2023-06-15 07:50:32 ET
Summary
- I expect Huntsman Corp. to continue facing a tough FY23 due to the impact of weak global construction demand and destocking in its product lines.
- The current valuation of HUN is relatively high compared to its historical average.
- Despite the difficulties, there are potential positives for HUN, such as opportunities for improvement in the Performance Products and Advanced Materials segments, strategic management of MDI capacity, and cost-saving measures.
Investment thesis
Huntsman Corp. ( HUN ) remains as a hold rating , as I anticipate FY23 to be a challenging year for the company. HUN's product lines are especially vulnerable to fluctuations in the construction and new construction industries. The effects of the current macro environment's gloom are reflected, I believe, across the board at HUN. Specifically, Polyurethanes saw a 28% drop, Performance Products saw a 31% drop, and Advanced Materials saw a 21% drop in volume. The disappointing thing is that nothing has changed since 2H22.
I do not anticipate a significant uptick in volume in the near future, given the current macro environment. However, things might start to get more interesting as we move to 2H23 when HUN faces easy 2H22 comps. While this is not an indicator of turnaround in the business, I see this easy comp dynamic as something that would help support the stock narrative as the constant double-digit decline in volume does not bode well from a headline perspective.
Negatives
Polyurethane sales of HUN were negatively impacted by destocking and weak global construction demand in 1Q23, which I expect to continue as headwinds throughout the year given there is no structural changes to the macro environment so far – the high cost of capital and slow easing of supply chain continues to impact construction demand . While I agree with management that destocking will be largely complete by the end of 2Q23, I believe construction activity will continue to decline in the second half of the year as a result of the impending US recession. I need to point out that HUN will feel the full force of any potential declines in polyurethanes sales because such a large proportion of these sales are linked to the construction markets, with a focus on the commercial and residential sectors. When there is an obvious and potentially negative catalyst on the horizon, I don't think it's wise to stay invested or invest in the stock in the near-term. The slow economic recovery in Asia has also kept MDI (Methylene Diphenyl Diisocyanate) prices low, particularly in China. Consequently, I think it's better to set the expectation right, as neither volume nor pricing is currently in HUN's favor.
Positives
I believe that HUN's other two segments (Performance Products and Advanced Materials) have room for improvement despite the difficulties the company is having as a result of weak global construction demand and destocking in its Polyurethanes segment. For the Performance Products, I anticipate a continuation of the volume improvement, driven by coatings and adhesives, albeit still down vs last year due to destocking. In terms of Advanced Materials, I anticipate sequential volume growth thanks to the ongoing recoveries in the aerospace, energy conservation installation, and automotive markets. For Aerospace, I anticipate stronger-than-anticipated expansion as lingering supply chain constraints begin to ease and demand from the prior quarter pushes into the current one. As for energy conservation installation, I expect this to be mainly from Europe as the entire continent has been on energy conservative mode post the Russia and Ukraine war. I think there has been a fundamental shift in the way Europe acquires energy, and this should serve as a new secular tailwind for HUN.
Cycling back to the negative point on MDI, I think the steps that management have taken are strategic, I think would help cushion the slow price recovery. Looking back in 4Q22, HUN temporarily shut down an MDI line in Rotterdam and another in which supported MDI pricing and margins. I believe that once there is a visible demand ahead, management will bring all Rotterdam lines back online to meet the demand. As such, there is no capacity issue for HUN to meet any surge in demand. The willingness and flexibility of management are well showcased, which is a positive factor.
Finally, HUN's plans to cut costs are proceeding as planned; by the end of 2023, the company expects to have saved $280 million in run rate savings. All in all, it is somewhat encouraging to see that despite the continued difficulties in the construction industry, HUN is putting its attention on its growing segments, improving its management of MDI capacity, and introducing new cost-cutting measures.
Valuation
HUN current forward earnings multiple is also a reason for recommending a hold rating. The forward earnings multiple of 13 is 1 standard deviation above the stock's historical norm. Looking at the valuation chart, the stock's multiple has fluctuated between 7x and 13x over the past decade, with a 6 month reversion to the mean after each crossing above 10x (with the exception of Covid). So if we take historical trend as a guide, then HUN stock is likely to see multiples compress back to 10x over the coming 6 months.
Conclusion
Given the challenging macro environment and the significant impact of weak global construction demand and destocking on HUN, I reiterate a hold rating. Considering the current forward earnings multiple and historical valuation trends, it is expected that the stock's multiples may compress back to around 10x over the next six months. That said, on the positive side, there are opportunities for improvement in the Performance Products and Advanced Materials segments, driven by sequential volume growth in Performance Amines and recoveries in aerospace and energy conservation installation markets. The company's strategic management of MDI capacity and cost-saving measures are also encouraging.
For further details see:
Huntsman: FY 2023 Likely A Tough Year, Valuation High Relative To Average