Braskem Stock Buoyed By A Buyout Offer (NYSE:BAK)

The climb down from record-high petrochemical spreads in 2021 has been a painful one for Braskem (NYSE:BAK), with the ADRs of this large Brazilian chemical company down over 30% over the past year – worse than peers like Alpek (OTC:ALPKF) and LyondellBasell (LYB). Not only has Braskem taken a hit from higher feedstock prices and higher industry supply, but the company has also seen unhelpful developments in its ongoing Alagoas liabilities and from Brazilian government tax and tariff actions.

As I said back in August of 2021, Braskem shares aren’t a particularly attractive option in the face of weaker spreads and weaker EBITDA, and that’s a situation that could persist for a while longer. By the same token, the shares recently hit decade-plus valuation lows (in terms of forward EV/EBITDA), and this is still a profitable, free cash flow-generating company with a respectable future. While the recently reported bid from Apollo Global Management (APO) isn’t necessarily a blockbuster offer, it could help restore confidence in the long-term outlook for this beaten-down chemicals company.

A Better Bid By Apollo, If The Rumors Are True

While there have been no official comments yet from either Braskem or Apollo as of this writing, multiple Brazilian news sources reported on October 11 that Apollo had made a new, higher bid for the company after reportedly bidding on 100% of the equity (including the shares held by Novonor and Petrobras (PBR)) back in July.

If the reports are accurate, Apollo is offering R$50/share, or around $19/ADR, or roughly double the recent low for the shares.

Apollo’s bid would certainly simplify some of the outstanding and ongoing issues that have impacted the Braskem share price – with such a deal, the question of Novonor and Petrobras selling down their stake would be resolved, as would the company’s reported efforts to get a listing on the Novo Mercado. Likewise, any concerns about further increases in liabilities tied to the Alagoas salt mining disaster, ongoing issues with Pemex supplying contracted ethane in Mexico, and Brazil’s tax and tariff policy toward the chemical industry would become Apollo’s to deal with going forward.

I won’t say that the deal is a “can’t miss” prospect for investors with longer investment horizons. Apollo’s deal works out to a roughly 5x premium to my trough EBITDA estimate for this cycle against a long-term average forward EV/EBITDA multiple of around 5.5x.

It’s reasonable to think that multiples will be compressed given the tougher outlook for spreads and profits over the next couple of years, but Braskem remains meaningfully free cash flow positive, has a manageable debt situation, and has very modest capex requirements over the next few years. While management is looking to add more green polyethylene capacity, built an ethane import facility in Mexico, and possibly engage in some international and/or vertical expansion, all of those projects can be handled relatively easily. Moreover, the company has amply demonstrated how they can leverage supply shocks to generate substantial free cash flow.

All told, this is a credible offer and one that could drive tough choices for management and shareholders. While it’s possible to quibble with the premium Apollo is offering (at the lower end of the long-term range), it’s not that far off my normalized fair value estimate and it offers the certainty of a cash buyout as opposed to waiting potentially several years for the business and share price to resume meaningful growth.

Braskem’s Ongoing Challenges Are Still Meaningful

The near-term outlook for Braskem is not exactly rosy. While this is a well-run petrochemicals company, there is little the company can do in the face of higher feedstock prices (the price of oil drives the price of naphtha, the company’s primary feedstock) and increasing petrochemical supplies. Polypropylene should hold up somewhat better, but supply shortages in the resins market have definitely eased, and China appears to be on a path to double its polyethylene capacity from 2019 to 2025.

Domestic volumes in Brazil aren’t bad (up 6% yoy and down 4% qoq in the last quarter), and the company generates a little more than half of its EBITDA from its Brazilian operations (which includes export sales), but the Brazilian economy has been looking wobblier amid a contentious election cycle. It likewise doesn’t help that the Brazilian government recently reduced tariffs on imported resins and vinyls (from around 11% to 3%-4%), a move that will add a little extra pressure to the company’s earnings over the next 18 months.

The reality, though, is that even if demand in the company’s main markets holds up (and North America and Europe dodge a recession), spreads are likely to continue declining on that combination of increased feedstock prices and improving industry supply (weakening prices). Spreads could continue to decline into 2024, and while Braskem can offset some of that with operating efficiencies, the reality is that the market is not going to be all that excited about a business where year-over-year EBITDA growth may not be meaningful until 2025.

The Outlook

Braskem’s business is tied to multiple global commodity markets, and the only certainty in modeling this company is that only by luck or happenstance will you accurately model the business beyond a year or two out (if that). To that end, it’s possible that economies around the world will slow even more than I expect, driving lower demand for resins and vinyls and even weaker profits for Braskem over the next year or two. It’s also possible that demand holds up better than I expect and feedstock prices ease off, leading to stronger profits.

I’m expecting Braskem’s EBITDA to fall roughly 60% from 2021 to 2024, but I do think the company can see solid growth again from 2024 onward on the back of its efficient global operations and emerging opportunities like green polyethylene.

Between discounted cash flow (assuming normalized revenue growth in the low-to-mid single-digits and low-to-mid single-digit FCF margins) and a forward EV/EBITDA approach (using a 5.5x multiple on the ’24 estimate), I believe $20 to $22 is a reasonable fair value range for the shares today.

The Bottom Line

Sentiment and the risk of an even sharper near-term contraction in spreads are the biggest issues I see with Braskem shares. To that end, I can definitely appreciate why some investors might view the rumored Apollo offer as “good enough” for now, particularly when the shares could be held back by a multiyear timeline for a return to year-over-year earnings growth.

By the same token, though, if the Apollo bid proves to be legitimate I believe this could establish a floor for the shares and for sentiment, with a major international investor willing to put its capital to work on the premise that recent valuations really don’t reflect the ongoing value of this company.