CHE.UN-TSX
Rating Market Perform
Price: Aug-11 $8.98
Target ↑ $9.00
Total Rtn 7%

Continuing to Monetize the Stronger Commodity Environment

Bottom Line:
Raising target to $9.00 (~5x 2022E EV/EBITDA) as 2022 estimates rise. Even if/when caustic fades (caustic has been steadily falling), there should be a partial offset in 2023E from better volumes at North Van (no turnaround), and margin catchup in SWC etc. Plus a sale-and-leaseback at North Van could pay for the ultrapure acid JV opportunity. So there are some catalysts though caustic-pricing volatility needs to be stomached. We remain neutral on valuation with CHE yielding ~6-7% on a ~50% payout ratio in 2023E with likely lower earnings next year.

Key Points

Incremental guidance colour and raise FY22E EBITDA to ~$375M. First, caustic pricing continues to lead EBITDA growth for EC (contributing 55% of ASP increase), supported by a strong demand/supply dynamic for aluminum. Second, SWC has been successful passing through some raw material costs to customers through renegotiation. Plus, recent normalizations in sulphur prices should improve water treatment margins, though more so into 2023 given the water contract structure (annual with renewals spread out across the year). Third, merchant acid remains tight coupled with regen acid demand rebounding, and so we now expect ~20%/10% sales growth in SWC for Q3E/ Q4E, respectively. Fourth, chlorate volumes remain pressured from office paper demand declining ~10% (recall CHE shutting down 40kt Beauharnois, QC plant), though slightly offset with higher demand in Europe (on higher energy cost differentials, as electricity is ~60-70% of variable costs). Fifth, 2022E ASP of ~$640/t implies CHE expects NE Asian caustic prices (presumably using IHS projections) to fall ~$60/t from current ~$550-600/ t levels in August, setting ~$525/t as the benchmark price for Q4/22E. As such, Q4E and Q1/23E should see lower (but still strong) ElectroChem earnings.

CHE appears more attractive than SPB, despite having similar ~50% payout ratios and ~6-7% yields for 2023E, as CHE now has near- to mid-term catalysts (North Van land sale and leaseback, and new sulphuric acid investment opportunities).

Increasing distributions do not seem to be top-of-mind, as management focuses more on organic growth and expansion projects. This, as strong expected cash generation in 2022E/23E will likely be enough for CHE to fund growth initiatives (~130kt of ultrapure acid capacity in the next several years) while remaining below ~3x target leverage, and in our view, without drawing down much debt. We model ~$135M CAD (CHE's 51% share) capex across 2023/24 for the ultrapure acid Kanto JV.