zorazhuang
Thesis
The previous year for Eastman Chemical Company (NYSE:EMN) has been challenging with its stock dropping 27.95%, resulting from aggressive customer inventory destocking, high inflation rates, and recession fears. The past year was also challenging for EMN growth-wise, and the company looks to leave that behind with promising tailwinds in the new year. However, current recession fears influencing factors such as inventory destocking prove to still hold the company in limbo. With these conflicting factors at play, this analysis recommends a “hold” rating.
Company Financials Overview
Eastman’s products and operations are managed and reported in four operating segments: Advanced Materials (“AM”), Additives & Functional Products (“AFP”), Chemical Intermediates (“CI”), and Fibers. Molecular recycling technologies continue to be an area of investment focus for the Company and extend the level of differentiation afforded by its world class technology platforms. Key areas of application development include thermoplastic conversion, functional films, coatings formulations, textiles and nonwovens, animal nutrition, and personal and home care formulations. The Company engages the market by working directly with customers and downstream users, targeting attractive niche markets, and leveraging disruptive macro trends.
EMN ultimately had a rough year with its revenue from 2021 to 2022 only increasing by 0.99% and net profit decreasing by 14%. Net profit margins also decreased from 24% to 20%. Revenue was practically unchanged as higher selling prices resulting from: higher raw material, energy, and distribution prices were mostly offset by lower sales volume. Sales volume was lower due to an unfavorable impact from divested businesses and limited product availability in the first nine months of the year resulting from unplanned outages. EMN also experienced significantly lower end-market demand and customer inventory destocking, mostly in the fourth quarter of 2022.
Tailwinds
Circular Economy Focus
EMN is focused on achieving critical circular economy milestones moving forward. It has a material-to-material molecular recycling plant in Normandy, France expected to finish construction and begin operation in 2025. An agreement with consumer goods giant PepsiCo will construct its third planned polyethylene terephthalate (PET) chemical recycling facility in the US, expected to be operational in 2026. Finally, it has another methanolysis facility that is being finished in Tennessee. All of these projects have shown progress towards being finished in 2022, and once they are, it will prove very beneficial to EMNs business. The more EMN focuses on a circular economy the more it will save its business money, capture more value from materials and resources, develop new markets, and gain new customers in addition to committing to environmental sustainability.
Molecular Recycling Facility Project
Eastman is moving forward with its plans to make the world’s largest material-to-material molecular recycling plant in Normandy, France. Once complete, the facility will recycle approximately 160,000 tonnes of hard-to-recycle polyester waste annually. It recently found a supplier for the facility in the company Interzero, which reached an agreement with Eastman to supply up to 20,000 metric tonnes per year of hard-to-recycle PET household packaging waste that would otherwise be incinerated. To be more specific, the facility in France will process colored and opaque PET waste that cannot be recycled mechanically to create clear and transparent rPET upon completion. This will lead to materials being produced with significantly less greenhouse gas emissions than traditional methods and will be a significant economic driver for the circular economy. This project is expected to be finished in 2025 and will surely increase the company’s revenue as leading brands are widely adopting the company’s recycled products.
Chinese Economic Recovery
China’s economy expanded by just 3% in 2022, far below the government’s own target, marking one of the worst performances in nearly half a century. Growth was impacted heavily by months of widespread COVID-19 lockdowns and a historic downturn in the property market. Now as COVID-19 policies are easing up and their economy is beginning to open up and recover again, this is good news for the whole world and EMN. Judging by the fact that a significant of EMN sales (23%) are to the Asia Pacific region, this could be very beneficial for the company.
Risks
Destocking
2022 saw a recession in the Manufacturing Sector that is still ongoing. The company’s customers in North America, Europe, and China undertook inventory destocking that went beyond the levels that are typical of the fourth quarter. Eastman’s Advanced Materials, Additives and Functional Products, and Chemical Intermediates segments all saw destocking from the fourth quarter of 2022 to today. The destocking has gone to a point where EMN has even planned to reduce its workforce as part of a $200m cost-cutting program that will include what it calls an “improved asset footprint”. This aggressive customer inventory destocking has lost EMN sales and has hit the company’s performance hard. Much of this customer destocking is due to recession fears and the current state of the economy. Though there is hope with EMN expecting aggressive inventory destocking to end early in 2023 and for volumes to recover modestly in the back half of the year, this may still continue to affect EMN throughout 2023.
Global Economic Fears
For a company that finds 55% of its sales coming outside of the United States, the state of the global economy is very important to EMN. Global economic growth is predicted to fall from 3.4% in 2022 to 2.9% in 2023, much because of the war in Ukraine and trouble with the Chinese Economy. Though global inflation itself is expected to slow in the next two years, it will still be at a high rate for most of 2023. Many European economies have shown more resilience than expected to battle fears of a global recession, however, whether or not this is enough to stave off a worsening global macroeconomic situation is still up in the air. EMN, as a company that operates and sells products worldwide, has been impacted and may continue to be impacted by uncertainty in the global economy. Impacts from inflation, higher interest rates, and the COVID-19 pandemic continue to stir up uncertainty in the global economy which could lead to a loss in business and financials for EMN.
Eastman Chemical
Valuation
From 2016 to 2021 saw free cash flow grow at a CAGR of a mere 3.2%. For our DCF analysis, we used an 11.5% discount rate and a 4.8% terminal growth rate.
However, FCF estimates sourced from 7 other analysts and compiled by TIKR terminal predict a decrease in FCF due to fluctuations in the chemical market. Taken together, the model predicts a 5.4% downside from current price levels.
Excel
ESG
EMN is an ESG stock as the company values ESG very highly in comparison to other chemical companies. In 2019 Eastman began commercial-scale chemical recycling for a broad set of waste plastics that would otherwise be placed in a landfill or incinerated. The company is committed to meeting its goal of annually recycling 250 million pounds of plastic waste by 2025. EMN wants to target non-recycled materials and leverage molecular recycling technologies to keep the materials in use by recycling them into new materials. Overall their goal is to move from a linear economy to a circular economy.
EMN has various sustainability projects. For example, in January 2021, Eastman announced the plans of its methanolysis plant in Tennessee that will convert polyester waste into durable products. Expecting to spend $250 million to build the facility, the methanolysis plant will use over 100,000 metric tons of plastic waste that cannot be recycled by current mechanical methods to produce premium, high-quality specialty plastics made with recycled content.
Eastman has also been a member of Responsible Care for 25 years. Responsible Care is the global chemical industry’s voluntary initiative to drive continuous improvement in safe chemicals management and achieve excellence in environmental health, safety, and security performance.
On top of all of this, in 2009 Eastman was awarded the Presidential Green Chemistry Challenge Award presented by the U.S. Environmental Protection Agency (EPA). The award recognizes technologies that incorporate the principles of green chemistry into chemical design, manufacture, and use.
Conclusion
EMN is a dynamic, forward-thinking chemical company that seeks to bet hard on sustainable and green chemistry to ensure long-term prospects. Its tailwinds are certainly promising and the fresh angle certainly grabs any prospective investors’ attention. However, the lukewarm financials in addition to the risky valuation make a “buy” recommendation hard and warrants a “hold” rating of EMN stock.
