Investment Highlights

• We upgrade our recommendation on Petronas Chemicals Group (PChem) to BUY from HOLD with a higher fair value of RM10.40/share (from an earlier RM9.60/share) based on an unchanged FY19F EV/EBITDA of 10x — 3 SDs above its 3-year average of 8x given the stock’s correlation to crude oil prices.

• Our PChem’s FY18F-FY20F earnings have been raised by 12%– 3% as its FY18 net profit of RM5,139mil (excluding a 1QFY18 exceptional loss of RM160mil mainly from the RM3.8bil disposal of a 50% equity stake in PRPC Polymers S/B to Saudi Aramco) exceeded expectations, coming in 9%–15% above our and consensus estimates. This is the group’s best earning performance, breaching RM5bil, since its listing in 2010.

• The strong outperformance stems from the group’s 4QFY18 average plant utilization surging to 94% from 79% in 3QFY18 while its average product prices did not decline as much as the crude oil price drop of 11% during the quarter.

• Earlier, we had expected a 4QFY18 earnings decline in tandem with the decrease in polyethylene (-11%), benzene (-21%), methanol (-10%) and polypropylene (-6%) amid excess capacity from the Middle East and China. This was partly offset by a 2% QoQ depreciation in the ringgit vs. the USD.

• The group declared a final dividend of 18 sen, which raised FY18 DPS by 5 sen YoY to 32 sen – 1 sen above our forecast.

• On a YoY comparison, FY18 revenue rose 13% due to higher product prices, a slight 1ppt improvement in plant utilization rate to 92% and the full-year contribution of Petonas Chemical Fertiliser Sabah S/B (formerly Sabah Ammonia Urea plant) in May 2017. Together with a 5ppt reduction in effective tax rate to 10%, FY18 core net profit climbed 23%.

• PChem’s 4QFY18 core net profit rose 3% QoQ to RM1,292mil mainly from the rebound in plant utilization rates given the 3QFY18 turnaround activities in the methanol and ASEAN Bintulu Fertiliser plants, partly offset by softer product prices and a 7ppt increase in effective tax rate to 12%, which still benefited from Labuan’s Global Incentive For Trading (GIFT) incentive.

• The group’s product prices have a strong correlation to Brent crude oil prices which have increased by 28% since 31 September 2018 to almost US$67/barrel currently. Likewise, naphtha has risen by 18%, benzene 14%, paraxylene 9% and ethylene 7%. We will provide further updates following the group’s analyst briefing later this evening.

• PChem currently trades at a reasonable FY19F EV/EBITDA of 9x, which translates to a 27% discount (vs. its 3-year average discount of 17%) to Taiwan-based Formosa Petrochemicals’ premium 12.3x, while its dividend yields are fair at 4%.

Source: AmInvest Research - 25 Feb 2019