The quest to find funding for chemical companies

The global financial crisis has reduced access to credit, combined with a sharp decline in demand for durable goods – both of which have impacted the chemical industry. 2008 was a difficult year, with volatile, skyrocketing prices for raw materials, soaring oil prices, and a relatively sudden turn for the worse in economic conditions. Major customers of the chemical industry, particularly in the automotive and construction sectors (pictured), have been badly hit by the recession.

Despite this, Patrick Kitt, from Development Options (financial consultants), and a member of the Science and Enterprise Group says, ‘There is some evidence to suggest that the chemical sector has not suffered as much as other industries. In the UK and US, biotech stock indices rose in 2008 compared to a fall of about 30% in the overall market.’

The impact has meant that executives in the chemical industry have made heavy use of the usual management tools to regain profits. Costs have been slashed through staff layoffs, as well as more strategic purchasing and control of inventories. Efficiency and productivity have been emphasised throughout businesses, including operations, sales, marketing and overheads. In turn, price increases have only worked marginally to favour the bottom line because the costs of raw materials have also increased, thereby cutting into margins, and lower demand has cut into revenue.

Some companies have adjusted their portfolios by creating joint ventures to gain access to less costly feedstocks, or to reduce exposure to the less profitable, commodity-selling parts of their businesses. Advantages in scale and scope have pushed some to continue looking for merger opportunities, continuing the trend seen throughout the last decade.

According to Mr Kitt, ‘the chemical industries will likely continue to consolidate’. In fact, he predicts the consolidation trend may even accelerate as strategic acquisitions continue through 2009 and into 2010. ‘How medium and long-term scenarios develop will largely depend on how quickly we overcome the current recession and worldwide capital market constraints: underwriting costs have soared and rights issue valuations reflect large discounts to minimise the perceived risk.’

‘A combination of the current economic downturn and the reduced availability of bank debt and private equity, have resulted in a reduction in the prices that buyers are offering for companies. Businesses will always react to approaches, but currently, unless chemical companies are under significant pressure, they would not actively seek out buyers because of the lower exit values,’ says Mr Kitt. If the previous decade saw a rise in private equity (PE) acquisitions in the chemical industry, with much of the M&A activity driven by them, the trend has now shifted. In 2008, there was a significant worldwide reduction in the amount of capital raised by private equity. Private equity will always seek opportunities, but until ‘exit visibility’ becomes much clearer, Mr Kitt suggests that PE investor appetite will be diminished. ‘Nevertheless’, he clarifies, ‘because of the historic resilience of the private equity sector, it is difficult to predict market movements.’

It is likely that the chemical companies most at risk from the downturn are heavily leveraged producers owned by PE funds, and many SMEs (small and medium enterprises) who are cash starved and finding it difficult to raise finance. ‘In the current economic crisis, notwithstanding what banks say about continued support for clients, there is increasing evidence that small suppliers are (at best) finding that bank support has become more expensive.’ This has left many of the small companies who are supplying to big players in the specialty and pharma industries, struggling for cash. ‘In this scenario, supply chains are a cause for increased concern, with a number of companies dependent on specialist suppliers,’ explains Mr Kitt. ‘Their reactions to supplier cash flow problems are varied: while some of the big players are quietly seeking alternative or replacement suppliers to protect their businesses should the supplier fail, others are actively assisting their suppliers and have become secondary bankers.’

In Mr Kitt’s opinion, companies are unlikely to undertake supplier acquisitions unless they are highly dependent on them.

Sadly, for these small players, there is no fairytale ending in sight. ‘Insolvency practices anticipate record SME business failure rates in the current year,’ according to Mr Kitt. ‘SMEs are utilising invoice discounting, factoring, and asset-based lending sources, which are enjoying growth, but are probably unable to satisfy the total demand. Under these conditions, continued support from business owners and existing investors is vital to keep cash-starved companies afloat.’

‘It is imperative that banks resume normal business lending as soon as possible’, says Mr Kitt, ‘but not at exorbitant cost. Credit insurance terms have either disappeared or become more stringent, and these are very significant negative factors, which are currently harming both small and large companies. Most SMEs are disappointed with the perceived delay in restoring normal bank lending, and large corporates are also suffering from a lack of bank liquidity.’

Science and Enterprise Group

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