suzano petroquímica and the acquisition of polibrasil

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1 Suzano Petroquímica and the Acquisition of Polibrasil Prepared by: Daniel Sensel, Ernesto Knizek, David Nuñez, Alvaro Pipino, Emilio Baltodano Presented on: February 28, 2006

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Suzano Petroquímica and the Acquisition of Polibrasil. Prepared by: Daniel Sensel, Ernesto Knizek, David Nuñez, Alvaro Pipino, Emilio Baltodano Presented on: February 28, 2006. Case Outline. Overview of the Case Learning Objective Information about Brazil Petrochemical Industry - PowerPoint PPT Presentation

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Suzano Petroquímica and the Acquisition of Polibrasil

Prepared by: Daniel Sensel, Ernesto Knizek, David Nuñez, Alvaro Pipino, Emilio Baltodano

Presented on: February 28, 2006

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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Overview of the Case

• Suzano Petroquímica – One of Brazil’s leading petrochemical companies

• Structured as a holding company

– Began in 1974 through investments by Suzano Papel e Celulose in the petrochemical industry

– Net Sales of R$1,610M in 2004 (~ US$600M)

• Investment Opportunity– Acquire remaining 50% stake in Polibrasil, currently a

joint venture with Basell International – Polibrasil is the largest producer of polypropylene in Latin

America• Annual production capacity of 625 ktons of polypropylene

– Debt financing required

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Key Questions to Consider

• What are the strategic considerations to pursue the merger?

• What is the role of the International Finance Corporation (IFC) in supporting the project?

• What is the cost of capital?

• What is the value of Polibrasil?

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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Brazil - A Brief History

• 11th largest economy in the world as of 2004– GPD of US$785B in 2004

• 2002 - Brazil affected by Argentinean collapse– Country Risk reaches all time high (see next slide)

• 2002 - Left-wing party candidate, Jose Ignacio “Lula” da Silva wins presidential elections– Surprises skeptics by maintaining fiscal discipline, low inflation

targets and favorable environment for foreign investors

• 2003-2005 – Brazil has shown stability and resumes growth – 4.9% GDP growth in 2004

• June 2005 - “mensalão” political scandal erupts and threatens the

presidency of Lula

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Latin America – Not for the faint of heart

Latin American Sovereign Risks

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ARGENTINA BRASIL MEXICO

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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Brazilian Petrochemical Industry

1st Generation

2nd Generation

3rd Generation

Polibrasil

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2nd Generation Producer

• Currently a “fragmented” industry, with over 50 producers– Consolidation already under way

• Petrobras is the main supplier of raw materials (naphtha)– Raw materials make up 70% of COGS

• Currency risk is hedged in the medium/long run

Opportunity to become a consolidator in the petrochemical market

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Suzano Petroquímica – Holding Company

• Opportunity to simplify the organizational structure• Bring company closer to capital markets

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Polypropylene – Strong market potential

• High correlation between petrochemical demand growth and GDP growth. – elasticity is estimated to be from 3.0 to 4.7x– GDP projections of >4% CAGR

• Low penetration rates

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Demand vs. Capacity

Projected Demand for the Main Thermoplastic Resins (kton)Year Total PE PP PET PVC PS Total Resins

2006 1935 1331 560 766 331 49232007 2163 1528 631 848 359 55292008 2419 1755 711 939 390 62142009 2724 2030 807 1046 425 70322010 3088 2366 922 1171 465 80122011 3500 2755 1052 1311 508 91262012 3969 3208 1200 1467 556 104002013 4503 3735 1369 1642 608 11857

CAGR 06-13 12.8% 15.9% 13.6% 11.5% 9.1% 13.4%Source: Espirit Santo Research

National Capacity of PolypropyleneCompany Capacity (ktons) %Polibrasil 625 47.2%Braskem 550 41.5%Ipiranga 150 11.3%Total 1,325 100.0%Source: BNDES

A lot of opportunity, but significant investment required

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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Significant Investment Required

• BNDES (National Development Bank)

– “Considering that the sustained growth of the economy will required investments in production capacity of approximately $12B to meet internal demand for petrochemical products throughout 2013.”

– It becomes essential the provision of funds to make viable the realization of the different proposed projects, with the support of the BNDES, and other institutions such as the BID, IFC, CAF, and export credit agencies.”

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International Finance Corporation (IFC)

• IFC is a member of the World Bank Group• IFC’s mission is to promote sustainable private

sector investment in developing countries, helping to reduce poverty and improve people’s lives

In order to be eligible for IFC funding, a project must meet a number of IFC criteria:

• The project must be located in a developing country* that is a member of IFC. • It must be in the private sector. • It must be technically sound. • It must have good prospects of being profitable. • It must benefit the local economy. • It must be environmentally and socially sound, satisfying IFC environmental

and social standards as well as those of the host country.

Source: IFC Website

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The Role of the IFC in the deal

• The IFC is not only directly funding additional polypropylene capacity, but creating an agent that can drive further consolidation and investment in the industry.

• The IFC can also help promote an increased transparency in corporate governance

• For Suzano Petroquímica, having the IFC as a partner in the project gives international seal of quality.

Catalyst for improvement in the region

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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Cost of Capital – The Country Risk Rating Model• We used the following data to calculate the Cost of Capital:

– U.S risk free rate of 4.00% (10-year treasury on Jun-2005)

– U.S risk-premium of 3.68% (average from 2000 to 2005)

– U.S credit-rating of 92.45 (March 2005)

– Brazil credit-rating of 46.7 (March 2005)

– Industry BETA of 0.97 (Chemicals industry BETA in the US)

Based on the variables above, we reached a ICCRC of 19.76% and a Country Risk-Premium of 12.08%.

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Cost of Capital – Project Adjustments

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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Valuation

• In order to find the fair value of Polibrasil, we employed 3 methods of valuation: – Discounted Cash Flow (DCF)– Comparable transactions– Comparable companies

• A few important points with regard to the valuation:– Pro-forma estimates provided by Espirito Santo

(September 5th) – We used an exchange rate of R$2.72 to the USD, (30

day average prior to the transaction date of December 31, 2004)

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Valuation – APV Method

Free Cash Flow 2004 2005E 2006E 2007E 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E TV

NOPLAT 159 93 202 201 161 162 184 206 227 262 286 298Depreciation & Amortization 87 74 78 80 75 70 66 62 59 57 55 53NWC Change (75) (54) (32) 7 16 (24) (30) (26) (16) (20) (18) (10)Capex (29) (75) (133) (31) (33) (34) (35) (36) (37) (38) (39) (40)Fiscal Benefits 0 7 10 11 12 4 4 0 0 0 0 0

Free Cash Flow to Firm 142 45 125 268 231 178 189 206 233 261 284 301 2,992

Discount Factor 0.87 0.76 0.66 0.57 0.50 0.43 0.37 0.33 0.28 0.25 0.21 0.21

PV of FCF 39.1 94.4 175.9 131.8 88.3 81.5 77.2 75.9 73.8 69.8 64.3 639.4Sum of PV of FCF 1,611.5

Value of Debt2004 2005E 2006E 2007E 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E TV

Total Debt 476 480 475 486 498 513 521 528 535 542 550Interest Payment (29) (69) (58) (50) (45) (45) (45) (45) (44) (44) (43)Interest Tax Shield (ITS) 9.9 23.5 19.7 17.0 15.3 15.3 15.3 15.3 15.0 15.0 14.6 PV of ITS 8.6 17.7 12.9 9.7 7.6 6.6 5.7 5.0 4.2 3.7 3.1 31.2Sum of PV of ITS 116.1

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Valuation – Discounted Cash Flow

• In conclusion, through our discounted cash flow analysis the value of Polibrasil is of $243.7M.

Value of Operations 1,611.5Value of Debt 116.1Enterprise Value 1,727.62004 Debt 402.0Equity Value 1,325.6USD to BR 2.72Equity Value in USD 487.350% Stake 243.7

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Valuation - Comparable Transactions

Comparable Transactions

Multiple Implied Valuation EV in USD (1) Equity Value (2) 50% StakeAverage 10.1x 3,312.8 1217.9 1,065.9 533.0Median 9.5x 3,099.6 1139.6 987.6 493.8High 16.4x 5,379.2 1977.6 1,825.6 912.8Low 5.8x 1,902.4 699.4 547.4 273.7(1) Based on Exchange Rate of US$1 to R$2.72

(2) Assuming Net Debt of $152M USD, per Investor Presentation

International Comparable TransactionsTarget Acquirer

Date Company Country Company Country % Acquired Transaction Size EV/EBITDAMar-06 Millennium Chimical Inc EUA Lyondell Chemical Co. EUA 100% $2,546 14.1x

Jul-06 ChemFirst Inc EUA EI du Pont de Nemours and Co. EUA 100% $429 10.0xMay-00 Geon C(BF Goodrich Co) EUA MA Hanna Co. EUA 100% $571 7.5xMay-00 McWhorter Technologies Ince EUA Eastman Chemical Co. EUA 100% $353 7.9xJan-00 BTP PLC England Clariant AG Switzerland 100% $1,739 16.4x

Aug-99 Union Carbide Corp EUA Dow Chemical Co. EUA 100% $11,692 13.5xMay-99 Celanese Canada Inc Canada Hoeschst AG Germany 44% $329 5.8xDec-98 Petrofina SA Belgium Total SA France 99% $12,768 6.9xJun-98 ARCO Chemical Co EUA Lyondell Petrochemical EUA 100% $5,646 9.9xJan-98 NOVA Corp of Alberta Ltd Canada TransCanada Pipelines Ltd Canada 100% $4,906 9.0x

Source: Investor Presentation, Jun/22/05

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Case Outline

• Overview of the Case• Learning Objective• Information about Brazil• Petrochemical Industry• International Finance Corporation (IFC)• Cost of Capital• Valuation• What Happened

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What Happened?

• Jun/20/05 - Acquires remaining 50% stake of Polibrasil for US$253M– Becomes largest polypropylene producer in Brasil– 2nd largest thermoplastic resin producer– Project underway to expand PP capacity to 875 ktons

• Sept/01/05 - Agreement with the International Finance Corporation to fund acquisition, plus US$40M for expansion project

• Broader Financing package allows extension of debt maturity from 2.5 to 6 years– Better positioned for cyclical nature of the industry

Financing by the IFCAmount Maturity Rate

Tranche A 39.5 12 years LIBOR + 2.625%Tranche B 110.5 8 years LIBOR + 1.875%Tranche C 10 12 years (bullet) VariableTotal 160Source: Press release, September 01, 2005

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The “New” Suzano Petroquímica

• Dec/01/05 – Completes corporate restructuring that effectively transforms company into a operating company

• Engaging consolidation as one of the largest players in the sector

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QUESTIONS?