2023-08-12 07:08:25 ET
Summary
- Avient Corporation's recent earnings report highlights uncertainties and challenges in reaching sales targets due to weakening demand.
- The company operates in the specialty chemicals industry and has focused on growing margins rather than investing heavily in new prospects.
- The projection for 2023 indicates slowing demand and struggling end markets, making the outlook bleak and the current premium valuation not worth paying for.
Investment Summary
The most recent earnings report from Avient Corporation (AVNT) showcases some of the still uncertainties connected with the company. The guidance for Q2 was for sales to be at least $845 million. The company missed this and now the question arises about the company's future ability to reach athletes. Weakening demand is making this task difficult for them.
Operating in the materials sector, the company has for a long time focused on the specialty chemicals industry where they operate as a formulator for specialty colors and additives. The market seems to continue chugging along and I think long-term AVNT will deliver a decent return and growth, but right now the challenges and uncertainties are too large to make for a buy. Instead, I find a hold rating to be fitting, seeing as the business is still very solid and they do distribute a decent 2.5% dividend.
Shifting Demand Creates Uncertainties
Looking at AVNT it has been rather impressive they have had over the years. The revenues may perhaps not have grown that much, but the focus on growing margins has certainly been a priority as EPS has grown by 10% annually in the last 10 years, against the revenues growing by 0.27%. The top line seems to have flatlined but there is still value to be had here in the shape of dividends as the yield sits at around 2.5% right now.
Company Overview (Investor Presentation)
The company operates in the materials sector and more specifically the specialty chemicals industry where it has made a name for itself as a color and additives company. The valuation has grown immensely and is nearing $4 billion in market cap.
Within the company, two primary segments make up the company, those being both Color, Additives, and Ink but also Specialty Engineered Materials. Offering a variety of products within the first segment like additive concentrations and specialty inks AVNT has built up a large customer base of over 20 000 across the world.
It seems that right now the focus for the company has been on growing its FCF and delivering a strong return to shareholders rather than investing heavily into new prospects. Since 2011 the company has bought back $1 billion in shares and the guidance for 2023 is to reach at least $200 million in FCF. This will further increase the chances of divided raises which has been a constant thing since 2011.
Markets (Investor Presentation)
The company has a varied set of end markets which all have their ups and downs in terms of demand. It seems that right now demand is lowering as the company is missing on their own sales guidance. In Q2 the sales came in nearly 3% below what was estimated. That goes against any buy case for the company right now in my opinion. I think investors are right now be worried about future projections as a slowing demand is hurting sales. The guidance for 2023 is an EPS of $2.4 which is what the company previously had announced. Despite the softer demand, they are sticking with this. On a YoY basis, it would mean a decrease of 12%. Looking at the results the company posted for 2022 the actual results did come in below the estimations and I think if we continue seeing a softer demand and higher materials costs it's likely we might end 2023 with an EPS in the $2.2 - $2.3 range instead. Making AVNT trade at an FWD p/e of 17. That is higher than the sector by a fair bit which only trades at an average of 14. This premium right now doesn't seem to be worth paying for, especially not with the current market conditions.
Risks
Adding to the unease is the projection for the year 2023, a forecast that seems to indicate slowing demand and struggling end markets and regions. Some markets are doing better than others, but the Asia Pacific isn't necessary enough to pick up the slack of the other ones. Some of the coming market qualities include a gradual reawakening of economic activities in China, a marked uptick in interest rates, and a perceptible ebb in consumer demand.
The landscape that unfolds for the upcoming year seems to be rather difficult. Stick interest rates and material costs are taking a toll on earnings. The prospect of a more measured resurgence in China's economic engine, coupled with the upward trajectory of interest rates, forms makes for a bleak outlook unfortunately. Moreover, a perceptible softening in consumer demand amplifies the portrait of uncertainty that hovers on the horizon.
Cash Flows (Investor Presentation)
Amid these softened outlooks, it's worth noting the previous caution sounded regarding profitability. The unsettling specter of additional lockdowns in China cast its shadow over profitability, a ripple effect that played a hand in reshaping the narrative. As such, the forthcoming year remains veiled in a shroud of uncertainty, with the echoes of past headwinds finding resonance in the evolving landscape of 2023. I don't think the lacking growth of earnings should put AVNT at any financial risk however seeing as the net debt/EBITDA is at 3 and I think we are sort of reaching a bottom here. If margins persist and stabilize then I think AVNT is further amplified as a financially strong company in the sector and industry.
Financials
Taking a look at the guidance from the company, I can say that they are still in a strong position financially.
Assets (Balance Sheet)
The cash positions maintain to be a strong suit for the company at $528 million, down slightly since the end of 2022 but still sufficient to make a strong impact on the long-term debts of $2.1 billion. With solid FCF projections, I think that AVNT is in a position where it won't be that difficult to meet liabilities and payments. Since 2020 the share outstanding has been quite stable but I would like to perhaps see more capital being diverted to buy back shares rather than just having a dividend. Distributing a dividend and then possibly diluting shares if times are tough is not a very good position to be in.
Valuation & Wrap Up
I don't think you are getting a whole lot to be excited about right now with AVNT to be fair. The company has experienced softer demand and the price of the shares is at a significant premium to the sector.
Guidance for 2023 seems to be quite uncertain and if lower demand persists and material costs persistent as well then I think a miss on EPS is quite likely. That happened in 2022 as well and if the trend continues to expect the share price to drop to a discount to the sector quite quickly. Because of this, a hold is instead a fitting rating I think.
For further details see:
Avient: Weaker Demand Creates Uncertainties