Chemtura to Review Options, Including Possible Sale

Nancy Seewald. Chemical Week. New York: Jan 7-Jan 14, 2008. Vol. 170, Iss. 1; pg. 9, 1 pgs

Abstract (Summary)
Chemtura says its board has authorized management to consider a wide range of strategic alternatives available to the company to enhance shareholder value. Strategic alternatives to be considered may include, among others, select business divestitures, value-creating acquisitions, changes to the company's capital structure, or a possible sale, merger, or other business combination involving the entire company, Chemtura says. Chemtura announced last April that it would eliminate about 620 jobs, or 10% of its global workforce, as part of a restructuring plan that would result in about $50 million/year in costs savings beginning in 2008.
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Copyright Chemical Week Associates Jan 7-Jan 14, 2008
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UNITED STATES/AMERICAS



Chemtura says its board has authorized management to "consider a wide range of strategic alternatives available to the company to enhance shareholder value." The company has formed a committee of independent directors to oversee the process and has retained Merrill Lynch to act as financial adviser.
"Strategic alternatives to be considered may include, among others, select business divestitures, value-creating acquisitions, changes to the company's capital structure, or a possible sale, merger, or other business combination involving the entire company," Chemtura says.
"We interpret the announcement as a signal that Chemtura's fundamentals, heavily dependent on housing and auto, have taken another step down after two years of unabated deterioration," says Edward Yang, analyst at CIBC World Markets (New York). "Three major restructurings in two years, an activist shareowner, and high management churn make a potential breakup likely."
Chemtura announced last April that it would eliminate about 620 jobs, or 10% of its global workforce, as part of a restructuring plan that would result in about $50 million/year in costs savings beginning in 2008 (CW, April 11/18,2007, p. 9). Under the plan, it discontinued antioxidant production at its Pedrengo and Ravenna, Italy facilities during third-quarter 2007 and sold its $20million/year organic peroxide business to Pergan (Bocholt, Germany) last June (CW, June 13, 2007, p. 39). Chemtura also sold its $35-million/year optical monomers business to Acomon (Zug, Switzerland) last October in order to "place greater focus on its core businesses."
Chemtura named Edward P. Garden, a principal and co-founder of hedge fund Trian Fund Management (New York), to its board last year after the fund acquired a nearly 5% stake in company. Trian says it "seeks to invest in undervalued and under-performing public companies, and prefers to work closely with the management of those companies to effect positive change through active, handson influence and involvement."
Industry sources say that Chemtura had received bids from possible buyers, including private equity firms, in early 2007, but that a deal was not completed.
Chemtura says it does not expect to disclose any further developments regarding its exploration of strategic alternatives unless and until the board completes the review.
Chemtura's earnings improved in the most recent quarter for which it has reported. It posted third-quarter net income of $2 million (1 cts/share) including special items, compared to a $40-miIIion loss in the year-ago period. Sales rose 9%, to $950 million. Chemtura says it expects continued improvement in the fourth quarter, due in part to increased demand from the electronics industry.
NANCY SEEWALD

Chemtura to Review Options, Including Possible Sale

§ Chemtura says its board has authorized management to consider a wide range of strategic alternatives available to the company to enhance shareholder value
§ Chemtura → consider a wide range of strategic alternatives available to the company to enhance shareholder value → formed a committee of independent directors to oversee the process → Merrill Lynch to act as financial adviser
§ Strategic alternatives
o select business divestitures,
o value-creating acquisitions,
o changes to the company's capital structure,
o possible sale,
o merger,
o other business combination
§ Chemtura's fundamentals → heavily dependent on housing and auto
§ Restructuring plan → eliminate about 620 jobs → would result in about $50 million/year in costs savings beginning in 2008
§ In order to "place greater focus on its core businesses”
o Discontinued antioxidant production
o sold its $20million /year organic peroxide business
o sold its $35-million/year optical monomers business
§ Hands-on influence and involvement
o seeks to invest in undervalued and under-performing public companies
o prefers to work closely with the management of those companies to effect positive change through active
§ Chemtura → it does not expect to disclose any further developments regarding its exploration of strategic alternatives → unless and until the board completes the review
§ Chemtura's earnings improved in the most recent quarter for which it has reported
o Third-quarter net income of $2 million including special items → Sales rose 9% → $950 million

Tying Free Cash Flows to Market Valuations

Introduction
Fixing Financial Statement → Financial Statement Overhaul
Traditional Financial Statement → redesign → useful for meaningful financial analysis, decision making, and value creation
Fundamental objective → increase shareholder value → increasing NPV of the future cash flows

Relating Free Cash Flows to Market Values
Firm market value → collective judgments of the shareholders
Constant expected cash flows → market value → constant
Expected cash flow increase → market value → increase
Recasting → more explicit & clear → Reach clearer calculation
Assume Free cash flow $100m → continue to perpetuity
i. Perpetuity valuation → capitalize annuity stream → using cost of capital → assume 10% as discount rate
ii. FCF of $100m → divided by 10% yield → NPV → $1Bill
iii. NPV = “entity value” → represents → $$$ should be paid today → to access that future stream of cash flow
$$$ Debt → Subtracted firm entity value → determine → $$$ value accrues to entity
i. If Market value exceed equity value → expect FCF improve
ii. If Market value less equity value → market expect eroding CF
Perpetuity negative value → result negative value → Negative starting cash flow → impossible to generate positive market value
Firm market value x estimated Cost of Capital → FCF in perpetuity
The amount → compared with current cash flow → how much improvement
Dot-com company → $ 10bill market value + 15% estimated cost of capital → can generate $1.5Bill FCF + zero debt
i. Negative CF → see how much improvement need → and decide
Free Cash Flows
i. Management → regularly undertake process
ii. Invertors → should do the same for each investment

Managing for Free Cash Flows and Shareholder Value Creation
It’s a management’s fundamental responsibility → increase shareholder value
Require → NPV increase
Three ways to do:
i. Increase cash earnings
1. Growth → in and of itself
2. Won’t do it → No Profitable growth
3. Cost management → Differ from cost reduction
a. Spending more → increase cash earnings and FCF
4. Good Cost Management:
a. Spending to develop new products or support customers
b. Find ways to take out cost from product → no affect to perceived value
c. Reducing administrative cost

ii. Reduce investment
1. Managing working capital & other assets → tightly → means
a. collecting receivable quickly
b. turning inventories faster
c. focusing more on intangible assets performance

iii. Financial Management
1. Managing mix of capital → minimize weighted average cost of capital
a. Increasing the proportion of debt capital that less expensive than equity capital → why? → fixed assets are frequently undervalued → and intangible assets not recognize
b. Company actually has additional debt capacity → before cost of capital rise → increase risk

2. Using FCF → increase company’s future value
a. More mature company → positive CF → able to pay their dividend
b. This not represent real condition → company could leverage up cash by not pay dividend
Most business have variety of products and product groups
Product stage → Life Cycle, positioning, competitive strength, and investment requirement → influence cash flow pattern
Ultimate financial management challenge → use FCF → to invest → new business opportunity → build shareholders value

Xerox Corp. – Profits vs. Cash Flows
Best condition:
i. Xerox Corp. → provide example hoe potentially misleading accounting profits can be.
ii. Early 1999 → excellent year → EPS ↑ 16% → income 17% → best condition
iii. After annual report released → Xerox stocks ↑ → market capitalization → $42bill
Bad News:
i. 3rd and 4th quarter 1999 → large earning shortfall
ii. Stock dropped from $64 → $ 20/share
iii. Xerox might bankrupt → Stock fell $5/ share → loss 90% value
Before Restructuring
i. Things going right → Profits going up → market expected more

d. Three year period → Xerox burned close to $2 billion in cash → before interest payments and dividend distributions → reported earnings aggregated more than $3 billion → cash flows were more than negative $5 billion
e. April → agreed to restate earnings for four year period and pay a $10 million fine to the security and the exchange commission

Metrics to Monitor Free Cash Flows and Value Creation
Traditional → just focused on → measure of Profitability and Risk
i. Profitability → focused on → return on assets & return on equity
ii. Risk → focused on → liquidity & solvency
ROA suffers on two counts → Net Operating Profit After Tax & Assets denominator that stated in book value
i. NOPAT suspect → many deficiencies of accrual earnings
ii. Assets denominator → makes ROA overvalued
ROE fail the same → Net income divided by average book equity → in most cases → resulting overstated calc.
To create shareholders value → Return on Invested Capital → must exceed WACC
By ROE → if ROE > estimated shareholder cost of capital → the firm creating the shareholders value

Summary
FCF → Has to be Focus on major financial statement overhaul
Also → may be directly related to current market valuations → determine Current FCF support / not support market values