Tag Archives: USA

Japan seeks more control over gas pricing

LNG, short for Liquefied Natural Gas, is the artificial-converted liquid form of methane for convenience of storage and transportation. Over long-distance transmission, LNG is more efficient and economical than pipelines. After transported to certain destination, LNG will be retransformed into gas form and used directly or transported through pipelines.

As the world largest LNG importer, Japan inlets about 40% of total global LNG production, primarily from Malaysia and Indonesia. Last year the number hits a new record to 87.49 million tonnes, which is a reflection of soaring demand of LNG under the calamitous Fukushima nuclear plants failure in 2011. As a result, natural gas in Asia also hit a record last year.

Under situation like this, Japanese firms acted positively to seek for more say over the pricing of this crucial fuel. Comparatively, as I said before in my past blog, Japanese firms paid about $18 per million British thermal units, almost 5 times as that in the U.S. ($4 per mmBtu). One reason of this, as mentioned above, is the ever-rising demand for LNG in Asia (Korea is the second largest LNG import nation while China lies in the third). Another reason is the unsound spot market for LNG. According to WSJ, Japan’s government sees the creation of an accurate measure of the fuel’s value as a necessary step in making progress toward launching futures contracts by March 2015, a goal it announced last April.

As a clever move favored by Japan government, this plan has several potential benefits:

Benefit 1: help to smoothing price fluctuation. This is the main reason behind. Currently the natural gas prices expectations are uneven among suppliers and consumers. From the suppliers’ point of view, the impact of Fukushima disaster has its long-lasting effect over the domestic demand of LNG import. Also for security reason, Korea is shifting its reliance on nuclear generation plants to more LNG exporting. Thus the prices of natural gas have a strong upward trend. However, the recent launched natural gas exporting plan in US acts opposite to it. As I mentioned in my past post, US natural gas generators has less profitability now, so they have to increase export to reduce domestic shale gas supply. Also an Australia LNG project is under construction by Inpex, the largest Japanese gas distributor. If this planned LNG projects in Australia come on stream as scheduled, Australia will overtake Qatar as the world’s largest LNG supplier by 2020. All suggesting a future boost of natural gas supply in Asia, which implies a downward prices trend. Binding the downward trend and upward trend could cause a fiercer price fluctuation and loss for both suppliers and consumers. The establishment of LNG future market could flatten such volatility with the power of gas contract.

Benefit 2: With higher demand for LNG, surging gas prices drag consumers away to alternatives. Under that, coal import and consumption has been increased over the recent years, causing a serious environmental pollution in Japan. The development of new spot and future gas market can help to reduce price and then air pollution from burning of coal.

Benefit 3: The final goal is a healthy global natural gas market like crude oil market. It will definitely benefit world-wide consumers and global environment.

Suntory’s Acquisition of Beam: Expensive and (Hopefully) Lucrative

On January 13, Suntory Holdings Ltd. announced it would acquire Beam Inc. for $83.50 per share, which is a 25% premium to the January 10 closing price (the 1/10 stock price is the unaffected price before the news of the acquisition was announced and the stock price jumped). The deal, expected to be completed in June, values Beam at 20.5 times EBITDA (earnings before interest, taxes, depreciation, and amortization). Beam’s enterprise value-to-EBTIDA multiple, which is a common financial metric used in valuations, is expensive when considering that median multiple in the industry in the last five years is 12-14 times EBITDA. In addition, it is the fourth highest valuation in the spirits industry in the last decade. To add a little more perspective, this is the largest beverage deal since Inbev acquired the remaining 50% of Modelo SAB for $17.2 billion in 2012. Although Suntory is certainly paying top dollar for Beam, Suntory expects the acquisition will offer them many lucrative growth opportunities.

Suntory produces Yamazaki whiskey and Premium Malt’s Beer, which are household names in Japan. However, Suntory wants exposure overseas where there is high growth compared with slow growth at home due to an aging population. According to the Wall Street Journal, “Suntory Holdings Ltd. tried to cast aside any lingering doubts that its $13.6 billion acquisition of Beam Inc. is overpriced, saying it will successfully capitalize on the overseas brand recognition of the U.S. whiskey maker as it transforms into a global spirits competitor”. In 2011, 80% of Suntory’s revenue came from Japan. Following its acquisition, 60% of Suntory’s revenue is expected to come from the United States. As a result, Suntory’s acquisition of Beam is positioning the firm to be more diversified away from Japan. I believe this is a good decision because it decreases idiosyncratic risk of having most of its revenues be dependent on the health of the Japanese economy.

Beam is also a rare example of a pure play alcohol company, which means it has a single business focus. Suntory, which approached Beam with an unsolicited offer, is demonstrating “strong enthusiasm for forging ahead with its whiskey business”. For Suntory, the scarcity value of a pure play alcohol company might have provided additional incentive to pay a high price. Furthermore, there has been significant growth in spirits within the beverage industry. Suntory’s acquisition of Beam increases its market share in the United States, the world’s biggest spirits market, from 1% to 11%. In the United States, Beam is the second largest whiskey maker behind Jack Daniels. Similar to Jack Daniels, Beam has a very strong brand. According to the Wall Street Journal, “While Suntory’s whiskey products have been gaining aficionados and accolades in the U.S. and Europe, their brand recognition is still much weaker than Beam’s labels… The company therefore hopes the deal will give it strong ammunition in the form of globally recognized brands to embark on an offensive in overseas markets”. The value of a brand is hard to quantify because it is hard to determine what amount of sales or pricing power come from the strength of the brand. Although critics claim Suntory overpaid for Beam, I believe Suntory will benefit from Beam’s strong brand and its exposure in the United States.

Despite the tremendous potential for growth in this acquisition, Suntory will also be taking some calculated risks due to the financing of the deal. Suntory’s acquisition of Beam is an all cash offer, which means Suntory will issue debt. Suntory will need to issue $12 billion in debt and credit agencies have warned that this massive amount might result in a downgrade of Suntory’s debt. Downgrading of debt is never a good thing as it usually increases borrowing costs for the company (lenders demand a higher interest rate to be compensated for the larger perceived risk). However, Suntory should be able to reduce this debt over time and restore its credit rating. If Beam proves to be as profitable as Suntory hopes, then Suntory may be able to pay off this debt sooner than expected. 

Asset Allocation Shifts over the Tapering Process

In the past few weeks, we have been seeing two significant asset allocation shifts in the global capital markets – Money is flowing back into the U.S. from emerging markets, and in the U.S., stocks are swapped for bonds.

The first re-allocation is primarily due to the Fed’s tapering and worries about global growth. Many emerging economies have been overly dependent on cheap dollars flooded by the Fed’s QE program, which led to a short-term prosperity in those markets shown by a boost in asset demand. However, the liquidity is decreasing as the U.S. central bank started to scale back its bond purchases, so investors tend to flee from those riskier places and focus on the U.S. assets on the promising risk-return payoff. Plus, the internal problems in developing nations pared confidence in investing as well. For instance, the weakening euro was hit by a return to record-low inflation in the euro zone and in particular, the Turkish lira was under attack due to political scandal and a wide trade deficit in that country. As Dani Rodrik, a world-class expert who has been following emerging-market crises for decades, argued: “The fact is that the emerging economies’ troubles are domestically generated problems and not the fault of foreigners. The complaint of emerging-market countries seems a classic case of blaming outsiders for choices and actions that have been predominantly domestic.”

The second re-allocation is kind of unexpected given the fact that the S&P 500 rallied 30% in 2013.

At the beginning of last year, many investors dumped their bond holdings and rushed into the U.S. equity market on concerns about rising treasury yields. Specifically, as the Fed was about to taper its bond purchase program, the value of treasuries would decrease significantly if the yields were to rise from around 2% to their historical average of 5%, and the equity risk premium, which measured the relative attractiveness of stocks versus bonds, reverted back to March 2009 level, indicating that the stock market had been moving up. As a result, in the single month of February, $2.6 trillion flowed into the U.S. equity market.

However, the reverse became true in this January as money began to flow back into bond funds for the first time after seven straight weeks of outflows. Traditional U.S. stock mutual funds and exchange-traded funds together saw withdrawals of $18.8 billion in the week ended Feb. 5. Meanwhile, taxable bond mutual funds and ETFs soaked up $10.7 billion, their biggest intake on record, Lipper’s data showed. From my perspective, the shift has to with an adjustment to the U.S. economic outlook. Indeed, the economy is on an upward trend but the strength of recovery might be originally set too high. The equity market loses its allure on below-forecast employment and home sales, as well as the bad weather that hit consumption and corporate earnings.