PTT begins pre-marketing

The Petroleum Authority of Thailand (PTT) will raise Bt25 billion ($559 million) at the mid point of the valuation range for its all new share offering.

Pre-marketing began yesterday (Monday) under the lead management of Credit Suisse First Boston, Lehman Brothers, Merrill Lynch Phatra and SCB Securities. The transaction comprises up to 30% of the company's enlarged share capital in the form of primary shares, with the addition of a 15% greenshoe of secondary shares to be sold by the Thai government.

Pre-marketing will continue for two weeks and subject to positive feedback, roadshows will begin on October 29, for pricing around November 16 and listing on the Stock Exchange of Thailand (SET) on December 3. An equity valuation of Bt60 billion to Bt100 billion ($1.34 billion to $2.24 billion) has been assigned to the group, meaning that the IPO will raise between Bt20 billion and Bt30 billion ($559 million to $671 million).

A successful deal will be critical for the fortunes of the SET and Thai government, whose privatization programme has an ambitious future and a dismal past. Since the Asian financial crisis, there have been just two government divestments û a $266.4 million offering for PTT Exploration & Production (PTTE&P) in the summer of 1998 and a $67 million IPO of Ratchaburi Electricity Generating Company in autumn 2000, from which overseas investors were excluded.

At the top end of its valuation, PTT will leapfrog to the top of the SET, standing second only to cellular operator AIS, which currently has a market capitalization of Bt123 billion. At the bottom end of its valuation, it will stand fourth behind AIS, Krung Thai Bank and its own 61%-owned subsidiary PTTE&P, which currently has a market capitalization of Bt73 billion.

Either way, the launch of the deal some five years after the company first began to ready itself for market, is a long-awaited signal of the government's intention to actively bolster the stock exchange rather than just talk about doing it. For PTT, which ranked in the Fortune 500 list of global companies at the beginning of the 1990's, the transaction also marks an acceptance of economic reality and an opportunity to start cutting government apron strings.

As such, the deal has been structured as a primary share offering allowing PTT to use proceeds to pay down debt largely incurred in the post Asian crisis bailout of government-owned subsidiaries such as Thai Oil and Bangchak Petroleum. "The whole point of this privatisation is not to raise money for the government, but to free PTT and force it to make its own investment decisions," says one Thai specialist. "Secondary to this, the government has privatization commitments to meet with the IMF and World Bank."

However, the huge size of the offering relative to the SET's $27 billion market cap, combined with an uncertain outlook for oil as a result of events in the Middle East and exceptionally difficult primary markets, means that the deal is being marketed with a very compelling valuation for investors.

Compelling valuation

Similar to CNOOC (China National Offshore Oil Corp), also floated by Merrill's and CSFB in late February, a significant portion of PTT's asset base has been accorded no monetary worth in the company's Net Asset Value.

As one observer describes it, "In a nutshell, this deal is a gift to investors. It has three main highlights. Firstly it offers defensive, utility like returns from the company's gas transmission and distribution network, which is a huge cash flow generator. Secondly, it gives investors the upside from PTTE&P's growth prospects, with the additional benefit of a conglomerate discount priced into the parent.

"And thirdly," he adds, "there's a free option on a cyclical turnaround in the company's downstream businesses, which our analysts estimate should occur in 2003. Investors are paying nothing for this."

PTT has three main business units û gas, oil and petrochemicals. FY2000 EBITDA saw 56% of net income generated by the company's distribution network û it is Thailand's sole purchaser, transmitter and distributor of natural gas. Behind this, its upstream arm PTTE&P, in which it owns a 61% stake, contributed 34% of net income and the oil businesses the remaining 10%.

Observers say that at the mid point of the Bt20 billion to Bt30 billion range, PTT will be priced at a discount to the entire Thai energy sector. On an EV/EBITDA basis this comes out at 4 to 4.6 times 2002 earnings and on p/e basis at 4.2 to 5 times 2002 earnings. The dividend yield will fall between 4% and 6%.

By comparison, PTTE&P is currently trading on a p/e multiple of seven times 2002 earnings, while global emerging market oil and gas companies average p/e ratios of six times and EV/EBITDA ratios of 4.5 times.

Writing down the affiliates to zero

For investors and analysts, one of the main concerns has been the company's large number of unprofitable affiliates in the downstream petrochemicals and refining sectors. Many believe that the company should have been more aggressive in selling them, since it has been unable to turn them to profit.

But as one observer explains, "There's been a lot of concern about the subsidiaries because money was pumped in during the Asian financial crisis, but the returns have been poor and PTT has ended up with a lot of debt on its books. But the company's huge cash flows means that interest coverage ratios have always remained very strong (4.9 times) and these subsidiaries have been written off in the valuation anyway.

"Independent consultants Purvin & Gertz have estimated the replacement cost of these businesses to be $6 billion," he concludes.

Will PTT cannibalize PTTE&P?

Analysts in particular, have also underlined the fact that PTT's IPO might cannibalize PTTEP in which it is the majority shareholder. They argue that investors are likely to switch out of PTTE&P to pick the parent up at a discount and believe that it would have made more sense to inject PTT's distribution businesses into PTTE&P instead.

In terms of switching activity, bankers say that PTTEP's recent purchase of a 34% stake in PT Medco Energi International was a clever move to install confidence and forestall any drop in share price ahead of the IPO. The $225 million purchase represents PTTEP's first major offshore acquisition and is said to be a neat fit since 90% of PTTE&P's EBITDA is derived from gas, while 70% of PT Medco's proven reserves are oil.

Some analysts also state that PTTE&P is overvalued. "In the days when this stock was racking up huge growth rates, we were one of the loudest bulls," says the energy analyst at one US investment bank. "But Thailand is now suffering from oversupply of gas and the company has gone ex-growth. On this basis, we don't think it deserves an EV/debt adjusted cash flow multiple of 8.5 times 2002 earnings, when Sinopec is only trading at 6.1 times and Gulf Indonesia at 4.8 times."

Where PTT is concerned, the parent will be priced a substantial discount to the subsidiary. On the valuation model devised by the leads, a conglomerate discount of 30% is being applied, which means that PTTE&P will account for about 40% of PTT's valuation at the mid point of the range.

A third main issue driving the IPO is PTT's monopolistic hold over gas transmission and distribution. Bankers say that under an accord signed last week, PTT has effectively had its monopoly renewed for another 25 years, with a guaranteed return of 18% per annum, high by industry standards.

Some analysts, however, are not impressed. "It's all very well signing a new accord," one remarks. "But what investors are really going to want is some certainty that the ground isn't going to suddenly shift beneath them once this thing is listed. There have been too many U-turns regarding de-regulation in the past for investors to have much faith in anything the government says anymore."

Foreign investors return to the SET

Lead bankers are nevertheless likely to have been encouraged by a recent surge of liquidity on the SET. From an average daily volume of $30 million to $40 million earlier in the year, trading is now up to about $70 million to $80 million a day.

Institutions, which would have previously moved the market with a basic $5 million trade, have been tentatively coming back and bankers believe that the liquidity offered by a company like PTT will encourage many more. "International investors are likely to be attracted by the fact that the Baht is at a 40 month low," one banker comments. "Thailand should also benefit from the recent terrorist attacks, because it will seem like a safe haven compared to Indonesia and the Philippines."

The number of shares PTT intends to offer will be determined by the share price at issue, with the company receiving approval to issue between 500 million and 850 million. Should it issue up to 850 million, the government greenshoe will amount to 127.5 million shares.

The Thai press has also reported a price range of Bt37.5 to Bt65, although this too will be narrowed down over the coming two weeks. Most of the deal will also be targeted at domestic investors, although again bankers say that the final split has not yet been settled.

Aside from the leads, there will be no further syndicate.

Proceeds will be used to fund the company's five-year expansion plan and re-pay debt. PTT currently has liabilities amounting to $2.85 billion, of which the Ministry of Finance guarantees 86%. Following the IPO, the government will cease to guarantee new debt and has been instrumental in pushing the company to reduce its dependence on dollar funding.

As a result, 70% of its debt is now denominated in baht, with a further 17% in dollars and 13% in yen. Gross debt to equity stands at 123% and the company has stated that it will reduce gearing to 100% by 2004. The more optimistic believe that the ratio may be reduced to 50%.

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