Kem One - Uncertain times ahead - Initiation

All,

Please find our model on Kem One here.

After a brief conversation on the desk, the consensus is that Kem One is not investible at the current time. The current outlook for PVC and caustic soda, especially given the excess capacity in the European market, implies EBITDA will remain subdued in the coming quarters. But there is no near-term trigger to cause the bonds to fall. Liquidity is tight, but volumes should pick up in the coming quarters, providing some relief to the Company. We will continue to monitor the situation, but we are not minded to take a position at the current time.

Investment Considerations:

- We are not taking a position in Kem One bonds at the moment. This business is unsustainable and barely remains EBITDA positive at current PVC and caustic prices. We have modelled an uptick in volumes for FY25 but no uptick in pricing.

- It begs the question, why aren't we going short the name? Ultimately, the business has invested heavily in capex in the last couple of years which would have expected an economic return. Specifically, during FY24, Kem One has invested c. €150m in CAPEX on upgrading one plant. This would not have been undertaken given our current projections and therefore we feel we are missing some data points.

- On current projections, Bankruptcy is highly probable, and cashflow is likely to remain tight for Q4 24. Without an uptick in economic activity and demand, the company may have to seek court protection in FY25.

- The question remains whether the shareholder will inject fresh cash given the level of investment in the Company since its acquisition in 2021.

Next Steps:

- On current projections, the business potentially may run out of cash in FY25 (this is despite drawing €40m of RCF in Q4 ’24). Company management has not been helpful to creditors and appears willing to see bonds trade down. The bonds should be significantly lower than current levels on recent EBITDA numbers, which begs the question Are Apollo buying the bonds?

- Regardless of Apollo’s actions in the bonds, we don’t see Apollo losing control of Kem One in the short term due to liquidity concerns. Although there is some room under the bond documentation, the easiest way for Apollo to provide liquidity is to buy out the RCF. This would enable them to waive the covenants and provide €100m of liquidity (currently restricted to 40% as in breach of covenant).

- This approach allows Apollo to keep 100% of the equity, no process risk from a court process and boosts its returns by providing the RCF on a higher coupon basis. No bondholder approval is required.

- We don’t see a liquidity need before March/April at the earliest, and therefore, we don’t expect any Company announcement until Q1.

Model:

- Kem One operates in a volatile industry and it is difficult to assign any credence to EBITDA projections for the business. Company management is particularly unhelpful providing no guidance, even for one quarter ahead.

- In this context, we have assumed no price movement over the coming 2yrs. We have modelled an improvement in volume, as Kem One exits various scheduled shutdowns and the completion of the electrolysis production process at Fos.

- This results in an EBITDA of c. €117m which is higher than S&P's expectations of €60-70m. Without any improvement in volumes, we project steady state EBITDA to be c. €85m.

- Our base case EBITDA is c.€100m, which we calculate from annualising EBITDA generated in Q2 & Q3 2023 when the chlorovinyl spread first hit the current lows.

- The other unknown is the correct level of maintenance and overall CAPEX. Maintenance CAPEX was expected to be c.€50m p.a. but the Company has consistently exceeded this level. We use €80m as our base projections, which coupled with c.€35m of interest payments, the minimum EBITDA required to remain cash neutral is c.€115m.

- The business does not have enough liquidity, even at our €117m EBITDA projections to meet any external or external shock. Note: we have assumed the RCF will be 40% drawn in Q4, the maximum allowed given the current leverage.

Background:

- A leading European chlorovinyls producer based in Lyon, France. Kem One is the second-largest producer of polyvinyl chloride (PVC) in Europe and the largest producer in France and Italy. Kem One is also the second largest producer of chlorinated polyvinyl chloride (C-PVC) and chloromethanes in Europe, the fourth largest producer of paste polyvinyl chloride (P-PVC) in Europe and the largest producer of caustic soda in Southern Europe and the Mediterranean.

- Originally part of the chemical segment of Total Group, it was spun out from Arkema in FY11. Kem One was sold to Klesch Group in November 2011 for a negative consideration, but even with €100m cash dowry plus Arkema assuming the debt, Kem One filed for receivership in 2013.

- Business emerged in 2014 under the new ownership of Alain de Krassny. de Krassny sold the business to Apollo in 2021. Under the previous ownership (unclear at what price it was acquired), €562m was invested in Kem One's plants to upgrade the assets, structurally lower the cost base improve plant reliability.

- Kem One bought back €38m of bonds during Q1 23. Unsure when they sold €8m but currently own €30m of bonds. (Not cancelled and classified as cash or marketable securities). We have adjusted our cash figures accordingly.

Market:

- Prices are at a depressed level, with chlorovinyls spread remaining at a depressed level since mid-2023.

- The anti-dumping measures preventing imports from the USA and Egypt appear to have a limited impact on overall pricing.

- Overall, the market is driven by the lack of demand, especially in the Construction and Building industry.

- European volume production is only at 60-70% indicating any increase in demand is likely to be met by excess capacity and won't necessarily improve pricing.