Description

Summary:

Huntsman is a cheap stock that Mr. Market is  offering to any and all takers at 5x EBITDA, 6x EBIT, 5.4x EPS and 5-6x FCF.  Mr. Market was happier about the company in August.  Back then, he thought HUN was worth $32 per share, but today, he'd like to sell stock at $18 and change.  In November, the company reiterated their guidance of 1.6bn EBITDA in 2020 and the CEO made positive comments and bought stock personally, but Mr. Market doesn't care. HUN has a large buyback, large insider ownership, and lower than historical leverage. It is priced in-line with commodity companies but a substantial portion of revenue is differentiated and margins are more stable than commodity chemical companies.  HUN is a demonstrably well-managed chemical company. We think Mr. Market is wrong and that HUN is worth ~$27+ (45%+ upside) at 6x 2019 EBITDA and 8x 2019 EBIT.

Huntsman Corporation is among the largest global producers of commodity and differentiated chemicals. Revenues and EBITDA in 2017 totaled $8.4 billion and $1.259 billion, respectively. Huntsman is a major producer of propylene oxide, ethylene glycol, MTBE, and other commodity products. It is also a leading global manufacturer of polyurethanes, surfactants, epoxy resins, and a broad range of performance products.  80-85% of revenue is differentiated and 90-95% of EBITDA is differentiated from commodity products.  Approximately 75% of HUN's revenue has >15% EBITDA Margins. They have >10% CAGR in Downstream (differentiated) EBITDA from 2015-2017. They expect to grow ~2x GDP. The company was founded in 1971 by Jon Huntsman.  Jon's son Peter Huntsman has been CEO since 2000.

Details:

HUN's business is significantly better and less cyclical currently than it was in the last recession:  ~90-95% of EBITDA (~80-85% of revenue) is from differentiated (downstream) businesses and only ~5-10% of EBITDA (15-20% of revenue) is from cyclical and more commoditized businesses.  [In comparison, this portion of the business 50-60% of the overall business 5 years ago.] 

Listen to what the CEO said at the investor day earlier this year:  "There's a differentiated part of our business and a component part of our business. The Street tends to focus on the components because that is the information (commodity pricing) which is readily available. But the real secret of this business in differentiated and it's a continuum depending on the degree of technicality and complexity that you're providing to the customer. Automotive, furniture, adhesives, coatings, particularly elastomers and TPU are the most complex parts of our business kind of the highest margins, typically 30%. 75% of our (Polyerethane) business is differentiated. And that spans all the way through to insulation and appliances. When we met you 2 years ago, it was 70%. And when we meet in 2 years again, it will be 80%. We're going downstream at a rate of around about 5% every 2 years. Component business is not just a commodity business. There's a high degree of specialization in components as well. Adhesives that go into composite wood products for the timber-frame buildings. Synthetic leather that comes out of China, that's some of the highest-priced business in the world. Even though it's a component, it's not a fungible product that requires cryogenically freezing to transport it, and so our service and customer relationships, we can also derive good value from the components. But our focus is on the left-hand side of that chart, differentiated, that's where Huntsman is putting a significant focus and effort going forward."  (May 2018)

In 2009 EBITDA was down 40% from 2007 and 2009 Revenue down 30%. Today, management believes that if recession hits they would experience ~half the % EBITDA decline as last time:  ~20% instead of 40%.  On 11/27/18, the CEO said the following "So I would never want to leave you with the impression that if we get into a recession or something of that nature, that that's not going to affect the downstream differentiated end of the business. What we're seeing right now in the differentiated end of the business is we're not seeing a diminishment of the margins as much as we're seeing a diminishment of the tonnage. And so when you see less profitability there, it's really the supply and demand side, it's not that we're out there battling, having to lower prices and getting in price wars with the competition, that's one of the thing why I like that downstream differentiation. Some of the things that Covestro said earlier about the intense, I'm quoting you, not them, because I didn't hear them, but the intense competition or something of that nature, and Covestro is a fine company. I've got nothing ill to say about them. But I would imagine that we probably compete with 25% -- 20%, 25% of their portfolio. They're in the polycarbonates, they're in the TDI, a number of other products that we just don't compete in. I have not seen what they characterized as market conditions. I have not seen that in our MDI business. Have I seen typical fourth quarter seasonality? We talked about that on our third quarter conference call. I've seen a little bit more of de-inventorying taking place since then, but people going out and just getting in massive price wars or whatever, I have not seen that. And so I can't comment on what they've said or haven't said...I think that we have an opportunity in the third quarter, fourth quarter, first and second quarter of next year, perhaps to differentiate ourselves a little bit from some of our PU competitors in showing margin stability and a little bit firmer margins because of that downstream."

Here's their guidance from their November 29 call: "As I just got through mentioning, we see by 2020 that EBITDA for the company of about $1.6 billion. We'll finish very close to $1.5 billion this year.   I would also just want to reaffirm in the fourth quarter -- excuse me, the third quarter we said that we would finish the year at a 40% free cash flow to EBITDA ratio. We continue to stand by that projection going forward. And we've given the forecast in the past that it would be somewhere between $550 million and $625 million on a free cash flow basis and a 40% number would be right around $600 million. And I would say that we should be very close to that number. So on the upper side of that range, we've given a $550 million to $625 million."

Recent Insider Buying/Stock Repurchase Plan:

Starting 11/29/18, the CEO, CFO & EVP have all bought stock recently.

There is a "bigly" share repurchase in place for $825M or 18% of market cap. The Board approved a $450M repurchase in Feb 2018 (from $50M remaining at the time). Then they increased the buyback to $1B in May 2018.  During the 9M ended September 30, 2018, they repurchased 5.9M shares for $175M ($29.70/share). There is $825M remaining as of 9/30/2018. 

In May 2018 at the Investor Day, the CEO said the following:  "If we see ourselves getting into another recession, we see ourselves getting into some stormy waters with a macro economic climate, I think that we're going to be guarded with the capital that we have. I think that we've got -- we want to make sure that -- as we look at our peers, in that basket of multiples with our peers, if we get disproportionately below that basket of peers, we'll see that as a buying opportunity." On November 27, 2018, the CEO said something far more impactful:  "Look, there is always plenty to buy out there. What's tough to buy is when you're looking at something that's 7, 8, 9x EBITDA. And I look at where our stock is today, it's a no brainer as to where you put your money. I'm not huge fan of share buybacks. Personally, I like buying businesses and combining and putting it together. But I can't see a better value right now in the industry than our own stock. It doesn't take much convincing at these levels. So we'll continue to -- if we see something that comes along that's an incredible opportunity, no brainer, I think we've got the flexibility and the dry powder to be able to do that, but share buyback is going to continue to be a priority as well." 

Deleveraging:

The company has deleveraged over the past few years.  Over $2.6 billion debt has been repaid since YE 2015 (from $4.5B to 1.9B). This was achieved via  $900 million from free cash flow and other, and  $1.7 billion from VNTR proceeds (IPO proceeds and payment to parent from debt raise).  HUN could add over $1B of debt for repurchases/acquisitions, etc. and still be <2.0x leveraged.

Notes on Venator:

HUN retained a significant stake in their old TiO2 business (Venator) that they IPO'd at $20 in August 2017. This was the most cyclical part of the business.  They owned 53% (54.5M shares) of Venator at 9/30/2018. They sold 4.334M shares on 12/3/2018 at a price to be determined based on the average of the daily volume weighted average price of the Ordinary Shares over an agreed period. The Transaction allows Huntsman to deconsolidate Venator Materials PLC.  The purpose of this was to get below 50% ownership so don't have to re-consolidate (as is in discontinued operations); they likely won't sell additional shares at the current low price.  After the sales HUN will hold 50.2M shares. Their remaining stake is worth $225M at $4.00/share.  VNTR has declined much more than other TiO2 stocks due to company-issues with main facility which now closing. Likely it is worth substantially more than current price on reproduction value (though the next couple of years will be weak as high capex from closing the facility and moving production to other facilities) so it's worth noting that HUN could possibly sell the stake at a significantly higher price (this is a possible upside catalyst).  Of course there is an overhang on VNTR stock while they continue to hold ~50%. 

Notes on Pension: $788M of Pension & Postretirement Obligations on BS at 9/30.  Another $53M of Environmental and plant closing reserves. HUN made contributions of $103M in 2017; expect to contribute $96M in 2018, 174M over 2019/2020, and $176M over 2021/2022.  The pension impact isn't laid out well in Cash Flow Statement, but they do have a walk from Adj EBITDA to FCF which subtracts pension cost.  Expected Return is 7.55% on US and 5.7% on Non-US.

Risks:

a) Recession:  In 2009 EBITDA fell by 40% from 2007.  Company believes they would experience ~half that dropoff in another recession due to improved quality and diversity of business.  Multiples would likely go down.  67% of revenue is Ex-US.

b) Oil-Based Destocking:  On 11/27/18 at a conference they warned of destocking from a drop in oil prices.  Likely to pressure results for a couple quarters.  "At the time of our conference call, our price of crude oil, the principal raw material of all that our industry runs on, with the exception of North American NGLs, is around $75 to $77 per barrel. Today it's around $50 WTI per barrel. So a drop-off of about 33%. We put into place some very strict guidelines around what we're purchasing. We stopped virtually all of our benzene buying that we were not committed to. And we are reducing our inventories so that we can take advantage of a cheaper energy environment. Our customers are doing likewise. I do not see a collapse of demand in the market due to economic conditions globally. Do I see uncertainty around trade talks and trade negotiations and so forth, particularly in China, particularly in Asia? Yes, I do, but I don't see that any different than what I saw that a month or 2 ago. So as we look at our fourth quarter numbers and the projections that we've given in the fourth quarter, we're still poised to look at finishing a record year, a very strong fourth quarter. And I believe that as we look at that the de-inventorying of effect that is taking place within the industry, again, that could have an impact on our fourth quarter number, somewhere between $5 million or $10 million."

c)  Raw Material Inflation:  Component (commodity) MDI (Polyurethane) expected to continue to weaken in Q4 and early 2019. 

Catalyst

Catalysts:

a) Execute on large share repurchase 

b) Buyout/M&A:  HUN Attempted a merger with Clariant (similar market cap as Huntsman; Peter Huntsman was going to be CEO and Clariant CEO the Chairman) in 2017 which was later abandoned (mutually due to accumulation of Clariant shares by activist opposed to merger).  There were some rumors earlier in the year of possible combination with LyondellBasell ($32B market cap currently so 7x larger than Huntsman), but I think it's unlikely Huntsman would sell itself and likely would only do merger if Peter Huntsman remained CEO.

c) Continued execution with earnings & margins proving to be fairly stable due to differentiated products and not falling off significantly like Covestro (commodity comparable) is expected

d) Possible sale of their 50% stake in VNTR at above current market value (was IPO'd at $20/share last year; now $4.00)

e) Debt upgraded to investment grade.

f) Mr. Market decides he's not depressed after all.