The Engro Powergen IPO is coming up and you may be getting the question from the financial cognoscenti: do you plan to invest in this new listing? If you are not entirely sure what an IPO is, well … I won’t say that’s alright, but at least you have plenty of company.

My father (whose retirement portfolio I manage) once asked me: “What good does my investment in the stock market do for the overall economy?” The answer to his question is easiest when it is something like an initial public offering (IPO), particularly one like the Engro Powergen IPO. “The money you give Engro during this IPO will go towards paying down their debts and setting up a liquefied natural gas (LNG) terminal that will allow for the import of natural gas into the country and combat the crippling fuel shortage that we currently face.”

It is not every day that you get to directly invest in solving one of Pakistan’s biggest problems and the Engro Powergen IPO allows you an opportunity to do just that. My father, who spent his entire life in the military and is still in government service, would certainly approve. But does that mean you should pour all your patriotic money right into this? Well, keep reading first.

Getting there first has its attractions, but be sure to look before you leap

The fundamental way to think about any stock, whether it is an IPO or something that is already listed, is whether or not you believe the story that the management (and their investment bankers) are telling you. You need to ask yourself — and them, if you can get access — two questions: what assumptions are you making about the success of this company, and how likely are they to hold true in the future?

Now, as it turns out, Engro Powergen is actually one of the most remarkable companies in Pakistan. (Disclosure: I have previously done paid consulting work for the Engro Corporation, Engro Powergen’s parent company.) Here is why I really like it. It is a natural gas-fired power plant, which is the cheapest way to bring a new supply of electricity to the market, but it relies on something called “permeate gas”, which is something that nobody else wants and was being flared away before Engro decided to start using it to generate 217 megawatts of electricity.

Every other natural gas-fired power plant in Pakistan has to struggle and compete for its natural gas supply except this particular plant at Qadirpur. It is also a combined-cycle power plant, which means it is more efficient at turning fossil fuels into electricity than other types of power plants because it converts even waste heat into steam to run its turbines. If you are investing in electricity in Pakistan, this makes good sense so far.

And the Rs30.02 price per share is a dirt cheap offering, since that is only 4.5 times expected 2014 earnings, compared to a market average of closer to 7.5 times earnings.

So what’s the catch, you might ask. Well, for one thing, this is Pakistan and you are about to invest in energy, the one sector of the economy that has been most directly mangled by that bastion of economic wisdom, the federal government. Having second thoughts already? I thought as much.

The problem with this power plant, despite the brilliance of its business plan, is that it operates in an environment where it must sell electricity to government-controlled entities, run by the bumbling water and power ministry. But the law requires most power plants in the country to first sell to the government and then rely on the state-owned power companies to pay them for the electricity they produce. These state-owned companies, of course, are not very good at paying the power plants because an astonishingly large number of Pakistanis do not believe in paying their electricity bills.

Of course, the government issues ironclad guarantees to these companies that they will be paid, and that their profit margins are also guaranteed. But government guarantees are not what they used to be. If they were, there would be no load-shedding in Pakistan.

Now, to its credit, Engro has still been able to generate cash from this company and even pay out dividends. Engro Powergen is expected to continue paying dividends after it becomes publicly listed. Ultimately, that is the leap of faith that one has to make to invest in any stocks listed on the Karachi Stock Exchange: that the best Pakistani companies know how to deal with the issues that arise simply from operating in the Pakistani economic environment and still turn a profit.

Having said that, Engro is not exactly perfect in this case either. The power plant’s machinery — of Chinese origin — did malfunction in 2013, which caused the plant to shut down for a while, causing a drop in profit margins.

The point of this article, as with previous articles, is not to recommend a specific stock, but to illustrate how to think about investing. Engro Powergen appears to be a good company and the stock appears to be offered at an attractive price. But it does come with risk. What you need to ask yourself is whether you are willing to take that risk.

Published in Dawn, Sunday Magazine, September 21st, 2014