PTT Global Chemical

PTT Global Chemical Plc (PTTGC)

Investment thesis: We think that the faster-than-expected conclusion of the gas cost increase will lift overhanging concerns surrounding PTTGC. The current share price has already priced in worries about the global economy and anticipation of the Ethane cost rising, we believe. 2H12 earnings growth will be driven by a rebound in chemical spreads, prompted by high seasonal demand and oil price stability, which should boost the stock price going forward. Incipient signs of a Chinese economic recovery would also support the share price.
Gas cost rise approved: PTTGC’s board approved adjusting the pricing formula for the purchase agreements for wet gas feedstocks between the firm and PTT, effective August 1, 2012.  Its gas feedstock cost will increase by US$40/ tonne, or by 8%, from its current cost.
Lower-than-expected gas cost increase prompts us to raise L-T earnings forecast: Even though the 8% gas cost rise is in line with market anticipation, it is far below our assumption of 25%. As such, we have raised our long-term earnings forecast by 11%. However, we have trimmed our FY12 net profit projection by 3% to Bt24,839m because the price rise will be effective sooner than we previously assumed. We expect a consensus earnings forecast downgrade, due to the higher gas cost.
Cost competitiveness and growth prospects ensured by PTT: As PTTGC is PTT’s petrochemical flagship, PTT will ensure that it maintains a competitive advantage against regional players even if its gas cost increases. Moreover, PTT may transfer assets to PTTGC at some stage.
2Q12 earnings to trough, QoQ recovery in 3Q12: PTTGC’s 2Q12 earnings are likely to be better than we previously envisaged. We now expect the firm to post a 2Q12 net profit of Bt741m, down by 91% YoY and 93% QoQ. Stripping out extra items, core profit would be Bt6,558m, down by 19% YoY but up 3% QoQ. However, PTTGC’s 3Q12 bottom-line is expected to bounce strongly QoQ, driven by inventory gains and a reversal of LCM. Moreover, its 3Q12 core profit should rise QoQ, driven by greater sales volume, brought about by higher run rates at olefins plants and fatter chemical margins.
Outlook
Overhanging concern on gas cost increase is lifted: On July 27, 2012 PTTGC’s board approved adjusting the pricing formula for the purchase agreements for wet gas feedstocks between the firm and PTT, effective August 1, 2012.  Its gas feedstock cost will increase by US$40/ tonne, or by 8% from its current cost. The formula adjustment maintains the profit-sharing regime between the two parties (the concept of equal IRR).
The most significant amendment to the formula is a Dubai crude price range peg of US$70-130/barrel (the previous price range was $40-80/barrel). In addition, the HDPE-Naphtha spread range will be pegged between $450-600/tonne. The replacement cost (for PTTPE, LDPE, LLDPE, and GSP#6 facilities), as well as production cost and sales expenses used for determining the new gas price will be based on global standards.
Lower-than-expected gas cost increase prompted us to raise L-T earnings forecast: Even though the 8% gas cost rise is in line with market anticipation, it is far below our assumption of 25%. As such, we have raised our long-term earnings forecasts by 11% on average to factor in the new gas cost assumptions. However, we have trimmed our FY12 net profit forecast by 3% to Bt24,839m because the price rise will be effective sooner than we previously assumed. We expect a consensus earnings forecast downgrade, due to the gas cost rise.
Even though we have factored the gas cost increase into our earnings forecasts, PTTGC’s bottom-line should still expand by an 11% CAGR during FY11-FY15, driven by greater sales volume, brought about by increased utilization rates at existing facilities and the debottlenecking project. The firm aims to debottleneck its new Ethylene and Polyethylene facilities, increasing Ethylene and Polyethylene capacity by 300KTA (up 30%) each—the projects are now undergoing a basic engineering redesign process. Along with the gas price adjustment, PTT has agreed to supply gas feedstock (from its by-pass gas) for PTTGC’s debottlenecking project.
Cost competitiveness and future growth prospects ensured by PTT: As PTTGC is PTT’s petrochemical flagship, PTT will ensure that it maintains a competitive advantage against regional players even if its gas cost increases. It will still enjoy a fatter spread than any Naphtha-based chemical producer. Effective August 1, the HDPE-Ethane spread will be US$785/t versus an HDPE–Naphtha spread of $515/t currently.
Moreover, asset injections by PTT are to be discussed at some stage. PTTGC is looking to consolidate PTT's other chemical units (Phenol and HMC), enabling it to enhance its earnings and integrate further downstream. Note that it currently holds 60% of PTT Phenol Co Ltd (PTT has the remaining stake). The consolidation of Phenol would allow the firm to move further into the polycarbonate business. HMC Polymers Co Ltd is an associate of PTT (41% stake); it produces Polypropylene with a capacity of 750KTA. The consolidation of HMC would help PTTGC integrate further into the Polypropylene business, which would add value to its existing Propylene product.
2Q12 earnings to trough, but likely to surprise on the upside: PTTGC’s earnings are expected to dive in 2Q12, followed by a QoQ recovery in 3Q12. We have revisited our 2Q12 profit forecast and believe the firm’s 2Q12 numbers will be better than we previously envisaged. We now expect PTTGC to post a 2Q12 net profit of Bt741m, down by 91% YoY and 93% QoQ. Stripping out losses of Bt329m on inventory and Bt5,176m LCM and a Bt970m FX loss, core profit would be Bt6,558m, down by 19% YoY but up 3% QoQ.
The key factors behind the expected earnings contraction were: 1) weaker market GRM (US$4.3/bbl versus $6.4/bbl in 2Q11), 2) slimmer chemical spreads—PX spread softened 8% YoY to $567/t, while olefins & polymer over Ethane spreads fell by 1-28% YoY—and 3) losses on inventory and LCM of $8.5/bbl (against inventory gains of $1.8/bbl in 2Q11 and $3.7/bbl in 1Q12). The key QoQ core profit growth driver was greater sales volume (both aromatics and olefins), due to more Ethane supply from PTT and fewer planned shutdowns.