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Refined future
Upside exists even amid conservative valuations
We initiate the research coverage on Chennai Petroleum (CPCL) with
an Accumulate rating and a target price of INR280/share, implying an
upside of 15% from the current levels with a 12-month time horizon.
We believe that the stock is under-valued despite factoring in lower
GRMs since CPCL is comparatively a simpler refiner with a complexity
of 7.3. Even with our conservative FY12 GRM assumption of USD5-
5.5/bbl, CPCL currently trades at 6x EV/EBITDA against the regional
peer (similar refiners) EV/EBITDA average of around 7x.
Correspondingly, on the P/E basis, the stock trades at 9x while most
Asia players are trading at 12x plus. CPCL currently trades below the
book value at a P/B of 0.9x despite sound ROE levels and a 5%
dividend yield, one of the highest in the region.
Capacity expansion, better GRMs to boost FY12 earnings
CPCL has recently completed the expansion of its Crude Distillation
Unit (CDU) from 3MMT to 4MMT, thereby enhancing its overall
installed nameplate capacity from 10.5MMT to 11.5MMT. Secondly, we
expect a slightly better CY11 as far as GRMs are concerned. CPCL is
currently achieving GRMs of ~USD4.5/bbl as per the company.
However, with some global recovery expected in CY11, we estimate
CPCL to achieve GRMs of ~USD5-5.5/bbl in FY12, leading to strong
YoY earnings in FY12.
Global refining outlook remains subdued
The US and European refiners have continued to moderate their
refinery runs in an effort to recover margins lost since mid-CY10. Also,
with the Asian maintenance season coming to an end, it should add
some capacity to the markets. Overall, product markets continue to be
weak and thus, we expect subdued GRMs over the next 2-3 quarters.
However, we do expect a slight recovery in H2CY11, there giving
some cheers to refiners in FY12 overall.
Valuation
We arrive at our target price of INR280/share for CPCL by assigning
an EV/EBITDA 6.5x on its FY12 earnings. We believe our multiple is
conservative, considering the regional average is around 7.0x and
complex refiners are trading at 8.0x. Thus, the target multiple also
implies ~20% discount to complex refiners. Purely from a valuation
perspective, we recommend investors to switch from MRPL to CPCL,
as CPCL’s valuations are much cheaper on most counts. For
instance, CPCL trades at a P/B of less than 1.0x while MRPL is
trading at 2.2x despite both companies achieving ROEs of 11-13%.
Similarly, CPCL trades at a P/E of 9x while MRPL is trading at nearly
16x despite factoring the capacity expansion and GRMs benefits
that it will be accruing.
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