Saudi Basic Industries Corp - Al Rajhi Capital
Saudi Basic Industries Corp Petrochemicals – Industrial SABIC AB: Saudi Arabia 31 July 2017
US$80.04bn Market cap
Fair price Current price
21%
US$93.09mn
Free float
Avg. daily volume
95.0 97.4
-2.5% over current as at 31/7/2017
Research Department Pritish K. Devassy, CFA Tel +966 11 2119370, [email protected]
Existing rating
Underweight
Neutral
Overweight
Neutral
Vol mn
RSI10
Performance Price Close
MAV10
MAV50
Relative to TADAWUL FF (RHS)
104.0
116.4
94.0
109.3
84.0
102.1
74.0
95.0
70 30 -10 20 15 10 5 07/16
10/16
01/17
05/17
Source: Bloomberg
Earnings estimates (SARbn)
2016
2017
2018
Rev
135.3
139.6
142.8
Rev growth
-8.6%
3.2%
2.3%
Gross Profit
42.7
48.3
48.4
31.5%
34.6%
33.9%
44.3
41.4
41.5
32.8%
29.6%
29.1%
Gross margin EBITDA EBITDA margin Net Profit
17.4
16.8
17.3
12.9%
12.0%
12.1%
EPS
5.8
5.6
5.8
DPS
4.0
4.5
4.6
Payout ratio
0.7
0.8
0.8
EV/EBITDA
7.64x
8.18x
8.16x
P/E
17.0x
17.7x
17.2x
Net margin
Source: Company data, Al Rajhi Capital
Saudi Basic Industries Corp Weak Q2; Expect tepid product prices in Q3 but improvement in costs. Maintain Neutral. SABIC reported weak Q2 numbers with top-line and bottom-line declining 5.2% and 29% q-o-q respectively, missing both our and consensus estimates. Lower product prices and sales volume, higher cost of sales, weak performance of affiliates ( particularly listed Petchem companies and Hadeed) and impairment charges at Ibn Rushd weighed heavily on Q2 earnings. So far in Q3, average prices are trading lower than Q2 levels across most Petchem and fertilizer products, which could result in sequentially lower Q3 revenue. Though sales could decline, costs are likely to improve resulting in better quarterly performance in Q3. More than near term performance, the primary driver for SABIC will be the outcome of key large projects, currently under feasibility stage. Based on our valuation model, we reiterate our earlier Neutral rating with a revised fair value of SAR95/share (average of relative and DCF valuations). The stock is currently trading at EV/2018 EBITDA of 8.2x, at a discount to global peers, similar to historical levels (Figure 6). We expect SABIC to pay DPS of SAR2.5/share in H2 (5.1% yield – forward 12M), given its robust FCF and optimal debt structure. Q2 details: a) Q2 revenue declined 5.2% q-o-q , primarily due to lower product prices coupled with lower sales volumes at its 100% owned subsidiary, Saudi Iron & Steel Company (Hadeed). Q2 top-line came in slightly lower than our (3.2%) and consensus estimates (~2%). Major chunk of the topline miss (vs our estimate) could be attributable to weaker than expected sales volume at Hadeed and lower Petchem sales at its listed subsidiaries (Yansab, Kayan and SAFCO). b) Despite a mid-single digit drop in product and lower feedstock prices, gross profit plunged 21% q-o-q in Q2 due to higher ‘other cost of sales’, particularly at its metal segment (8% q-o-q increase as per our calculation), resulting in gross margin of 30.8% in Q2, lowest since Q1 2016. c) SG&A is likely to have declined ~11% sequentially, in line with our expectation. SABIC charged an impairment of SAR578mn (SAR278mn, SABIC’s share) at its affiliate, Ibn Rushd during the quarter, pushing operating profit 35% q-o-q lower to SAR5.4bn, its lowest level in the last five quarters. d) Hadeed reported a net loss of SAR483mn in Q2 due to weak top-line and high operating costs. e) Overall net profit dropped ~29% qo-q as the weak operating performance, particularly at Hadeed plant, is likely to have been partially offset by improved non-operating items and lower minority distribution (more than 50% q-o-q drop in our view). Near term driver: Current run rates of key products imply weak petchem product prices in Q3. Historically, SABIC’s stock price has largely tracked petchem product-feedstock spreads (Figure 1) as almost 90% of total revenue comes from the petchem segment. Despite lower average feedstock prices (Naphtha: 4.8% q-o-q decline, Propane: 13.5% drop) so far in Q3, we believe that spreads are likely to remain weak sequentially in Q3 on lower product prices for some of key products, particularly Polyethylene prices (3% to 6% q-o-q decline so far in Q3; contributes around 30% to total petchem segment’s revenue). Additionally, MEG and PP prices remained almost unchanged (~23% of the segment’s revenue). On the other hand, improvement in Propylene, Methanol and Styrene prices this quarter, which together contribute ~18% to petchem
Please see penultimate page for additional important disclosures. Al Rajhi Capital (Al Rajhi) is a foreign broker-dealer unregistered in the USA. Al Rajhi research is prepared by research analysts who are not registered in the USA. Al Rajhi research is distributed in the USA pursuant to Rule 15a-6 of the Securities Exchange Act of 1934 solely by Rosenblatt Securities, an SEC registered and FINRA-member broker-dealer.
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
segment revenue, could provide some support to product spreads in Q3 (Figure 3). Moreover, our tracker model, which tracks weighted average product-feedstock spread and SABIC’s share price, also indicates that there is limited scope for trading opportunity in the near-term as positive divergence has already closed in (Figure 1), post ~8% rally in the share price this year. Unless key product prices recover and sustain throughout the quarter, we expect limited upside for SABIC in the near-term.
120
1,000
100
Spread ($/MT)
1,200
800
80
600
60
400
40
200
20
Spread
Q3 2017
Q2 2017
Q1 2017
Q4 2016
Q3 2016
Q2 2016
Q1 2016
Q4 2015
Q3 2015
Q2 2015
Q1 2015
Q4 2014
Q3 2014
Q2 2014
Q1 2014
Q4 2013
Q3 2013
Q2 2013
Q1 2013
-
Share price (SAR)
Figure 1 SABIC Price and Spread
SABIC Price
Source: Company data, Al Rajhi Capital, Bloomberg
Figure 2 Our estimate of product wise contribution to Petchem segment’s top-line in Q3
Figure 3 Product prices change in Q3 (q-o-q)
18.0%
25.0%
16.0%
20.0%
14.0%
15.0%
12.0%
10.0%
10.0%
5.0%
8.0%
0.0%
6.0%
-5.0%
4.0%
-10.0%
2.0%
Source: Company data, Al Rajhi Capital
Butanol
Caustic soda
Benzene
Butane 1
PS
Butadiene
Polycarbonates
LDPE
Butylene
Methanol
MTBE
Propylene
PP
Styrene
LLDPE
MEG
HDPE
Butanol
Caustic soda
Benzene
PS
Butane 1
LDPE
Butadiene
Butylene
MTBE
Methanol
PP
Propylene
LLDPE
Styrene
MEG
HDPE
Polycarbon…
-15.0%
0.0%
Source: Bloomberg, Al Rajhi Capital
Most Petchem products prices could improve marginally next year. While product prices are unlikely to improve significantly in 2017 due to ample supply and lower demand, we expect prices to improve marginally in 2018 as demand growth for most products surpasses supply growth, easing the oversupply slightly (source: Nexant). In the long-run, we forecast a gradual improvement in key product prices, supported by oil price recovery unless OPEC shifts to higher production or oil inventories continue to remain firm amid increased drilling activities. Long term driver. SABIC has been delivering declining return on equity (ROE) over the past couple of years (Figure 4), primarily due to challenging market dynamics and its large cash surplus. In Q1, SABIC had cash and short-term investments worth ~US$17.7bn (SAR66bn), which is nearly 22% of total current market cap of the company. Additionally, SABIC is a low
Disclosures Please refer to the important disclosures at the back of this report.
2
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
leverage company with debt to capital ratio standing at just 23% in Q1, lower than industry average. Figure 4 Declining ROE* …
Figure 5 Surplus cash and equivalents; Improving leverage …
22.0%
85.0
20.0%
38.0% 36.0%
80.0
34.0%
18.0% 75.0
32.0%
SAR'bn
16.0% 14.0% 12.0%
70.0
30.0%
65.0
28.0% 26.0%
10.0%
60.0
8.0%
55.0
6.0%
50.0
24.0%
Cash and ST Investments
Source: Company data, Al Rajhi Capital. Calculated based on average shareholders’ equity (before minority)
Q1 2017
Q4 2016
Q3 2016
Q2 2016
Q1 2016
Q4 2015
Q3 2015
Q2 2015
Q1 2015
Q4 2014
Q3 2014
Q2 2014
Q1 2014
Q4 2013
Q3 2013
Q2 2013
Q1 2013
Q4 2012
Q3 2012
Q2 2012
20.0% Q1 2012
Q2 2017
Q1 2017
Q4 2016
Q3 2016
Q2 2016
Q1 2016
Q4 2015
Q3 2015
Q2 2015
Q1 2015
Q4 2014
Q3 2014
Q2 2014
Q1 2014
Q4 2013
Q3 2013
Q2 2013
Q1 2013
Q4 2012
Q3 2012
Q2 2012
Q1 2012
4.0%
22.0%
Debt to capital (RHS)
Source: Company data, Al Rajhi Capital
SABIC is currently studying three different projects, which could boost earnings growth and put to use its cash/ability to take on more leverage. a)
In March 2017, SABIC signed a strategic agreement with Sinopec (China Petroleum and Chemical Corporation) to develop several joint venture petrochemical projects (worth US$4bn or SAR15bn as per media reports) in both Saudi Arabia and China. The agreement, which support Saudi Vision 2030, primarily caters downstream markets such as automotive, electronics, lighting, and building & construction etc. As per media reports, the new projects are likely to be funded through a mix internal accruals and debt, which we believe, is a right strategy to boost the shareholder’s return.
b)
SABIC is planning to jointly set up a greenfield coal-to-chemicals complex for an estimated investment of US$3.5bn (SAR13.1bn),along with China-based Ningxia Coal Industry in Ningxia Hui region, China. While the project will use the coal as a main feedstock, which will source locally, the facility will produce polymer derivatives products including LDPE, PP and EVA.
c)
SABIC and ExxonMobil are planning to develop a potential jointly-owned petrochemical complex on the U.S. Gulf Coast in Texas using natural gas feedstock, which would provide much needed geographical and feedstock diversification. The complex would include a world-scale ethane steam cracker with a capacity of 1.8mtpa of Ethylene, two polyethylene units and a MEG unit.
While the above projects are still under feasibility phase and will take time to add value, we believe that these projects, if approved, would be key to determine the share price trend of SABIC. On the other hand, we believe SABIC’s earnings performance in the near term would be more driven by newer smaller projects (such as synthetic rubber ethylene-propylenediene-monomer unit, Ibn Sina Polyoxymethylene (POM) Project in Jubail Industrial City, SAMAC Poly Methyl Methacrylate Plant etc.) coming online (apart from product-feedstock spread movement). Dividends likely to improve in H2 2017. SABIC announced a DPS of SAR2/share for H1 2017, implying 65% payout ratio. We expect SABIC to increase its DPS to SAR2.5/share in H2 2017, taking the full year DPS to SAR4.5/share (implying a 12m forward dividend yield of 5%). Valuation. We have revised our top-line and bottom line estimates lower around 3-4%, respectively to reflect weak Q2 results and latest price deck. Consequently, we have lowered Disclosures Please refer to the important disclosures at the back of this report.
3
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
our TP to SAR95/share based on our valuation model (average of relative and DCF valuations) but remain Neutral on SABIC. The stock is currently trading at an EV/EBITDA of 8.2x on our 2017E and 2018E EBITDA maintaining its discount compared to global peers as seen in Figure 6. Moreover, the stock has already increased ~8% this year and hence, we believe the most positive fundamentals are already priced in at the current level. Figure 6 Historical 1-Year Forward EV/EBITDA Multiples Trend 11.0x 10.0x 9.0x 8.0x 7.0x 6.0x 5.0x
SABIC
Jul-17
Jun-17
Apr-17
May-17
Jan-17
Feb-17 Mar-17
Dec-16
Oct-16
Nov-16
Sep-16
Jul-16
Aug-16
Jun-16
Apr-16
May-16
Mar-16
Jan-16
Feb-16
Dec-15
Oct-15
Nov-15
Sep-15
Jul-15
Aug-15
Jun-15
Apr-15
May-15
Jan-15
Feb-15 Mar-15
Dec-14
Oct-14
Nov-14
Sep-14
Aug-14
4.0x
MSCI World Chemical Index
Source: Bloomberg, Al Rajhi Capital
Risks. Key upside triggers are associated with faster than expected successful commercial launch of its future expansion projects and increase in product spreads. SABIC is most likely to be included in MSCI EM Index, generating additional global interest in the stock once Saudi Arabia upgrades to Emerging market list , which could eliminate the discount compared to global peers. Downside risks include weak oil & thereby significant decline in petchem product prices, unplanned plant shutdowns and any further unexpected revision in the subsidized feedstock prices. We do not forecast any impairments for Ibn Rushd in the future – any further impairments could be another downside risk. Figure 7 SABIC: Summary of Q2 2017 results Q2 2016 Q1 2017
(SAR bn)
Q2 2017
Revenue
36.3
37.0
35.1
Gross profit
12.9
13.7
10.8
35.6%
37.2%
30.8%
Gross profit margin
% chg y-o-y
% chg q-o-q
-3.3%
-5.2%
-16.4%
-21.5%
ARC est 36.2 13.3 36.6%
Operating profit
7.4
8.4
5.4
-26.7%
-35.0%
7.9
Net profit
5.0
5.2
3.7
-25.2%
-29.2%
4.9
Source: Company data, Al Rajhi Capital
Disclosures Please refer to the important disclosures at the back of this report.
4
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
IMPORTANT DISCLOSURES FOR U.S. PERSONS This research report was prepared by Al Rajhi Capital (Al Rajhi), a company authorized to engage in securities activities in Saudi Arabia. Al Rajhi is not a registered broker-dealer in the United States and, therefore, is not subject to U.S. rules regarding the preparation of research reports and the independence of research analysts. This research report is provided for distribution to “major U.S. institutional investors” in reliance on the exemption from registration provided by Rule 15a-6 of the U.S. Securities Exchange Act of 1934, as amended (the “Exchange Act”). Any U.S. recipient of this research report wishing to effect any transaction to buy or sell securities or related financial instruments based on the information provided in this research report should do so only through Rosenblatt Securities Inc, 40 Wall Street 59th Floor, New York NY 10005, a registered broker dealer in the United States. Under no circumstances should any recipient of this research report effect any transaction to buy or sell securities or related financial instruments through Al Rajhi. Rosenblatt Securities Inc. accepts responsibility for the contents of this research report, subject to the terms set out below, to the extent that it is delivered to a U.S. person other than a major U.S. institutional investor. The analyst whose name appears in this research report is not registered or qualified as a research analyst with the Financial Industry Regulatory Authority (“FINRA”) and may not be an associated person of Rosenblatt Securities Inc. and, therefore, may not be subject to applicable restrictions under FINRA Rules on communications with a subject company, public appearances and trading securities held by a research analyst account.
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Disclosures Please refer to the important disclosures at the back of this report.
5
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
Disclaimer and additional disclosures for Equity Research Disclaimer This research document has been prepared by Al Rajhi Capital Company (“Al Rajhi Capital”) of Riyadh, Saudi Arabia. It has been prepared for the general use of Al Rajhi Capital’s clients and may not be redistributed, retransmitted or disclosed, in whole or in part, or in any form or manner, without the express written consent of Al Rajhi Capital. Receipt and review of this research document constitute your agreement not to redistribute, retransmit, or disclose to others the contents, opinions, conclusion, or information contained in this document prior to public disclosure of such information by Al Rajhi Capital. The information contained was obtained from various public sources believed to be reliable but we do not guarantee its accuracy. Al Rajhi Capital makes no representations or warranties (express or implied) regarding the data and information provided and Al Rajhi Capital does not represent that the information content of this document is complete, or free from any error, not misleading, or fit for any particular purpose. This research document provides general information only. Neither the information nor any opinion expressed constitutes an offer or an invitation to make an offer, to buy or sell any securities or other investment products related to such securities or investments. It is not intended to provide personal investment advice and it does not take into account the specific investment objectives, financial situation and the particular needs of any specific person who may receive this document. Investors should seek financial, legal or tax advice regarding the appropriateness of investing in any securities, other investment or investment strategies discussed or recommended in this document and should understand that statements regarding future prospects may not be realized. Investors should note that income from such securities or other investments, if any, may fluctuate and that the price or value of such securities and investments may rise or fall. Fluctuations in exchange rates could have adverse effects on the value of or price of, or income derived from, certain investments. Accordingly, investors may receive back less than originally invested. Al Rajhi Capital or its officers or one or more of its affiliates (including research analysts) may have a financial interest in securities of the issuer(s) or related investments, including long or short positions in securities, warrants, futures, options, derivatives, or other financial instruments. Al Rajhi Capital or its affiliates may from time to time perform investment banking or other services for, solicit investment banking or other business from, any company mentioned in this research document. Al Rajhi Capital, together with its affiliates and employees, shall not be liable for any direct, indirect or consequential loss or damages that may arise, directly or indirectly, from any use of the information contained in this research document. This research document and any recommendations contained are subject to change without prior notice. Al Rajhi Capital assumes no responsibility to update the information in this research document. Neither the whole nor any part of this research document may be altered, duplicated, transmitted or distributed in any form or by any means. This research document is not directed to, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction where such distribution, publication, availability or use would be contrary to law or which would subject Al Rajhi Capital or any of its affiliates to any registration or licensing requirement within such jurisdiction.
Explanation of Al Rajhi Capital’s rating system Al Rajhi Capital uses a three-tier rating system based on absolute upside or downside potential for all stocks under its coverage except financial stocks and those few other companies not compliant with Islamic Shariah law: "Overweight": Our target price is more than 10% above the current share price, and we expect the share price to reach the target on a 12 month time horizon. "Neutral": We expect the share price to settle at a level between 10% below the current share price and 10% above the current share price on a 12 month time horizon. "Underweight": Our target price is more than 10% below the current share price, and we expect the share price to reach the target on a 12 month time horizon. "Target price": We estimate target value per share for every stock we cover. This is normally based on widely accepted methods appropriate to the stock or sector under consideration, e.g. DCF (discounted cash flow) or SoTP (sum of the parts) analysis. Please note that the achievement of any price target may be impeded by general market and economic trends and other external factors, or if a company’s profits or operating performance exceed or fall short of our expectations.
Contact us Mazen AlSudairi Head of Research Tel : +966 1 211 9449 Email: [email protected] Al Rajhi Capital Research Department Head Office, King Fahad Road P.O. Box 5561, Riyadh 11432 Kingdom of Saudi Arabia Email: [email protected] Al Rajhi Capital is licensed by the Saudi Arabian Capital Market Authority, License No. 07068/37.
Disclosures Please refer to the important disclosures at the back of this report.
6
US$80.04bn Market cap
Fair price Current price
21%
US$93.09mn
Free float
Avg. daily volume
95.0 97.4
-2.5% over current as at 31/7/2017
Research Department Pritish K. Devassy, CFA Tel +966 11 2119370, [email protected]
Existing rating
Underweight
Neutral
Overweight
Neutral
Vol mn
RSI10
Performance Price Close
MAV10
MAV50
Relative to TADAWUL FF (RHS)
104.0
116.4
94.0
109.3
84.0
102.1
74.0
95.0
70 30 -10 20 15 10 5 07/16
10/16
01/17
05/17
Source: Bloomberg
Earnings estimates (SARbn)
2016
2017
2018
Rev
135.3
139.6
142.8
Rev growth
-8.6%
3.2%
2.3%
Gross Profit
42.7
48.3
48.4
31.5%
34.6%
33.9%
44.3
41.4
41.5
32.8%
29.6%
29.1%
Gross margin EBITDA EBITDA margin Net Profit
17.4
16.8
17.3
12.9%
12.0%
12.1%
EPS
5.8
5.6
5.8
DPS
4.0
4.5
4.6
Payout ratio
0.7
0.8
0.8
EV/EBITDA
7.64x
8.18x
8.16x
P/E
17.0x
17.7x
17.2x
Net margin
Source: Company data, Al Rajhi Capital
Saudi Basic Industries Corp Weak Q2; Expect tepid product prices in Q3 but improvement in costs. Maintain Neutral. SABIC reported weak Q2 numbers with top-line and bottom-line declining 5.2% and 29% q-o-q respectively, missing both our and consensus estimates. Lower product prices and sales volume, higher cost of sales, weak performance of affiliates ( particularly listed Petchem companies and Hadeed) and impairment charges at Ibn Rushd weighed heavily on Q2 earnings. So far in Q3, average prices are trading lower than Q2 levels across most Petchem and fertilizer products, which could result in sequentially lower Q3 revenue. Though sales could decline, costs are likely to improve resulting in better quarterly performance in Q3. More than near term performance, the primary driver for SABIC will be the outcome of key large projects, currently under feasibility stage. Based on our valuation model, we reiterate our earlier Neutral rating with a revised fair value of SAR95/share (average of relative and DCF valuations). The stock is currently trading at EV/2018 EBITDA of 8.2x, at a discount to global peers, similar to historical levels (Figure 6). We expect SABIC to pay DPS of SAR2.5/share in H2 (5.1% yield – forward 12M), given its robust FCF and optimal debt structure. Q2 details: a) Q2 revenue declined 5.2% q-o-q , primarily due to lower product prices coupled with lower sales volumes at its 100% owned subsidiary, Saudi Iron & Steel Company (Hadeed). Q2 top-line came in slightly lower than our (3.2%) and consensus estimates (~2%). Major chunk of the topline miss (vs our estimate) could be attributable to weaker than expected sales volume at Hadeed and lower Petchem sales at its listed subsidiaries (Yansab, Kayan and SAFCO). b) Despite a mid-single digit drop in product and lower feedstock prices, gross profit plunged 21% q-o-q in Q2 due to higher ‘other cost of sales’, particularly at its metal segment (8% q-o-q increase as per our calculation), resulting in gross margin of 30.8% in Q2, lowest since Q1 2016. c) SG&A is likely to have declined ~11% sequentially, in line with our expectation. SABIC charged an impairment of SAR578mn (SAR278mn, SABIC’s share) at its affiliate, Ibn Rushd during the quarter, pushing operating profit 35% q-o-q lower to SAR5.4bn, its lowest level in the last five quarters. d) Hadeed reported a net loss of SAR483mn in Q2 due to weak top-line and high operating costs. e) Overall net profit dropped ~29% qo-q as the weak operating performance, particularly at Hadeed plant, is likely to have been partially offset by improved non-operating items and lower minority distribution (more than 50% q-o-q drop in our view). Near term driver: Current run rates of key products imply weak petchem product prices in Q3. Historically, SABIC’s stock price has largely tracked petchem product-feedstock spreads (Figure 1) as almost 90% of total revenue comes from the petchem segment. Despite lower average feedstock prices (Naphtha: 4.8% q-o-q decline, Propane: 13.5% drop) so far in Q3, we believe that spreads are likely to remain weak sequentially in Q3 on lower product prices for some of key products, particularly Polyethylene prices (3% to 6% q-o-q decline so far in Q3; contributes around 30% to total petchem segment’s revenue). Additionally, MEG and PP prices remained almost unchanged (~23% of the segment’s revenue). On the other hand, improvement in Propylene, Methanol and Styrene prices this quarter, which together contribute ~18% to petchem
Please see penultimate page for additional important disclosures. Al Rajhi Capital (Al Rajhi) is a foreign broker-dealer unregistered in the USA. Al Rajhi research is prepared by research analysts who are not registered in the USA. Al Rajhi research is distributed in the USA pursuant to Rule 15a-6 of the Securities Exchange Act of 1934 solely by Rosenblatt Securities, an SEC registered and FINRA-member broker-dealer.
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
segment revenue, could provide some support to product spreads in Q3 (Figure 3). Moreover, our tracker model, which tracks weighted average product-feedstock spread and SABIC’s share price, also indicates that there is limited scope for trading opportunity in the near-term as positive divergence has already closed in (Figure 1), post ~8% rally in the share price this year. Unless key product prices recover and sustain throughout the quarter, we expect limited upside for SABIC in the near-term.
120
1,000
100
Spread ($/MT)
1,200
800
80
600
60
400
40
200
20
Spread
Q3 2017
Q2 2017
Q1 2017
Q4 2016
Q3 2016
Q2 2016
Q1 2016
Q4 2015
Q3 2015
Q2 2015
Q1 2015
Q4 2014
Q3 2014
Q2 2014
Q1 2014
Q4 2013
Q3 2013
Q2 2013
Q1 2013
-
Share price (SAR)
Figure 1 SABIC Price and Spread
SABIC Price
Source: Company data, Al Rajhi Capital, Bloomberg
Figure 2 Our estimate of product wise contribution to Petchem segment’s top-line in Q3
Figure 3 Product prices change in Q3 (q-o-q)
18.0%
25.0%
16.0%
20.0%
14.0%
15.0%
12.0%
10.0%
10.0%
5.0%
8.0%
0.0%
6.0%
-5.0%
4.0%
-10.0%
2.0%
Source: Company data, Al Rajhi Capital
Butanol
Caustic soda
Benzene
Butane 1
PS
Butadiene
Polycarbonates
LDPE
Butylene
Methanol
MTBE
Propylene
PP
Styrene
LLDPE
MEG
HDPE
Butanol
Caustic soda
Benzene
PS
Butane 1
LDPE
Butadiene
Butylene
MTBE
Methanol
PP
Propylene
LLDPE
Styrene
MEG
HDPE
Polycarbon…
-15.0%
0.0%
Source: Bloomberg, Al Rajhi Capital
Most Petchem products prices could improve marginally next year. While product prices are unlikely to improve significantly in 2017 due to ample supply and lower demand, we expect prices to improve marginally in 2018 as demand growth for most products surpasses supply growth, easing the oversupply slightly (source: Nexant). In the long-run, we forecast a gradual improvement in key product prices, supported by oil price recovery unless OPEC shifts to higher production or oil inventories continue to remain firm amid increased drilling activities. Long term driver. SABIC has been delivering declining return on equity (ROE) over the past couple of years (Figure 4), primarily due to challenging market dynamics and its large cash surplus. In Q1, SABIC had cash and short-term investments worth ~US$17.7bn (SAR66bn), which is nearly 22% of total current market cap of the company. Additionally, SABIC is a low
Disclosures Please refer to the important disclosures at the back of this report.
2
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
leverage company with debt to capital ratio standing at just 23% in Q1, lower than industry average. Figure 4 Declining ROE* …
Figure 5 Surplus cash and equivalents; Improving leverage …
22.0%
85.0
20.0%
38.0% 36.0%
80.0
34.0%
18.0% 75.0
32.0%
SAR'bn
16.0% 14.0% 12.0%
70.0
30.0%
65.0
28.0% 26.0%
10.0%
60.0
8.0%
55.0
6.0%
50.0
24.0%
Cash and ST Investments
Source: Company data, Al Rajhi Capital. Calculated based on average shareholders’ equity (before minority)
Q1 2017
Q4 2016
Q3 2016
Q2 2016
Q1 2016
Q4 2015
Q3 2015
Q2 2015
Q1 2015
Q4 2014
Q3 2014
Q2 2014
Q1 2014
Q4 2013
Q3 2013
Q2 2013
Q1 2013
Q4 2012
Q3 2012
Q2 2012
20.0% Q1 2012
Q2 2017
Q1 2017
Q4 2016
Q3 2016
Q2 2016
Q1 2016
Q4 2015
Q3 2015
Q2 2015
Q1 2015
Q4 2014
Q3 2014
Q2 2014
Q1 2014
Q4 2013
Q3 2013
Q2 2013
Q1 2013
Q4 2012
Q3 2012
Q2 2012
Q1 2012
4.0%
22.0%
Debt to capital (RHS)
Source: Company data, Al Rajhi Capital
SABIC is currently studying three different projects, which could boost earnings growth and put to use its cash/ability to take on more leverage. a)
In March 2017, SABIC signed a strategic agreement with Sinopec (China Petroleum and Chemical Corporation) to develop several joint venture petrochemical projects (worth US$4bn or SAR15bn as per media reports) in both Saudi Arabia and China. The agreement, which support Saudi Vision 2030, primarily caters downstream markets such as automotive, electronics, lighting, and building & construction etc. As per media reports, the new projects are likely to be funded through a mix internal accruals and debt, which we believe, is a right strategy to boost the shareholder’s return.
b)
SABIC is planning to jointly set up a greenfield coal-to-chemicals complex for an estimated investment of US$3.5bn (SAR13.1bn),along with China-based Ningxia Coal Industry in Ningxia Hui region, China. While the project will use the coal as a main feedstock, which will source locally, the facility will produce polymer derivatives products including LDPE, PP and EVA.
c)
SABIC and ExxonMobil are planning to develop a potential jointly-owned petrochemical complex on the U.S. Gulf Coast in Texas using natural gas feedstock, which would provide much needed geographical and feedstock diversification. The complex would include a world-scale ethane steam cracker with a capacity of 1.8mtpa of Ethylene, two polyethylene units and a MEG unit.
While the above projects are still under feasibility phase and will take time to add value, we believe that these projects, if approved, would be key to determine the share price trend of SABIC. On the other hand, we believe SABIC’s earnings performance in the near term would be more driven by newer smaller projects (such as synthetic rubber ethylene-propylenediene-monomer unit, Ibn Sina Polyoxymethylene (POM) Project in Jubail Industrial City, SAMAC Poly Methyl Methacrylate Plant etc.) coming online (apart from product-feedstock spread movement). Dividends likely to improve in H2 2017. SABIC announced a DPS of SAR2/share for H1 2017, implying 65% payout ratio. We expect SABIC to increase its DPS to SAR2.5/share in H2 2017, taking the full year DPS to SAR4.5/share (implying a 12m forward dividend yield of 5%). Valuation. We have revised our top-line and bottom line estimates lower around 3-4%, respectively to reflect weak Q2 results and latest price deck. Consequently, we have lowered Disclosures Please refer to the important disclosures at the back of this report.
3
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
our TP to SAR95/share based on our valuation model (average of relative and DCF valuations) but remain Neutral on SABIC. The stock is currently trading at an EV/EBITDA of 8.2x on our 2017E and 2018E EBITDA maintaining its discount compared to global peers as seen in Figure 6. Moreover, the stock has already increased ~8% this year and hence, we believe the most positive fundamentals are already priced in at the current level. Figure 6 Historical 1-Year Forward EV/EBITDA Multiples Trend 11.0x 10.0x 9.0x 8.0x 7.0x 6.0x 5.0x
SABIC
Jul-17
Jun-17
Apr-17
May-17
Jan-17
Feb-17 Mar-17
Dec-16
Oct-16
Nov-16
Sep-16
Jul-16
Aug-16
Jun-16
Apr-16
May-16
Mar-16
Jan-16
Feb-16
Dec-15
Oct-15
Nov-15
Sep-15
Jul-15
Aug-15
Jun-15
Apr-15
May-15
Jan-15
Feb-15 Mar-15
Dec-14
Oct-14
Nov-14
Sep-14
Aug-14
4.0x
MSCI World Chemical Index
Source: Bloomberg, Al Rajhi Capital
Risks. Key upside triggers are associated with faster than expected successful commercial launch of its future expansion projects and increase in product spreads. SABIC is most likely to be included in MSCI EM Index, generating additional global interest in the stock once Saudi Arabia upgrades to Emerging market list , which could eliminate the discount compared to global peers. Downside risks include weak oil & thereby significant decline in petchem product prices, unplanned plant shutdowns and any further unexpected revision in the subsidized feedstock prices. We do not forecast any impairments for Ibn Rushd in the future – any further impairments could be another downside risk. Figure 7 SABIC: Summary of Q2 2017 results Q2 2016 Q1 2017
(SAR bn)
Q2 2017
Revenue
36.3
37.0
35.1
Gross profit
12.9
13.7
10.8
35.6%
37.2%
30.8%
Gross profit margin
% chg y-o-y
% chg q-o-q
-3.3%
-5.2%
-16.4%
-21.5%
ARC est 36.2 13.3 36.6%
Operating profit
7.4
8.4
5.4
-26.7%
-35.0%
7.9
Net profit
5.0
5.2
3.7
-25.2%
-29.2%
4.9
Source: Company data, Al Rajhi Capital
Disclosures Please refer to the important disclosures at the back of this report.
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Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
IMPORTANT DISCLOSURES FOR U.S. PERSONS This research report was prepared by Al Rajhi Capital (Al Rajhi), a company authorized to engage in securities activities in Saudi Arabia. Al Rajhi is not a registered broker-dealer in the United States and, therefore, is not subject to U.S. rules regarding the preparation of research reports and the independence of research analysts. This research report is provided for distribution to “major U.S. institutional investors” in reliance on the exemption from registration provided by Rule 15a-6 of the U.S. Securities Exchange Act of 1934, as amended (the “Exchange Act”). Any U.S. recipient of this research report wishing to effect any transaction to buy or sell securities or related financial instruments based on the information provided in this research report should do so only through Rosenblatt Securities Inc, 40 Wall Street 59th Floor, New York NY 10005, a registered broker dealer in the United States. Under no circumstances should any recipient of this research report effect any transaction to buy or sell securities or related financial instruments through Al Rajhi. Rosenblatt Securities Inc. accepts responsibility for the contents of this research report, subject to the terms set out below, to the extent that it is delivered to a U.S. person other than a major U.S. institutional investor. The analyst whose name appears in this research report is not registered or qualified as a research analyst with the Financial Industry Regulatory Authority (“FINRA”) and may not be an associated person of Rosenblatt Securities Inc. and, therefore, may not be subject to applicable restrictions under FINRA Rules on communications with a subject company, public appearances and trading securities held by a research analyst account.
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Disclosures Please refer to the important disclosures at the back of this report.
5
Saudi Basic Industries Corp Petrochemicals –Industrial 31 July 2017
Disclaimer and additional disclosures for Equity Research Disclaimer This research document has been prepared by Al Rajhi Capital Company (“Al Rajhi Capital”) of Riyadh, Saudi Arabia. It has been prepared for the general use of Al Rajhi Capital’s clients and may not be redistributed, retransmitted or disclosed, in whole or in part, or in any form or manner, without the express written consent of Al Rajhi Capital. Receipt and review of this research document constitute your agreement not to redistribute, retransmit, or disclose to others the contents, opinions, conclusion, or information contained in this document prior to public disclosure of such information by Al Rajhi Capital. The information contained was obtained from various public sources believed to be reliable but we do not guarantee its accuracy. Al Rajhi Capital makes no representations or warranties (express or implied) regarding the data and information provided and Al Rajhi Capital does not represent that the information content of this document is complete, or free from any error, not misleading, or fit for any particular purpose. This research document provides general information only. Neither the information nor any opinion expressed constitutes an offer or an invitation to make an offer, to buy or sell any securities or other investment products related to such securities or investments. It is not intended to provide personal investment advice and it does not take into account the specific investment objectives, financial situation and the particular needs of any specific person who may receive this document. Investors should seek financial, legal or tax advice regarding the appropriateness of investing in any securities, other investment or investment strategies discussed or recommended in this document and should understand that statements regarding future prospects may not be realized. Investors should note that income from such securities or other investments, if any, may fluctuate and that the price or value of such securities and investments may rise or fall. Fluctuations in exchange rates could have adverse effects on the value of or price of, or income derived from, certain investments. Accordingly, investors may receive back less than originally invested. Al Rajhi Capital or its officers or one or more of its affiliates (including research analysts) may have a financial interest in securities of the issuer(s) or related investments, including long or short positions in securities, warrants, futures, options, derivatives, or other financial instruments. Al Rajhi Capital or its affiliates may from time to time perform investment banking or other services for, solicit investment banking or other business from, any company mentioned in this research document. Al Rajhi Capital, together with its affiliates and employees, shall not be liable for any direct, indirect or consequential loss or damages that may arise, directly or indirectly, from any use of the information contained in this research document. This research document and any recommendations contained are subject to change without prior notice. Al Rajhi Capital assumes no responsibility to update the information in this research document. Neither the whole nor any part of this research document may be altered, duplicated, transmitted or distributed in any form or by any means. This research document is not directed to, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction where such distribution, publication, availability or use would be contrary to law or which would subject Al Rajhi Capital or any of its affiliates to any registration or licensing requirement within such jurisdiction.
Explanation of Al Rajhi Capital’s rating system Al Rajhi Capital uses a three-tier rating system based on absolute upside or downside potential for all stocks under its coverage except financial stocks and those few other companies not compliant with Islamic Shariah law: "Overweight": Our target price is more than 10% above the current share price, and we expect the share price to reach the target on a 12 month time horizon. "Neutral": We expect the share price to settle at a level between 10% below the current share price and 10% above the current share price on a 12 month time horizon. "Underweight": Our target price is more than 10% below the current share price, and we expect the share price to reach the target on a 12 month time horizon. "Target price": We estimate target value per share for every stock we cover. This is normally based on widely accepted methods appropriate to the stock or sector under consideration, e.g. DCF (discounted cash flow) or SoTP (sum of the parts) analysis. Please note that the achievement of any price target may be impeded by general market and economic trends and other external factors, or if a company’s profits or operating performance exceed or fall short of our expectations.
Contact us Mazen AlSudairi Head of Research Tel : +966 1 211 9449 Email: [email protected] Al Rajhi Capital Research Department Head Office, King Fahad Road P.O. Box 5561, Riyadh 11432 Kingdom of Saudi Arabia Email: [email protected] Al Rajhi Capital is licensed by the Saudi Arabian Capital Market Authority, License No. 07068/37.
Disclosures Please refer to the important disclosures at the back of this report.
6
