Description

Chase Corporation is a leading manufacturer of protective materials for industrial applications requiring high reliability in a wide variety of industrial end markets.  The company specializes in making protective sealings, coatings, and tapes for critical applications in which protecting a small component from failure due to stress or wear can cause expensive repercussions for the manufacturer – such as recalls for automotive OEMs, or expensive downtime and repair in other applications. As such, Chase’s products typically comprise a small percentage of the cost of the end-product or project, but high value for the customer in the savings that come from avoidance of performance failure.

Over its 75-year history, Chase has developed a reputation for quality products that perform well above industry standards. While Chase is not a large company at ~$425M in annual revenue, the business offers an unusual diversity of products and sells to a wide variety of customers with a broad spectrum of use cases. As a result of its strategy of sticking to high-value and profitable core niches and a relentless focus on manufacturing efficiency, Chase’s business is both highly profitable and capital-light.  The company routinely posts gross margins of ~40% with operating margins that have historically been within the 17-22% range depending on the environment. Those high profits translate to true free cash flow such that FCF margins typically run 15-18% of total revenue, and Chase consistently generates unleveraged ROEs in the mid-to-high teens. 

CCF organizes it business into three business segments organized by product type:

• The Industrial Tapes segment specializes in wire and cable materials, specialty tapes, and laminated and coated products. Products include insulating and conducting materials for wire and cable, pulling and detection tapes for fiber optic cables and water and gas lines, and laminates and laminated durable papers for use in electronic packaging markets. Primary customers include cable manufacturers, utilities, and telecoms, as well as electronics manufacturers and assemblers.

• The Adhesives, Sealants, and Additives (ASA) segment develops specialized products including moisture protective coatings and cleaners, polymeric microspheres, polyurethane dispersions, and super-absorbent polymers. These products are used primarily in the transportation, appliances, medical, and environmental markets as well as general industrial applications.

• The Corrosion Protection and Waterproofing segment largely comprises infrastructure project-oriented products sold under the Chase brand. Products include protective coatings for pipelines, adhesives and sealants used for waterproofing and liquid storage, polymeric asphalt additives, and expansion joint systems used in transportation and architectural markets. End markets include oil, gas, and water pipelines, highways and bridge decks, wastewater containment systems, and commercial buildings. This segment tends to be mildly seasonal, with higher sales in the North American spring and summer construction season.

Gross margins are highest in the smallest business unit (Corrosion Protection & Waterproofing) despite this being only a $45M annual revenue business.  All three units typically generate gross margins ranging from the mid 30% to mid-40%, such that the overall company gross margins in recent years consistently run close to 40% with unit level operating margins in the ~30% range.

Below is the breakdown for FY2022 by business unit (note that CCF’s fiscal year ended August 31st.) 

CHASE CORPORATION - SALES AND PROFITS BY BUSINESS UNIT FY 2022

UNIT                                                         REVENUE   PRE-TAX INC  OP MARGIN

Industrial Tapes                                         $ 144.0M      $41.4M             28.8%

Adhesives, Sealants & Additives               $ 135.8M      $37.7M             27.7%

Corrosion Protection & Waterproofing     $   45.9M      $17.4M            37.9%  

TOTAL                                                       $ 325.7M      $96.5M             29.6%

Chase’s high profit margins and returns on capital are due in part to the lengthy customer relationships it has developed in its niche markets over the course of 75 years, as well as its focused, customer-centric R&D efforts.  

Despite its small size, Chase serves so many different customers across so many different industry applications that customer concentration risk is quite limited. CCF has not reported a customer accounting for greater than 10% of sales in many years. The company tends not to be excessively vulnerable to the negative cycles of any given industry because it sells into so many end markets.  If business conditions are slow in one area of the company’s business, often that weakness can be at least partially offset by relative strength in a different part of the business. In this sense, investors can view CCF as a centrally managed collection of small, high-quality niche industrial business lines. The table below provides a selection of key brands or product lines pulled from various Chase investor materials: 

CHASE CORPORATION - KEY PRODUCT LINES & TRADEMARKS

BRAND/TRADEMARK     APPLICATION                                                                                                       

---------------------------------------------------------------------------------------------------

Ceva                            Epoxy pastes, gels, and other products for construction industry.

Chase & Sons               Barrier and insulating tapes sold to wire and cable customers.

Chase BLH2OCK           Water-blocking compounds for the wire and cable industry.

CIM                             Coating and lining systems for water/wastewater industry.

Defender                      RFID protective material for consumer and paper products.

Dualite                         Polymeric microspheres for weight reduction/sound dampening.

DuraDocument             Durable, laminated papers sold to digital print industry.

HighDraw                     Shielding tape sold to wire and cable industry.

HumiSeal                     Electronic moisture-protective coatings

Muletape                      Pulling and installation tapes sold to telecom industry

NEPTCO/NEPTAPE         Coated shielding and insulation materials for wire and cable.

PaperTyger                   Laminated papers for commercial printing industry

Resin Designs               Adhesives and sealants for microelectronics and semiconductors.

Rosphalt50                   Thermoplastic asphalt additive for bridge decks and highways.

Royston                        Corrosive preventive coatings for pipes

ServiWrap                     Pipeline protection tapes, coatings, and accessories.

SlickTape                       Lubricating shield tape for wire and cable.

Tapecoat                        Corrosive preventive coatings and primers for construction 

Trace-Safe                     Detection tapes sold to telecoms and water and gas utilities

4EvaSeal                       Adhesive-backed tapes used in various industries.

ZapLoc                          Packaged medical waste solidifier products.

ZapPak                          Medical waste solidifier products packaged in dissolvable film.

ZapZorb                         Environmental solidification products for liquid waste systems.                   

-------------------------------------------------------------------------------------------------------

CCF is primarily a North American business, though it has been slowly expanding internationally over the years. By customer geography, sales in FY2022 in North America were roughly $255.5M or 78.5% of the total, with Asia comprising ~14% of sales, Europe roughly 9.5%, and less than 1% coming from everywhere else. By currency, revenue is roughly ~80% USD and ~20% from other currencies, of which roughly half is typically in UK pounds. Chase operates a physical footprint of ~20 different manufacturing facilities, some of which are owned and some leased.  Most of the company’s facilities are dedicated to making product lines for a single Chase business unit, however, two facilities in Pennsylvania and the company’s largest manufacturing site in Hickory, North Carolina serve as multi-unit manufacturing centers.  

Considering Business Quality at Chase

In this section I will delve a little further into the topic of why I believe that Chase Corporation has created a much higher quality business than one might normally expect to find in a ~$325M annual revenue maker of specialty industrial products.  One obvious starting point is the company’s longevity; I have long believed that in capitalism, longevity is often a sign of quality, or at least a sign of resiliency. Chase is now more than 75 years old, and not only has a very long history of successfully competing in its niche markets, but also benefits from a continuity of management style working with the long-term orientation that comes from operators who are both owners and stewards of a unique and valuable family heritage.    

The company’s high gross profit margins of roughly 40% are impressive for an industrial manufacturer and can be explained by several important factors.  First is that CCF offers a wide variety of products covering a wide range of industrial, construction, electronic, telecommunication, and medical markets.  This wide diversification makes CCF less prone to cyclical downturns in any one or two major markets, though CCF does have sensitivity to general economic activity.  The company also has very little customer concentration; there hasn’t been a year that I could find in which there was a single customer accounting for greater than 10% of revenues going as far back in the archives as I cared to delve.  For a company of CCF’s modest size, this is an important risk mitigator. 

It is also clear from reading CCF’s historical reports that Chase’s products are invariably the #1 or #2 player in its product niches, and acquired companies tend to offer either extensions to CCF’s existing brands or are themselves already long-established brands in adjacent product categories.  Chase does compete with a wide array of players across the industries it serves, but many of CCF’s specific niches are simply not big enough to be of interest to multibillion dollar competitors such as RPM International (RPM).  At the same time, CCF enjoys significant advantages over smaller competitors, which may lack the scale or financial strength to win OEM business even if they have a unique product or valuable expertise. OEM’s can be quite sensitive to a supplier’s potential staying power and ability to support their multi-year design cycles.  Many of these smaller players become acquisition candidates for CCF.  

Often, Chase formulates its solutions specifically for customer product designs.  It is here that Chase’s long history and decades-long relationships with many of its customers comes into play – CCF has some customers it has worked with for fifty years. If an engineer/product designer at an OEM needs a solution to ensure that the resulting product or project can withstand heat, moisture, corrosion, or whatever, it makes sense to have Chase engineers formulate a solution specific to their needs. Of course, once a CCF solution is designed in, a customer is unlikely to replace it with a competitor solution given the switching costs required. The benefits of these close relationships also extend to Chase’s ability to anticipate the direction of market changes, allowing Chase to work on solutions that will put it ahead of the curve for the next generation of designs in that industry or application. 

Finally, it is important to understand that Chase specializes in specialty products that protect important components from excessive wear or failure in critical applications. Chase’s products represent a very small cost relative to the costs of the final products but are critical to their performance, so it makes little sense for manufacturing customers to take the risk of trying to cut costs in this area. Chase has built a reputation for quality that vastly exceeds industry standards, which makes the company’s products the safe choice for its customers to use in their projects or product designs. 

Beyond the 40% gross margins, CCF prides itself on a relentless focus on operating efficiency.  SG&A expenses are generally no more than 20% of sales and tend to improve over time with scale – SG&A fell to 18% of total revenue in FY2021 versus 19% of sales in FY2020.  Roughly half of the SG&A occurs at the operating units themselves (leading to unit operating margins of ~30%), while the other half occurs at corporate.  Despite its obvious commitment to new product development, CCF is frugal in its R&D spending, with annual R&D spending typically coming in at roughly 1.5% of revenue.  This understates CCF’s commitment to R&D, as much of the company’s development costs get baked into unit expenses as part of its customer-specific product formulation requests. After operating expenses and R&D, CCF is left with roughly 18-20% pre-tax margins. CCF’s effective tax rate is typically in the 23-24% and given that CCF typically has had very little interest expense, net income tends to range from 12-15% of sales.

Cash flow profits tend to be better than reported net income, as GAAP expenses related to amortization of D&A from recent acquisitions (~5% of sales) reduce earnings relative to  operating cash flow.  Also, stock-based compensation typically runs $2-3M per year, which is also not a direct cash expense.  After backing out non-cash D&A and stock comp expenses, OCF has consistently come in at 14-17% of sales. Capex is typically very low, usually in the $2.5M to $3.5M per year range, such that FCF ends up being 13-16% of sales.

Company History

The company was originally founded in 1946 as Chase & Sons by Francis G. Chase and his two sons, Francis M. and Edward after they returned home from WWII.  The company’s first product was a rubber baby pant designed to be worn over cloth diapers. Expanding on its expertise in rubberized coatings, in the 1950’s Chase & Sons developed a line of insulating, binding, and bedding tapes for the wire and cable industry.  Tape products for the wire and cable industry would become the core product line for Chase & Sons for roughly the next twenty years.   

In 1972, Chase acquired a company called Royston Laboratories which made pipe coating tapes and protectants under the HumiSeal brand.  In 1973, Chase went public on the Boston Stock Exchange by way of a reverse merger with a company called Columbia Technical Corporation, with the newly public enterprise taking on the name Columbia Chase. The Columbia merger added the HumiSeal line of coatings to Chase’s business, and the combination of Royston and HumiSeal positioned Chase as a market leader in industrial tapes and coatings. 

Following the conglomerate trend prevalent in U.S. industry at the time, Chase went on a bit of a diversification binge in the late 1970s, expanding into markets such as alternative energy (solar cells), oil combustion devices, and other areas outside its core markets of protective tapes and coatings.  The company’s diversification efforts ultimately did not work out well, and resulted in a couple of unprofitable years in the 1980’s.  In 1989, Frances and Edward Chase both retired, and long-time company executive Wilfred Carter was named as the new CEO. Carter spent the next several years refocusing the business on its core product lines and divesting the solar and alternative fuel businesses.  Under Carter’s watch the company also changed its name to its current moniker, Chase Corporation.  Carter retired as CEO in 1993 to become Chairman and Peter R. Chase, the son of Edward, was named to the CEO position.  Under Peter Chase, the company continued the strategy begun by Carter to grow both organically and through small acquisitions, but with a somewhat tighter focus on its core competency of protective tapes, coatings, and chemicals.   

In 2001, Chase acquired specialty protective coatings maker Tapecoat for $5.8M, which was integrated into and extended the company’s Royston business unit. In 2003 Chase made two more acquisitions that augmented the company’s lamination capabilities for a combined $6M. Chase expanded into Europe when it acquired a Surrey, England-based company called Concoat Holdings (renamed HumiSeal Europe) for $9.3M.  Concoat had been a HumiSeal distributor in Europe for over two decades prior to the acquisition, and the deal appears to have been a low-risk way to extend Chase’s geographic reach further into Europe and the UK. In FY2008, CCF bought Long Products of East Sussex, England, a significant player in the European market with a 35-year history of manufacturing waterproofing and corrosion protection systems for oil, gas, and water pipelines.  The acquisition included a manufacturing facility in Rye, East Sussex.  

Chase’s business performed reasonably well through FY2008 (which ended in August of that year), though the GFC was already starting to impact demand in the summer of 2008.  Still, FY08 was not bad for Chase: sales were up modestly from the prior year, and both net income and FCF improved as well. CCF’s business was much more negatively impacted by the GFC in FY2009, when the company posted ~20% decline in both sales and net profit.  CCF suffered from declining demand from its two largest end markets as both the U.S. automotive sector and the housing market each suffered sharp contractions, while weakness in Europe was compounded by a strengthening dollar.  Despite the top line weakness and decline in GAAP net profits, however, CCF still generated the highest level of operating cash flow in its history in FY2009 at $16.5M, thanks in part to reductions in working capital as the company enacted measures to conserve cash. As a result of the strong cash flow, CCF paid off all corporate debt by the end of FY2009 and found itself in a good position to take advantage of acquisition opportunities in the immediate aftermath of the financial crisis.

In September 2009, CCF closed on the $18.9M acquisition of New Hampshire-based C.I.M. Industries, which manufactured high-performance coatings and membranes with a focus on the water and wastewater industries.  C.I.M.’s products in this niche were industry leaders and combined well with Chase’s existing brands. Just a couple of months later, Chase bought the ServiWrap business from the U.K. unit of W.R. Grace for $9.7M. Servi-Wrap was an established maker of anti-corrosion systems to provide protection for oil, gas, and water pipelines in projects around the world. In June 2012 CCF bought NEPTCO in what was the largest acquisition in company history at the time, with Chase paying ~$62M.  NEPTCO had been a formidable competitor to Chase’s wire and cable coatings business for over twenty years, with a particular strength in broadband communications and electronic packaging applications. Boosted by these timely acquisitions, CCF reported two terrific years in FY2012 and FY2013 as the global economy recovered, with revenue up 21% in FY2012 with organic growth and a partial year contribution from NEPTCO.  More growth was to follow in FY2013, as total revenue shot up by 45% to $216M, with NEPTCO alone contributing a massive $63M in sales that year. 

CCF enjoyed excellent years with growing sales and strong cash flow for the next several years and made two more important acquisitions in 2015 and 2017.  In January 2015, CCF purchased two specialty chemical intermediates product lines from European industrial conglomerate Henkel for $33M.  In FY2017, CCF paid $30M for Resin Designs, a formulator of customized adhesive and sealant systems used in a broad range of semiconductor packaging and microprocessor assembly uses.  Resin Designs turned out to be an excellent strategic fit as it broadened CCF’s adhesives and sealants product line and added manufacturing capability.

Thanks to its growing free cash flow, CCF exited FY2017 with net cash of over $45M, right at a time when another attractive acquisition opportunity became available. On the last day of calendar 2017, CCF acquired Zappa Stewart, a maker of superabsorbent polymer solutions for $73.4M, eclipsing NEPTCO as the company’s largest ever deal. At the time, CCF management noted that Zappa Stewart’s product lines were highly complementary to its own industrial materials segment serving the wire and cable industries, and extended CCF’s reach into growing medical and consumer applications. Over the three fiscal years 2017-2020, CCF performed very consistently, with revenue reaching a high of $284M in FY2018, and with FCF hitting a high of ~$55M in FY2020, despite negative impacts from the Chinese tariff issues and the global pandemic during that stretch.

FY2021 Recap

Chase came into FY2021 with a balance sheet flush with net cash of nearly $100M. On September 1, 2020 (the first day of CCF’s FY2021), Chase acquired ABchimie for approximately $22.2M USD with a potential multi-year earn-out that could be worth up to ~$8M in additional payments.  ABchimie is a French company that provides environmentally friendly solutions for cleaning and protecting electronic assemblies as well as offering formulation, manufacturing, and R&D services.  In February 2021, Chase bought Emerging Technologies (ETI), a provider of superabsorbent polymer solutions in the packaging, recreational, consumer, and sanitation markets, for $10M.

Chase’s business enjoyed a record year in FY2021 ending on August 31, 2021.  Total revenue for FY2021 grew by 12% to $293.3M. Gross margins company-wide increased to 40% in FY2021, up from 38% in FY2020. Pre-tax operating profits at the business unit level was $89.8M (up 22%) and after corporate costs and taxes the after-tax profit was $58.6M for a net profit margin of roughly 20%.  Net income jumped 32% for CCF in FY2021 to $44.92M, boosted by the combination of higher sales, higher gross margins, and operating leverage. Operating cash flow was $61.2M in FY2021, up 9.8% from FY2020, and Chase generated an impressive $58.8M in free cash flow. CCF ended FY2021 in the strongest financial position in its history, with nearly $119.5M in cash on hand as of August 31, 2021. In November 2021, CCF raised its annual cash dividend by 25% to $1 per share, resulting in roughly $9.5M being distributed to shareholders.

FY2022 Recap

Chase turned in a decent performance for the full FY2022 year ending August 31, 2022, despite tough macro headwinds. Revenue increased 11% to $325.6M, with all three of the business units reporting sales growth. However, gross margins declined in FY2022 to 37.7% from 40.4% in FY2021 due to cost pressures from material inflation, supply chain disruption, and higher shipping costs, which the company offset partially with price increases.  Pre-tax income of $58.6M was almost unchanged from the prior year, while after tax net income declined by less than 1% to $44.6M due to slightly higher taxes and a one-time acquisition-related expense of $4M (discussed further below).

However, CCF’s cash flow was negatively impacted in FY2022, as operating cash flow declined to $34.9M from $61.2M in FY2021 and $55.7M in FY2020. The decline was entirely due to unfavorable working capital changes, as CCF enacted a ~$22M strategic inventory build to ensure its ability to deliver product and meet an elevated backlog caused by the supply chain issues that were prevalent throughout most of the year. Structural operating cash flow (i.e., OCF ex working capital changes) was $62.5M.  Capex was roughly $4M, such that FCF was about $31M for the year, while SFCF was closer to $58.5M. CCF ended the year with a firm order backlog of $40.6M (versus $30M at the end of FY2021) so I am reasonably confident that this inventory will convert to cash flow in FY2023. Chase’s balance sheet was rock solid as of August 31, 2022, with $135M in net cash. The company paid its annual $1 per share dividend after fiscal year end, which will reduce the cash balance by roughly $9.5M.

Management and Capital Allocation

Chase remains a family-run business, with third generation CEO Adam Chase serving as the CEO since early 2015, while his father Peter remains the Chairman after having previously served as CEO from 1993 to 2015.  Insider ownership is quite high (roughly 20% of the shares outstanding) with Peter Chase owning ~8.5%, Adam Chase owning ~4.2%, and a Chase family trust owning another ~8.5%. Stock-based compensation is modest, such that share count dilution has been very minor over the years.

While family control is not always a good thing for publicly traded companies, Chase appears to benefit from its multi-generational “owner/operator” heritage. From what I can tell, the company makes decisions with care and an appropriate balance between addressing issues in the short term while also retaining a strong focus on the durability of the business for the long term. Chase’s management has a demonstrated track record of making intelligent, mostly small acquisitions, primarily using internally generated cash flow but occasionally taking on debt when larger acquisitions opportunities become available.  Debt assumed to take on larger deals is inevitably paid down quickly, such that the company’s default position historically has been to exhibit balance sheet strength. There is also little pressure on Chase execs to meet external quarterly earnings estimates or forecasts, given that there is almost no Wall Street research coverage and limited institutional investor ownership.  The company does not hold quarterly conference calls, nor does it provide financial guidance of any kind.

While CCF has been negatively impacted by weak macro conditions in years past, the company seems to weather the storms it encounters reasonably well.  More importantly, CCF’s conservative use of debt means that the company has typically found itself in a position to take advantage of macro weakness in some way – usually by making attractive acquisitions.  CCF has a great track record of identifying opportunities to acquire small competitors over the years and integrating them successfully into their business. CCF made some excellent purchases following the financial crisis from 2009-2012 and more recently appears to have found some good opportunities post-pandemic. CCF’s acquisition style also appears quite low risk in nature. Acquired companies tend to closely align with or augment CCF’s current businesses, and CCF typically looks for assets where it can leverage the acquired products, technologies, or market extensions quickly, such that cash returns on the acquisition price begin to accrue immediately after the deal closes.  CCF management also has been willing to sell parts of its business that don’t meet the company’s standards for profit margins, require too much capital, or where changing competitive dynamics or market conditions appear to make the business outlook unfavorable for the foreseeable future. Sometimes these are business operations inherited as part of acquisitions that for some reason don’t fit with CCF’s core market focus. 

From reading the historical annual reports, it is clear that a few of the company’s acquisitions over the past decade have been extremely successful to the point where they noticeably elevated CCF’s business to an entirely new and better level. But what is not as obvious but is just as impressive is the near total absence of clearly poor deals or obvious mistakes that required later accounting charges or write-downs.  It’s not accurate to say that every deal has been a home run, but there is also not a single instance I can find over the past twenty years of a material write-down.  

A core component of Chase’s operational strategy is to continually look to optimize its manufacturing efficiency and footprint over time, particularly in terms of managing the leases for facilities from acquired companies.  Sometimes the acquired facilities are kept longer term if they bring unique geographic or operational advantages; usually they are managed through to lease extension, at which point CCF moves the production lines to the most advantageous alternative location. A review through the archive of historical Chase annual reports offers ample evidence that plant consolidation and optimization efforts are just a standard part of the Chase management playbook.  Following the Zappa Stewart acquisition in December 2017, Chase was up to around 800 employees, but by October 2021 the company had leaned out the organization and was back to around 660 total employees. There seems to be little sentiment about closing older but less efficient plants: in 2012 the company closed its Randolph, MA plant and sold the real estate after having owned and operated that facility for more than 50 years.  

The result of the various ingredients noted above is a track record of continuous per-share value growth that has been in place at CCF going at least as far back as Peter Chase’s tenure as CEO from 1993 to today.  For the decade of 1993-2002, CCF grew its FCF by roughly 8X from around $1.1M to $9.7M, albeit from a very small base.  Much more impressively, CCF then grew FCF from $9.7M in 2012 to $58.8M in 2021, or another 5X. 

I decided to look at the capital allocation for the decade from FY2012 to FY2021 just to get a better sense of CCF’s track record.  The year by year and cumulative amount used for acquisitions, dividends, proceeds from asset sales, and capital expenditures is shown in the table below.

CAPITAL ALLOCATION FY2012-FY2021 

Fiscal Year                     DIVIDENDS      ACQUSITIONS       CAP-EX          PROCEEDS

2012                                $ 3,165            $ 62,575              $ 5,230            $ 1,032

2013                                $ 3,623            $      141              $ 3,043            $    189

2014                                $ 4,093            $      160              $ 4,290            $ 9,196

2015                                $ 5,477            $ 33,285              $ 2,642            $    739

2016                                $ 5,999            $   1,161              $ 2,046            $ 1,729

2017                                $ 6,532            $ 30,270              $ 3,199            $ 6,037

2018                                $ 7,497            $ 73,469              $ 3,488            $ 3,232

2019                                $ 7,522            $          0              $ 2,488            $    400

2020                                $ 7,539            $          0              $ 1,371            $ 3,615

2021                                $ 7.557            $ 31,238               $ 2,441           $        0         

TOTALS                           $ 59,004          $ 232,289            $ 30,238         $ 26,169

Cumulative OCF from FY2012-2021 was approximately $425M, and after spending $30.2M on capex, cumulative FCF has been ~$395M.  The capital received from sales of assets and divested business lines has nearly offset the capex, such that net cap-ex spending has been only about $4M over the full decade.  Total cash dividends paid out to shareholders of $59M represent about 14% of cumulative OCF for the period.

The $232M spent for acquisitions looks to be money well spent when considering the per-share profit and cash flow growth. As a result of the acquisitions with a bit of organic growth, revenue has essentially doubled from $148.9M in FY2012 to over $293M in FY2021, but more important figures are the per-share profit and cash flow comparisons.  On a per-share basis, FCF has grown from $1.10 in FY2012 to $6.24 per share in FY2021, and EPS has grown from $1.03 to $4.73.  At the same time, shares outstanding have increased by a very modest cumulative 7.4% over the decade. 

Chase’s Latest Big Acquisition

On September 1, 2022 (the first day of CCF’s fiscal 2023), Chase completed the largest acquisition in its history in the form of the $250M purchase NuCera Solutions – making it more than three times larger than the Zappa Stewart deal back in December 2017.  NuCera was described in the press release as “a recognized global leader in the production and development of highly differentiated specialty polymers and polymerization technologies serving demanding applications critical to enabling end-product functionality, performance, and reliability.”

NuCera is headquartered in The Woodlands, Texas, and operates a 160-acre manufacturing and R&D facility in Barnsdall, Oklahoma. NuCera offers more than 120 product formulations serving a variety of different product manufacturers for use in manufacturing adhesives, candles, pigment coatings, toners and inks, plastics, and personal care products. The press release also disclosed that NuCera’s trailing twelve-month revenues were $83M with adjusted EBITDA margins exceeding 25% for the period ended April 30, 2022.  Chase management stated that following the close, CCF’s balance sheet debt would still be just 1.2X pro-forma EBITDA, and that it expected the deal to be accretive to earnings within the first year of ownership.  

Chase purchased NuCera from a PE firm called SK Capital Partners, which bought the business from Baker Hughes just two years earlier in 2020.  Based on the disclosed financials for NuCera, I think that CCF is paying a full price for this business at 3X sales and 12.5X adjusted EBITDA.  Long-term, however, I like the deal because it should further diversify CCF’s business, add to the company’s long list of industry leading, high-margin specialty products, and increase CCF’s presence in markets that offer a chance for decent organic growth looking out the next five or ten years. However, the deal does reduce CCF’s financial strength in the near term - not enough to prevent CCF from maybe doing some smaller acquisitions, but enough that I would not feel comfortable seeing Chase do another sizable deal until this one has been digested.  

Valuation

Moving on to valuation, I want to avoid the temptation to overthink this one, so I will start with some simple multiples.  At the recent stock price around $90 per share, CCF has a market cap of about $855M. Prior to the NuCera deal, CCF had net cash of about $135M.  Net of the $250M acquisition price, this swings to a net debt position of about $115M when the company reports its Q1 ’23 balance sheet. That gives us an adjusted EV of $970 million. The Q4 dividend of $9.5M would obviously reduce this further, but I am confident the company will generate much more than that in cash flow in Q1 ’23, so I am going to ignore it for now for simplicity’s sake.

My best guess is that CCF will do total revenue of at least $420-425M in FY’23 inclusive of NuCera. I think that CCF’s structural operating cash flow in FY’23 should also be close to $75-80M. Chase should generate its normal $60-65M in OCF, plus maybe $15-20M from NuCera.  I expect actual OCF to be as much as $20M higher (up to maybe $90-100M) due to a reversion of the inventory build and other working capital changes that suppressed OCF by ~$25M in FY2022. Capex is typically only $3-4M per year, so FCF should come in very close to OCF. 

Based on these full year projections of $425M in sales, $80M in normalized OCF, and $75M in FCF, CCF trades at an EV/Sales multiple of about 2.3X, while EV/OCF (ex-interest expense) would be ~12X and would be ~13X FCF. There should also be a $20M extra reduction in EV by the end of FY2023 from the working capital tailwind. For those who like to utilize EV/EBITDA as a valuation metric, I would expect FY2023 EBITDA of roughly $100M for a proforma EV/EBITDA multiple of about 9.7X.  But because CCF tends to convert a very high percentage of its EBITDA to free cash flow, I prefer to use the FCF multiple as my metric of choice. 

I peg the low end of fair value at roughly $100 per share, while I would consider $120 (~16X FCF) to be the top end of my conservatively calculated valuation range. 

Compared to its own recent stock price history, today’s price seems reasonably attractive as well.  Just for perspective, the stock reached an all-time high of ~$130 in 2018, and the stock rarely traded below $100 per share going as far back as early 2017 with brief exceptions in the pandemic crash of early 2020 and the market selloff in December 2018.  The stock recovered quickly to over $100 in each instance.  I know that these past levels don’t necessarily indicate that the stock is bargain priced today – there is no reason why the market has to go back to valuing the business at well over 3X sales and 20X cash flow – but it does demonstrate that the market has recognized this company’s quality in the recent past and may well again.

Other Considerations

Chase’s financial statements are generally clean and easy to interpret.  As far as the balance sheet goes, CCF does have an accrued benefit plan liability of approximately $11M as of the end of FY2021, and CCF makes pension contributions that have averaged roughly $1.6M per year over the past several years. CCF has in the past couple of years carried about $25M of balance sheet cash in foreign currencies, of which the lion’s share is usually held in UK pounds sterling. There is a potential earn-out bonus from the AbChemie acquisition of up to $8M.

CCF does have some stock-based compensation, which has averaged roughly $2.5M in operating expense per year in recent years.  However, I consider the true expense from the company’s various non-cash compensation to be adequately reflected in the annual share count dilution figures, since CCF has not historically been inclined to repurchase stock. The dilution has averaged roughly 0.6% per year, which is probably a reasonable estimate for future dilution.

Speaking of compensation, a review of CCF’s proxy statement isn’t a heartburn-inducing activity, though CCF pays its managers well especially when company performance is strong.  CEO Adam Chase received a base salary of $575K in FY2021, with other C-suite execs generally making $250-300K. Chairman Peter Chase still receives an annual salary of $600K, though he no longer participates in the company’s equity incentive program and hasn’t since 2013, given the recognition by the board of the diminishing benefits of additional share grants given his already sizable stock ownership. Cash bonuses for other senior execs are based on annual financial targets set by the board, which in recent years has been based on an adjusted version of EBITDA.  Equity-based compensation consists of restricted stock grants and has historically been based on target performance levels using a formula weighting EPS and ROIC goals, with the latter based on a trailing 3-year period.  Non-executive board members take home about $110-125K per year, which doesn’t seem terribly excessive. There is also a designated bonus pool set aside for another 130 qualifying senior level employees based on the same EBITDA criteria noted above.

Investors also seemingly don’t need to worry much about continuity in the senior management ranks at CCF for the foreseeable future. CEO Adam Chase is 50 years old, and has already been in his current position for eight years and has worked in various management capacities at CCF for more than 20 years total. Peter Chase remains the Chairman. The newest member of the C-suite would be CFO Michael Bourque, who joined Chase in February 2021.  Interestingly but perhaps not surprisingly, CCF also has a senior manager responsible solely for mergers and acquisitions, Chris Seitter, who has served in that capacity since 2009.

I see no major issues in CCF’s financial reporting that seem worrisome. CCF FY2018’s annual report cited a material internal control weakness related to how the company applied purchase accounting rules for business combinations (i.e., acquisitions) which was quickly remediated.  As noted previously, CCF doesn’t have sell side coverage or issue financial guidance that might create incentives for aggressive accounting, so I am not worried that this is more than a one-off issue.

CCF’s business is macro sensitive, and while the product range is broad and the customer base diverse, if overall industrial activity in the U.S. were to contract meaningfully, CCF would feel it.  CCF’s exposure to China in terms of total revenue is minimal, but it does import raw materials and has a licensed manufacturing plant in China from which it receives royalties and commissions. CCF also now operates in an increasingly competitive landscape for hiring and retaining productive manufacturing workers. Given how lean CCF runs its ship, I don’t expect this to be a material issue unless inflationary pressures persist longer-term, though it is possible CCF may need to bump up compensation levels for some workers in the near term to avoid losing people. 

Readers may have noted in the section on capital allocation above that CCF hasn’t bought back stock during the entire decade covered in the capital allocation table. In a June 2022 investor deck, CCF notes only that “in view of Chase’s low float, buying back shares is not currently in our plans.”  I personally would be strongly in favor of CCF being willing to buy back shares, at least during deep market declines such as in early 2020, but at least they won’t buy back shares at excessive prices. For now, I’d prefer that CCF focus on paying down debt from the NuCera acquisition in any case.  I also don’t believe that Chase is likely to be acquired (though I think it would be an attractive M&A target for any number of larger firms) simply because I don’t think the family management would want to sell it.  This is one of the reasons that I peg the top end of conservative fair value at 16X FCF, despite my view that the company could easily fetch more in a competitive auction.  Also, it is worth noting that Chase does rely on intelligent acquisitions to fuel its future growth. While its existing business can grow at GDP plus a few percentage points and perhaps profits a little faster through pricing power and operating efficiency, it is not a business that has double digit organic growth potential over the long term.  

One final topic to consider is that CCF does have limited trading float due to the combination of a relatively small market cap and heavy insider ownership.  The insider ownership of ~20% combined with the holdings of the top largest institutional investors (another 25%) means that the freely tradeable float is much smaller than the market cap might suggest.  Recent trading has averaged about $2M per day of dollar volume, though there are some days in which multiples of that figure trade.  This is not a stock that large investors can buy in size. 

LATE NOTE: Chase reports FY2023 Q1 earnings after market close on January 5th.  I don’t have a strong view into earnings, other than to expect a quarter’s worth of the NuCera acquisition to contribute a boost to headline revenue growth.  I would be surprised to see anything positive or negative that would dramatically change my valuation estimate from the $100-120 range cited above, but I would certainly consider post-announcement share price weakness a potential buying opportunity.  

Catalyst

• Nucera acquisition will add headline revenue and cash flow growth in FY'23.
• Any improvement in investor sentiment will likely boost multiples for good industrial companies like Chase.
• Chase would benefit from any major U.S. infrastructure spending bill.