New Zealand Professional Investment Services Firm

Forsyth Barr

We are proud to be a New Zealand owned firm, with 21 offices throughout the country and over 300 employees. We assist personal, institutional and corporate clients providing a full range of investment services.

Forsyth Barr is a foundation New Zealand Exchange firm (NZX) and accredited market participant. We have been confirmed by the Financial Markets Authority as a Qualifying Financial Entity (QFE).

Research is the cornerstone of our advice. We have one of New Zealand's leading teams of analysts. Our global affiliations ensure comprehensive research coverage of all major investment markets.

New Zealand Professional Investment Services Firm, Forsyth Barr

Equity Bottom-Up

<h2>Z Energy</h2>
Pump Failure
Z Energy’s (ZEL) -$60m (-13%) EBITDAF guidance downgrade has a sense of déjà vu, only this time is worse. The earnings downgrade comes six weeks after an upbeat investor day focussed on how ZEL was going to improve retail performance. The job has just got bigger. We have cut our FY20 EBITDAF forecast -$75m (-17%), lowered our target price -17% to $5.40 and downgraded our rating to NEUTRAL from OUTPERFORM.
What’s changed?
<ul>
<li>Earnings: FY20 EBITDAF -$75m (-17%) lower to $374m (pre-IFRS 16)</li>
<li>Target Price: Lowered -$1.10 (-17%) to $5.40</li>
<li>Rating:&nbsp;Downgraded to NEUTRAL from OUTPERFORM</li>
</ul>
Here we go again
ZEL has downgraded its FY20 EBITDAF guidance -$60m to between $390m and $430m (post-IFRS 16 changes; $365m to $405m on a pre-IFRS 16 basis). The downgrade is surprising and disappointing, in terms of both size and timing. ZEL had been making good progress regaining investor confidence after the 1H19 result issues. This downgrade brings back all of those issues.
The surprise and disappointment come from the fact it is only six weeks since the upbeat investor day on 1 August, which focussed on retail initiatives. -$50m (83%) of the downgrade is sheeted home to intense retail competition due to changes in the loyalty schemes, impacting both margin and volume. Arguably, ZEL should have done a better job predicting the market reaction to loyalty scheme changes, albeit we say that with the benefit of hindsight.
Dividend guidance strong under the circumstances
ZEL’s revised dividend guidance of 48cps to 50cps is a little stronger than expected given the size of the earnings downgrade. Lowering the top of the range -4cps to 50cps is not much compared to the -10.8cps after-tax hit from -$60m less EBITDAF.
Given the dividend debacle of FY19, it is understandable ZEL is keen to provide reassurance to investors. Our concern is that at the bottom end of the EBITDAF earnings range, ZEL is prima facie going above the top end of its dividend free cash flow pay-out ratio (paying 87% vs. 85% policy). Any downside headroom that ZEL had has gone, unless ZEL is able to pull cost levers to prevent earnings falling further.
Structural vs. one-off?
The key question for investors (and ZEL) is to what extent are lower retail margins the new normal (i.e. structural) vs. a short-term market aberration? We assume a mixture of both in cutting our FY20 EBITDAF forecast -$75m and our FY21 and FY22 forecasts -$44m each. That has flowed through to our target price (cut $1.10 to $5.40) and our rating downgrade to NEUTRAL.&nbsp;
<div class="content-highlight">
Investment View
Our rating is NEUTRAL. Whilst ZEL entices investors with a very attractive dividend yield, challenges in the retail market and the overshadowing of the ComCom Fuel Study means further earnings and therefore dividend downside cannot be ruled out. We believe ZEL once again has to demonstrate to the market it is able to deliver sustainable earnings, preferably with less volatility than the past two years.
</div>
Andrew Harvey-Green
andrew.harvey-green@forsythbarr.co.nz
+64 4 495 8185

Z Energy
Pump Failure
Z Energy’s (ZEL) -$60m (-13%) EBITDAF guidance downgrade has a sense of déjà vu, only this time is worse. The earnings downgrade comes six weeks after an upbeat investor day focussed on how ZEL was going to improve retail performance. The job has just got bigger. We have cut our FY20 EBITDAF forecast -$75m (-17%), lowered our target price -17% to $5.40 and downgraded our rating to NEUTRAL from OUTPERFORM.
What’s changed?

Earnings: FY20 EBITDAF -$75m (-17%) lower to $374m (pre-IFRS 16)
Target Price: Lowered -$1.10 (-17%) to $5.40
Rating:&nbsp;Downgraded to NEUTRAL from OUTPERFORM

Here we go again
ZEL has downgraded its FY20 EBITDAF guidance -$60m to between $390m and $430m (post-IFRS 16 changes; $365m to $405m on a pre-IFRS 16 basis). The downgrade is surprising and disappointing, in terms of both size and timing. ZEL had been making good progress regaining investor confidence after the 1H19 result issues. This downgrade brings back all of those issues.
The surprise and disappointment come from the fact it is only six weeks since the upbeat investor day on 1 August, which focussed on retail initiatives. -$50m (83%) of the downgrade is sheeted home to intense retail competition due to changes in the loyalty schemes, impacting both margin and volume. Arguably, ZEL should have done a better job predicting the market reaction to loyalty scheme changes, albeit we say that with the benefit of hindsight.
Dividend guidance strong under the circumstances
ZEL’s revised dividend guidance of 48cps to 50cps is a little stronger than expected given the size of the earnings downgrade. Lowering the top of the range -4cps to 50cps is not much compared to the -10.8cps after-tax hit from -$60m less EBITDAF.
Given the dividend debacle of FY19, it is understandable ZEL is keen to provide reassurance to investors. Our concern is that at the bottom end of the EBITDAF earnings range, ZEL is prima facie going above the top end of its dividend free cash flow pay-out ratio (paying 87% vs. 85% policy). Any downside headroom that ZEL had has gone, unless ZEL is able to pull cost levers to prevent earnings falling further.
Structural vs. one-off?
The key question for investors (and ZEL) is to what extent are lower retail margins the new normal (i.e. structural) vs. a short-term market aberration? We assume a mixture of both in cutting our FY20 EBITDAF forecast -$75m and our FY21 and FY22 forecasts -$44m each. That has flowed through to our target price (cut $1.10 to $5.40) and our rating downgrade to NEUTRAL.&nbsp;

Investment View
Our rating is NEUTRAL. Whilst ZEL entices investors with a very attractive dividend yield, challenges in the retail market and the overshadowing of the ComCom Fuel Study means further earnings and therefore dividend downside cannot be ruled out. We believe ZEL once again has to demonstrate to the market it is able to deliver sustainable earnings, preferably with less volatility than the past two years.

Andrew Harvey-Green
andrew.harvey-green@forsythbarr.co.nz
+64 4 495 8185

Z Energy Ltd

Z Energy: Pump Failure