Caltex – The First Casualty of the Electric Vehicle

A recent legislatorial update from Germany, proposing to ban the sale of new combustion engine vehicles by 2030, can’t help but remind us of the following video and the consequences it bears for global markets:


For a more detailed discussion of EVs, including their inevitable market saturation, refer to the KIS Capital Autonomous Cars Research Paper.

If you subscribe to this vision of the future, the long-term implications for ASX-listed Caltex Australia Limited (CTX) are somewhat grim. Caltex is an integrated fuel supply and marketing company with a complex value chain extending from fuel refining through to convenience retailing. Caltex currently supplies c.35% of the Australian transport fuels market. Given that Caltex derives c.85% of its EBIT from fuel-related sales and refining margins, even the smallest level of EV penetration would have a material impact on earnings.    

Taking a closer look, Caltex’s earnings come from two streams; refining margins and supply and marketing margins. Refining margins represent the difference between the cost of importing a standard Caltex basket of products to eastern Australia and the cost of importing the crude oil required to make that product basket. With the expansion of Asian refining capacity, refining margins are likely to continue to compress into the future as importing refined products becomes cheaper. Caltex realised an average refiner margin of US$9.84/bbl for the 1H16, a substantial decrease from the unsustainable US$16.73/bbl of the prior comparable period. After converting the Kurnell refinery into an import terminal, Caltex now source 2/3 of their product from third party suppliers, leaving the company increasingly exposed to global movements in oil prices.

In spite of these refiner margins, Caltex’s 1H16 underlying NPAT remained steady at $254 million, bolstered by a solid performance in the supply and marketing segment. This performance can largely be attributed to management’s focus on optimising the value chain, along with a continuing shift in product mix towards premium diesel and petrol offerings. Margins in this segment showed resilience at 6.9 cents per litre for 1H16, up from a 1H15 margin of 5.6 cents. Ultimately, however, these margins will likely be eroded, as with all companies operating in competitive industries that offer commoditised products. In such industries, sustainable profits can be attained by low-cost operators. Caltex’s integrated value chain model, which includes its vast network of convenience locations, does offer some level of differentiation and cost advantage. However, given the calibre of its competitors in BP and Shell it is unlikely any true economic moat has been formed. The aforementioned conversion of the Kurnell refinery further hurts this thesis, increasing the company’s reliance on third party products and their associated mark-ups.

On a longer-term time horizon, the widespread adoption of EVs poses a substantial threat to Caltex’s fuel-based earnings, which comprise c.85% of the company’s EBIT for 1H16. Perhaps less obviously, Caltex’s non-fuel earnings streams, derived from sales at its convenience locations, are also at risk. Sales at these locations are dependent on “foot traffic” from customers visiting the stores, in most cases, to refuel their vehicle. When you own an EV, why go the petrol station if you can “refuel” your car at home? Even if the Caltex business model proves more flexible than first thought, a substantial portion of their earnings will still have to be replaced with no assurance of their ability to execute. With these headwinds in mind, sitting on a c.20x PE ratio seems quite generous. So an investor must ask themselves, at what point does the market start pricing this in?

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