Key TakeawayWhat is going on with Chinas oil demand? On our numbers (apparent productdemand + inventory changes), Chinas oil demand fell 2.0% YoY in 4Q13 whichwe thought was a fluke. But oil demand in 1Q14 was down 4.2% YoY. Webelieved demand growth would be weak due to 1) economic rebalancing, 2)natural gas substitution and 3) transportation efficiency... but declining? We believe demand will pick up somewhat, but refining margins may come underpressure.
The magical mystery tour/ Roll up, roll up for the mystery tour — The Beatles
Weak 2013 driven by 4Q13; 1Q14 no better. According to Reuters, China's oil demandgrowth of 1.6% (150,000 bbl/d) was the lowest in 22 years. Our calculations show growthof 2.2% (210,000 bbl/d). According to our data, the weakness was largely driven by a 2%fall in demand in 4Q13. We thought this was a fluke but 1Q14 demand was down 4.2% YoYon our calculations (down 0.5% according to Reuters).
Natural gas substitution? We estimate growth in natural gas supply displaced ~250,000bbl/d of oil demand in 2013 and should displace a similar amount this year. But thecombined oil + gas demand (on an energy equivalent basis) was flat 4Q13 and fell 1% in1Q14. Taking market share should not cause total market volumes to decline. Economicrebalancing? While we believe oil demand elasticity to GDP growth should fall in themedium term as China shifts to more energy efficient services, the effect was not confirmedby electricity demand (which is a mystery of its own), which grew inline with GDP in 2013.Transportation efficiency? Leaving aside erroneous data (a significant assumption), itappears that China is making significant progress in oil efficiency -- possibly due to logisticsindustry sophistication catching up to China's brand new highway system.
Refinery overcapacity. If industrial oil demand is truly falling and not offset in the nearterm by gasoline demand from increasing car ownership, refining/marketing margins maycome under pressure, in our view. Our EPS estimates for Sinopec are 19% and 22% belowconsensus in 2014 and 2015, respectively.
Valuation/Risks
We value Sinopec using SOTP assigning 3.75x DACF to upstream, 5.5x EBITDA for refining,6x EBITDA for marketing, and 5x EBITDA for chemicals. Upside and downside risk dependson accretive or dilutive asset sales and/or injections from the parent company.Jefferies & Co Inc