The Caltex Australia Limited (ASX: CTX) share price has been smashed in the past week and could be in the buy zone for long term investors. Despite issuing a profit downgrade for the first half, Caltex is facing some of the toughest business conditions and the cyclical nature of the industry could make this a long-term buying opportunity.
Profit Downgrade
Last week Caltex issued a profit downgrade for the first half of 2019, citing unfavourable macro-economic and trading conditions, an unfavourable trading environment and a myriad of external influences. The news was greeted harshly by the market with the Caltex share price plunging more than 24% following the announcement, its worst decline in over 30 years.
Caltex is a global oil refiner and has had to deal with the lowest refinery margins in history due to an extremely volatile crude oil price and uncompetitive Australian dollar. The average refiner margin for Caltex in the first five months of 2019 was $8.22 per barrel, in comparison to $10.06 per barrel in the first half of 2018. Caltex also cited a slowing local economy and softer demand from transport and construction as further pressures on the industry.
As a result, Caltex announced that half-year profit will halve to between $120 million and $140 million, in comparison to $296 million the year before. Refiner earnings before interest and taxes (EBIT) is forecast to breakeven or reach $10 million, in comparison to $105 million for the first half of last year. If Caltex continues with its current payout ratio the interim dividend for 2019 could also be slashed 57 cents per share.
Effects of a slowing economy
A few years ago, Caltex started to branch out into fuel and retail convenience stores in addition to fuel refining. The aim of this strategy was to combat the cyclical nature of oil refiners and ensure that Caltex would become a stable yield play with less volatile earnings. Caltex currently operates more than 800 fuel stations around Australia, servicing more than 3 million consumers each week.
With the Australian economy experiencing its slowest growth in more than 5 years, the weak domestic activity has had an impact on Caltex's retail earnings. Caltex announced that EBIT for its retail division would be 50% lower in the first half in comparison to last year.
Broker note
Recently a note from Goldman Sachs upgraded Caltex shares to a buy with a price target of $29.00. Although broker upgrades should not be seen as a catalyst to buy shares in a company, they do indicate where institutional sentiment lies in the medium term. Analysts cited that the Caltex update was worse than expected, however, refiner margins are expected to recover in the FY 2020.
Is it a buy?
Since announcing a profit downgrade to the market, the Caltex share price has had a reasonable bounce. Now may not be the best time to buy as refiner margins are forecasted to fall further in the short term and geopolitical conditions will provide further volatility to the crude oil price.
Personally, I would wait for the Caltex share price to base over the next few months before buying shares in the company. The industry can be extremely cyclical and buying near the bottom of the cycle can be rewarding in the long term.
