• Cut to SELL from Neutral, new MYR6 TP from MYR6.89, 13% downside. Petronas Chemicals’ 1Q23 results missed expectations due to weaker margins. The overall petrochemical market and specialty chemicals outlook remain unexciting amidst a weak recovery in demand. In the near term, we think the stock’s catalysts are lacking, while start-up costs for petrochemical plants at Pengerang Integrated Complex (PIC) could dampen margins.

• Missed expectations. 1Q23 core earnings of MYR677m (-67% YoY; -29% QoQ) missed expectations, at 13% and 14% of our and Street full-year estimates. The negative variation was largely led by weaker-than-expected margins. No dividend was declared, as expected.

• 1Q23 revenue fell 13% QoQ on weaker sales volumes amidst a lower plant utilisation rate of 96% (4Q22: 100%), coupled with lower product prices. Core earnings were down by 29% QoQ on lower margins (predominantly in the fertilisers and methanol (F&M) unit), masking narrowed losses from the specialties arm. 1Q23 core earnings plunged by 67% YoY, on both a weaker olefins and derivatives (O&D) contribution (-77%, lower product spreads, higher energy & utilities costs and pre-operation costs from a JV company) and F&M numbers (-55%, narrower margins).

• Outlook. PCHEM has recognised the pre-operation cost for its petrochemical plants in PIC in 1Q23, and these should recur in the next few quarters. The commercial operation dates of these plants are scheduled for 4Q23, with test runs to be completed in July-August. Management aims to achieve 40% utilisation for PIC this year. Meanwhile, the average ex-PIC plant utilisation rate for 2023 should rise to 90-91% (FY22: 89%). O&D prices upside is likely to be limited due to a weak demand recovery amidst new capacity additions. Fertiliser prices are expected to stabilise upon the start of the planting season, while the methanol outlook remains strong due to tight supply and demand. As for specialty chemicals, slight recovery was seen in 1Q23 – but the recovery in demand in 1H23 remained soft. Over the longer run, synergies are expected between PCHEM and Perstorp, capitalising on the latter’s technologies and maximising the potential of the former’s molecules. On another note, PCHEM’s ethane supply agreement with Petronas is up for renewal this year. Note that the other ethane supply contract was renewed for another 20 years, from end-2016 until 2036.

• We slash FY23-25 earnings estimates by 18-23%, premised on the anticipation of weaker margins. Post rolling forward our valuation base year, our TP drops to MYR6 – reflecting a lower 6x FY24F EV/EBITDA, at -1.5SD from the 5-year mean. We also applied a 4% ESG discount to PCHEM’s intrinsic value to derive our TP, as it has an ESG score of 2.8. Downside risks: Weaker-than-expected petrochemical prices and plant utilisation rates.

Source: RHB Research - 30 May 2023