Lower sales dampen Sipchem’s profitability

SIPCHEM’s Q2 2016 results missed our as well as consensus estimates by a wide margin. The company’s net profit dropped 76.4% y-o-y to SR26 million (-48.7% q-o-q), while we had expected net profit of SR91 million (consensus: SR57 million). Company’s profitability was expected to fall on lower product prices along with higher gas feedstock prices and energy costs, as well as maintenance shutdown at few of its plants. However, we believe the negative surprise is likely due to lower than expected sales volumes, higher than expected COGS (excluding raw materials) and certain non-recurring expenses. Though we expect the year’s second half to be better, Sipchem’s profitability has been very volatile in the recent past. The company mentioned about non-renewal of certain contracts, which could be a potential risk. We will revisit our estimates post the release of detailed financials and discussion with the management. For now, we maintain Neutral rating on the company with a target price of SR12. Revenue: Sipchem has not reported its Q2 revenue yet. We had estimated 7.1% y-o-y revenue growth to SR1,078 million (consensus: SR882 million), led by production ramp-up from the recently started plants at International Polymers Company and Gulf Advanced Cable Insulation Company. While sales volume was higher on an annual basis, the company indicated that sales volume was lower on a sequential basis due to the maintenance shutdown at carbon monoxide plant, acetic acid plant and ethyl acetate plant. Though we took the maintenance shutdown into account for our forecast, we believe the company’s revenue is likely to have missed our expectation due to lower than expected sales volume. Sipchem also mentioned about some contracts not being renewed, but we have no clarity on them as of now. Gross profit fell 43.1% y-o-y to SR163.6 million (-28.7% q-o-q), sharply below our expectation of SR314 million. The fall in gross profit is attributed to lower product prices, and the increase in gas feedstock and energy prices. We believe the cost of goods sold (excluding raw material expenses) is likely to have come in higher than expected during the quarter. The decline in gross profit flowed to operating profit, which fell to SR99 million (-56.5% y-o-y, -37.9% q-o-q). The operating profit was also impacted by certain non-recurring expenses related to early retirement program and business restructuring costs.