Celanese: Under-The-Radar Potential Drought Beneficiary

| About: Celanese Corporation (CE)

The devastating drought this year has certainly had an impact on many stocks. Just on my watchlist, three stocks have been falling since the rain stopped falling: Hormel (NYSE:HRL), Raven Industries (NASDAQ:RAVN) and Titan Machinery (NASDAQ:TITN).

I wrote about TITN last week, and they report their Q2 earnings results in the second week of September. They are less exposed than perhaps some might think, as their dealerships are concentrated in Minnesota and the Dakotas. I listened to the HRL call just last week, and almost every analyst was curious about the potential impact of rising corn prices. On the RAVN call, the CEO anticipated the question and shared the following in his prepared remarks:

While this is very difficult for growers in certain regions as their yields are adversely impacted, we continue to see strong demand from our OEMs. Distributors are still optimistic about the overall market but are becoming cautious in some regions. The general tone we hear is that a single-year drought will be mitigated by prior year successes and a strong crop insurance system. A multi-year drought in the US would begin to have a more dramatic impact on our business.

As an aside, I wrote about RAVN in March, and the stock has returned to the $30 level. It actually hit my one-year target of $37 that I had shared at the time (note the 2-1 split), but it also dipped as low as $28, which would have offered the 30% one-year price return I suggested would be the minimum I would like to see.

While there are potential losers and surely many others besides the three under pressure from my watchlist, there are winners as well. An obvious one: Monsanto (NYSE:MON), which is getting a lot of attention for its drought-resistant seeds.

Here's one that's not so obvious: Celanese (NYSE:CE). It may prove to be a long-shot bet that doesn't pay off, but the company has been investing heavily in its TCX technology, including a project in China to convert coal to ethanol and one in the Houston area to convert natural gas to ethanol. The company announced a "Memorandum of Understanding" with the Indonesian government earlier this month as well, to collaborate with Pertamina, the state-owned energy company, to produce fuel ethanol.

I first ran across Celanese in the course of doing a project for independent research firm Management CV, when I evaluated a CEO change that took place earlier this year. The company took a long-time standing board-member, Mark Rohr, and made him CEO. I knew of Rohr, who has a great reputation in the industry, because he had been CEO of Albemarle (NYSE:ALB), which is on my watchlist.

CE is no pie-in-the-sky company: The company has a market cap of $6.3 billion. In their recent presentation at a conference sponsored by Jefferies, the slide on page 9 calls fuel ethanol a "$50 billion" opportunity. Slide 10 explains that natural gas, coal or petroleum coke (and biomass and waste in the future) are converted to Syngas and Methanol. CE's 3000 patents and >30 years of experience allow their acetyl and ethanol technologies to produce ethanol. A big test comes next year, when they begin production (with coal) in China and target the industrial ethanol market, which they size at a still quite substantial $5 billion. CEO Rohr just got back from China, where he spent four weeks, and shared some interesting thoughts. While there are probably many reasons he took this job, I can't help but think that his decision must have been due in part to his excitement over TCX.

Here's what they say in their 10-K:

In November 2010, we announced our newly developed advanced technology to produce ethanol. Celanese TCX® ethanol process technology was developed to supply current and prospective customers with ethanol for industrial purposes and for other potential uses. Industrial ethanol is used in chemical and industrial applications for the manufacture of paints, coatings, inks and pharmaceuticals. This innovative, new process combines our proprietary and leading acetyl platform with highly advanced manufacturing technology to produce ethanol from hydrocarbon-sourced feedstocks.

In 2011, we began construction of a technology advancement unit for ethanol production at our facility in Clear Lake, Texas, which is expected to be operational in 2012, and will allow us to continue the advancement of our acetyl and TCX® technologies. In addition, we plan to modify and enhance our existing integrated acetyl facility in Nanjing, China, with our TCX® advanced technology. The modifications would add approximately 200,000 tons of ethanol production capacity by mid-2013, pending approvals. We also intend to construct one, and possibly two, industrial ethanol complexes in China, following necessary approvals, that use Celanese TCX® ethanol process technology to help supply applications for the fast-growing Asia region.

Celanese is hosting a Technology Day in September, and I will be attending. I am expecting that this will go a long way with helping me to better understand the TCX technology. I think that this company is somewhat complex, with volatile end markets and lots of European exposure. The stock has rallied sharply (since the rain stopped falling!), so perhaps TCX is getting priced in, with a rally from a very oversold $33 in early July before nervous investors found out about Q2 results to a recent $40 (despite a report that led to reduced earnings expectations). Still, the stock is down 9% YTD. Further, it seems like a cheap stock. They are printing all-time high earnings (though expected to decline this year before rising again to a new all-time high next year according to the 18-analyst consensus), but the valuation is just 9 P/E and typically has traded 8-12X. I would note that their debt levels are declining, and the company's heavy CapEx spending appears to be winding down. I would expect that they can refinance some of their debt in the near future too, which could boost EPS. In any event, the valuation certainly seems fair:

I don't want to get on a political soapbox, but I am sure that even without the recent spike in corn prices, many would like to see agricultural subsidies for ethanol eliminated. CE believes that their technology will enable natural gas to be converted to ethanol. Two problems solved at once! I look forward to learning more. The drought this summer has exposed a huge flaw in our current energy strategy.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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