equity in the short

term. The company achieved a 1.5% ROE in 2009/10, less than

a tenth of the 2008 ROE of 23.3%. Our forecast for 2010/11

shows that ROE will remain largely unchanged.

Reducing advertising revenues due to a preference for

price wars amongst the traditionally largest advertises (the

telecom companies) continue to plague the media industry .

Industry projected growth is at a mild 5% according to market

consensus in the media industry based on the 2009 industry per-

formance. Though inflation in the broader economy has re-

duced, the company’s underlying performance is expected to

improve in the medium term.

Currently trading at UGX 550, up from UGX 460 a year

ago (a 19% increase), the counter seems to be in a recovery.

Nonetheless this does not reflect the fundamentals of the

company and the media industry. Earnings and dividend

should grow at 20% in perpetuity in order to justify the

current price level, much higher than the current projected

growth rate of 2-3%.

A value of UGX 292 reflects the tough operating environ-

ment the company is in. We have used a combination of rela-

tive valuation and discounted earnings. Using Net Operation

Profits after Taxes reflects better the Return to Equity, as the

company employs insignificant debt and capital expenditures

are pre-funded. Coming from a low base in 2009, the funda-

mentals of the industry will gradually improve in the short

to medium term as the economy gets more competitive. We

nonetheless recommend SELL.

MULTI-MEDIA

Recommendation: SELL

Target Price (UGX) 292


Two Year High 2480

Two Year Low 440

Shares in issue (000) 72,500

Market Cap (UGX 000,000) 40,162

Float (UGX 000,000) 18,755

Float (USD 000) 8,154

PE (Trailing) 54.7

PEG: 5.07

EV/MKT CAP: 1.54


Government of Uganda (GOU) 53.3



Looking at the price behavior of the counter Figure 10 , there

seems to be a recovery in the price that remains divorced from

required and expected levels of growth both the company and

the industry can sustain.

Figure 10: Historical price performance on NVL counter

According to a 2009 Uganda Category Review by Synovate, ad-

vertising revenue grew an approximate 14% in 2009, supported

by particularly the Telecom industry. For the year 2010, the tele-

com industry was more focused on price wars and their advertis-

ing spend slowed markedly. Industry experts contend that

growth shrunk to 5% on a pessimistic scenario to 10% on an op-

timistic scenario.

Overall, Vision Group has over the past five year earned at least

50 % of its revenue from print media. Print media only contrib-

utes 11% of the total industry revenue (Figure 11), of which

Vision Group has a market share of 30% by optimistic standards.

Figure 11: Showing total revenue share by media segment

0

500

1000

1500

2000

2500

3000

UGX

Period

Source: Uganda Securities Exchange (USE)

TV, 22%

Print,

11% Radio, 67%

Source: Synovate 2009, Category Review Presentation

Key fundamental risks;

The company invested

h e a v i l y i n m u l t i - m e d i a

(television, radio and expanded

printing capacity) Growth in

revenues for the media industry

have shrunk particularly as

result of low advertising spend

and fragmented media markets.

This directly affects growth in

the company’s revenues.

High operating costs rela-

tive to revenue generated against

a high capital investment, will

define the next earnings phase of

the company. Management is

keenly aware of the need to fo-

cus on cost rationalization, so as

to improve earnings;

Drivers of value:

An expanded media plat-

form guarantees access to differ-

ent market segments across the

country, simultaneously. This

will prove crucial in promo-

tional campaigns across the

country;

The capital structure of the

company implies a minimal or

no exposure to financial risk.

This has given management lati-

tude to create long-term value

from the current expansion.



In an effort to capture revenue streams across the

board, the company has made the commitment to

expand in radio and television. These are none-

theless high capital investment venture that do not

translate immediately into profitability. Worse

still, radio remains a highly segmented sector,

with very diverse audiences.

The return on these investments will remain low

in the short to medium term as operating costs

shrink the margin. We are nonetheless confident

that from 2013 and beyond the company can

achieve 11% return on invested capital (ROIC).

Return on Equity (ROE)

Equity is the preferred mode of financing for the

company. The average equity to debt for the four

year period (2009-2006) stood at 92:8. The cur-

rent ratio is up at 97: 3 as seen in 2010. The sta-

bility in the capital structure for the company

places a high premium on the return on equity

(ROE) as a fundamental measure of performance

for the company. The company achieved a paltry

1.53% in 2009/10, with an immediate forecast for

2010/11 showing a similar performance.

Figure 12: ROE trend shows a marked decline

.

Source: Company Reports, ReNaissance Research estimates

We agree that the expansion of equity base was

a result of the 2008 Rights Issue. Nonetheless

the Du Pont analysis below demonstrates that

the reduction in ROE was more a result of a

drastic change in profitability and asset effi-

ciency.

Figure 13: Du Pont analysis of ROE trends

The asset efficiency as measured from 2008,

has dropped an estimated 42% and the profit-

ability margin is down 10.5%. Management

has noted the difficult environment for industry

revenue going into 2011 though they contend

that the economy will be more competitive in

2012, thus boosting advertising revenue.

The cost profile for the business over the

period 2007-2010 depicts a high cost environ-

ment. The table below shows that administra-

tive costs have increased fastest over the period

at CAGR 20%. Revenues in the same period

realized a CAGR of 15% This depicts a costly

media integration process. Distribution costs

and cost of sales will remain aligned to infla-

tionary trends in the broader economy, and the

expectation is that they should take a down-

ward trend in the medium term.

Figure 14: Operating cost profile.

2007 2008 2009 2010

Net Margin 10% 12% 5% 1.47%

Asset Turnover 1.53 1.45 0.78 0.84

Leverage 1.287 1.328 1.139 1.24

ROE 20.4% 23.3% 4.5% 1.53%


2007 2010

3 Yr

CAGR

Cost of Sales 21,494,649.00 35,606,222.00 18%

Distribution Costs 871,253.00 1,157,785.00 10%

Administrative 5,851,996.00 10,077,477.00 20%


18.45%

20.40%

23.30%

4.50%

1.53%

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

2006 2007 2008 2009 2010

ROE



Management has noted that cost containment will

drive the strategic direction of the company while

at the same time boosting revenue by maintaining

incremental investments in the most productive

segments of the media industry such as mass tele-

vision and regional radio stations.

Valuation Methodology;

We have used a combination of discounted opera-

tions earnings after tax and relative valuation to

reach an intrinsic value for the company.

Assumptions;

Reliance on NOPAT (net operating profit

after tax) as a valuation metric is as a result of

high prefunded capex expenditure through the

Rights Issue. NOPAT closely reflects the return

on equity, should the level of debt remain low.

The tax rate is 30%.

We estimate that ROIC (return on invested

capital) should reach a decent level of 11% in the

long term (2013), a weighted average cost of

capital of 23% and the long term sustainable

growth justified from payout ratios and ROE at

2%;

Relative valuation compare the company

to regional multi-media companies, Nation Me-

dia Group and Standard Group. The ratios

which in our opinion demonstrate comparable

circumstances are; Sales-to-Assets, Enterprise

Value to Sales, Price to Sales and Enterprise

Value to EBITDA;

Sales figures are based on FY forecasts for

most recently released HY figures Asset fig-

ures are based on most current released figures

for either company i.e. Vision Group: Decem-

ber 2009; NMG and SG : June 2010;

We combine a weight of 0.3:0.7 with a

bias for discounted NOPAT because ROE is a

crucial metric for the performance measure-

ment as literally the sole source of capital.

Source: USE, NSE, Company Reports, ReNaissance Research estimates

Price Weight Effective Price

Relative Price 581.92 0.3 174.58

DNOPAT 167.97 0.7 117.58

Total 292.16

PBV Sales/Assets EV/Sales P/Sales EV/EBITDA Total Prem/Dist.

Nation Media Group 4.68 1.59 2.72 2.87 11.43

Standard Group 4.89 0.96 1.45 1.08 7.09

Vision Group 0.82 0.83 1.30 0.85 15.75

Average 4.79 1.28 2.09 1.98 9.25

Discount/Premium -82.94% 53.49% -37.59% -57.27% 70.09% -10.84%

Figure 15: Relative and Summary Valuation



Conclusion:

Though we have a minimal discount on the relative valuation, the inclusion of ROE and PE as comparative

ratios shows that the company is trading at significant premium to its intrinsic value. We have excluded these

ratios in the relative valuation as the company grapples with a high cost environment in the value addition drive

to grow the media platform, which differentiates it from industry competition. As mentioned though, we as a

result, bias the valuation weight towards discounted earnings

The combined valuation yields a target price of UGX 292 places a significant premium vis a vis the current

trading price of UGX 550. We recommend SELL at the current level for NVL as the prevailing earnings are

expected to catch up with the company’s large asset base in the medium to the long term.

Figure 16: NOPAT forecast:

Source: Company Reports, ReNaissance Research estimates; figures in ‘000

2010 2011e 2012e 2013e

Revenue 49,947,578 54,275,966 61,753,331 67,928,664

Cost of Sales (35,606,222) (37,762,927) (41,767,015) (45,943,717)

Gross Profit 14,343,366 16,513,039 19,986,315 21,984,947

Other income 869,174

SG&A costs (12,674,703) (14,096,339) (16,124,554) (17,689,586)

EBIT 2,537,837 2,416,699 3,861,762 4,295,361

Finance Costs

NOPAT 1,776,486 1,691,690 2,703,233 3,006,752



Equity Research-Banking Sector;

FINANCIAL SERVICES SECTOR

SBU

Recommendation HOLD



2 Year High 280

2 Year Low 115

Shares in issue (000) 5,118,867

Market Cap (UGX 000,000) 1,228,528

Float (UGX 000,000) 245,706

Float (USD 000) 111,684

Float (%) 20

PE (forward) 18.79

DFCU

Recommendation HOLD



2 Year High 870

2 Year Low 420


Market Cap (UGX 000,000) 200,124

Float (UGX 000,000) 40,024.8

Float (USD 000) 18,193

Float (%) 20

PE (forward) 9.58

BOBU

Recommendation BUY



2 Year High 1160

2 Year Low 275


Market Cap (UGX 000,000) 176,000

Float (UGX 000,000) 35,200

Float (USD 000) 16,000

Float (%) 20

PE (forward) 16.43

Investment rationale and risk:

The financial services sector was the fastest growing sector

as at fiscal year 09, with a registered 21.1% growth from

the. Only Transport and communication was close at 20%. The

sustainability of the growth can be maintained in an environ-

ment that continues to innovate around the opportunity of low

penetration in the sector.

Commercial bank assets over a 5 year period (FY04-FY09)

have registered a CAGR of 20%. Loans and advances in the

same period advanced 30% with recent growth being the major

contributor as banks move out of more traditional asset building

strategies in government treasuries to retail credit according to

BOU statistics.

This impressive growth despite a turbulent period in the global

financial sector, remains unabated. The sovereign rating for

Uganda was upgraded to a B+ stable, the highest in the EA

region according to the Standard and Poor’s rating (Figure

17). The industry end of year 2009 capital adequacy ratio (Total

qualifying capital/Risk Weighted Asset) was at 21.05% against

a requirement of 12% by Bank of Uganda, according to BOU.

Figure 17: Comparative Sovereign Ratings

This leaves tremendous room for the banking sector to absorb

credit risk overall.

Customer demand deposits define the source of funding for the

sector which has generally reduced the cost of funds (that stood

at 3.62% at the end of 2009 compared 3.33% in Kenya). Deposit

gathering and retention will be a major concern for new entrants

and established banks respectively. Overall shrinking interest

margins and asset issues of lower asset quality should arise from

the competitive environment.

Country Domestic Foreign

Botswana A A-

Egypt BBB- BB+

Ghana B B

Kenya B B

Nigeria B+ B+

South Africa A+ BBB+

Uganda B+ B+



Industry Overview:

The banking industry stands on the threshold of great opportu-

nity in spite of past growth figures. A surging working and edu-

cated population, resource discovery particularly in oil and gas

sector and the strong need for infrastructure financing stand out

particularly.

During the period FY04-FY09, credit grew annually at 30%

while assets and deposits registered a 20% growth in the same

period (Figure 18) This represents a strategic shift away from a

safe banking model (investing in government securities) to a

more aggressive approach of credit. The loan to deposit ratio at

66.4% (Dec 2009) shows that there should be more room for ex-

pansion to a comfortable 80%. Kenya stands at 70% and South

Africa at 101% according to respective central bank data

Figure 18: Deposit, Loan and Asset trends…

The case for expansion is further compounded by a largely

unlevered sector (Figure 19), which depends on low cost funds

in the form of deposits to fund liabilities. In comparison to the

Kenyan economy shows that the Ugandan banks still have room

to boost credit as a percentage of assets and at the same time

gather deposits so as to reduce cost of funds.

Figure 19: A highly unlevered sector

-

1,000.00

2,000.00

3,000.00

4,000.00

5,000.00

6,000.00

7,000.00

8,000.00

9,000.00

FY04 FY05 FY06 FY07 FY08 FY09

Deposits Loans and Advances Assets

UGX Billions

Source: BOU

Leverage Ratio Uganda Kenya

Loans: Assets 0.43 0.54

Loans: Deposits 0.66 0.70

Deposits:Liabilities 0.77 0.90

Key drivers of future growth;

Retail banking remains a

key source of growth and expan-

sion. Established banks plan to

grow their product range so as to

retain deposits while new en-

trants will expand consumer/

retail credit to attract deposits;

Trade finance, which had

the lion share of private sector

credit as at June 2009 (20.6%) is

fast becoming a growth center

for established commercial

banks;

Risks:

Quality of credit has

declined in the recent past and

yet if the sector is to grow

strongly it must expand to non-

traditional models of banking;

Cost of funds is set to rise

as banks seek longer term funds

through time deposits or more

expensive demand deposits.

This will impact on profitability;

Competition for deposits on

liabilities will undermine equity

bases and ability to lend and

thus future growth

The recent Bank of Uganda

increase in minimum capital is

likely to spur corporate activity

(rights issues and bank consoli-

dations) in the sector.

Source: Central Bank Data (respective countries)



Jun-07 Jun-09 Jun-07 Jun-09

Sector Credit (UGX Billions) 2 Yr CAGR Percentage of Total

Agriculture 121 163 15.7% 6.8% 4.5%

Building and Construction 112 415 91.9% 6.2% 11.4%

Manufacturing 257 549 46.1% 14.3% 15.2%

Mining and Quarrying 44 11 -50.7% 2.4% 0.3%

Trade 284 747 62.0% 15.8% 20.6%

Transport & Energy 119 233 40.2% 6.6% 6.4%

Other services & Personal 864 1504 31.9% 47.9% 41.5%

Total 1803 3622 41.7% 100.0% 100.0%

Figured 20: Private sector Credit profile

Source: BOU, ReNaissance Research

Retail banking has become more competitive.

Banks with large branch networks, wider plat-

forms and product ranges are likely to be more

profitable. The extension of branches as well as

more efficient operations such as ATM’s and

internet banking should define the next invest-

ment phase for the sector. Personal loans and

other services as a percentage of total credit as at

June 2009 was 41.5%. Although this is a general

allocation, it depicts the growing importance of

personal loans from formally employed workers,

to bank balance sheets (Figure 20).

Business banking tailored to the informal and

SME sectors is also a huge growth area. The

credit profile as at June 2009, depicts a lion share

of total advances to a single sector, trade, which

defines the major economic activity of the SME

sector. At 20.6% of total advances to the private

sector it comes second to personal loans and other

services (Figure 20).

While these growth figures and opportunity show

great promise, the level of penetration in the

sector has remained stubbornly stagnant after a

surge in 2007 (Figure 21&22). Private sector

credit and deposits to GDP stood at 12.3% and

25.9% respectively as at end 2009. In Kenya as at

June 2010, the figures were 32.5% and 47.8% re-

spectively. This indicates significant room for

growth in the Ugandan banking sector and im-

proved performance. Also the recent advent of the

Credit Reference Bureau addresses issues of asset

quality.

6% 6.8%

7.2% 7.2% 8.1%

8.6%

11.5% 12.3%

0%

2%

4%

6%

8%

10%

12%

14%

2001/2 2002/3 2003/4 2004/5 2005/6 2006/7 2007/8 2008/9

Private Sector Credit/GDP

Figure 21: Low penetration indicating that a huge

quantity of economic output is informally financed...

15.7% 15.9% 16.4% 17.8%

21.9%

25.9%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

2003/4 2004/5 2005/6 2006/7 2007/8 2008/9

Deposits/GDP

Figure 22: The deposit base, that is largely short term

also has room to grow





Figure 23: Asset share for selected top banks as at 2009 Figure 24: Deposit share for the top banks as at 2009

Figure 25: Loan and Advance share of the top banks as at

2009

0

5

10

15

20

25M

ar-

04

Jun-0

4

Sep

-04

Dec-0

4

Mar-

05

Jun-0

5

Sep

-05

Dec-0

5

Mar-

06

Jun-0

6

Sep

-06

Dec-0

6

Mar-

07

Ju

n-0

7

Sep

-07

Dec-0

7

Mar-

08

Jun-0

8

Sep

-08

Dec-0

8

Mar-

09

Ju

n-0

9

Demand Deposits Time Deposits Lending Rates

Figure 26:Wide margins between deposits and lending

rates

The competitive structure further hinders the

level of penetration of the sector. The top three

banks controlled 50% of the market as at end of

2009 (Figure 23-25). They have the largest plat-

forms (branches and ATM’s) to attract and retain

customer deposits.

With three banks controlling 50% (measured by

assets, loans and deposits) of the market space,

the room to innovate and expand within the tradi-

tional banking model so as to access the

unbanked may require extensive capital invest-

ments in the sector.

While the opportunity to expand the sector exists,

our view is that the traditional banks will be bent

on attracting deposits through increasing customer

convenience through services like ATM’s, inter-

net banking and mobile banking

By implication, the smaller banks will have to in-

vest heavily in similar platforms so as to attract

deposits. In the medium to long term, deposit

competition will be fierce and banks will need to

offer attractive yields for longer term deposits,

shrinking net interest margin (NIM) in the proc-

ess. Though the industry as a whole still benefits

from wide interest spreads (figure 26)

Source for All: BOU, Sector Data & ReNaissance Research

22%

15%

12%

7%

7%

7%

4%

0% 5% 10% 15% 20% 25%

Stanbic

Standard Chartered

Barclays

CERUDEB

Crane

DFCU

Baroda

25%

15%

12%

9%

6%

4%

4%

0% 5% 10% 15% 20% 25% 30%

Stanbic

Standard Chartered

Barclays

CERUDEB

Crane

DFCU

Baroda

25%

15%

14%

8%

7%

5%

5%

0% 5% 10% 15% 20% 25% 30%

Stanbic

Standard Chartered

Barclays

CERUDEB

Crane

DFCU

Baroda



We anticipate downward pressure on lending rates

as yields, particularly on time deposits, increase,

shrinking net interest margins. The Ugandan

banking sector has comparatively higher rates in

the region and competition from particularly Ken-

yan and Nigerian banks should be a major factor

in shrinking net interest margins (Figure 27)

2010 was characterized by very low treasury bill

interest rates. The results of banks with significant

funds in this asset class, which did not respond by

increasing loans & advances, are likely to be ad-

versely affected. The 2011 inflation outlook is

expected to revert to double digit percentages in

view of the high oil prices, over 17% devaluation

of the UGX to the USD and increased liquidity in

the economy following the election period. Bank

of Uganda is therefore very likely to react by sig-

nificantly increasing treasury bill interest rates in

order to mop up the excess liquidity and control

inflation and further devaluation of the UGX,

which will now greatly favour banks with signifi-

cant exposure to treasury bills.

In the medium term, the profile of funding re-

mains very attractive, deposits represent 78% of

the sector liabilities of which demand deposits are

approximately 70%. This placed the cost of de-

posits to an average of 3.62% in 2009 which

compares reasonably with Kenya at 3.3%.

However as interest rate risk rises, other sources

of funds like debt and equity should come into

play

Uganda Kenya Nigeria

Deposit Rate 2.35 3.59 4.63

Lending Rate 20.14 13.87 15.74

Source: Central Bank Data (respective countries)

Figure 27: Comparative rate spread

Another possible and very likely scenario is

the consistent rise of the risk appetite in the

sector. In the expansion of retail and SME

credit, the sector is likely to face worsening

performance of loans. The banking sector has

quite an impressive latitude on risk, an industry

capital adequacy

(Tier 1 & 2) ratio at 21.05% against a BOU

requirement of 12%. However the provision

for non-performing loans (NPL’s) has shown a

recent upward surge, even among the more es-

tablished banks

Increasing provisions quarter-on quarter in

2009 is evidence of generally falling asset

quality. The ratio of NPL/Gross loans stood at

4.1% in 2007, then reverted downwards to

2.1% in 2008 before closing 2009 at 4.2%. The

Kenyan economy in the same period moved

from 10.5% to 9.0% and then 7.8% as at end of

2009, according to Central Bank of Kenya

data. This has been on the back of credit to

retail and SME sectors. Increasing provisioning

will, in the long term, affect the NIM.

We are however particularly attracted to the

overall conservatism in the sector. Capital ade-

quacy ratios represent a wide margin through

which the banks can and should take on more

risk. The change in the asset mix for the sector,

from risk free government securities to more

risky asset classes (loans) will proceed with

caution.



Strengths and Weaknesses

Stanbic Bank Target Price: UGX 238 HOLD

Strengths: We assume the bank will maintain a sustainable impressive growth of 14.7% in income and the highest

ROE in the industry which has averaged 42.1% over the past three years. With the lowest cost of funds at

1.39%, the bank should maintain market leadership

The bank has the largest platform through which to serve and reach customers of different categories.

Through ATM’s alone the bank can provide the greatest outreach through card services that greatly reduce

operating costs and are a huge growth center for the banking industry; Weakness:

The bank has to move out of traditional and comfortable sectors of asset growth, i.e. government treasuries

and corporate lending. Retail credit and SME lending are fast becoming the mantra of the sector’s expan-

sion yet remain more risky banking areas;

DFCU Bank Target Price: UGX 928 HOLD

Strengths: Impressive branch expansion and deposit growth for the bank have been key to the growth of the bank and

establishing its brand in the industry;

Investment in the new IT system should give the bank the opportunity has increased efficiencies across

banking operations and enabled the bank initiate new products and services;

The bank should continue to achieve an ROE of 26.8% upwards which is higher than industry average of

18.9% in 2009. Sustainable growth in earnings should remain an impressive 16% over the short to medium;

Weaknesses: The bank has a high cost of funds at 5.7% against an industry average of 3.6% in 2009. The bank has made

an extensive investment in branches to reach more deposits as confirmed by management;

The bank has no regional footprint, and should have challenges taking advantage of opportunities in cross

border transactions

Bank of Baroda Target Price: UGX 965 ACCUMULATE

Strengths:

This has been a largely ignored bank in the equity market despite impressive ROE at 24% upwards and an

impressive sustainable growth in earnings at 17%. This is comparable to its peers is asset size such as

DFCU Bank;

There is a move to replicate rural banking models as in India, so as to extend reach and boost customer

deposit bases. These are expensive ventures but a step in the right direction for long term growth;

Customer niche among the SME or the Business banking segment. This is mainly characterized by trade

finance (largest private credit center) that the bigger banks are just getting the hung of; Weaknesses:

Conservativeness of management; Baroda ranked second on capital adequacy in 2009 with a ratio of

32.5%;

High cost of funds at 5.4% implies extensive effort to collect deposits, which will prove costly.

Small Brach network

Box 3: Summary factors showing strategic and competitive position



Valuation Continuation:

In a continuation of our valuation on the bank-

ing sector (A Banker’s Economy, 20 May 2010)

we would contend that there has been an im-

provement in the medium term prospects of the

banking sector. The particular banks we shall

review in concluding this report are Stanbic

Bank (USE:SBU), DFCU Bank (USE:DFCU)

and Bank of Baroda (USE:BOBU).

Our basic assumptions in arriving at our con-

clusions are;

The banks will maintain robust dividend

policies that will mirror their past 4-5 years

policy;

The banks can maintain sustainable levels

of growth given the low level of penetration in

Uganda and opportunity in retail and SME sec-

tors for financing;

Banking peers in Kenya are a relevant

benchmark for a relative valuation of these

banks;

Cost of equity (COE) has reduced from

21% to 18.8% as a result of a much controlled

single-digit inflationary environment;

Our COE for DFCU and BOBU stands

2.5% higher at 21.3% as a result of higher cost

of funds for these banks;

DDM model has weight of 0.6 and RV has

a weight of 0.4. For BOBU the weight is 0.3 to

0.7; DDM:RV because of BOBU’s low divi-

dend payout. Over the last 5 years, SBU,

DFCU and BOBU had payouts of 68%, 40%

and 22%, respectively.

Stanbic the biggest bank in the sector has a

massive advantage in attracting and retaining

the lowest cost of funds in the sector. We

maintain SBU as a HOLD in the short term

with hindsight that earnings growth has slack-

ened, following the profit warning. Nonethe-

less the growth in the banking sector should

overcome the headwinds of the 2008-2009

volatility in the economy. Over the medium

term investors should find value in the bank.

DFCU has consistently delivered on achieving

lower cost funds through deposits attraction.

The bank still has a upside potential. DFCU

bank is now poised to obtain the full benefits

of its newly installed Finnacle system, which

should see improved utilisation of customer

deposits to further drive increase earnings

At the current level we maintain DFCU as a

HOLD in the short to medium term with a tar-

get price of UGX 928.

Bank of Baroda is a strong though risk averse

performer. Despite a conservative dividend

policy and smaller branch network, our recom-

mendation for Bank of Baroda is further sup-

ported by the following;

Faster growth in loans and advances (the

key banking sector revenue driver) relative to

her peers, an indication of increased aggres-

sion. Between 2007 and 2009, their loans and

advances grew at an annualised rate of 32%

(52% from 2009HY-2010HY) as compared to

DFCU’s and Stanbic’s which grew at 19% and

39% respectively over the same period. Over

the same period, customer deposits for Bank of

Baroda, DFCU and Stanbic grew at 25%, 43%

and 17% respectively. The 2009HY-2010HY

growth for all three banks was 30%, 48% and

45% respectively.

At a cost to income ratio of 34% for

2010HY,( an average of 34% from 2008-2009)

BOBU is more competitive that DFCU and

SBU whose cost to income ratios over the

same period was 59% and 55% respectively

(against a respective average of 57% and 49%

from 2008-2009)

We recommend ACCUMULATE for Bank of

Baroda in the current market environment.



Figure: 28: Selected comparative ratios in the banking sector

Industry Stanbic Bank DFCU Bank Bank of Baroda

Return on Average Assets 3.0% 5.7% 3.5% 4.3%

Return on Equity 18.9% 45.1% 24.7% 23.7%

Net Interest Margin 10.5% 13.0% 9.0% 8.1%

Cost of Deposits 3.6% 1.4% 5.7% 5.5%

NPL/Gross Loans 4.2% 1.7% 3.6% 0.9%

Total Qualifying Capital/RWA 21.0% 18% 20% 36.3%

Source: Industry Data, Company results, ReNaissance Research Estimates (Figures as at 2009)



Equity Research-BAT Uganda;

MANUFUCTURING-TOBACCO

Recommendation LIGHTEN


Current Price (UGX)* 1740

Two Year High 1740

Two Year Low 250


Market Cap (UGX 000,000) 34,365

Float (UGX 000,000) 3,463.5

Float (USD 000) 1,573

Float (%) 10

PE (forward) 10.67

PEG: 0.75

EV/MKT CAP: 1.43


British America Tobacco 70

Investments Ltd

Precis 1970 BV 20

*The counter had an average trading price

of 882 in 2010.

Investment rationale and risk:

Since our last report on the company in October 2008, we

viewed the return to profitability as a realistic possibility.

Management strongly stressed the importance of mitigating risk

within the value chain. The key risks at the time were weak

relationships with the farmers and illicit trade in the cigarette

market.

Looking closely over the period, it is quite impressive that the

company has retuned to operational profitability announcing a

dividend per share (DPS) at year end 2009 of UGX 56.7 and an

interim DPS of UGX 70 in 2010. Cash flows have in the re-

cent period maintained a positive level and all indications we

are that this will continue in the medium to long term.

Leaf Processing has recently become a key driver of perform-

ance with margins of 19% in 2009 against 5% for Cigarette Dis-

tribution in the same period. Cigarette distribution margins

are eroded by high excise duty and a costly distribution net-

work. This logistical challenge in the distribution chain

should remain a medium to long term concern.

This increases the pressure of the company to facilitate the

farmers network to make a sustainable contribution to leaf vol-

umes year on year. Management's target of upwards of 20

million Kgs of leaf sales a year, though achievable, has actu-

ally hovered between 14-19 million Kgs a year. As much as

leaf processing and export remains an important source of prof-

itability, it poses great risk in the form of weather vagaries that

could reduce quality, and unstable relationships with the farmer

network which could affect supply.

Despite these risks, we have a good impression of the restructur-

ing the company has been going through since 2007. The busi-

ness model in its present form can continue to deliver an opera-

tional profit for the company in the medium to long term. Pro-

ductivity as reported by management was up 15% in 2009

particularly on the back of more efficient leaf processing

processes



In response to a highly uncertain business environment the his-

torical price performance on the counter had long moved down-

wards in 2008-2009 (Figure 29) Intense investor aversion to a

non-dividend payment regime, coupled with thin liquidity (only

10% free float) was principally the cause. This has only recently

reverser in 2010 to a high of UGX 1740.

Figure 29: Historical Price performance to-date

The summary valuation of the company uses a combination of

free cash flows to equity, a prediction of dividend payments and

relative valuation. Our target price is UGX 1310. The stock is

currently trading at UGX 1740. The average trading price for

2010 was UGX 880, despite the close on a high. We recom-

mend LIGHTEN as a result of a sharp upwards price move-

ment in the recent past.

Segment Performance;

The business model of the company is built around two seg-

ments;- leaf processing and cigarette distribution. As early as

2007 the strategy was to move away from cigarette manufactur-

ing into processing high quality leaf for distribution within the

group.

On the cigarette distribution side, the company promotes pri-

marily what it refers to as Global Drive Brand. These identify

with consumers the world over and enables the company sale to

an international market from a local setting.

Source: Uganda Securities Exchange

The fundamental drivers of growth

are;

Increased productivity in the

leaf processing unit as replace-

ments of machinery was

achieved in 2009. We are confi-

dent that going forward the com-

pany should achieve upwards of

20 million Kgs of leaf sales,

which is necessary to maintain

operational profitability;

Stronger relationships with

farmers through farm inputs and

guaranteed tobacco market

should ensure a consistent sup-

ply of quality leaf. Management

has shown willingness to

strengthen these relationships;

Key Risks;

The company recently suf-

fered a loss of 2 million Kgs of

leaf, meant for export in a fire.

This represents 11% of annual

production and could impact on

profitability in the short term

Profitability of the business

is dependent on a functioning

farmer model that is highly

prone to unstable relationships;

Weather vagaries could

affect leaf supply in a single sea-

son drastically affecting profit

forecasts;

Cigarette distribution is af-

fected by illicit trade, high ex-

cise duty and increasing distribu-

tion costs. These factors should

continue to depress margins of

this segment.

0

200

400

600

800

1000

1200

1400

1600

1800

2000

30-Dec-07 30-Dec-08 30-Dec-09 30-Dec-10



Both segments have an equal importance in terms

of revenue contribution to the company (Figure

30) . The ratio has averaged 52:48 over the last 5

years in favor of cigarette distribution. Thus reve-

nue performance on both fronts is critical for the

business model to remain sustainable.

Figure 30: Revenue contribution as a percentage of total

From the HY2010 performance figures, the com-

pany noted that revenue was primarily driven by

leaf exports as a result of higher than usual inven-

tory in that segment. Our optimistic forecast for

the company in 2010 is primarily driven by ex-

pectations of good performance in this segment.

The leaf segment though erratic as seen from the

margin movements (Figure 31), is critical to the

overall profitability of the company. This was

mainly as a result of a weak farmer network and

weather vagaries. An operating profit in the leaf

segment delivers an expected profit for the overall

company. This has been the trend since 2007, as is

the strategy that defined the process of restructur-

ing the business of the company.

Reinforcement of relationships particularly with

farmers through providing inputs and value chain

support, the company can guarantee upwards of

20 million Kgs of leaf a year in sales at a risk of

farmers opting to sale their green leaf to compet-

ing firms. Furthermore improvements in leaf proc-

essing equipment has boosted productivity by

15% in 2009 as reported by management.

57.7%

47.9% 44.2%

55.5% 55.9%

42.3%

52.1% 55.8%

44.5% 44.1%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

2009 2008 2007 2006 2005

Cigarettes Tobacco Leaf

Source: Company Reports

While cigarette distribution has the potential

for high growth, particularly among newer

brands, the company has no control over excise

duty and yet distributions costs will remain a

challenge. This operating cost environment im-

plies a lower margin segment. The distribution

segments is also challenged by illicit trade that

shrinks market share.

In our estimation, leaf exports should be a

highly profitable segment though single period

effects could imply a loss making period for

the company. Cigarette distribution is a more

stable operating segment, though on its own,

the company cannot remain profitable in the

long term.

Our view is that management is able to miti-

gate the risk that could lead to an operating

loss in the leaf segment. Over the medium

term, working with this business model, well

managed farmer relationships can be counted

on to deliver a sustainable supply of quality

leaf.

Figure 31: Operating margin comparison

4.71% 5.53% 5.55%

11.32%

5.10%

-11.37%

-24.87%

10.21% 9.23%

19.31%

-30.00%

-25.00%

-20.00%

-15.00%

-10.00%

-5.00%

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

20052006200720082009

Cigarettes Tobacco Leaf

Source: Company Reports



Valuation:

In arriving at our valuation of the company, as-

sumptions were made about the company’s sus-

ceptibility to wide seasonal variations in earnings.

Our model returned a discount at the current trad-

ing price on all counts. We assumed:-

A lower inflation level at 5.5% and a GDP

growth rate of 6%. The risk premium for the com-

pany is assumed at 13%.

The weighted average cost of capital

(WACC) is estimated at 14.3%. The company just

building equity as a result of past losses, has re-

lied on short term borrowing primarily to fund

working capital. Though the leverage ratio is high,

81% as at 2009, we are confident that this does

not pose any business risk as investment is in

working capital;

A resumption of dividend payments going

forward. This is a highly risky assumption we

have therefore accounted for with a cost of eq-

uity of 24.8%. We assume a long term payment

ratio of 50% and sustainable growth rate in

dividend at 9.9%;

In establishing free cash flows to equity

assumptions about working capital could differ

from reality. This is mainly as a result of over-

reliance on working capital in a light fixed as-

set operation as a business model. We thus

give discounted cash flows a lower weight in

the combined valuation;

We compare BAT Uganda to BAT Kenya

as a benchmark for the relative valuation. Fig-

ures are as at end of 2009 except for dividend

for BAT Uganda where we considered the

2010 interim dividend of UGX 70;

We use a weight distribution of 0.2:0.4:0.4

for DCF:DDM:RV, reasons as explained in

assumptions above.

Figure: 32: Relative valuation and Summary Valuation

Source: Company Reports, ReNaissance Research Estimates

Value Weight Weighted Average

DCF 1754.07 0.20 350.81

DDM 755.31 0.40 302.12

Relative Valuation 1643.70 0.40 657.48

Total 1310.42

PE PBV ROE Div Yield

Net Sales/

Assets EV/Net Sales P/Net Sales EV/EBITDA

BAT Uganda 10.7 9.90 92.8% 4.0% 0.65 1.09 0.76 5.57

BAT Kenya 13.8 4.37 31.6% 7.2% 1.05 1.99 1.84 8.04

Discount/Premium -22.7% 126.8% -65.9% 79.7% 60.9% -45.3% -58.5% -30.8% 5.5%



Conclusion

Despite operating in a high business risk environment, we are of the opinion that the company offers underly-

ing value over the long term. This is the view we hold in light of the restructuring process that commenced in

2007. Management has delivered on the strategic plans and is set for a more predictable performance going

forward.

However the recent price behavior in the equity market and low liquidity on the counter with a float of just

under 10%, has introduced risk for investors in the company.

Overall we recommend LIGHTEN for BAT Uganda

2009 2010f 2011f 2012f

Sales (net) 111,783,077 154,762,250 139,368,600 137,123,718

Cost of Sales (65,691,567) (89,762,105) (81,391,262) (80,080,251)

Gross Profit 46,091,510 65,000,145 57,977,337 57,043,467

Operating costs (28,143,317) (38,690,562) (33,448,464) (31,675,579)

EBIT 18,191,164 26,309,582 24,528,873 25,367,888

EBITDA 21,905,909 29,985,639 27,798,966 28,539,877

Interest expense/Finance Cost (6,447,477) (13,169,000) (10,664,727) (10,147,155)

PBT 11,743,687 13,140,582 13,864,146 15,220,733

Net Profit 8,014,115 9,198,408 9,704,902 10,654,513

2009 2010f 2011f 2012f

Net Income (adj for gains) 7,848,307 9,198,408 9,704,902 10,654,513

CFO 671,497 9,991,218 20,261,200 (5,001,447)

FCInv 2,443,262 2,188,297 2,407,127 2,647,840

FFCF 3,192,010 17,021,220 25,319,382 (546,279)

FCFE 4,560,547 8,933,265 11,253,245 7,176,791

Figure 34: Cash flow forecasts

Figure 33: Income statement forecasts

Source: Company Reports, ReNaissance Research Estimates. Figures in ‘000

Source: Company Reports, ReNaissance Research Estimates. Figures in ‘000



Equity Research-National Insurance Corporation (NIC);

Our short term forecast on NIC remains mildly optimistic. The

2010 HY results show that premiums earned in the 2010 first

half period were only 40% of premiums earned in 2009. Fur-

thermore, equity during the same period was down 37% from

2009. Our opinion is that could have been a draw down from

reserves or the life fund. This would imply the need to build re-

serves from earnings or greater urgency to generate longer-term

business.

Payments as a result of prematurely retiring long term contracts

will have a significant impact on the company performance in

the short to medium term. This should affect investment income

and could require asset sales so as to meet payments approxi-

mated at UGX 13-16 billion.

With slower growth in revenues and anticipated lower invest-

ment income we forecast that earning should decline by 4% in

2010. There should be a marginal growth in 2011 in line with

settlements of long term positions.

The company has reconstituted the top management of the com-

pany with the replacement of the managing director. The current

managing director Mr. Njoroge arrives with a wealth of experi-

ence from the more mature Kenya insurance industry. The com-

pany, under new leadership, needs to demonstrate greater client

responsiveness in order to remain competitive in the sector.

The company has a strong asset base of UGX 78.3 billion as at

2010HY, the industry’s largest. As a result, the impact of settle-

ments and possible asset sales so as to meet claims, should not

have a long term impact on the company. While the recent divi-

dend payment sent a positive signal to investors, this level of

dividend may not be sustainable going forward.

The short term (12 months) target for the price on the counter

stands at UGX 84, with a blend of target PBV and an average of

PE for comparables in the region. Over the shorter term per-

formance should remain stagnant though material changes in the

overall economy should boost growth for the insurance sector.

The company nonetheless has unique risks that can only be miti-

gated through increased competitiveness. In spite of the

potential upside from the current price, we recommend

ACCUMULATE.

FINACIAL SERVICES-INSURANCE

Recommendation ACCUMULATE

Target Price (UGX) 8 4

Current Price (UGX) 7 0

One Year High 75

One Year Low 60


Market Cap (UGX 000,000) 28,271.6

Float (UGX 000,000) 11.308.6

Float (USD 000) 4,916.5

Float (%) 40

PE (forward) 8.83


IGI Group 51



Figure 35: Relative Valuation Summary

EPS (est) PE (for) PBV ROE

PAN African Insurance 7.9 9.1 2.4 26.1%

Jubilee Holdings 16.0 12.3 2.0 16.4%

NIC 7.9 8.8 2.0 23.0%

Target/Average 7.9 10.7 2.4 22.6%

PE Target 84

PBV Target 83

Average 84



RCL Recommendation codes

STRONG BUY: Highly undervalued / Strong fundamentals

BUY: Good value/strong fundamentals

ACCUMULATE: Buy on price dips

HOLD: Correctly valued with little pricing upside or downside

LIGHTEN: Overvalued by the market/reduce exposure/declining funda-

mentals/industry concerns

SELL: Weak fundamentals and challenging operating environment/

Highly overpriced



\While all reasonable care has been taken to ensure the accuracy of the information contained herein, ReNaissance Capital accepts no re-

sponsibility for the inaccuracy nor incompleteness of any information nor for any recommendation or forecasts. ReNaissance Capital shall

not be responsible for any losses incurred on any investments arising from the recommendation , forecast or other information herein con-

tained. The contents of this publication should not be construed as an express or implied promise, guarantee or implication by ReNaissance

Capital or its Directors and Officers that one will profit from the strategies herein, or one’s losses in connection therewith can or will be lim-

ited.

ReNaissance Capital is a registered Fund Manager, Investments Advisor and Dealer/Broker.

ReNaissance Capital is regulated by the Capital Markets Authority Act.

ReNaissance Capital is a member of the Uganda Securities Exchange.

Keith Kalyegira

[email protected]

Felix Okoboi

[email protected]

David Ivan Wangolo

[email protected].

ReNasissance Capital Limited

Unit 3 Plot 15 Kitante Close, Lower Kololo

P.O. Box 893 Kampala

Tel: +(256) 312-264775/6

Tel:+(256) 414-340018/9

Fax:+(256) 414-340016

IMPORTANT INFORMATION

annual investors companion 2011

Documents