Methanex: A Unique Play on a Promising Technology

Mar. 2.11 | About: Methanex Corporation (MEOH)

Methanex (NASDAQ:MEOH) (a Canadian company) is the largest producer of methanol in the world and probably the only vehicle a retail investor has available to invest in the future of methanol. Methanol is a liquid (often called a "room temperature liquid" to distinguish it from LNG) which can be produced from coal, natural gas and agricultural products. It is primarily an industrial chemical used in numerous applications (e.g.,to make formaldehyde or as a constituent in windshield wiper fluid), but it has been increasingly used as vehicular fuel. In the United States, it is used in racing cars and monster trucks.

The real expansion in vehicular fuel use has been in China, where methanol is being widely used as a blended fuel with gasoline. Recent studies by MIT identify methanol as the most readily available means for natural gas to make its way into the transportation fuel market.

The Chinese demand for methanol as a motor fuel has created a strong demand and has allowed methanol to trade up with petroleum (although it is still cheaper on a BTU basis). Little new methanol production capacity seems to be on line to be added in the next few years, and it appears that growing Chinese demand for methanol as a motor fuel will allow the market to remain strong unless the petroleum market collapses. Demand for methanol as an industrial chemical has increased with the economic recovery and appears to be solid.

Methanex has plants on line, or soon to be on line, in Chile, Egypt, New Zealand, Trinidad, and Canada. The capital spending for these plants is largely completed. It is about to add significant capacity which would give it the ability to produce 8 to 9 million tonnes of methanol a year. It also has a fleet of methanol transport ships and a strong marketing organization. Its major problem has been that some of its capacity has been idled due to the unavailability of natural gas or, in the case of Egypt, local disruption.

Thus, its recent earnings are considerably below the levels it could achieve if its capacity were more fully utilized. It closed Tuesday at $28.35, which was 26 times trailing earnings but only 14 times consensus calendar year 2011 earnings and 9.6 times consensus 2012 earnings. A case can be made that, at a high level of capacity utilization, Methanex (with a current market cap of about $2.5 billion) could achieve EBITDA of roughly $1 billion. Methanex pays a 62 cent dividend which is likely to increase this year, and has a current dividend yield of 2.2 percent.

Methanex should prosper and move up in value if it can increase capacity utilization and if the Chinese methanol market continues to grow. It could be a "home run" investment if methanol is adopted as fuel blended with gasoline in a number of other countries, or if Methanex is acquired by a large oil or chemical company.

The case for methanol as the transportation fuel of the future is powerful. The enormous price disparity between petroleum and natural gas creates a strong incentive to displace petroleum with natural gas wherever possible. The other alternative means of getting natural gas into the transportation market (CNG, LNG, electricity) all require considerable more investment both in infrastructure and in the vehicles themselves than does a methanol blend. The technology for converting natural gas to methanol is well established. Because methanol can also be made from agricultural products, it could be a "bridge" to a renewable transportation fuel future.

Methanex seems to have its arms around the capacity utilization problem. It anticipates that the delay in getting the Egypt plant on line will be short. There has been a sharp increase in natural gas exploration and development in the vicinity of its Chilean plants. The Canadian capacity comes on line soon and there should be no problems with supply.

There is another country in which I think Methanex should consider building a plant. It has abundant natural gas resources and seems to have a desire to reduce oil imports. On the downside, it has had a brutal civil war and the current government is unpopular with large demonstrations in a number of regional cities. There is also a tradition of politicians seeking to expropriate the earnings of the energy industry through "windfall" profits taxes whenever prices go up.

As an added problem, it has a bizarre procedure in which a randomly selected group of citizens can be convened and can issue a "damage" award against a business based on vaguely defined "civil wrongs." To top it all off, it measures weight, length and volume with a confusing system used nowhere else in the world. Despite all of these problems, I still think Methanex should consider opening a plant here in the United States.

As a matter of public policy, methanol should be high on the list of strategies for getting the United States off imported oil and replacing it with a fuel which will create jobs and revenue here at home. It can be deployed relatively quickly without the uncertainties which beset some of the alternative strategies for using natural gas as a transportation fuel.

I think MEOH is a solid investment at this price. It has the potential to increase earnings enormously with most of its capital spending behind it. It is a unique play on a promising technology and could experience enormous appreciation if the methanol strategy for displacing oil with natural gas is widely adopted.

Disclosure: I am long MEOH.