EMN - Eastman Chemical: Structural Disappointments

2023-11-22 08:00:00 ET

Summary

• Eastman Chemical has experienced a decade of stagnation and disappointing performance.
• The company's recent divestment and tough 2023 raise concerns about its future prospects.
• Despite a low earnings multiple and decent dividend yield, investors should be cautious due to the lack of consistent growth.

Almost a decade ago I last covered Eastman Chemical (EMN) as the company acquired specialty chemical business Taminco in a $2.8 billion deal which looked quite interesting. With Eastman operating on the acquisitive front at the time, what followed was a decade long period of stagnation, which has been an utter disappointment.

Following a very tough 2023 so far and a recent divestment, there is not much to be excited about other than a modest earnings multiple and decent dividend yield, as investors should not automatically be lured by low earnings multiples here.

A Recap

With the deal for Taminco, Eastman Chemical aimed to grow its positioning into niche markets which were set to benefit from long term megatrends, adding $1.4 billion in annual revenues from Taminco. The specialty element of the business was evident in its margins, with EBITDA seen near $300 million, and that was ahead of some anticipated synergies after the integration.

The deal would grow Eastman´s pro forma sales from $9.4 billion to $10.8 billion, with pro forma EBITDA seen around $2.6 billion, needed as pro forma net debt would increase to $7.4 billion. The 151 million shares of Eastman traded at $83 at the time, with earnings seen close to $7 per share as earnings multiples did not look too demanding, certainly as the business was becoming more special and less cyclical.

This looked compelling, but it was the uneven performance in the past and the fact that the business remains somewhat cyclical after all, which made me cautious and in fact still makes me cautious today.

A Lost Decade

Fast forwarding nearly a decade in time, shares of Eastman Chemical are trading dead flat at $82 per share here. Of course, its shares have seen some volatility in the meantime, as this was a $60 stock in 2016, traded over $100 in 2018, to even trade around $130 per share in 2021. Ever since, shares have fallen again, now trading in the low $80s.

The reason for that is quite simple, if we look at the 2022 results as reported in January of this year. Revenues for 2022 came in at just $10.58 billion, which suggests no growth from the pro forma sales growth in 2014, despite the passage of nearly a decade in time and the cumulative impact of inflation. The contribution of the business is split across four segments with advanced materials, additives & functional products and chemical intermediates each generating over $3 billion in sales, complemented by a roughly billion fibers business.

The company did see adjusted earnings fall in 2022 amidst inflationary pressures, with adjusted earnings of $7.88 per share down a dollar from the year before. In fact, margins have fallen a bit since 2014, although the lack of growth in sales has in part been offset by a 20% reduction in the share count since 2014. More so, the company reduced net debt to $4.7 billion over time.

The company has seen a tough 2023 so far with first quarter sales down 11% to $2.41 billion, with adjusted earnings down forty-three cents to $1.63 per share, as the company touted more cost savings efforts to provide some relief on the bottom line.

Second quarter sales fell as much as 16% to $2.32 billion, with adjusted earnings down eighty-four cents to $1.99 per share, as the company was actually delivering on solid cash flow generation, but aimed to cut more costs in order to boost the bottom-line.

A Sale

In September, Eastman announced that it has reached an agreement with INEOS Acetyls to sell its Texas City Operations. Part of the chemical intermediates segment, the company will retain the ownership of the plasticizer business which INEOS will operate on behalf of Eastman.

The $490 million deal tag consists of a $415 million cash component upon closing, with equal installments due on the first and second year post closing. With the proceeds used to repay debt, the business expects to see accretion from the sale.

Still Tough

In October, Eastman announced another 16% fall in third quarter sales to $2.27 billion. With revenues reported at just $7.0 billion year to date, revenues are only seen around $9.3 billion here, marking dismal revenue trends in the long haul. More so, the composition of the fall in revenues raises some questions as well, and with prices down 5%, volumes were actually down 11% in the third quarter, despite the more diversified businesses as seen in the past.

In terms of earnings the picture was not pretty either with adjusted earnings seen down fifty-eight cents to $1.47 per share for the third quarter, with adjusted earnings so far this year down to $5.09 per share, which suggests that earnings are seen below $7 per share this year.

In fact, the guidance, which now calls for earnings of $6.30-$6.50 per share for the year, suggests that fourth quarter earnings are expected to come in soft as well. Net debt was posted at $4.8 billion, but this was ahead of the deal with INEOS, set to reduce near term pro forma net debt to $4.4 billion, although it is not exactly clear how much sales will leave the business with this sale.

What Now?

Other than a 3.9% dividend yield, there really is not that much to like about Eastman Chemical. Revenues have fallen compared to a decade ago, although in all fairness it is the case that investors have seen some deleveraging, a reduction in the share count, and investors have of course seen decent dividends along the way.

All of this makes me very cautious, certainly after a disastrous 2023 as the divestment to INEOS is not a game changer, but it is unknown here what the impact will be on the business.

Despite this tougher year, the company trades at just 12-13 times earnings which is a low multiple, but a premium simply does not seem justifiable given the lack of consistent growth in the actual operations, and its track record. Hence, investors should not be lured into cheap earnings multiples as the company seems to be facing an uphill battle in the long run, certainly in some of its business units.

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