METHANEX CORP MEOH
April 28, 2011 - 10:50am EST by
dionis589
2011 2012
Price: 33.61 EPS $0.00 $0.00
Shares Out. (in M): 94 P/E 0.0x 0.0x
Market Cap (in $M): 3,110 P/FCF 0.0x 0.0x
Net Debt (in $M): 108 EBIT 0 0
TEV ($): 3,218 TEV/EBIT 0.0x 0.0x

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Description

In a quick paragraph:  Compelling s/d story where demand growing faster than supply and good margin profile given crude drives the revs and nat gas drive MEOH costs while Chinese coal prices drive the upper end of the cost curve.  Shareholder friendly mgmt team that cut share count in half from 00-08 and watched stock go from $2 to $30 while buying back shares the entire way.  They spent the last 2 years expanding capacity and are now in a position to double production over the next couple of years and deploy all excess cash flow to buybacks.  But.....the ups are most likely coming in 2012 not 11 and street numbs may need to re-set slightly lower for 2011.  Perfect situation for longer dated options but no market beyond Oct 11 so no easy solution.  Blue sky ups is a stock in the $70s 2 years out with downside at $24ish.  Now that they have addressed the Chilean volumes in the release last night, expectations re-set should be behind us paving the way for a couple years of good shareholder value creation.  Has been a few great write-ups on this name on VIC in the past so I've left out some of the detailed background information as you can refer to those write-ups for the rest of the background. 

Summary of industry dynamics:  Industrial production (plastic, paint, pharma, and autos) is 70% of their TAM.  This grows roughly at GDP type growth rates.  The remaining 30% is used in various energy forms (primarily fuel additives) and has been growing double digits largely due to China.  Blended average is ~7%/yr growth in methanol demand which equates to 3.15mt/yr of incremental capacity needed.  The only 2 supply adds in 2011 are both MEOH projects (one is Egypt and the other is Medicine Hat for a combined 1.7mt of production).  Two old assets in Beaumont, TX (the only other idle capacity in NA) and Azerbaijan are being added in 2012 and 2013 respectively for a combined 1.6mt.  Net, net demand is projected to grow faster than supply for the at least the next 3 years. 

Means the industry needs high cost capacity to operate which sets a price floor.  The cost structure is fairly steep for the upper 50% of the cost curve.  Bottom 50% (21ktpy) has a cost/t of less than $150/t.  The 70th percentile is ~$225/t (32ktpy).  The remaining 30% of capacity is comprised of higher cost capacity in Russia, Eastern Europe, and China where costs are linked to coal prices with the top decile greater than $400/t ($126/t coal *2t/ton of methanol + $50 in fixed costs = $326/t + $50-$80/t of freight to port so all in is $376 - $406/t for high cost capacity).  This compares with current prices of $450/t so market is above marginal cost at the moment but in-line with energy equivalent related to crude (historically never traded at a discount on this basis).    

Capacity adds have the potential to double production assuming they get gas supply:  They are currently ramping facilities in Egypt and Medicine Hat.  Of the 3 plants they currently own in New Zealand, 2 of them were shut down several years ago b/c of lack of gas supply.  The one they have running is an 850kt plant and hope to have a second 850kt plant operational 12 mos from now given the amount of gas exploration/production activity going on there.  The other potential adds are in Chile to the extent they could get gas supply.  All told, production would double if they were able to get all the capacity back on line. 

Balance sheet is in good shape (pre release from last night and got slightly better given cash flow during 1q11):  Current cash balance is $194m with total debt of $946.9m for net leverage on a ttm basis of 3.55x.  Of the total debt carried on the balance sheet, though, $595.9m is non recourse to MEOH as it is tied to JV'd assets in Egypt and Trinidad.  So net leverage on debt that is recourse to MEOH is a low .6x.  Targeted debt/cap is 35% which is where they currently are. 

Cash Flow profile:  Maintenance capex is $40m.  They are spending $60-70m/yr for in 2011 to JV with APA and others in gas exploration activities in Chile and will spend $30m in 2011 to restart Medicine Hat and $60m to restart the 2nd plant in New Zealand if they secure gas supplies.  So total capex over the next two years is ~$240m.  On a ttm basis, they did $115m of cf before divs and growth capex or 4% yield to the enterprise so not great but this is before the new capacity and the current price increases.  Numbs are below on the potential here.

Capital Allocation has been favorable in the past:  From 2000 to 2008, excess cash flow was predominantly used for divs and share repurchases.  In that time period the share count went from 173m shares to 92.6m today and stock went from $3 to $30 over that time period.  Over the aggregate time period, cfo was almost split perfectly at 50/50 between cash back to shareholders and capex.  And obviously pace of buybacks accelerated after periods of growth capex (similar to the last 3 yrs).  Mgmt isn't acquisitive and always say we'll grow organically or we'll give it back. 

The risks are more about productive capacity not coming on line on time:  The two big ones are getting the new capacity in Egypt ramped up and securing enough gas to operate the Chilean assets at full production rates.  With respect to Egypt, that plant (1.3mt) is being commissioned currently.  They pulled people out of the country when the initial protests began but over the course of the last 10 days have been sending folks back.  So they lost about 1 month assuming no more setbacks but plan to produce first methanol from there next week and have it running at full utilization by the end of the month. 

Chile is the other risk as they have lost a good chunk of their gas supply when Argentina cut off supplies to Chile.  From 2000-2007, there were 17 wells drilled in Chile.  In 2011, there will be 75 which is still a small number but moving in the right direction.  Currently running one of 4 plants there now and the one that is running isn't at full capacity.  A lot of work needs to be done to provide enough gas to them to get them enough gas to operate all 4 plants (probably not until 2013) but progress is being made. 

Replacement cost would imply assets are cheap:  It costs $700/t to build new greenfield capacity. They have 8mt of net capacity which on the current $3.6b ev implies $456/t of capacity or 65% of replacement capacity.  If we back out the Chilean capacity that is not operational, current ev would imply $715/t so market more or less assuming that capacity never runs again.  Market is also not giving them credit for $500m of non-recourse debt associated with the Egypt plant.  Fast forward a couple of years and assume the second plant in New Zealand has gas to operate which would add another 850kt of productive capacity for $60m.  At $700/t, would add $595m of value.  Each plant in Chile that runs is ~930kt or $650m of value on the same math.  In a best case scenario if we assume they have Chile fully running again as well as 2 out of 3 in New Zealand, would imply a $2.6b increase to the ev based on current replacement cost economics and a $3.1b lift if they were able to run all three New Zealand plants. 

Replacement Cost

 

Current

 

Current

 

Future

 

Prductive

 

Net

 

Plant

 

Capacity

 

Capacity

 

Capacity

 

Kt/yr

 

Kt/yr

 

Kt/yr

Chile

1,000

 

3,800

 

3,800

Trinidad

2,000

 

2,100

 

2,100

New Zealand

850

 

850

 

2,400

Egypt

780

 

780

 

780

Medicine Hat

500

 

500

 

500

Total (Kt)

5,130

 

8,030

 

9,580

Emethanex Construction Cost ($/t)

$700

 

$700

 

$700

Replacement Cost - Total ($, '000)

$3,591,000

 

$5,621,000

 

$6,706,000

Current EV

$3,655,000

 

$3,655,000

 

$3,655,000

% discount/(premium)

-1.8%

 

35.0%

 

45.5%

 

 

 

 

 

 

Egypt non-recourse debt

$499,706

 

$499,706

 

$499,706

Current EV less non recourse Egypt debt

$3,155,294

 

$3,655,000

 

$3,655,000

% discount/(premium)

11.9%

 

53.8%

 

83.5%

 

 

 

 

 

 

Replacement cost per share

 

 

 

 

 

Replacement Cost - Total ($, '000)

$3,591,000

 

$5,621,000

 

$6,706,000

Minus: Total Debt (less non recourse Egypt debt)

$447,235

 

$447,235

 

$447,235

Add: Cash

$193,794

 

$193,794

 

$193,794

Total

$3,337,559

 

$5,367,559

 

$6,452,559

Per Share

$35.52

 

$56.95

 

$68.68

FDSO

92.6

 

92.6

 

92.6

Current Share price

$33.61

 

$33.61

 

$33.61

% discount

5.7%

 

69.4%

 

104.3%


Valuation:  Why I think this is interesting is the combo of capital allocation policy and the disconnect between longer term numbs and forward crude prices.  The average of WTI and Brent forward curves implies a $430/t methanol price fy11 and 12 vs street assuming an average price of <$400/t.  My only hesitation on the stock is near term numbs don't have a lot of upside unless they can manage to source incremental gas in Chile which sounds unlikely at least for 2011.  I think street is baking in some volumes from here but I don't get the sense from mgmt this is all that likely.  That said, I get to $482m and $2.27 in ebitda and eps respectively without Chile vs street at $477m and $2.06 respectively for 2011 b/c street is behind on pricing and mismodeling d&a.  Valuation doesn't look incredibly appealing on ttm numbs at 11.4x ebitda and 35x eps.  On prior peak numbs, is at 3.8x ebitda and 7.1x eps.  On consensus forward numbs, 14.3x and 9.9x fy11 and 12 eps respectively and 7.6x and 5.9x fy11 and 12 ebitda respectively.  Given that bulk of fcf are going to share repurchases, co could buyback $140m of stock on the year which would reduce the share count by 5% in 2011.  In 2012, they could do another 13% in a base case and 21% in the two years combined in a bull case (assuming fwd crude prices).  Numbs are below and can get to blue sky ups of $73 vs current $30.  Risk/reward is still very good and want to get started here but with the knowledge that fy11 numbs still could come down which could give us the opportunity to make it sizeable. 

For reference, downside eps/ebitda assume pricing at marginal cost and average upside is combo of base cases and upside cases.  Ups assume they get gas to restart one additional plant in New Zealand in 2012 and buyback shares as they've done in the past.  

 

<$

 

 

Current

implied

 

Current

implied

 

2011

fwd mult

price

2012

fwd mult

price

base case ebitda

$482

6.4x

$30.15

$727

6.4x

$47.13

street ebitda

$477

   

$623

   

delta

1.1%

   

16.7%

   
             

base case eps

$2.27

14.4x

$32.69

$3.69

14.4x

$53.14

street eps

$2.06

   

$2.99

   

delta

10.2%

   

23.4%

   
             

downside ebitda (marginal cost)

$374

6.4x

$22.64

$586

4.9x

$27.83

delta

-21.6%

   

-5.9%

   
             

downside eps

$1.43

14.4x

$20.59

$2.61

9.9x

$25.84

delta

-30.6%

   

-12.7%

   
             

upside ebitda (assumes buybacks and 1 more NZ in 12)

$482

6.4x

$30.15

$869

6.4x

$68.95

delta

1.1%

   

22.8%

   
             

upside eps (assumes buybacks and 1 more NZ)

$2.34

14.4x

$33.70

$5.36

14.4x

$77.18

delta

13.6%

   

79.3%

   
             

Average downside

$24.23

         

Average upside

$52.49

         

Risk/reward

4.2x

         

Average upside on 2012 numbs

$73.07

         

 


 

 

Catalyst

 
    sort by    

    Description

    In a quick paragraph:  Compelling s/d story where demand growing faster than supply and good margin profile given crude drives the revs and nat gas drive MEOH costs while Chinese coal prices drive the upper end of the cost curve.  Shareholder friendly mgmt team that cut share count in half from 00-08 and watched stock go from $2 to $30 while buying back shares the entire way.  They spent the last 2 years expanding capacity and are now in a position to double production over the next couple of years and deploy all excess cash flow to buybacks.  But.....the ups are most likely coming in 2012 not 11 and street numbs may need to re-set slightly lower for 2011.  Perfect situation for longer dated options but no market beyond Oct 11 so no easy solution.  Blue sky ups is a stock in the $70s 2 years out with downside at $24ish.  Now that they have addressed the Chilean volumes in the release last night, expectations re-set should be behind us paving the way for a couple years of good shareholder value creation.  Has been a few great write-ups on this name on VIC in the past so I've left out some of the detailed background information as you can refer to those write-ups for the rest of the background. 

    Summary of industry dynamics:  Industrial production (plastic, paint, pharma, and autos) is 70% of their TAM.  This grows roughly at GDP type growth rates.  The remaining 30% is used in various energy forms (primarily fuel additives) and has been growing double digits largely due to China.  Blended average is ~7%/yr growth in methanol demand which equates to 3.15mt/yr of incremental capacity needed.  The only 2 supply adds in 2011 are both MEOH projects (one is Egypt and the other is Medicine Hat for a combined 1.7mt of production).  Two old assets in Beaumont, TX (the only other idle capacity in NA) and Azerbaijan are being added in 2012 and 2013 respectively for a combined 1.6mt.  Net, net demand is projected to grow faster than supply for the at least the next 3 years. 

    Means the industry needs high cost capacity to operate which sets a price floor.  The cost structure is fairly steep for the upper 50% of the cost curve.  Bottom 50% (21ktpy) has a cost/t of less than $150/t.  The 70th percentile is ~$225/t (32ktpy).  The remaining 30% of capacity is comprised of higher cost capacity in Russia, Eastern Europe, and China where costs are linked to coal prices with the top decile greater than $400/t ($126/t coal *2t/ton of methanol + $50 in fixed costs = $326/t + $50-$80/t of freight to port so all in is $376 - $406/t for high cost capacity).  This compares with current prices of $450/t so market is above marginal cost at the moment but in-line with energy equivalent related to crude (historically never traded at a discount on this basis).    

    Capacity adds have the potential to double production assuming they get gas supply:  They are currently ramping facilities in Egypt and Medicine Hat.  Of the 3 plants they currently own in New Zealand, 2 of them were shut down several years ago b/c of lack of gas supply.  The one they have running is an 850kt plant and hope to have a second 850kt plant operational 12 mos from now given the amount of gas exploration/production activity going on there.  The other potential adds are in Chile to the extent they could get gas supply.  All told, production would double if they were able to get all the capacity back on line. 

    Balance sheet is in good shape (pre release from last night and got slightly better given cash flow during 1q11):  Current cash balance is $194m with total debt of $946.9m for net leverage on a ttm basis of 3.55x.  Of the total debt carried on the balance sheet, though, $595.9m is non recourse to MEOH as it is tied to JV'd assets in Egypt and Trinidad.  So net leverage on debt that is recourse to MEOH is a low .6x.  Targeted debt/cap is 35% which is where they currently are. 

    Cash Flow profile:  Maintenance capex is $40m.  They are spending $60-70m/yr for in 2011 to JV with APA and others in gas exploration activities in Chile and will spend $30m in 2011 to restart Medicine Hat and $60m to restart the 2nd plant in New Zealand if they secure gas supplies.  So total capex over the next two years is ~$240m.  On a ttm basis, they did $115m of cf before divs and growth capex or 4% yield to the enterprise so not great but this is before the new capacity and the current price increases.  Numbs are below on the potential here.

    Capital Allocation has been favorable in the past:  From 2000 to 2008, excess cash flow was predominantly used for divs and share repurchases.  In that time period the share count went from 173m shares to 92.6m today and stock went from $3 to $30 over that time period.  Over the aggregate time period, cfo was almost split perfectly at 50/50 between cash back to shareholders and capex.  And obviously pace of buybacks accelerated after periods of growth capex (similar to the last 3 yrs).  Mgmt isn't acquisitive and always say we'll grow organically or we'll give it back. 

    The risks are more about productive capacity not coming on line on time:  The two big ones are getting the new capacity in Egypt ramped up and securing enough gas to operate the Chilean assets at full production rates.  With respect to Egypt, that plant (1.3mt) is being commissioned currently.  They pulled people out of the country when the initial protests began but over the course of the last 10 days have been sending folks back.  So they lost about 1 month assuming no more setbacks but plan to produce first methanol from there next week and have it running at full utilization by the end of the month. 

    Chile is the other risk as they have lost a good chunk of their gas supply when Argentina cut off supplies to Chile.  From 2000-2007, there were 17 wells drilled in Chile.  In 2011, there will be 75 which is still a small number but moving in the right direction.  Currently running one of 4 plants there now and the one that is running isn't at full capacity.  A lot of work needs to be done to provide enough gas to them to get them enough gas to operate all 4 plants (probably not until 2013) but progress is being made. 

    Replacement cost would imply assets are cheap:  It costs $700/t to build new greenfield capacity. They have 8mt of net capacity which on the current $3.6b ev implies $456/t of capacity or 65% of replacement capacity.  If we back out the Chilean capacity that is not operational, current ev would imply $715/t so market more or less assuming that capacity never runs again.  Market is also not giving them credit for $500m of non-recourse debt associated with the Egypt plant.  Fast forward a couple of years and assume the second plant in New Zealand has gas to operate which would add another 850kt of productive capacity for $60m.  At $700/t, would add $595m of value.  Each plant in Chile that runs is ~930kt or $650m of value on the same math.  In a best case scenario if we assume they have Chile fully running again as well as 2 out of 3 in New Zealand, would imply a $2.6b increase to the ev based on current replacement cost economics and a $3.1b lift if they were able to run all three New Zealand plants. 

    Replacement Cost

     

    Current

     

    Current

     

    Future

     

    Prductive

     

    Net

     

    Plant

     

    Capacity

     

    Capacity

     

    Capacity

     

    Kt/yr

     

    Kt/yr

     

    Kt/yr

    Chile

    1,000

     

    3,800

     

    3,800

    Trinidad

    2,000

     

    2,100

     

    2,100

    New Zealand

    850

     

    850

     

    2,400

    Egypt

    780

     

    780

     

    780

    Medicine Hat

    500

     

    500

     

    500

    Total (Kt)

    5,130

     

    8,030

     

    9,580

    Emethanex Construction Cost ($/t)

    $700

     

    $700

     

    $700

    Replacement Cost - Total ($, '000)

    $3,591,000

     

    $5,621,000

     

    $6,706,000

    Current EV

    $3,655,000

     

    $3,655,000

     

    $3,655,000

    % discount/(premium)

    -1.8%

     

    35.0%

     

    45.5%

     

     

     

     

     

     

    Egypt non-recourse debt

    $499,706

     

    $499,706

     

    $499,706

    Current EV less non recourse Egypt debt

    $3,155,294

     

    $3,655,000

     

    $3,655,000

    % discount/(premium)

    11.9%

     

    53.8%

     

    83.5%

     

     

     

     

     

     

    Replacement cost per share

     

     

     

     

     

    Replacement Cost - Total ($, '000)

    $3,591,000

     

    $5,621,000

     

    $6,706,000

    Minus: Total Debt (less non recourse Egypt debt)

    $447,235

     

    $447,235

     

    $447,235

    Add: Cash

    $193,794

     

    $193,794

     

    $193,794

    Total

    $3,337,559

     

    $5,367,559

     

    $6,452,559

    Per Share

    $35.52

     

    $56.95

     

    $68.68

    FDSO

    92.6

     

    92.6

     

    92.6

    Current Share price

    $33.61

     

    $33.61

     

    $33.61

    % discount

    5.7%

     

    69.4%

     

    104.3%


    Valuation:  Why I think this is interesting is the combo of capital allocation policy and the disconnect between longer term numbs and forward crude prices.  The average of WTI and Brent forward curves implies a $430/t methanol price fy11 and 12 vs street assuming an average price of <$400/t.  My only hesitation on the stock is near term numbs don't have a lot of upside unless they can manage to source incremental gas in Chile which sounds unlikely at least for 2011.  I think street is baking in some volumes from here but I don't get the sense from mgmt this is all that likely.  That said, I get to $482m and $2.27 in ebitda and eps respectively without Chile vs street at $477m and $2.06 respectively for 2011 b/c street is behind on pricing and mismodeling d&a.  Valuation doesn't look incredibly appealing on ttm numbs at 11.4x ebitda and 35x eps.  On prior peak numbs, is at 3.8x ebitda and 7.1x eps.  On consensus forward numbs, 14.3x and 9.9x fy11 and 12 eps respectively and 7.6x and 5.9x fy11 and 12 ebitda respectively.  Given that bulk of fcf are going to share repurchases, co could buyback $140m of stock on the year which would reduce the share count by 5% in 2011.  In 2012, they could do another 13% in a base case and 21% in the two years combined in a bull case (assuming fwd crude prices).  Numbs are below and can get to blue sky ups of $73 vs current $30.  Risk/reward is still very good and want to get started here but with the knowledge that fy11 numbs still could come down which could give us the opportunity to make it sizeable. 

    For reference, downside eps/ebitda assume pricing at marginal cost and average upside is combo of base cases and upside cases.  Ups assume they get gas to restart one additional plant in New Zealand in 2012 and buyback shares as they've done in the past.  

     

    <$

     

     

    Current

    implied

     

    Current

    implied

     

    2011

    fwd mult

    price

    2012

    fwd mult

    price

    base case ebitda

    $482

    6.4x

    $30.15

    $727

    6.4x

    $47.13

    street ebitda

    $477

       

    $623

       

    delta

    1.1%

       

    16.7%

       
                 

    base case eps

    $2.27

    14.4x

    $32.69

    $3.69

    14.4x

    $53.14

    street eps

    $2.06

       

    $2.99

       

    delta

    10.2%

       

    23.4%

       
                 

    downside ebitda (marginal cost)

    $374

    6.4x

    $22.64

    $586

    4.9x

    $27.83

    delta

    -21.6%

       

    -5.9%

       
                 

    downside eps

    $1.43

    14.4x

    $20.59

    $2.61

    9.9x

    $25.84

    delta

    -30.6%

       

    -12.7%

       
                 

    upside ebitda (assumes buybacks and 1 more NZ in 12)

    $482

    6.4x

    $30.15

    $869

    6.4x

    $68.95

    delta

    1.1%

       

    22.8%

       
                 

    upside eps (assumes buybacks and 1 more NZ)

    $2.34

    14.4x

    $33.70

    $5.36

    14.4x

    $77.18

    delta

    13.6%

       

    79.3%

       
                 

    Average downside

    $24.23

             

    Average upside

    $52.49

             

    Risk/reward

    4.2x

             

    Average upside on 2012 numbs

    $73.07

             

     


     

     

    Catalyst

     
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