One-off items may drag down profit. China XLX (XLX) may see substantial one-off expenses from capacity ramp-up at a new plant and maintenance work at old plants in 2Q09. Ramp-up expenses for the new plant should have been incurred during the trial period April to June. Also, the Group shut down its old plants by a week for regular maintenance.
Urea prices softened in May-Jun 09. Industry sources say that average ex-factory price of urea in Henan edged down from Rmb1,720/tonne in 1Q09 to Rmb1,700/tonne in 2Q09 due to seasonality. During the high season in Mar 09, urea price in Henan topped Rmb1,900/tonne before declining to Rmb1,800/tonne in Apr 09 and below 1,600/tonne now.
Anthracite coal price only dropped in Jun 09. Anthracite coal price in Henan remained at about Rmb1,200/tonne in Apr-May 09 before falling below Rmb1,000/tonne.
Methanol segment still making losses. Despite having rebounded from the trough of Rmb1,200/tonne as at end-08 to Rmb1,500-1,600/tonne, exfactory price of methanol remains below XLX’s unit cost of >Rmb1,900/tonne. Compound fertiliser. Sales of compound fertilisers should decline in 2Q09. According to industry sources, farmers are starting to switch from compound fertilisers to nitrogen, phosphate and potash due to cost considerations.
Maintain profit forecasts. Despite the poor results expected for 2Q09, we maintain our earnings forecasts for 2009-11. We expect profit to resume growth next year, driven by the full-year contribution from the new plant. A recovery in urea and methanol prices next year could also spur profit growth.
Consolidation in China urea industry. Standing at the cash breakeven point of urea producers in general, urea prices in China are stabilising at Rmb1,600/tonne and downside is limited. Consolidation in China’s urea industry is speeding up, with the expansion of large low-cost producers edging out small high-cost plants. About 10% of China’s urea capacity (6m tonnes) has been shut down. As its production costs are 15-20% lower than competitors’, XLX is set to expand its market share.
Contribution of Plant III. The new plant – Plant III – completed the trail run in Apr-Jun 09 and started commercial production in Jul 09. It is expected to reach full utilisation next year. The capacity ramp-up expenses are one-off. In addition, Plant III will start contributing to profit in 2H09. Given its more advanced technology, the new plant boasts a unit cost that is Rmb50/tonne lower than the two old plants’ average cost of Rmb1,350/tonne, implying higher margins.
Recovery in international urea prices in 2010. With the drop in global urea demand and prices, the export window for Chinese urea producers was closed in Feb-Jun 09. This aggravated the oversupply in China’s urea market, dragging down domestic urea prices. We expect the recovery in international urea prices – a result of easing credit conditions and higher grain prices – to spur domestic urea prices next year.
XLX is trading at 6.1x 2009F PE and 4.7x 2010F PE, much lower than the average PE for domestic and global peers. Despite the industry headwinds in the near term, we remain upbeat on XLX, given its strong position amid the industry consolidation in the medium to long term. Maintain BUY with a target price of S$0.57 based on 8x 2010F PE.
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