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Research: Energy & Resources
Following a weak H119 due to an unfavourable trading environment for refineries, Hellenic’s profits picked up in Q3. We continue to expect strong growth in FY20 driven by higher refining margins, including the impact of IMO 2020. The strategic update presented at the investor day focused on the growth potential from efficiencies and new investments. We believe the strong cash flow supports both the healthy dividend and capex plan, and investments in the core refining business look particularly attractive.
Written by
Hellenic Petroleum |
Improved environment, new strategy drive growth |
Q3 results and investor day |
Oil & gas |
18 November 2019 |
Share price performance
Business description
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Hellenic Petroleum is a research client of Edison Investment Research Limited |
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Following a weak H119 due to an unfavourable trading environment for refineries, Hellenic’s profits picked up in Q3. We continue to expect strong growth in FY20 driven by higher refining margins, including the impact of IMO 2020. The strategic update presented at the investor day focused on the growth potential from efficiencies and new investments. We believe the strong cash flow supports both the healthy dividend and capex plan, and investments in the core refining business look particularly attractive.
Year end |
Revenue (€m) |
Adjusted EBITDA |
P/E* |
Net debt |
DPS |
Yield |
12/17 |
7,995 |
833 |
5.4 |
1,802 |
0.40 |
4.6 |
12/18 |
9,769 |
730 |
8.0 |
1,460 |
0.75** |
8.6** |
12/19e |
9,113 |
645 |
10.6 |
1,391 |
0.50 |
5.7 |
12/20e |
9,264 |
806 |
7.3 |
1,174 |
0.50 |
5.7 |
Note: *EPS is normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments. **Includes €0.25/share special dividend from DESFA sale.
Investor day highlights attractive capex potential
At its investor day, Hellenic Petroleum provided an update on its growth plans and on the expected impact of the upcoming IMO 2020. On our estimates Hellenic’s strong free cash flow generation is sufficient to finance both the capex plan and the payment of an attractive dividend (we forecast 5.7% yield in FY20). The investments to upgrade the core refinery assets appear the most attractive in our view, with €220m capex driving an increase in EBITDA of €130–175m (based on company guidance) implying a payback period of <2 years. We also expect a more favourable environment for the refining business and we continue to believe Hellenic Petroleum is well-placed for IMO 2020 given its high middle distillate yield, minimised fuel oil output and above average complexity and crude slate flexibility.
Q319 shows significant recovery
There was a strong q-o-q recovery in profits in Q3, as refining margins normalised following historic low levels in H119. However, EBITDA was still 15% lower y-o-y and was below our expectations. We have reduced our forecast for FY19 EBITDA by 5% to reflect a weaker Q3 than previously expected, although our refining assumptions are broadly unchanged for Q419 and FY20. The negative impact from lower refining profits is offset at the bottom line by reduced financing costs as we have better incorporated the impact of the recent bond transactions, with the issue of a €500m bond with a modest 2% coupon. Overall our adjusted net income forecasts are little changed.
Valuation: In line earnings multiples, strong FCF yield
Despite its strong industry positioning, Hellenic trades in line with its European peers on EV/EBITDA (5.3x FY20e vs European peers on 5.0x) and P/E (7.3x FY20e, in line with the sector). The average free cash flow (FCF) yield of c 18% before growth capex in FY20–21 (assuming no significant variations in working capital) is strong and significantly above peers. Our valuation, based on a blend of DCF, EV/EBITDA and P/E values, is broadly unchanged at €9.3/share.
Improved environment and new strategy drive growth
Hellenic Petroleum reported a strong q-o-q profit recovery in Q3, as refining margins normalised following historic low levels in H119. At its investor day, Hellenic Petroleum provided an update on its growth plans and on the expected impact of the upcoming IMO 2020. We continue to believe that Hellenic Petroleum is well-placed for IMO 2020 given its high middle distillate yield, minimised fuel oil output, above average complexity and crude slate flexibility. On our calculations, the company’s strong cash flow generation supports both dividend payments (we estimate c 6% dividend yield in FY19/20) and the growth capex plan (€700m growth capex to achieve its medium-term target of >€1bn EBITDA).
Q3 results strongly recovering q-o-q
In Q319, Hellenic Petroleum reported a significant profit recovery q-o-q, after H1 results were hit by record-low refining margins due to disruption to the availability of Urals oil and weaker cracks for most products. However, Q3 EBITDA of €201m was 15% lower y-o-y (2018 was a record year for the company) and below our expectations (€244m), due to lower margins and higher costs than we expected. The company guidance of €600–650m EBITDA for FY19 was also below our previous forecast of €683m. Key highlights were:
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Q3 adjusted EBITDA was €201m, down 15% y-o-y but implying a significant recovery vs Q119 (€123m) and Q219 (€130m), as the refining business recovered, driven by improved refining margins, a stronger US dollar vs the euro and Russian crude oil supplies resumed in central Europe. EBITDA was however affected by scheduled shutdowns and IMO test runs. In H119 refining margins were at their lowest level in five years and there were problems with Russian crude supplies into Europe. The contamination of large quantities of Russian crude oil in the Druzhba pipeline, which supplies central and eastern European countries, disrupted the supply of Russian crude for most of Q219, affecting the availability and pricing of Urals oil. Margins recovered in Q3 (Exhibit 1) and at the beginning of Q4 the margin recovery continued for Elefsina while margins for Thessaloniki deteriorated. Petrochemicals EBITDA was lower y-o-y due to lower volumes and margins while EBITDA for domestic and international marketing activities were higher y-o-y driven by increased volumes and the positive accounting impact of IFRS16.
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Exhibit 1: Evolution of Med benchmark refinery margins |
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Source: Company data |
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Finance costs reduced: Financial expenses were €27m/quarter in Q3 vs €32m/quarter in Q1 and Q2. Hellenic Petroleum guided for a €15m reduction in finance costs on an annual basis from Q419 due to the replacement of existing bonds with a lower-cost issue. At the end of September 2019, Hellenic Petroleum issued a new €500m five-year bond with a 2.125% yield (2% coupon). Hellenic Petroleum said it received strong demand for the issue with an order book of €1.4bn (more than 50% from international investors) and as a result it increased the size of the issue to €500m (from €400m). The new bond replaces a much more expensive €325m bond issued in 2014 with a coupon of 5.25%, which was repaid at the beginning of July, as well as a bond due to mature in 2021 with a coupon of 4.875% (this was a partial refinancing, with €248m accepted tenders through a tender offer that ran in parallel with new issue).
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Adjusted net income was down 19% y-o-y to €90m, due to lower EBITDA, partly offset by a reduction in financial expenses and a lower tax rate.
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Net debt (excluding IFRS16 lease liabilities of c €180m) was €1,509m, down 15% y-o-y due to cash flow generation and the disposal of DESFA at the end of 2018.
Investor day highlights opportunities from new strategy and IMO 2020
At its investor day, Hellenic Petroleum provided an update on its strategy including its growth initiatives and efficiency targets as well the forthcoming impact of IMO 2020.
Free cash flow appears to support both growth investments and dividends
The company’s main target is to grow EBITDA to >€1bn in the medium term (2020–25, excluding the positive impact of IMO 2020), which compares to its guidance for FY19 of €600–650m. The growth is driven by efficiency gains (digitalisation and energy/procurement/organisation efficiencies), investments in organic growth (including the increase in polypropylene capacity) as well as investments in new businesses (in particular the investments in 300MW renewables; more may follow thereafter). Hellenic Petroleum plans €700m growth investments to achieve the >€1bn EBITDA target. The investments to upgrade the core refinery assets are the most attractive in our view, with capex of €220m increasing EBITDA by €130–175m pa (based on company guidance), implying a payback period of <2 years. The investments in renewable activities may provide a new area of growth for Hellenic Petroleum but there are execution risks, particularly if it considers growing by acquisition; in addition, in our view, returns for renewable projects are likely to remain under pressure due to significant competition. However, according to the company, the investments in renewables offer an opportunity for cash flow diversification/increased stability due to the lack of correlation with the refining business and their low volume/price risk. Hellenic Petroleum targets competitive returns on equity from renewable investments and the company sees synergies with the rest of the business. Renewable investments provide an opportunity to integrate the current operations with a low-carbon business and Hellenic Petroleum targets a reduced risk profile for the group thanks to hedging of both short-term (carbon prices) and long-term risks (fossil fuel decline).
We believe Hellenic Petroleum’s strong free cash flow generation is sufficient to finance its capex plan and allow for dividend payments. We estimate c €450m/year average FCF pre-growth capex in FY20–21 (assuming no significant variation in working capital), which should support both a dividend payment of c €230m/year (our forecast) and growth capex (the company estimates €100–150m/year).
IMO 2020: It is time to switch
Hellenic Petroleum provided an update on the impact on its operations of the new IMO 2020 regulations. Based on the expectation that there will be a high level of compliance, 2–3 million barrels per day of sulphur fuel oil (HSFO) demand (or c 20% of global demand) will be replaced by ultra-low sulphur fuel oil (ULSFO) and marine gasoil (MGO) consumption. Hellenic plans minimal changes to crude processing at Elefsina and Thessaloniki ahead of IMO 2020 as neither refinery produces HSFO. However, Aspropyrgos presents an opportunity to reduce high sulphur feed and replace it with lower sulphur crudes, switching current output from 24% HSFO to just 4% HSFO. The company said that the test runs for Aspropyrgos were completed successfully and the switch to the new operating mode is expected in the second half of November. Hellenic Petroleum has tested various market scenarios and the most positive earnings impact for the company is expected in case of strong marine gasoil demand, while a scenario of strong VLSFO demand would be less positive due to lower refinery utilisation and margins.
In anticipation of IMO 2020, HSFO cracks reduced q-o-q in Q319, while cracks for middle distillates increased, as shown below. We believe this trend is likely to continue in Q4 and beyond.
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Exhibit 2: Spread between ultra-low sulphur diesel and high-sulphur fuel oil |
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Source: Company data |
We expect benchmarks to improve in 2020 due to IMO 2020, although in the longer term this is offset by the impact of global refining capacity additions, on our assumptions. We continue to believe that Hellenic is well-placed for IMO 2020 given its high middle distillate yield, minimised fuel oil output, above average complexity and crude slate flexibility. We assume an average margin outperformance of $5.7–5.8/bbl (unchanged) relative to Hellenic Petroleum’s benchmark in FY19 and FY20 (this is relative to FY18’s outperformance of $6.2/bbl and $5.75/bbl in 9M19). We have conservatively assumed a fairly moderate impact from IMO 2020 (c $0.5/bbl), reflecting an increase in realised margin in the period beyond Q419 as a result of increased middle distillate demand, but we believe there is upside potential to our forecasts. However, there is still significant uncertainty with regards the precise margin impact given unknowns such as compliance, scrubber installations, relative crude discounts and refinery flexibility. Please see our outlook report for more details of the impact of IMO 2020. While the variation in refining margins is a key driver for Hellenic Petroleum, it is important to point out that most of the company’s profitability (75% of FY18 EBITDA) is independent of the refining benchmark.
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Exhibit 3: Historical and Edison assumptions for Hellenic Petroleum refinery margins |
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Source: Company data, Edison Investment Research |
Forecasts: Lower EBITDA and interest expenses
We have reduced our FY19 EBITDA forecast by 5% to reflect the weaker Q3 than previously expected, but we have broadly maintained our refining assumptions for Q419 ($4.6/bbl in Q419 vs $3.3/bbl for 9M19) and FY20 ($4.6/bbl). The negative impact from lower refining profits is offset at the bottom line by lower financing costs as we have better incorporated the impact of the recent bond transaction. Overall, our adjusted net income forecasts are little changed. We have also increased our net debt forecasts to reflect broadly flat working capital (vs a positive variation before).
Exhibit 4: Forecasts changes
Actual |
Edison (new) |
Edison (old) |
Difference |
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Year-end December (€m) |
FY18 |
FY19e |
FY20e |
FY19e |
FY20e |
FY19e |
FY20e |
Adjusted EBITDA, refining |
543 |
412 |
566 |
453 |
580 |
-9% |
-2% |
Adjusted EBITDA, petrochemicals |
100 |
106 |
107 |
106 |
106 |
0% |
0% |
Adjusted EBITDA, marketing |
93 |
139 |
142 |
134 |
138 |
4% |
2% |
Other |
(2) |
(7) |
(8) |
(10) |
(8) |
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Total adjusted EBITDA |
730 |
645 |
806 |
683 |
817 |
-5% |
-1% |
Associates |
(2) |
13 |
10 |
15 |
10 |
||
Adjusted EBIT |
533 |
417 |
560 |
452 |
579 |
-8% |
-3% |
Finance costs |
(146) |
(113) |
(84) |
(130) |
(116) |
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Adjusted net income |
291 |
251 |
364 |
255 |
355 |
-1% |
3% |
Source: Company data, Edison Investment Research
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