Morningstar | Chemicals Bellwether BASF Slashes 2019 EBIT Guidance; Shares Slightly Undervalued
After the market closed on July 8 narrow-moat BASF released a profit warning, stating 2019 EBIT is now expected to be up to 30% below the prior-year level, compared with previous guidance for an increase in the range of 1%-10%. This is well below consensus and our expectations for EBIT growth to be flat to slightly down. Shares are trading down 5% intraday in response to the news and European peers are similarly all trading in the red. We agree with the market assessment and are lowering our fair value estimate to EUR 70 ($19.5) from EUR 74 ($21), which leaves the shares on the cusp of four-star territory.BASF lays the majority of the blame on trade conflicts, which has led to weak global industrial production growth and a strong downturn in the automotive industry, particularly in China. Further, inclement weather in North America has resulted in lower cultivation of key field crops, which has significantly reduced demand for BASF’s crop protection chemicals.
We now forecast 2019 EBIT to fall 25%, which will be the second year of plus 20% EBIT declines. With isocyanates and steam cracker product margins at trough levels and crop planting well below the historical average, we expect some recovery in BASF profits over 2020-2021 as these cyclical pressures unwind. Further, profit growth will be supported by the company’s new efficiency programme, which is expected to add EUR 2 billion to EBITDA by 2021 and includes reduction of 6,000 employees (5% of total employees).
Given BASF’s bellwether status in the industry, industrial-focused peers are trading down 2%-5% intraday. BASF was expecting a strong recovery in the second half, but the company’s outlook for this period is now muted. Most chemical peers started 2019 with the same expectations for a strong second half.
Considering the key risks of exposure to the automotive sector, Europe, and China, we think the companies most at risk in the near-term are Covestro, Victrex, Lanxess, and Johnson Matthey. However, Johnson Matthey is benefitting from market share gains in the European light-duty market and Lanxess is being assisted by synergies from the Chemtura acquisition and its Saltigo custom-manufacturing business, which is on the mend. Lanxess just reaffirmed its 2019 guidance today, after the BASF release. Investors looking for somewhere to hide in the segment should consider Novozymes, which is fairly valued and least exposed within the group to automotive, Europe, and China.
For more details on our Lanxess outlook see “Out With The Old, In With The New Lanxess†published in March 2019. For more details on our Covestro outlook see “Covestro Has More Room To Fall†published in November 2018.
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