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Sasol is a great business, but…

There is still downside potential.

CAPE TOWN – Although Sasol‘s share price gained just under 0.5% on Friday, there was no real direction to the counter. There remains a lot of caution in the market as everyone has one eye on the oil price.

A trader at Barclays Capital said that they were seeing both local and foreign interest in the share, but volumes were at about half of a normal trading day. There was still a feeling that the company faced a lot of headwinds.

So the question that needs asking is at what level Sasol can reasonably be said to be trading at fair value.

At current spot prices, Sasol is probably going to be earning somewhere around R27 per share. Historically the counter has traded around 11 times forward earnings, which at current prices would translate into around R300 per share.

That calculation suggests that Sasol may be 25% overpriced at current levels. However, it would probably be reasonable to put something of a premium on the price given how far oil prices have fallen.

So if one rather looks at 13 or 14 times earnings at current prices, that would be R378 a share. That is not that far off where the stock is trading now.

Another way of looking at the equation would be to ask what oil price is currently being priced into the share. Using a forward price-to-earnings ratio of 10 and an exchange rate of R11.50 to the dollar, Sasol’s share price is currently pricing in an oil price of around $70 a barrel.

That may not be unreasonable if one believes, as a number of analysts do, that the oil price cannot stay very low for very long. In a note on Friday, Investec Asset Management said that it was forecasting an average price of $70 to $75 per barrel over 2015.

Either way, with oil at its current levels, Sasol certainly has downside potential. If Brent Crude stays at $50 a barrel, the counter will be expensive.

For some local asset managers, this has encouraged them to thin their exposure to the counter.

One pointed out that the consensus on Sasol’s earnings has been cut quite significantly over the last few weeks. The market consensus was at earnings of R60 per share for 2016, but that is down to R45 a share.

There are other asset managers who have however maintained their large exposures to the company despite this drop. There is no question that Sasol is a very good, well-run business with some excellent assets.

That is encouraging them to continue to see some upside. However it is a hotly debated issue.

One analyst contacted by Moneyweb mentioned that even within his office there were differing opinions on where Sasol represented value. He saw value at anything below R400 a share, while his colleagues were more bearish.

This is understandable when one is dealing with a commodity producer. Cyclicality is inevitable and it’s difficult to know where things will turn.

When the price comes under pressure, it doesn’t matter how good the asset base is or how good the management team is. There will be pressure on earnings.

Those asset managers who have sold down their positions have however taken the view that the capital they held in Sasol could reasonably be better employed elsewhere. In particular they are looking at counters that will enjoy the benefit of a lower oil price.

A weaker oil price means lower transport costs and is an overall dampener on inflation. That will mean that interest rates are unlikely to go up and bond yields could come down.

So the obvious candidates to consider are those companies that are interest rate sensitive. That includes retailers, banks, insurers and property companies, which are all going to see some direct or indirect benefit from cheaper oil.


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