PCHEM's 9MFY24 results were below our and street's estimates due to higher-than-expected losses from Pengerang Integrated Complex (PIC). Overall, product spreads improved slightly YoY while sales volume recovered due to lower maintenance. While industry macro is improving, we believe sustained losses from PIC will still cloud its near-term outlook. We cut our FY24-25F net profit, and reduce our TP by 9% to RM5.00 (from RM5.52) but maintain our MARKET PERFORM call. PCHEM is trading at close to its 5-year mean PER of 15x, and a potential catalyst would be if PIC proves to show a better earnings turnaround path.

Petronas Chemicals' (PCHEM) 9MFY24 core profit of RM1.5b (excluding exceptional items such as a RM1.2b unrealised forex loss and a RM353m gain on deferred payables related to the PIC) fell below our and consensus expectations, at 65% and 59% of full-year forecasts, respectively. The deviation was attributed to higher-than-expected start-up losses and unfavourable product spreads at PIC.

YoY, 9MFY24 revenue grew 8%, driven by higher plant utilisation in the olefins and derivatives, fertilisers, and methanol divisions, along with improved specialty division contributions from stronger selling prices.

Core net profit rose 10% YoY due to higher finance income. However, QoQ, revenue improved 3%, supported by higher sales volumes and product prices across all divisions. However, core profit declined 66%, primarily due to unfavourable product spreads, particularly at PIC. The group also faced start-up losses from the ramp-up in PIC utilisation and was further impacted by adverse USD/MYR exchange rate movements.

The key takeaways from PCHEM's analyst briefing are as follows:

1. The RM1b one-off unrealised forex loss in 3QFY24 stemmed from revaluation losses on PIC's payables (including feedstock and utilities) and shareholder loans provided by PCHEM to the JV. Nevertheless, we believe the trend will reverse in 4QFY24 as USD/MYR trends back up.
2. Management observed gradual signs of recovery in specialty chemicals demand, particularly in Europe and China, indicating that the division could rebound from its earnings trough beginning 4QFY24.
3. PIC is set to achieve full commercial operations by November 2024, though its earnings contributions have been reflected since 2QFY24 due to the group's accounting policy. While its utilisation rate is ramping up (currently 70%), we expect losses to narrow over time. However, profitability remains uncertain given the persistently narrow polyolefin-olefin spreads.

Outlook.Polyolefin prices have begun to recover, currently hovering slightly above USD1,000/MT. With the gradual recovery of the Chinese and European industrial economies, we expect polyolefin prices to be slightly stronger in FY25. On the other hand, urea prices are expected to range at USD300/MT, which is at its 8-year average price as the demand and supply gets into a balanced state globally, suggesting that its F&M division is likely to be stable YoY in FY25.

Forecasts. We cut FY24-25F earnings forecasts by 14-10%, respectively, after reflecting higher losses from PIC on the back of less favorable product spreads (-30% cut approximately).

Valuations. Our TP is cut by 9% to RM5.00 from (RM5.52) pegged to an unchanged 15x FY25F PER, in-line with the valuations of its Asian peers (e.g. PTT Chem, LG Chem, Formosa, LCTITAN). There is no change to our ESG rating (3-star rating) as appraised by us (see Page 5).

Investment case. We like the company due to: (i) signs of recovery of polyolefin prices supported by firm crude oil prices, (ii) recovery in its specialty chemicals division will be sustained in FY24 after a turnaround in FY23, and (iii) its superior margins vs. its peers due to a favourable cost structure. However, the upside to its share price is capped by the impending full commercial operations of PIC which is likely to be in the red. Even after excluding the start-up losses from PIC, the FY24F earnings still imply a PER of 15x, which is still at its 5-year historical average. Maintain MARKET PERFORM.

Risks to our call include: (i) worse-than-expected economic growth globally leading to weaker petrochemical prices, (ii) Pengerang Integrated Complex (PIC) costs exceeding estimates due to operational issues, and (iii) worse-than-expected oversupply in specialty chemicals, particularly in European region.

Source: Kenanga Research - 21 Nov 2024