(List compiled by Eben Esterhuizen, CFA)
In the first four months of 2011, total announced chemicals mergers and acquisitions deal value was $50 billion, and second quarter announced deal volume followed suit, putting 2011 on track to break the record set in 2007 for total sector deal value.
Interestingly, chemical industry advisory experts point out that most of the deals have been driven by industry rather than finance firms.
The accepted logic is that companies took proactive measures to trim waste and increase productivity as part of their recovery strategies, and those that succeeded were left with a decent amount of cash on hand that they are looking to leverage for long term growth.
On one hand, these companies in this position are well-poised for takeovers that can give them access to new markets and increase their innovation potential. The strength of their recovery has enabled them to invest in M&A activity with less fear of a potential near-term down cycle in the industry, something that gives finance pause because of its emphasis on the near-term profitability for liquidity’s sake.
On the other, shifts in the global nature of the industry with the continued growth of chemicals mergers and acquisitions targeting Chinese firms and coming out of China have changed the international chemicals M&A landscape and seem likely to continue to do so.
While large, generalist banks such as JPMorgan Chase & Co., which lead chemical M&A advising in the first half of 2011, do have sufficient experience in international markets, they cannot match the chemicals expertise of specialized advisory firms.
This distinction is important because distilling emerging market trends and the ability to identify the salient factors in international markets, such as the relevance of weak innovation capacity in Chinese chemicals firms, depends on an intimate understanding of the chemicals and related materials industries at a technical level.
The opportunities for these cash-on-hand firms to make lucrative investments in a number of different markets are very significant, no matter what strategy they want to pursue, but there is an increasing degree of complexity in every market, and chemicals mergers and acquisitions are no exception.
This means that the current environment also presents firms with wide openings to miss an opportunity and make a less profitable takeover or even acquire at a loss in the medium-term, and even an incredibly successful iBank like JPMorgan Chase would find their resources stretched thin before they could even approach the level intricate understanding of this sector that specialty advisory firms already have.
Kapitall's take: So, how do you know how to spot the takeover targets in the Chemicals Industry? For ideas, we looked at the levered free cash flows of chemical companies, and compared them to Enterprise Value.
Enterprise value (EV) is, theoretically, the takeover price for a company. Levered free cash flow (LFCF) is a measure of a company’s available cash. In the case of a takeover, the levered free cash would be transferred to the purchasing company, which would reduce the effective cost of the acquisition (ie, if company A bought company B for $10B and company B had $2B in LFCF, company A would effectively be paying $8B).
We ran the screen, and could only find two companies with a high level of free cash flow relative to enterprise value--do you think any of these companies are possible takeover targets?
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1. Ashland Inc. (ASH): Trailing twelve month levered free cash flow at $491.75M vs. enterprise value at $4.62B (i.e. levered free cash flow represents about 10.64% of the company's enterprise value.
2. FMC Corp. (FMC): Trailing twelve month levered free cash flow at $348.42M vs. enterprise value at $6.86B (i.e. levered free cash flow represents about 5.08% of the company's enterprise value.