Analysis: Wall Street hails Crompton, Great Lakes merger

18 March 2005 17:00  [Source: ICIS news]

NEW YORK (CNI)--Wall Street is hailing Crompton’s planned $1.8bn stock-for-stock merger with Great Lakes Chemical to create the third largest publicly traded US specialty chemicals company.


Analysts believe the combined company, with $4.1bn in sales, will build on global leadership positions, achieve cost savings and hold a strong financial position.


"Our vision is to construct the world’s best specialty chemicals company," said Crompton chairman, president and chief executive Robert Wood. "The refinement of our collective portfolios to a select number of well positioned leaders in high-value niche markets is our strategic objective. We know that if we accomplish that goal, we will reward shareholders with the kind of returns that they’ve always hoped for but rarely received from our firm in the past years."


Deutsche Bank analyst David Begleiter has upgraded Crompton from "hold" to "buy" and raised his price target on the stock from $13 to $18. "Crompton’s announced merger with Great Lakes is highly accretive, strengthens its balance sheet and accelerates debt reduction," he said. "The new company will have leading market positions in multiple high value specialty chemical niche businesses."


"This merger creates a strategic advantage for both companies as the major polymer additives businesses are complementary with each other," said Fulcrum Global Partners analyst Frank Mitsch. "We believe that significant cost savings can be achieved as both companies have certain degrees of operation and business overlaps."


$95m in cost savings


Crompton expects to achieve recurring annual cost savings of between $90m and $100m over three years, with 85% coming by the end of 2006. Of the total savings, $65m is expected from organisational redesign, $15m from purchasing and $15m from other synergies such as insurance, outside auditors and pension service.


On top of these savings, Crompton’s net operating losses will save the new company around $20m/year in cash taxes in the early years following the merger. The deal is expected to close by mid 2005. Crompton was advised by Morgan Stanley and Citigroup, while Merrill Lynch acted as advisor to Great Lakes.


"Rapid and seamless integration is the key to a successful merger, and we’ve already begun careful planning," Wood said. "We are determined that sundry problems that undermine the best intentions of some mergers will not plague this combination."


Wood will personally oversee the integration, which will be led by Crompton senior vice president of strategy and development Greg McDaniel and Great Lakes senior vice president for human resources Rick Kinsley. "We are building a new company - not remodeling two old ones," Wood said.


"We believe these cost savings are primarily in the polymer additives business from the consolidation of sales offices, advertising and headcount," said JPMorgan analyst Jeffrey Zekauskas.


Deutsche Bank’s Begleiter has boosted his 2006 earnings/share (eps) estimate on Crompton from 90 cents to $1.10 based on the combination and the resulting $90m to $100m in pre-tax synergies, which translates into 20 cents/share in 2005. He maintains his eps estimate of 65 cents for 2004.


Price appears fair


In the deal, Crompton will exchange 2.2232 of its shares for every share of Great Lakes and assume $250m in Great Lakes net debt and minority interest. The new company will be 51% owned by Crompton shareholders and 49% by Great Lakes shareholders.


JPMorgan’s Zekauskas said Crompton is paying a fair price for Great Lakes at 8.8 times estimated 2005 earnings before interest, taxes, depreciation and amortization (EBITDA) and 10 times 2004 EBITDA based on the closing price of Crompton before the deal was announced 9 March.


Crompton shareholders appear to be the primary beneficiaries of the transaction, according to the Deutsche Bank analyst. "Crompton is acquiring a company with a far better balance sheet, strong cash flow and on the verge of a significant earnings ramp," Begleiter said. "In contrast, we believe Great Lakes is modestly undervalued in this merger. Great Lakes would have been valued closer to $38/share, nine times estimated 2005 EBITDA rather than eight times. However, we believe Great Lakes shareholders will eventually close this gap."


Crompton balance sheet improves


The combined company will have a stronger balance sheet than Crompton with around $1bn in net debt and a combined $400m in 2004 EBITDA.


Moody’s Investors Service has placed Crompton’s corporate credit rating of Ba3 (equivalent to S&P’s BB-) on review for possible upgrade. "The initial credit profile of the combined company is likely to be materially stronger than Crompton’s current financial profile on a stand alone basis," said Moody’s credit analyst Mark Gray.


Crompton will first aim to pay off $200m in securitized receivables, according to Crompton chief financial officer Karen Osar. "We have working capital needs to fund in the second and third quarters, but there will be surplus cash post-closing to begin to really knock down those receivables balances," she said. "Our target is to pay it all down by the end of 2006."


Investors cheer deal


Wall Street cheered the deal on both sides, initially sending shares of Crompton up $1.85 to $15.31 and Great Lakes up $6.42 to $33.60. Shares of both companies have continued to rise.


Shares of Crompton have had a huge run over the past year, rising from a low of $5.02 in July 2004 to $13.46 just prior to the merger announcement as the company settled litigation related to rubber price fixing issues and boosted profitability through cost cuts and price increases.


On the other hand, shares of Great Lakes have been in a funk, trading in the low to mid $20s since mid 2001. The company’s former chief executive Mark Bulriss resigned in November, paving the way for a merger. Lyondell Chemical’s acquisition of Millennium Chemicals came eight months after Millennium chief executive William Landuyt resigned.


"In chemicals, when the CEO gets fired for performance reasons, it is not too surprising to see the company acquired shortly thereafter," said Fulcrum Global’s Mitsch. "Crompton CEO Bob Wood [has always] emphasized his strategy of positioning the company as a major specialty chemical company."


Asset sales likely


The merger will likely spur a number of asset sales. With plastic additives, at around $1.2bn in sales, being the centerpiece of the new company, potential divestitures include Crompton’s Davis-Standard polymer processing equipment unit and Great Lakes’ consumer products division.


"We want to drive for as many market-leading business positions as we can, and get out of any businesses where we don’t have critical mass or market leadership rapidly," said Wood. "We’re a specialty chemical company - not an equipment company. We’re looking for solutions to that issue along with a couple others, and I anticipate we’ll get that done before too much longer."


"It is likely that the polymer processing equipment will be sold soon," said Fulcrum Global’s Mitsch. "Although Davis-Standard serves similar customers as polymer additives, our prior experience suggests that the two businesses are hardly complementary."


Crompton’s Davis-Standard polymer processing equipment business generated $180m in sales and $3.4m in operating profits in 2004 out of a total of $2.55bn in sales for Crompton.


Great Lakes’ household cleaning products portfolio also appears to be considered non-core to the new Crompton. When asked on the conference call whether Crompton is also a consumer goods company, Wood reiterated: "We are a specialty chemicals company."


Great Lakes’ consumer products segment contributed $538m of its total $1.43bn in sales in 2004, and includes recreational pool chemicals and household cleaning products. The company acquired A&M Cleaning Products in July 2003 after buying Lime-O-Sol in February 2003, adding lines of household cleaning products.

By: Joseph Chang
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