Seeking Alpha
Long/short equity, value, REITs, macro
Profile| Send Message|
( followers)  

PetroLogistics (NYSE:PDH) owns and operates a 544,000 tonne/year dehydrogenation plant that processes propane into both chemical and polymer grade propylene. PDH raised $595 million in its initial public offering on May 4-9, 2012. PDH priced its stock at $17 per share. The stock has closed as low as $10.22 since then. It currently appears to be attempting a rebound with a closing price of $12.48 on Sept. 24, 2012. Reuters cited a rise in raw material prices and top customers planning their own propylene plants as factors in the stock price drop. I don't understand this. Propane prices, the main precursor of propylene, hit multiyear lows of $0.71 per gallon on June 1, 2012. To get there, propane prices had to fall from a near-term high of $1.62/gallon in 2011. That does not sound like raw materials prices are rising to me. Propane prices have rebounded somewhat sine the June 1, 2012, low to $0.87/gallon on Sept. 24, 2012. However, they are still very low. Furthermore, if propane prices go up propylene prices will almost assuredly rise in lockstep as this is currently a tight market.

Other companies are planning to build propane dehydrogenation plants, but that is because propylene supplies are in such short supply. On Sept. 20, 2012, in the U.S. propylene contracts were at 51.5 cents/lb for polymer-grade propylene and 50.0 cents/lb for chemical-grade propylene. Propane prices were near $0.85/gallon. There are 4.2 lbs of propylene per gallon. This means propane was selling for approximately 20 cents/lb -- the margin for profit seems more than adequate.

Will the planned new U.S. propane dehydrogenation factories cut into PDH's margins? It doesn't seem likely for the near future. Enterprise Products Partners' (NYSE:EPD) new 750,000 tonne/year plant is not scheduled to go online until Q3 2015. Dow Chemical Company's (NYSE:DOW) 750,000 tonne/year plant is scheduled to go online in 2015. DOW is even considering a second plant that would go online in 2018. Formosa Plastics 600,000 tonne/year PDH plant is scheduled to go online in 2016. Others are considering new plants. In fact PetroLogistics is currently seeking permission from the EPA to more than double its propylene capacity at its current plant, although it has not made a definite commitment to this project yet. LyondellBasell is also planning to bring on capacity of 227,000 tonne/year. None of these new projects should represent a substantial near-term problem for PetroLogistics .

How tight is the U.S. market for propylene? In 2005, U.S. crackers produced 13B lbs (5.9m tonnes) of propylene. Dan Lippe, president of Petral Consulting, expects U.S. crackers to produce 7.6B lbs in 2012 (down by 5.4B lbs from the 2005 level). As crackers have switched from naphtha to NGLs feedstocks such as ethane and propane, they have produced much less propylene. With the continued growth in NGLs production, this trend seems likely to continue. However, many manufacturers still want propylene. This means the slack will have to be taken up by propane dehydrogenation plants. Being at the forefront of this technology shift puts PetroLogistics in an industry leading position.

In Q2 2012, PetroLogistics had total sales of $193.8 million, with propylene sales contributing $188.9 million. The net loss for Q2 was $37.8 million. However, excluding one-time items, the net income was $64.4 million. Cash available for distribution was $62.7 million. PDH declared a pro-rated distribution for Q2 of $0.26 per common unit ($0.45 per common unit on a full-quarter basis). Capacity utilization was 89.4% during Q2, and this rose to 94.0% in July 2012. The average polymer grade propylene benchmark price was 65.7 cents per lb. The average propane price for Q2 was 97.5 cents per gallon (4.2 lbs/gallon). The propane to propylene spread is calculated as (PGP contract Benchmark Price (cents per lb.) - 1.2 * (Propane Price (cents per gallon)/4.2 lbs/gallon)). This calculation assumes it takes approximately 1.2 lbs of propane to make 1.0 lbs of propylene, and one gallon of propane weighs approximately 4.2 lbs.

What many are not realizing is that the distribution was really $0.45 and not $0.26 per common unit. With the increase in capacity utilization in Q3 so far (from 89.4% to 94.0%), production totals for Q3 will likely be higher. Sales revenues and profits should be too. This makes PetroLogistics a buy both for its dividend and for its improving revenues and EPS. The investor should get both a higher distribution/dividend and a higher stock price soon. PetroLogistics is a buy. If you compare the annualized PDH dividend of $1.80 (14.42%) to those of the its competitors named above, you find there is little comparison. DOW has a 4.2% dividend with an FPE of 11.22. EPD has a 4.7% dividend with an FPE of 20.63. LyondellBasell Industries (NYSE:LYB) has a 3.1% dividend with no FPE given on Yahoo Finance. The above numbers make PDH look very good by comparison. The market usually only moves about six months in advance of events. The planned new propane dehydrogenation factories are not supposed to go online until 2015 or later. Investors should be able to own PDH with relative safety until at least 2014. You could always re-evaluate the situation then. For now, it would appear that the profits should be very good, and this company might be an excellent one to own in the current troubled economic times. It has little competition. It is an especially good buy with its 14.42% dividend.

The chart of PetroLogistics gives some technical direction to this trade.

Click to enlarge image.

The slow stochastic sub chart shows that PDH is neither overbought, nor oversold. The main chart shows that it is currently in a sideways consolidation pattern. When PDH likely comes out with excellent Q3 revenues, EPS, and a full-quarter dividend of likely $0.45 (or even better), one would expect PDH to move upward. If you multiply the adjusted earnings from Q2 2012 by four, you get a P/E of approximately 6.76. This makes PDH look like a terrific value with a 14.42% dividend. It is a buy. However, the overall market is overbought. Plus, the fiscal cliff is looming for the U.S. It makes sense to average in around the fiscal cliff. That event could cause the market to plummet, and it might take virtually all stocks down significantly. Yahoo Finance lists PDH's report date as Oct. 24, 2012.

(Note: Some of the above fundamental fiscal data is from Yahoo Finance.)

Source: 14.42% Dividend Payer PetroLogistics Should See Strong Growth