The bookrunners could be in for a challenge, however, after the IPO launch coincided with a sharp drop in oil and gasoline prices on Monday. While the sell-off - which pushed the benchmark oil futures in New York back below $70 a barrel - shouldn't upset the underlying positive fundamentals for Asian refineries - which are driven by expectations that consumption will continue to outweigh supply over the longer-term - it could have an impact on how much investors are willing to pay for the new stock in the near-term.
Like Reliance Petroleum, Thailand-based RRC is backed by a strong parent group that has a good track record of bringing companies to market that make money for their investors. But while Reliance Petroleum is a greenfield operation which wonÆt see any revenues until 2009, RRC already operates one of the countryÆs most modern and complex refineries that allows it to maintain margins at the high end of those achieved by its peers.
The IPO will also enable the company to raise cash towards an expansion that will boost its production capacity by 45% and act as a growth driver going forward.
According to market sources, the share offer comprises a total of 1.40 billion shares, of which 63% are secondary shares sold by parent company PTT. The other 37% are new shares. They will be offered to investors at a price between Bt18 and Bt23 apiece, which will result in a base offering size of Bt25.2 billion to Bt32.1 billion ($662 million to $846 million).
There is a greenshoe option to sell an additional 200 million new shares in case of strong demand which could lift the deal size to $967 million. If so, it would surpass Thai OilÆs Bt32.5 billion ($862 million) IPO in October 2004 to become the largest Thai primary share offering ever.
Merrill Lynch and Morgan Stanley are joint coordinators and bookrunners for the international portion of the offering, which is expected to account for approximately half the deal. The final split will depend on the demand. Thai investment banks Finansa Securities and Phatra Securities will have the same roles for the domestic offering, which will be marketed towards both retail and institutional investors.
PTT, which is majority-owned by the Thai government, will see its stake in the company reduced to 49.9% as a result of the IPO, or to 46.7% if the greenshoe is exercised in full. PTT became the sole owner of RRC when it bought the 64% stake held by its previous joint venture partner Royal Dutch/Shell in November 2004, at a time when the company was in the need of substantial debt restructuring.
Despite the sell-down, the relationship with PTT will remain solid as the parent has committed to buying at least 70% of the refined products produced by RRC and also acts as a sourcing agent for much of its crude oil supply. PTT is active within the petroleum, natural gas and petrochemicals industries and has a 35% share of the domestic downstream market.
The IPO price range will value RRC at a slight discount to fellow refinery Thai Oil, which is considered to be the closest comparable. That is because they operate in the same market, they both have a high complexity and they will have a very similar shareholding structure as Thai Oil is also 49.99% owned by PTT.
The projected earnings multiples vary from analyst to analyst, but according to investors briefed on the offering, the bottom end of RRCÆs price range will pitch the company at a discount of just over 20% compared with Thai Oil, while the top end will be close to parity.
Earnings estimates from 20 analysts compiled by Bloomberg data values Thai Oil at an average 8.0 times 2006 earnings, although the most bullish earnings forecasts will reduce that PE multiple to about 6.5 times. The valuation multiples for RRC will adjust accordingly, the investors said.
The company posted a net profit equivalent to $310 million in 2005 on sales of $3.7 billion, up from a net profit of $190 million in 2004 on sales of $2.9 billion.
One of RRCÆs key selling points will be its high complexity, which enables it to use sour crude oil from the Middle East that is cheaper but of lower quality than light-sweet crude. Refineries with a complex configuration are able to upgrade sour oil to high value refined products, which allows them to maintain higher margins.
Higher complexity also allows the refinery to more easily switch between different products to match the demand situation.
ôPeople are recognising that there is actually now a divergence in terms of refining margins between the more complex refineries and the less complex ones. The reason behind that is the increasing demand for light and medium distillates,ö says one observer. ôAnd analysts say this gap will continue to widen.ö
Light distillates include liquefied petroleum gas, light naphtha, propylene, reformate and gasoline, while medium distillates refers to jet fuel and diesel.
One of the benchmarks for complex gross refining margins is a calculated number based on input and output prices for crude oil and refined products traded in Singapore. Due to its cost efficiency, RRC typically operates at gross refining margins that are in line or slightly above that measure. In 2005 RRC achieved a gross refining margin of $7.10, compared with the Singapore average of $6.74.
Because of the supply/demand situation, refining margins have continued to edge upwards.
ôThe key thing is that people havenÆt reduced their use of refined products even as prices have gone up and with demand continuing to outweigh supply this is a sweet spot for refineries,ö says a source familiar with the industry.
However, if crude prices continue to rise there is still a risk that the large consumers of gasoline, diesel and other fuels, such as airlines, will start to cut back on their usage. If that happens though, the most cost efficient players are likely to suffer the least, one observer notes.
That description would fit RRC, he reckons. Having started operations in 1996 as a joint venture between Royal Dutch/Shell and PTT, the company is considered relatively modern and cost efficient in an industry where plants can easily operate for 40 or 50 years. One example is that RRC only needs one major maintenance shut-down every five years, compared with the usual one stop per four years.
And since the latest of these stops was done in 2005 (when operations were halted for just over one month) the company can now run at full capacity through the whole peak of the refining cycle, observers note.
In the first quarter this year, the company operated at 108% of its total nameplate capacity of 145,000 barrels per day, up from 92% in 2005. The capacity is due to increase to 210,000 bbl/day by the third or fourth quarter 2008 when a reforming complex that it is building together with Aromatics Thailand and an adjacent upgrading complex it is constructing on its own account come on stream.
Meanwhile, earlier concerns that the political noise in Thailand this year would upset the upcoming IPO has proved to be unfounded with little noticeable impact either on consumption of refined products or indeed on investor interest for Thai equities. In fact, after the parliamentary elections in early April and Prime Minister ThaksinÆs decision to step down, the Thai stock market rebounded to hit a new record high. It is currently up 7.3% year to date.
Investors are, however,likely to question RRCÆs decision to end an operating alliance with Star Petroleum Refining Co, which runs a neighboring refinery, by February 2009. The alliance, which has been in place since 1999, has led to an integration of the operations at the two refineries to achieve synergies and to optimise their efficiencies and capacity utilisations.
According to investors, RRC highlights in a preliminary listing document that the termination of the operating alliance and the unwinding of the joint operations may have a material and adverse impact on its business, financial conditions, operations and prospects.
The company also still has a substantial amount of debt on its books which could hamper the operational flexibility and access to funds needed to grow its business. It may also affect the companyÆs intention to distribute 30% of its net profit as dividends.
As of the end of March this year, RRCÆs long-term debt amounted to $584.2 million, or 79% of its shareholders equity. That compared with $115 million in net cash raised from operating activities in the first quarter.
The order books will remain open until May 25, when the final price will be fixed. The shares are expected to start trading on June 5.
IndiaÆs Reliance Petroleum surged 70% on its first day of trading May 11 before succumbing to profit-taking and settling 42.4% above its IPO price. As of yesterday (May 15) it was up 32% since its debut.
Meanwhile, Thai Oil is up 14% from its 2006 low in mid-February and has more than doubled since its IPO in 2004. It is currently trading 10% below the 2006 high it hit three and a half weeks ago.
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