The weak 1HFY20 results were plagued by depressed product prices – in tandem with weaker crude oil prices and softer demands amidst peak pandemic periods. However, prices have started rebounding from its bottom in 2QFY20, and this may reflect in better earnings in coming quarters. Nonetheless, we feel current valuations to be reasonably unattractive, having more than adequately pricing in foreseeable positives. As such, we reiterate our MARKET PERFORM call with TP of RM6.45.

1HFY20 below expectations. 1HFY20 core net profit of RM552m (adjusted for forex gains and inventories write-backs) is deemed to be below expectations, coming in at 29%/30% of our/consensus full-year earnings forecasts. This was mainly due to poorer-than-expected market spreads, leading to weakened product margins. Similarly, dividends of 5.0 sen per share (versus 1HFY19 of 11.0 sen) also fell short of expectations. (Note that this report marks a change in coverage analyst).

Slump in earnings. 1HFY20 earnings plunged a staggering 71% YoY, dragged by declined product prices – in tandem with the weaker crude oil prices and softer demands in the peak pandemic periods, while the group’s plant utilisation also came in lower at 97%, vs. 99% last year. For the individual quarter of 1QFY20, core earnings also fell, by 85% YoY to RM159m. The lower plant utilisation (100% vs. 103%) was further exacerbated by lower product prices, similarly as a result of weak oil prices and softer demands. Note that during the quarter, there was a reclassification of costs of RM88m between the segments (olefins and derivatives reported numbers were adjusted higher, while fertilisers and methanol were adjusted lower), although this should have minimal impact towards the group’s bottom-line. Sequentially, while plant utilisation did improve to 100%, from 94% in 1QFY20, it was unable to offset the effects of weaker product prices, resulting in a profit drop of 60% QoQ.

Expecting stronger 2HFY20. Following the recovery of crude oil prices post April-2020, petrochemical product prices have also rebounded in similar fashion, given their high correlation. Prices for olefins and derivatives are expected to gradually rebound throughout the year as downstream demand improves amidst easing of lockdowns. Meanwhile, fertiliser demand was also generally less impacted by Covid-19, supported by major planting seasons. The group is also likely to uphold mid-90% plant utilisation throughout the rest of the year.

Maintain MARKET PERFORM. Post-results, our FY20/21E numbers are trimmed by 20%/5%, as we tweaked our margins spread assumptions. New TP of RM6.45 is pegged to 21x PER on FY21E, at +0.5SD above its 5-year mean to account for the improving quarters ahead (from previous TP of RM5.75 at 1.54x PBV). Nonetheless, despite the anticipated recovery in earnings prospects, we feel that current valuations are reasonably unattractive, having more than adequately priced in foreseeable positives. As such, we reiterate our MARKET PERFORM call, preferring to wait for more attractive valuations for entry.

Risks to our call include: (i) fluctuations in petrochemical product prices, and (ii) unexpected lower plant utilisation/maintenance

Source: Kenanga Research - 21 Aug 2020