Update Report- Transfer of Coverage Buy 12-Month Target Price SAR 12.00 March 25, 2016 Expected Total Return Price as on Mar-21, 2016 SAR 8.90 Upside to Target Price 34.2% Expected Dividend Yield 4.5% Expected Total Return 39.3% Market Data 52 Week H/L SAR 17.82/7.43 Market Capitalization SAR 0,971 mln Enterprise Value SAR 4,318 mln Shares Outstanding 438.8 mln Free Float 86.2% 12-Month ADTV (Million) 3.267 TASI Weight 3.57% Reuters Code 2260.SE Bloomberg Symbol SPC AB 1-Year Price Performance 140 120 100 80 60 J F M A M J J A S O N D SAHARA TASI TPCHEM Source: Bloomberg SPC TASI TPCHEM Mar -51, 2015 8.90 6,486 4,182 Total Change 6-months (5523%) (1522%) (1529%) 1-Year (4726%) (0321%) (0321%) 2-Year (062) (0323%) (4426%) Shareholding Structure Al Zamil Holding 7.9% PPA 5.9% Foreign Ownership (Inc. QFI) 0.3% Public Float 85.5% Attractive Investment With a number of unplanned shutdowns and extraordinary items, Sahara s bottom-line witnessed a -91% decline in 2015 disappointing the street and slashing consensus estimates. The company s management has explained that it has resolved issues that would bring the company back on track such as cooling water issue at Al-Waha. We expect new levels of operational stability leading to a noticeable impact. Our estimates assert that the subsidiaries have substantial positive impact going forward. We have revisited the case to price-in new circumstances such as lower selling price and subsidy removal in feedstock and energy prices. Furthermore, we have updated our models following F2015 results and revise our outlook for 2016-19E. Although the company s P/E is above sector average, opportunities of growth and future stability provide a reasonable justification. We have used the DCF method to value the Company, suggesting a target price of SAR 12.00 over the next 12 months and hence recommend a Buy. 2015 doesn t reflect true revenue levels Declining products prices, scheduled maintenance in the second quarter for 30 days and moderated demand shocked 2015 top-line causing a -25% decline in sales from SAR 1.9 billion in 2014 to SAR 1.4 billion in 2015. In addition, Al-Waha, which is 75% owned by Sahara and fully consolidated in its statements, operated disappointingly with a declining utilization rate at 7 this year compared to 96% in 2013. However, according to our analysis, we don t believe that the current situation will continue as we expect operation levels to improve hiking up utilization gradually to reach 95% by 2019. Polypropylene demand to continue According to TM Research, global demand for polypropylene is expected to grow at +5.7% CAGR between 2015-2023 and reach USD 133 billion. This is promising news for Sahara. But margins stability remains questionable. Variable feedstock prices may benefit due to lower crude prices. In addition, Sahara reported that they expect production costs to rise by 3. from 1Q2016 on the back of rise in feedstock prices and electricity tariffs. 1Q2016 results will provide a clear direction. Average dividend yield, counting on price upsides DPS is expected to grow from SAR 0.40 in 2016 (dividend yield of 4.1%) to SAR 0.90 in 2019 (dividend yield of 11.7% ) with average payout ratio of 92% for the period 2016-2019. The robust upside to target price (34.5%) is the main reason behind our investment call. Based on DCF valuation, our target price is SAR 12.00. Sahara remains on our buy list. Key Financials FY December 31 (SAR mln) 2014A 2015 A 2016E 2017E Revenue 1,898 1,424 1,374 1,562 EBITDA 703 352 245 684 Net Profit 385 40 154 277,928 EPS (SAR) 0.88 0.08 0.35 0.63 DPS (SAR) 0.85 0.50 0.40 0.58 BVPS (SAR) 14.46 13.82 13.89 14.10 ROAA 5% 2% 3% ROAE 6% 1% 3% 4% P / E 10.4x 114.3x 25.9x 14.4x P / B 0.5x 0.5x 0.5x 0.5x Div. Yield 9% 5% 4% 6% EV/ EBITDA 5.5x 11.4x 7.4x 5.9x EV/ Sales 2.1x 2.8x 2.9x 2.6x Yasser Bin Ahmed Yasser.bin.ahmed@riyadcapital.com +966-11-203-6805 Riyad Capital is licensed by the Saudi Arabia Capital Markets Authority (No. 07070-37)
Transferring Coverage In this update, we transfer coverage of Sahara Petrochemical Company (SPC) with a Buy rating and target price of SAR 12.00. We have updated our models and forecasts taking into account of the recent developments as presented in the following sections of this report. Sector Update Oil prices and global demand, key for the sector Petrochemical sector in the Kingdom is greatly influenced by movement in oil prices. This impact appears clearly on profit margins for the whole sector, which witnessed erosion from 8.31% in 2014 to 037% in 2015 due to decrease of..33% in oil prices for the same period. Note that the impact of this decline varies across companies depending on their feedstock structure. It s worth mentioning that margin decline has negatively affected local players due to fixed feedstock while international peers benefited from lower prices. Data from largest four chemical companies based on revenue in 2015 (BASF, Dow, Bayer and Lyondellbasell) shows that the average operation margins grew from 11.2% in 2014 to 13.2% in 2015 as in table 1 below. Table 1: Global Margins Overview Company Country EBIT Margin 2014 EBIT Margin 2015 Growth BASF Germany 9.8% 9.2% -6.1% BAYER Germany 9.3% 11.4% 22.6% Lyondellbasell US 12.6% 18.7% 48.4% DOW US 13.1% 13.5% 3.1% Average 11.2% 13.2% 17.9% SABIC Saudi 21.2% 19.8% -6.6% Source: Bloomberg Between 2014-2015, EBIT margins amongst Saudi Companies have witnessed decline of 350 bps (see table 2 below). We expected that after the government s decision to hike feedstock prices, margins will further decline. Table 2: Margin Effect Name EBIT Margin 2014 EBIT Margin 2015 National Petrochemical Co 19.2% 24.1% Rabigh Refining & Petrochemical Co 1.4% -3. Sahara Petrochemical Co 13. 12.7% Saudi International Petrochemical Co 28.6% 16.8% Saudi Industrial Investment Group 19. 24. Saudi Kayan Petrochemical Co 4.5% -7.4% National Industrialization Co 14.8% -0.3% Advanced Petrochemical Co 24.2% 31.2% Yanbu National Petrochemical Co 29.9% 22.3% Saudi Arabian Fertilizer Co 66.3% 56.8% Saudi Basic Industries Corp 20.2% 19.6% Average 16.7% 13.2% Source: Bloomberg and Riyad Capital As margins continue to squeeze, it remains to be seen if the government will further lift subsides in the future. The data below (table 3) shows that non-oil exports increased from March 22, 2016 2
11% in 2005 to 17% in 2014. It also shows an increase in petrochemicals exports contribution from 6% in 2005 to 11% in 2014. As per the Kingdom s strategy related to diversifying income resources, we do not foresee the government clipping one of the most essential non-oil exports. Table 3: Petrochemicals Contribution to Exports Year Oil % Non-oil % Of Total % Of Non-oil % 2005 89% 11% 6% 59% 2006 89% 11% 6% 54% 2007 88% 12% 6% 52% 2008 9 1 5% 51% 2009 85% 15% 7% 48% 2010 86% 14% 9% 61% 2011 87% 13% 8% 65% 2012 87% 13% 9% 65% 2013 86% 14% 9% 65% 2014 83% 17% 11% 66% Source: SAMA Total Exports Petrochemicals Exports The international demand for the sector s products relies on various factors but global economic growth remains the most important factor. Data shows slowness in economic growth for most of the international economies such as China, Japan and Euro zone, which will have a negative impact on the sector if it persists. As per IMF January update, global growth in 2016 is estimated at 3.4%, an increase from 3.1% in 2015. Also IMF sees the pickup in global activities is more gradual than expectation, especially in emerging market and developing economies. We believe that lower product prices will enhance demand, especially for products used by the end users. As a result, polypropylene prices has declined -31.5% since 2015 while crude has declined -33.9% for the same period (see exhibit 1 below). Sahara s management expects prices to pick up from 3Q2016. Exhibit 1: Petrochemicals Prices (USD/ton) vs. Oil Prices (USD/barrel) 1,400 1,200 1,000 80 70 60 50 40 800 600 400 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 30 20 10 0 Propylene Brent Source: Bloomberg March 22, 2016 3
Company Update Sahara has direct ownership in four companies (ALWAHA, SAMAPCO, TSOC and SAAC) and has an indirect ownership in 4 other companies (SEPC, SAMCO, SAPCO and BUTANOL). Sahara consolidates Al-Waha financials while all other associates are incorporated as equity method. It is worth noting that Al-Waha contributes 10 of Sahara s revenue. Table 4 summarize company s associates. Table 4: Company's Associates Unit Name Establishment COD Capacity Main Product Ownership Al-Waha Sep-06 Apr-11 450 KTA PP 75.0 SAMAPCO Aug-11 Jun-14 250 KTA, 300 KTA EDC &CS 50.0 SEPC Cracker Apr-06 Jun-09 800 KTA C2,C3,LDPE & HDPE 24.41% SAMCO - Acrylates Jun-09 Jun-14 64 KTA, 160 KTA BA, Acrylic Acid 32.37% SAPCO Apr-12 Jul-14 80 SAP SAP 32.37% Butanol Jun-16 Oct-15 330 KTA Butanol 14.38% Source: Company Reports As per the financial statements, all company s associates suffered on the bottom-line levels except SEPC. We believe SAAC in particular could shift gears once Butanol comes online. Change in estimates In this update note, we revised our model and outlook for 2016-19 taking into account lower price forecasts in addition to the hike in feedstock and energy prices. We updated our forecasts which included decrease in 2016 estimates followed by a gradual increase for the period 2017-19. This will result from the improvement of gross margins and increase in capacity utilization in addition to the gradual increase in income from associate contribution. Our estimates indicate that revenue is expected to grow at a CAGR of 14% between 2016-2019 whilst growth of the net income for the same period will be 38% mainly because we estimate income from associate to grow at a CAGR of 33% for the same period. Our 2016 estimates differ from the consensus because of large positive skew in consensus earnings estimates i.e. our revenue estimate is 31% south of consensus, whilst our net income is just half consensus. Table 5: Quarterly Income Statement Income Statement (SR Mln) 1Q2013 2Q2013 3Q2013 4Q2013 1Q2014 2Q2014 3Q2014 4Q2014 1Q2015 2Q2015 3Q2015 4Q2015 Revenu 521 603 588 666 321 613 460 621 262 222 503 433 Q/Q 16% -3% 13% -52% 91% -25% 35% -58% -15% 127% -14% Gross Profit 77 133 99 116 57 131 26 119 24 15 178 117 Q/Q 72% -26% 17% -51% 129% -8 362% -8-35% 1063% -34% EBIT 43 100 69 88 18 90 2 81 (1) (11) 151 63 Q/Q 135% -31% 26% -8 403% -98% 4079% -102% 762% -1513% -58% Net income of associates 127 74 110 118 106 134 27 128 (5) 36 23 (92) Q/Q -41% 47% 7% -1 27% -8 377% -104% -865% -37% -503% Net income 125 127 148 178 96 185 17 172 (50) 11 121 (48) Q/Q 1% 17% 2-46% 92% -91% 908% -129% -123% 961% -14 Source: Company Reports and Riyad Capital March 22, 2016 4
312 247 180 167 218 81 318 120 143 181 199 219 241 655 265 1,544 1,202 1,374 1,898 1,562 1,904 2,378 2,011 Sahara Petrochemical Financial Analysis Operation stability is untapped opportunity During 2015, the company suffered unplanned shutdowns and prices slumped which led its top line to decline by -25% in 2015 compared to 2014. Looking forward, revenue is expected to grow at +14% CAGR for 2016-19 on the back of improving demand, led by enhancements in the global economy. Despite management expectation of product prices to pick up by 3Q2086, we don t expect any major improvement before 27803 Operational efficiency and capacity utilization are one of the most important aspects that have a direct impact on the company s results. Capacity utilization has declined from 96% in 2013 to around 7 in 2015. Its ability to maintain operation levels above 9 will be a major factor that may affect our estimates. As per company management they succeeded to operate at a full operation capacity since they conducted maintenance in 2Q2015. They expect to maintain operation levels above 95% in 2016. Exhibit 2: Revenue Forcasts (SAR mln) Exhibit 3: Capacity Utilization 2,500 2,000 1,500 1,000 500 0 6 4 2-2 -4 12 10 8 6 4 2-2 -4 96% 65% 75% 7 85% 94% 98% 99% 6 5 4 3 2 1-1 -2-3 Revenues YoY Capacity Utilization YoY Operational income out of the woods Operational income witnessed massive volatility since the start of operations. This was expected due to the nature of the industry in particular for start-up companies. However, we expect that the company has already reached the stage where it can maintain stable operational levels. Operation margins have increased by 14% CAGR since 2011, while we forecast a CAGR of 34% from 2015 to 2019 touching 33% by 2019. Exhibit 4: EBIT Forecasts (SAR mln) and Margins (%) Exhibit 5: Opex Forecasts (SAR mln) and Margins (%) 700 600 500 400 300 200 100 0 35% 300 3 250 25% 2 200 15% 150 1 100 5% 50-5% 0 EBIT EBIT Margin Opex YoY 6 5 4 3 2 1 March 22, 2016 5
0.47 0.35 0.63 0.88 0.84 0.50 0.50 0.40 0.92 0.58 1.30 0.85 0.85 0.80 0.87 Sahara Petrochemical Interest rate and currency impacts It is expected that any rise in the interest rate will have a negative impact on the company and the sector because of loans. Currently, the company stands on a total debt of SAR 1.3 billion, stressing its income by SAR 91 million in financial charges. The current debt/ equity ratio is 0.4x while the debt to assets stood at 29%. The company management indicated that it may hedge against interest rate. They are also looking at provisions against currencies fluctuations, taking into consideration that two of the subsidiaries have suffered as most of its sales were in Euro which declined noticeably. Affected companies were Saudi Acrylic Polymers Company (SAPCO) and Saudi Monomers Polymers Company (SAMCO). Volatile margins Gross margins have ranged between 3% to 25% during 2012 to 2015 due to unstable operations. We expect gross margins to average at 29% through 2019. Operating margins however had the same issue but on a smaller scale, in the range of -1.8% to 13.1% for the period 2012-15. We have modeled an average of 15.1% for the period 2016-19. If we exclude 2015 from net margin historical performance, it has been stable in the range of 13% to 24% from 2012. In 2015 net margins plunged to 2%. However we expect an average of 17% for 2016-19. Exhibit 6: Company Margins 35% 3 25% 2 15% 1 5% -5% EBIT Gross Net Low base paves the way for growth Prior to discussing net income forecasts, it s important to mention that F2015 net income has plummeted by -91% comparing to 2014. We forecast net income CAGR of +38% for 2016-2019. This is basically due to lower base. We expect stable payout levels as most of expansion is already on the ground. Although EPS has fallen in 2015 to SAR 0.08 per share, company has maintained a DPS of SAR 0.50. For 2016 we expect a DPS of SAR 0.40 representing a payout ratio of 115%. Exhibit 7: EPS (SAR ) and YoY Growth Exhibit 8: DPS (SAR ) and Payout Ratio (%) 1.50 1.30 1.10 0.90 0.70 0.50 0.30 0.10 40 35 30 25 20 15 10 5-5 -10-15 1.00 0.90 0.80 0.70 0.60 0.50 0.40 0.30 0.20 0.10 15 625% 14 13 12 11 10 9 8 7 6 5 EPS YoY DPS Payout Ratio March 22, 2016 6
Valuation We roll forward and update our models to value Sahara using two valuation methods. With the expected steady earnings stream and stable cash returns, we believe DCF method would be apt in valuing Sahara as there could be a spike in operational growth resulting in improvement in free cash flow. We also applied a target multiple method of valuing Sahara which derived a price of SAR 9.50 using a target P/E of 13.1x (includes 15% premium to sector average forward P/E of 12.0x). Amongst the valuation approaches we prefer DCF valuation to derive our 12-month target price of SAR 12.00. We maintain buy rating. #1: DCF suggest fair value of SAR 11.97 Table below shows our DCF valuation with forecast assumed for 2016-19E using a longterm terminal growth rate of 1.5, adjusted beta of 1.15 and risk-free rate assumption of 3.7, which includes a premium of 1.5% for country risk over 10-year US risk-free rate of 2.2% (being the average yields of the last 6 months). This results in cost of equity of 10.9%, while we assume cost of debt at 4.3 deriving a WACC of 9.5%, We assume a capital structure (Equity:Debt) of 80:20. Table 6: DCF Valuation 2016E 2017E 2018E 2019E FCF (SR Mln) 405.7 340.8 384.1 514.5 LT Growth Rate 1.5% Risk Free Rate 3.7% Beta 1.15 Risk Premium 6.3% Cost of Equity 10.9% Cost of Debt 4.3% WACC 9.5% Fair Value per Share 11.97 Source: Riyad Capital Risks to valuation The continued volatility in oil prices and global demand poses the greatest challenge to Sahara. Additionally, our forecast assumed sustainable operation levels with a capacity utilization of 85% in 2016 with gradual increase to reach full capacity in 2019 due to higher demand. Any lag to this will have a negative impact on the result and therefore our forecasts. If government makes any move towards further removing subsidies from energy, Sahara will be negatively impacted. #2: Target P/E valuation at SAR 9.47 As an alternative approach, we have used a target P/E based method and derived a fair value of SAR 9.47. The sector suggests a P/E average of 12.07x for 2016. Due to the expected growth we have applied premium of 15% above the sector P/E to arrive at target P/E of 13.8 which lead to fair value of SAR 9.47 per share. Table 7: P/E Valuation 2016E 2017E 2018E 2019E EPS (SR) 0.35 0.63 0.84 0.92 Sector Average P/E 12.07X Risk Premium 15% Target P/E 13.8X Average EPS 0.69 Fair Value per Share 9.47 Source: Riyad Capital Recommendation We transfer coverage on Sahara Petrochemical Company with a 12-month target price of SAR 12.00 based on our DCF valuation offering an upside of 34.5%. We recommend a buy. March 22, 2016 7
Summary Financials Table 8: Summary Financials Income Statement (SAR mln) 2011 2012 2013 2014 2015 2016 E 2017 E 2018 E 2019 E Total Sales 1,526 1,544 2,378 1,898 1,424 1,374 1,562 1,904 2,011 Cost of Sales (1,286) (1,490) (1,946) (1,508) (1,063) (1,008) (1,125) (1,344) (1,390) Gross Profit 2,811 3,034 4,324 3,406 362 2,382 2,687 3,247 3,402 S,G&A Expenses (73) (81) (120) (143) (185) (199) (219) (241) (265) Other Income (39) 12 13 14 68 65 65 66 67 Financial Charges (61) (89) (76) (60) (91) (100) (95) (93) (88) Share in net income of associates 399 318 417 279 (29) 165 248 285 299 Net Income 412 204 571 385 43 154 278 368 404 EBITDA 720 546 941 730 352 542 684 830 890 EPS 0.94 0.47 1.30 0.88 0.10 0.35 0.63 0.84 0.92 DPS - 0.50 0.85 0.85 0.50 0.40 0.58 0.79 0.87 Balance Sheet (SAR mln) 2011 2012 2013 2014 2015 2016 E 2017 E 2018 E 2019 E Assets Cash & equivalents 998 986 1,127 1,241 1,042 1,283 1,137 896 750 Receivables 435 409 496 394 278 332 396 507 562 Inventories 218 301 227 296 282 206 234 286 302 Total Current Assets 1,688 1,756 2,075 2,179 2,057 1,936 1,853 1,799 1,737 Property Plant & Equipment 3,886 3,672 3,536 3,458 3,613 3,582 3,551 3,518 3,483 Total non-current Assets 6,683 6,749 6,579 6,311 6,450 6,304 6,281 6,257 6,234 Total Assets 8,371 8,505 8,654 8,490 8,507 8,239 8,134 8,056 7,971 Liabilities & Equity Acc payable 340 458 155 119 37 71 72 77 72 Total Current Liabilities 565 701 630 589 405 515 513 540 566 Long Term Debt 2,090 1,889 1,689 1,487 1,911 1,564 1,368 1,163 935 Total non-current Liab 2,194 1,983 1,760 1,557 2,036 1,631 1,436 1,232 1,006 Total Liabilities 2,759 2,684 2,390 2,146 2,441 2,146 1,949 1,773 1,572 Retained Earnings 798 982 1,274 1,245 902 879 904 922 942 Total Equity 5,196 5,418 5,794 5,817 5,491 5,566 5,658 5,756 5,872 Total Liab & Equity 8,371 8,505 8,654 8,490 8,507 8,239 8,134 8,056 7,971 Cash Flows (SAR mln) 2011 2012 2013 2014 2015 2016 E 2017 E 2018 E 2019 E Net Income 412 204 571 385 43 154 278 368 404 Adjustments 197 119 427 365 309 363 496 594 639 CFO 252 131 378 303 485 451 404 428 560 Prop, plant & equip (97) (30) (44) (79) (330) (179) (186) (193) (201) Project Development costs (144) (5) (8) (0) (1) (0) (0) (0) (0) CFI (741) 2 197 369 (609) 343 61 90 139 Loans (42) (41) (201) (221) (1,813) (212) (196) (205) (228) Dividends - - (219) (373) (373) (177) (253) (349) (384) CFF 1,323 (144) (434) (613) (75) (553) (611) (759) (845) Cash at year end 998 986 1,127 1,241 1,042 1,283 1,137 896 750 Source: Company reports and Riyad Capital March 22, 2016 8
Stock Rating Strong Buy Buy Hold Sell Not Rated Expected Total Return 25% Expected Total Return 15% Expected Total Return < 15% Overvalued Under Review/ Restricted For any feedback on our reports, please contact research@riyadcapital.com Disclaimer The information in this report was compiled in good faith from various public sources believed to be reliable. Whilst all reasonable care has been taken to ensure that the facts stated in this report are accurate and that the forecasts, opinions and expectations contained herein are fair and reasonable. Riyad Capital makes no representations or warranties whatsoever as to the accuracy of the data and information provided and, in particular, Riyad Capital does not represent that the information in this report is complete or free from any error. This report is not, and is not to be construed as, an offer to sell or solicitation of an offer to buy any financial securities. Accordingly, no reliance should be placed on the accuracy, fairness or completeness of the information contained in this report. Riyad Capital accepts no liability whatsoever for any loss arising from any use of this report or its contents, and neither Riyad Capital nor any of its respective directors, officers or employees, shall be in any way responsible for the contents hereof. Riyad Capital or its employees or any of its affiliates or clients may have a financial interest in securities or other assets referred to in this report. Opinions, forecasts or projections contained in this report represent Riyad Capital's current opinions or judgment as at the date of this report only and are therefore subject to change without notice. There can be no assurance that future results or events will be consistent with any such opinions, forecasts or projections which represent only one possible outcome. Further, such opinions, forecasts or projections are subject to certain risks, uncertainties and assumptions that have not been verified and future actual results or events could differ materially. The value of, or income from, any investments referred to in this report may fluctuate and/or be affected by changes. Past performance is not necessarily an indicative of future performance. Accordingly, investors may receive back less than originally invested amount. This report provides information of a general nature and does not address the circumstances, objectives, and risk tolerance of any particular investor. Therefore, it is not intended to provide personal investment advice and does not take into account the reader s financial situation or any specific investment objectives or particular needs which the reader may have. Before making an investment decision the reader should seek advice from an independent financial, legal, tax and/or other required advisers due to the investment in such kind of securities may not be suitable for all recipients. This research report might not be reproduced, nor distributed in whole or in part, and all information, opinions, forecasts and projections contained in it are protected by the copyright rules and regulations. Riyad Capital is a Saudi limited liability company, with commercial registration number (1010239234), licensed and organized by the Capital Market Authority under License No. (07070-37), and having its registered office at Al Takhassusi Street, Prestige Building, Riyadh, Kingdom of Saudi Arabia ( KSA ). Website: www.riyadcapital.com