Pending further clarification from the management, we are still unclear of the extent of damage and the cause of fire and explosion of ARDS in PIC. That said, given that PIC is operated as an integrated model, a disruption in the value chain may affect commercialisation of the petrochemical plants. Coupled with unknown feedstock transfer pricing and estimated weaker ASPs in FY19, we maintain HOLD rating with lower TP of RM9.30 (from RM9.76) based on 9.5x FY19 EV/EBITDA (from 10x).

Fire and explosion at PIC. Last Friday, a fire and explosion occurred at the Atmospheric Residue Desulphurisation (ARDS) unit (not owned by PCHEM) which is currently under commissioning stage within Pengerang Integrated Complex (PIC). The fire was contained within 30 minutes and the case is current under investigation.

Impact remains uncertain. Pending further clarification from management, we are still unclear of the extent of damage and cause of the fire and explosion. Note that the ARDS unit is used to produce low-sulphur fuel oil and hydrotreated feedstocks. Based on our channel check, we understand that PCHEM’s petrochemical plants are unaffected. Petronas has two ARDS units in Pengerang and the other ARDS unit has yet to be commissioned. Further detailed investigations are likely to be carried out in order to avoid future accidents and this may potentially delay the commercialisation process. Furthermore, operation of only one ARDS unit may also result in production bottleneck and hence capping the maximum production in the near term until the affected ARDS unit is being fully repaired and commissioned.

Can PIC still be commercialised by 4Q19? PIC petrochemical plants were last guided at 96% mechanical completion as of Feb-19 and management is eyeing for commercialisation by Oct-19. As highlighted in the conference call in end Feb, management targeted to ramp up utilisation to 70% in the first 3-6 months and to 90% subsequently. Given that Pengerang’s plant is operated as an integrated model, a disruption in the value chain may affect commercialisation of the petrochemical plant.

Weaker ASP in 1Q19. Petrochemical prices generally have staged a rebound in 1Q19 (vs 4Q18) following the recovery of crude prices but prices are still weaker YoY. Overall, we expect to see petrochemical prices under downward pressure YoY dragged by additional supply and weaker oil prices.

Feedstock transfer pricing. If PIC is able to kick in on time, PCHEM will increase its existing capacity by another 1.78m mtpa (net to PCHEM) or 14%. However, we have yet to obtain clear guidance on the feedstock transfer pricing from the Petronas-Saudi Aramco’s jointly owned crackers, which will materially affect its PIC profitability. The counter, in our view, will be re-rated from current level if the contribution from PIC can be assessed in a better way.

Forecast. We are keeping our FY19-20 earnings estimates as we have only imputed minimal earnings contribution in FY19 and lower ASPs based on oil price assumption of USD68-71/bbl in FY19-20.

Maintain HOLD with lower TP of RM9.30. Although we still like PCHEM for being Petronas’ petrochemical arm to benefit from downstream long term growth, share price may experience overhang in the near term due to: (i) volatile petrochemical prices dragged by volatile oil prices and additional supply, (ii) uncertainty over potential delay in PIC and (iii) transfer pricing on PIC’s feedstock. In view of the abovementioned factors, we maintain HOLD rating with lower TP of RM9.30 (from RM9.76) based on 9.5x FY19 EV/EBITDA (from 10x). The re-rating catalysts would rest on stronger oil prices outlook, certainty on PIC’s commercialisation timeline and favourable transfer pricing guidance on PIC’s feedstock.

Source: Hong Leong Investment Bank Research - 15 Apr 2019