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Equ
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RESEARCH DEPARTMENT
22 January 2007
Turkish equity market outlook
We down grade our market call for Turkish equities from NEUTRAL to
UNDERWEIGHT...
- Turkey starts 2007 in a difficult conjuncture. Record high current account deficit and overshooting
inflation enforces an adjustment in economic imbalances. But a heavy political agenda stays the
government’s hand.
- The pace of the adjustment will depend on the risk appetite for emerging markets as well as the
economic policies followed by the government.
- Turkey, South Africa and Hungary emerged as the weakest spots through the survival tests in 2006
due to their heavy reliance on foreign debt to finance their economic growth.
- They underperformed their peer group despite a benign soft landing scenario, where risk appetite
for emerging markets is strong. Obviously, they remain vulnerable to a turn in investor sentiment.
- Record high current account deficit and overshooting inflation enforces an adjustment in economic
imbalances. Turkey’s growth model, based on internal demand expansion financed by foreign
borrowing, fires on all cylinders.
- But a heavy political agenda stays the government’s hand. Turkey faces double elections in 2007:
Presidential in May, parliamentary in November. AKP government is unlikely to tighten fiscal policy
in the run-up to presidential and general elections.
- Recent polls signal a deterioration in the popularity of AKP, with 3-4 parties surpassing the 10%
threshold required to hold seats in the Parliament. This may end the single party government era
paving the way for a coalition government.
- AKP government has so far enjoyed the benefits of an expansionary fiscal contraction. The
challenge is to maintain fiscal stability in the run up to the election despite the footsteps of a
slowdown in economic growth.
- Turkey needs a soft landing in economic growth in 2007 in order to restore economic balances
back on track. But under the current political backdrop AKP government is unlikely to tighten fiscal
belt in the run-up to presidential and general elections.
- Monetary authorities face a dilemma to overcome. Monetary tightness helps disinflation because it
attracts foreign capital and leads to an appreciation of the exchange rate. But this involves an
overvalued exchange rate and a large current account deficit.
- Caught between two evils, overvalued currency and overshooting inflation target, the Central Bank
has to go for the latter. With a large credibility gap of 300bps, the Central Bank has to keep policy
rates high in the foreseeable future.
- In our view, economic and social consequences of an overvalued currency are much worst than an
overshoot of inflation above target. Once the exchange rate overshoots its long run equilibrium by a
wide margin, it will not take long for smart-investors to sell the currency at the very first negative
signal. The end results would be overshooting of inflation, turmoil in currency market and high
interest rates leading to a vicious cycle in the disinflation program
We believe current valuation levels, do not fully reflect the above mentioned
vulnerabilities and risks ahead. Thus, we downgrade our equity market call from
“NEUTRAL” to “UNDERWEIGHT”.
1
Equity Strategy
Global
Outlook
Global outlook paints a conflicting picture
Global economy sends conflicting signals. A soft-landing in the US economy is underway, with
limited impact on global growth. Monetary tightening worries are soothed in the US, whereas in
Europe further rate hikes are on the cards. Oil prices came under heavy selling pressure recently
due to rising inventories and warm weather.
Base scenario: a soft-landing in the US economy
A soft-landing in the US economy with a limited impact on global economic growth is our baseline
scenario. Low real interest rates and the pullback in oil prices (if sustained?) will smooth a global
slowdown by providing a breathing space.
Bull run in crude may be nearing an end
Oil prices came under heavy selling pressure recently, sliding below $52 per barrel, the lowest level
since 2005 summer. The pullback stemmed largely from rising inventories in North America due to
continued mild weather. Given limited spare capacity, broad based global economic growth, and
deep rooted geopolitics risks, we see the pullback in oil prices as a blip rather than a change in
trend.
Inflation worries started to ease
Slowdown in economic growth and the recent decline in commodity prices started to curtail
inflationary pressures on a global basis. However, inflationary worries in the US may prevail in the
short-term due to an increasingly tight labour market.
Runaway wage growth stays the FED’s hand
Latest non-farm payroll data indicates that the solid growth in average hourly earnings is likely to
stay the FED’s hand in the near term. A pro-labour shift in economic policies with the victory of
Democrats may prolong this period to the medium-term. Look for a generous increase in minimum
wages as a possible tightening indicator.
Global liquidity likely to scale back at a measured pace
Monetary tightening around the globe may exert limited upward pressures on long-term yields in
2007. Saving glut in emerging Asia and oil-exporting countries is expected to scale back amid a
slowdown in global economy and global monetary tightening.
Emerging
Markets
Mixed blessing for emerging markets
Global economy offers a mixed blessing for emerging markets in 2007. On one hand, a soft-landing
in the US economy, will allow developing economies to grow at a respectable pace. On the other
hand, the three bears - (FED, ECB, BOJ) will make life harder for Goldilocks believers.
Anatomy of the current correction
Tightening worries played a limited role in the current correction as the current growth and inflation
dynamics are more favourable than last May. This time, falling commodity prices sparked a
correction in raw materials producing countries, such as Brazil and Russia, which then spilled over to
others. Market unfriendly policies, in Thailand and Venezuela also played a part by increasing risk
averseness towards emerging markets.
No plain sailing for emerging markets
The year is yet young, but the recent correction indicates that the year 2007 will not be plain sailing
for emerging markets. Recent volatility shows that the cyclical and geopolitical risks in emerging
markets are tilted to the downside.
2
Equity Strategy
Weakest spots in emerging markets
Survival tests in 2006 proved the improving resilience of emerging markets to external shocks. But,
Turkey, South Africa and Hungary emerged as the weakest spots due to their large current account
deficit. They underperformed their peer group in 2006 despite a relatively benign global conjuncture.
They remain vulnerable to a turn in investment sentiment in 2007.
Turkish
Outlook
Turkey face a challenging year
Turkey starts 2007 in a difficult conjuncture. Record high current account deficit and overshooting
inflation enforces an adjustment in economic imbalances. Turkey’s growth model, based on internal
demand expansion financed by foreign borrowing, fires on all cylinders. But a heavy political agenda
stays the government’s hand. The pace of the adjustment will depend on the risk appetite for
emerging markets as well as the policies followed by the AKP government.
A heavy political agenda awaits Turkey
Turkey has never been a safe heaven in terms of political risks. Obviously, 2007 will not be an
exception. Turkey will face two major elections in 2007: Presidential in May, parliamentary in
November.
Political tension set to intensify ahead of the Presidential election
The hottest topic in the market place right now is whether PM Erdogan will run for the presidency or
will seek consensus on a candidate acceptable to the establishment. PM Erdogan is likely to make
his decision based on consensus polls results and general sentiment in financial markets. Recent
polls suggest that more than 50% of the electors are not supporting the presidency of Mr. Erdogan.
We see the odds of PM Erdogan running for presidency at 50-50.
A coalition government is looming on the horizon
Recent polls signal a deterioration in the popularity of AKP, with 3-4 parties surpassing the 10%
threshold required to hold seats in the Parliament. This may end the single party government era
paving the way for a coalition government. Anyway, the journey has just started. and it is too
difficult to estimate a year down the road.
An orderly adjustment is required in the run-up to elections
In our view, the vital question is whether AKP government will maintain fiscal discipline in the run up
to the parliamentary election. The record high current account deficit and the failure in disinflation
program calls for a “soft landing” in the economy. Under such a backdrop, implementation of
election economies can lead to a disorderly adjustment.
High-flyer is about to soft-land
Turkey enjoyed an expansionary fiscal consolidation over the last five years. Sound fiscal policies
and structural reforms boosted Turkey’s average growth rate to above 7%. But the economic
expansion has been financed largely by international borrowing making Turkey highly vulnerable to
foreign creditors’ willingness to provide finance. Turkey needs a soft landing in economic growth in
2007 in order to restore economic balances back on track.
C/A deficit emerges as the weakest spot
The current account deficit running above 8% of GDP emerges as the Achilles’ heel of Turkish
economy. There are two compelling reasons behind Turkey’s record high current account deficit: (i)
strong growth in domestic demand (ii) competitive pressures from Asia which enforce Turkish
producers to import intermediate goods at an increasing pace. Overvalued Turkish lira works as a
catalyst in both processes by making imports goods cheaper.
3
Equity Strategy
Medium-term challenge: integration into the global economy
Competition from China becomes a major threat for Turkey. Labour intensive and low value added
sectors started to face neck to neck competition from China. Turkish industry has to integrate into the
global economy in order to survive. Turkey has to switch from low value added traditional sectors to
high value added emerging sectors in order to compete against low cost Asian producers.
Vulnerable to foreign creditors willingness to finance
Turkish economy’s resilience to external shocks has improved substantially in recent years on the
back of a sound economic policies. Differing from the past years, long-term capital flows and FDI
constitute now a significant portion of the capital account. We therefore do not see a serious risk in
the financing of the balance of payments, barring an abrupt turn in global sentiment. Of course, that is
not to say that Turkish lira is not vulnerable to a turn in investor sentiment.
No quick fix to the C/A deficit
Turkey needs weaker lira and softening domestic demand for a quick recovery in current account
deficit. On the other hand, a sharp devaluation will put Turkey’s 2007-2008 inflation targets out of
reach while causing havoc in companies with large short currency position. Tightening of fiscal policy
emerges therefore as the only policy tool available to resolve economic imbalances. But a heavy
political agenda stays the government’s hand. AKP government is unlikely to tighten fiscal belt in the
run-up to presidential and general elections.
The Central Bank’s conundrum
Monetary authorities face a dilemma to overcome. Overvaluation of exchange rate is a common
syndrome of disinflation programs. Monetary tightness helps disinflation because it attracts foreign
capital and leads to an appreciation of the exchange rate. But this involves an overvalued exchange
rate and a large current account deficit. Squeezed between an over valued currency and an overshooting inflation target the Central Banks usually go for to the latter.
Overshoot of 2007 inflation target is a foregone outcome
2007 CPI inflation is likely to miss the ambitious Central Bank target of 4% by a wide margin of
300bps. In the absence of a sharp and sustained decline in oil prices, downside risk to our forecast is
low. In contrast, possible hikes in administered prices, stickiness in non-tradable sector, and fiscal
slippage in the run up to the elections increase upside risks to our estimate. With a large credibility
gap of 300bps, the Central Bank can not afford to take those risks.
Squeezed between hard rock and sea
Current target to bring inflation down to 4% could only be achieved by over-tight monetary policies
and excessive appreciation of Turkish lira. Caught between two evils, overvalued currency and
overshooting inflation target, the Central Bank has no options but to keep policy rates high in the
foreseeable future.
Costs of overvaluation
In our view, economic and social consequences of an overvalued currency are much worst than an
overshoot of inflation above target. There is in general one exchange rate that will bring equilibrium in
the balance of payments and the target inflation. Once the exchange rate overshoots its long run
equilibrium by a wide margin, the crisis is already ordained. It will not take long for smart-investors to
sell the currency at the very first negative signal. The end results would be excessive devaluation and
high interest rates leading to a vicious cycle in the disinflation program
4
Equity Strategy
Equity Recommendations
Company
Sector
Ticker
Arcelik
Eregli Demir Celik
Ford Otosan
TSKB
Trakya Cam
Tupras
Yazicilar Holding
Consumer Durables
Iron Steel
Automotive & Parts
Banking
Glass
Petroleum and Energy
Conglomerate
ARCLK
EREGL
FROTO
TSKB
TRKCM
TUPRS
YAZIC
Close
Price
(TRY)
8.85
9.35
12.10
2.76
3.94
24.60
33.25
Target
MCap Target MCap Upside Free
Price
Float
(TRY) (YTL mn)
(YTL mn)
potential (%)
12.50
3,540
4,998
41%
21
13.13
4,562
6,408
40%
50
15.75
4,246
5,526
30%
18
3.58
828
1,074
30%
54
6.02
1,155
1,765
53%
32
37.61
6,160
9,419
53%
49
48.34
1,330
1,933
45%
23
Portfolio vs. ISE-100
Cumulative Return of Recommended Portfolio
1,050
425%
850
325%
650
225%
450
125%
.
250
25%
5
$ Return
12/06
12/05
12/04
12/03
12/02
12/01
12/06
12/05
12/04
ISE-100 (base: end of 2000)
-75%
12/00
Portfolio (TL)
12/03
12/02
12/01
12/00
50
Relativ e Return
Equity Recommendations
ARCLK
Share Price
Ric Code:
YTL 8.85
Market Cap
$US 6.22
Target Price
ARCLK
$US 2,487 mn
YTL 12.50
ARCLK
Close
(YTL)
14.0
Volume
(mn YTL)
12.0
25
20
10.0
Strengths
Weaknesses
High competition and low margins
in TV production
8.0
15
Strong dealership network, market
leadership, and efficient production
6.0
10
Opportunities
Threats
4.0
Growth in international markets
Possible future
Chinese producers
theat
from
5
2.0
0.0
06/02/06
Overly punished from Beko acquisition
($US m n)
Although it is not questionable that acquisition of Beko shares Sales
(50.1%) was not a good use of capital for Arcelik, at current EBITDA
valuation Arcelik seems to have been overly punished. Arcelik Net Incom e
01/05/06
25/07/06
18/10/06
0
18/01/07
2003
2004
2005 2006E 2007E 2008E
2,394
3,656
3,806
4,189
5,915
6,286
287
398
416
462
592
629
109
216
233
335
355
377
13.47
10.17 10.27
7.41
7.00
6.59
targets to generate €50m savings at Beko in 2007. €20mn of P / E
7.87
6.36
7.56
6.99
5.45
5.13
EV/EBITDA
this will consist of savings at cost of goods sold, while the
Week Month Year
YTD
remaining will be generated through savings at operating expenses. The % Change
4.1
5.4
-14.3
6.0
reduction at cost of production will stem from the consolidation of Close YTL
5.3
5.5
-19.5
5.2
electronic component, plastic mold and other component purchasing with Close $US
-2.6
4.2
-9.3
3.0
Rel.
Index
Arcelik. Arcelik has increasingly been using electronic components in the
Week Month Year
YTD
manufacturing of dishwashers and washing machines. This will in $US
6.1
5.7
5.2
5.8
correspond to a 5% reduction in the cost of purchasing of materials Min Close
6.3
6.3
9.4
6.3
except panels and CTV tubes. Main contributors to the operating cost Max Close
4.4
3.0
3.9
3.8
savings will be, Grundig (€10m), headcount reduction (€8mn), Ineterest Avg Vol m n$
Expenses (€3m), and advertising expenses (€2.5mn). We knew that the company had plans to rationalize Grundig's
distribution network and move some of the back office jobs to Turkey. Sizeable lay-offs at Beko, including 1,387 employees
had already took place at the end of 2006. Beko had 4,007 employees as of September 2006. On the back of these savings,
Arcelik aims to maintain an 8% EBIT and 6% net margin in 2007, while not exceeding a net debt / EBITDA level of 2x.
Trades at an unjsutifiable discount to international peers
Assuming that achieves targeted savings in 2007 is achieved, the current share price implies a 2007E P/E ratio of 7.0x, which
is nearly half of the median 07E P/E multiple of comparable international peers (14x). Adjusting this for company's 7.7% stake
at Koc Financial Services, we calculate a 07E P/E ratio of 5.8x for Arcelik. Thus, even in case the company does not fully
achieve targeted savings, the current low valuation offers some comfort level.
6
Equity Recommendations
EREGL
Share Price
YTL 9.35
$US 6.57
Ric Code:
Market Cap
Target Price
EREGL
$US 3,205 mn
YTL 13.13
12.0
10.0
Strengths
Weaknesses
8.0
Domestic market is far from saturation. The new management led to
efficiency increases
Susceptible to global steel price
movements
6.0
Opportunities
Threats
As the slab production increases in
Isdemir, value added part in production will increase, lifting the profitability.
To be left out as a small scale
producer in the ongoing global
steel consolidation
Close
(YTL)
Volume
(mn YTL)
EREGL
300
250
200
150
4.0
2.0
0.0
27/02/2006
($US m n)
Sales
Erdemir, Turkey’s sole integrated flat steel producer, is passing EBITDA
Net Incom e
trough a massive restructuring process. The new management which
P/E
came into power following the privatization, created efficiency gains in EV/EBITDA
Efficiency gains generated after the privatization
several areas, while transformation at its Isdemir subsidiary from long
% Change
to flat steel is on-going. The Company, can currently produce 4mn ton of
Close YTL
flat products and
Close $US
by 2008 it will reach 8.5 mn tons of flat steel production capacity.
450
400
350
Rel. Index
in $US
13/06/2006
2003
1,977
403
227
3.02
3.54
2004
3,268
966
589
2.67
2.07
27/09/2006
100
50
0
18/01/2007
2005 2006E 2007E
3,108 3,270 3,550
519
830
730
144
350
200
17.52
9.15 16.00
7.49
4.53
5.15
Week Month
6.9
5.6
8.0
5.8
-0.1
4.5
Week Month
Year
18.0
10.9
25.0
Year
YTD
3.9
3.1
0.9
YTD
In 2006, Erdemir combined its procurement with its subsidiary Isdemir and Min Close
6.1
5.9
3.8
5.9
6.6
6.6
6.8
6.6
Max
Close
attained savings, despite 19% increase in iron pellet prices, Erdemir’s
7.8
4.8
13.5
5.3
Avg
Vol
m
n$
contracted procurement costs in 2006 will not increase. Due to savings in
operating costs, the company had $634mn EBITDA in the 9M of 2006. With the initiation of the first slab caster in Isdemir,
Erdemir has started using Isdemir slab at Erdemir plant. In 2007 the Company will use 1.6mn ton of Group's produced slab,
which may result in $200-240mn savings compared to using imported slab.
Resilient to fluctuations in the domestic economy
The company has the flexibility to increase its exports in a case of a contraction in the domestic market. Like other commodity
products, the sales price is set internationally and is quoted in US dollars both for the domestic and export customers. As
there is not much difference betweeb export and domestic prices , Erdemir will not hit by the increase in exports. Moreover,
current domestic flat steel demand surpasses the domestic production by nearly two folds, leaving an extensive room for
capacity expansion of Erdemir.
Possible foreign partnership might be a catalyst
The management is open for a partnership (while maintaining control) with a global player. Considering, the efficiency
attained with new management and ongoing high steel prices in the global market, we forecast $830mn EBITDA in 2006 and
calculate $4bn target MCap for 2007YE. We maintain our "BUY" recommendation for the stock with one year target of
TRY13/share .
7
Equity Recommendations
FROTO
Share Price
Ric Code:
YTL 12.10
Market Cap
$US 8.50
Target Price
FROTO
14.0
$US 2,983 mn
12.0
YTL 15.75
Close
(YTL)
Volume
(mn YTL)
FROTO
45
40
35
10.0
Strengths
Weaknesses
High operating profitability and
dividend yield
No growth opportunities at the
existing production plant
30
8.0
25
6.0
20
15
4.0
Opportunities
10
Threats
2.0
Production of a new model
Deterioration in Ford’s financial
situtaion
5
0.0
06/02/06
Exports made-up for the contracting domestic sales in 2006 ($US m n)
Sales
01/05/06
18/10/06
0
18/01/07
2003
2004
2005 2006E 2007E 2008E
2,109
4,142
4,519
4,493
4,847
5,031
559
598
541
568
621
325
297
301
328
377
6.75
8.23
9.90
9.08
7.90
4.23
5.27
5.91
5.63
5.15
Ford Otosan grew its total sales volume by 1% in 2006, despite
338
EBITDA
13% contraction at domestic sales, owing to increasing exports
202
Net Incom e
from 163,000 units to 183,000 units (12% increase). Company’s
5.27
P/E
market share reached 17.2% in 2006, a slight increase over
6.79
EV/EBITDA
2006 (17%). We expect a weak domestic market 1H in 2007,
as interest rates are likely to remain high until the last quarter of the year. % Change
Close YTL
Meanwhile, we might see a recovery in Q4, once the uncertainty related
Close $US
the elections is over and interest rates ease. Ford targets to raise its
Rel. Index
exports to 200,000 units in 2007 (a 9% growth). Meanwhile, company’s
in $US
production capacity will reach 300,000 at September this year,
Min Close
approaching the upper limit for the existing production plant.
A value play with high dividend yield
25/07/06
Week Month
Year
YTD
14.2
4.3
19.5
15.4
4.5
12.3
5.3
6.7
3.2
26.5
3.1
Week Month
Year
6.1
YTD
7.8
7.2
5.1
7.2
Max Close
8.5
8.5
9.5
8.5
Avg Vol m n$
2.1
1.9
4.6
2.3
We set our 2007 year end price target for Ford Otosan at 15.8 YTL, offering a 40% upside potential. The company is likely to
continue to be a good dividend payer, with an estimated yield of 10%. High dividend payments are likely to continue in 2008
and onwards, with strong cash generation and limited cap-ex requirement.
8
Equity Recommendations
TRKCM
Share Price
Ric Code:
YTL 3.94
Market Cap
$US 2.77
Target Price
TRKCM
6.0
$US 812 mn
YTL 6.02
5.0
TRKCM
Close
(YTL)
Volume
(mn YTL)
30
25
Strengths
Weaknesses
4.0
20
Dominant position in the domestic market, high EBITDA margin
Higher energy and labour costs
than in neighbouring countries
3.0
15
2.0
10
Opportunities
Threats
Pick-up in glass prices, exportoriented projects of domestic
automotive manufacturers, more
value-added products
Hike in energy prices, potential
competitor in the local market.
1.0
5
0.0
06/02/06
($US m n)
01/05/06
2003
2004
25/07/06
18/10/06
0
18/01/07
2005 2006E 2007E 2008E
Sound growth prospects
315
419
437
490
625
665
Sales
In order to meet the increasing local demand, Trakya Cam is EBITDA
89
138
137
155
192
212
currently building two additional float lines in Turkey with a total Net Incom e
63
77
62
98
104
105
capacity of 450k tonnes per annum. The first float line is P / E
5.52
7.44 12.84
8.27
7.80
7.72
expected to be operational in Q207 while the second line in the EV/EBITDA
5.90
4.56
7.34
6.07
4.90
4.44
last quarter of 2007. The second float line will be equipped with
Week Month Year
YTD
tempering and mirror lines in order to produce more value-added products. % Change
5.3
-3.9
4.4
1.0
Close
YTL
Per capita consumption of flat glass in Turkey is still behind the EU
6.5
-3.7
-1.9
0.3
Close
$US
average which is expected to fuel the local demand in the near future.
-1.5
-4.9
10.5
-1.8
Rel.
Index
Above 70 percent of flat glass produced is used in building products.
Week Month Year
YTD
Growth in building products is fuelled mainly by construction, in $US
2.7
2.5
1.8
2.5
Min
Close
refurbishment and energy efficiency needs. Although recent hike in
2.8
2.9
3.6
2.9
Max
Close
interest rates hurt the construction market, we believe that Turkey’s real
4.2
2.4
3.2
3.0
Avg
Vol
m
n$
estate market will benefit from the introduction of mortgage system and
falling interest rates in the near future. Need for energy efficiency and the EU legislation standards will further improve the
local flat glass demand. Within automotive, glass is used in original equipment for vehicle manufacturers and in the
manufacture of replacement parts for the aftermarket. Turkey’s growing capacity as a manufacturing hub for automobile
producers is another engine for the Turkey’s sole flat glass producer, Trakya Cam. Unfair competition from foreign producers
(Russia, Ukraine, Iran) is delayed to 2009 because of the introduction of quotas and tariffs this year.
The pricing is in dollars, while most costs are YTL denominated
The effective pricing of the flat glass is determined in terms of US$ due to the import competition while significant amount of
the company’s costs is in TRY terms. In terms of cost saving, the company started using natural gas instead of fuel-oil in the
second half of 2005 and maintained almost 20% of reduction in energy costs.
International expansion strategy against competition
The company is taking strategic steps towards establishing a presence in the Balkans and staving off the potential threat of
imports from these countries. We expect the strong profitability in Bulgarian operations to continue with the help of lower costs
and tax exemption for five years. Ongoing investments will further improve the Company’s strength in the region. Trakya Cam
may face competition in the Balkan’s region or even in the local market as the French flat glass producer Saint Gobain’s first
float line in Romania is expected to be operational in the beginning of this year and the US based flat glass producer Guardian
reportedly is willing to enter the Turkish market with a Greenfield operation worth $150mn. On the other hand, Trakya Cam’s
regional expansion plan may cover the fast growing Russian market in the near future. Our analysis does not take into
account the possibility of a local competitor or Trakya Cam’s further expansion strategy including the Russian market.
A significant discount over international peers
Coupled with the higher share of value-added products, operational cost savings from the Bulgarian plant and limitations on
imports, we expect Trakya Cam to improve its EBITDA margin to 31% by 2007. Trakya Cam trades at a P/E of 8.4x and an
EV/EBITDA of 5.0x, on 2007 estimates. These imply significant discount compared to international peers (P/E of 13.6x and an
EV/EBITDA of 7.7x). Taking into account the Company’s growth potential, both in the domestic and nearby regions, as well as
its cash generation ability, we reiterate our “Outperform” recommendation for the stock with a target share price of TRY6.02
for 2007 year end. The company is also a high dividend payer with an average dividend yield of 7% over the past four years
which is above the ISE-Industrials average of 5%.
9
Equity Recommendations
TUPRS
Share Price
Ric Code:
YTL 24.60
Market Cap
$US 17.28
Target Price
TUPRS
$US 4,328 mn
35.0
YTL 37.61
30.0
Strengths
Weaknesses
Better integration with OPET,
proximity to various crude oil
sources, flexibility of refining both
sour and sweet crude oil
Fluctuation in refining margins,
increasing threats from imports
Opportunities
Threats
Further opportunities in horizontal
integration
Merger possibility with SPV, potential rival refinery construction
plans
TUPRS
Close
(YTL)
Volume
(mn YTL)
180
160
140
120
100
25.0
20.0
80
60
40
15.0
10.0
5.0
0.0
06/02/06
01/05/06
25/07/06
18/10/06
20
0
18/01/07
OUTPERFORM maintained
2003
2004
2005 2006E 2007E 2008E
We maintain Outperform recommendation on Tupras on the back ($US m n)
of a favorable risk/reward outlook. Energy shares faced a sell-off Sales
6,633
8,559 11,072 12,400 10,935 11,272
on a global basis recently amid worries of sustained pullback in EBITDA
416
739
790
862
845
892
oil prices and a softening in global refinery margins. We do not
296
491
491
620
603
618
subscribe to this dismal top-down outlook. Tupras’ bottom-up Net Incom e
positives outweigh the bear outlook in the refining market, in our P / E
5.84
4.13
7.49
6.97
7.17
6.99
view.
4.21
2.69
5.32
4.73
4.83
4.57
EV/EBITDA
Bull run in crude comes to an end
Week Month Year
YTD
Oil prices came under heavy selling pressure recently, sliding below $ 52 % Change
per barrel, the lowest level since 2005 summer. The pullback stemmed Close YTL
2.1
1.7
0.8
1.7
largely from rising inventories in North America due to continued mild
3.2
1.8
-5.3
0.9
weather. Selling by hedge funds also played a part. Given limited spare Close $US
-4.6
0.6
6.7
-1.2
capacity, broad based global economic growth, and deep rooted geopolitics Rel. Index
risks, we see the pullback in oil prices as a correction.
in $US
Week Month Year
YTD
Refining market started to loosen
16.7
16.5
14.3
16.5
Min Close
Refining margins traditionally weaken in winter due to reduced driving. The
17.3
17.5
21.3
17.3
correction was more pronounced this time as warm weather accelerated Max Close
22.4
16.9
25.0
19.8
switch from heating oil to gasoline products. Rapid growth in US ethanol Avg Vol m n$
production, on the back of government support, also put pressure on
gasoline balances.
Tupras margins are more resilient than its peer group
Blessed by its proximity to a variety of crude oil producers, Tupras refiners are configured to process sour crude. This has
given Tupras a competitive edge over many Western European refiners which are relatively dependent on sweeter Brent
crude. Tupras announced its December refinery margins at 3.97 $/bbl, 0.9 $/bbl higher than Mediterranean complex refinery
margins.
Ready to reap rewards of the modernization investments
Tupras has reached the final stages of a major investment plan which aim at;
(i) Increasing yield of high value white products through establishment of hydro crackers, CCR reformers and isomerisation
units
(ii) Improving product quality to reach EU standards through establishment of desulphurization units.
By the end of 2006, $ 1.7 billion of the $ 2.1 billion investment plan has been completed. The Nelson complexity indices of
Izmit and Izmir will rise from 6.2 to 7.8 and from 6.4 to 7.7 respectively. After the completion of the remaining $ 0.4 billion
investment in July 2008, the Nelson Index of Kirikkale refiner will increase from 5.3 to 6.3.
Improvement in product mix shift has just started
With the completion of investment, white products yield will increase from 66% in 2005 to 74.5% in 2008. This will provide an
additional $ 378 million EBITDA. One fourth of this amount will be reflected on 2006 P&L, while the remainder will come
progressively between 2007 and 2009.
Entered into distribution business with Opet acquisition
By acquiring 40% of Opet shares from Aygaz, Tupras entered into the downstream distribution business. Tupras was generally
criticized due to lack of its retailing arm. Entering into downstream business will help Tupras to smooth volatility in its cash flow
while providing direct access to the end consumer. As for synergies, the integration will expand the company’s hinterland in
the Black sea and Mediterranean regions and increase its distribution capabilities through product and location swap
opportunities.
Robust cash flow growth even in a bear market
Tupras’ EBITDA is expected to increase by 5% to $ 840 million in 2006, on the back of a shift in product mix towards higher
value added products. Going forward, the company’s EBITDA is estimated to increase steadily, despite our over cautious
assumption of a 2.5 $/bbl decline in Mediterranean refinery margins over the next four years.
Target maintained despite drastic turn in oil market
Notwithstanding the negative outlook in petroleum products market, we maintain our price target for Tupras due to our over
cautious assumptions factored in our model. Our $ 6.1 billion target Mcap for 2007 end indicates a 41% upside potential.
10
Equity Recommendations
TSKB
Ric Code:
Share Price
YTL 2.76
Market Cap
$US 1.94
Target Price
TSKB
5.0
$US 582 mn
YTL 3.58
4.0
Weaknesses
Low Risk Profile
Lack of long term TL funding
Opportunities
Threats
1.0
Increasing competition
0.0
in
project
finance
45
40
35
30
25
20
15
10
5
0
18/01/07
Volume
(mn YTL)
TSKB
3.0
Strengths
Growth
Close
(YTL)
2.0
06/02/06
01/05/06
25/07/06
TSKB remains our top pick in the small-cap banking universe.
The bank is attractively valued on a P/E multiple of 5.7 x based on
2007 prospective earnings and on a P/BV(2007E) multiple of 1.0. In
our Turkish Banking Universe, those valuations represent a unique
investment opportunity for our investors, rendering a perfect
combination of value and growth prospects.
($US m n)
Book Value
2003
2004
205
284
413
415
426
Net Interest Inc
33
89
101
90
127
Net Incom e
29
35
75
80
81
P / E%
1.74
2.75
5.33
7.26
7.17
P / BV %
0.44
0.49
1.7
1.40
1.36
Promising 2007 outlook: Although the bank operates as an
investment and development bank, thus having to settle for tighter
margins, it is poised to substantially shift its profitability higher in the
coming periods. Despite the turbulence in the economy back in
May, the bank’ loan book recorded 32% YoY growth in 2006. The
loan book growth will likely remain strong in 2007 as the bank has
no retail banking exposure, which will likely be more sluggish in
2007 compared to the previous two years, and mainly finances the
mid and large companies with strong export revenues.
% Change
2005 2006E 2007E
Year
YTD
Close YTL
16.5
-2.1
-21.9
7.0
Close $US
17.7
-2.0
-26.6
6.2
Rel. Index
8.9
-3.2
-17.3
4.0
Year
YTD
in $US
Min Close
Max Close
Avg Vol m n$
Week Month
18/10/06
Week Month
1.7
1.6
1.1
1.6
1.9
1.9
3.2
1.9
10.8
4.8
4.8
6.6
B/S risks at minimum: The growth rates will be achieved with a conservative risk profile. Interest rate risk in terms of maturity
and pricing is trivial as its average maturity of the loan books is substantially lower than those of its funding base. Assets and
liabilities are priced based on floating rates thus creating no mismatch. TSKB is also one of the least vulnerable banks in the
system to the fluctuations of the currency given that assets and funds are matched in terms of currencies.
New areas to fuel the growth: TSKB will be able to fund the state sector- starting from 2007, which has been calling off its
investments due to the restrictions imposed by the IMF. The privatisations and prospective increase in government spending
will bring a large number of projects to the banks’ agenda. As a well established player in project financing, TSKB could
capture a sizable share in this investment spree. Increasing energy investments both by the private and state sectors poses a
growth opportunity in project financing for TSKB. We will see more environmental investments along with the new energy and
other projects. The bank also has the expertise in private company bonds issues, which have long been nonexistent in the
Turkish Financial System. The new environment offers new opportunities for a rejuvenation of corporate bond markets, which
bodes well for a bank like TSKB, the first corporate bond issuer in the country. A longstanding relationship with international
credit institutions might also bring some growth opportunities in the newly emerging mortgage business. Following the
expected enactment of New Mortgage Bill in 2007, TSKB could be a player as an intermediary creditor to financial institutions
in this area. TSKB management appears quite keen to explore this newly emerging market. Investment banking is another
area where the bank is poised to grow. TSKB creates solid synergies through its recently merged (with TSKB brokerage
house) brokerage firm. The firm serves the parent as the distribution channels and commission income generation vehicle.
Note that the bank will also start to announce its consolidated results starting from 2007.
Long term profitability set to stage at higher values: TSKB is a bank that generates 20% ROE with merely 2% loan
spreads. The loan book is composed of FX currency loans due to lack of longer term non-deposit TL funding in the system,
which will gradually change over time as the financial system evolves and renders longer term non-deposit TL term funding
capabilities. Its balance sheet is dominated by FX assets and liabilities, yet the proportion of TL in the balance sheet is set to
grow dramatically given the bank’s high equity base, along with the improving macro conditions, to create non-deposit TL
funding in the system. Our dividend discount model suggests TRY 3.66 per share for the bank in one year investment horizon.
We have incorporated 20% sustainable ROE and 9% growth rate assumptions in our model. Based on the current prices,
TSKB’s fair value yields 50% upside potential.
11
Equity Recommendations
YAZIC
Share Price
YTL 33.25
$US 23.36
Ric Code:
Market Cap
Target Price
YAZIC
$US 934 mn
YTL 48.34
60.0
50.0
Close
(YTL)
30
Volume
(mn YTL)
YAZIC
25
Strengths
Weaknesses
40.0
20
Suucessful Bevarge business and
high discount to NAV
Complicated ownership structure
30.0
15
20.0
10
Opportunities
Threats
10.0
5
0.0
New business opportunities
06/02/06
01/05/06
0
25/07/06 18/10/06 18/01/07
($US m n)
Sales
Anadolu Efes is among the companies which will be least affected from EBITDA
slowing down growth and possible market fluctuations in 2007, due to its Net Incom e
high international exposure and the defensive nature of the beverage P / E
2003
421
54
87
1.69
A cheaper way to own Anadolu Efes
business. Yazıcılar Holding currently trades at 45% discount to its Net Asset Valuatio
current NAV. The market value of holding’s 35% stake at Anadolu
% Change
Efes at $1.2bn is 30% higher than its participations.
Beverages business accounts for 70% of company’s total non-banking
consolidated reveunues, while automotive (mainly Anadolu Isuzu and
Celik Motor, wihich is the distributor of Kia branded vehicles in Turkey)
makes up 24%. Yazıcılar owns 34.5% stake at Anadolu Elektronik
(Samsung distributorship) and 67% stake at McDonalds Restaurants ,
two new business lines of the group, currently having a limited
contributions.
Close YTL
Close $US
Rel. Index
in $US
Min Close
Max Close
Avg Vol m n$
2004
343
76
98
3.34
Mcap / NAV
-46%
Week Month
-0.7
-5.7
0.3
-5.5
-7.2
-6.7
Week Month
23.0
22.6
23.4
25.5
1.4
1.2
2005
515
87
135
5.65
Target Mcap/NAV
-45%
Year
-7.3
-12.9
-1.9
Year
18.5
36.7
1.1
YTD
-7.6
-8.3
-10.3
YTD
22.6
25.3
1.6
Anadolu Endustri Holding will sell half of its stake at Alternatifbank to the JV formed by Anadolu Group and Alpha Bank of
Greece. The cash proceeds are likely to be used in expanding in new businesses. Privatisation of electricty distribution
tenders (to be held after the elections in November 2007), and the National Lottery, might create new groowth opportunities
for the group.
Our target Mcap for the holding includes a 20% discount to NAV, implies a 46% upside potential.
Yazıcılar Holding NAV Breakdown ($USmn)
LISTED Subsidiaries
Company
Sector
Anadolu Efes Beverage
Anadolu Isuzu Automotive
Alternatifbank Banking
Adel Kalemcilik Sationary
Total
Unlisted Subsidiaries
Ticker
AEFES
ASUZU
ALNTF
ADEL
Company
Valuation method
4.8x 2006 E EV/EBITDA
Celik Motor
Sector
Automotive
Total
NET CASH
TOTAL NAV
MCAP
% PREM / (DISC) TO NAV
% PREM / (DISC) TO target NAV
12
% stake
35%
36%
61%
39%
Mcap
3418
142
400
32
3992
% stake
67.9%
Target Mcap
3300
200
400
32
Estimated
value
184
184
Participated
Mcap
1199
52
245
12
1508
Target
Participated
Mcap
1158
73
245
12
1488
Participated value
125
125
15
1,649
914
-44.6%
-43.9%
Equity Recommendations
Mac
omy
n
o
c
ro E
Political agenda is loaded
Politics will be on the agenda all throughout the year as the presidential election will
take place in the first half of the year and the general elections are scheduled to take
place in the second half of the year. This means that political tension will be high all
through 2007.
There is a strong link between the two elections. Nowadays the favorite question is “will
Prime Minister Erdogan run for presidency?” The answer’s importance is twofold. It is
obviously important to know who will hold the post for the next 7 years, which is longer
than even the next government’s term. Secondly, the effect of Mr. Erdogan’s candidacy
on the performance of the currently ruling AKP in the upcoming general election is also
equally important.
Presidential election:
According to the Turkish constitution, the President of Turkey is the head of the state
and equipped with a strong authority in both legislation and execution. Naturally, AKP
does not want to miss the opportunity of electing the President, which has a 7-year
term, while having the majority in the Parliament.
Current President Ahmet Necdet Sezer has strong secular ties and a law background
which has sometimes slowed down the legislation process and created disputes
between the government and the President. Therefore, having a President with close
connections to AKP will make the legislation process run more smoothly for AKP, who
is still the biggest candidate for the next government.
Coming back to the aforementioned question, we believe that even Mr. Erdogan has
not made up his mind yet. Recent polls suggest that more than 50% of the respondents
are not supporting the presidency of Mr. Erdogan, but the same does not apply for his
prime ministry.
Surely, the presidency is a very attractive post for a young and an ambitious politician
like Mr. Erdogan, but the future of AKP is very important as well. Many believe that the
personal charisma of Mr. Erdogan is crucial for attracting voters to AKP.
But who will be the candidate if Mr. Erdogan does not run for presidency? This is
another tough call. The alternative candidate needs to be someone who will not start a
negative chain reaction in the public opinion and in AKP.
So far, it seems that AKP will not give any clues on this issue until mid April, which is
the beginning of 10-day official period to announce candidacy. The new President will
take over the House in mid May. Meanwhile, since opposition parties follow only the
strategy of preventing the possible candidacy of PM Erdogan, rather than suggesting
their own candidates, the fog surrounding the presidential elections gets even thicker.
Do You Think PM Erdogan w ill run for Presidency?
Do You Support the Presidency of Mr. Erdogan?
Yes, 33.7%
No, 22%
No, 57.6%
Yes, 59%
Source: Metropoll
13
Source: Metropoll
Macroeconomy
General Elections:
The second million-dollar question of the year is the general elections. Political stability
was the missing piece in the puzzle for Turkey for so many years. When AKP took over
the office in 2002, it was the first time, since 1987, that Turkey was able to enjoy a
single party government.
AKP
CHP
ANAP
Independent
DYP
Other
Total
# of deputies
354
153
21
9
4
3
544
Source: The Parliament
Economic agents like stability. The strong investment performance of the private
sector which was being crowded-in by the decreasing borrowing requirement of the
public institutions, falling inflation which has been backed by fiscal discipline and
improvements in the investment environment were all fruits of single party stability.
Therefore what markets are concerned regarding the upcoming election is not
the color of the vote, but the continuation of the stable investment environment.
Recent public polls signal that although the AKP has weakened compared to the
2002 election, it is still the leading party.
SONAR Poll Results
January
April
June
September November
AKP
43,32%
33,58%
29,99%
25,51%
27,61%
CHP
13,35%
15,56%
19,21%
20,08%
18,32%
DYP
11,08%
13,36%
12,65%
13,09%
13,26%
MHP
8,06%
9,56%
8,43%
12,21%
13,04%
ANAP
4,16%
5,64%
6,50%
6,31%
5,01%
DTP
5,16%
5,02%
5,67%
4,41%
4,24%
DSP
3,65%
4,90%
7,19%
7,19%
8,14%
SHP
1,64%
2,70%
3,04%
2,99%
2,09%
Others
3,73%
3,19%
3,06%
*After the distrib ution of the hesitant votes
Source: Sonar
According to different surveys, there is a declining support for AKP, but the voters who
have abandoned AKP do not have a common destination. The fragmented structure of
the opposition helps AKP to sustain its leading position. While the main opposition
party, CHP is still the second party according to the surveys, the support for nationalist
MHP and right-wing DYP is increasing.
The current picture suggests that, most likely, we will observe a three or four party
parliament after the elections.
Continuation of AKP’s single party government or a coalition government in which AKP
has the majority are the most likely outcomes and would be market-friendly results.
Any coalition which would exclude AKP -although a remote possibility- will be deemed a
negative outcome, hurting the stability.
Still, the hesitant voters have an important share which means that a struggle to attract
these votes will continue among the political parties until the last minute.
All in all, both presidential and general elections will cast a shadow of
uncertainty over Turkey’s economic performance in the short term. But those
investors with a longer horizon should not commit the fallacy of not being able to
see the forest from the trees and check more medium term fundamentals.
14
Macroeconomy
Two important anchors: EU and the IMF
The current Stand-by arrangement, which will last until 2008, includes some $ 10 billion
of credit support for Turkey. The IMF completed the fifth review of the arrangement in
late 2006 and ruled in favor of the continuation of the Stand-by arrangement. So far, a
credit tranche totaling some $5.5 bn has been released under this Stand-by
arrangement.
Meanwhile, Turkey’s EU commitment, which dates back to the early 1960s, is another
important anchor. It is a long walk to full membership. What awaits Turkey at the end of
the road is not certain of course, but it is a road paved with many reforms and is
therefore beneficial to the Turkish economic fundamentals.
Turkey and the EU came to a crossroads at the end of last year, due to disputes mostly
over Cyprus. Subsequently, the EU decided to partially suspend some chapters.
Although this decision has somewhat weakened the ties, the EU is still an important
anchor for Turkey.
In the run-up to the elections, there might be a slow-down in the reforms. This
poses an important threat for the Turkish economy. Most likely, rooted reforms
will be pending in 2007 until the post-election period. During this period, we
expect the close relationships with the IMF and the EU to be preserved but with
slower advancement.
Macroeconom ic Scenario*
GDP (YTL m illion)
2002
2003
2004
2005
2006
2007
277.6
359.8
430.5
487.2
562.7
626.2
GDP ($ billion)
184.3
241.2
302.7
363.3
390.8
412.0
7.9
5.8
8.9
7.4
5.0
4.0
Unem ploym ent (%)
10.3
10.5
10.3
10.3
10.2
10.3
CPI (%, YoY, end of period)
29.7
18.4
9.3
7.7
9.7
7.0
25.3
8.6
8.2
9.4
7.9
13.9
13.8
2.7
11.6
7.0
GDP Grow th (real, %, YoY)
CPI (%, YoY, average)
PPI (%, YoY, end of period)
30.8
Real interest (ex-ante, year end)
31.6
14.8
11.4
7.5
11.0
12.0
Nom inal interest rates (com p.,bench, %)
55.7
25.5
20.3
13.4
21.0
19.0
TL/$ exchange rate (year-end)
1.640
1.393
1.336
1.342
1.412
1.601
TL/basket ($+0.77€) exchange rate (year-end)
2.963
2.747
2.740
2.564
2.845
3.180
Trade Balance
-15.5
-22.1
-34.3
-43.1
-53.0
-56.0
Exports-FOB ($ billion)
36.1
47.3
63.1
73.4
85.0
93.0
Im ports-CIF ($ billion)
51.6
69.4
97.4
116.6
138.0
149.0
Current Account Balance ($ billion)
-1.5
-8.04
-15.6
-23.1
-33.5
-31.5
-7.6%
Current Account Balance (/ of GDP)
Cent. Gov. Cons. Budget Balance (%of GDP)
Cent. Gov.Cons. Budg Prim ary Surp(% of GDP)
-0.8
-3.3
-5.2
-6.4
-8.6
-14.6
-11.2
-7.1
-2.1
-1.0
-3.5
4.3
5.2
6.1
7.4
7.0
4.5%
Source: Turkstat, MoF, Is Invvestment estimates
15
Macroeconomy
High flyer is about to perform a soft-landing
Growth
Performance
Led by the performance of the private sector, the Turkish economy was one of the
fastest growing emerging markets between 2002 and 2005. Together with the Turkish
Central Bank’s commendable conduct of its monetary policy, fiscal discipline has
contributed to slashing inflation and has laid the basis for strong and sustained growth.
With Turkey’s increasing potential output growth, a stable economic environment has
been established.
10
Real GDP Grow th
YoY, %
8
Country Group Name
Av. 02-05
World
4.4
Advanced economies
2.3
Major advanced economies (G7)
2.1
European Union
1.7
Other emerg. market and dev. count.
6.7
Central and eastern Europe
5.3
Turkey
7.5
6
4
2
0
-2
Average annual GDP
growth during the
program: 7.5%
-4
-6
-8
Source: SIS
-10
1992
1994
Ten years’ average
annual growth:2.8%
1996
1998
2000
2002
2004
2006
GDP growth has averaged 7.5% over the last four years, compared to the 2.7%
average over the previous ten years. The bright side of the picture is the fact that the
high and sustained growth is still being driven by investments (mainly machinery and
equipment) and productivity growth. Therefore the private sector steps forward as the
growth engine.
1991-2001 median grow th*
2002-2005 median grow th*
Private consumption
(%)
4
6.9
Public consumption
4.8
2.9
Fixed capital formation-public
3.1
-3
Fixed capital formation-private
6.3
18.9
GDP
4.7
7.2
*Median of seasonally adjusted quarterly data
In contrast with the view which advocates that Turkey has sacrificed economic growth
by accumulating high primary surpluses, the tight fiscal policy has proved a mainstay in
securing a virtuous cycle of confidence. Success in the expansionary fiscal contraction
is the most important asset of the Turkish economy when compared to other emerging
markets: crowding-in the private sector’s investment. Hence, the public sector
contributed to GDP growth through infrastructure and investment expenditures as well
as the real increase in transfer expenditures.
The economy grew by some 3.4% YoY in the third quarter, securing a 5.5% YoY growth
in the first nine months of the year. The lower-than-expected growth rate in the third
quarter is good news for the Central Bank as it wipes away the risk of a possible
demand-pushed inflation. As the economy cools down, the imports will lose steam,
providing a cold comfort on the foreign-trade front as well.
16
Macroeconomy
Real Grow th
2005 2005
YoY, %
Q1
Q2
GDP
6.6
5.5
GNP
7.5
4.7
Supply Side
Agriculture
4.3
8.2
Industry
6.6
3.9
Construction
20.6 25.4
Trade
7.0
5.0
Dem and Side
Private Consumption
4.1
3.9
Foods and beverages
3.3
8.6
Durable Goods
3.2
2.9
Semi/Non Durable Goods 9.0
3.0
Public Consumption
4.4
4.0
Public Investment
30.7 30.2
Private Investment
8.8
18.4
Change in Stocks*
0.7
-0.7
Exports
14.0
6.7
Imports
10.6
9.1
*percentage point contribution to GDP
2005
Q3
7.7
8.0
2005
Q4
9.5
10.2
2006
Q1
6.5
6.4
2006 2006
Annual
Q2
Q3 2004 2005
7.8
3.4
8.9
7.4
8.8
3
9.9
7.6
7.5
5.7
25.6
7.5
-0.1
10.1
14.8
9.9
5.4
4.5
27.1
7.0
-1.6
10.8
14.7
7.5
10.4
10.8
26.0
3.7
3.2
38.2
29.0
-2.8
3.9
11.2
16.7
8.7
31.3
39.6
0.0
17.1
41.6
-6.5
10.9
15.3
8.4
6.7
13.4
12.7
8.1
34.5
30.4
-4.2
2.9
8.2
10.4 1.3
5.6
-1.1
16.5 -8.9
22.4 20.9
18.0 15.4
-11.4 -5.6
15.4 13.0
0.4
-2.2
3.4
5.7
9.5
1.7
-2.0
6.4
20.0
3.7
2.0
9.4
4.6
12.8
5.6
6.5
21.5
7.4
10.1
2.8
29.7
18.8
0.5
-4.7
45.5
1.1
5.4
10.3
8.8
8.2
15.0
12.9
2.4
25.9
23.6
-2.5
3.8
5.5
The third quarter figures clearly show that private consumption is running out of steam.
The tight monetary policy has helped slow down demand for credit, a trend especially
evident for auto-loans.
8
Consumer Loans and Credit Cards*
7
(weekly % chg.)
Credit Cards
Auto loans
Housing
6
5
4
3
2
1
0
Source:CBRT
-1 *Smoothed with 4 weeks moving average
01/0305/0308/0311/0302/0406/0409/0412/0403/0507/0510/0501/0604/0607/0611/06
Although the slow-down is evident, we do not foresee the threat of a hard landing
for the economy. Strong export demand has fueled industrial production, which
will help Turkey secure growth of at least 4% in 2007. The continuation of the growth
trend, albeit with a moderation, will ensure a more rapid recovery after the slow-down.
We believe that the economy will grow by at least 5-6% on average in the coming
decade.
50
40
YoY %
change
Exports and Industrial Production
YoY %
change
25.0
20.0
15.0
30
10.0
20
5.0
10
0.0
0
-5.0
-10.0
-10
01/03 05/03 09/03 01/04 05/04 09/04 01/05 05/05 09/05 01/06 05/06 09/06
Exports Quantity Index (l.h.s.)
17
Industrial Production (r.h.s)
Macroeconomy
More of a structural problem
Foreign Trade
While strong export demand is supportive on the production front, it is important to take a
glance at the foreign trade balances. According to our estimates, Turkey has posted a
foreign trade deficit of roughly $53 bn in 2006, with $85.5 bn in exports and $138.5 bn in
imports. In addition to strong domestic demand, the rising imports of consumption goods
and high energy prices were other factors pressuring the foreign trade deficit in 2006.
9000000
Imports of reaw material (exc. oil)
total export
8000000
7000000
6000000
5000000
4000000
3000000
2000000
1000000
10/06
07/06
04/06
01/06
10/05
07/05
04/05
01/05
10/04
07/04
04/04
01/04
10/03
07/03
04/03
01/03
0
Although the taming of domestic demand and decreasing energy prices will come as a
relief on the import front, it would be unrealistic to expect an immediate recovery. It
should be noted that due to the high share of imported-raw materials in exported goods,
increasing export demand fuels the import of raw materials. Therefore we do not
expect any improvement on the foreign trade front in 2007 with a year-end foreign
trade deficit estimate of $56 bn, representing a 6% YoY improvement.
C/A deficit: Achilles' Heel
Turkey’s impressive growth performance, coming in a very short period of time, raised
the external financing need, especially of the private sector. When combined with high
domestic demand and high energy prices, a gaping current account deficit became
inevitable. To make things worse, the contribution of the service sector was low in 2006.
The tourism sector was severely hit by the Avian flue virus first and then the World Cup
in Germany, while rising tensions in neighboring countries added further pressure to this
weak performance.
Current Account
Financing of the current
account deficit ($ m n)
1.Current Account Deficit
2.Net Errors and Omissions
I. Total Financing Need (1+2)
II. Total Financing (A+B+C)
A.Capital Flow s (net)
FDI
Portfolio Investments (net)
Credits (excluding IMF)
Deposits and oth.
B.IMF credits
Central Bank
Government
C.Reserve Changes ("-" is incr.)
Banks' FX assets
Official Reserves
Source: CBRT, Is Investment
18
2005
-2,474
-859
-3,333
3,333
7,371
2,817
3,713
-548
1,389
-413
0
-413
-3,625
-4,680
1,055
2006
-33,679
-2,226
-35,905
35,905
57,220
19,550
10,264
26,240
1,166
-4,364
-325
-4,039
-16,951
-11,009
-5,942
2006
Jan
-2,210
-742
-2,952
2,952
7,328
677
2,069
3,858
724
-157
0
-157
-4,219
-2,271
-1,948
2006
Feb
-3,222
-1,453
-4,675
4,675
8,304
237
1,211
4,759
2,097
-1,477
0
-1,477
-2,152
1,859
-4,011
2006
March
-3,099
1,160
-1,939
1,939
1,697
310
298
2,827
-1,738
-156
0
-156
398
1,547
-1,149
2006
April
-3,995
1,025
-2,970
2,970
2,343
454
-585
1,718
756
-156
0
-156
783
1,175
-392
2006
May
-3,910
763
-3,147
3,147
5,583
6,680
-3,107
2,989
-979
-1,514
0
-1,514
-922
-2,253
1,331
2006
June
-2,724
61
-2,663
2,663
3,028
517
-836
3,241
106
-159
0
-159
-206
-2,250
2,044
2006
2006
2006
July August Sept.
-1,865 -1,541 -1,723
498 -2,225
-229
-1,367 -3,766 -1,952
1,367
3,766
1,952
2,662
5,418
2,557
148
3,258
225
1,716
1,616
786
814
368
2,370
-16
176
-824
-254
331
0
0
0
0
-254
331
0
-1,041 -1,983
-605
-1,289 -1,615
77
248
-368
-682
2006
Oct.
-2,474
-859
-3,333
3,333
7,371
2,817
3,713
-548
1,389
-413
0
-413
-3,625
-4,680
1,055
2006
Nov.
-3,152
1,721
-1,431
1,431
2,751
1,971
1,093
-46
-267
-1,521
0
-1,521
201
-226
427
Macroeconomy
Although the year-end figure is not yet available, our projections signal a C/A deficit to
GDP ratio of 8.5-9% in 2006. As Turkey’s need for external financing increases, so does
its vulnerability. Despite some weakness in domestic demand and slowing
economic activity, we only expect a limited recovery in the C/A deficit to GDP ratio
in 2007. Export demand will continue to lift imports higher through import of raw
materials, and energy prices will hang over the current account like a sword of
Damocles, adding further uncertainty.
Different scenarios for C/A deficit
Oil price assumption ($/bbl)
50
55
Import of other mineral fuels (excl. oil) ($ bn)
13
14
Import of crude petroleum ($ bn)
8.75
9.63
Total Energy Bill Import ($ bn)
22
24
C/A deficit
27
29
C/A deficit / GDP
6.6%
7.1%
60
16
10.5
26
32
7.6%
65
17
11.375
28
34
8.2%
70
18
12.25
31
36
8.7%
Despite the gaping C/A deficit in 2006, the financing side was quite successful. Due to
government’s commitment to privatization, there were high FDI inflows within the year.
On a full year’s perspective, FDI inflow will be financing more than 50% of the 2006’s
current account deficit. The strong capital inflow helped the government accumulate
reserves despite the turmoil in the summer. In the first ten months of the year, official
reserves rose by some $4 bn, and when the change in the banks’ reserves is included
total increase in the reserves stands at some $14 bn.
Current financing is important for the current account deficit, but even more important is
the continuation of the financing, and we expect a weakening in the FDI flow. Let’s see
what we already have on the FDI plate in 2007.
*The 21% stake sale of Akbank to Citibank is completed, securing around $3 bn of FDI
flow at the beginning of 2007.
*There will be an installment payment of $1.3 bn from Saudi Oger for the privatization of
Turk Telekom, to be recorded within the year. (full payment of $4.3 bn is also a
possibility)
*The tender call for Finansbank shares is estimated to bring around $2.2 bn.
The table below shows other small items which might be added to list, carrying the
total to some $12 bn., financing roughly 38% of the expected C/A deficit in 2007.
#
1
2
3
4
5
6
7
8
9
10
11
12
13
19
Very recently, the government postponed the privatization of electricity distribution
agents until the post-election period, which signaled that the commitment for privatization
is weakening in the run up to the elections. Therefore we think that the privatization of
Halkbank, seems to be a weaker possibility now. Our conservative FDI expectation
therefore excludes the sale of Halkbank.
Target Company
Bidder Company
Seller Company Expected inflow
Alternatifbank
Alpha Bank
Anadolu Group
200
Eczacibasi Ilac's pharma busineses Teva, Sanofi-Aventis
Eczacibasi Ilac
250
Is REIT ( 50 % stake at Kanyon)
Is Group
250
Demirdokum
Ferroli, Baxi, Vaillant
Koc Holding
260
ShowTV (25% shares)
CanWest
Cukurova Group
60
Ak Emeklilik
Aksigorta
100
Garanti Sigorta, Garanti Emeklilik
Garanti Bank
300
Şekerbank
455
Ports
1400
Finansbank (tender call)
2237
Akbank
Citi
3100
Turk Telekom
Saudi Oger
1300
Other
2000
SUM
11,912
Macroeconomy
Eyes on Inflation
Turkey’s not-so-brilliant track record in inflation has begun to change with the 2001
economic program. Central Bank was successful in its implicit inflation targeting during
2002-2005 and managed to decrease the headline CPI to 7.7%, from an average of
75.5% in 1990-2000.
Inflation
However, 2006, being the first year of explicit inflation targeting, has been an
unfortunate year on the inflation front, as it was trapped by severe exogenous shocks.
Without a doubt, Turkey’s own vulnerabilities were the main reasons amplifying the
effect of these exogenous shocks on the economy.
During the turmoil of the May-June period, the TRY depreciated by some 22% against
an equally weighted currency basket. The CBRT’s own projections signal that the passthrough from depreciated TRY pressured the annual inflation by some 3.5 bps. in 2006,
while indirect effects are expected to continue in 2007.
Meanwhile, record high energy and oil prices pressured the production front, with an
inevitable reflection on consumer prices. Energy prices rose by 37% YoY while the
petroleum segment in the PPI posted some 17% YoY increase.
Another pressure factor was the unprocessed food prices. Compared to some 6% YoY
increase in 2005, unprocessed food prices posted 13% YoY increase in 2006. Turkey’s
agriculture, which is mostly based on traditional production techniques, is highly
vulnerable against unfavourable weather conditions. Therefore, the uncertainty in food
prices casts a shadow over inflation expectations.
On the back of all these factors, the CPI jumped from 7.7% at the end of 2005 to 9.7%
at the end 2006. Although the year end inflation remained under the so-called
psychological level of 10% (hence a single digit), it significantly exceeded the targeted
level of 5%.
CPI
PPI
(%, Dec. 06)
YoY
(%, Dec. 06)
YoY
CPI
Food
Alch.& tobac.
Clothing
Housing
9.7
11.2
5.1
1.9
14.0
PPI
Agriculture
Industry
Mining
Manufacturing
11.6
2.5
13.8
13.6
12.3
Furnishing
Health
Transport
Communication
Recreation
Education
Hotels, cafe,
Source: Turkstat
7.3
7.9
10.2
1.3
8.3
7.7
13.5
Food
Textile
Petroleum
Chemicals
Basic Metal
Machinery
Energy
3.8
13.8
17.1
11.1
32.0
11.2
36.9
CPI
1. Goods
Energy
Unprocessed Food
Excluding energy and unprocessed food
Durable Goods
Durable goods excluding gold
Semi Durables
Non Durables
2. Services
Rent
Restaurants and Hotels
Transportation
Other
YoY change
Dec-06
Dec-05
9.65
7.72
8.69
6.21
10.52
7.65
12.94
6.34
6.93
5.71
6.61
6.91
2.78
5.94
7.81
4.85
9.82
7.07
12.21
12.68
20.01
20.48
13.54
14.98
12.89
17.97
8.45
6.92
Core Inflation Indicators
2004
2005
2006
A
Core CPI Inflation Indicators
Excluding seasonal products
10.24
8.39
10.04
B
Excluding unprocessed food products
10.13
7.78
9.21
C
Excluding energy
8.74
7.75
9.51
D
(B) and (C)
(C) and excl. alch. bev. and tobac. prod.
9.55
7.84
8.95
8.57
6.58
9.82
(E) and excl. the prod. of administrated prices,
and exc.indirect taxes
9.01
6.75
11.25
E
F
20
G
(F) and (B)
9.90
6.61
10.99
H
(D) and excl. alch.bev. tobac.prod.and gold
9.46
6.32
8.89
Macroeconomy
What will happen next? Despite overshooting the inflation target in 2006, the CBRT
continues to preserve its target of 4% for 2007. To be honest, we think that this
target is not attainable.
We still mark many troubles for the period ahead. Disinflation in Turkey is exposed to:
*Sticky service sector prices: The inflation in the service sector is some 12% in 2006
(increases in the rent:20% YoY), surpassing the headline CPI.
*Uncertainty in the unprocessed food prices: Does not signal for significant easing.
*Dependency to energy: Any negative shock in world energy prices would hit the
inflation front.
*Fiscal front: We share the same concern with the CBRT that, 2007 budget is not
supportive to the inflation front.
*Global uncertainties: You can not predict what will happen, but the uncertainties are
there.
The graphs below justify our view that there is a downward trend in inflation but the
improvement will be rather slow and limited due to the aforementioned risks. The trend
of inflation is downward but the pace is extremely slow.
CPI_YoY
12.0%
Linear (CPI_YoY)
H_type_core_inflation
Linear (H_type_core_inflation)
12%
11%
10%
11.0%
10.0%
Source: Turkstat, Is Invest calculations
10/06
07/06
04/06
01/06
10/05
07/05
04/05
01/05
10/04
01/04
10/06
7/06
4/06
1/06
10/05
7/05
4/05
1/05
10/04
5%
7/04
6.0%
4/04
7%
6%
1/04
7.0%
07/04
8.0%
04/04
9%
8%
9.0%
Source: Turkstat, Is Invest calculations
With all these risks on the table, markets are cautious in their inflation expectations.
The credibility gap is still wide standing at 3 pp for 2007. When expectations are hurt,
this triggers backward pricing habit which is a very important threat for the CBRT.
CBRT’s move to hike the rates significantly by 425 bps in total from 13.25% to 17.5%
was an important move, taming the inflationary concerns of the market players up to
some extend. But CBRT is still a long way from narrowing the credibility gap.
All in all, while the downward trend in inflation will continue in 2007, the result
will be far away from the target. We preserve our 2007 CPI estimate at 7%. The
current picture does not entail any reason for the change of current monetary
policy of CBRT in the short term. If conditions improve there might be a total of
100 bps rate cut in the second half of the year.
Source: Metropoll
21
Benchmark Bond Yield (Compounded)
33
O/N Rates (Compounded)
%
28
23
18
01-07
10-06
07-06
04-06
01-06
10-05
07-05
04-05
01-05
10-04
07-04
04-04
13
01-04
Central Bank Survey Results (Expectations)
January 1st Half
CPI (next 12 months)
6.90
CPI (next 24 months)
5.30
O/N (end of current month)
17.50
O/N (next 3 months)
17.50
O/N (next 12 months)
16.00
Y.E. $Exchange Rate
1.5500
12 m ahead $Exchange Rate
1.5650
GNP Grow th Rate
4.8
* Figures are median expectations.
Source: Metropoll
Macroeconomy
Concerns for the election year are becoming more evident
Central Government
Budget
Turkey has enjoyed a strong fiscal discipline in the recent four years, thanks to the
strong commitment of the single party government. While government spending was
limited, the revenue side performed well on the back of tax revenues boosted by
domestic demand.
While the balances have strongly improved, the social security system and the state
owned enterprises (SOE) remained to be the main obstacles. The government’s
commitment to the social security reform was interrupted by the decision of the
Constitution Court, annulling some articles of the reform. Although it was announced
that the reform process was postponed to July 1st, 2007, we believe this reform requires
strong government commitment which means that the reform attempts might be
postponed to the post-election period.
2006 Central Governm ent
Novem ber
Budget (m n YTL)
Expenditures
13,365
Interest Expenditures
3,267
Primary Expenditures
10,097
I.Personnel & Soc. Sec. Prem.
3,731
1,575
II.Purchase of goods& services
III.Current Transfers
3,598
Social Security
1,834
Agricultural Subsidy
10
Budget Balance
3,850
Prim ary Balance
7,118
2006 Central Governm ent
Budget (m n YTL)
157,701
44,068
113,633
39,529
14,199
46,121
22,630
4,559
64
44,131
Budget
Target (II)
174,322
46,260
128,062
40,995
17,721
49,108
23,285
4,000
-13,996
32,264
Realization (%)
( I/II )
90
95
89
96
80
94
97
114
n.m .
137
Novem ber
JanuaryNov.(I)
Budget
Target (II)
Realization (%)
( I/II )
16,864
13,422
5,695
7,728
4,791
1,189
3,036
2,342
1,276
153,439
125,952
40,126
85,825
54,519
14,839
33,632
24,874
24,447
156,214
132,199
42,123
90,076
59,407
16,337
37,276
24,253
21,372
98
95
95
95
92
91
90
103
114
Revenues
I.Tax
Direct
Indirect
Domestic Market
VAT
Special Cons. Tax
Foreign Trade
II.Non-tax
Jan.-Nov.(I)
In the run-up to the elections, we do not expect the government to stick to strong fiscal
discipline. In our opinion, 2007 budget has many deficiencies. The expenditures are
expected to increase by 17% YoY, versus only 9% YoY increase in revenues.
We do not expect any improvement in the social security system in 2007 which is still a
burden on the budget. SMOs will be another burden, due to their unprofitable structure.
If the government acts in a populist way in the run-up to the elections, this would distort
the budget balances even further. We project a budget deficit to GNP of 3.5% in 2007
above the government’s own projection of 2.7%.
We expect that unlike the previous years, the fiscal front will not be supporting
the disinflation efforts in 2007, being another pressure factor over inflation.
7
Primary Surplus / GNP
%
6
1991-2006 average 5.9%
5
1990-2000 average 1.2%
4
3
2
1
22
2007E
2005
2004
2003
2002
2006E
Source: Ministry of Finance, Is Investment
2001
2000
1999
1998
1997
1996
1995
1994
0
Macroeconomy
This report has been prepared by “İş Yatırım Menkul Değerler A.Ş.” (İş Investment) solely for the information of clients of İş
Investment. Opinions and estimates contained in this material are not under the scope of investment advisory services.
Investment advisory services are given according to the investment advisory contract, signed between the intermediary
institutions, portfolio management companies, investment banks and the clients. Opinions and recommendations contained in
this report reflect the personal views of the analysts who supplied them. The investments discussed or recommended in this
report may involve significant risk, may be illiquid and may not be suitable for all investors. Investors must make their decisions
based on their specific investment objectives and financial positions and with the assistance of independent advisors, as they
believe necessary.
The information presented in this report has been obtained from public institutions, such as Istanbul Stock Exchange (ISE),
Capital Market Board of Turkey (CMB), Republic of Turkey, Prime Ministry State Institute of Statistics (SIS), Central Bank of
the Republic of Turkey (CBT); various media institutions, and other sources believed to be reliable but no independent
verification has been made, nor is its accuracy or completeness guaranteed.
All information in these pages remains the property of İş Investment and as such may not be disseminated, copied, altered or
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without the prior written permission of İş Investment.
23
Macroeconomy