27 September 2012 10:53 [Source: ICB]
Global chemical merger and acquisitions (M&A) activity has come off the peak levels of last year in today's era of uncertainty stemming from the ongoing eurozone debt crisis, slowing economic growth in China and a struggling recovery in the US.
"The eurozone crisis is not helping confidence, but there is good interest in US assets among both strategics and sponsors. Financing is plentiful and cheap."
Private equity firms are indeed sniffing an opportunity and getting into the game once again, buoyed by cheap, available financing.
The latest high profile deals from these companies include global private equity firm The Carlyle Group's planned $4.9bn (€3.9bn) buyout of US-based DuPont's automotive coatings business and US private equity firm SK Capital joining up with global investment firm First Reserve to attempt a $632m acquisition of US-based butadiene (BD) producer TPC Group.
The Carlyle Group/DuPont deal, expected to close in the first quarter of 2013, is the largest chemical acquisition to be announced in 2012.
It was DuPont's "worst-kept secret" as a sale had been widely expected for months, notes Frank Mitch, analyst with US investment bank Wells Fargo.
Carlyle beat out a number of other private equity firms, according to several sources in the financial community. Industrial companies were not among the last round of bidders.
SK Capital and First Reserve's planned acquisition of TPC Group, if successful, would be a rare leveraged buyout (LBO) of a publicly traded chemical company. One of the most notable chemical LBOs was US private equity firm Blackstone Group's buyout of then Germany-based Celanese in 2004 for $650m in equity. Three years and a US initial public offering (IPO) later, Blackstone walked away with around six times its initial investment.
While public-to-privates (PTPs) have been rare in recent years, one investment banker sees more of them ahead in the chemical sector. "We're not surprised to see these kinds of deals. We think there will be quite a number of public-to-privates on both sides of the Atlantic," says Telly Zachariades, partner at global investment bank The Valence Group.
"There are a combination of factors at work. Private equity firms still have a very substantial amount of capital to invest and in some instances may be running up against time constraints in which to invest money raised several years ago," he says. "In addition, there are a number of public chemical companies that are not well appreciated in the markets, and therefore are undervalued."
In TPC Group's case, a number of analysts and shareholders believe it is being under-valued. Edward Yang, analyst with global investment bank Oppenheimer, notes that the offer by SK Capital and First Reserve represents only 5.0x EV/EBITDA.
The $40/share offer for TPC Group translates to $850m in firm value, which is defined as market capitalisation plus net debt, falling far short of its $1.9bn in replacement value, Yang added.
TPC expects the deal to close in the fourth quarter and notes that stockholders representing about 22% of TPC's outstanding shares have entered into agreements to vote in favour of the deal.
Thomas Sandell, CEO of Sandell Asset Management, which holds 6% of TPC's outstanding shares, blasts the planned deal as an attempt "to steal the company at a grossly suboptimal price in a sweetheart LBO with a favoured buyer in an impaired sale process at the bottom of the cycle". Harrs views TPC as a typical target for an LBO.
"It has all the characteristics of an LBO - a commodity, cyclical business that can earn tremendous returns if the timing is right."
PRIVATE EQUITY RESURGENCE
Aside from LBOs of publicly held companies, private equity firms will likely be increasingly active in straight-out acquisitions.
"I think we're going to see more private equity activity over the next six-to-12 months - probably more than that from strategic buyers," says Zachariades.
"We are seeing a strong resurgence of private equity in the chemical industry."
"Private equity firms are in the process of raising, or have already raised large funds. They have to be in the market to put that cash to work, and we expect them to be active," says Harrs.
US-based chemical company Cytec Industries is in the process of selling its coatings resins business. A number of private equity firms are among the interested parties, along with some strategics, note sources in the financial community.
On the financing side, "debt capital markets are fairly robust," notes John McNicholas, head of investment banking at PrinceRidge.
For strategic buyers, they are still taking a wait-and-see attitude, he says.
"Broader macro-factors are weighing on companies, dampening their willingness to aggressively pursue transactions. But the desire is there, Folks feel good about having weathered the storm, and now growth is the challenge. M&A is a viable solution."
McNicholas is sensing more caution among senior executives about the US elections, the eurozone crisis, and the slowdown in China. However, he expects a pick-up in M&A activity towards the end of the year as more clarity emerges on these concerns.
Chemical companies are also pruning their portfolios in what appears to be a never-ending game. Yet activity in this area has been selective. In August, Cytec sold its pressure-sensitive adhesives business to Germany's Henkel for $105m. A month earlier, it acquired UK-based advanced composites producer Umeco for $439m, strengthening its core composites business.
And US-based coatings producer PPG Industries in July engineered a unique deal to finally shed its non-core chlor-alkali business in a $2.1bn merger with US-based polyvinyl chloride producer Georgia Gulf.
"The deal makes a great deal of sense, both from a synergy point of view as well as taxes," says a source in the financial community with knowledge of the deal. "Both companies have been aware of this opportunity for some time and have been talking for months - likely prior to Westlake's approach of Georgia Gulf."
US-based chlor-alkali and polyvinyl chloride (PVC) producer Westlake made a hostile bid to acquire Georgia Gulf on 13 January, for $30/share, or around $1bn. The approach was rejected by Georgia Gulf's management as being too low, along with subsequent approach at $35/share.
On 4 May, Westlake withdrew its offer to buy Georgia Gulf, citing non-responsiveness by the latter's management. "Georgia Gulf may have rejected Westlake's advances because it knew something was cooking with this deal," says Zachariades of The Valence Group, which did not advise on the deal.
PPG will form a new company by carving out its chlor-alkali business through a spin-off or split-off. Then it will immediately merge this company with Georgia Gulf or a Georgia Gulf subsidiary in what is called a Reverse Morris Trust transaction. The merger will result in PPG shareholders receiving around 50.5% of the shares of the newly merged company, and Georgia Gulf shareholders owning 49.5%.
"PPG will do a tax-free spin-out of its chlor-alkali business to its own shareholders. To keep it tax-free, the PPG shareholders must own a majority of the newly merged company," says the financial community source.
The transaction essentially achieves the same result as a straight divestiture of PPG's chlor-alkali business, but without the heavy tax burden. PPG will receive $900m in cash in the deal along with Georgia Gulf shares valued at $1.0bn as of its stock price on 18 July.
PPG sheds debt of $95m, environmental liabilities along with pension assets and liabilities, and other post-employment liabilities associated with the business. The deal, which will create an integrated vinyls company with around $5bn in sales, is expected to be completed in late 2012 or early 2013.
"This is a great transaction for both sides. PPG has always viewed the chlor-alkali assets as a non-core business and it's been available for years," says Zachariades.
A sale of the PPG chlor-alkali assets posed three obstacles - price, environmental exposure and tax leakage, notes the banker. "The way PPG is doing the deal solves all these problems. It is getting a reasonable price at around 5 times EBITDA [earnings before interest, tax, depreciation and amortisation], probably transferring most of its environmental exposure and avoiding taxes," says Zachariades.
"For Georgia Gulf, it adds upstream chlor-alkali capacity and grows its businesses substantially, while not over leveraging its balance sheet," he adds.
The deal follows another transaction in the chlor-alkali sector - US-based Olin's acquisition of US producer and distributor KA Steel for $328m, also announced in July. "The Olin deal on its merits also makes a ton of sense, as KA Steel is already a big distributor for Olin," says the financial community source.
For potential sellers in today's M&A market, it's not a bad time to explore options. Acquisition multiples for specialty chemical assets in particular have held up well.
"Completed specialty chemical multiples have been at a very high level - higher than last year," notes Allan Benton, vice chairman and head of the chemical industry practice at US-based investment bank Scott-Macon.
"Multiples have held up. Strategics have strong balance sheets and lending rates are low," says Benton.
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