March 18, 2013 Sinopec Shanghai Petrochemical Co. Ltd. (SHI-NYSE) NEUTRAL Current Recommendation Prior Recommendation Outperform Date of Last Change 06/10/2008 Current Price (03/15/13) $42.10 Target Price $45.00 SUMMARY Sinopec Shanghai, one of China s largest petrochemical companies, is poised to benefit from the country s demand growth and fast-growing economy. We like Sinopec Shanghai s unique vertically-integrated business model, whereby the company can use its intermediate petrochemicals in manufacturing downstream products. However, a downstream-centric assets portfolio and government caps on refined product prices remain concerns. In particular, the state-set artificial fuel prices have become a major liability, in our view. As such, we maintain our Neutral recommendation on Sinopec Shanghai. SUMMARY DATA 52-Week High $48.12 52-Week Low $24.64 One-Year Return (%) 11.03 Beta 1.17 Average Daily Volume (sh) 30,726 Shares Outstanding (mil) 72 Market Capitalization ($mil) $3,031 Short Interest Ratio (days) 2.14 Institutional Ownership (%) 0 Insider Ownership (%) 1 Annual Cash Dividend $0.69 Dividend Yield (%) 1.64 5-Yr. Historical Growth Rates Sales (%) Earnings Per Share (%) Dividend (%) -3.5 using TTM EPS using 2013 Estimate 7.7 using 2014 Estimate 5.7 Zacks Rank *: Short Term 1 3 months outlook * Definition / Disclosure on last page Risk Level * Above Avg., Type of Stock Mid-Value Industry Chem-Diversifd Zacks Industry Rank * 208 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) 2011 14,201 A 2012 16,009 E 2013 22,916 E 2014 24,529 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) 2011 $2.11 A 2012 -$3.06 E 2013 $5.48 E 2014 $7.36 E Projected EPS Growth - Next 5 Years % 2013 Zacks Investment Research, All Rights reserved. www.zacks.com 111 North Canal Street, Chicago IL 60606
OVERVIEW Established in 1993, Sinopec Shanghai Petrochemical Company Limited (SHI) is one of the largest petrochemical enterprises in China. The company s principal activity involves the processing of crude oil into petrochemical products for sale. Sinopec Shanghai s highly integrated petrochemical complex processes crude oil into a wide range of synthetic fibers, resins and plastics, intermediate petrochemicals and petroleum products. A significant portion of its products are sold in the Chinese domestic market. China Petroleum and Chemical Corporation (SNP or Sinopec), a state-owned entity, currently holds a majority stake of 55.56% in Sinopec Shanghai. The company operates in six segments: Petroleum Products, Resins and Plastics, Intermediate Petrochemical Products, Trading of Petrochemical Products, Synthetic Fibers, and Other, which accounted for 41.7%, 18.3%, 21.3%, 13.0%, 4.6% and 1.1%, respectively, of its fiscal 2011 net sales. Due to high degree of integration, Sinopec Shanghai uses many of its important petroleum products and intermediate petrochemicals in manufacturing downstream products. Petroleum Products: It includes producing vacuum and atmospheric gas oils, residual oil and low octane gasoline fuels, refined gasoline and diesel oil, jet fuels, heavy oils and liquefied petroleum gases. Resins and Plastics: This segment manufactures polyester chips, low density polyethylene resins and films, polypropylene resins and polyvinyl acetate granules. Intermediate Petrochemical Products: The intermediate products division includes ethylene, ethylene oxide, benzene, butadiene, ethylene glycol and others. Trading of Petrochemical Products: This unit primarily deals with the trading of petrochemical products and equipments. Synthetic Fibers: Under Synthetic Fibers, the company produces polyester staple, acrylic staple, acrylic top and others. Others: Sinopec Shanghai also possesses utilities to supply water, electricity, steam and gas, and has its own transportation facilities. Net Sales by Segment (2011) Petroleum Products Intermediate Petrochemical Products Synthetic Fibers Resins and Plastics Trading of Petrochemical Products Others Equity Research SHI Page 2
REASONS TO BUY China s impressive economic growth has significantly increased its petrochemical product demand. This growth momentum presents attractive opportunities for industry players that can meet the country s fast-growing energy needs. Being one of the largest petrochemical enterprises in China with a direct exposure to the domestic economy, Sinopec Shanghai is well-positioned to capitalize on these favorable trends. Growth prospects are particularly attractive in the downstream sector. Strong growth in China s middle class and in automobile ownership is expected to fuel consumption of refined petroleum products. Sinopec Shanghai s principal market is in Eastern China (comprised of Shanghai, Jiangsu, Zhejiang, Anhui and Jiangxi), which has enjoyed stronger economic growth and a higher demand for petrochemical products than other regions of China. Sinopec Shanghai works on a vertically-integrated business model. The petroleum products and intermediate petrochemical products produced by the company are used mainly in the manufacture of its own downstream products. This successful model has helped Sinopec Shanghai to register above industry average revenue and profit growth. China s government is taking measures to support the petrochemical industry. Since the beginning of 2009, China has implemented the Price and Tax Reform on Refined Oil for levying the fuel consumption tax and indirectly linking the prices of domestic refined oil products with the prices of international crude oil in a controlled manner, together with the promulgation of the "Administrative Measures for Petroleum Prices (Trial)". The inverse relationship between prices of refined oil products and those of crude oil was basically brought to an end, thus improving the profitability of the company s refining operations. REASONS TO SELL Though Chinese oil companies are able to charge close to market prices for their crude oil volumes (typically with about a one-month lag and heavily taxed), the government caps the prices of refinedproducts (particularly gasoline and diesel) to control inflation. These price regulations do not allow Sinopec Shanghai to pass on high refining costs to consumers. As is the case with other petrochemical companies, Sinopec Shanghai s results are directly exposed to crude oil prices, which are inherently volatile and subject to complex market forces. Realized prices could differ significantly from our estimates, thereby affecting the company s revenues, earnings and cash flows. A significant portion of Sinopec Shanghai s revenue is derived from the sale of refined oil. However, weak demand for refined products and increased capacity has squeezed margins throughout the industry. As such, the company remains particularly exposed to this unfavorable macro backdrop. The petrochemical industry is capital intensive in nature and therefore Sinopec Shanghai needs substantial capital expenditures and financing requirements for its development plans. This may increase the company s leverage and deteriorate its credit metrics during the current downturn in the economic cycle. Additionally, the increasing capital intensity of its operations may result in reduced returns going forward. Equity Research SHI Page 3
RECENT NEWS Third Quarter 2012 Results On October 29, 2012, Sinopec Shanghai announced its third-quarter 2012 results. The company recorded a net loss of RMB 414.9 million or RMB 0.058 per share during the period compared to net income of RMB 270.0 million or RMB 0.038 per share in the third quarter of 2011. The negative comparisons can be primarily attributable to Sinopec Shanghai s inability to shift the burden of rising oil costs to its consumers, as state policy requires a lid on domestic refined product prices. VALUATION We believe that the demand growth in China (expected to outperform developed countries in the next few years), together with Sinopec Shanghai s unique vertically-integrated business model, will fuel its medium-term earnings outlook. Additionally, we expect the company to benefit from the improvement in the petrochemical market. However, we are concerned by the challenging overall environment for refining margins and volumes. Weak demand for refined products in the global downturn and increased capacity has squeezed margins throughout the industry. Going forward, we believe Sinopec Shanghai's performance will continue to be a function of China's economic health and government price controls. As of now, we see the stock performing in line with the broader market and rate it as Neutral. Our $45 price objective is based on a multiple of 3.1X trailing twelve-month cash flow. Equity Research SHI Page 4
Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF 5-Yr High 5-Yr Low Sinopec Shanghai Petrochemical Co. Ltd. (SHI) 7.7 5.7 2.9 50.9 5.8 Industry Average 14.5 12.4 10.5 9.7 15.9 160.5 6.2 S&P 500 14.5 13.7 10.7 12.2 15.9 27.7 12.0 New Oriental Energy & Chemical Corp. (NOEC) 12.5 11.5 Fairmount Chemical Co. Inc. (FMTC) Shin-Etsu Chemical Co. Ltd. (SHECY) 23.8 19.5 13.0 11.4 Mitsubishi Chemical Holdings Corp. (MTLHY) 18.0 18.0 TTM is trailing 12 months; F1 is 2013 and F2 is 2014, CF is operating cash flow P/B Last Qtr. P/B 5-Yr High P/B 5-Yr Low ROE D/E Last Qtr. Div Yield Last Qtr. EV/EBITDA Sinopec Shanghai Petrochemical Co. Ltd. (SHI) 1.2 1.5 0.3-13.0 0.1 1.6 6.1 Industry Average 2.7 2.7 2.7 12.3 0.6 1.7 1.7 S&P 500 5.8 9.8 2.9 42.2 2.7 Equity Research SHI Page 5
Earnings Surprise and Estimate Revision History StockResearchWiki.com The Online Stock Research Community Discover what other investors are saying about Shanghai Petroc (SHI) at StockResearchWiki.com: http://www.stockresearchwiki.com/tiki-index.php?page=shi/ticker Equity Research SHI Page 6
DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of SHI. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1005 companies covered: Outperform - 15.7%, Neutral - 77.1%, Underperform 6.8%. Data is as of midnight on the business day immediately prior to this publication. Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5 th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively. Equity Research SHI Page 7