Kem One - some clarity, lots of uncertainty
All,
Please find our updated analysis post the cleansing document on the new super senior facility here.
The new Draw Term Loan has given clarity and liquidity to Kem One. However, the fundamental problems remain. The prolonged downturn in recent years in the chemical industry has resulted in persistently depressed selling prices. The €200m 5-year facility provides the company with sufficient funds to continue to trade through FY25 and continue its capital expenditure on modernising and upgrading its facilities. Taking a view on the chemical sector outlook, in general, remains difficult, but the production issues experienced by Kem One during FY24 highlight some idiosyncratic risks, which are not sufficiently compensated for by the 15% YTM on the bonds.
Investment Considerations:
- Despite clarity on future liquidity, we are not taking a position. The bonds are now offered at 75%, which yields 17% but the Company projects leverage above 7.0x by year-end, with production volumes not expected to reach FY21 levels until FY27.
- The Company projects the typical hockey stick upward trending EBITDA, improving further in FY26 & FY27. This is despite a well-flagged increase in electricity prices for Kem One, following the end of the ARENH (Regulated Access to Historic Nuclear Electricity) legislation in December 2025.
- The Company is expecting the "spread" to gradually recover to normal market conditions. There are no visible signs of this in the wider market.
- FY24 reported EBITDA was €9m which was impacted by several factors, all of which Kem One deemed "non-recurring". In total the impact was €47m, and although the majority were exogenous, it is difficult to believe they are all non-recurring production issues.
- We understand the rationale for the bonds to rally after securing the additional liquidity, but it is still too early in the cycle to take a view on the underlying volume and market pricing of ethylene & PVC.
- A significant portion of the cleansing presentation focuses on “self-help” measures regarding cost savings etc, but the bond price will ultimately reflect the broader market expectations for the building and construction industry.
- The Company has sufficient liquidity for a couple of years, but an 8.5% running yield is not sufficient to compensate for the market uncertainty and the layering from the necessary deal. Therefore we are not investing currently.
Summary:
- EBITDA at Kem One has fallen substantially, turning negative in Q3 and ended provisionally at €9m for FY24. This is due to lower volumes, exacerbated by facilities taken offline for refurbishment and some external supply factors. All combined, The Company would have breached its covenant under its RCF.
- Therefore, the Company sought a new Super Senior Facility to repay the RCF and provide additional liquidity through FY25-FY27. The new facility, €200m in size, was obtained without the need to negotiate with bondholders (there was sufficient flexibility under the terms of the bonds to enable raising this super senior facility).
- €120m is to be funded at closing and €80m effectively as a new RCF (available for 18 months in up to 3 draws). The headline looks higher than our original assumption of €100m and €150m+, but the actual need is €100m now, as we projected, with the €20m used to meet a new minimum cash covenant of €25m.
- Kem One is the 2nd largest European PVC manufacturer, based in Southern France. PVC demand has fallen over the last couple of years due to lower economic activity, especially in the building and construction sector.
- Kem One has undergone significant capital expenditure over the prior 10 years upgrading the facilities.
Company Projections:
- Kem One has used a bottom-up monthly forecast through 2027 (shown in detail on the Excel and pdf). The forecast reflects management's view and includes the benefits of some further initiatives to drive EBITDA expansion. These initiatives are vague in detail but combined are supposedly €45-50m in total. As an example, Kem One management believes they can achieve €15-20m of savings from securing lower ethylene prices through strategic renegotiations with suppliers and upgrading the infrastructure. We would question the achievability of this, as Kem One has been privately owned for 4yrs now and these savings would have already been pursued.
- The price assumptions of the key variable costs, ethylene, electricity and gas are informed by the market index from October 2024 and management's assumptions. Core product volume is assumed to reach full capacity by 2027. Post 2025, a decline in CAPEX is primarily driven by reduced development and turnaround expenses.
Future CAPEX:
- Kem One has spent €800m on capital expenditure between FY18 and FY24 in an attempt to modernise, reduce energy consumption and lower variable costs. These include the Fos Conversion (€190m), Lavera Conversion (€176m), a new ethylene terminal at Fos (€84m) and VCM barges (€24m) bringing some transport in-house.
- The Fos Conversion, launched in Q4 '22 is expected to bring €24-36m of EBITDA savings, of which €20m are variable costs. €41m of CAPEX remains to be funded in H1'25. The conversion is expected to be completed in Q1 '25.
Kem One will also have to invest further CAPEX at its Brine Wells. Two Vauvert wells are approaching the end of life, which will require additional drilling (two doublets - a doublet is two boreholes, one for extracting and one to reinject) that will come online in October 2025 and February 2026. Kem One has not provided any guidance on the quantity of CAPEX associated with this investment.
2024 Non-recurring events:
- Caustic Soda (€11m impact) = During FY24, Kem One was short caustic soda and purchased at higher prices than Kem One's production costs to meet customer orders.
- Force Majeure (€5m impact) = October 2024, Kem One's ethylene supplier (Ineos) declared a force majeure, restricting production.
- Salt Shortage (5m impact) = Kem One's own mines had production issues in leading to shortage, resulting in external purchases and lower PVC and caustic sales.
- Berre Site (€4m impact) = Limited information, but the facility was unavailable for some time.
- Balan Site (€2m impact) = Reliability issues.
- Bulk discount loss (€9m) = Because of the lower production levels, the average purchase price of ethylene was higher, due to the loss of procurement discount.
-- Fos turnaround (€9m) = Fos site is offline due to CAPEX spend, reducing caustic production.
Sarria’s view on projections:
- Management's projections appear bullish overall, with a high level of future cost savings expected to drive EBITDA improvement.
- We have some concerns regarding the level of CAPEX that we infer from the limited projections provided by the Company.
- 2024 EBITDA was impacted by several non-recurring production events but we don’t think it prudent to assume all of these issues are one-off impacts.
Happy to discuss.
Tomás
E: tmannion@sarria.co.uk
T: +44 20 3744 7009
www.sarria.co.uk