PTT Global Chemical

PTT Global Chemical Plc (PTTGC)
What’s new? There were rumors in the market that the revenue-sharing formula between PTTGC and PTT might be adjusted from 70:30 to 60:40.
Potential gas price adjustment under negotiation, but… Our recent discussions with PTT and PTTGC managements suggest that there might be some misunderstanding in the market. The issue was clarified as follows:
There are negotiations regarding a potential adjustment to the gas price (not to the revenue-sharing formula). The negotiations were prompted by higher oil prices (US$100/bbl currently versus $80/bbl in 2007-08). As such, the revenue-sharing formula and the concept of equal IRR remains the same. However, the price negotiations between PTTGC and PTT have yet to be discussed formally. Any adjustment must be mutually agreed and must be a win-win conclusion for both parties.
…will take some time: The gas price adjustment last time around in 2008 took about two years to conclude—negotiations started in 2006 and agreement was reached in 3Q08. In addition, this issue should be studied by a third party. As such, we think that it will take some time before a new gas price would become effective—next year at the earliest.
Cost competitiveness to still exist: Our sensitivity analysis indicates that if the wellhead gas price were to rise by 10-30% (implying a 3-8% increase to the cost of Ethane), PTTGC's FY12 and FY13 net profits would fall by 4-14% (Figure 1). Even if the gas price were to increase, PTTGC would remain very competitive against regional players. It would still enjoy a fatter spread than any Naphtha-based chemical producer, assuming a 30% wellhead gas cost rise. The HDPE-Ethane spread would be US$808/t versus an HDPE–Naphtha spread of $525/t.
Moreover, as PTTGC is PTT’s petrochemical flagship, we believe that the ongoing discussions will also consider the potential benefits that PTTGC should get to support its long-term value creation. For example, PTTCG may have access to excess gas supply to be used as feedstock for its expansion projects in the long-term.
Action: We think that the 23% share price fall during the past two weeks has overcompensated for concerns about global economic uncertainty together with the possibility of an upward adjustment in the gas price. Even though the gas price will remain an overhanging issue, we think that the stock price dive constituted an overreaction, as the current valuation implies a 130% rise in the wellhead gas cost or a 37% increase in the cost of Ethane, much steeper than the 20% upward adjustment to the Ethane cost in 2008.
PTTGC currently trades close to its bearish valuation level—at an FY12 PER of 7.6x (0.8SD below its long-term average), which is a 29% discount to the Asian mean of 10.6x—and a YE12 PBV of 1.1x—a 40% discount to the regional average of 1.8x. Based on Morgan Stanley’s forecast that the Chinese economy will recover in 2H12, we think a chemical price and spread recovery will mitigate the downside risk to earnings. In addition, there is scope for earnings upside from the synergistic benefits and future investments. We, therefore, maintain our BUY rating with a YE12 DCF-derived target price of Bt82