Sasol – where to from here?
- South Africa
- Lake Charles, Oil price, Rights issue, Rights Offer, Sasol
- October 4, 2020
I decided it was time to take another look at Sasol and share my views on how I’m thinking about this going forward. As regular readers will know, I took a sizable punt at Sasol in April. It was a rollercoaster ride initially, but the share price has unfortunately settled into a downward trend as equities markets have cooled off in recent weeks.
Honey, I shrunk the Lake Charles value
In finance, the best way to establish a market value is arguably through a transaction between a willing buyer and willing seller acting at arms’ length (in other words on fair market terms). This is the “show me the money” approach consistent with comments we all make like “it’s not a done deal ‘till the money is in the bank.”
Well, we now have a market deal for Sasol’s much-hated project in the United States: Lake Charles. Sasol spent nearly $13bn building Lake Charles. They’ve now sold 50% of it for $2bn.
It’s not quite as simple as saying “ok, so it’s now worth $4bn and they destroyed $9bn in shareholder value” because there are parts of the facility that are not part of the sale. Sasol will retain the US Performance Chemicals business as well as the legacy base chemicals business. The company says that this is consistent with the strategy of focusing on a global specialty chemicals portfolio.
However, there’s no denying that a huge amount of shareholder value has been destroyed in this process. Whether due to Trump Corona jitters in the market or general distaste for the crystallisation of the Lake Charles loss, the Sasol share price dropped below a key support level after the announcement:
The important thing is that Sasol will reduce its net debt by 20% through this transaction, decreasing it to $8bn. Converted at current exchange rates, this is around R130bn which is way in excess of Sasol’s market cap of R77bn. Global ratings agency S&P still has Sasol on a negative outlook overall.
Sasol is trading at a hefty discount to book value of around 50%, which implies that the market doesn’t believe that Sasol’s assets are valued at a level that fairly reflects their potential returns, even after Sasol recognised impairments of nearly R112bn in the year ended June 2020.
Sasol was carrying the business at $3.9bn in its last published financials, so this deal for 50% at $2bn is perfectly in line with that valuation. This does give some credence to management’s view on the assets as a whole.
Oil price jitters
A 2nd wave of Covid-19 in many important countries has put the oil price under some pressure, with Brent Crude dipping below $40/barrel again. It’s still nearly double the level it crashed to in April, but this isn’t good news when Sasol noted in the annual financial statements for the year ended June 2020 that:
“Management’s progress in terms of the comprehensive response plan strategy focused on deleveraging the balance sheet and ensuring long-term sustainability in a US$45 per barrel oil price world.”
$40 per barrel isn’t going to cut it. Sasol cannot afford another global knock from Coronavirus.
Looking to the future
The key short-term question remains whether or not there will be a rights offer (a transaction to raise money from shareholders).
In the SENS announcement for the Lake Charles disposal, Sasol notes that the company “continues to work towards a rights offer of up to $2bn in the second half of the 2021 financial year” which means the first 6 months of calendar year 2021.
However, there is still material uncertainty over this, as it depends on market conditions and any further disposals Sasol may achieve, as well as any renegotiations that can be achieved with the banks. A further key variable is the level of cost cutting that the company might be able to achieve internally.
One thing is for sure: Sasol will try to avoid a rights offer as far as possible.
Sasol has terminated the standby underwriting arrangements that were put in place in March 2020, which I view as a positive sign. These arrangements were there for an emergency cash flow raise to save the company, which thankfully wasn’t needed in the end. I view this termination as a positive sign.
If the second wave of Covid-19 turns out to be mild and the oil price heads back up towards $50/barrel, then even if there is a rights issue, it will hopefully be a fairly minor event.
Of course, if the oil price collapses again, things will get ugly for Sasol very quickly as current debt levels remain high.
Looking beyond the immediate pain, Sasol is on a path of reinventing itself towards a lower carbon future. The market is treating Sasol like a dinosaur that cannot adapt, but it feels like Sasol’s management team is making all the right noises at the moment.
A final note on the importance of tax when investing
If you buy shares in your own portfolio, SARS will either tax profits at your marginal individual rate (basically the same as your salary) or at the Capital Gains Tax (CGT) rate if your intention was capital in nature. If you hold the shares for at least three years, you are deemed to have had a capital (i.e. long-term) intention. It’s possible to sell before that and pay CGT, but you’ll have an argument with SARS along the way.
You would far rather pay CGT rates. The maximum individual tax rate is 45% but the maximum CGT rate for an individual is only 22% (let’s assume for the sake of showing the full effect that these rates would apply). If I can hang on until April 2023, I will only pay CGT of 22%.
This is absolutely not the only reason to hang on to a share, but I’ll illustrate how important this is by means of an example:
- Assumed selling price per share: R124
- Assumed entry price: R47
- Pre-tax profit per share: R77
- After-tax profit at 45% tax rate: R42
- After-tax profit at 22% tax rate: R60
Assuming the share price doesn’t move at all over the next 2.5 years, I could elect to take a R42 per share after-tax return today or a R60 after-tax return in 2.5 years. I would need to reinvest the R42 very successfully under normal market conditions to turn it into a R60 after-tax return in 2.5 years (because I would pay tax again on the profits of the reinvestment).
These are all simplifying assumptions, but hopefully the principle is clear: SARS penalises you for jumping in and out of shares vs. holding for at least three years.
If Sasol manages to limp along for the foreseeable future, sideways or slightly up, I’ll hang on. I personally still feel that Sasol has further upside over the next few years even if it takes another dip because of a rights offer, but there is significant risk in the company and I am not topping up my holding at these share prices.
The rollercoaster continues…
Leave Your Comment Here
You must be logged in to post a comment.