Market outlook: Greater clarity needed to drive chemical M&A in 2013

17 January 2013 19:51  [Source: ICB]

There is a great will on the part of global chemical companies for mergers and acquisitions (M&A), but two major roadblocks are hindering activity - continuing lack of clarity on US fiscal policy and few quality assets on the selling block.

After a relatively slow 2012 for chemical M&A, investment bankers are hopeful that 2013 will bring renewed activity as uncertainty is removed.

Crystal ball dollar Rex Features

 Rex Features

Greater certainty on the US fiscal position would facilitate deals

"Public companies have strong balance sheets and are looking for deals, but often lack the confidence in the global macro outlook to make major acquisitions," said Chris Carlisle, head of chemicals for Europe, Middle East and Africa for global investment bank Nomura.

"We hope in 2013 we will have increased clarity on the US fiscal situation, and increasing confidence on the eurozone coping with the periphery countries."

The US falling off the fiscal cliff was partially averted with a deal between Congress and the president on 1 January focusing on taxes. The lack of a deal would have led to automatic spending cuts and tax hikes of over $600bn (€455bn), starting on 1 January. However, coming up at the end of Febraury is the US hitting the limits of its debt ceiling and again, severe automatic spending cuts unless a larger deal emerges.

"In 2013, certain factors that may have caused uncertainty, and thus a diminution in confidence amongst CEOs, have been settled or ameliorated - the US election, China's leadership transition, eurozone disaster scenarios," said Telly Zachariades, partner at global investment bank The Valence Group.

"Some of these boxes have been checked off, so companies can refocus on long-term fundamentals such as desire for growth, and take advantage of what continues to be relatively cheap financing."

JEKYLL AND HYDE

Chemical M&A was recently described by one executive as a "Jekyll and Hyde" market with a split personality.

Telly Zachaiades

 "Asian buyers are becoming increasingly comfortable with Western M&A processes, and Indian buyers in particular are the most adept as they have been at it for longer"

TELLY ZACHARIADES
Partner, The Valence Group

"On the one hand, companies have cash and a desire to make acquisitions, and financing is easy to come by. But there is anxiety over uncertainty in the economic outlook. That makes it hard for buyers and sellers to agree on value," said Damon Warmack, vice president of corporate development and strategy for US-based Eastman Chemical.

The uncertain outlook has "raised the bar" on coming up with a strong enough strategic rationale to make acquisitions, said Warmack.

Warmack spoke on a panel on the chemical M&A outlook at the Chemical Marketing & Economics Group meeting on 6 December.

Dean Willard, executive-in-residence at US private equity firm The Jordan Company, also sees uncertainty in the economic outlook making for a difficult M&A environment in 2013.

"I think we'll get a very slow start to 2013 in the first half, and then start top pick up in the second half if issues in the economy are resolved. If the US falls off the fiscal cliff, Europe will only get worse," said Willard.

"We are really cautious, but open to opportunities." The uncertain economic outlook is the main driver of the slower activity, said Chris Cerimele, director of US-based investment bank Houlihan Lokey, who moderated the M&A panel at the Chemical Marketing & Economics Group.

The PrinceRidge Group sees conditions AS being ripe for increased chemical M&A activity in 2013.

"There is lots of interest among strategics and sponsors to acquire assets. Companies need M&A to grow in a low GDP context, and there is plenty of available financing and equity capital," said Leland Harrs, managing director of the US-based investment bank. "Right now, there is a shortage of assets but eventually, market forces will rule. Transaction multiples will be relatively high and it will be a good time to be a seller in 2013."

That second major factor hindering deals - the lack of assets for sale - may also shift in 2013 as large companies seek to divest non-core businesses and private equity firms seek exits for long-standing investments.

Leland harris

 "Companies need M&A to grow in a low GDP context, and there is plenty of available financing and equity capital"

LELAND HARRS
Managing director, The PrinceRidge Group

US-based Dow Chemical will seek to sell unspecified underperforming businesses with sales of around $1bn by the end of 2013 as part of its sweeping restructuring plan.

"Divestitures [from Dow] would likely be downstream businesses with weak [intellectual property]," said Laurence Alexander, analyst with global investment bank Jefferies.

In January, Switzerland's Clariant announced a deal to sell its textile chemicals, paper specialties and emulsions businesses to private equity firm SK Capital for about Swiss francs (Swfr) 502m ($547m, €415m).

Mario Toukan, head of the chemicals practice at US investment bank KeyBanc Capital Markets, expects more corporate divestitures in 2013 as buyers of large chemical companies in years past digest deals and figure out what is non-core.

"We believe that many of these companies may want to want to divest non-core businesses, especially after uncertainties subside," said Toukan.

Chemical companies that have made acquisitions in the past several years that have not announced any major divestitures include US-based Ashland (acquired International Specialty products), US-based Ecolab (acquired Nalco), Belgium-based Solvay (acquired Rhodia) and Eastman Chemical (acquired Solutia).

"Typically it takes companies a year or two after a major deal to figure out what they want to sell," said Toukan.

Much of that has to do with the nature of the chemical industry itself, the banker said.

"In chemicals, it's hard to find a large transformational deal that is 100% core. In chemicals you may have bought something where 80% fits with your strategy - there's always something there that's non-core," explained Toukan.

To that point, Switzerland-based Lonza agreed to sell its performance urethanes and organics business in Brandenburg, Kentucky, US to US-based Monument Chemical for an undisclosed sum in November 2012.

The planned sale is a divestiture of certain assets of US-based Arch Chemicals, which Lonza acquired in October 2011 for around $1.4bn. Lonza initiated the sale process in July 2012.

Mario Toucan

"In chemicals, it's hard to find a large transformational deal that is 100% core... There's always something there that's non-core"

MARIO TOUKAN
Head of chemicals, KeyBanc Capital Markets

KeyBanc's Toukan sees a number of these types of divestiture decisions by chemical companies becoming apparent in the first quarter of 2013.

FURTHER SALES ON THE CARDS

The current economic environment in Europe, with static revenues and rising costs cutting deeply into the margins of some companies, may also lead to further sales.

"There are reasons for consolidation, ­particularly if businesses are underperforming due to poor management or poor strategy. There's a very strong logic for those businesses to be taken out - and they will be," said Constantine Biller, director of chemicals and industrials at UK-based Clearwater Corporate Finance.

LOW RATES CUT BOTH WAYS

While low interest rates have helped finance M&A, they also may be hindering deals, especially the sale of family-owned businesses, noted John McNicholas, head of investment banking at the PrinceRidge Group.

"Some families that own chemical businesses have said: 'If I sell, what am I going to do with the money?' Treasury rates are at about 1%, and so there is an absence of compelling uses of proceeds," said McNicholas.

"Low interest rates cut both ways. If owners are confident they can generate decent rates of return by keeping their businesses, it will be tougher to sell."

CROSS BORDER TO PICK UP

Cross-border deals are also picking up and will be an increasing part of the M&A market in the coming years, said The Valence Group's Zachariades.

"Our analysis suggests that about one-third of chemical M&A activity currently involves Asian or Middle Eastern participants, and we see that moving to 50% over the next 3-5 years," he said.

The banker noted that three recent announced transacions have involved Indian buyers - Gulf Oil's acquisition of US-based metalworking fluids firm Houghton International for $1.05bn, Rain Commodities buyout of Germany-based industrial chemicals producer Ruetgers, and Jindal Poly Films' agreement to buy US-based ExxonMobil's biaxially-oriented polypropylene (BOPP) films business in the US and Europe.

constantine-biller

 "There's a very strong logic for those businesses to be taken out - and they will be"

CONSTANTINE BILLER
Director of chemicals, Clearwater Corporate Finance

"Asian buyers are becoming increasingly comfortable with Western M&A processes, and Indian buyers in particular are the most adept as they have been at it for longer than other Asian buyers," Zachariades said.

Nomura's Carlisle also sees greater appetite for cross-border deals. Companies based in Japan, South Korea, and the Middle East are showing more interest in Western chemical assets, he noted.

"Japanese companies are looking to geographically diversify as they try to compensate for low growth at home," said Carlisle.

"We are definitely starting to see emerging market players as buyers of large global chemical assets," said Clearwater's Biller. "Cash resources are often not a problem, and they have a strong desire for these assets. They're buying products, intellectual property, technical know-how, routes to market, relationships with customers - as well as expertise that at some point they will want to repatriate to their own countries."

VALUATIONS AND FINANCING

Overall, transaction valuations are relatively strong and underpinned by active private equity buyers that can typically borrow at more than four times earnings before interest, taxes, depreciation and amortisation (EBITDA) in today's market, noted Nomura's Carlisle.

"It's a good time to be a seller of lower valued assets given that financial sponsors may provide an effective back-stop to valuation," he added.

"The financing market is very much wide open and will propel M&A activity and valuations," said KeyBanc's Toukan.

Public valuations of chemical companies are also robust, making it tough for buyers to pull the trigger.

"Good assets such as many public companies look fully priced on a historic multiple basis, so it takes a lot of guts and confidence in the macroeconomic outlook to launch a takeover," said Nomura's Carlisle.

DEAL ACTIVITY

The year 2012 has seen a handful of major deals such as Eastman Chemical's acquisition of US-based Solutia for $3.4bn, US private equity firm Carlyle Group's planned buyout of DuPont's automotive coatings business for $4.9bn, private equity firm Advent International's planned purchase of US-based Cytec Industries' coatings resins business for $1.03bn, and US-based Ecolab's planned acquisition of US-based oilfield chemicals producer Champion Technologies for $2.2bn.

US-based polyvinyl chloride (PVC) producer Georgia Gulf's is also planning a $2.1bn merger with US-based PPG Industries' chlor-alkali business.

PPG Industries has in turn, been deploying capital to bolster its leading position in the coatings market.

In December 2012, PPG agreed to acquire Netherlands-based AkzoNobel's North American decorative paints business for $1.05bn. In October, it announced the acquisition of US-based privately held industrial coatings firm Spraylat.

The fragmented coatings sector has been a hotbed of activity in an otherwise mild chemical M&A market in 2012.

The PPG deal follows US-based paints company Sherwin-Williams' first foray into Mexico with a deal to buy local architectural and industrial coatings producer Comex for $2.34bn announced in November.


By: Joseph Chang
+1 713 525 2653



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