INSIGHT: Performance materials deal pushes LANXESS further towards specialties

Tom Brown

06-Jun-2022

LONDON (ICIS)–LANXESS’ strategy of gradually phasing out more cyclical market exposure progressed substantially this week with a deal set to reduce its commodity chemicals footprint.

The firm agreed last week to contribute the bulk of its engineering materials division operations into a joint venture with private equity firm Advent International, along with complementary operations from Netherlands-based player DSM.

The deal is set to leave Germany-headquartered LANXESS with a more global, less Europe-centric portfolio.

THE DEAL
Set to see Advent take majority control of a substantial European polyamides player, DSM is to exit the engineering materials space entirely for a purchase price of €3.7bn, while LANXESS is to take at least €1.1bn to fold its high performance materials (HPM) assets into the venture.

Expected to close in the first half of 2023, LANXESS would hold 40% of the joint venture while Advent will take at least a 60% equity stake, with potential that the German company’s final position could stand to fall by the close in exchange for a bigger pay-out.

Meanwhile, Netherlands-headquartered DSM, long keen to pivot to becoming a pure-play life sciences company, will exist the engineering materials space entirely.

LANXESS will keep a foot in the performance polymers space through the joint venture, at least for the time being.

As with the company’s rubber joint venture with Saudi Aramco, brokered by CEO Matthias Zachert shortly after re-joining the company in 2014, the deal includes an option for the company to exit after 36 months at the same valuation.

While the 36-month window seems set in stone for now, LANXESS did end up cashing out of the ARLANXEO before the stipulated five-year lock-up period expired, selling its stake to Aramco less than three years after the formation of the joint venture in late 2015.

SHIFTING AWAY FROM CYCLES
Zachert has been working on such a deal for the HPM business for years, he said in an investor call on Tuesday.

At the time that he re-joined the business in 2014, LANXESS was in serious trouble, close to buckling under the weight of its overexposure to the automotive sector through polymers and rubber.

With the Advent deal, the company will have gone from one of the most exposed chemicals players in Europe to the automotive sector to deriving around 10% of its revenues from that space.

LANXESS’ urethanes operations, the sole part of the engineering materials division not transferring over to the joint venture, are also likely to be divested in the mid-term.

When the Advent deal closes, the urethanes operations will be transferred to the company’s reconciliation segment, with a likely exit within the next two years.

The business generates annual revenues of €250m, and a sale could be set to generate a return multiple of over 10 times its €40m-50m earnings before interest, taxes, depreciation, and amortisation (EBITDA), according to Zachert.

“We have received over the last 12-18 months several offers from other strategic companies that have flagged this business as a business that could fetch €400-600m for the EBITDA of €40m-50m,” he said.

“So, this is definitely something we would consider going forward, but there is no need to hurry.”

The company will shift from four core divisions to three – advanced intermediates, specialty additives, and consumer protection, with the latter set to stand as the largest single pillar of LANXESS’ operations at an estimated 40% of annual revenues.

The deal also entails a shift in the company’s overall geographic footprint.

“LANXESS will proportionally be better positioned in the respective big chemicals regions … and, therefore, the exposure production-wise in Europe is being reduced,” said Zachert.

The CEO noted the volatility of the HPM space relative to its other operations several times on the investor call, including the substantial sales drop seen in 2020 in the wake of the temporary collapse of automotive sector production.

“We shouldered the global pandemic recession in an extremely solid way,” he said, adding that the most significant volatility during the period came from the automotive space, which caused HPM’s profitability to drop by 50-60 percentage points before rebounding.

The company has been successful in passing on price hikes in the wake of the surge in European energy prices, but margin erosion is difficult to avoid because of the historic high values of some building block chemicals.

“Our HPM business, a strong business, has shown higher volatility,” Zachert said.

“With the PA [polyamide] business you are backward integrated into the benzene/cyclohexane value chain which currently is experiencing high inflationary environments. We are strong enough to pass this on but that leads to margin dilution,” he added.

SHARPER FOCUS
Throughout Zachert’s renewed tenure at the company, LANXESS acquisition story has been around building up its footing in less cyclic spaces like biocides, consumer protection and specialty additives, while moving away from more commoditised, cyclic operations.

Since 2015, the company has sold off its rubber assets through ARLANXEO, sold its stake in chemicals park Current, divested its organic leather chemicals business, and now made preparations to exit HPM by 2026.

Over the same period, the company has purchased Chemours’ cleaning and disinfectants portfolio, additives maker Chemtura, consumer protection player Emerald Kalama and the microbial solutions assets of IFF.

The company is also looking to take its debt to earnings ratio down to 2.5x when the deal closes as it seeks to cement its BBB investment grade in its credit rating.

It plans a €300m-share buy-back in the wake of the deal, also intended to drive up its share price, which Zachert maintains is undervalued.

Following the close of the Advent International deal, the company’s valuation multiple sinks to 4.1x enterprise value to earnings, according to Zachert, highlighting a “valuation gap” for the company.

Executives at other European specialties-focused firms such as Arkema have also bemoaned their publicly traded valuations.

A NEW CHALLENGER
Representing the latest step in legacy chemicals firms in Europe shifting away from bulk and cyclic chemicals markets – the end of DSM’s involvement in the space and potentially one of the final moves away from those markets by LANXESS – the move is also set to create a substantial new advanced materials player.

The joint venture business will be a major new polyamides-focused player.

DSM’s engineering materials business consists of polyamides (PA6 and PA66), as well as various other grades and specialty polyesters, while LANXESS high-performance business produces PA6 and polybutylene terephthalate (PBT), as well as precursors caprolactam (capro) and glass fibre.

The combined business will start out with annual revenues of around €3.0bn and EBITDA of €510m before synergies.

By comparison, LANXESS’ total group sales for 2021 were around €7.6bn.

With a decision on headquarters still to be discussed, Advent is hoping that the newly formed engineering plastics business will be in a position to capitalise on the trend towards light-weighting in the vehicles sector, driven by the carbon-reduction deadlines dotted through to 2050.

E-mobility is expected to be another driver, with higher polyamide demand expected from battery casings and control systems, as well as from the electrical goods and electronics sectors.

COMBINED ENTITY METRICS

Lanxess HPM DSM engineering materials Combined (estimated)
Sales €1.5bn €1.5bn €3bn
EBITDA pre-exceptionals €210m €300m €510m (ex synergies)
Production sites 10 8 18
R&D centres 7 7 14
Employees 1,900 2,100 4,000

Source: LANXESS

PRIVATE EQUITY INTEREST
The move also highlights the enduring influence of private equity on the European chemicals sector as companies push away from commodity chemicals.

If either DSM or LANXESS’ engineering materials divisions had gone to such a buyer, it would have created a substantial standalone player, but the shift of both into private equity hands creates a far larger presence in the space.

Company interest in carving out substantial parts of their operations, and other private equity buyers keen to divest long-held assets is creating scope for the creation of numerous large new pure-play cyclic commodity plays.

Advent itself has played a major role in that over the last few years, buying up distributor Caldic and merging it with Latin American portfolio company GTM, with an eye to building that business into a global force, as well as creating Rohm from Evonik’s methacrylates assets.

This trend of consolidation for polymers and other building block chemicals is unlikely to go anywhere.

STOCK UP SHARPLY
LANXESS’ shares shot up last week after the deal was announced. By the close on Friday (3 June), the company’s stock had risen by more than 18% to close the week at €45.69/share.

According to chemicals equity analysts, the stock could rise further in coming year; Germany’s investment bank Baader Bank even said the share price has the potential to double in the coming two-three years.

Analysts at the bank have issued a 12-month stock price forecast of €65/share.

“Long-term investors can hope for more than €80/share … LANXESS’ remaining portfolio shines with lower volatility, lower NWC [net working capital] intensity, a broader diversified geographical production footprint and substantially lower European energy intensity and CO2 [carbon dioxide] emissions,” said Baader Bank.

“The HPM deal underpins our bullish view on LANXESS’ hidden values, which are still mostly unrecognised. The highly value generating joint venture deal shows investors that these hidden assets can and will be lifted to the surface.”

Insight article by Tom Brown

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