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Bernstein Commodities & Power: Petrophilia - Can the Rise of China's Auto-
Crazed Petro-Consumers Offset Slower Industrial Growth?
Neil Beveridge, Ph.D. (Senior Analyst) neil.beveridge@bernstein.com +852-2918-5741
Oswald Clint, Ph.D., ACA (Senior Analyst) oswald.clint@bernstein.com +44-207-170-5089
Bob Brackett, Ph.D. (Senior Analyst) bob.brackett@bernstein.com +1-212-756-4656
Scott Gruber, CFA (Senior Analyst) scott.gruber@bernstein.com +1-212-756-1935
Michael W. Parker (Senior Analyst) michael.parker@bernstein.com +852-2918-5747
Hugh Wynne (Senior Analyst) hugh.wynne@bernstein.com +1-212-823-2692
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For now, China remains the engine for global oil demand.
Although at 10mmbls/d China only represents 11% of world
demand, it has accounted for 75% of incremental global
demand growth over the past 5 years (Exhibit 3). It goes
without saying that what happens to China demand over the
1997 2013 coming years remains critical to the outlook for oil.
Source: Economist (Permission Approved), Bernstein analysis
Exhibit 3
China Continues To Dominate Incremental Global Oil Demand Indeed, at a time of apparent economic weakness, China's
Growth.. apparent oil demand has averaged 10MMbls/d in 2013 (year-
to date) with crude imports reaching new highs. While it is
60% too early to say that there is a decoupling of demand with
GDP growth, it is clear from apparent oil demand is holding
China % share of global
incremenal oil demand
50%
up well in spite of the slowing of GDP growth (Exhibit 5).
40%
Exhibit 5
30% China's recent oil demand has been stronger than might have
been implied by the slowdown in GDP growth and industrial
20% production
10% 20%
R = 0.692
10% 4Q2012
what has been striking about the China oil market this year is
its resilience. Growth this year has remained relatively
strong at over 5.4% y-o-y despite the slowdown in GDP -5%
1Q2009
25% 20%
17%
Digging a little deeper into the data, there is a clear shift in
15% demand taking place towards lighter distillates. Diesel
dominates the refined products market in China accounting
Apparent Oil Demand Growth
10%
14%
demand. Historically diesel demand has been linked to
5% industrial activity with spikes in demand during periods of
rapid GDP growth, such as during the last fiscal stimulus
0%
11% (2009/10). More recently however, we have seen gasoline
demand growth accelerate to 15% y-o-y while diesel demand
-5% has slumped to flat or even negative growth rates (Exhibit
Oil demand has been 8% 6).
resilient despite
-10% the slow-down in
industrial output growth
-15% 5%
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Exhibit 6 Exhibit 8
From Diesel to Gasoline; Gasoline Growth is now firmly driving Car sales continue to grow strongly at double digit rates despite a
Chinese oil demand as mobility takes over from industry slow-down in industrial output growth
25% 80% 21%
Apparent Oil Demand Growth
20% 19%
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Apparent Gasoline Demand Growth Apparent Diesel Demand Growth Passenger Car Sales Growth Industrial Output Growth
Source: Company, China NDRC, Bernstein analysis and estimates Source: China NBS, Bloomberg, Bernstein analysis
This marks a fundamental shift in the oil market whereby Availability of credit for car purchases and increase in per
consumption growth linked to demand for mobility is capita GDP to over US$5000/per person now makes the
becoming more important than industrial demand. This is motor vehicle affordable to the masses for the first time
pushing demand away from diesel and towards gasoline. explaining the high beta of car sales to GDP. Between now
Transport demand (road and air) for oil now accounts for and the end of the decade we estimate the vehicle parc in
almost 70% of light product demand (65% of the barrel) China will double from over 106 million units last year to
(Exhibit 7) compared with 50% a decade ago making 220million units (Exhibit 9).
transport growth more important than industrial growth.
Exhibit 9
Exhibit 7 Just Can't Get Enough! In the past 10 years, China car sales grew
Transport demand increasingly dominates light product demand at 18% CAGR to 106 million units (79 vehicles per 1,000 people) by
growth in China the end of 2012. We expect the number of cars to more than
double over the next 8 years to 224 million units in 2020 (159
100% vehicles per 1,000 people).
90%
80%
250
Oil demand by sector
70%
60%
Vehicle amount, Million Units
50%
200
40%
30%
20%
150
10%
0%
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
100
Primary Industry Power Transport Other
0
2012E
2014E
2016E
2018E
2020E
2000
2002
2004
2006
2008
2010
Exhibit 10 Exhibit 11
Much More To Go..Vehicle ownership per 1,000 people in China It's Not Just A Tier 1 Story..New car registrations are particularly
is 79, still less than one tenth of the level in US strong in the middle income provinces as the middle class takes
to the road
900 Shandong
Jiangsu
Vehicle owernship per 1000 people
800 Hebei
Sichuan
Shanxi
Hunan
700 Yunnan
New car registrations
Beijing are particularly strong
Hubei in the middle
600 Heilongjiang income provinces
Guangxi
Jilin
500 Xinjiang
Gansu
Hainan
400 0 200,000 400,000 600,000 800,000 1,000,000 1,200,000
New registrations by province
300
Vehicle owernship Source: China NBS, Bernstein analysis
200 per 1000 people
in China reached
79 in 2012
100 Traffic data from major expressways in eastern China points
to a clear growth in daily traffic volume, which suggests new
0
China US
cars are indeed making their way on to China's rapidly
expanding road network (Exhibit 12).
Source: Dargay, Gately, Sommer, Vehicle Ownership and Income Growth, Worldwide: 1996-
2030, China NBS, Bernstein estimates Exhibit 12
Yes The Cars Are Being DrivenHangzhou-Ningbo highway,
one of the busiest highways in China, continues to experience
The Car Pool May be growing But Are They Being Driven? sharp growth in average daily traffic volume YTD
quite literally luck of the draw as to whether they can join 32 -15%
30 -20%
the new vehicle owning class. But while new car sales may
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be slowing in 'Tier One' cities of Beijing and Shanghai, car
sales are growing most strongly in middle income provinces Hangzhou-Ningbo Highway Hangzhou-Ningbo Traff ic Y-o-Y Growth
such as Shandong, Jiangsu and Sichuan where the car is now Source: Companies, Bernstein analysis
affordable to the middle class for the first time (Exhibit 11).
SUV Mania Counts for More than Fuel Efficiency or Electric Cars
While the number of vehicles is growing quickly, there
remains a risk is that improvements in fuel standards and
alternative vehicles such as electric, CNG or LNG will offset
the annual 10% to 15% growth in vehicle sales. We think
these risks are small. While the government is targeting a
50% improvement in fuel consumption per vehicle, the shift
towards larger, heavier SUVs (which is the fastest growing
sub-segment of the car market) will mean that fuel efficiency
of the fleet will only improve by 9% through to 2020. Given
their popularity (owning to a high riding position and more
aggressive styling), the shift to SUVs is an unstoppable trend
in our view. In contrast, penetration of electric vehicles will indicator for oil demand growth. While some worry about
remain much lower due to limitations of battery technology alternative vehicles, this remains in the distant horizon with
and infrastructure. We believe that overall SUV penetration SUVs a more important near term trend. While oil futures
will reach 25% of the sales volume in 2020 compared to 5% may be pointing to oil deflation, it seems hard to reconcile
for electric vehicles (Exhibit 13). Bernstein Oil and Autos: with China's 'Petrophilia' or put more bluntly, insatiable
SUV Mania and Pro-SUV CAFC Rules Mean China's appetite for crude oil. Instead, we believe oil prices will
Gasoline Demand Will Be Stronger for Longer. While we continue to rise (with a target of Brent at US$120/bbl) by
are more optimistic on natural gas and LNG vehicles, we 2016, which in our view suggests that global oil equities
only see them accounting for 8% of the truck fleet by 2020, (trading at decade low valuation multiples) are too 'cheap'.
which is not big enough to offset the enormous demand For a list of our top picks in global oil and gas please see the
growth from newly produced gasoline and diesel burning company summary table at the end of this report.
cars and trucks which are streaming onto China's roads every
year.
Exhibit 13
SUV Mania Trumps Alternative Vehicles; We expect that SUV sales
volumes will grow at 10.9% CAGR from 2012 to 2020 and SUV will
remain dominant in terms of sales volume in China by 2020
6,000
5,000
Sales Volume, '000 Units
4,000
3,000
2,000
1,000
0
2013E
2014E
2015E
2016E
2017E
2018E
2019E
2020E
2008
2009
2010
2011
2012
U.S. Utilities
This Weeks Reports U.S. Utilities: Conference Call Transcript -- EPA Senior
(available on FirstCall/ bernsteinresearch.com) Counsel Joe Goffman on How EPA Will Regulate CO2
(2013/8/13) In a major policy address on climate change
delivered at Georgetown University on June 25, President
Asia-Pacific Oil & Gas Obama set out a schedule for EPA to regulate CO2 emissions
Australian E&Ps: The Upside to E&Ps from the Downside from new and existing fossil fuel power plants before he leaves
in the Aussie; Raising Our Price Targets on Weaker FX office. To better understand how EPA will develop and
Outlook (2013/8/13) Year to date, Australian E&Ps have implement these regulations, we interviewed Joe Goffman,
outperformed the ASX and significantly outperformed emerging Senior Counsel to the Assistant Administrator of the EPA's
market peers in the region. A weakening Australian dollar, with Office of Air and Radiation. This note presents the transcript of
AUD/USD dropping from 1.0 to 0.9, has been beneficial for the that interview, and summarizes the key conclusions.
sector. We increase our target prices for Australian E&P stocks
to align with the new AUD/USD outlook at 0.9. We raise our Changes to Ratings / Target Prices/ Earnings Estimates
price target for OSH to A$9.5, for STO to A$13.2, but keep Please refer to Exhibit 14
WPL's target price unchanged at A$42.5 to reflect Leviathan
execution risks. While the next phase of growth for Australian
E&Ps is unclear given competition from N.A. LNG, we are
optimistic that PNG LNG Train 3 will reach FID by 2014 and The Week Ahead
that WPL will push forward Browse FLNG. We rate OSH and
WPL outperform. 8/16/2013: Santos 1H earnings results
8/19/2013: Longyuan, Yanzhou and CR Power 1H earnings
results
North American E&Ps:
8/20/2013: Cairn, China Coal Energy, Huaneng Renewables,
Best of Bernstein: Talisman Energy - Recovering Focus and Oil Search and COSL 1H earnings results
Embracing Change (2013/8/15) With TLM's stock still
struggling over the past year, we examine past 8/21/2013: CNOOC, Woodside, Hong Kong and China Gas 1H
underperformance and discuss upcoming changes that could earnings results
mean better days ahead. Firstly, we commend TLM's plan to 8/22/2013: PetroChina, Premier 1H earnings results; Duke
divest or JV non-core assets to regain focus in their portfolio. Energy (DUK) Site Visit
We note that TLM has decent assets within their core portfolio,
including US shale, Colombia, and Southeast Asia. We believe 8/23/2013: Datang Power, Kunlun, Shenhua 1H earnings results
TLM's Kurdistan position is underappreciated; following recent
commentary on the Kurdamir-3 we see $1B+ of potential value Commodity Price Information
upside. Finally, we believe the company could be a target for Source: Bloomberg, Bernstein estimates
shareholder activism and also as a potential takeout target. We
continue to rate TLM outperform and rank the stock as our top 8/15/2013 Spot Price Last Week Last Month
pick. Natural Gas 3.36 3.27 3.67
WTI Crude Oil 106.85 103.40 106.32
* Highlighting denotes this week's changes to ratings, target prices and/or earnings forecasts. EPS for companies with an asterisk are reported in RMB while share
prices are reported in HKD. USD and European prices as of August 14, 2013.
BERNSTEIN Commodities & Power: Petrophilia - Can the Rise of China's Auto-Crazed Petro-Consumers 8
Offset Slower Industrial Growth?
Valuation Methodology
We value Asia-Pacific large cap oil and gas companies (PetroChina, Sinopec, CNOOC, PTTEP and ONGC) by identifying
the forward price to book multiples they should trade at based on returns on equity, long term earnings growth expectations,
dividend payout ratio and cost of equity. Our starting point is that Fwd P/B = (ROE x PO) / (Ke g), which ROE is our
estimates of ROE for 2014, PO is the dividend payout ratio, Ke is the cost of equity, and g is the long term growth rates. For
Australian E&Ps (Santos, Oil Search and Woodside), we believe an NAV approach is appropriate given a significant
portion of their values are attached to future LNG projects. In calculating the NAV, we have assumed a long term oil price of
$100 (real). We value Reliance and COSL using a sum of the parts methodology.
Our target prices for the European Integrated Oils are calculated by applying our estimates for 2013 cashflow per share
(CFPS) to a forward price-to-cashflow (P/CF) multiple. This P/CF multiple is generated through the relationship, and
historically strong correlation, between 12 month forward P/CF multiples and Return on Average Capital Employed
(ROACE) within the Integrated Oils group. Our calculation utilizes this relationship and an estimated long term, through the
cycle ROACE to generate the target P/CF multiple. The price calculations for the Integrateds are summarized below. We use
$110/bbl Brent and $4.25/mcf for US gas in 2013. We use DCF valuations to determine our price targets for the Russian
Energy stocks incorporating WACC rates ranging from 12-15% and terminal growth rates ranging from 0.5% to 3%. For
BG, Galp & Repsol and the European E&Ps we use an NAV approach. In calculating the NAV, we have assumed a long
term oil price of $90.
Our target price methodology for the Oil Services (SLB, HAL, BHI & WFT) is based upon P/E multiples applied to our
2014 EPS estimates. Our P/E multiples are determined by the relationship between relative P/E multiples and returns relative
to the market for each Service stock. We then adjust the multiples for forecast earnings revisions. We also apply a 25%
discount to Weatherford's target price due to the outstanding tax accounting and legal issues.
For the Equipment providers (NOV & CAM), our P/E multiples are derived from our crude price forecasts and individual
company backlog forecasts, and their historical influence on each stock's multiple. We apply these multiples to our 2014 EPS
estimates to arrive at our target prices for each Equipment stock. Our target price for FMC Technologies (FTI) is based upon
a P/E multiple applied to our 2014 EPS estimate, but the P/E multiple is derived from a high-end sector multiple of 18x
applied to our 2015 EPS forecast, discounted back by one year.
Our valuation methodology for the Offshore Drillers combines an EV/EBITDA based approach and Net Asset Value. Our
EV/EBITDA based target prices utilize 2015 forecasted EBITDA, as long duration contracts cause the group to trade on
forecasted cash generation further into the future. We apply a modeled group EV/EBITDA multiple, utilizing the year over
year change in crude prices and the ratio of newbuild orders to working rigs. Next, we adjust the company specific multiple
based upon fleet complexity. We tweak the multiple upward for Diamond (dividend), Ensco (operational quality), Seadrill
(dividend), and Transocean (dividend). Our NAV incorporates both recent rig orders and transactions, and utilizes our rig
complexity index to benchmark the global fleet. For Seadrill, we apply a 3x NAV multiple given fleet quality and growth, as
justified by DCF. Given robust contract backlogs and rising rig rates, we also add the discounted free cash flow that each
Driller will generate in 2013 and 2014 to account for the potential growth in assets. Finally, we apply a 2:1 weighting to our
EV/EBITDA and NAV target prices, respectively, to calculate our published target price for each Driller. Our Land Driller
target price methodology combines two approaches. First, we calculate an appropriate EV/EBITDA multiple based upon a
prediction model incorporating the year-over-year change in commodity prices, weighted by the US active rig count split and
the Land Driller reinvestment rate. The model inputs are leading indicators for changes in land rig supply and demand.
Second, we calculate the NAV including asset additions. For H&P only, we give a 10% premium on NAV as cash generation
appears more certain. Finally, we take a simple average of the two methodologies.
We value companies within our Asian Utilities coverage based on a combination of DCF, price-to-forward year earnings
multiple and dividend yield. Our valuation for Huaneng reflects an accelerated earning growth rate in 2013 and beyond based
on the company's exposure to declining coal pricing on the benefit of a focused capital spending program. Our valuation for
HNP (the NYSE-listed ADR) multiplies of Hong Kong valuation by 40 (the number of H-Shares each ADR represents) and
divides by the current HKD exchange rate. We assign CR Power a higher multiple due to the quality of its assets and
operations and its relatively low level of debt. Our concerns around Datang's non-power businesses mean that we assign the
company lower earnings multiple due to slower long-term growth. Our valuation for Hong Kong and China Gas is based on
our Sum of the Parts method. Our valuation for ENN is based on a P/FE multiple and our 2013 EPS estimate. We are
assigning ENN a discount to its historical multiple given uncertainties about what the company might do next. Our valuation
for CLP is driven primarily from a SoTP analysis of the companies' different segments. We believe that it is dividend yield
that primarily drives the stock price. Our valuation for Power Assets Holdings is derived by applying a forward P/E multiple
to our 2014 EPS estimate. Our valuation for NTPC is based on a forward P/E and a DCF valuation. Our valuation of Reliance
Power is based on a combination of liquidation value, replacement cost and Price/Book. We value China Longyuan, Datang
Renewable and Huaneng Renewables based on a forward P/E ratio.
For the US Utilities, our target prices reflect the results of three alternative valuation methodologies: (i) a multiple-based
valuation calculated by applying the median valuation multiples of a group of comparable companies to our estimates of a
utilitys future earnings, dividends and EBITDA; (ii) a discounted cash flow model over the forecast period of 2013-2016,
and a terminal value in 2017 discounted back to present value at the weighted average cost of capital; and (iii) a discounted
dividend model over the forecast period of 2013-2016, and a terminal value in 2017, discounted back to present value at the
cost of equity.
Our valuation framework for our coverage of North American E&P oil & gas stocks is based on the correlation of P/CF
multiple and the recycle ratio (cash flow per barrel divided by F&D costs). The recycle ratio-implied target multiples are
supplemented by company-specific catalysts, which are valued independently under a full-life cycle NPV methodology and
applied in the form of incremental (positive or negative) change. We adjust our target multiples to include the effects of
growth, capitalization, capital efficiency, and risk.
OTHER DISCLOSURES
A price movement of a security which may be temporary will not necessarily trigger a recommendation change. Bernstein will advise as and
when coverage of securities commences and ceases. Bernstein has no policy or standard as to the frequency of any updates or changes to its
coverage policies. Although the definition and application of these methods are based on generally accepted industry practices and models,
please note that there is a range of reasonable variations within these models. The application of models typically depends on forecasts of a
range of economic variables, which may include, but not limited to, interest rates, exchange rates, earnings, cash flows and risk factors that are
subject to uncertainty and also may change over time. Any valuation is dependent upon the subjective opinion of the analysts carrying out this
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CERTIFICATIONS
I/(we), Neil Beveridge, Ph.D., Bob Brackett, Ph.D., Oswald Clint, Ph.D., ACA, Scott Gruber, CFA, Michael W. Parker, Hugh Wynne, Senior
Analyst(s)/Analyst(s), certify that all of the views expressed in this publication accurately reflect my/(our) personal views about any and all of
the subject securities or issuers and that no part of my/(our) compensation was, is, or will be, directly or indirectly, related to the specific
recommendations or views in this publication.
Approved By: CDK
Copyright 2013, Sanford C. Bernstein & Co., LLC, Sanford C. Bernstein Limited, Sanford C. Bernstein (Hong Kong) Limited, and AllianceBernstein (Singapore) Ltd., subsidiaries of
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