Australia | Aug 19 2020
This story features VIVA ENERGY GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: VEA
Despite the ongoing difficulties with refining margins Viva Energy exudes confidence, outlining plans to distribute most of the proceeds from its recent divestment of Viva Energy REIT.
-Support needed to maintain the refining business
-Travel restrictions, refiner margins to negatively impact short-term earnings
-Is all the upside factored into the stock?
By Eva Brocklehurst
Viva Energy ((VEA)), in distributing most of the proceeds from the divestment of Viva Energy REIT, now Waypoint REIT ((WPR)), has exuded confidence at its result release, despite ongoing difficulties with refining margins.
Any further update on refining margins should also improve the clarity of the outlook, Morgan Stanley adds, amid further government discussions regarding the storage of more refined product in Australia.
Clarity on the Geelong energy hub and whether retail fuel margins will offset lower volumes are considered key catalysts going forward. Viva Energy is currently looking for partners for its Geelong hub, expecting to complete FEED (front end engineering design) by year end.
The company has made it clear it will need support to maintain the refining business and cannot keep absorbing losses without a clear understanding of whether a recovery is forthcoming.
Refining margins remain a challenge and a risk, yet refinery reliability appeared reasonable to Credit Suisse, at 98% in the first half. An average refining margin of US$5/bbl in the second half is anticipated, although the broker acknowledges that would require improvement from current levels and may be slightly optimistic.
Underlying net profit was down -33% in the first half, as Geelong refining margins fell below break-even. This was partially countered by supply chain cost savings. Viva Energy has stated it is reviewing its refinery business in the light of the losses but Morgans suspects, as this is entirely driven by regional refining margin weakness, there is limited potential for a quick turnaround.
The broker was impressed with the commercial business and considers it was a relatively good result in difficult conditions. Retail is also recovering, although still below the peak in terms of volumes. Despite the volume losses the retail business grew 18% amid high retail fuel margins and cost reductions.
Ord Minnett suggest retail operating earnings (EBITDA) are supported by a rational industry structure which has experienced significant retail fuel margin expansion in 2020 in the face of dramatic declines in volumes. Despite an already lean cost base the company has also been able to reduce costs and the broker finds this pleasing.
In the near term, the building up of oil product inventory could mean an increase in exports from China in the December quarter and UBS remains cautious about a refining margin recovery in the short term.
Viva Energy intends to return all of the $680m from the Viva Energy REIT divestment. This includes a buyback of up to $50m. The company has announced $530m will be returned via a special dividend and a capital return which will be accompanied by a share consolidation. A further $100m is yet to be confirmed.
This provides some comfort that the balance sheet is resilient and UBS supports the decision against an on-market buyback, which would be limited to 10% of shares over 12 months. An off-market buyback is also limited given the low franking balance. The proposed capital return should be supportive of the stock in the short term while Credit Suisse expects a slow improvement in profit drivers through 2020-21.
UBS believes lower refiner margins and travel restrictions will have an effect on short-term earnings although the risk/reward remains attractive for the longer term. As travel restrictions ease, earnings should slowly recover but this could take 12-18 months to return to pre-pandemic levels.
Credit Suisse, too, accepts mobility restrictions will be an impediment to marketing volumes and remains at the bearish end of the spectrum in respect of retail margins. Goldman Sachs is more positive continues to expect earnings momentum will be to the upside in 2020, expecting blended market retail margins of 10.8c per litre and a refining margin of US$4.80/bbl.
As the company remains sensitive to a recovery in Australian travel and the re-opening of Victoria, Morgans assesses upside has been factored into the stock. Hence, the broker's rating is downgraded to Hold from Add.
The FNArena database has three Buy ratings and three Hold. The consensus target is $2.09, suggesting 22.9% upside to the last share price. Goldman Sachs, not one of the seven stockbrokers monitored daily on the database, has a Buy rating and $2.15 target.
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