January 13, 2011

PCHEM - Petronas Chemicals the new big show on KLCI

Stock Name: PCHEM
Company Name: PETRONAS CHEMICALS GROUP BHD
Research House: MAYBANK

Petronas Chemicals Group Bhd
(Jan 13, RM6.03)
Initiating coverage with 'buy' call at RM6.02 with target price of RM6.70
: Petronas Chemicals Group (PetChem) is an opportunity to participate in: (i) the world's most consistently profitable petrochemical company; just after its earnings trough, with (ii) huge earnings growth prospects, (iii) low indebtedness profile and (iv) generates significant free cash flow. PetChem is the world's 22nd largest chemical company by market value, and it will inevitably be included into major chemical indices ' a strong pull factor to international investors. Valuations are attractive compared with global peers' forward PERs and EV/Ebitda.

The petrochemical industry is in the recovery stage of a cyclical uptrend; 2009 was the last trough, the next boom will be in three-five years. Product volume growth to GDP correlation is one to two times, positive for PetChem as its customers are in the high growth Asia-Pacific region. In the previous upcycle, net profit margins soared to 30.5%, and the main ingredients to this growth are very similar now.

(1) Organic growth ' boost volumes on higher utilisation rate and facility efficiency enhancements; (2) venturing to the production of niche chemicals that commands higher and stable profit margins; and (3) opportunistic acquisition from third party or existing JV partners. Furthermore, PetChem is extracting structural fixed cost reductions from the synergies of business consolidation.

Based on PER, PetChem is worth RM6.70 per share, and RM6.86 per share based on discounted cash flow valuations. This implies FY12 PER of 13.1 times which is undemanding relative to its strong growth prospects (+20% three-year earnings CAGR). Dividend hunters will be charmed by its strong cash flow and 50% committed payout ratio. Its capacity to pay dividends is substantial, with projected free cashflow yields of 10.7%-19.0% in FY11-FY13.

In the next upcoming cyclical peak, PetChem is likely to surpass its previous net income record of RM3.9 billion achieved in FY08. With its leaner fixed cost structure, PetChem can easily render the highest absolute net profit of any KLCI member (currently Maybank holds the record with RM3.8 billion). We think it is only a matter of time before PetChem becomes KLCI's next 'big show'. We initiate coverage with a 'buy' call and RM6.70 PER-based target price. ' Maybank IB Research, Jan 13


This article appeared in The Edge Financial Daily, January 14, 2011.

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