INSIGHT: Valuation expectations continue to dog chems M&A dealflow
Tom Brown
03-Feb-2025
LONDON (ICIS)–The flow of exits and acquisitions in the chemicals sector continued slow in 2024, as an ongoing misalignment of valuation expectations between buyers and sellers continues to slow the pace of dealmaking.
Since the pandemic, it has become substantially more difficult to gauge companies’ future earnings prospects, with performance data from the last five years tougher to compare to earlier periods, and the trajectory of future earnings more opaque.
The pandemic era saw the period of widespread shutdowns and lockdowns followed by a huge rebound in demand, particularly for durable goods makers as consumers unable to leave their homes spent their pay on products and home improvement.
STRUCTURAL SHIFTS HIT
PROSPECTS
The period since the pandemic has been an
unnaturally long slump, described by
LyondellBasell CEO Peter Vanacker last week
as “the longest and deepest downturn of my
career”, with energy prices and soaring
interest rates hitting growth.
While we may be nearing the end of that trough, if not this year then next, it remains difficult to gauge future earnings potential.
Dow CEO Jim Fitterling noted in late January that some of the demand loss in Europe could be structural and may never come back, and questions remain over whether China economic growth will ever hit the levels expected a few years ago.
With half a decade of choppy, unusual economic conditions and little indication of when demand will bounce back and to what extent, it has become much more difficult to assign a price tag for an asset based on future anticipated financial performance.
Source: FTI
Even including ADNOC’s takeover of Covestro – a €11.7 billion deal that has been agreed but is yet to close – dealflow in 2024 was extremely weak, only marginally up on 2020 and slower than each ensuing year since then.
“The challenges in chemical deals stem from a persistent misalignment in valuation expectations between buyers and sellers, driven by atypical post-COVID industry performance and an uncertain outlook,” said consultancy FTI in a recent report on the sector.
HIGH PRICES, TOUGH
PROSPECTS
The issue of seller expectations is
complicated further by the fact that many
purchases may have been made in the
pre-pandemic years, meaning that prices paid
may not match up to the reality of demand for
some value chains.
Private equity has long been a key player in the chemicals M&A market, and many fund managers are trapped between accepting a low or negative return on assets purchased when debt finance was cheap and expectations were higher, or continuing to hang on.
This has resulted in holding periods far beyond the usual life cycle of a private equity fund.
Traditionally, the sector model has revolved around selling assets three to five years after purchasing them but, with IPO exits difficult and the economic outlook uncertain, hold periods for chemicals firms are ballooning, drawing close to a decade in some cases.
The pressure for exits comes alongside pressure from limited partners for private equity players to deploy capital that has accumulated over the last few years.
CONDITIONS TO DRIVE
DEALFLOW
While conditions remain difficult, the need
for private equity firms to try and sell
businesses and to put capital to work could
be a driver of big new investments, either in
2025 or in the near future beyond that.
The spate of strategic reviews of European assets and the prevailing economic malaise in the region could also drive deal flow, as companies look to sell sheafs of assets deemed non-core or uncompetitive, and struggling producers look for a life raft.
Dow promised progress on its ongoing review of European assets, and LyondellBasell is making progress with its assessments, with potential for several assets to be sold to one buyer, or a few units divested piecemeal.
“The European sector, struggling with weak financial performance, might further attract international investors seeking diversification into chemicals,” FTI noted.
TURNAROUND PURCHASES
The question remains whether assets deemed
uncompetitive by global chemicals producers –
largely older, energy-intensive, lower-margin
chemical plants – would be attractive to
financial or institutional buyers.
While large multinationals with a strong presence in lower-cost regions such as the US Gulf Coast and a desire to cut costs may not want to put in the time and money to make such units viable, private equity firms may.
“We believe that hands-on private equity funds with operational value creation expertise may thrive in this market environment,” FTI said. “Private equity is likely to implement its performance improvement playbooks, but may also explore partnerships with strategic industry players.”
Despite numerous indicators that dealflow will pick up in the mid-term, that question of buyer-seller expectations remains a difficult one.
Private equity firms promise their investors above-market returns, and firms that purchased assets at the top of the market in the pre-pandemic era face a bitter pill when looking to sell them off in a low-growth, high financing cost environment.
In the case of the Covestro deal, the purchase price represents a multiple of nearly 11 times 2023 earnings before interest, taxes, depreciation and amortization, a substantial sum.
Compared to the company’s mid-cycle earnings target of €2.8 billion, the takeover price multiple dwindles to around five times EBITDA. Covestro’s EBITDA stood at €3.44 billion in 2017, €3.2 billion in 2018, and €1.6 billion in 2019, before rebounding to €3.1 billion in 2021.
Earnings fell to €1.62 billion in 2022 and €1.08 billion in 2023, with expectations for last year standing between €1bn and €1.4 billion.
This underlines the shift that occurred once energy prices in Europe started to intensify in the wake of the Ukraine war. While those target mid-cycle EBITDA levels may indeed come around again, the question remains as to when, or if, as Fitterling said, structural demand shifts mean Europe never fully bounces back?
With no expectation of a V- or even U-shaped recovery once demand does start to pick up, sellers adjusting expectations to the new realities may be the only way to ever exit businesses.
Insight by Tom Brown
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