An Atypical Chemical Company

02/18/2009 10:48 am EST


Roger Conrad

Chief Analyst/Managing Partner, Capitalist Times

Roger Conrad, editor of Canadian Edge, finds a widely diversified Canadian chemical business that has big competitive strengths and significant market share.

Chemtrade Logistics Income Fund (TSE: CHE-UN.TO, OTC: CGIFF) is one of the world’s largest suppliers of sulphuric acid, liquid sulphur dioxide (SO2), and sodium hydrosulphite (SHS), and a leading processor of spent acid, particularly in the US Gulf Coast region. It’s also a leading regional supplier of sulphur and sodium chlorate, is one of only two North American producers of phosphorous pentasulphide, and also produces zinc oxide at three North American locations.

The chemicals sector is traditionally considered very sensitive to economic ups and downs. Chemtrade, however, shines in two key ways. First, it sells substantially all of its output to large, creditworthy companies such as Brazilian mining giant Vale (NYSE: RIO) under long-term contracts that remove its commodity price exposure. Second, it focuses on specialty niches where it enjoys a competitive edge.

Its largest segment, sulphur products/performance chemicals, provides both chemical products and the services for removing them from facilities, an increasing challenge for industrial concerns given ever-tightening environmental regulation. It operates nine major chemical plants, five terminals, four tolling facilities, eight “intermodal” transfer centers, 1,400 railcars, and two ocean terminals.

The pulp chemicals division supplies sodium chlorate and crude tall oil to the pulp and paper industry. It has one major customer, Canfor Corp (TSX: CFP, OTC: CFPZF), which purchases 70% of its sodium chlorate under a ten-year contract and pays a fee for sending all its soap skimmings for processing.

The international division distributes sulphur products to end-user customers in the refining, mining, chemical, and fertilizer industries [including Bayer (OTC: BAYZF), Degussa, and BASF (OTC: BASFY)] in Europe, North Africa, Central and South America, and the Pacific Rim.

Individually, these businesses are potentially affected by economic ups and dxowns. Collectively, however, the operating, geographic, and customer diversification gives management a great deal of flexibility navigating these challenges. Some 80% of revenue is generated through “risk sharing” contracts, and facilities are located next to major customers, largely negating potential competition.

Chemtrade has realized 21% compound annual growth (CAGR) in revenue since 2002, as well as 26.9% growth in cash flow and 16.7% growth in distributable cash flow. In the third quarter of 2008, the trust more than doubled earnings and distributable cash flow on a near tripling of revenue, and had a payout ratio of 33%.

The best news is, despite these great strengths, Chemtrade is priced like the typical doggy chemicals outfit it doesn’t resemble in the least—at just 31% of sales, 1.4x book value and a yield of over 16%. Buy Chemtrade Logistics Income Fund up to $13. (It closed Tuesday at $7.50.)

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