CIBC commentsCHEMTRADE LOGISTICS INCOME FUND
Chlor-alkali Driven Guidance Raise– Q2/22 Review
Our Conclusion
CHE.UN reported a decent Q2/22 beat and raised F2022 guidance (primarily reflecting stronger chlor-alkali markets). We have raised our F2022 and F2023 estimates to reflect stronger EC segment results but are lowering our target multiple to 6.5x from 7.0x (chlor-alkali markets can be very volatile and economically sensitive and hence we would assign a lower value to this guidance raise). Our price target increases to $11.00 from $9.50; we maintain our Outperformer rating.
Key Points
Significant F2022 Guidance Raise Reflecting Strong Chlor-alkali Performance: CHE.UN raised its adj. EBITDA guidance to $360MM- $380MM vs. prior guidance $300MM-$330MM (consensus $333MM at the time of reporting results). The increase reflects strong YTD results and favourable fundamentals for the majority of CHE.UN's products, but most notably for chlor-alkali. Backing out YTD results implies H2/22 adj. EBITDA guidance is $170MM-$190MM (vs. consensus H2/22 of $151MM). Note, CHE.UN’s guidance assumes an average Northeast Asian caustic price of $640/t for F2022, which is $350/t higher than F2021 and $65/t higher than CHE.UN’s prior guidance assumption. Q3/22 should be a record quarter for the EC segment (realized caustic price assumption of just over $700/t) before moderating in Q4/22 (caustic price assumption of around $525/t) given the recent moderation in pricing.
SWC Segment Margins Should Improve Going Forward: SWC Segment Q2/22 results benefitted from higher selling prices for regen, merchant sulphuric acid and water solutions products. Regen (tied to vehicle miles driven) demand continues to be strong and CHE.UN’s ultrapure acid (tied to semiconductor industry) volumes continue to sell out. That said, Q2/22 margins were negatively impacted by a step up in raw material costs (most notably sulphur) for water chemicals. But sulphur prices are down sharply so far in Q3/22 and given that CHE.UN carries very little sulphur inventory, we expect margins in the water chemicals business to improve in H2/22.
Focus Turning To Ultrapure Production Expansion; Green Hydrogen Monetization: In addition to the Cairo, Ohio expansion, CHE.UN recently announced the formation of the KPTC JV (CHE.UN owns a 49% stake) for the greenfield construction of an ultrapure acid plant (start-up late 2024 to 2025) for a total project cost of US$175MM-US$250MM. The combined total capacity for both plants will be ~130kt and this should help CHE.UN maintain its North American market leadership position for the next several years. CHE.UN estimates the IRR on both of these projects to be north of 20%- 25%. In regard to green hydrogen, the Prince George facility project remains on schedule for a 2023 start-up, and CHE.UN continues to evaluate options for the much bigger Brandon, Manitoba facility.
Company Profile Chemtrade operates in two reportable segments: Sulphur and Water Chemicals or SWC (primarily regen, ultrapure acid, merchant sulphuric acid and water treatment chemicals) and Electrochemicals or EC (primarily caustic soda, chlorine, hydrochloric acid and chlorate).
Investment Thesis High earnings torque to improving macro-conditions in 2022 (particularly EC segment and sulphur products), ~7% dividend yield, long-term benefactor of increased demand from the structurally growing semi-conductor (ultrapure acid), lithium (caustic), and green hydrogen industries
Price Target
(Base Case): C$11.00 We apply a multiple of ~6.5x to our 2023 EBITDA estimate. We assume a recovery in chlor-alkali and sulphur products extending into 2022.
Upside Scenario: C$13.00 Our upside scenario assumes a sustained period of higher chloralkali (caustic and HCl) demand/pricing as well as a faster than anticipated recovery in water solutions margins.
Downside Scenario: C$4.00 Our downside scenario assumes a deep economic recession, negatively impacting the EC segment and sulphur products (water solutions relatively inelastic to economic growth).