Change in guidance
Viva Energy Group (VEA) reported a December Geelong Refining Margin (GRM) of US$3.3/bbl, which saw it average US$7.4/bbl for calendar year 2018, falling short of its revised guidance of US$8.00/bbl. It's not a surprising development given the recent weakness observed in industry refining margins, caused by weak gasoline cracks resulting from a supply glut in the region.
This has seen VEA reduce its 2018 refining EBITDA (replacement cost (RC) basis) guidance to A$125m (was A$150m), equivalent to an approximate 4% downgrade in group EBITDA guidance.
More pain from refining
The source of the downgrade, continuing weakness in refining margins, should not be a great surprise to the market, albeit the December low was worse than we expected. We observe additional refining capacity coming online recently in China as contributing to the current regional surplus of gasoline supply and prolonging the downturn in margins.
While we expect December to be a low-point, we now factor in the market taking longer to 'digest' the supply glut than previously expected.
Refining margins cratering
We have trimmed our 2018 forecasts in line with new guidance of A$125m EBITDA (RC) for refining. Against a long-term average of US$9.7/bbl, we also now forecast a 2019 refining margin of US$7.8/bbl (was US$8.4/bbl) after factoring in the lower than expected floor in margins and slowing the assumed recovery to more typical levels.
Following these changes our earnings per share estimates have been decreased by 6% for 2018 and by 5.8% for 2019.
We see recent (temporary) impacts to VEA's business as pushing the stock into oversold territory, with VEA now trading on a PE of 10.0x and an EV/EBITDA of 5.5x. These multiples imply VEA's entire business is being valued as a refining business, ignoring the fact that the largest part of VEA's business is retail (where peers are trading on PEs of 18-22x). Not mentioned in the update were the rest of VEA's segments (retail/marketing), which would suggest they are still performing ahead of original guidance.
We have revised down our share price target but retain our Add recommendation. The key risk to our call is further weakness in refining or a deterioration in retail trading conditions or the Coles Alliance relationship.
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Disclaimer(s): Morgans Corporate Limited is a Co-Lead Manager for the initial public offer of shares in Viva Energy Group Limited and may receive fees in this regard.
Analyst owns shares.
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