Analyst Looks at Pros and Cons of Potential Albemarle Corporation, SQM Deal

Albemarle Corporation (ALB: Hold, $121 PT) 
Preliminary Thoughts on a Potential SQM Deal

• Could ALB acquire POT’s 32% stake in SQM? Bloomberg reported this morning that Albemarle is among the companies interested in acquiring Potash Corp.’s (POT) 32% ownership stake in lithium peer SQM (Chile), according to El Mostrador, a Chilean newspaper. We are not surprised that Albemarle would evaluate this opportunity (why not?), but it remains to be seen whether a transaction will come to fruition. Bloomberg cites “interest from Chinese, European and South Korean companies”, and such a deal would be for a minority stake with a healthy dose of complexity, including anti-trust considerations that could be less than ideal for seller POT.  In this brief note, we offer our preliminary thoughts on the pros, cons, and financial ramifications of a potential $4.5bn deal. Our conclusion: interesting, but “hairy” and unlikely.

• Pros: asset quality, scale, and likely board representation. We see several angles that would be enticing to a prospective acquirer of SQM. These include: (1) a market leading position in lithium, supported by attractive assets with a lower left position on the global cost curve; (2) likely representation on SQM’s board of directors, which could… 

• Cons: anti-trust, lack of control, Corfo dispute, and sovereign risk. While potential benefits are sizeable, we also see numerous issues that could give pause to ALB as a buyer and, in some case, perhaps also POT as a seller: (1) Albemarle’s global share of the market in terms of lithium carbonate equivalents (LCE) would rise to 36% on a 2018P proportional basis from 29%, which could spark anti-trust concerns; (2)… 

• An acquisition of POT’s stake would be accretive, but stretch the balance sheet. As shown in Figure 3, we estimate that the acquisition of Potash Corp’s 32% stake of SQM at a hypothetical market premium of zero would deliver $0.18 of EPS accretion, or just under 4% of our 2018 EPS estimate of $4.85. This math is based on… 

• A deal could put ALB on a parallel path with POT’s former strategy. Under the leadership of former CEO Bill Doyle, Potash Corp. (POT) pursued a strategy in potash nutrient that one might describe as “world domination” for lack of a better term. This strategy entailed the accumulation of minority stakes in four global potash players, including SQM (Chile; 32% stake), ICL (Israel; 14% stake), Arab Potash (Jordan; 28% stake) and Sinofert (China; 22% stake), with an eye toward gaining control over time. This approach bore fruit in the form of… 

• We rate ALB shares Hold with a target of $121. Our target suggests limited potential for upside from current levels, including a dividend yield of 1.0%. Our target is based on the average of two methodologies: DCF and relative P/E multiple. Our 10-year DCF analysis featuring a stage one EBIT growth of 7%, a terminal growth rate of 3%, and a weighted-average cost of capital of 7.8% yields a warranted equity value of $110. On a relative P/E basis, we assign a multiple premium of 50% to the S&P500 index multiple of 2018 net earnings, which results in a warranted equity value of $133 per share.  ALB shares trade for 16.1x our 2018 EBITDA estimate as compared to our coverage average multiple of 10.5x and 12.5x for other specialty chemical names. On a relative basis, ALB shares currently trade at a P/E of 1.50x that of the S&P500 index vs. a 5-year average of 1.01x. We view this relative premium as elevated yet defensible in light of legislative support for lithium demand (phase-out of combustion engines in various countries), portfolio upgrades in recent years, and under-leveraged balance sheet. Our sum-of-the-parts analysis suggests that the market is essentially assigning lithium a multiple of 23.6x 2018 EBITDA, which we consider to be full given our view of cycle timing with the spot price of lithium carbonate (LC) having tripled in 2016. 

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