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Summary

  • Acquisition of Vinnolit adds a third to total revenues.
  • Acquisition is immediately accretive to earnings and is attractive both on a relative and absolute basis.
  • Yet Westlake's overall valuation is a bit steep given the cyclicality of the business, making me wary to invest at current levels.

Westlake Chemical's (NYSE:WLK) shares set fresh all time highs after the company announced a rather sizable acquisition of Vinnolit Holdings in a deal which adds roughly a third to annual revenues.

Despite the appealing deal on an absolute and relative nature, I remain worried about the cyclical nature of the business, my reasons to refrain from investing at the moment.

The Deal Highlights

Westlake announced that it has entered into an agreement to acquire Vinnolit Holdings, a German subsidiary of private equity firm Advent International.

Westlake will pay $667 million for the global leader in specialty polyvinyl chloride resins. The company employs six production facilities in Germany and the UK with a total production capacity of 780,000 tons of PVC, 665,000 tons of VCL and 475,000 tons of membrane grade caustic soda. The German company employs some 1,400 workers at the moment.

The deal is set to close in the third quarter of this year following expected regulatory approval.

Implications Of The Deal

Vinnolit's products are used in a wide range of industrial and building product applications as the company reported revenues of 917 million Euro over the past year. The price tag implies a 0.5 times sales multiple being applied to the deal. Note that 90% of Vinnolit's sales are derived from Europe, with 40% being generated in Germany.

With the deal, Westlake expands its global chlorvinyl business while adding specialty PVC products as well as technology to its portfolio.

According to the deal presentation, Westlake pays a 6 times EBITDA multiple for the company in a deal which is expected to be immediately accretive to its earnings per share.

As a result of the deal the share of Vinyls sales of the new combination will increase to 49% of total revenues with Vinnolit being a pure player. The original Westlake Chemical derived a little less than a third of revenues from Vinyls sales. Olefins sales will now make up 51% of total revenues on a pro-forma basis.

Attractive Valuation

For a $677 million price tag Westlake will buy a $1.22 billion revenue business at 0.5 times annual sales while paying a 6 times EBITDA multiple.

This compares to a $10.3 billion valuation for its own shares at $77 per share. This implies a 2.7 times revenue multiple for its own business which generates $1.22 billion in EBITDA. Based on this earnings metric, the own business is valued at 9 times EBITDA.

In this light the 6 times EBITDA multiple being paid seems very appealing, as a 9 times multiple would result in a billion price tag. The $300-$350 million difference between the hypothetical and actual price paid implies that the news could send shares of the company some $2.50 per share higher.

Implications For Investors

On the back of the deal shares of Westlake have risen to fresh all time highs although momentum has already been really strong in recent times. In 2012 shares roughly doubled from $20 to $40 at the start of 2013, to double again to current levels which approach $80 per share.

Unlike many other big chemical businesses the company operates with a roughly flat net cash position before the deal has been announced, while leverage is well contained following the closure of the deal.

Shares trade at 17 times earnings based its trailing earnings which is simply too steep for me. Remember that Westlake is a cyclical name, a fact which appears to be forgotten over the past two years. The deal makes perfect sense on absolute and relative metrics, yet I worry about the long term prospects given the cyclicality of the industry.

Source: Westlake Chemical - Appealing Deal, Yet Overall Premium Valuation Is Not Warranted