Japanese chemical joint ventures could trump mergers and acquisitions

A new era of alliances

19 October 2009 16:52  [Source: ICB]

Is the sun setting on chemical M&A in Japan, or is a revival on its way? Regardless, the formation of joint ventures is heating up

THE LAND of the rising sun could see select chemical mergers and acquisitions (M&A) activity going forward. However, the pathway to competitiveness may not be lined with major acquisitions, but alliances instead.

"Japanese M&A will continue to be very limited, as it has been for the past couple of years. Large intra-Japan mergers will be relatively sparse," says Peter Young, president of New York City-based investment bank Young & Partners.

"Acquisitions of US and European assets will be strategic and moderate in size, particularly since the greatest global growth is elsewhere, such as Asia. In that respect, expansion in China and other parts of Asia is best accomplished through means other than M&A," he adds.

Japanese M&A has slowed considerably in recent years, notes Young, with 10 deals involving a Japanese buyer or seller over $25m (€17m) in size completed in 2006, only one deal in 2007, four in 2008 and one in the first half of 2009.

Since the first half, Japan’s Sekisui Chemical completed the acquisition of US-based Celanese’s polyvinyl alcohol (PVA) resins business for $173m, in July.

"Japanese chemical firms are buying in the specialty products in which they are already strong, including upstream and downstream in the chain," says Tetsuya Fujii, managing director of global investment bank Lincoln International. "The Sekisui/Celanese deal is one example of this."

The big deal in 2009 was Japan-based Mitsubishi Rayon’s $1.6bn purchase of UK-based methyl methacrylates (MMA) firm Lucite International in May. "This was a unique deal because it involved one of the global players in acrylic-based products acquiring a significant competitor to establish one of the global leaders," says Young.

"Mitsubishi Rayon acquired Lucite to become the global leader in terms of MMA capacity, but more importantly to acquire access to Lucite’s Alpha technology for the production of MMA," says Ian Davenport, president of US-based consultancy Davenport International Associates.

"This Alpha process is reported to have significantly lower costs than existing technologies. Now the challenge for Mitsubishi Rayon is integration – key decisions about organization and structure are still to come," he adds.

Only one deal since 2006 involved the acquisition of a Japanese chemical company by a foreign firm – European private equity company Permira’s acquisition of agrochemical firm Arysta LifeScience for $2.4bn in March 2008, Young points out.

While chemical deals will happen, it is questionable whether they will help improve Japan’s competitive position, which has eroded with the burgeoning capacity increases in the Middle East and China.

"M&A does not provide a path to competitiveness for Japan’s chemical industry. The problems of the industry include uncompetitive feedstock, multiple smaller than world-scale production locations, and a reluctance to make tough decisions," says Davenport.

"Successful M&A must be driven by a clear business strategy and followed by decisive implementation. M&A for the wrong reasons includes the concept that putting two businesses together will improve profitability – often in the case of Japan it simply provides an excuse to delay taking difficult decisions to eliminate capacity," he adds.

The Japanese chemical industry has made attempts at consolidation through M&A, but has backed away from this in recent years.

In 2006, seven out of the 10 deals over $25m in size were intra-Japan deals, but volume has fallen off considerably since then, Young points out.

"The larger mergers that occurred happened in earlier years when the Japanese thought that by merging they would strengthen their business position," says Young. "However, they have since learned that although merging Japanese companies provides significant cost savings, it does not fix the fundamental high-cost structure of the Japanese chemical company relative to the global chemical industry," he adds. "It also does not solve the feedstock issue or the migration of customers to countries such as China and India."

The most ambitious attempt at consolidation was a merger between industry giants Sumitomo Chemical and Mitsui Chemicals that was supposed to take place in 2003 after two years of planning. However, negotiations broke down as the industry recovered.

"In general, Japanese companies are not in a position to do big deals, even if funds are available, as they lack experience in global implementation and management that is able to act surgically to rapidly generate synergies," says Davenport. "They are also risk averse and tend to move slowly relative to US competitors."

"Mergers within Japan of any size have always been difficult. Furthermore, Japanese chemical companies have always been cautious about making any plays outside Japan," notes Young. "Japanese companies do not like the concept of buying people. Plus, the Japanese culture is very distinct and makes it harder for them to own and manage a non-Japanese company."

However, the recession and competitive pressures could yet drive deals to boost exposure to key areas such as specialty chemicals.

Japanese chemical companies generally maintain strong balance sheets and the financing market has recovered, notes Lincoln International’s Fujii.

"Japanese companies can pursue bigger transactions as long as the price is justified. They are looking for acquisition opportunities in specialty chemicals, including fine chemicals and pharmaceuticals, to offset the revenues and profit lost or to-be-lost in fixing their problems in petrochemicals," Fujii says.

"A petrochemical player without sufficient scale cannot survive. Since more petrochemical products are produced by Middle Eastern and Chinese companies, this business is becoming tougher for Japanese companies," he adds.

In September, Sumitomo Chemical, through its subsidiary Dainippon Sumitomo Pharma, agreed to acquire US pharma firm Sepracor for $2.6bn.

And in specialty plastics, Japanese media in August reported that Mitsubishi Chemical was in talks to acquire Mitsubishi Rayon for up to $2bn.

"I think the [potential] transaction would be in line with the ongoing restructuring of the business portfolio by Mitsubishi Chemical to transform itself from a petrochemical-driven company to more of a specialty-oriented company," says Fujii. "In the meantime, Mitsubishi Rayon, nearly an MMA single-product company with a highly leveraged balance sheet, would be at risk if another recession comes."

"Becoming one of the competitive specialty chemical companies of a larger Mitsubishi Chemical would be a good thing for Mitsubishi Rayon to survive in a yet-to-be-stable economy," he adds.

However, Davenport says the logic to the rumored deal is less than compelling.

"It will not generate any obvious savings for the combined businesses in terms of organizational restructure, raw material cost reductions, or growth," he says.

Whether or not M&A can help boost industry competitiveness, Japanese chemical companies are allocating funds for future deals.

Mitsubishi Chemical has a Japanese yen (Y) 250bn ($2.8bn) budget for alliances and M&A through fiscal 2010 (ending March 2011).

Mitsui Chemicals’ mid-term business plan includes Y170bn for M&A through fiscal 2011 (ending March 2012).

"Mitsui may seeks deals to hasten the commercialization of new technologies such as CO2 capture and conversion to methanol, as well as alternative non-phosgene routes to isocyanates," says Davenport. "Given the budget, alliances might prove a better use of available funds than acquisitions."

"Acquisitions are necessary not to shrink. Mitsui is committed to further developing agrochemicals and high-performance films, including those for solar applications," says Fujii. "While closing down plants can be done relatively easily, organically adding revenue takes time. In order to offset the revenue loss resulting from restructuring, acquisitions are necessary."

The Japanese chemical industry remains disadvantaged in terms of scale, and feedstock and manufacturing costs. And joint ventures rather than M&A may be the way to go in resolving these issues.

"Japanese chemical companies realize that the more important problem is their upstream costs, and access to and presence in high-growth markets such as China, where new plants and joint ventures make more sense than acquisitions," says Young.

"Cooperative ventures present opportunities for growth that are culturally acceptable, avoid immediate difficult decisions to shutter capacity, lower feedstock costs and minimize capital requirements," notes Davenport.

In August, Mitsubishi Rayon signed a $1bn joint venture deal with Saudi Arabia's SABIC to produce MMA and polymethyl methacrylate (PMMA) in Saudi Arabia for the automotive and electronics industries. The companies plan to build a 250,000 tonne/year MMA plant and a 30,000 tonne/year PMMA plant in Saudi Arabia by 2013.

In September, Mitsubishi Chemical's plastics unit and the management of Swiss engineering plastics maker Quadrant established a joint venture in engineering plastics and composites. The firms formed a jointly owned holding company called Aquamit that acquired the shares of Quadrant for around Swiss francs 237m ($228m).

Also in September, Mitsubishi Rayon formed an alliance with US specialty chemicals and materials producer Cytec Industries to develop carbon fiber composites and applications for next-generation aircraft.

In August, Japan's Asahi Kasei and Mitsubishi Chemical agreed to consolidate their fertilizer operations through the formation of an agrochemicals joint venture called JCAM Agri.

Sumitomo Chemical and Saudi Aramco's petrochemical joint venture Petro Rabigh started up its 1.25m tonne ethane cracker in Saudi Arabia in April.The $10bn watershed venture was formed in 2005.

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By: Joseph Chang
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