Methanex: Dividends Surging Back As Expected With Plenty More To Follow
Summary
- Methanex has increased their dividends by a massive 233% after reducing them to almost nothing during the turmoil of 2020.
- I have previously expected that their dividends could return and when looking ahead, plenty more should follow.
- Their operating cash flow during the second quarter of 2021 was even better than during the first quarter as operating conditions recovered.
- Their new capital allocation strategy aims to build a cash balance of $300m plus whatever is required to fund their Geismar 3 project before further increasing their shareholder returns.
- Based upon my estimations, they could achieve this goal with one year, and thus given this favorable outlook, I believe that maintaining my bullish rating is appropriate.
Introduction
When the turmoil of the Covid-19 pandemic rocked financial markets during 2020, Methanex (NASDAQ:MEOH) took the painful but fiscally conservative decision to reduce their dividends to almost nothing. Now that operating conditions have seen improvements, it has seen dividends surging back with a massive 233% increase, as my previous article expected. Although their dividend yield still remains very low at sub 2%, plenty more should follow in the future with this article providing a follow-up analysis of their recently released financial results and new capital allocation strategy.
Executive Summary & Ratings
Since many readers are likely short on time, the table below provides a very brief executive summary and ratings for the primary criteria that were assessed. This Google Document provides a list of all my equivalent ratings as well as more information regarding my rating system. The following section provides a detailed analysis for those readers who are wishing to dig deeper into their situation.
Image Source: Author.
Detailed Analysis
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Instead of simply assessing dividend coverage through earnings per share, I prefer to utilize free cash flow since it provides the toughest criteria and best captures the true impact on their financial position. The extent that these two results differ will depend upon the company in question and often comes down to the spread between their depreciation and amortization to capital expenditure.
The strong performance they saw during the first quarter of 2021 actually accelerated in the second quarter with their operating cash flow for the entire first half sitting at an impressive 24.76% year-on-year versus 17.36% year-on-year during just the first quarter. This has helped push their operating cash flow to $410.4m and whilst this already almost equals their entire full-year result from 2020, it was still actually weighed down with a material working capital build. If these are removed their underlying operating cash flow increases to $516.3m, which sits a very impressive 167.44% higher year-on-year versus their equivalent result of $193m during the first half of 2020.
Thanks to this strong cash generation, they already produced $134.2m of free cash flow before reversing out their working capital build, which gave management the confidence to start reversing their quarterly dividend reduction with a massive 233% increase to $0.125 per share. Given their latest outstanding share count of 76,207,617 this will only cost them $38.1m per annum, which is obviously very strongly covered by their free cash flow and thus leaves scope for plenty more dividend growth to follow. This obviously left management fielding questions regarding their capital allocation strategy during their second quarter of 2021 results conference call with the quote included below providing a concise overview.
“So we want to maintain $300 million of cash, plus the additional whatever G3 spend is left on the balance sheet. Once we've achieved that, we will start to return more cash to shareholders flexibly like we've described and that could, would include buybacks…”
-Methanex Q2 2021 Conference Call.
It appears that management is taking a very fiscally conservative approach to their capital allocation strategy, which entails building their cash balance higher to not only provide a $300m buffer but also hold whatever is required to fund their flagship Geismar 3 project construction. Whether investors prefer this approach versus a more aggressive one that sees higher cash returns in the short-term is open for personal opinion but objectively speaking, this strategy significantly lowers the risk profile of their shares whilst still providing room for plenty more in the future.
After pausing the construction of their Geismar 3 project earlier during 2020, they have now announced that construction will restart with total costs of $1.3b at the midpoint being slightly lower than previously expected, as per their news announcement. Since part of the construction has already been completed, they are expecting that the remainder will cost $850m at the midpoint after construction officially restarts during October 2021. Given the size of this large project that forms the centerpiece of their capital allocation strategy, it will be important to consider their financial position.
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When reviewing their capital structure, their current cash balance stands at a solid $763.8m and thus not too far away from their goal of $300m plus the remaining $850m of capital expenditure required to fund their Geismar 3 project. When added together these equal $1.15b and thus indicate that they need to build approximately another $386.2m of cash before reaching their goal and thus increasing their shareholder returns.
Due to the way that methanol prices fluctuate like other commodities, it remains impossible to know for certain exactly how long this will take but an estimation can still be taken based upon their recent cash flow performance. During the first half of 2021, they generated $134.2m of free cash flow and as previously discussed, this was weighed down by a large working capital build of $105.9m. This means that without their temporary working capital movements, they can generate $240.1m of free cash flow half-yearly absent of their Geismar 3 project capital expenditure, which equals $480.2m per annum. Once subtracting their $38.1m of annual dividend payments, it leaves them with approximately $442.1m of free cash flow after dividend payments and thus easily capable of boosting their cash balance to reach their goal.
Even though methanol prices could vary in the future, this still indicates that in the current market conditions they could reach their goal within less than one year, which is not particularly long to wait for higher dividends and share buybacks. If interested in further details regarding the upper potential of their future dividends, please refer to my previously linked article. Whilst they will restart construction on Geismar 3 within this one-year timeline and thus pull back on this free cash flow, it will also reduce the total capital expenditure remaining and required cash balance by the same extent, which nets out and thus does not impact this estimated timeline.
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Whilst their leverage increased during 2020, thankfully this was only due to the earnings component of the equation being impacted by the severe downturn and now that operating conditions have recovered, it can be seen that their leverage remains within the low territory. This is primarily evidenced by their net debt-to-EBITDA of 1.26 and net debt-to-operating cash flow of 1.38, which both represent small improvements during the second quarter of 2021. Even though management is taking a very fiscally conservative approach by internally funding their Geismar 3 project, this means that they could easily handle the use of debt funding and ramp up cash returns to shareholders in the future.
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Whilst their respective current and cash ratios decreased slightly during the second quarter of 2021 to 2.05 and 0.89 versus 2.11 and 1.00, they still easily remain strong. Given their strong cash flow performance and goal of internally funding their Geismar 3 project, they should have zero problems with liquidity and future debt maturities that are not due until 2024 at the earliest, as the table included below displays.
Image Source: Methanex Q2 2021 6-K.
Conclusion
Even though their dividends have still not returned fully to their previous glory, they have made very substantial progress, and looking ahead, there should only be approximately a one-year wait with plenty more to follow. Following another strong set of financial results and a positive outlook, I believe that maintaining my bullish rating is appropriate.
Notes: Unless specified otherwise, all figures in this article were taken from Methanex’s SEC Filings, all calculated figures were performed by the author.
This article was written by
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such 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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Comments (2)
Why Build Geismar 3 when Trinidad is just over there...? NO Gas? Plant has been Idle for YEARS... Ditto Chile... running at 50%