Description

Though it has a long and rich history as a conglomerate, FMC Corp., in its current form, is very much a new company. On December 31, 2001, FMC spun off to shareholders its 83% interest in FMC Technologies ("FTI"), primarily an energy services company with assets also in the Transportation and Food Equipment markets. What's left of the old FMC is a pure play diversified chemicals company, with strong share in most of its markets. FMC has three operating segments: 1.) Industrial Chemicals (42% of 2001 sales), which manufactures phosphates, hydrogen peroxide, and soda ash; 2.) Specialty Chemicals (24%), which makes biopolymers and lithium products; and 3.) Agricultural Products (34%), a producer of insecticides and herbicides. FMC holds the number one or two position in many of its products (e.g., soda ash, hydrogen peroxide, phosphorous, lithium) and is estimated to be the eighth largest worldwide producer of insecticides.

At only 10.5x 2002 estimated EPS, FMC is trading at a steep discount to virtually all chemical companies, most of which are valued at 15x-30x 2002e EPS (22x on average). On a TEV/EBITDA basis, the company is trading at about 6x (7.25x netting out maintenance cap ex), versus an average of 8x for the group. I feel the valuation gap will dissipate as sell-side chemical analysts assume coverage (they had traditionally avoided the name because of its former exposure to FTI's businesses) and investors become familiar with the company's high quality assets, dominant market share, and strong free cash flow generating ability. Though it will certainly be a beneficiary of an eventual economic rebound, at least half of FMC's sales are driven by markets with only moderate or no economic sensitivity (e.g., agricultural chemicals as well as lithium sold to pharmaceutical companies). In addition, I believe most of FMC's industrial end-markets are at or near a bottom. While most of its competitors are currently being afforded high multiples on trough earnings, FMC is getting a depressed multiple on earnings that aren't nearly as cyclical as for many of its peers. While EPS is only expected to tick up moderately in 2002 ($3.25 vs. $3.10), I feel that as the economy gains strength in 2003, the company can once again approach recent earnings levels ($4.82 in 2000, and not viewed as a "peak" year). The combination of earnings reaccelerating and increasing analyst attention should push the stock to the $45-$50 level (only about 14x-15x trough earnings and about 10x 2000's EPS).

The company recently reported its 4Q01 earnings, which were pretty solid considering the tough operating environment ($0.75, down from $0.84 in 4Q00 but a nice sequential uptick from the third quarter's $0.57). For 2001, FMC earned $3.10, a 36% decline from 2000's $4.82, but not as severe a drop-off as for most chemical companies, including many considered pure specialty chemical producers (e.g., Rohm and Haas, Crompton, Ferro, and Great Lakes to name just a few). While operating earnings fell 5% and 17% in the Spec Chem and Ag businesses, respectively, the main culprit in 2001 was a 37% decline in Industrial Chemicals. Though a better economy is needed to fully turn this business, the company has taken some steps to shore it up in 2002. FMC has a 50/50 JV with Solutia called Astaris, which encompasses the company's phosphorous business and which is included in Industrial. The JV has recently shut down its Pocatello facility, which was high cost and which had ongoing heavy associated environmental spending, and has instead replaced the production with a new lower cost facility. In addition, during the next year the company will benefit (as it did in 2001) from having sold at very favorable prices much of Pocatello's electric power needs back to the Idaho Power Company, with whom it entered into a two year contract in early 2001. Other positive factors influencing the Industrial business in 2002 will be a recent $5/ton price increase in the soda ash industry, where some production shutdowns have tightened capacity utilization above 90%; a 2.5% price increase across all of Astaris' product lines; a lack of startup costs at the new phosphorous facility as well as a lack of environmental consent decree spending at Pocatello.

The company has taken other measures to get its house in order during the current period of restrained demand. A restructuring of the Ag business was recently implemented and FMC will now be focusing its R&D efforts on insecticides, where it has a much stronger position, and less on herbicides; FMC will also cut its foreign staff, reducing SG&A. The combined efforts will cut costs (beginning in the second quarter) at an annual rate of $20mm (about $0.45/share). This will help offset the runoff of an Ag contract with Dupont for a product called sulfentrazone. Dupont had been the exclusive distributor and under the terms of the contract had minimum sales targets, below which Dupont was required to make large payments to FMC. This agreement being terminated in 2001, there will likely be a related shortfall in Ag profits in 2002, but the cost savings from the restructuring should more than make up for it.

As of year-end, FMC was carrying about $900mm in net debt, or 2.8x the approximate $320mm it generated in 2001 EBITDA. The debt level should rise somewhat in the first half, as the Ag business seasonally builds up working capital leading into the spring and summer months, and then generates free cash thereafter. FMC as a whole will generate a healthy amount of FCF in 2002 - about $80mm by my estimate ($2.50/share) - which will be used to lower debt most likely in the second half (stock repurchases are unlikely). The sale of some undeveloped land FMC has in Silicon Valley will also help lower debt later in the year, and selected asset sales in any of the three business lines are also a distinct possibility. Having just spun FTI in a tax-free manner, an outright sale of FMC is unlikely before the two-year waiting period expires.

With 32mm shares outstanding and a float of nearly that much, trading liquidity has been strong since the spin-off, averaging about 600k shares/day. Nonetheless, the market cap is still only about $1.1bb, and FMC does not pay a dividend, so some of the larger and income-oriented funds won't be involved. But at less than 11x 2002e EPS, it should appeal to many of the small and midcap cap value funds. These days I'm hard pressed to find another chemical company south of 15x without some hair on it, so to me FMC represents excellent value and should be bought in the mid-$30s.

Catalyst

With its spin-off complete, increasing sell-side analyst coverage and the reacceleration of earnings coming out of the recession should get the stock going to the $45-$50 range.