Earnings Likely to Begin Improving Gradually from 3Q22
The author is an analyst of NH Investment & Securities. He can be reached at yk.choi@nhqv.com. -- Ed.
We view Lotte Chem’s current valuation as being fully reflective of market concerns towards unfavorable industry conditions. Negatives will likely fade by end-1H22. After reaching a bottom in 2Q22 on high cost burden, Lotte Chem’s earnings should recover gradually from 2H22.
Lotte Chem shares already reflective of negative factors
We initiate coverage on Lotte Chemical (Lotte Chem) at Buy, with a TP of W240,000. Our TP is derived by applying a target EV/EBITDA of 3.4x to our 12-month forward EBITDA estimate. The target multiple is at a 20% discount to the weighted average of 2022~2023 EV/EBITDA (4.3x) of domestic peers, with the discount explained by the fact as a maker of general-purpose petrochemical products, the firm tends to receive a discount (an average of 20% since 2010) compared to its peers. Our TP is equivalent to a P/B of 0.52x.
With Lotte Chem’s shares currently trading at a 2022E P/B of 0.45x, their all-time low point, we view market concerns towards tepid industry conditions as already being baked into the firm’s share price. Despite unfavorable industry conditions (sluggish demand, excess supply, and high cost burden), we believe that the petrochem industry is nearing a bottom, expecting Lotte Chem’s OP to improve from 2H22. And, given the company’s aggressive investment in new growth drivers, valuation re-rating should be in the cards once earnings improvement is confirmed.
All negatives to fade by end-1H22
We see 2022E sales of W21,531.7bn (+18.8% y-y). While sales are set to climb y-y thanks to product price hikes amid high oil prices, the extent of this price expansion will likely fall short of that for the naphtha price climb due to slow demand. We forecast that full-year OP will shrink by 66.2% y-y to W518.9bn.
Affected by negative lagging effects (lofty naphtha prices in 1Q22 are to be reflected in 2Q22 cost figures), quarterly earnings this year will likely hit their lowest point in 2Q22. However, earnings should begin improving gradually from 3Q22 in line with an easing cost burden in line with oil price drops.