Philippine Markets Newsletter

This company was able to fuel people’s dreams through its product development and adaptability, launching a Uniform ROA of 6%, not 4%

April 6, 2021

Through the years, gasoline stations have evolved from purely being a gas seller to rest stops with convenience stores and automotive repair services.

Despite the challenges in the oil and gas industry, this oil refining company’s focus on its product development and its ability to adapt have helped it achieve above cost-of-capital returns. However, as-reported metrics are showing that these strategies have not helped the company at all.

Also below, Uniform Accounting Embedded Expectations Analysis and the Uniform Accounting Performance and Valuation Tearsheet for the company.

Philippine Markets Daily:
Tuesday Uniform Earnings Tearsheets – Philippine-listed Focus
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From 1998 to 2008, oil and gas companies enjoyed high crude prices amid the strong demand from emerging economies such as China, U.S., and India. However, due to the negative effects of high oil prices on their economies, these countries began to increase their efforts to produce oil.

Specifically, the U.S. private companies discovered fracking, a new exploration technique that allowed them to sharply boost their oil production.

Meanwhile, Saudi Arabia, the largest oil producer, kept its production stable in order to protect its market share. As a result, crude prices began to globally decline further, signalling the start of the 2014 oil glut.

The overproduction hurt several oil and gas companies in all three oil segments–upstream, midstream, and downstream. Among these three segments, the downstream is the one that benefits from cheap oil and natural gas prices because they can buy raw materials or feedstocks at lower prices.

In the Philippines, one of these downstream companies include Phoenix Petroleum Philippines, Inc. (PNX:PHL).

Incorporated in 2002, the company’s main focus has been on strengthening its core product: fuel. At the beginning of its operations, the company only focused on distributing its petroleum products to various commercial entities and offering storage facilities for its clients’ oil tanks, with Cebu Pacific being its first big customer.

Through this deal, the company became the exclusive logistics partner and the major fuel supplier of the airline. Having a long-term partnership with Cebu Pacific eventually helped the company venture into the retail business while still remaining focused on its main product, adding different varieties of lubricants to its retail line and opening stations across the region.

Phoenix Petroleum further expanded by opening a number of franchises in the Luzon region through its increased marketing efforts.

After achieving a significant milestone by opening a total of 505 stations nationwide at the end of 2016, the company began to explore other businesses in order to expand its portfolio.

Instead of focusing on just fuel products, the company also entered the LPG business by acquiring Petronas Energy Philippines Inc. in 2017. It also acquired the Philippine FamilyMart in 2018 to expand its portfolio into convenience store retailing.

On top of that, Phoenix Petroleum founded PNX Petroleum Singapore, its regional trading and supply arm, which further strengthened its geographical presence and its position as one of the leading oil companies in the country.

In addition to all those things, Phoenix Petroleum launched its cutting-edge Phoenix PULSE Technology in its fuel products to meet trends on fuel-efficient cars. This technology produces advanced cleaning and protection properties for enhanced power and acceleration, making trips more efficient and effective.

Overall, Phoenix Petroleum’s focus on strengthening its core product and its ability to capture consumer-shifting trends seemed to help the company cope with the challenges in the oil markets.

However, as-reported metrics show that these strategies have not helped the company at all, showing only meager profitability in recent years.

In reality, thanks to its product development strategies, Uniform ROAs have actually been generally above cost-of-capital levels in the past sixteen years.

One of the said distortions stems from how Philippine Financial Reporting Standards (PFRS) classifies interest expense.

According to PFRS, interest expense is an operating cash flow. In reality, interest expense represents the cost of debt and is rightfully a financing cash flow. As such, in Uniform Accounting, interest expense is added back to earnings.

For example, in 2019, Phoenix Petroleum recognized an interest expense of PHP 2.7 billion, which is significantly larger than its as-reported net income of PHP 1.5 billion.

After adding the PHP 2.7 billion back to earnings, net income increases, and with the many necessary adjustments Valens makes, we arrive at a Uniform ROA of 6%.

Phoenix Petroleum’s earning power is stronger than you think

As-reported metrics distort the market’s perception of the firm’s historical profitability. If you were to just look at as-reported ROA, you would think Phoenix Petroleum’s profitability has been weaker than real economic metrics have highlighted in fifteen of the past sixteen years.

In reality, Phoenix Petroleum’s true profitability has generally been higher than its as-reported ROA since 2005. Specifically, Uniform ROA was 6% in 2019, but as-reported ROA was only 4% that year. Though this difference may seem small, it’s actually the difference between a profitable company and a company barely earning enough to cover its cost of capital.

As-reported ROA has jumped from 3% in 2005 to a peak of 15% in 2006, before compressing to 5% in 2009 and recovering to 7% in 2010. Since then, as-reported ROA has declined to 4% in 2019.

Meanwhile, after expanding from 3% in 2005 to a peak of 22% in 2006, Uniform ROA declined to 5% in 2009. It then improved to 9% in 2010 before receding to 5% in 2015. Thereafter, Uniform ROA recovered to 8% in 2016, and then compressed to 6% in 2019.

Phoenix Petroleum’s earnings margin is weaker than you think

Trends in Uniform ROA have been primarily driven by trends in Uniform earnings margin.

As-reported margins improved from 2% in 2005 to 6% levels in 2006-2007, before fading to 5% in 2008 and subsequently recovering to 7% in 2010. Thereafter, as-reported margins declined to 4%-5% levels in 2011-2013, before expanding to a peak of 10% in 2016 and compressing to 6% in 2019.

Meanwhile, Uniform margins expanded from 1% in 2005 to 5% in 2006, before compressing to 2% in 2008 and rebounding to 4% in 2010. Then, Uniform margins regressed to 3% levels in 2011-2013, before improving to a peak of 8% in 2016 and falling to 3% in 2019.

Looking at the firm’s margins alone, as-reported metrics are making the firm appear to be a more cost efficient business than is accurate.

SUMMARY and Phoenix Petroleum Philippines, Inc. Tearsheet

As the Uniform Accounting tearsheet for Phoenix Petroleum Philippines, Inc. (PNX:PHL) highlights, it trades at a Uniform P/E of 24.1x, around the global corporate average of 25.2x, but above its historical average of 20.5x.

Average P/Es require moderate EPS growth to sustain them. In the case of Phoenix Petroleum, the company has recently shown a 76% Uniform EPS decline.

Sell-side analysts provide stock and valuation recommendations that in general provide very poor guidance or insight. However, sell-side analysts’ near-term earnings forecasts tend to have relevant information.

We take sell-side forecasts for PFRS earnings and convert them to Uniform earnings forecasts. When we do this, Phoenix Petroleum’s sell-side analyst-driven forecast calls for an 18% and a 79% Uniform EPS decline in 2020 and 2021, respectively.

Based on current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify Phoenix Petroleum’s PHP 11.28 stock price. These are often referred to as market embedded expectations.

Phoenix Petroleum is currently being valued as if Uniform earnings were to grow 1% annually over the next three years. What sell-side analysts expect for the company’s earnings growth is below what the current stock market valuation requires in 2020 and 2021.

Phoenix Petroleum’s earning power is slightly above the long-run corporate average. However, cash flows are below its total obligations—including debt maturities, capex maintenance, and dividends. Also, intrinsic credit risk is 1,275bps above the risk free rate. Together, this signals a high dividend and credit risk.

To conclude, Phoenix Petroleum’s Uniform earnings growth is in line with its peer averages in 2020. Furthermore, the company is trading above with its average peer valuations.

About the Philippine Markets Daily
“Tuesday Uniform Earnings Tearsheets – Philippine-listed Focus”

Some of the world’s greatest investors learned from the Father of Value Investing or have learned to follow his investment philosophy very closely. That pioneer of value investing is Professor Benjamin Graham. His followers:

Warren Buffett and Charles Munger of Berkshire Hathaway; Shelby C. Davis of Davis Funds; Marty Whitman of Third Avenue Value Fund; Jean-Marie Eveillard of First Eagle; Mitch Julis of Canyon Capital; just to name a few.

Each of these great investors studied security analysis and valuation, applying this methodology to manage their multi-billion dollar portfolios. They did this without relying on as-reported numbers.

Uniform Adjusted Financial Reporting Standards (UAFRS or Uniform Accounting) is an answer to the many inconsistencies present in GAAP and IFRS, as well as in PFRS.

Under IFRS, each company’s financial statements are rebuilt under a consistent set of rules, resulting in an apples-to-apples comparison. Resulting UAFRS-based earnings, assets, debts, cash flows from operations, investing, and financing, and other key elements become the basis for more reliable financial statement analysis.

Every Tuesday, we focus on one Philippine-listed company that’s particularly interesting from a UAFRS vs as-reported standpoint. We highlight one adjustment that illustrates why the as-reported numbers are unreliable.

This way, we gain a better understanding of the factors driving a particular stock’s returns, and whether or not the firm’s true profitability is reflected in its current valuations.

Hope you’ve found this week’s Uniform Earnings Tearsheet on a Philippine company interesting and insightful.

Stay tuned for next week’s Philippine company highlight!


Angelica Lim
Research Director
Philippine Markets Daily
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