Saudi Arabian Petrochemicals 4Q2014 Preview

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1 January 4, 2015 Expanding Margins Declining petrochemical prices in tandem with oil has been the highlight of the quarter. However, petchem margins have improved in 4Q substantially worldwide as feed prices have fallen faster. This is a temporary phenomenon and we anticipate margins to shrink in 1Q2015. Plummeting oil prices have been blamed on weak demand and more than adequate supply led by additional output from Iraq and Libya adding to the rising Shale output. Average ethylene prices are down -11% Y/Y at USD 1,143/ton in the outgoing quarter. Propylene prices have also decreased -6% Y/Y to an average of USD 988/ton in 4Q. After declining in 3Q, methanol prices have started to pick up from September-end and are now upto USD 435/ton, Brent is now down -26.2% Q/Q to USD 77/bbl after testing lows of close to USD 56/bbl. Market participants do not believe that the worst is over in oil and we may see some further correction early next year. Exhibit 1: Basic Petrochemicals Prices (USD/ton) 1, 1, 1,400 1,200 1,000 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Ethylene Propylene Urea prices have performed well in 4Q, rising +13% Y/Y to USD 365/ton, particularly in an environment when commodity prices in general have taken a beating. However, urea has already taken the pain in 2H2013 and 1H2014. Ammonia prices have moved even more strongly, going up +40% Y/Y and +23% Q/Q to an average of USD 622/ton. Volatility in ammonia market has been observed to be much greater than urea with the two commodities moving in opposite directions many times. Fertilizer prices are benefitting from resurgence in demand coupled with decrease in the oversupply situation which was experienced for much of Muhammad Faisal Potrik muhammed.faisal@riyadcapital.com Yasser bin Ahmed yasser.bin.ahmed@riyadcapital.com Riyad Capital is licensed by the Saudi Arabia 1 Capital Markets Authority (No )

2 Exhibit 2: Urea and Ammonia Prices (USD/ton) Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Urea Ammonia On Q/Q basis, ethylene is down -9% while propylene is down -7%. Brent crude is - 24% lower Q/Q on greater supply and weakening demand. Urea prices are now rising, up +11% Q/Q. Exhibit 3: Quarterly Average Commodity Prices (USD/ton) 1, , , Q14 2Q14 3Q14 4Q14 Ethylene Propylene Urea Brent Crude (USD/bbl) 0 Volatile Oil Prices As stated in our sector update dated December 18, 2014, our core premise for the petrochemical sector is that investors should look beyond Next year will be bad as the full impact of lower oil prices is realized in terms of a drop in petrochemical 2

3 prices and more importantly margins. On the face of it, the market seems to have discounted 2015 pain in stock prices. For the Saudi Petrochemical sector, predominantly ethane based producers will feel a greater pinch as the feed price remains the same (USD 0.75/mmbtu) while product prices decline. Producers with a greater proportion of heavier feed such as naphtha should be affected to a lesser extent as feed prices also fall. Although we expect margins to contract across the board, the drop in margins will be softer for heavier feed versus ethane based producers. With the steep decline in oil prices and corresponding slump in the Tadawul, the question is where will oil (and consequently the market) go from here? The focus right now is on maintaining market share, which has led to a buyers market as producers cut their Official Selling Prices (OSP) to attract consumers. Exports to the US from Saudi Arabia have declined by 200,000 bpd now as compared to the beginning of the year. We believe KSA s October crude production of 9.7 million bpd can be maintained over the next year. Although it is not wise to predict oil prices, we do not believe that the current WTI level of around USD 55 is sustainable over the medium term. While it is possible that WTI may drop even below USD 50, this will not be a longer term phenomenon assuming no major negative developments in the region and stable global geo-political situation. We now view US based shale as the swing players for international oil prices as OPEC seems to have given up that role for the time being. 4Q Expectations Table 1 below details our 4Q2014 forecasts for petrochemical companies. Overall, we expect a -3% Y/Y decrease in revenues for our coverage universe. We have to clarify that the Y/Y comparison is misleading for some names. For example, the full impact of the financial support by shareholders was completely booked in the final quarter leading to an extraordinary bottom line at Petro Rabigh last year. On the other hand, there have been production gains at Petrochem (impacting SIIG as well), Advanced and Tasnee thereby raising revenues despite lower product prices. Yansab was hit by a shutdown causing a slump in 4Q2013 profitability. Safco revenues and net income will be helped up by better urea prices after a few quarters of below par performance. We expect lower petchem price impact to be somewhat muted in the case of Sabic with only a -4% Y/Y decline in topline but a larger -12% Y/Y lower EPS on lower noncore income as well as higher minority interest. Net income is forecasted to drop -11% over the similar quarter last year on average for the petchem companies under our coverage. If we exclude Petro Rabigh (which posted an extraordinary income in 4Q2013), the net income decline stands at only - 2% Y/Y. We expect Saudi Kayan to be one of the worst affected on expected margin contraction next year. For 4Q, however, we may see a marginal increase in net profit from SAR 3 million to SAR 19 million. 3

4 Table 1: 4Q2014 Estimates (SAR mln, except per share data) Revenues EBIT Net Income EPS Company 4Q2013 4Q2014E Y/Y Chg 4Q2013 4Q2014E Y/Y Chg 4Q2013 4Q2014E Y/Y Chg 4Q2013 4Q2014E PETROCHEM 1,486 1,913 29% % % SABIC 48,486 46,493-4% 10,301 9,924-4% 6,157 5,420-12% SAFCO 1,008 1,261 25% % % TASNEE 4,524 5,051 12% % % SIIG 1,486 1,913 29% % % SAHARA % % % YANSAB 2,084 2,194 5% % % SIPCHEM 1, % % % ADVANCED % % % SAUDI KAYAN 2,933 2,588-12% % % PETRO RABIGH 13,673 12,546-8% % 1, % Group Total 78,301 76,316-3% 14,143 14,421 2% 9,751 8,652-11% Source: Riyad Capital, Company Reports Table 2: Ratings and Valuations (SAR mln) We have revised downwards our target prices for all companies under coverage in our petrochemical sector update dated December 18, In addition, five stocks were upgraded to a Buy. Table 2 below details updated target prices and recommendations. At current prices, Sabic, Tasnee, SIIG, Sahara, Yansab and Petro Rabigh feature on our Buy list. For group average PE, we have excluded Saudi Kayan and Petro Rabigh. TASI Current Market Target Dividend Company Code Price Cap Price Rating Yield 2014E 2015E 2014E 2015E PETROCHEM , Hold 2.2% 13.5x 10.3x 2.2x 1.9x SABIC , Buy 6.0% 10.2x 13.3x 1.2x 1.2x SAFCO , Hold 6.6% 14.5x 13.8x 5.6x 5.3x TASNEE , Buy 5.4% 14.4x 17.1x 0.9x 0.9x SIIG , Buy 7.8% 9.7x 9.0x 1.9x 1.8x SAHARA , Buy 6.5% 14.4x 9.7x 1.1x 1.1x YANSAB , Buy 5.2% 10.9x 13.5x 1.7x 1.6x SIPCHEM , Hold 4.7% 16.5x 15.3x 1.5x 1.5x ADVANCED , Hold 7.1% 9.2x 11.7x 2.8x 2.7x SAUDI KAYAN , Hold x 1.2x PETRO RABIGH , Buy x 23.9x 1.6x 1.6x Group Average 12.6x 12.6x 2.0x 1.9x Source: Riyad Capital P / E P/B 4

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