Sasol, when will dividends return? – analysis of earnings guidance
Oil and chemical giant Sasol released a highly anticipated trading statement for its half-year to end December, which was expected to be strong given the robust oil and chemical prices over the period. The results were largely in line with what the market was expecting, but some interesting line items are worth further questioning. Adjusted earnings before interest, tax, depreciation and amortisation (Adjusted EBITDA) and core headline earnings are the primary measures of performance used by management, so I'll start there while making the necessary adjustments as outlined in the trading statement. The initial commentary notes that despite higher oil and chemical prices during the period under review, performance was slightly offset by lower volumes – owing to operational challenges within the South African value chain – which underpins the difficulties of doing business in this country.
Adjusted EBITDA is forecasted to be between R30.9bn and R32.7bn and core headline earnings per share is expected to be between R22.13 and R22.91 for the half-year, which is a fair representation of performance given that the two major non-cash adjustments offset each other. Hedging activities on derivative instruments cost the group nearly R5bn, as oil and chemical prices were robust over the period. The positions are unrealised; this means they are open trades and the higher oil and chemical prices thus far in 2022 will contribute to further losses on these instruments. The consensus among analysts is that management had to be prudent and many of the tailwinds that have seen oil and chemicals rise to the levels they have were unforeseen when the positions were opened. Much of my analysis on the valuation of Sasol in August last year still holds true and can be read to supplement this analysis (attached here for ease of reference).
In the six months following that article, we have seen incredibly robust oil and chemical prices, which have been tailwinds for the share price, but the major contribution to shareholder returns over the period was multiple expansion. Company share prices increase thanks to earnings growth or multiple expansion. Multiple expansion refers to the uplift in earnings multiples used by analysts to calculate fair value. This is a result of several factors, all pointing towards market participants having a more optimistic view of the businesses future cash flows. In this case, the increasing importance of the chemical business unit, which will provide more sustainable earnings into the future, has been one of the driving factors behind the multiple expansion. Management has been prudent and earned the trust of shareholders, implementing an effective asset disposal programme that lowered debt to acceptable levels. Given the highly cash generative nature of the business, the company can barely be considered over-leveraged, and the debt on the balance sheet will be acting as an interest tax shield, magnifying profits.
However, all commodity prices are notoriously difficult to predict, and since the wake of the pandemic, management has been extremely conservative. As a result, despite printing money at these oil and chemical prices, I see management paying down debt further and withholding half-year dividends. The fundamentals for the commodities remain in check but are subject to change, of which many factors can be seen to be uncontrollable (i.e. OPEC production). Given that oil and chemical prices remain strong until the end of its financial year, shareholders can expect to be rewarded in the form of dividends (most likely), share buybacks, or both.
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