While the positive investment rating for LyondellBasell Industries NV LYB had hinged on the expectation of the company being able to sustain a FCF yield of around 10 percent annually for a longer period, various “cracks” had formed in the investment thesis, JPMorgan’s Jeffrey J. Zekauskas said in a report.
Analyst Jeffrey Zekauskas downgraded the rating for LyondellBasell from Overweight to Neutral, while reducing the price target from $100 to $80.
Cracks Appearing
LyondellBasell’s annual capex, which was expected to be at $1.5b, now seemed to be closer to $2b, as the company invests into increasing its propylene oxide/TBA capacity. This reduces the company’s FCF generation by more than 1 percent annually, Zekauskas mentioned.
While ethane was expected to trade close to fuel value till the new North American ethylene crackers began to come on stream, ethane was now trading at a premium to its fuel value.
“The possible outcome of these small cracks, in our opinion, is that the market may demand a higher free cash flow yield from LYB to discount future risks,” the analyst wrote. He explained that LyondellBasell’s FCF yield was currently around 8 percent, based on the 2017 EPS estimates. If the FCF yield was 10 percent, the company’s shares would be $63, while if the yield was 7 percent, the share price would be $90.
“We do not find the risk/reward balance sufficiently attractive to continue to recommend the shares,” Zekauskas commented.
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