EUR 850.00 For Business Accounts Only

Morningstar | No-Moat Z Energy Cements Yield Credentials With Another Policy Shift; No Change to NZD 8.30 FVE. See Updated Analyst Note from 02 May 2019

We make no change to our NZD 8.30 fair value estimate for no-moat Z Energy, which reported lower-than-expected fiscal 2019 underlying EPS, down 14% to NZD 0.44, well below our NZD 0.51 target. However, we think the drivers of earning weakness are short term. Our fiscal 2020 EPS forecast is only marginally weaker at NZD 0.56. Underlying EBITDAF of AUD 434 million came in at the midpoint of recent upwardly revised NZD 420 million-NZD 450 million guidance. But higher-than-expected interest on derivatives and depreciation caught us by surprise. EBITDAF guidance is for a slightly improved NZD 425 million-NZD 465 million in fiscal 2020 on a like-for-like basis before proposed lease accounting changes.

A prolonged refinery shutdown, necessitating distressed purchases of product, and high pump prices adversely affected fiscal 2019 margins as customers shied away. Some demand returned in the second half. Despite this, the firm proffered a slightly higher-than-expected full-year NZD 43 cent dividend for a 97% payout of underlying earnings. We’d anticipated NZD 42.5 cents, based on marginally higher debt reduction. It translates to an attractive fully imputed 6.8% yield at the current NZD 6.35 share price and can be expected to grow as Z Energy has yet again changed its dividend policy.

The prior policy was to pay out 80%-100% of net operating cash flow after maintenance capital expenditure and principal debt repayments such that net debt to EBITDA was allowed to fall to 1.6 by fiscal 2021. This is now moved to a reduced 70%-85% of net operating cash flow less maintenance capital expenditure but with no consideration to the complicating issue of principal debt repayments. We forecast a marginally higher fiscal 2020 DPS of NZD 52 cents, toward the upper end of the new NZD 48-54 cent guidance range. Our prior forecast was NZD 51 cents. The implied 8% plus yield is a key attraction of Z Energy. At around NZD 6.35, we think Z Energy shares remain materially undervalued.

We think this will still allow net debt to EBITDA to fall to sub-1.6 by fiscal 2021 and to near 1.0 by fiscal 2024 all else equal, from 2.0 in fiscal 2019. For its part, Z Energy says it will continue to deleverage to the lower end of its preferred business-as-usual range of 1.5 to 2.0 times gross debt to EBITDAF.

Our NZD 8.30 fair value estimate equates to a non-onerous fiscal 2024 EV/EBITDA of 8.0, and PE and yield of 12.0 and 7.1%, respectively. We assume a five-year nominal EBITDA CAGR of 5.0% to NZD 530 million by fiscal 2024, though from a distressed fiscal 2019 start year; normalised CAGR is closer to 3.2%. We assume a midcycle EBITDA margin of 10.6%, better than fiscal 2019’s low-ball 8.9%, but below fiscal 2018’s 11.9%. This anticipates an unchanged nominal fuel margin of NZD 19.5 cents per litre in fiscal 2024, equivalent to NZD 0.174 in 2019 terms. We estimate Z Energy’s fiscal 2019 fuel margin was NZD 18.3 cents, down on fiscal 2018’s NZD 19.2 cents.

We don't rate Z Energy as having an economic moat. It has a strong position in the New Zealand retail commercial fuel market but is not alone in this regard. Also, it must compete with multinationals with large balance sheets and different economic imperatives. We recommend the company for its yield rather than growth potential. Price competition remains fierce, and Z Energy must deliver earnings growth in this challenging environment. Its Strategy 3.0 delivered NZD 58 million of cost savings in the two years to fiscal 2019, including NZD 19 million in fiscal 2019, with a further NZD 22 million anticipated in fiscal 2020.