Description

Wacker Chemie (As per January 6)

Price: 115,35€
Price Target: 189€

EV: 8.867m€

EV/EBITDA (2022): 2,7x
EV/EBITDA (23 Est.): 6,9x
Dividend Yield: 10%

Short Company Description:

Wacker Chemie is a German diversified chemical company with HQ in Munich and the major production site located in Burghausen, Germany. They IPO’ed in 2006 and what is important to highlight is that this company has a long track record of value accretion and shareholder returns by growing business internally and divesting/spinning them after some years. The company is strongly vertical integrated, they are partially producing the key commodity silicon metal themselves and are one of only three companies who produce it in the EMEA region (the vast majority is located in China).

They report in 4 segments, Polysilicon, Silicones, Polymers and Biosolution. Amongst those, Polysilicon is by far the most important driver of the stock (2^nd largest division but by far the biggest swing on group profit, ranging from -10% EBITDA to 50% EBITDA over the years). Polysilicon is purified silicon metal and the key feedstock for solar cells (85%) and semiconductors (15%). It is an extremely energy intense process and Wacker is the last remaining European player in this field as Chinese competition has profited from low (government-backed) electricity prices and massively ramped capacity over the last decade. As the whole solar value chain is located in China, the demand is mainly driven by the Chinese solar wafer and solar cell production.

Within the industry, Wacker has the highest cash cost per kg (they produce in Tennessee and Burghausen) but they have the reputation of delivering the purest polysilicon (which results in more efficient cells, more efficient chips). They regularly introduce new innovations to justify premium pricing vs. Chinese comp and the Chinese usually run some years behind them to copy these processes. Some years ago it was the switch from Multi to Mono Crystalline and currently it is the switch from P Type to N Type Polysilicon. Wacker claims to be the only player who can produce N Type but some Chinese peers say that they also able to produce N Type. Many Chinese solar companies have ambitious targets to switch to N Type in the next years for their products.

The past 4-5 polysilicon cycles have always worked the same: Prices went up driven by demand outgrowing supply and at one point, there was so much supply coming into the market that the prices collapsed despite the structural growing solar capacity. Pricing in polysilicon is pretty much spot even though this changed a bit over the past 2 years and Wacker will tell you that their exposure to spot prices (reported weekly on PVinsights.com) is low. The strong prices in 2021/22 have not only been driven by the strong demand for solar cells but also because solar wafer companies (who are in between polysilicon and cells in the value chain) have been building immense inventories. Also, some capacity from new, low tier Chinese players,

Prices have dropped dramatically in the past weeks due to lower shorter term Chinese activities, destocking from the wafer co’s and new capacity coming online. Bears have been arguing that this is the end of the supply driven market. Obviously comp’s are high into 2023 so they do have a valid point and it is a legitimate point that Wacker will suffer from the lower pricing.

But I am convinced that the bears are wrong and misled by the pure headline prices, this time it will be different.

• Likely energy price cap for Wacker in Germany: The vast majority of Wacker’s polysilicon comes from their Burghausen plant in Bavaria. As explained earlier, the production is very energy intense (40-60% of the input cost). The electricity comes from Wacker’s on site gas power plants. As we all know gas prices in Europe and Germany went to >250 MWh/EUR last year so this doubled the cash cost of the production. Wacker’s CEO, Dr. Hartel, has been strongly lobbying for energy price cap’s for industries which are crucial to the EU’s RENEWPOWER targets. German economic minister Habeck hasn’t ruled out to implement such measures and a (realistic) 40 MWh/EUR for Burghausen polysilicon would be a massive boost for the profitability from 40%ish EBITDA margins (current levels, where bears believe we are at the absolute peak) to roughly 60% EBITDA margins. No need to add here that such an announcement would be a massive catalyst for the stock.
• N-Type decoupling from overall Polysilicon prices: As discussed before, Chinese cell manufacturers have ambitious targets to switch their products towards N-Type cells. It is impossible to assess how much market share Wacker really owns in N-Type and to what extend the credible tier 1 competitors can supply as well but what is clear is that the new market entrants can’t. and this makes it likely that we will see a partial decoupling of N and P-Type prices, with N-Type priving to be more stable (this has been happening some years ago when Mono crystalline polysilicon was rolled out). Wacker does not produce P-Type polysilicon in large quantities.
• US sanctions on Xinjiang material: The Biden administration has been clear that the import of  Xinjiang-made products into the US is and will be restricted, there have been several cases in which US customs have been rejecting the import of Chinese solar modules due to this. Roughly 50% of the global polysilicon capacity is based in the Xinjiang region. Chinese polysilicon producers have reacted by focusing to build new capacity outside of this region but the best way for a Chinese cell manufacturer to prove to US custom that their product is “Xinjiang-free” is by using only Wacker polysilicon. Therefore, these companies have built separated production lines for the export into the west. JinkoSolar, one of the largest Chinese cell producers has even announced a long term supply agreement with Wacker. Again a reason, why there should be decoupling for Wacker from polysilicon spot prices.
• Solar Value Chain reshoring in Europe: Only few people know Wacker but at the end of the day, this company is key for the decarbonization targets in the Western world. Wacker is the only Western producer of solar grade polysilicon. Europe has ambitious plans to reshore its solar industry and Wacker would be the monopolist supplier of polysilicon to such an industry. They can easily debottleneck 20-30% of the existing capacity with little capex. This is more long-term thinking but again something which is not reflected by the share price and by the thinking of many investors. 

Implied production cost of Wacker for 1 kg polysilicon:

My assumptions are as follows: I am implementing an energy price cut to 40//MWh€ from H2 2023.

My 2023 EBITDA estimate for Polysilicon is 861m€ which is significantly above sell-side broker consensus which is around 350m€.

I want to add that even on an average energy price of 150€/MWh I would assume 475m€ EBIDTDA in 2023.

The other segments:

The debate is mainly about Polysilicon but the other three segments are obviously also noteworthy:

Silicones: Uses the same feedstock (silicon metals) and add Methanol to it. It is a best-in-class chemical business in my view, very stable margins (for a Chemical company) over the past years and good growth drivers. The products are mainly used in construction (facades, specialty cement), wind turbines, batteries and in the health care space. In this segment they are the global #2 behind Dow Dupont. The business will achieve roughly a 26% EBITDA margin in 2022 and it is clear that they won’t achieve this next year as we already saw decelerating volumes in H2 driven by the Chinese construction market. I am expecting margins to drop to 17% in 2023 (527m€ from 900m€ in 2022) and this is quite severe but I see more upside risk to this number if Chinese construction is bottoming out. The weakening drivers have been in place for 2 quarters and are well known and priced in. guidance from company will be important. Longer term, Wacker is guiding for a 5% top line growth. A lot of this structural growth is coming from the increased penetration of BEV vehicles where silicones have a 4x higher content vs. ICE vehicles.

Polymers: Polymers origin is more in the Ethylene/monomer raw materials. It has an even larger construction exposure compared to silicones (goes more into adhesives and especially renovation and refurbishment) and there are now feedstock synergies to the other divisions. I am expecting a quarter-to-quarter recovery from 2^nd half 2023 driven by China. Margins are accretive for the group, mainly due to the strong market position. I also expect falling margins here (not as strong as in Silicones) from 16% to

Biosolutions: Biosolutions is by far the smallest division but the newest example of Wacker growing a completely new division out of their R&D which they can sell/spin/etc. after some years. It is a very diverse division spreading from biochemicals (silane based) to pharma contract manufacturing. They target 1bn€ sales by 2030 (from 300m€ today) and >25% EBITDA. Basically, it’s a mini-Lonza (for the ones who know it).

Siltronic: Siltronic is one of the largest semi wafer manufacturers globally. It was spun off from Wacker in 2016 and they still own a 31% stake. Wacker is keen to sell the stake and they were already set to dispose their stake to GlobalWafers in their attempt to delist Siltronic but the German authorities blocked the deal in early 2022. A new takeover offer would be incrementally positive for Wacker but the list of natural buyers of this asset is very short as the German government already ruled out a sale to a non-European acquirer would be authorized.

Valuation:

I am valuing Wacker Chemie with a SOTP model, using EV/EBITDA multiples on my 2023 estimates.

I value Silicones and Polymers at 6-7x which is in-line with the European Diversified Chemical peer group. You could argue for higher multiples here as these businesses have better margins over the cycle compared to the peers but this is not a re-rating story hence, I did not take this into account.

I have seen some people valuing Polysilicon at 2x or 3x EV/EBITDA due to its high historical volatility which is far off from its value in my view given its strong long-term chances that I discussed earlier. Also, people mainly buy Wacker because of polysilicon, this needs to be reflected.

Biosolutions is valued at a 35% discount to Lonza.

Siltronic is valued at market price.

Hence, I arrive at my 189€ price target which leaves significant upside to the current market price. Also, I want to add that this is definitely not a consensus buy so there will be a number of upgrades if my thesis proves right.

Note: An average energy price of 150€/MWh would reduce the target price in the model to 142€.

Catalyst

Catalysts:

• Implementation of an energy price cap for Wacker’s Polysilicon activities in Burghausen by the German government
• Additional long-term off-take agreements with Chinese solar cell manufacturers, which would replace spot price risk
• Quarterly beat on strong polysilicon pricing and margin, would trigger a steady turnaround in market beliefs that Wacker’s earnings in Polysilicon are solely driven by the spot prices
• Stronger organic growth and margin expansion in Biosolutions to deliver on long-term growth targets
• Possibility to dispose the Siltronic stake
• Unfortunately, the Wednesdays printings of polysilicon prices on PVinsights is somewhat relevant and shareprice moving

Risks:

• Faster adoption of Chinese players to N-Type polysilicon
• No implementation of an energy price cap for Wacker, seasonal rising gas prices in H2 (pressured by weak supply to Europe) would have a material downside impact on my polysilicon expectations.
• Operational issues such as technical suspensions of production
• Announcement of transformational M&A
• Management change