Credit Suisse 30th Annual Basic Materials Conference

Sep 13, 2017

Slides

Okay, think thirty seconds off early. So I think we'll get started a few seconds early. Next up, we have Rakesh Satshif, the CEO of Platform Specialty Products, ticker PAH. While Rakesh has been only the CEO for the past couple of years, he's already made tremendous strides on execution, portfolio optimization and recently announced his intention to split the company in order to maximize shareholder value. The platform story continues to gain popularity, so I'm sure you're all eager to hear an update. And with that, I'll turn it over to Rakesh. Thanks. I'll stand here. Good morning, everybody. We've also got Martin Franklin, our Chairman, is here. So we're going to tag team this morning. We've got Ben Glicklitch, who heads up our Strategy and Operations Group. I'm going to make some prepared remarks about the company. Obviously, we have only thirty minutes. There's a lot to talk about. We made some announcements that we'll get into. But what I want to do is just put in context, go back, talk a little bit about the platform company thesis, what does the business look like today, give you a glimpse into the financial metrics of the company and how we are benchmarked versus many of our peers and then talk about the recent announcement that we made of separating the company into two public companies and why we want to do that and what you might expect in the coming few months and from a process standpoint. Again, the thesis when we said platform was to really have a global specialty chemicals company in a leadership position with a few traits, asset light and high customer touch. And that's exactly what we have done. If you look, we have created two businesses. We have created an agricultural business, which where we acquired three companies. We acquired Arista, Camtura and AgriFar. And then on the Performance Solutions side, we also acquired companies. The start was with McDermott. We acquired OMG and Allent. And it's interesting that both the companies today are about equal size, both the businesses, about 1,800,000,000 The profitability of both the businesses are impressive in the $400,000,000 plus. This is the twenty sixteen numbers. And I think the teams have done a great job on both businesses where we have integrated these three companies that we acquired in both legs. The achievement of the integration synergies has been very much on track. We have in the ag business, we have expanded in different geographies and we still are. We put more feet on the ground around the globe and we've been gaining presence in markets where we were underpenetrated. And in the ag business, we have been very focused on developing a new product pipeline. As you heard Chris say, we've got now more than $1,000,000,000 of new products that are going to come into the marketplace in the next few years. So we are very excited about some of the things that have been done there. And on the performance side, we have been focusing on faster growing markets. We are focused on semiconductors. We've been focused on Asia, where we've been doing well and in advanced electronics, and we've been investing in that. So both businesses doing well. Glimpse of the overall company today. You can look at the financial metrics on the left side, they're impressive. We have got high margins, not just in gross margins, we have got EBITDA in the above 20% range. Our cash flow conversion at Platform has been impressive. But I think the most important metric under the financial metrics is the return on the invested capital. So when you look at because we are asset light, high customer touch, high margin business and you look at our ROICs, we are significantly better than many of our companies and peers in the industry. The business is geographically very well diversified. Asia is about a little over 25% of the company. You can look at Europe and Middle East, Africa is about a third and then North America and Latin America. The other thing I would say is that we have in both businesses, we have a diversity of end markets. If you look at in the performance side, we are in consumer electronics, we are in automotive, we are in other industrial markets, we are in energy markets, we are in offshore oil and gas. Same thing in the ag business, are in specialty crops, some very good specialty crops. We are in we have a very global presence. And I think this diversity really helps us in terms of preserving margins and also brings the stability around the cash flows in this business. If you look at the financial metrics, our and you look at our EBITDA growth, 7% in 2017, these are analyst estimates. Frankly, we expect to do better than that, But it's very much in line with what you can see our peer group of companies and we've got a peer group of both ag companies here as well as specialty chemical companies. We are very much in line. You look at our free cash flow as expressed by EBITDA less CapEx margin, we are right at the top end compared to the groups. And as I said, if you look at the ROIC, we stand tall compared to the rest of the group. Obviously, what's unfortunate, which you've heard myself and you've heard Martin talk about is despite having such stellar financial metrics, when you look at the valuation of the company, we trade at a discount to our peers and we'll talk about that because that had a bearing in our thinking about what we wanted to do going forward. If you look at what we recently announced about separating the two companies, and this is again, we're going to have two separate public companies with scale, dollars 1,800,000,000.0, as I said, for both the ag business as well as the specialty chemicals business. We're going to have scale, but we're also going to have focus. The organic growth in both the businesses is going to be good. There's headroom for growth in both segments. What we are saying is our long term average growth potential in the ag business is four to 5%. And we believe we are in a trough right now. As many of you know, the ag market have been depressed now for a few years. It's a question of time before they come out. And when they do, we will also benefit from that growth. Same thing in the Performance Solutions business, our Specialty Chemicals business. Long term, we think these markets are growing about a couple of percent. We expect to do better than the market. So that's why we said we should be growing at about 4% annually. But what's important is our ability to take the sales growth in the low to mid single digits and convert it year over year into high single digit EBITDA growth. We have stated that at our Investor Day last year, and that's exactly what we're doing is our plan is to deliver near double digit, but high single digit growth in EBITDA. I already talked about the strategic direction on where we are focused on these businesses. The other thing I would point out to you is that when we separate these companies, our plan is to improve the leverage in both the companies compared to where platform is today. The plan is that within twelve months of separating these companies that the ag business would have about a 3.5 times debt to EBITDA leverage. And the Specialty Chemicals business, which is our Performance Solutions business, obviously can sustain higher leverage because it's very stable. It doesn't have the cyclicality of the Ag business and we are very comfortable in keeping that business in a year or twelve to eighteen months at about four to 4.5 times EBITDA debt to EBITDA. Very quickly, I'm not going to go through the details of the ag business, which will be a standalone public company. But as I said, we're going to have a strong industry position. This is going to be a very strong formulation based ag company with focus on innovation on niche crops. And we have established or at least attained the position of being a preferred partner to a lot of the discovery companies in the ag space. We are seen as a neutral party. Don't compete with the big guys. And so the big guys work with us in their ability to monetize because of our scale and reach around the globe. And I think that's going to put us in good stead as we take this business forward. There's significant headroom for growth. Just the addressable markets that we are in with these niche drops is over 13,000,000,000 or $14,000,000,000 So there's a lot of room for us to grow. We don't have to be in sort of the row crops to grow because there is a lot of headline headroom for growth. We've talked about the pipeline. And then finally, you look at the financial profile, I'll point out a couple of things. Again, this is a business that has high EBITDA margin, high cash flow conversion. But if you look at the graph at the bottom right, it's pretty impressive what we have achieved in the last three years, both in terms of margin expansion. If you look at the margin that we have been expanding year over year, it has been a very impressive story of what we have achieved as well as the EBITDA growth. And so here you have a business that is performing as good, if not better than most of our peers in terms of the financial metrics. Again, if you look at a couple of metrics compared to our peer companies, you've got the Arista business that has EBITDA growth, albeit slightly less than the discovery companies, but from an ROIC standpoint significantly better again because we are an asset light business, we don't have to put a lot of capital to grow this business. We are growing this on the backs of the proximity that we have created with customers and the innovative formulations of products that we take. On the Performance Solutions side, again, as I said, we've got a leading market position in the surface treatment and electronic assembly business around the globe. Today, are a partner to major OEMs and applicators who use our products around the globe. We have got a terrific sales force that's supporting our customers. We have a growth strategy that focuses on faster growing markets. Even within the electronics segment, we are very focused on places like semiconductors and advanced electronics, which is helping us grow faster. If you look at what we have achieved in the first half of this year in terms of top line growth in this business, it's been truly pretty impressive. We are still in the journey in this business of extracting synergies. We bought the Allent business not too long ago. We integrated the front end. We commonized the sales and marketing forces. We are now working on the back end of footprint rationalization of our manufacturing facility. So there's still work to be done and opportunities to be mined from a synergy standpoint. And then finally, again, if you look at the financial results of this business last three years, you expanded margins quite significantly. We have been growing EBITDA. If you look at the first half of even this year, our EBITDA is up year over year by in the double digits. Our margins have been are flat this year, partly because of mix. We've had some inflationary issues, but we believe that we longer term, we are on a track where we're going to continue to improve our margins and grow the business. Again, when you look at just this business compared to our peers and you look at the ROIC, we stand very tall compared to the industrial chemical companies and the specialty chemical companies. These are really high quality businesses that are producing some very stellar returns for our customers. And then just a few more words about where do we go from here. We announced that we are going to separate our two businesses into separate companies. We need to finish 2017 because frankly we need the results of 2017 to drop into a three year filing. And so we think that sometime in Q2 or by the middle of next year, we'll be able to do an IPO and separate the two companies. The IPO will be with Arista and that will be our ag business. And it's clear that when we actually do the separation, we will be a significant shareholder of the ag business on day one. It goes without saying, we're going to put very strong management teams on both sides, and we will announce that before we do the filing, but that's a given. And the other thing, I know there have been questions about, does this mean that now that you're going to be two public companies, will the corporate cost be increased and so are there dissynergies? And what I would say is that our corporate costs are already coming down. We were at a peak. And we are going to use the efficiencies that we are already on the track of obtaining to fund some of the additional costs that we would need in the ag business. But overall, we do not expect an increase in the corporate costs when the two companies are separated. Finally, the last point I'd make is on tax. Given our tax basis in the ag business, we do not expect that the IPO of Arista would have any negative tax consequences either on platform or our shareholders. Finally, my final slide because I know while we are undertaking on a fairly significant task of separating the two companies, I want to reassure everybody that we are very focused on running the day to day business. We are taking care of our customers, making sure that we are meeting our financial commitments. And I think we have built a good operating momentum around the execution. We obviously have said we gave a guidance for 2017. We are going to hit that. The first half, as I said, was strong. We have a second half forecast. If you look at our second half, Q3 is typically our softest quarter. That's not going to be any different this year. We are perhaps going to have an even stronger Q4 than last year, but probably a little softer Q3 than last year, partly because of some of the mix issues and some of the weather related issues. Overall, I think we will have 55% of our second half earnings to come in Q4 and about 45% of that to come in Q3, just to give people an idea of where we are. But we are very much on track on delivering to our commitments this year, and then we'll be giving you guidance for 2018. So with that, I'm going to stop. We have some time for Q and A. Before we do that, I want to turn it over to Martin. I'll have Martin say a few words, and then we are available for questions. So I don't have any slides, so not quite sure why I'm standing up, but I'll maybe give you my opinion of why we're doing this, why complicate things today, why not just keep our heads down and carry on operating. And I think it goes back to our Investor Day that we did, what, about a year ago, where we outlined to people, we said, look, if we don't think that we're getting what we consider fair value for this business in the market, we need to be our own activist and do something about it. And our view is unquestionably after talking to lots of investors and really understanding our business, people who want to invest in ag, want to invest in ag, people who want to invest in performance solutions, industrial type businesses like that are different audience. And we've come up against this with particularly with large institutional investors more often than we'd like. More than that, strategically and in terms of focus and building our organizations, what we found is devoting the resources and focus to grow each of the businesses more difficult under one umbrella. We really don't have any synergies to speak of, obviously, procurement, for example, between the two divisions. We had thought in the early days the idea of asset light, high touch would be something that would resonate across all sectors and people would simply focus on the cash flow generation of business. The reality is it's more interesting for investors to look at these on a standalone basis. If we can do it and really drive down costs at the corporate level to keep the synergy levels to zero. We're going to do that. Our objective is to do better than that, but that's where we're to benchmark ourselves at the start. This isn't just a financial engineering exercise. So it's strategic. And the reason we're doing it in the method that we're doing it is not because we favor one of the businesses over the other. It's simply because one is tax efficient and the other would not be tax efficient. We reasons that driven from what we paid and the timing of how we acquired the business and the Performance Solutions business would have a tax consequence because market values are substantially higher than what we paid for the underlying shares. The opposite is true for the Ag business. It's that simple. In doing this, we also hope to create balance sheets that are more attractive to the investment community. Let me underscore that our capital structure today puts no financial strain on our business. We have tremendous cash flow generative capabilities and we're generating a lot of cash in the business. We have very good long term financial leverage components that are spread out in their maturities. Everybody knows who wants to look at how our bonds trade and how our debt trades. We trade today at par or a premium. So we have optionality on our balance sheet to do things. Having said that, in this process, we think we can both create value for shareholders and at the same time go through a delevering exercise to bring our leverage down to levels that allow the companies to actually be forward thinking as opposed to status quo. The process from our perspective, we'd like the process to be as quickly as possible. We have to deal with the reality of the fact we need to drop third year in. To drop the third year in the financials on the carve out financials is a year end process. So we're not going be able to do it quicker than that. Having said that, if there are alternatives to do other forms that are innovative for the company, we're always going to be forward thinking. We're going to be proactive and see if there are alternatives that become available to us over the few months to do things that can achieve the same objective quicker. And finally, leadership. I'm very grateful for Rakesh coming and joining the company when he did. We've gone through a period of I think getting the cadence of the company in a place where we're very comfortable and happy with how the businesses are operating. We've had some distractions along the way, but overall, the businesses are focused. They are staffed with the right leaders and are driving towards their strategic goals. So we'll have the right leadership we have the bench internally to fill all the positions that we need to fill in the two separate entities. Who those names are, probably less important to all of you, but it's something that we spend the appropriate amount of time thinking about and we'll be able to present properly when we probably right before we file our RS-one. With that, I think let's answer whatever questions you have from sitting down. Just to kick it off, you do have a fairly large agriculture pipeline, not only around chemicals, but other products, which you have available to you based on the three separate entities, which you've brought together over time. Can you just think about your EBITDA growth contribution from that pipeline in the timeframe as it relates to the initial target of 3.5x leverage? That would be the first part. And the second part would be, do you believe 3.5x is the appropriate level over, let's say, an extended period of time to make sure you're still adequately in a position to take advantage of any opportunities which may come available to you? Sorry, I have that. Yes. So Chris, when you look at the pipeline that we have talked about, it's composed of many, many different products. We have a concept to launch phase for each one of those. I would say the average margin of most of these new products are at least as good, if not better than our existing products. Some of our existing products have been frankly under some pressure, especially some commodity products. I expect that the new product launches will enhance the EBITDA margin, if that's the question that you're asking. We're not launching most of these products that we are launching are going to be differentiated. And we haven't given exactly how much the expansion is going to be, but I have been on the record saying that on average, we expect EBITDA margins of these businesses to expand between 30 basis to 50 basis points every year. Frankly, we have done better than that in the last two years. We have expanded margins higher than that. So there'll be some years we'll expand margins above 50 basis points a year and some maybe a little less, but that's the overall goal. Your second question was around leverage. 3.5, we said within twelve months of spreading this into a public company, we expect the ag business to be at about 3.5 times. I think that's a pretty comfortable leverage for the ag business. It does generate a lot of cash. The cash conversion in the ag business is very good. Where we do have some cyclicality is how it manifests itself into working capital because, as you know, it's a very seasonal business. And especially when the business is strong in Latin America during that season, we have more working capital that goes in. But we have done the math. We understand this, and I think that's a good place to be in, which also will allow us to do measured acquisitions along the way as well. Any questions from the audience? If you obviously, you have a tremendous amount of optionality now on your capital structure of both new entities. You mentioned some of your how your maturities are trading. If I look at what's callable in February and May, are you willing to give us any insight on not only the optionality on the capital structure, but also it appears that your coverage ratios as it relates to the potential cash flow generation of the companies will be much more favorable in the coming years. Can you just give some preliminary remarks, the scenario analysis on that? Yes. What I'd say is go ahead, do want to answer? In the context of separating these businesses, we need to bifurcate our capital structure. We're bringing in some fresh equities, that creates a lot of flexibility. I would think it's more of a package around recapitalizing these companies and what are we going do with our different bonds and how are we going to split up our term loans. Don't want to forecast too much, but I anticipate we'll have a lot of optionality. And on a net net basis, interest costs will come down meaningfully on some of the parts versus where we are right now. And a lot of our expensive debt is going to be callable in a relatively short period of time. So we have a lot of optionality to look at reducing our interest expense going forward. And the guys have done a great job so far in the last year. Within the Specialty business, you highlighted and you alluded to some of the mix issues in price as it relates to 3Q versus 4Q. I highly doubt, anyways, too focused on the next two quarters. But can you just give us a brief update on that and just how you So think you're going to exit 20 at the last earnings call, we talked about some margin pressure in our Performance Solutions business, which was really driven by the cost from certain suppliers around commodities where we had to take some inflationary increases. We weren't able to pass on more because from a timing standpoint than our inability to do that. We are in the process of correcting that and getting compensated for those increases, which really we'll get more in Q4. So we're going to still see some pressures in Q3, but we believe it's temporary and we will address that going forward. Silent crowd again. So when you think about overall the overall composition of your ag business, obviously, there's been a lot of noise over the last few years. I don't think anybody's going to debate that, especially in Latin America. Can you just give us a quick update on any longer term targets? And obviously, new management has been announced yet, but any how you feel about your portfolio, your crop balance, your geographic balance as it pertains to both revenue potential as well as cyclicality and working capital? Yes. I think one of the things that we did, and this happened even right as I was coming to the company, I know Martin and the rest of the team were quite involved, is we wanted to make sure that the channels that we do business through that had the right stocking levels. We took some pain and we took our medicine in 2015 in North America And we've been doing and we've been very measured in how we've been selling into the channels across the globe. And so we think we're in a good position. Latin America is obviously the biggest market for us. And I think we are I think our stocking levels in Latin America are good. But in terms of crop focus, our crop focus is largely on specialty crops, but not only on specialty crops. We have differentiated solutions even for row crops. So I don't think people should think that we don't play in row crops like corn and soybean. We do when we have a special solution. So we are a player in Latin America and soybean. We are a player in The U. S. With certain products with wheat and corn, but only if it's differentiated. And I think we'll continue to find opportunities both on the specialty crop side as well as on the row crop side, if that makes sense to us. And I think as we mentioned earlier, I mean, the BioSolutions business is growing well for us. I think this year, our BioSolutions business has grown about 15% to 20%. We continue to think that we will have double digit growth in BioSolutions. We are, I think, the number two player in biostimulants in the world, and this business is growing nicely for us. We were very much a player in Central Europe in BioSolutions and Mexico, and we are taking these products now out into different geographies. We have been very successful in BioSolutions in Latin America. In fact, that's allowing even our conventional crop chemicals to grow in Latin America along the backs of biosolutions. Another popular topic amongst the Basic Materials, Crown and Chemical investors, in particular, has been electronics. And whether it's you or it's talking about DowDuPont or Versa Materials, which spun out October, everybody's kind of search for their niche and their product offering and how they think things in that market are involved as it relates to the sector. Can you just elaborate a little bit more on your growth prospects? Obviously, you're in the higher end of that market and where you think you are competitively positioned over the next two to three years? Yes. As I said earlier in my talk that this is a business that we expect to be able to outstrip the growth of the market growth. The markets overall, if you look at especially around PCBs, which is a big component of our business, but we also have a big component tied to automotive electronics, which is a growth market. But these markets are growing on average about 2% to 3% a year. And we want to grow at least a couple of percent points higher than that. And that's going to come on the backs of focusing on faster growing segments because there are certain segments in electronics that are growing double digits, and we are very focused on that and also growing in certain geographies like Asia, where the growth is faster than the average market. So I think we have grown double digits in the first half of this year. We probably won't grow as much in the second half because of we'll have tougher comps compared to last year because last year in the second half, the markets are already recovered very nicely. But I think we will see still good growth. And asked on the next two years, I think we are pretty optimistic of the growth continuing in 2018. Maybe people have questions on Martin while he's here. When I think about your story over the ultra long term, it's Obviously, it's evolved fairly rapidly over the last six months. In your conversations with your major shareholders, some of whom are in this room and you're meeting with us at the conference, what's the and this would obviously apply to Martin as well. What are the kind of two to three main factors which you still feel are misunderstood by either your large shareholders, potential shareholders, the sell side community? And how those factor into how you're thinking about the story, not just over the next two quarters because, as I said, honestly, no one should be focused on that, but through total value creation through the end of the balance of the decade? Look, I think there are a number of themes. One is how are you going to have more institutional ownership in the business? We have a lot of hedge fund owners in our stock. I mean it's not that's no secret, you just go through the list. Thankfully, we're friends with them. We're aligned in how we think about the business. And I think they're very receptive to the things that the way we approach it, we're very shareholder friendly when it comes to driving the business. But the reality is our growth being as rapid as it was, left us with a balance sheet that has more than the comps do in total leverage. So one of our objectives is to put ourselves back into the middle of the comp set, if you like, in terms of institutional appetite for it. Good for the company, good for investors, good for optionality if we decide to move forward with acquisitions in the two sectors. The other is we talk about strategy. And I think that we get actually, I think, very good feedback from our investors sort of how the businesses are now being directed and run. But we're going to have opportunities that come up in both of the businesses in the coming months and years, which we want to be able to execute on. And it's hard to do that when you have an equity that isn't properly valued.