Recurring Results In-Line Despite Larger Harvey Headwind
• Lyondell 3Q EPS is a modest miss vs. consensus ex a gain on sale. LYB reported a headline adjusted 3Q17 EPS of $2.67, $0.29 ahead of our $2.38E and $0.22 better than the consensus of $2.45. That said, results include $108mn in pretax gains, or $0.27 per share, related to the sale of the Geosel business, which is non-recurring. Thus, we view a more appropriate adjusted EPS on the quarter to be $2.40A. We also remind investors that during the peak of Hurricane Harvey, Lyondell had over 70% of its US-based ethylene capacity either shut down or running at reduced rates. Accordingly, we cut our estimate into the quarter by $0.26 from $2.64 prior given the expected headwinds. Indeed, the company is flagging $200mn in pretax, or roughly $0.35 per share, of hurricane-related headwinds, which remains in the adjusted numbers. Thus, we believe investors should give Lyondell a bit of a pass for the slight recurring EPS miss on the quarter, especially given the operating beat. Ex the Geosel sale, recurring operating EBITDA of $1.72bn is still ahead of the $1.7bn Street estimate and our $1.69bn. On a segment basis, O&P Americas (hurricane) and O&P-EAI missed vs. our estimates, while Intermediates & Derivatives and Refining came in ahead. Capital deployment on the quarter of $652mn looks to include roughly $280mn in share repurchases at an average price of ~$91.
• Outlook reads positive. North American olefin margins were more or less flat sequentially in 3Q, but are expanding in 4Q thanks to strong polyethylene (PE) resin pricing following the elevated outages associated with Harvey. Management noted that the downtime during the quarter, and requisite inventory rebuilding in 4Q, will keep the market tight, better positioning the industry to absorb capacity additions in 2018.
• Olefins & Polyolefins (O&P) Americas and EAI miss. O&P Americas EBITDA of $616mn came in $0.11 below our $678mn and the Street at $708mn. As mentioned, this business saw significant disruptions due to Harvey with much of the company’s olefin and polyolefin complex suffering extended outages. However, PE resin prices responded to the lack of operable capacity, and the industry was able to secure a $0.03/lb increase in August with an additional $0.04 in September. Looking ahead, the industry has an additional $0.03 on the table for October as well, which we think ultimately gets accepted by the market. While we believe that the extent and duration of outages meant much of the industry did not fully participate in the improved 3Q price environment, these initiatives provide a positive backdrop for 4Q and early 2018. Across the pond, O&P-EAI earnings of $595mn (ex the Geosel sale) missed vs. our $640mn estimate and the Street at $613mn. Polyolefin sales volumes rallied 11% sequentially in Europe from 2Q levels, but unit margins declined by $0.04/lb, or 14%, in 3Q17, which was a bit larger than we had penciled in.
• Intermediates & Derivatives reports sequential gains. Segment EBITDA of $402mn came in well ahead of our $297mn as a margin of 19.2% beat our estimate by 330bps. We had lowered our numbers for I&D into the quarter given potential implications of Harvey. And while the company flagged some production issues associated with the storm, the degree of caution we exercised was overdone in retrospect. Celanese posted impressive acetic acid profitability on the quarter and we suspect that Lyondell was able to benefit from these spreads as well. The company also benefited from better propylene oxide (PO) and oxyfuels volumes. As we look into 4Q, we continue to see some modest headwinds associated with MTBE C-Factor margins, though styrene and acetic acid should be favorable given price momentum.
• Refining profitability capitalizes on better cracks. In EPS terms, Refining segment EBITDA came in $0.08 ahead of the $12mn we had penciled in. Total throughput of 240kbpd declined 9.5% sequentially, driven by outages the company took due to Hurricane Harvey. We estimate crack spreads improved 14% from 2Q levels however, largely given the regional outages, which enabled the stronger profit capture. These spreads have remained elevated exiting the quarter, which should bode well for 4Q performance especially given the rebound in production.
• We rate shares of LYB Buy with a price target of $106. Our price target which suggests upside total return potential of 10%, including a dividend yield of 3.6%. As a reminder, our LYB price target is based on an average of two valuation frameworks; a relative EV/EBITDA multiple and a relative normalized P/E multiple. Our relative EV/EBITDA multiple uses a 3.0x discount to the group average multiple and reflects a stock price of $108, while our normalized P/E methodology reflects a warranted stock price of $104 based on our normalized EPS estimate and a multiple equal to a 30% discount to the sector average multiple.
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