Market excitement overdone; Downgrade to UW
Polyethylene prices reach all-time highs, but we assume this will be short-lived and has yet to reflect on feedstock costs
Polypropylene project shelved; paving the way for the return to dividend distributions, while the potential sale proceeds provide upside risk to valuation
We cut our 2021–24e EBITDA and EPS estimates c21% and c26% respectively, exacerbated by lower sales volumes and a weaker USD, and downgrade to Underweight helped by the recent share price rally
Polyethylene prices quickly recovered, but feedstock could follow suit, not fully translating into margin expansion for SIDPEC: After hitting lows following the pandemic, international polyethylene prices rebounded impressively toward the end of 2020 before reaching all-time highs this month on a series of supply shocks (from the US arctic freeze to an unexpectedly heavy cracker turnaround season in Europe to short supply of containers in Asia and high freight rates), amid robust post-COVID demand. While most estimates point to these levels sustaining through 1H21, long-term prospects have become increasingly difficult to forecast. We assume a return to mid-cycle by the end of next year and only oil price-driven growth thereafter. We also do not expect these high prices to result in a pure windfall for SIDPEC’s earnings in 2021 as this level is likely to put the company’s feedstock formula back into effect, after having fixated at the formula’s implied floor for the better part of last year, on our calculations. Not to mention the risk of ongoing feedstock supply issues, which besides affecting production volumes, could also have further implications on feedstock costs as the imported gas will likely come at substantially higher prices. The company is budgeting for a c23% y-o-y increase in raw material cost per ton, on our base-case calculations. We therefore opt to maintain the current (suboptimal) utilization rates and local-based gas prices until further clarity about the steadiness of supply from GASCO going forward and the pricing and contribution of the imported quantities, which still translates to significantly better-than-budgeted figures for 2021 and a substantial operational improvement over 2020.
Polypropylene project behind us, potentially resolving a key share price overhang: The company is finalizing an agreement with the Red Sea National Company for Refining and Petrochemicals (RSNCRP) to sell its polypropylene project license and participate in the shareholding of the latter with a 5% stake. We believe this to be the best-case scenario as we had not been fond of the project due to 1) unclear (and significantly changed) economics, 2) disproportionately large size (and risk) compared to SIDPEC, 3) the commitment of the company to hold a 100% stake in the venture, and (4) the unfavourable market perception of the capital increase that would ensue. This deal also reimburses some EGP700m in project license costs (and feasibility studies), previously seen as sunk costs, though unlikely through cash proceeds. This, and improved earnings, should help the company return to paying dividends next year.
Downgrade to Underweight: We lower our 2021–24e EBITDA and EPS estimates c21% and 26% respectively, which translates to a c11% cut to our 12-month target price to EGP8.00/share. Our new target price puts SIDPEC at a 2021e P/E multiple of 8.8x (trading at 11.1x) and implies a negative potential return of 20.2% on the 23 March closing price of EGP10.0/share. Therefore, we downgrade the stock to Underweight from Neutral. In our view, current valuation is stretched, with the stock rallying c45% over the past five months. The market is likely overlooking the potential imminent increase in feedstock costs along the end-product price rally, which is likely to appear as early as 1Q21, in our view.