Concerns about Earnings Emerging
The author is an analyst of NH Investment & Securities. He can be reached at dongyang.kim@nhqv.com -- Ed.
POSCO International posted consensus-satisfying earnings for 1Q20. But, concerns towards its earnings from 2Q20 are emerging on likely: 1) earnings decrease at the trading division amid the Covid-19 crisis; and 2) OP erosion at the Myanmar gas field due to the recent oil price plunge. In order for investment sentiment to improve, oil prices will need to strengthen.
Despite likely further growth at E&P division, oil price plunge to drain earnings going forward
As a result of exploration and drilling in the A-3 mining area in Myanmar, a gas layer (potential reserves of 660bn m3) was discovered in the Mahar structure. POSCO International is expected to commence production around 2027, after further evaluation drilling in 2021. However, due to the combination of the recent oil price crash and the Covid-19 outbreak, the gas sales price (moves in line with average oil price for previous four quarters) is to continue dropping. Also going forward, OP at the firm’s gas field project will likely fall (2020E OP of W365.2bn (-22% y-y); 2021F OP of W269.5bn (-26% y-y)), weighed upon by both the oil price plunge and the termination of a Take or Pay contract clause.
Adhering to a Hold rating, we lower our TP from W22,000 to W17,000, on: 1) downward adjustments to our earnings estimates; and 2) a change in our target discount rate (20 → 40%) in light of both the recent sharp drop in oil prices and the spread of Covid-19. In order for investment sentiment to improve, oil prices (which heavily influence OP at the Myanmar gas field) will need to rise.
1Q20 review: Posts consensus-satisfying earnings
On a consolidated basis, POSCO International announced 1Q20 sales of W5,511.0bn (-11% y-y) and OP of W145.8bn (-11% y-y), with OP arriving in line with consensus.
The Myanmar gas field displayed 1Q20 OP of W97.6bn (-12% y-y before reflection of common expenses), helped by: 1) positive seasonality; and 2) strong supply volume (580mn ft3/day) thanks to the shipment of left-over volume (17.6bn m3) under a Take or Pay contract clause. The trading division booked OP of W48.2bn (-22% y-y), influenced by merchandise price drops (due to Covid-19) and decreased trading volume.
Given continued greater supply on left-over volume stemming from the Take or Pay contract clause, the Myanmar gas field’s 2Q20 OP should be on a par with that in 1Q20. However, OP for the trading division will likely slip both y-y and q-q to W122.8bn (-32% y-y) due to the impact of Covid-19.