Clariant AG (VTX: CLN) – market cap as of 23/09/2017: CHF7.74bn

Hunstman Corporation (NYSE: HUN) – market cap as of 23/09/2017: $6.55bn

Introduction

Clariant and Huntsman unveiled plans to create a global specialty chemical company in May, saying they expected the transaction to close by the end of 2017. The merger has been opposed by activist investor White Tale Holdings, which says the deal runs against Clariant’s focus on specialty chemicals over commodities. However, as of now, Clariant has obtained the vast majority support among its shareholders. The deal has been billed as a “merger of equals”, with a total value of around $20bn, but Clariant shareholders would end up owning 52% of the combined company.

About Huntsman Corporation

Huntsman Corporation is a publicly traded global manufacturer and marketer of differentiated chemicals with FY2016 revenues of c. $10bn. Its chemical products are sold worldwide to manufacturers serving a broad and diverse range of consumer and industrial end markets. Summing it up in figures, the company has more than 100 manufacturing and R&D facilities in approximately 30 countries and employs c. 15,000 people within four business divisions: Advanced Materials, Polyurethanes, Performance Products and Textile Effects.

Huntsman has transformed itself into a focused specialty and differentiated chemical company by integrating attractive businesses through acquisitions and strategic investments. The management has put many efforts in turning the company’s main operational areas from commoditized businesses to high-end goods, which allow for higher margins. Indeed, less than 10% of Huntsman’s EBITDA – whose FY2016 margin is c. 15% – now comes from lower margin businesses.

Besides growing its differentiated businesses, Huntsman can count on a strong operational track record. In the past two years alone, Huntsman has paid down more than $2 billion of its debt and kicked off a successful IPO of one of its businesses, creating a new publicly traded company worth approximately $3bn.

About Clariant AG

Clariant AG is a Switzerland-based producer of specialty chemicals which reports in four business areas: Care Chemicals, Catalysis, Natural Resources, and Plastics & Coatings. It was formed as a spin-off from a 150-year-old chemical company and since then, it has continued to grow through several acquisitions.

In figures, over the FY2016 the company – employing a total workforce of 17,442 – recorded sales of approximately CHF 6bn (+2%) and a net income which increased by 16% to CHF 263m. The EBITDA margin went up by 50 basis points to 15.2% and more importantly, it boosted its operating cash flow by 29% to CHF 646 million, leading to the highest operating margin since 2000 and the highest operating cash flow since 2009. These data highlight the progress made over the last years in order to reposition its portfolio, optimize processes and reduce costs.

Industry Overview

In 2016, the total revenues of the chemicals industry stood at $5.2 trillion. Global chemical production is expected to grow by 3.4% in 2017, the same pace as 2016. It has been predicted a marginally higher expansion rate in the advanced economies, increasing from 0.9% in 2016 to 1.1% in 2017. On the other hand, growth in the emerging markets will weaken somewhat, decreasing from 5.4% in 2016 to 5.1% in 2017. The global growth rate of the chemical market will be largely determined by developments in China, which accounts for more than a third of worldwide production.

The global chemicals industry has experienced several years of strong M&A activity. There have been several reasons for consolidation in the industry, some of the most important aspects include a lacklustre global economy, bearish oil market, uncertainties due to Brexit, commoditization of chemicals and a current challenging business environment. Within this problematic macroeconomic environment, demand for chemicals has fallen. As a consequence, companies are looking at strategic M&As to continue their growth by adding new products to their portfolios, reducing costs and expanding in new geographical areas. Moreover, the net profit of a specialty chemical company is highly sensitive to the cost of raw materials (in particular natural gas and petroleum products), thus economies of scale (and as a result consolidation ) is fundamental in the industry.

This deal is just one of a long series, which kicked off 18 months ago, with the $69bn merger between Dow Chemical and DuPont. After that, state-controlled ChemChina proposed a $43bn takeover of Syngenta in February 2016, and six months later Bayer agreed to buy Monsanto for $66bn. Deals to buy chemicals groups had an aggregate value of $263.7bn in 2016, compared to $177.4bn in 2015. This incredible M&A activity is reshaping a hugely diverse sector that has struggled with weak demand due to the lacklustre economic recovery since the global financial crisis.

Deal Structure

The deal has been structured to secure that both the chemical giants have an equal influence on the new joint company. The proposed “merger of equals” announced on May 21, 2017, will establish a leading group within the global specialty chemical industry with sales of approximately $13.2bn, an adjusted EBITDA of $2.3bn and a combined enterprise value of approximately $20bn at announcement.

According to the terms of the deal, the all-stock transaction implied an agreed merger ratio of 1:1 for each share of Clariant, while Huntsman shareholders will receive 1.2196 shares in HuntsmanClariant for each Huntsman share. Thus, at the completion of the deal, which is expected by year end 2017, the newly combined firm will be 52% owned by Clariant shareholders and for 48% by current Hunstman shareholders.

Following the completion of the transaction, the combined entity will be governed by a board of directors in which both the Huntsman and Clariant shareholders’ will be equally represented and will follow Swiss Corporate Governance standards. The helm of the new company will be held by Peter Huntsman, the current Huntsman President and CEO, which will become the CEO of HuntsmanClariant.

Finally, the two former headquarters will see their competencies split in two: the Global Headquarters will be based in Pratteln (Switzerland), while the Operational Headquarters will be located in The Woodlands (Texas). The new entity, HuntsmanClariant, will be listed on both the parental stock exchanges – SIX Swiss Exchange and the New York Stock Exchange – allowing for a greater liquidity among investors.

Deal Rationale

Both Clariant and Huntsman expect the merger to yield market value creation of over $3.5bn through cost synergies in excess of $400m yearly, tax synergies of $25m and approximately $250m of operating synergies. The targeted synergies represent roughly 3% of total combined 2016 revenues, with one-time costs of $500m. The full synergy run-rate is expected to be achieved within two years of closing.

Besides the mere financial rationale, there are several tactical reasons behind the deal. Most importantly, the merger would allow both firms to pursue their respective strategies of attaining world leadership in specialty chemicals, while creating a diversified and resilient group with a strong growth outlook and significant exposure to financially attractive markets around the globe. As Clariant has managed to maintain a competitive cost structure despite massive R&D expenditure over the past years, complementary product portfolios would allow the combined firms to take full advantage of this foundation for sustainable growth in the future. This will enable the development of new products in order to deliver superior returns and drive shareholder value. Post-merger, HuntsmanClariant would furthermore attain critical mass and operational leverage on the industrial side, allowing it to compete more effectively with Chinese and Indian rivals. Finally, the combined entity would display an attractive and balanced portfolio.

However, activist investor White Tale Holdings, an investment vehicle controlled by hedge funds 40 North and Corvex, strongly opposes the merger and has raised concerns in an open letter. White Tale disclosed its 15.1% stake in Clariant on 18 September 2017 and asked the Board to explore alternative options for value creation. Calling other shareholders to vote against the merger at the EGM, White Tale argued that the deal is strategically inferior to a restructuring of Clariant’s product portfolio and undervalues the company’s shares. Specifically, White Tale has proposed a sale of the Plastic & Coatings division and has highlighted that the additional complexity of a combination would make it hard to sell individual divisions later.

Market Reaction

Since the announcement of the proposed merger on 22 May 2017, investors have reacted relatively neutrally. While Huntsman stock experienced a slight drop in price from $26.15 to $24.61 post-announcement, it has risen to $27.32 to date. Clariant’s investors sent the stock rising slightly from CHF 20.95 to CHF 23.31.

As the majority of shareholders and investment professionals remained convinced of the mutual benefits of the proposed transaction, the rather muted reaction can be explained by the aggressive opposition from White Tale which may delay, complicate or even prevent the merger.

Advisors

Citi and UBS are serving as Clariant’s financial advisors for the transaction, while Bank of America Merrill Lynch and Moelis & Co. are advising Huntsman.

 

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