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Market reaches a new record high

The market broke through its consolidation between 1000- 1100 level to set a new record high of 1,117.9 on Thursday since November 16 1994. From Monday to Thursday the market rose sharply with 35.3 points on ASPI and 87.3 points on MPI until Thursday. However, market dropped during early trading on Friday due to profit taking by retail investors. Nevertheless, gained grounds during the latter part of the day limiting the drop in ASPI to 1.6 points. However the drop in MPI was sharper with 20.9 points mainly due to decline in blue chips mainly JKH and Caltex.

The attractiveness of the hotel sector continued into the second week with the hotel sector index gaining 19 points during the week. Asian Hotel once again lead the hotel sector rally followed by Conaissance, Eden Hotel, Browns Beach and Hunas Falls.

Meanwhile, foreign investors remained active with foreign purchases amounting for 49% of the week's turnover. Foreign activity reached a height on Monday with a foreign fund buying a 4% stake (2.5 million shares) in DFCC, which accounted for 91% of that day's foreign purchases.

Meanwhile foreign interest was also witnessed in JKH and NDB.

Total turnover for the week was Rs.2.69 billion with a daily average of Rs.538.32 million. Foreign activity was at a high note accounting for net inflow of Rs.361 million. SLT, DFCC, Distilleries, JKH, Asian Hotels remained amongst the heavily traded stocks.

Point of view:

Strong expectation on resumption of talks

This weeks positive movement in the indices was largely due to the growing chances of the resumption of stalled peace talks, even though both the government and LTTE remained silent on the issue. We maintain our view that the peace talks could resume soon in order to discuss the proposed interim administrative body.

ASPI at a 15% discount to 2004 target

The on going peace negotiations and no-war situation are likely to continue for a minimum of 18 months, in our opinion, before arriving at a permanent solution through a Federal System of Government, in an united Sri Lanka. An outcome analysis based on risk weightings is available in the HNB Stock Brokers Risk Matrix, published in the recent strategy report, "The Lion Emerges". The growth in the economy would result in strong corporate earnings. We feel that an appropriate level for market PER is 9.9x. Based on 20% projected earnings growth for 2004, the target ASPI for 2004 is 1275 points.

We feel that it is too early to re-rate the market, and in a "Peaceful but Uncertain" (working towards a peaceful solution together with political instability) scenario the fundamentals still look positive to reach the above levels. Thus the market is now moving up with the view of the fundamental outlook of 2004. SLT results for 1H2003

Earnings up 21% before VRS

Sri Lanka Telecom Ltd (SLT) released its results for the first half of FY2003, with a 30% decline in net profits to Rs.974 million after writing off Rs.710 million as the cost of a VRS, which was accepted by 1139 employees. The telecom company recorded a 5% growth in the top line during the period under review, but failed to produce a similar growth in the bottom line largely due to high operating costs and the losses in its newly acquired subsidiary Mobitel.

Domestic tariff revision to boost revenue

SLT's revenue growth came under threat as international call charges declined by almost 60% on average, due to the liberalization of international gateways. The 23% increase in volumes would not completely offset the decline in call charges. Thus total international call revenue are expected to decline by 17% during FY2003 as opposed to FY2002.

However the 12.5% increase in domestic rates should boost domestic revenue and we project a 20% growth in domestic revenue for FY2003 compared to previous year.

Operating profits dropped 7% to Rs.3.5 billion from Rs3.8 billion, mainly due to increased operating costs, such as annual salary increases, increase in maintenance expenses and 10% jump in depreciation. SLT has lowered its interest expenses by 8% to Rs.1.6 billion, largely due to the repayment of some loans. Total borrowings declined from Rs.25.9 billion (as at 31st Dec 2002) to Rs.22.0 billion (as at 30th June 2003) over the six month period. Mobitel continues to make losses

Mobitel became a fully owned subsidiary of SLT from last November

Therefore a line-to-line consolidation is carried out during the period. The conversion of Mobitel into GSM technology has already begun and the new network is expected to be functional in Colombo and the suburbs by the end of October this year. Mobitel increased its loss by Rs.20 million to Rs.33 million, during the 3 months to 30th June 2003. They recorded a marginal loss before tax of Rs.13 million during the ist quarter of 2003.

VRS to generate immediate cost savings

SLT has taken further steps to strengthen its long-term position by introducing a Voluntary Retirement Scheme (VRS) for its employees who are above the age of 45 years. The scheme would take place in two stages, with the first phase due in September, and the second phase in December this year. The cost of Rs.814 million would be written off against the earnings of FY2003, thus creating a negative impact on the bottom line in the short run. Already they have written off Rs.710 million during the year and the balance Rs.114 million is on account of the gratuity payable for those employees.

More importantly, the VRS will generate immediate cost savings with the annual saving estimated to be approximately Rs.300 million. This we believe is a positive move towards the company in the long run, as the lines per employee would immediately increase from 94 to 110. While profit before tax and VRS declined by 8% to Rs.2.1 billion, SLT had provided 55% less for taxes during the period, compared to the corresponding period of 2002.

However SLT's cash flow will not be affected by the tax liability as the company can utilize its deferred tax asset of Rs.2.7 billion to offset the cash payment. The deferred tax asset has now diluted to Rs.2.28 billion and is not expected to increase as the government has brought the depreciation and capital allowances calculations in line. Thus this cash flow benefit may not be seen after the next two financial years. FY2003 earnings to be affected

We expect SLT to make a net profit of Rs.2.45 billion during FY2003, down 8.6%, mainly due to the write off of VRS cost and high finance expenses in Mobitel. However we believe that domestic revenue would be the main contributor to growth. This will result in an EPS of Rs.1.40 per share and at the current market price of Rs.15.00, the PER will stand at 11.0x. This will be followed by a 33.6% net profit growth to Rs.3.3 billion in FY2004, thus reducing the PER to 8.3x.

No reason to change our positive long-term fundamental outlook

SLT remains well positioned to take advantage of further economic development in Sri Lanka. Although less attractive by operating comparisons to other global Telcos, SLT remains a key proxy into the Sri Lankan market.

Furthermore, once 100% owned subsidiary Mobitel is fully converted to GSM, we believe that it could become a major player in the mobile market. This in turn would help SLT consolidate itself as the dominant telecom service provider in the country in the long term. We maintain our optimism for the longterm prospects of SLT. We have also pitched SLT as a long-term growth story, as evidenced by our forecasts and DCF valuation. However, we believe that near term weakness will prevail in the share price, reflecting the weak sentiment that is present in the market. This will compound investors' failure to be fully convinced of the stock's true value. We rate SLT as a Long Term Buy, as we do not believe that the stock is likely to outperform the market over the next six months.

Apollo; Results for 10m to Mar 2003

A high depreciation charge

Apollo Hospitals released its results for the 3 months to 30th June 2003, recording a net loss of Rs.84.6 million, after writing off a Rs.52.9 million depreciation charge. A quarter on quarter comparison indicates that revenue declined by 5% during the 3 months ended 30th June 2003, compared to the 3months ended 31st March 2003.

The Gross Profit before deducting the personnel cost grew by 2% to Rs.211.2 million during the last quarter compared to the previous quarter. High depreciation charge The operating profit before depreciation grew by 16% to Rs.18.6 million, compared to the previous quarter. As expected by us Apollo hospitals wrote off a depreciation charge of Rs.52.1 million. Most of the new equipment would be depreciated for the first time, starting from FY2003/04, thus we project a total depreciation charge of Rs.238 million for the full year. As a result the operating profits declined to Rs.34.5 million during the first 3 months of FY2003/04.

Interest rates restructured

Apollo, which carries Rs.977 million of Long term Debt and Rs.248 million of short term debt, had a total interest burden of Rs.50.1 million during the 3 month period. This is despite taking advantage of the low interest rate scenario, as its average long term interest cost reduced from 18.5% to 16.5%. The bank overdrafts are costing the company 14% - 14.5% at present. The reduction in the rates is not directly reflected in the QoQ comparison of the finance cost as it increased from Rs.32 million to Rs.50 million during the last quarter. This is largely due to the increase in short term debt, which jumped from Rs.175 million to Rs.248 million during the period under review. After charging the finance cost Apollo recorded a net loss of Rs.84.6 million for the 3 months to 31st March 2003. However QoQ, the net loss has increased by 216%, largely due to the heavy depreciation charge and the finance cost. A further review on Apollo's operations and forward forecasts would be made available after a company visit.

TOKYO results 1Q FY2003

Earnings up 41%.

TOKYO CEMENT LTD released results for the 3 months to 30th June 2003, recording a 41% surge in net profits. According to the results released turnover has increased by 14.04% to Rs.1.17 billion during the period under review. This is mainly due to the improvements in the construction industry and increased contributions from Samudra Cement, which intern has contributed positively towards growth in sales volumes. Operating expenses decline.

Operating expenses declined 26% to Rs.111 million during the 3 months ending 30th June 2003, as opposed to Rs.151 million incurred during the same period of FY2003. Distribution costs declined by 28% to Rs.93 million as opposed to Rs 128 million in the previous period,due to the removal of the NSL ( national security levy). Previously NSL was irrecoverable, thus it was written off as an expense under the distributioncost.However the VAT (value added tax), which is presently in existence, is recoverable and the burden is not on the company. Therefore its not included as a distribution cost during the 3 months to 30th June 2003. Administration costs also reduced due to the successful implementation of a cost cutting strategy by the group.

This is expected to continue during the remaining 9 months of FY2004, and therefore we feel that administration costs would further reduce during the latter part of the year.

Finance cost increase due to borrowings in Samudra cement. Finance cost has increased by 135% to Rs.40 million compared to Rs.17.million during the previous year. This is a result of total debt increasing from Rs 663 million. To Rs 1.45 billion... over the last 12 months. Most of this increase can be attributable to the loans raised by Samudra Cements, which are to be paid out during the current financial year. As a result the short term debt has jumped up from Rs.35.2 million to Rs.690.1 million. Net profit improves Profits attributable to ordinary shareholders rose by 37% to Rs.81 million during the period under review, compared to Rs.58 million earned during the corresponding period of the previous year. Based on these results, the annualized EPS is Rs.18.84, and the share is trading at 8.38x of its earnings.

Outlook for FY2004 As samudra cement has shown a turn around, net profits of the group is expected to grow during the FY2003/04. In addition to this the development of the new ready mix cement production would also contribute towards further growth in earnings.

Tokyo Cement has implemented a new expansion project which has increased its production capacity. The management believes this would lead to a further increase in profits by approximately 7%-10% as the industry itself is in the growth path.

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