Eastman's Legacy Of Innovations Will Prevail In A Slow Growth Environment

| About: Eastman Chemical (EMN)
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Summary

With -4.12% share price losses in the previous 5 sessions, there appears be a slight, pessimistic tone.

EMN is taking significant action to mitigate the impact of the challenges.

The company is well-positioned for growth as these short-term challenges recede and their strong growth drivers continue.

Eastman Chemical Company (NYSE:EMN) is a specialty chemical company that manufactures and sells materials, chemicals, and fibers in the United States and internationally. They offer a robust A-W catalog of products from Acids - used in a variety of applications from perfumes to Kosher butyric acid produced under rabbinical supervision - to Water-Dispersible Polymers you'll find in hair sprays or adhesive applications. Since its origins during World War I, where scarcities in raw materials prompted founder George Eastman (Eastman Kodak) to create his own independent supply of chemicals, the company has not wavered in its heritage of innovation that marks Eastman as a leader in the global chemistry industry.

Presently, with -4.12% share price losses in the previous 5 sessions, there appears be a slight, pessimistic tone, particularly noted by Mark J. Costa - Chairman & Chief Executive Officer. On May 10, 2016, Costa sold 38,400 shares of his own holdings - not exactly the example of confidence investors like to see- particularly when its followed by Q2 results that communicated the headwinds of lower olefin margins and significant change in Eastman's expectation that U.S. ethylene prices were not tracking up with oil and global ethylene prices.

A Brief Lesson in Chemistry

Ethylene is a colorless, odorless gas, classified as an unsaturated hydrocarbons -meaning simply that it is slightly soluble in water and undergoes what's called "addition reactions" where two or more molecules combine to form a larger one. It is found in trace amounts in nature and plays an important role in the ripening of certain fruits. Ethylene production is the economic indicator of the organic chemical industry. It is made by steam cracking of petroleum, usually with co-production of propylene, and both hydrocarbons are primary feedstocks of the petrochemical industry that makes polymers, plastics, rubber, fibers, resins and solvents - hence, it's significance to Eastman's aforementioned portfolio of products.

Shareholders may recall back in January when EMN hired investment bankers to relaunch the process of divesting its excess ethylene at Longview, along with other olefin commodities. The news was somewhat of a harbinger of excess supply pressure as slow economic growth is not sufficient to absorb the large amount of capacity that's been built in a number of products, especially in China, for Eastman's Chemical Intermediates.

CEO Costa was straightforward on the Q2 call when he said that, "EPS expectations for this year are not where we want them to be, and we're not happy about that." He went on to assure shareholders that, "…we are taking significant action to mitigate the impact of the challenges we see in front of us. We are using all levers to improve results, not just in 2016 but going forward. For me, that begins by maintaining our commitment to innovation and market development and doing everything we can to accelerate growth from these platforms."

Innovation Has and Will Continue to Be Eastman's Strength

During the quarter, Eastman continued to upgrade the quality of their product mix by growing high-margin specialty product lines particularly in Advanced Materials and Additives & Functional Products. In the first half, AM delivered 14% growth over last year on top of 40% growth in 2015 over 2014 and they did it primarily through organic volume.

One of Eastman's most recent, prominent examples of innovation has been the introduction of Omnia that demonstrates the company's commitment to meeting market needs with sustainable, "green" products that reduce toxicity and environmental impact. They've developed a technology process that allows them to create new molecules, when combined in the finished products, become effective in a variety of light- and heavy-duty cleaners that are competitively priced in the market.

Another notable innovation worth mentioning includes the successful launch of Crystex, a new technology that, "pushes the boundaries of thermal stability, dispersion and flow." Essentially, important properties of insoluble sulfur, which helps EMN's customers maximize the productivity of their operations

Looking Ahead

Eastman is on target with the cost reductions they implemented earlier this year. One example for the company that employs about 15,000 around the world, including more than 6000 in Kingsport, Tennessee, is the acknowledgement earlier this month of a cut in retiree benefits. And, as the challenges they face have increased, the company will be removing at least another $100 million of cost towards the end of this year "to ensure that we deliver attractive earnings growth next year."

Conclusion

I maintain a cautious, but optimistic outlook for Eastman as it remains committed to innovations, cost reductions, and the process of divesting their merchant ethylene capacity. Eastman is currently in, what they admit, is a "slow growth environment." They are, however, well positioned for growth as these short-term challenges recede and their strong growth drivers continue.

While it is tempting to open a new position in a company with nearly a century of proven success and a strong dividend which they promise to increase, I remain on the sidelines for the short-term. Also, their combined set of actions that they expect to produce 8-12% EPS growth in 2017 prompts me to maintain a close watch. In conclusion, although I remain circumspect to invest in EMN as of this writing, I am certain that they will eventually regain traction and continue to deliver attractive earnings growth in the long term.

Disclosure: I/we 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.