Vetiva Research: Forte Oil: Subsidy income buoys earnings growth

Group turnover slides q/q forte Oil’s fuel business reported a turnover of N35.9billion (-6percent quarter-on-quarter (q/q) in second-quarter Vetiva  research (Q2) 2019, underperforming our estimate of N37.2 billion.

The q/q drop in fuel revenue, we believe, was driven by lower petroleum products supplies by the NNPC, as other top players (notably Total Nigeria Plc and 11 Plc) in the downstream industry reported declines in Q2 fuel sales. Given the industry trend of weaker fuel sales in Q3, we expect a marginal decline in fuel revenue to N35.7 billion in Q3’19, before strengthening to N36.4 billion in Q4’19, buoyed by anticipated increased spending activities during the December festive season.

The lubricants business, in contrast, recorded a modest q/q growth of 2percent, printing at N4.3 billion, which came in line with our estimate. Our FY’19 outlook for FO’S lubricants business remains unchanged, with H2’19 lubes sales forecast at N8.7 billion (Q3’19E: N4.3 billion, Q4’19E: N4.4 billion).

Interest on subsidy propels earnings Gross margin worsened to 6.3percent in Q2’19 (Q1’19: 7.2percent), held down by higher estimated landing costs, as average

FBrent price advanced to $68/ barrel (bbl) in Q2’19 from $64/bbl in Q1’19. Due to the weaker gross margin and higher operating expenses (+39percent q/q) observed during the quarter, FO reported an operating loss of N246 million. However, amidst the tough operating downstream environment, FO witnessed some respite in Q2’19 through devaluation of interest on subsidy, which boosted finance income to N4.2 billion (Q1’19: N198 million).

Stripping out the interest on subsidy, FO would have reported a loss before tax of N750 million in Q2’19. With our expectation of lower average crude prices in H2’19 alongside increasing lubricants contribution to turnover, we expect gross margin to improve to 7.7percent in H2’19 (H1’19: 6.7percent), translating to a FY’19 forecast of 7.2percent (FY’18: 8.4percent).

On segment basis, we expect gross margin in the fuel business to come in at 5percent in FY’19 (FY’18: 7percent); whereas we expect lubricants margin to advance to 24percent (FY’18: 20percent). By year end, we expect an improvement in FO’S operating margin to 3.1percent (FY’18: 2percent), supported by gains of N2.7billion from the disposal of discontinued operations.