Fuel and chemicals group Sasol, the largest single-point emitter of carbon dioxide emissions in the world as its detractors like to highlight, has been the worst-performing top 40 stock this year, down 45% at the time of writing. Trading on a trailing earnings multiple of less than three, it’s been a classic case of cheap getting cheaper.
Of course, earnings multiples don’t always tell the full story. In Sasol’s case, the obligation to make operations environmentally compliant resulted in capex that’s almost double the depreciation charge.
This means on a cash flow basis Sasol’s trailing earnings multiple is higher — about 5.4 at a share price of R100 (equating to a free cash flow yield before working capital movements but after lease payments of 18.5%). The good news is that capex has peaked, barring new growth projects, so the gap between cash flow and earnings should narrow.
Commodity price movements this year haven’t helped. While chemical prices recovered modestly from their annus horribilis last year, oil prices and refinery spreads are down, hurt by weak Chinese demand. Profit margins are also under pressure — in South Africa from poor coal quality and Transnet issues, and in the US from the East Cracker outage at Lake Charles.
These days, the rand has less of a net impact than many people think, with variances on R275bn of revenue offset by R110bn of dollar debt, R30bn of dollar capex and material dollar running expenses. Once dollar debt is repaid or refinanced in rand, Sasol’s rand hedge exposure will improve.
Coal quality from ageing coal mines, or lack thereof, combined with increased third-party purchases, is a major headache for Sasol and the biggest cause of weaker profit margins in recent years (making Sasol’s current market cap to turnover ratio the lowest in its history). It’s hoped that a de-stoning project set to be announced within the next few months, where unwanted rock and mineral impurities are removed from raw coal, will greatly improve its coal feedstock. With a completion timeline of about 18 months, however, the results won’t be immediate. Another option is to use export-quality coal at Secunda should export prices soften.
The benefit of better coal isn’t restricted to gasification, but will also make Sasol’s power station boilers more efficient. With added wind and solar energy in the mix, this should help the company meet the bulk of emissions targets by 2030. Thereafter, further decarbonisation could be achieved with a higher proportion of gas feedstock (currently 10%), whether from Mozambique (where gas wells are expected to deplete by the mid-2030s should more discoveries not be made) or other sources.
A recently initiated review of foreign operations might result in asset sales. While all units are reportedly fair game, the Lake Charles chemical project (LCCP) in Louisiana would be the crown jewel for buyers. Utilising ethane as feedstock, it’s one of the lowest-cost chemical producers in the world and a sought-after business. Though the current weak chemical price environment is probably not the best time to sell, joint venture partner LyondellBasell has long pined for a bigger stake and might pay up regardless. A good outcome would be anything between $3bn and $4bn, which is more than Sasol’s entire market cap (at the upper end) and especially noteworthy since LCCP contributed very little to earnings and cash flow in the most recent set of results.
With liquefied natural gas imports deemed too expensive and gas from Mozambique set to run out in the next decade, the biggest long-term problem for Sasol is finding an alternative primary feedstock for coal at Secunda. A pilot carbon capture and storage project being tested at Leandra might prolong coal use if it proves to be financially and operationally viable, but a positive outcome isn’t guaranteed. Adding to the uncertainty, the South African government
still needs to decide on a carbon tax regime after 2030.
With regard to its financial framework, Sasol’s current policy is to repay debt with 70% of free cash flow and return dividends with the rest. This could change, however, if growth opportunities are identified. The company will provide more clarity on its strategic direction, including gearing targets and medium-term capex guidance, at a capital markets day in April or May 2025. Given the range of possible outcomes, many large fund managers might sit on the sidelines until then.
In China, a country with vast coal reserves but limited oil resources, several new coal-to-liquids (CTL) plants are being built (about R760bn of CTL projects have been greenlit by one city alone). It would be ironic if South Africa, a much poorer country where decarbonisation efforts are immaterial to global outcomes, voluntarily shuts down a company that saves the country billions in foreign currency fuel imports and produces more than 5% of GDP.
It all depends on policymakers. If Sasol is deemed too big to fail, solutions are possible (for example, reduced coal use at Eskom could be enough to meet the country’s emission targets). In that case, the current share price is potentially an attractive entry point.
Would you like to comment on this article?
Sign up (it's quick and free) or sign in now.
Please read our Comment Policy before commenting.