GTLS - Chart Industries: Stuck In A Tough Place

2023-03-22 12:57:03 ET

Summary

• Chart Industries, Inc. is a well-positioned player for the energy transition.
• The company announced a huge deal in November, raising real eyebrows amidst a lot of leverage being taken on.
• With energy prices tumbling since the Howden deal announcement and financing markets becoming tighter, I am very cautious here about Chart Industries, Inc.

When Chart Industries, Inc. ( GTLS ) announced a multi-billion deal which raised some questions in November, I believed that shares had seen an overreaction, although I voiced some concerns on the deal as well. In the couple of months ever since, shares have been trading stagnant as the operating environment of the business has deteriorated a bit.

A Recap

Chart Industries is a play on the energy transition, notably LNG. The company has long made significant investments to build up its position in this area, which took quite a long time to materialize in the actual sales and earnings results.

With the business relying on lumpy orders, the company has seen volatile sales and earnings numbers. Already a >$1 billion business a decade ago, revenues fell below the billion mark in the 2016-2017 period after which sales gradually recovered to just above the billion mark.

Early in 2022, the company posted its 2021 results which showed that full year revenues rose from $1.18 billion to $1.32 billion, as the fourth quarter numbers trended at a run rate of one and a half billion dollars. Operating profits only came in at $88 million, as GAAP net earnings of $59 million worked down to $1.44 per share on a diluted basis. Amidst some charges taken, adjusted earnings rose from $2.37 per share in 2020 to $2.84 per share in 2021.

The company provided an upbeat guidance, with sales seen up to $1.70-$1.85 billion for 2022, even excluding big LNG orders, with adjusted earnings seen between $5.25 and $6.50 per share. The $100 pre-pandemic stock rallied to the $200 mark late in 2021 as energy prices were spiking already ahead of the war between Russia and Ukraine.

Throughout 2022, shares rallied towards the $240 mark as the company showed solid growth in the first three quarters of the year, even as the company had trimmed the full year 2022 sales outlook to $1.67 billion by the end of the third quarter, with adjusted earnings now seen at $5.12 per share. Part of the optimism in the stock, despite the lower 2022 outlook, was driven by the 2023 outlook which called for sales of $2.15 billion and earnings of around $8 per share.

The 36 million shares traded at $240 at the peak in November, awarding the company an $8.6 billion equity valuation, excluding a net debt load of around half a billion. The resulting 5 times sales multiple and 30 times forward earnings multiple was quite demanding, even amidst rosy prospects.

A Huge Deal

Following the peak in November, Chart announced a $4.4 billion deal to acquire Howden, a mission-critical air and gas handling products provider. Its lineup includes blowers, fans, heaters, and steam turbines, with three quarters of the deal paid for in debt and the remainder in preferred stock. The company is set to add $1.8 billion in sales and $340 million in EBITDA. The resulting 2.5 times sales multiple and 13 times EBITDA multiple comes at a discount compared to its own valuation, with synergies seen at a huge $175 million number as well in year one, even expected to increase to a quarter of a billion in the third year.

Pro forma net debt of $3.8 billion is huge, equal to 4.25 times EBITDA. This was a bit concerning, as the company has seen strong demand amidst the energy crisis, although that energy prices were slipping already at the time amidst concerns about an economic slowdown. Investors did not like the deal at all, as shares fell from $240 to $140 overnight, cutting $100 per share, or $3.6 billion in value in response to the deal, almost equal to the announced price tag!

I was not impressed with the deal, but at the same time recognized that the reaction of investors might be an overreaction, fearing "diworsification," leverage and a bad track record with regard to dealmaking. Despite all this, I initiated a small speculative position at the time.

Stuck

In the aftermath of the deal announcement, I entered a position at $135 hoping the stock would rebound, but operating conditions for Chart have deteriorated ever since. Concerns on the economic conditions meant that energy prices have fallen substantially ever since, while interest rates moved higher and financing markets have become tighter, both hurting the prospects for Chart.

Since November shares have traded in a $110-$150 range, now trading towards the middle of the range. In December, the company priced the offering of 5.9 million shares at $118 per share, as well as the offering of depository shares in order to raise about a billion in (combined) proceeds from the sale.

In February, the company posted its full year results with revenues reported at $1.61 billion as adjusted earnings rose from $2.84 per share to $4.69 per share. Cash and restricted cash holdings rose to $2.6 billion following the equity raise and loan issued, as the company has built up a net cash position of $0.6 billion. This still results in a $3.8 billion net debt load following the deal.

Including the Howden deal, the company sees pro forma sales of $4.25 billion in 2023 and about a billion in EBITDA, as achievements like this should rapidly reduce leverage below 4 times, in fact the company sees a pro forma leverage ratio in the high 2 times. Momentum and confidence is supported by a $2.8 billion order intake reported in 2022 for the standalone business, resulting in a very high book-to-bill ratio in excess of 1.6 times as the backlog doubled to more than $2.3 billion.

Following a swift approval process, the company closed on the deal in mid-March, re-confirming the $175 million cost synergies target as well as $150 million in commercial synergies in the first twelve months of its ownership. This is comforting as the company has something real to prove upon, in terms of execution and realization of synergies, needed to keep leverage in check and deliver on the progress being promised, especially in a toughening operating environment here.

Some small divestments of business lines might help, but this is not a very opportune time to sell energy assets here.

And Now?

Truth is that I have been a bit too early to pick the bottom for Chart Industries, Inc. after the company locked in some dilution following a cheap equity issuance in December, as the softer energy price developments and poor financing market conditions are both not helpful either. Given this, I am tempted to sell out of my Chart Industries, Inc. position on rips, as the use of leverage is a bit too aggressive for me in this environment.

While the Chart Industries, Inc. business is still greatly positioned for the long term, the Howden deal is simply a bit too aggressive, certainly in a more uncertain environment, making me cautious and a willing seller on moves higher.

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