Investment Highlights

• We reiterate BUY on Petronas Chemicals Group (PChem) with an unchanged fair value of RM10.60/share, pegged to an FY21F EV/EBITDA of 10x and a premium of 3% for our ESG rating of 4 stars. This is 1 standard deviation above its 2-year EV/EBITDA average of 8.6x.

• Pending the announcement of PChem’s 1HFY21 results on 25 August, we maintain our FY21F–FY23F earnings, which are 18%–24% above consensus despite street estimates rising by 13%–31% over the past 3 months.

• Even though petrochemical price trends were mixed amid the upswing in crude oil prices in 2Q2021, we remain bullish on PChem’s earnings prospects given the strong correlation to its share price as rising naphtha costs should eventually lift petrochemical product prices.

• In 2Q2021, crude oil price rose 13% QoQ while polyethylene rose by only 4% QoQ, which led to its 5-year average discount to naphtha widening to 27% (Exhibit 9). Nevertheless, other products improved more substantively QoQ with benzene rising 42%, paraxylene 21%, urea 16% and methanol 12%.

• Hence, we expect these higher product prices to propel PChem’s FY21F net profit by 2.6x YoY to RM4,850mil, which is similar to the normalised earnings achieved by the group in FY18 when Brent crude oil averaged US$73/barrel.

• Recall that PChem’s 1QFY21 net profit surged 2.1x QoQ to RM1,461mil from higher product prices in tandem with crude oil prices, which surged by 32% QoQ to an average US$61/barrel, despite a flattish sales volume.

• Given a 1–2-month time lag between product price movement and recognition in PChem's revenue, we expect 2HFY21 earnings onwards to stage a stronger delivery as Brent crude oil prices traded at or above the US$70/barrel threshold currently vs. a 2Q2021 average of US$69/barrel.

• Meanwhile, the group has entered a fresh 3-year cycle of high plant turnaround and maintenance activities in Kerteh, Gebeng, Labuan and Bintulu with FY21F capex expected to rise by 73% YoY to RM2.6bil from RM1.5bil in FY20.

• Notwithstanding the higher turnaround activities, management maintains its plant utilisation rate (PU) target of over 90% across the next 3 years vs. 90% in 1QFY21.

• PChem’s FY21F capex will comprise RM700mil for the turnaround of 5 major facilities, RM600mil for ongoing maintenance, RM650mil for its 50%-owned Pengerang Integrated Complex’s (PIC) new petrochemical operations and RM600mil for growth projects.

• With product prices currently on an upswing, we expect the group’s jointly-owned petrochemical plant in the PIC to break even at pre-tax levels. Assuming an operating margin of 10% (lower than 12% in Lotte Chemical Titan’s 2QFY21 results given PChem’s start-up costs), we estimate that the Pengerang division together with its wholly-owned isononanol plant, which costs US$442mil, could add a slight RM70mil annually upon full commencement to the group’s pretax profit.

• As Petronas’ refinery and cracker have been delayed by the Covid-19 pandemic and earlier by an explosion in March last year, we have not incorporated any Pengerang contribution into FY21F earnings. Recall that the Petronas Petrochemical Complex has annual production capacities of 900K tonnes for polypropylene, 350 tonnes for low density polyethylene, 400 tonnes for high density polyethylene and 740 tonnes for glycols, while the isononanol plant will have 250 tonnes.

• Given the improving earnings prospects of the group’s PIC operation in tandem with higher petrochemical price prospects, PChem currently trades at an attractive FY22F EV/EBITDA of 7.1x, 17% below its 2-year average of 8.6x.

Source: AmInvest Research - 12 Aug 2021