Now Is The Time To Buy LPG Stocks
Summary
- LPG stocks (LPG, AVACF, BWLLF) are priced at a deep discount to NAV.
- Warmer weather in Eastern US will result in a fall in demand for propane and a fall in Mt. Belvieu propane price.
- Freight rates to increase during Q2 and Q3.
- Q2 could represent a good entry point for the LPG stocks and according to the analysis below, some of them have an upside of more than 100%.
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Backdrop
The LPG shipping sector has had considerable headwind the last couple of years after the boom years of 2014 and 2015. With sky-high rates in those years, owners rushed to order new ships. Between 2015 and 2018, 110 ships were scheduled for delivery. Fortunately, the newbuild bonanza has ended and most ships have been delivered in 2016 and 2017. According to Avance Gas's (OTCPK:AVACF) latest presentation, out of the 110 mentioned ships, 108 have been delivered and there are no scheduled deliveries between March and December this year. For 2019 and 2020, there are 17 and 11 ships respectively in the order book.
The current market
At the time of writing, the market is very weak. The Avance Gas Spot Index had been hovering around 10k USD per day in the beginning of the year, but has recently dropped below 3k USD per day. The cold spring in the Eastern United States has not helped. With temperatures below normal for most part of late winter and early Spring, propane demand has been a lot higher than normal, putting pressure on LPG inventory. Hence, Mont Belvieu spot price has been higher than normal for the time of the year and price spreads to Asian spot prices have been too small to warrant arbitration trade.
Market outlook
Supply
According to the latest EIA propane inventory report, This Week In Petroleum Propane Section, inventory may have bottomed out last week. With increasing temperatures forecasted for the next 8-14 days, Climate Prediction Center - 8 to 14-Day Outlook, one should expect inventory builds.
Production is still high and increasing. According to the EIA's propane inventory report, the y-o-y increase is about 7-8%. This development is expected to continue and accelerate as the high oil price will increase drilling activity in onshore US.
The EIA expected US propane production to increase about 7% in 2018 and a further 4% in 2019. I think this forecast may prove to be too conservative. With the recent increase in the oil price, most US onshore fields are very profitable. If the oil price stays at current levels or higher, I am expecting the propane production increase to accelerate towards double-digit levels.
As mentioned, the fleet growth in 2018 and propane production growth should easily outpace the fleet growth. In summary, the fleet utilization should increase from the levels seen in 2017. In my analysis below, I have forecasted utilization to increase by 2 percentage points from 2018 to 2019.
Demand
The demand is high and increasing in most regions. LPG is a relatively clean energy source, at least when comparing to coal. Household demand is increasing in many regions, especially in the Far East. Demand is also strong from the PDH plant, especially from China. According to BWLPG's latest quarterly presentation, demand from China increased more than 2 mTons y-o-y and close to 2 mTons from India. As more households are converting from coal to LPG for heating and cooking, I expect this trend to continue. Also Indonesia, Japan and South Korea should contribute to increased household demand in the coming years.
When will the market turn?
Given the above-mentioned factors, I am expecting a market recovery to be imminent. Will it happen in Q2 or Q3? We will have to see, but the factors are now stacking up for a recovery.
In my opinion, the trigger will have to be the opening of the arbitration trade between the US Gulf and Asia. We need to see price spreads on propane to increase. With the oil price expected to remain relatively stable going forward, do not expect a large increase in the Asian propane spot price. As such we need to see a drop in the Mont Belvieu spot price. I am expecting this to happen in the next coming weeks gradually, as the market is gaining confidence in the inventory build. The cold spring so far has delayed this development, but it should start to happen now.
Freight rate development
Given all the factors discussed above, I have put up my expectations for the coming quarters on the freight rate development
Quarter | Baltic LPG Rate (Dollar Per Day) |
Q2 2018 | 15k |
Q3 2018 | 30k |
Q4 2018 | 25k |
Q1 2019 | 25k |
Q2 2019 | 40k |
Q3 2019 | 50k |
Q4 2019 | 30k |
As we are entering Q2 with a very low freight rate environment, we will have to see a relatively steep recovery in May and June to achieve an average rate of 15k. During, Q3 we should see rates above 30k, putting all LPG names into positive territory in terms of EPS. If the winter market follows the traditionally trend, rates will fall with lower demand, but the summer market in 2019 could be even stronger than this summer, with rates peaking above 50k, as the market tightens even more with the increased demand and slower supply growth.
LPG names and valuations
In this article, I am covering the 3 main listed LPG names, Dorian LPG (NYSE:LPG), Avance Gas, and BW LPG (OTCPK:BWLLF). All names have been trading at a deep discount to net asset values lately, owing to the weak market. Obviously, if the market improves, they are good buys at current levels.
Below are estimates for all three companies. Sources are the latest company presentations. Opex levels are kept flat compared to current levels, while interest expenses are increased slightly to take into account increasing interest rates. All three names will struggle to make a profit in 2018, owing to the weak market going into the year, with spot rates averaging 20,000 USD/day. In 2019, however, the increased spot rates are clearly visible in the estimates, giving all 3 companies a healthy net profit.
Target prices are calculated by applying a conservative P/E of 6 to the 2019 estimated EPS. LPG and AVACF have the higher upsides, which is explained by higher operational gearing and higher spot exposure.
| AVANCE | BWLPG | DORIAN | ||||
| 2018 | 2019 | 2018 | 2019 | 2018 | 2019 | |
| # of ships | 14 | 14 | 47 | 47 | 22 | 22 |
| # ships spot | 14 | 14 | 35 | 35 | 18 | 18 |
| # ships TC and CoA | 0 | 0 | 12 | 12 | 4 | 14 |
| Fleet utilization | 88% | 90% | 90% | 92% | 90% | 92% |
| Spot rate (USD/day) | 20000 | 36200 | 20000 | 36200 | 20000 | 36200 |
| TC rate (USD/day) | 20000 | 25000 | 20000 | 25000 | 20000 | 25000 |
| Revenue spot (mUSD) | 89.9 | 166.5 | 230.0 | 425.5 | 118.3 | 218.8 |
| Revenue TC (mUSD) | 0.0 | 0.0 | 78.8 | 100.7 | 26.3 | 117.5 |
| Operating costs (mUSD) | 38.3 | 38.3 | 200 | 200 | 84 | 84 |
| EBITDA (mUSD) | 51.6 | 128.2 | 108.8 | 326.2 | 60.5 | 252.3 |
| Net profit (mUSD) | -14.4 | 60.2 | -61.2 | 151.2 | -27.5 | 162.3 |
| # of shares (M) | 64.5 | 64.5 | 141.9 | 141.9 | 55.1 | 55.1 |
| EPS | -0.22 | 0.93 | -0.43 | 1.07 | -0.50 | 2.95 |
| Target Price USD | 5.6 | 6.4 | 17.7 | |||
| Target Price NOK | 43 | 49 | ||||
Risk
The obvious risk factor is that the turnaround in the market does not materialize. All names have quite a high leverage and are dependent on an improvement in the market the next couple of years to avoid raising new equity. If they have to raise equity in a depressed market, there is a risk of dilution of current shareholders.
This article was written by
Analyst’s Disclosure: I am/we are long BWLLF, AVACF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
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Comments (48)
Most data i´ve seen on the matter (both in this industry and in others) points to sales prices adjusting very fast to changes in input costs, and supply/demand of the thing that your company is doing determining how profitable operating is (whereas costs that are shared by all players are usually pretty irrelevant)
The VLGC market has been a notch stronger in both the East and the West this week, despite several national holidays that reduced activity. A few Iran-cargoes have reduced the position-list in the MEG, and though there still is availability a rebound in activity could push rates further up above opex levels. In the West, prices have fallen over the past few days, and this has improved export economics to the East. Quiet in the market this week though, but with most of the tonnage now controlled by the “main operators” rates could crawl above the USD 50/ton level for USGoM – Asia
The main positive we now see – and what is crucial for the VLGC market – is how Asian prices appear to climb slightly, and particularly so in the near term. All major importers are in buying mode, and securing spot cargoes. Further, the inventory-build season in the US has commenced, and this despite production reportedly being hurt by some fractionation-issues and the Mariner East 1 pipeline in PADD1 still being down. Reports here of imminent restart though
Midstream-operator Targa Resources yesterday delivered Q1 figures, with a key focus being its growing NGL production. It expects this to grow from currently ~300kbpd to “over 500kbpd” by the end of 2020, with both incremental fractionation and pipeline capacity coming on stream over the coming year
tc equivalent and they put usd 3000 I think it,s even lower
http://bit.ly/2r0Zeq9
they had cash and cash equivalents of aroud usd 62 millWould not be surprised if the figure after 1q 18 is down usd 10 mill and the way 2 q looks , say, another usd 15 millIn my opinion they need to fill up within 2018I have worked on some figuresBunker prices in Singapore today is around usd 410 - Earlier in the year it was usd 375 - That is
usd 1.800 per day over a RV Rt/Chiba/RT ( 45 days) - usd 1 on spot rate up or down is around usd 400 per dayTotal voyage expenses on a RV based usd 410 should be around usd 875.000Freight at say usd 22 is ca usd 970.000So divide the freight minus voyage expenses by 45 and you have a TC equivalent BUT remember this is without any waiting time which is inevitable in a bad market
Well, shits happening but LPG is now back to start.
Lower rates on lower utilisation. We have lowered our rate forecast for 2018e to ~USD12k/day (down from USD21k/day), 2019e to ~USD18k/day (down from USD31k/day), and 2020e to ~USD28k/day (USD36k/day).
2018e tonne-mile set to decline 1%, while fleet growth set to grow by 3%. We forecast LPG tonne-mile demand growth of -1% for 2018e (down from our previous forecast of 8%), while we have raised 2019e to 13% (from 5%) and 2020e to 6% (from 3%). We have increased our 2018e fleet growth forecast to 2.8% (from 2.5%), 4.0% for 2019e (from 3.0%), and reduced our estimated fleet growth for 2020e to 0.4% (from 1.7%) due to higher scrapping assumption.
US production materialised, but surprising demand growth hampered shipping. In our October sector report entitled “It’s coming, but with a slight time lag” we said US LPG production was set to catch up with US oil production growth and accelerate through the year, which it did as Q4 2017 posted 9% YOY growth in US LPG production and YTD is up 8%, in line with forecasts. Still, US propane/propylene stocks are below last year, while net exports YTD are down 22% YOY. Unlike last winter, when US exports led to excessive stock draws, this winter has seen a sudden rise in US consumption of 7% YTD versus the five-year average and 15% YOY after 0% average growth in the last 20 years. We believe cold weather and rising US petrochemical demand are to blame, prompting reductions in our 2018 forecasts, in fact leading to negative growth in US exports YOY, before an improving US balance in 2019–2020e.
Last time liquidity was a concern, our peer group was trading at 0.3x NAV. With our LPG peer group priced at an average 0.67x P/NAV, just slightly below its four-year 0.74x average, we see more downside than upside risk with our new 2018–2019e rate forecast below cash break-even, which is set to challenge all three companies’ liquidity. During autumn of 2016 (the last time liquidity was a concern), our LPG peer group was trading at 0.30x NAV, suggesting 55% downside potential for the group.
We have downgraded BW LPG to HOLD (from BUY) with target price of NOK31 (down from NOK45), Avance Gas to HOLD (from BUY) with target price of NOK22 (down from NOK28) while we have kept our HOLD and USD8.2 target on Dorian LPG.