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Ampol Limited (ASX: ALD)

High Conviction Buy – Initiation Report

Ampol Limited (ASX: ALD) purchases, refines, distributes, and markets petroleum products to both retail and industrial customers mainly in Australia, New Zealand, but also in Singapore, and the United States.

The company is the largest transport energy distributor and retailer in Australia, with around 1,800 Ampol-branded stations across Australia. Ampol also operates in New Zealand through its subsidiary Z Energy, which it acquired in 2022.

Additionally, Ampol owns and operates one of only two oil refineries in Australia. The company’s vertically integrated operations, and ownership control over key fuel refining, and retail infrastructure assets provide it with a strong, underappreciated competitive advantage.

Ampol’s strategic infrastructure assets across the country include 16 terminals, 6 major pipelines, 55 wet depots, over 1,800 branded sites (including approximately 690 company operated retail sites) and a refinery located in Lytton, Queensland. Such an extensive infrastructure base would be impossible to replicate from scratch.

The company that is now Ampol was formed as a result of a merger between Ampol and Caltex in 1995.

The company’s revenues increased by around 80% between 2021, and 2022, indicating a very strong bounce back coming out of Covid.

Good Performing businesses, positioned well for growth

From largest to smallest in terms of profit contribution, Ampol’s 3 main business lines are: 1. Fuels and Infrastructure (F&I), 2. Convenience Retail, and its 3. New Zealand Business.

All are fundamentally strong, reliable, and growing businesses, with the exception of the time-to-time volatility associated with Ampol’s refinery business (which sits within the broader F & I segment), which is subject to cyclical swings in refinery margins. Investors should note, however, that Ampol is shielded from losses in the Refinery segment due to an Australian government guarantee that promises to cover the Refinery’s costs in case of a severe cyclical decline in refinery margins, leading to Ampol being able to take advantage of cyclical upsides which invariably occur such as in 2022. The strategic importance of the Refinery asset, one of only 2 in Australia, is recognised by the Australian Government, and should also be considered by prospective investors.

Fuels and Infrastructure

In the last decade, Australia has transitioned from relying on fuel imports for 25% of its needs to now relying on these vital imports for 75% of its fuel needs. Since the Company is a key owner of the vital infrastructure such as terminals and pipelines that facilitate the import and delivery of fuel, and other energy sources such as gasoline to Australian industry and retail customers, this makes the F&I segment a crucial asset for Ampol, and the company a crucial asset for the Australian economy. New Zealand’s transition has been starker, it currently relies on imports for 100% of its needs.

Around 110,000 Aussie businesses and SMEs are reliant on Ampol’s integrated supply chain to provide them with their fuel and other energy needs. For example, in FY 2023 Roy Hill renewed its contract with Ampol for a further 5 years for the provision by Ampol of diesel to Roy Hill’s iron ore mine sites in WA.

Excluding the Lytton Refinery, the F&I division’s earnings more than doubled between FY 2022 and FY 2023 on an EBIT basis, going from 197.4m to 418.7m. This impressive result comes because of the company’s infrastructure and integrated supply chain advantage which witnessed a healthy 11% increase in total Australian Sales volumes to 15.6 billion litres in 2023.

This domestic volume growth in 2023 comes after Australian volumes rose 8% in 2022 vs 2021 (commercial volume growth was 12%). International volumes also grew as well in 2023, rising by 12%. Hence, this is a fundamentally strong and growing business segment for Ampol.

The Lytton refinery also sits within the F&I division. The Refinery is subject to cyclical ups and downs; after a record year of profits in 2022, in 2023, the Lytton Refinery EBIT fell by 47% from 687m to 362m. This was mainly, but importantly not entirely, due to a per barrel fall in fuel refining margins from very high levels in 2022 ($US 17.86 ) to a more moderate $US 12.81 in 2023. Investors should note that such cyclical ups and downs are an inherent aspect of the refinery business (for example the Lytton Refinery margin for January 2024 was back up to $ US 13.233), and more importantly the gap between global oil demand and refinery capacity is only set to increase over the next decade as shown below in Fig 1.0. Therefore, Ampol’s refinery business is subject to strong supporting demand / supply currents, and as noted even in an extreme down year, the Company is effectively shielded from losses in this division.

A graph showing the price of oil Description automatically generated

Source: Ampol

The Lytton refineries’ decline in profit in 2023 was not just due to a fall in margins, there was an unforeseen rare technical issue at the plant, leading to it being idle for a period of time in Q2 2023.

Going forward, as with all takes there are gives. In needing to comply with new Australian Government fuel standards, Ampol will need to expend ~$250 net of government grants to upgrade Lytton in order to meet new specifications for regular and premium gasoline grades. The positive side to this for investors is that gasoline of the grades that will be produced in the revamped facility has historically traded at a premium to current grades.

Convenience Retail

Most of us would have been to an Ampol owned convenience store at one of its fuel pump locations. The company has an impressive network of 1800 branded sites, and over the last several years Ampol has been quietly undertaking and executing a smart retail transformation strategy to boost the profitability of this division. This strategy has been working. The 2023 Convenience Retail segment EBIT was $354.6m, rising 40% from 2021 and 2.1% from 2022. Some of the prudent transformation initiatives that the company has executed on in this division over the last few years include:

  • completion of rebranding from Caltex sites to the Ampol brand, this rebranding involved over 1800 retail sites.
  • Standardisation and quality assurance of the customer retail experience by way of introducing the ‘Ampol Way’ which included a comprehensive playbook for frontline staff.
  • Closure of marginal sites and opening of new sites with an emphasis on investing in premium sites and highway sites which are inherently more profitable.
  • Apart from changes to branding, Ampol has also pivoted to engage in store refurbishments, improvements in the range offered with new retail categories and new brands offered including a new quick service restaurant strategy which includes Boost Juice and Hungry Jacks offerings.

A retail transformation is never easy to do well due to the complexities involved with legacy procurement, systems and practices but we see evidence of Ampol executing on this and hence being positioned well to continue to benefit.

It should be noted that due to both a decline in legal tobacco use and an uptick in illicit use, there has been a material decline in Ampol’s retail tobacco sales. Excluding tobacco, network shop sales grew 3.0 per cent on a like-for-like basis in 2023 over 2022 as key categories of bakery, snacks, beverages and confectionery achieved strong growth. Retail customers are also buying more on each visit, with the average Basket Value also increasing over the last 2 years.

Despite retail fuel volumes being down 1.6% in 2023 vs 2022, retail fuel margins were up in 2023 due to a shift toward premium fuel offerings. We are confident that Ampol will continue to healthily grow its convenience retail business in the years to come and take advantage of its huge network of retail assets.

We believe that the advent of EVs, and Ampol’s strategy of ramping out EV charging stations will benefit its retail business because EV customers are noted to, on average, spend 20-30% more in a retail store than normal customers whilst waiting for their cars to charge. By the end of 2024, Ampol plans to increase its EV charging network in Australia from 82 to bays to 300, and from 104 to 150 bays in New Zealand.

New Zealand Business

The 2023 year saw Ampol’s profits benefit from a full year of operations of its acquired New Zealand based Z energy business in addition to other acquisition benefits and synergies. Consequently, on the back of an 11% increase in NZ fuel volumes, Ampol’s NZ business’ profit based on EBIT more than doubled to $263.5m in 2023 from 2022. Going forward, we continue to project growth in the NZ business, given Z Energy’s dominant share of fuel storage assets in NZ.

The energy transition – what does this mean for Ampol and its shareholders?

Although EVs in general are perceived as a threat to Ampol’s bread and butter business, we caution investors from coming to any quick conclusions on this. This fear is one of the key reasons that Ampol, despite having such an unbeatable energy asset infrastructure network in Australia and retail asset footprint, trades at a Price to Earnings Multiple that is notably lower than that of the average ASX Industrial Stock.

Firstly, the energy transition away from fossil fuels will take some time yet in Australia, longer than many expect. Now, this is not to say that this is not happening and that it will not have ramifications for Ampol’s business. But investors should note that Ampol is doing its bit so that its business is prepared for the future. The company is progressing in the roll out of EV charging stations, in addition to scoping the addition of renewable biofuels as an offering and undertaking other initiatives.

In the case of EVs, certain studies from around the world have actually found that EV introduction is net positive rather than negative for fuel station convenience retail earnings. This is partly due to the lift in store sales that comes from EV customers who need to stick around for longer than fuel customers to charge up their vehicles.

Ultimately EV charging station economics is about having the most attractive charging locations. Ampol’s enviable real estate, and retail network will only boost its comparative advantage amidst this transition, which is something that investors should take a note of.

Financials, dividends and valuation

We think Investors should read between the lines when assessing Ampol’s 2024 net profit. Net profit in 2024 declined by 25% vs 2023, to $549.1m from $795.9m. But the more accurate measure for Ampol’s 2024 performance is based on its “Replacement Cost Operating Profit” metric, which excludes the impact on profit from changes in inventory prices due to oil price fluctuations. On this measure, Ampol’s performance in 2024 slightly exceeded its 2023 which is good news for investors.

The Ampol investment thesis is all about reading between the lines. This is a strong, unique Australian company with an irreplaceable infrastructure footprint across refining and retail, leading to it also being positioned well for the eventual energy transition.

We believe that the co. is also positioned well for growth, and at the same time due to strong cash flow generation pays a very healthy dividend including often sometimes a special dividend.

In 2023 , Ampol paid a fully franked ordinary dividend of $2.15, and a special fully franked dividend of $0.75. Assuming the company has the same ordinary dividend payout of $2.15 as last year (fully franked), Ampol’s current dividend yield is at an attractive 5.5% (fully franked). Investors should note that the actual realised dividend yield for 2024 will likely be higher than this, because Ampol has already paid a dividend of $1.80 this year (fully franked; $1.2 ordinary and $0.6 special) and is likely to have another pay out in September as per its historical record. Furthermore, Ampol’s balance sheet leverage of 1.6 times is at a very comfortable level, providing further assurance to investors.

The company’s management is prudently managing its capital, paying healthy dividends whilst also seeking areas to reinvest and grow, and the business is growing: the 2023 year saw record total fuel sales volumes of 28.4 billion litres, up 17 per cent compared to 2022.

The average ASX Industrial stock trades at around a 23x PE multiple, and delivers a 13% pretax ROIC. Whilst Ampol is trading at a cheaper 16.88 PE multiple, pays strong dividends and delivers a higher 15% pretax ROIC.

2024 catalyst – How to play Ampol?

In the last 6 months, Ampol’s stock has rallied from $31.39 to currently trading around $38. It has come off all time highs of around $41.28 in early April. Given the general strength of the company, and its strong dividend paying history, we recommend investors getting in at these levels.

Since the business’s earnings are positively correlated with crude oil prices, and ongoing global conflicts are adding to uncertainty, crude oil prices are likely to surprise on the upside rather than the downside in 2024, adding the prospect for further returns this year.

Our recommendation is for investors to get in at the current stock price, take advantage of the fully franked dividends and wait for the potential capital appreciation that is likely to happen.

Buy up to and Sell above. Underpinned by our fundamental and technical analysis, we recommend buying Ampol at current levels or even if it falls to its prior resistance range of $35.90 without any change in fundamentals. Our buy up to is at $40, and our sell above given the current outlook, strong fundamentals and healthy dividends is $50 for investors with a longer term view.

Technical Outlook

The ALD share price has significant support at $38.87 and $37.85. These two levels indicate a good pullback buying range. Both levels have shown strong significance several times, with weekly highs and opens from 2016 and earlier.
Earlier in 2024, we saw a similar pattern of strong weekly levels creating a reliable pullback range, with the levels at $34.90 and $35.90 supporting price.
Given the recent rapid share price appreciation, it’s possible for ALD to test the lower level of the range at $37.85. However, we maintain our expectation of good long-term value at that price, suggesting it could be a solid entry point.
The recent spike has tested the higher end of the broad rising channel, as shown by the orange dashed lines below.
A deeper pullback to the mid-point of this range, and potentially coinciding with the $35.90 level could occur without any change in outlook.
The recent high of $42.35 was the all-time high. Any move to test or break $42.35 could result in volatility, and the price could run above this level, with $50 being the obvious upper bound on a very long-term chart.

Source: TradingView / Shares in Value


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