EUR 850.00 For Business Accounts Only

Morningstar | Caltex Talks Up its Retail Growth Aspirations While Crude and Currency Hit 2H 2019 Earnings

We retain our AUD 33.50 fair value estimate for no-moat Caltex, despite a 7.5% reduction in our 2018 EPS forecast to AUD 2.26 from AUD 2.44. At its investor day, Caltex said third-quarter retail fuel volumes and margins had been impacted by high crude prices, a weak Australian dollar, and targeted competitor actions. The company said these had crimped retail earnings by approximately AUD 20 million versus the first-half 2018 run-rate. Further, an unplanned outage at Lytton refinery in October reduced EBIT by an additional AUD 15-20 million. In total, we rein-in our 2018 underlying earnings forecast to AUD 590 million from AUD 635 million. This chiefly reflects Caltex guidance, but with some additional lesser massaging. None of this alters our longer-term outlook, with subsequent years’ earnings forecasts and fair value unchanged.

Caltex anticipates an improved 2019 with continued growth from the fuels and infrastructure business to more than offset contract repricing for Woolworths’ fuel supply. Total capital expenditure is expected to be around AUD 350 million, a reduction of 30% on 2018. That’s despite continuation of the convenience retail rollout including the joint Metro store rollout with Woolworths, and Caltex’s own Foodary rollout.

Caltex will from 2019 increase its dividend payout to 50-70% from 40-60% current. We increase our 2019 DPS forecast by 20% to AUD 1.52 from AUD 1.26. At the current AUD 28.20 share price, this equates to handy 5.4% fully franked yield. Caltex shares have continued to weaken from August AUD 33.60 highs and are now in 4-star territory, meaningfully under-valued. Our fair value estimate equates to a 2022 EV/EBITDA of 7.1, P/E of 13, and dividend yield of 4.0%, all discounted at WACC. In nominal terms, the P/E and yield would be 8.6 and 6.0% respectively. Despite re-invigoration of retail strategy, we continue to assume group EBITDA growth has essentially slowed to 4.5% CAGR, in contrast to double-digit growth rates to 2015.

Those hectic growth rates reflected Caltex's first mover advantage into premium diesel fuel.
Caltex is continuing to transition its franchised network to a full company-operated retail model (to be largely completed by end 2020). The plan is to deliver an AUD 120-150 million earnings uplift, accelerated by partnership with Woolworths Metro, and continued new-format Foodary site rollout. The Woolworths partnership leverages reduced supply chain cost and targets 250 sites out of 1,770 in total over five years. Per capita convenience spend in the U.K., Japan and the U.S., for example, is 2-3 times greater than for Australia, highlighting the opportunity. Australia has a higher supermarket density, but regardless favourable consumer trends including a rise in fresh products, take-away food and ready to eat meals, instil confidence that growth can be achieved. Our forecast captures a slightly higher than guidance mid-range AUD 140 million earnings uplift by 2022. It reflects higher foot traffic with loyalty offers, mix shift to higher margin categories and lower cost of goods sold aided by Woolworths. Caltex has comfortingly set the bar at plus 15% EBIT ROCE for the rollout to continue.
Caltex’s focus on retail seems measured and sensible, particularly given the flat outlook for fuel demand for light vehicles in the near term, to potentially declining over the longer term. Ongoing improvements in fuel efficiency and expected acceleration in EV uptake are at cause. Convenience retail accounted for AUD 420 million or 34% of group EBITDA in 2017, of which the non-fuel retail component was less still, though not disclosed. We expect convenience retail EBITDA of just over AUD 550 million by 2022, on a higher 10.8% margin versus 3.2 for the fuels and infrastructure segment. Caltex says any excess capital will be returned to shareholders, as highlighted by the upped payout ratio, but potentially via off-market buybacks. Caltex held AUD 936 million in franking credits at end 2017 which could be put to use.