20131125-新鸿基金融集团-Research_Idea__Strategically_Well_Positioned_Initiate_At_Buy_12页_1mb

Sinopec Investment Summary

Core Content

Sinopec (386.HK) is being initiated with a Buy rating and a 12-month price target of HK$7.75, which represents a +13% upside from current levels. The research highlights three key drivers for the Buy rating: refining EBIT margin expansion, potential for asset injections, and attractive valuation. The stock is expected to outperform its peers and benefit from the ongoing structural changes in China's fuel pricing mechanism and the company's long-term growth strategy.

Main Points

1. Refining EBIT Margin Expansion

• Sinopec's refining margins have historically been a concern, with losses averaging -1.5% since 2011.
• In 3Q13, margins rebounded to +2.0%, indicating a potential turnaround.
• The new fuel pricing mechanism introduced by the National Development and Reform Commission (NDRC) in March allows for more frequent and timely price adjustments, reducing the risk of refining losses.
• Refining EBIT is projected to go from a loss of Rmb -11.4 billion in 2012 to a profit of Rmb 16.0 billion in 2015E.
• This margin expansion is expected to contribute 49% of the projected overall EBIT growth between 2013E and 2015E and is a key driver of EPS growth.

2. Asset Injections as a Value Driver

• Sinopec has raised US$3.1 billion to acquire upstream assets from its parent company (Sinopec Group), including assets in the U.K., Russia, Colombia, and Kazakhstan.
• These asset injections are expected to increase production and reserves, which are viewed positively by the market.
• The company's production growth has been slower than its domestic peers, and its proved reserves stood at 3,964 MM boe at the end of 2012, translating to a reserve life of 9.2 years, lower than the industry average of 11.8 years.
• The company is expected to continue acquiring assets via joint ventures, and any value accretive transactions are likely to boost EPS and trigger a valuation re-rating.

3. Attractive Valuation

• Sinopec currently trades at 9.1x 2013E EPS and 8.3x 2014E EPS, which are lower than the global peer average of 12.8x and below the 1.2x P/B ratio compared to its five-year average.
• The stock is also trading at a -16% discount to PetroChina and is undervalued relative to its historical performance and the potential for future earnings growth.
• The company's ROE of 13% is strong and exceeds its cost of equity by 415 bps, supporting the current valuation.

Key Information

• Price Target: HK$7.75 (Buy rating)
• Upside: +13% from current levels
• Valuation Metrics:
  • 1-year forward P/E: 8.3x
  • 1-year forward P/B: 1.0x
  • ROE: 13%
• Catalysts: FY13 results, refining margin trends, and asset injections
• Risks:
  • Lower than expected oil and natural gas prices
  • Slower-than-expected fuel price reform
  • Lower refining margins
  • Unfavorable asset injections
• DCF Valuation: Based on a WACC of 6.4%, intermediate-term growth rate of 5.0%, and terminal growth rate of 2.0%
• Consensus Estimates:
  • Sinopec's EPS CAGR for 2013E-15E is 6.8%
  • The company's sales are projected to grow at 3.5% CAGR
• Dividend Yield: 4.6% (stable and attractive, with a payout ratio of 30-40%)

Valuation Comparison

Investment Case

Sinopec is expected to benefit from:

• Refining margin expansion due to the new pricing mechanism and cleaner fuel standards
• Asset injections from the parent company, which will enhance production and reserves
• Attractive valuation compared to peers and historical averages

The company's dividend yield and EPS growth make it an appealing investment opportunity, especially considering its discounted valuation and potential for re-rating.