Thursday, November 8, 2012

This Chemical Company is Good for Income Investors

Most of the time, George Eastman is well known for being an innovator of roll film and a founder of Eastman Kodak. For a long time, Eastman Kodak had been an extremely successful wealth creator for investors. However, after a digital camera was invented, Kodak lost its moat and nearly sunk into oblivion. In contrast to the significant decline of Kodak, another legacy of George Eastman, Eastman Chemical (NYSE: EMN) has been performing quite well over time. Actually, Eastman Chemical was created in 1918 to supply chemicals for George Eastman’s photographic processes. It was quite interesting to see two connected businesses in the past, with the same founder, are heading into two opposite directions. Kodak is worth only $58.3 million while Eastman Chemical is worth more than $8.3 billion in the market. 
Recently, Eastman Chemical announced its third quarter results. The revenue for Q3 2012 was $2.3 billion, an impressive growth of 25% compared to the same period last year. However, sales have already included Solutia business, which Eastman Chemical just recently acquired. The pro-forma combined sales revenue actually decreased by 3% due to lower selling prices. The pro-forma combined operating income was $397 million, a year-over-year growth of nearly 10.6%. Its adjusted earnings from operations were $1.57 per share, higher than analysts' estimates of $1.42. It was 24.6% higher than EPS in Q3 2011, of $1.26.
The recent $3.4 billion deal to buy Solutia, a global manufacturer of specialty chemicals used in both consumer and industrial applications, would help Eastman Chemical to reach emerging markets, especially Asia Pacific for organic growth opportunities in the future, as Solutia had around 30% of total sales come from Asia Pacific. In addition, the acquisition could help the combined company to save up to $100 million costs yearly by the end of next year.
Right after its earnings announcement, investors began to be bullish on Eastman Chemical’s shares. It jumped 14% within a day. Year-to-date, its stock has made investors wealthier by nearly 50%. It is most performing stock compared to its competitors including BASF(NASDAQOTH: BASFY.PK) and Celanese (NYSE: CE). BASF and Celanese returned 12.9% and -16.5% to investors year-to-date respectively.

Net margin (%)
ROIC (%)
Interest coverage
Dividend yield (%)
Eastman Chemical seems to be quite comparable to its peers in terms of operating figures including net margin and return on invested capital. Although it is the most leveraged company, with 1.8x D/E, it has the highest interest coverage, indicating its high ability to cover its interest expense. For the last 10 years, it is the constant dividend payer. The current dividend yield is 1.7%, higher than Celanese’s but lower than BASF’s. It seems to be the most expensive company among the three. Its P/E is 14.8x, higher than BASF’s of 11.1x and Celanese’s of 10.1x. 
My Foolish Take
I personally think that all of three chemical companies are worth investors’ consideration. All three have a history of paying sustainable dividends for several years. With double-digit returns on invested capital, comfortably high interest coverage, and not-so-pricey P/E valuation, Eastman Chemical, BASF and Celanese could be suitable income stocks in the investors’ long-term diversified portfolios. 

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