Description

Chemours is a diversified chemicals company. Given that the company was recently written up in March, but the stock has come in since then, I thought I’d write it up again. I’ll keep my thoughts higher level and try to share different information / perspectives. 

Chemours offers 400% to 500% upside for investors over the next 2-3 years. You are buying the low-cost manufacturer of titanium dioxide at a trough multiple on trough / near-trough earnings. Guidance is $2.37 - $3.08 of EPS. Stock is $14.50 today. There may be some noise / choppiness in the near-term, but looking through the noise and volatile quarterly results, there is a lot of upside over the medium and longer term. 

Key Issues

Today, Chemours stock faces four main issues:

1. Macroeconomic weakness / global slowdown has caused de-stocking by Chemours’ customers

2. This has been exacerbated because at the same time, Chemours made a decision to move to value stabilization contracts for titanium dioxide (customers pay fixed prices for titanium dioxide and in return they hold less inventory). Because of this, Chemours felt the brunt of the decline in industry-wide production volumes.

3. In the fluoroproducts segment, illegal importing of f-gas has diminished Opteon sales   

4. PFAS liabilities (see PFAS section below)

As a typical manufacturing business, there is tremendous operating leverage, so this caused earnings to swing from $5.45 to the mid-$2’s this year. 

Our Perspective

1. There isn’t much new capacity of chloride-based titanium dioxide. Even though global growth is slowing, demand over the next couple years will still increase and Chemours is the only player in the market with excess titanium dioxide capacity.

2. The f-gas issue will affect the company in the near term, but it doesn’t really have a huge impact on CC’s valuation. They’ll do about $600mm in EBITDA in this segment, it shouldn’t fluctuate that much, maybe $50-100mm here or there doesn’t really change the thesis. The much larger impact will be in TiO2 which swings from $600mm to upwards of $1bn+

3. The PFAS risk is being over-dramaticized (see PFAS section)

It’ll probably take the company another 6-12 months to work through the rest of their issues, but after that, the operating leverage in this business should kick in and it’s easy to see EPS come back to the $4-5 range, which we believe is mid-cycle earnings. 15x mid-cycle earnings is about $60-$75 stock.

Brief Company Overview

Chemours operates in three segments: titanium technologies, fluoroproducts, and chemical solutions. 

Fluoroproducts ($600mm of EBITDA): The segment creates products that have unique properties, such as high temperature resistance, high chemical resistance, and unique di-electric properties, for applications across a broad array of industries and applications. Products include refrigerants and industrial fluoropolymer resins and derivatives.

Chemical Solutions ($60mm of EBITDA): manufactures products that are used as important raw materials and catalysts for a diverse group of industries including, among others, gold production, oil and gas, water treatment, electronics, and automotive. 

Titanium Dioxide ($500mm - $1.1bn of EBITDA)

The company manufactures chloride-based TiO2 (a higher quality product than sulfate-based TiO2)

End Markets

60% is used in paints (auto, housing - new construction and remodelling, etc.)

27% for plastics

13% for paper 

The industry is composed of 5 main players who account for ~60% of the total market (both sulfate-based and chloride-based TiO2):

Worldwide Capacity: 

PFAS Liabilities

There’s a lot of drama related to the PFAS environmental liabilities Chemours faces. This caused the stock to fall by ~$15 per share- from ~$40 to $25. Once people start to recognize the reality of the situation, we believe the stock could regain the $15 it lost and double from today’s price of $14.50.

At a high level, PFAS is a group of man-made chemicals. There has been some scientific linkage between PFAS and health diseases including cancer and thyroid problems.  There are three relevant types of PFAS compounds affecting Chemours:

In the U.S., Chemours manufactured PFOA in only 2 sites and used PFOA only as a processing aid, meaning it was used as an input / raw material to manufacture other compounds and products. GenX was only manufactured in 1 site.  

The liabilities that 3M and Chemours face are different and cannot be compared. Chemours is primarily liable for dumping PFOA and GenX into the water for disposal. 3M is liable for commercially selling PFOS in fire-fighting foam around the country. The majority of cases regarding PFAS liabilities are related to the releasing fire fighting foam, and thus PFAS, into the atmosphere, which Chemours is not responsible for since, they mainly used it as a processing aid:

Of the 3 sites where Chemours manufactured PFOA / GenX, two of the three sites (Washington Works and Fayetteville, NC) are basically resolved. Chemours has accrued $22mm for remediation work in the remaining Chambers Works site:

The potential for personal injury cases in the Chambers Works and Fayetteville sites are extremely low. Unlike the Washington Works plant, where there were 80K residents living nearby (and 3,500 cases), the population of Deepwater, New Jersey has less than 1,000 people. Secondly, in Deepwater, NJ, the water where PFOA was dumped was contained within the site: “In response to identified groundwater contamination, a groundwater interceptor well system (“IWS”) was installed in 1970, which was designed to contain contaminated groundwater and restrict off-site migration”. So the likelihood of a large lawsuit similar to Washington Works is low.

In Fayetteville, Chemours manufactured GenX (not PFOA) between 2009 and 2014, so only for about 5 years. Additionally, a blood study of individuals in the area showed that GenX does not stay in the blood very long (probably doesn’t show up in people’s blood in 2019), unlike other PFAS compounds:

https://chhe.research.ncsu.edu/wordpress/wp-content/uploads/2019/01/blood-letter-single-sample.pdf

Chemours gets bundled into all of 3M’s fire-fighting foam litigation. But the reality is, they’re mainly responsible for potential lawsuits near these three sites, and the probability of another large settlement is quite low. Chemours is mostly responsible for remediation work on these sites, which are costs that already flow through the income statement and are incorporated in the earnings multiple. 

Notably, you can see that management has not really taken up any of their reserves for litigation or remediation expenses:

Catalyst

- Recognition PFAS liability risk is overdone

- Earnings