U.K.-Based Chemicals Producer Synthomer PLC Assigned 'BB' Rating; Outlook Stable

  • Synthomer plc expects to close the acquisition of Omnova Solutions Inc. (Omnova) during first-quarter 2020.
  • The acquisition will increase Synthomer's U.S. presence and provide additional diversification to the business, which is fairly balanced between specialty chemicals and high-end commodities and intermediates, supporting resilient operating performance despite volatile raw materials prices and some exposure to cyclical end markets.
  • We are assigning our 'BB' issuer credit rating to Synthomer plc.
  • The stable outlook reflects our expectation that Synthomer will demonstrate moderate growth, resilient profitability, and positive free operating cash flow (FOCF) in the coming years, with pro forma adjusted EBITDA of £235 million expected in 2020, leading to S&P Global Ratings-adjusted debt to EBITDA of about 3.5x.
LONDON (S&P Global Ratings) March 25, 2020-- S&P Global Ratings today took the rating actions listed above.
We view Synthomer's business post acquisition as fairly diversified across different chemicals and well balanced geographically.  Synthomer and Omnova share some overlapping product types, raw materials, and end markets but have different technologies and geographic breakdowns. Omnova is a niche provider of performance-enhancing chemicals with £576 million of revenue in 2019. The company markets emulsion polymers and specialty chemicals for various commercial, industrial, and residential uses. The acquisition will help Synthomer complement its offering in specialty chemicals and diversify its product portfolio in adjacent chemicals and certain end markets. Omnova has 13 plants located principally throughout the U.S., Western Europe, and China. About 58% of its 2019 revenue came from North America, against 5% for Synthomer's existing footprint. The acquisition is expected to increase Synthomer's presence in North America and Asia and deliver about £23 million of synergies by 2022, according to the company. It has relatively modest execution risk, with all regulatory approvals anticipated for the end of first-quarter 2020. The company's scope will also increase after integrating Omnova, with pro forma revenue of £2 billion anticipated in 2020.
Demand for Synthomer's products is supported by its leading market shares, research and development (R&D) capabilities, and favorable market dynamics.  Synthomer is one of the world's top suppliers of water-based polymers, with a number of products holding leading market shares, especially in performance elastomers, which comprises nitrile butadiene rubber (NBR) and styrene butadiene rubber (SBR) latex products. The company is the leading producer of SBR in Europe and the second largest producer of NBR globally, on both a volume and revenue basis. It is also the leading producer of acrylic and vinylic dispersions in Europe and the Middle East. The company's diversified portfolio of SBR, NBR, dispersions, and specialties products post acquisition will allow it to serve a wide range of end markets, such as construction and coatings (31% of 2019 pro forma revenue), health and protection (18%), and textile and adhesives (11%), with specialties (19%) and functional polymers serving the paper (9%) and oil and gas (3%) sectors. Demand for its products is underpinned by global trends, such as ageing populations and increase awareness of hygiene and health, a rising middle class and the need for sustainable water-based solutions or environmentally friendly polymers to replace certain solvents. In particular, NBR products have seen demand growth of 8%-10% over the past 10 years and we expect 3%-5% growth per year, spurred by an increase in demand for disposable gloves as well as a shift toward NBR latex as an alternative to natural rubber and PVC. We recognize that about 20% of 2019 sales are generated from products introduced over the past five years, with a degree of innovation capability anticipated to support growth in health care, water-based polymers, and performance.
We forecast resilient operating performance in 2020, despite volatile raw materials prices and some exposure to cyclical end markets.   Demand for Synthomer and Omnova's products has been generally correlated to GDP growth, both regionally and globally. Although the level of demand for each product varies by end market, local dynamics, and specific factors (as shown with NBR), we think certain overarching global trends will have an effect across all end markets. In particular, soft GDP growth could pose significant risks and increased pressure on revenue and earnings in 2020. There continues to be high uncertainty about COVID-19's rate of spread and peak. In our base case, we expect a global GDP reduction of 0.5 percentage points (ppt) this year, reducing China's economic growth by 0.9 ppt, the eurozone's by 0.5 ppt, and the U.S.'s by 0.3 ppt (see "COVID-19's Wider Reach Darkens Shadow Over Global Credit Conditions, Report Says," published March 3, 2020, on RatingsDirect. We expect generally weaker demand growth for commodities in 2020, given softer economic growth and rising global supply. Downside risks to our baseline are contingent on whether the epidemic persists beyond second-quarter 2020. Raw material prices represented about 70% of Synthomer's total cost base in 2019. Styrene, butadiene, acrylonitrile, and methyl methacrylate prices have historically been volatile, and are partially dependent on crude oil prices. Following the breakdown of the OPEC meetings in early March 2020, S&P Global Ratings lowered all of its West Texas Intermediate and Brent heavy crude oil price assumptions as well as its Henry Hub natural gas price assumption for 2020-2022 and beyond (see "S&P Global Ratings Cuts WTI And Brent Crude Oil Price Assumptions Amid Continued Near-Term Pressure," published March 19, 2020. We acknowledge that the volatility of raw material prices for Synthomer is spurred by oil price dynamics, with lower oil prices generally leading to lower costs. However, lower oil prices could affect demand for dispersions products used by the oil and gas sector in North America and affect demand in the wider petrochemical industry.
Synthomer has a track record of maintaining a resilient gross margin over the cost of raw materials, outlining a good cost-pass-through ability, with typically a one-month time lag.   Substantially, all of Synthomer's customer agreements have no pricing commitment beyond one month, with approximately 40% of agreements being formulaic and the remainder generally negotiable on a monthly basis. The stability of the business is reinforced by certain long-term customer relationships, and about 4,800 customers spread globally across geographies and end markets. The company's forecast adjusted EBITDA margin of about 12% over 2020-2021 is consistent with average profitability for the chemical sector. In our view, this remains a constraining factor, given the pro forma exposure to high-end commodity and differentiated intermediates chemicals, rather than pure specialty chemicals products. In comparison, SPCM, Clariant, or highly integrated commodity chemicals producers such as Ineos Styrolution generate relatively higher margin levels.
In line with Synthomer's stated financial policy, we anticipate deleveraging over the coming one-to-two years as a result of positive FOCF generation..  We forecast S&P Global Ratings-adjusted leverage of about 3.5x in 2020, reducing to about 3.1x in 2021. We also anticipate positive FOCF generation of £85 million-£95 million per year in 2020 and 2021. Although outside our two year forecast period, we see the prospect for further deleveraging beyond 2021, given modest underlying maintenance capital expenditure (capex) needs. We consider that expansionary capex requirements will decrease as Synthomer completes its current round of major investment programs. We note the Omnova acquisition was financed within Synthomer's conservative financial policy, with a rights issue executed to reduce leverage below its stated upper limit of 2.5x-3.0x. Additionally, the company forecasts it will deleverage to below 2.0x within two years. On an S&P Global Ratings-adjusted basis, we include operating leases of £64 million and pension adjustments of £140 million (net of tax) for Synthomer and Omnova, which adds a total of £204 million to our adjusted debt in 2020, or about 0.9x 2020 adjusted EBITDA. We consider less than £10 million as restricted cash, which we do not deduct from gross debt.
The stable outlook reflects our expectation that Synthomer will demonstrate moderate growth, resilient profitability, and positive FOCF in the coming years. This is spurred by its favorable market positions and recent capacity investments, along with the Omnova acquisition upon integration. We expect pro forma adjusted EBITDA of £235 million in 2020, leading to adjusted debt to EBITDA of about 3.5x in 2020. We view adjusted debt to EBITDA of 3.0x-4.0x as commensurate with the rating.
Pressure on the rating would arise from earnings volatility and lower-than-expected FOCF, stemming from butadiene or styrene price swings, a deterioration in market conditions, the loss of market share, or difficulties in integrating Omnova. We could take a negative rating action if adjusted debt to EBITDA was to exceed 4.0x. This could also arise in the case of large debt-funded acquisitions or material deviations in Synthomer's financial policy.

Rating upside may arise from higher-than-anticipated EBITDA and FOCF growth, such that the company maintained adjusted debt to EBITDA below 3.0x on a sustained basis. Rating upside could also occur following a track record of resilient operating performance. Management's commitment to a more conservative financial policy would be an important consideration.
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