Chemical combinations

There are likely several reasons for these weak volume numbers, including:

• Inflation and the attendant inverse correlation between price and demand
• A broader pullback across the economy, capital discipline, and focus on working capital management
• Key end-use markets in construction and automotive continue to face volatility and uncertain demand. KPMG’s global automotive survey finds that 76 percent of leaders are concerned that inflation and high interest rates will adversely affect their business in 2023⁵, while in the construction industry, the after-effects of Covid-19 are still apparent, with 45 percent of respondents to KPMG’s Global Construction Survey saying they’ve experienced a pandemic-related schedule delay or cost impact of more than 20 percent⁶. Nevertheless, better conditions are expected at the end of the year, which could create an uplift in output and volumes.
• Anecdotal evidence from conversations with industry participants during the World Petrochemical Conference in March who have said their customers over-ordered earlier in the year to get ahead of potential supply chain disruptions only to find themselves sitting on excess inventory.
  

KPMG professionals’ analysis shows that certain sub-sectors are more affected than others. For example, titanium dioxide (TiO2) has suffered more than most, perhaps because demand from building and construction has dropped. Coatings and adhesives, while being further downstream, experienced much smaller declines in volume. There are specific nuances within thedata and an interplay of numerous factors. But the overall message is that the more specialized or differentiated a business’ products are, the more they are insulated. However, that insulation is relative, given that the overall picture is one of demand decline.

Prevailing headwinds

Turning to the deals landscape specifically, these conditions are expected to produce a subdued market — although activity could pick up quickly again at short notice, and preparedness will be essential. Companies that have managed to take a long-term focus and have their finances in order will be well-positioned to take advantage of the opportunities that will arise.

KPMG’s analysis of the global chemicals M&A market shows that activity is moving on a downward trend⁷:

This analysis shows a consistent deal drop-off across all sectors starting in Q3 2022. Commodity chemicals, agricultural and fertilizers, and specialty chemicals have all seen deal value and volume falls. There has also been reduced Private Equity (PE) activity due to economic conditions and the cost of financing.

There are various headwinds holding activity back. It has been challenging to stimulate buyer appetite for big transformational deals due to the increased cost of debt as interest rates have risen, together with the general perception that market conditions have become unfavorable. There has been a shortage of big buyouts, and debt raises, with investor appetite low and pricing high. Performance has been a key factor: companies for sale are struggling to meet the projections laid out in marketing materials, while buyers have become more cautious and skeptical of seller projections.

Enabling factors

However, it is not all gloom. As noted, there have still been some significant deals, and from conversations we have had with industry leaders, more sizeable acquisitions could be on the horizon. These could kickstart increased market confidence and activity. Several players have assets they want to divest in order to become operationally leaner. Furthermore, it is not only about the headline-grabbing mega-deals - sound businesses with healthy balance sheets should not be discouraged from pursuing mid-sized targets given the recent fall in EBITDA multiples.

Those businesses with proven track records of delivering on acquisitions and cash on the balance sheet resulting from strong 2021/22 trading performance or recycling capital from upcoming divestments remain in a good place to pursue their deal ambitions. And at a time when valuations are likely to have fallen, they may be even better placed to secure strategically beneficial assets at an attractive price, creating additional shareholder value.

Then there is PE. Many PE houses still have significant levels of capital that they are looking to deploy – some of them are still trying to make up for lost time during the COVID years – and the chemicals industry remains an area of interest. The litmus test here, however, will be whether that interest translates into concrete action when assets become available – and if a mutually attractive price can be agreed upon, particularly given the current challenging debt market environment.

You can also place cash-rich National Oil Companies (NOC) alongside PE. They have a clear mandate to diversify and move downstream. As a result of the recent rebound in oil prices, NOC balance sheets are strengthening, which could drive their interest in pursuing attractive assets, including possible international investments in the US and perhaps Europe.

China

Another reason to anticipate continuing corporate activity at some level is China. The Chinese market remains where virtually any player with credible international ambitions should have a presence. According to our estimates, the EU will have a net balance of importing chemicals from China this year – the first time this has happened⁸. China is further anticipated to account for over 50 percent of the chemicals market globally by 2030⁹. In such circumstances, chemicals players worldwide are expected to continue to look for acquisitions and JV opportunities in China as a building block for growth and a futureproofing against these economic shifts.

United States

The Biden administration’s Inflation Reduction Act (IRA), published in August 2022, contains several compelling tax credits and incentives for activities, products and processes that support the energy transition towards a net zero economy – many of which could have direct relevance to the chemicals industry. This could spur increased deal-making as businesses outside the US look to establish a presence in the market, including in chemicals. The IRA is explored in detail in the article on page 35 and it is believed these measures could have a huge impact on making the US an even more attractive place to invest.

Chemicals companies are well-versed in dealing with cyclicality and generally take a pragmatic approach throughout the cycle. This year, there may be a focus on running the business for cash – becoming operationally more efficient, pruning back discretionary spending where that makes sense – and staying primed for opportunities when they arise.

It is also true that because they provide so many key materials and base chemicals needed in other industries, chemical businesses are usually at the leading edge of any rebound in economic activity. The industry will likely be among the first to see a pickup in deal activity.

For all these reasons, while KPMG professionals don’t expect 2023 to set the M&A history books alight, they anticipate that there will be a continuing pulse of chemicals deals activity. If broader economic conditions improve, we could see a faster pickup in chemical transactions than elsewhere. The watchwords are pragmatism and preparedness: focus on optimizing your operational model and be alert and ready to engage if an opportunity presents itself.